CJnrnFll ICam ^rI|noI Slibtarg 
 
Cornell University Library 
 KF 6369.H75 1922 
 
 3 1924 020 056 176 
 
Cornell University 
 Library 
 
 The original of this book is in 
 the Cornell University Library. 
 
 There are no known copyright restrictions in 
 the United States on the use of the text. 
 
 http://www.archive.org/details/cu31924020056176 
 
Federal Income Tax 
 
 INCLUDING ALSO 
 
 War Profits, Excess Profits, Stamp, Capital 
 Stock and Child Labor Taxes 
 
 BY 
 
 GEORGE E. HOLMES 
 
 of the New York Bar 
 
 IQZ2 EJittion 
 
 INDIANAPOLIS 
 
 THE BOBBS-MERRILL COMPANY 
 
 PUBLISHERS 
 

 Copyright, 
 
 1920 
 
 
 By George E. 
 
 Holmes 
 
 
 15 William St., 
 
 New York 
 
 
 Copyright, 
 
 1921 
 
 
 By George E. 
 
 Holmes 
 
 
 15 William St., 
 
 New York 
 
 
 Copyright, 
 
 1922 
 
 By 
 
 The Bobbs-Merrill Company 
 
 BookwalterBall-Greathouse 
 
 Printing^ Company 
 
 Indianapolis 
 
PREFACE 
 
 Much of the criticism leveled at the Revenue Act of 1918 was 
 inspired by the high tax rates. The inequalities and shortcom- 
 ings of the Act were brought into high relief because of the heavy 
 tax burden resulting therefrom. As compared with any previous 
 law, however, the Revenue Act of 1918 was a clear, definite, com- 
 prehensive and equitable tax statute. Credit should be given for 
 the insight and prevision which dictated the general scheme of 
 the law and devised the remedial provisions of the Act which 
 have saved many a taxpayer fro];n hardship and disaster. Sev- 
 eral of the new provisions contained in the Revenue Act of 1921 
 are a further step in the same direction. 
 
 The most violent criticism of the Revenue Act of 1918 was 
 directed against the war-profits and excess-profits taxes — neces- 
 sary evils brought about by the financial exigencies of the closing 
 year of the war. The repeal of these taxes has been advocated 
 by many public bodies and by two Secretaries of the Treasury. 
 Nevertheless, Congress saw fit to continue the excess-profits tax 
 for the year 1921, an action the wisdom or unwisdom of which 
 will be shown by the statistics of revenue receipts for the past 
 year. 
 
 Except for the repeal of the excess-profits tax law, the Reve- 
 nue Act of 1921 is in large part a re-enactment of the 1918 Law. 
 It follows closely the structure and arrangement of that law, as 
 may be seen from the fact that in general the section numbering 
 of the former statute is preserved in the new one — a considerable 
 aid to those who must become familiar with the new law. Yet 
 many changes have been made and many new provisions intro- 
 duced. Some provisions are merely nominal amendments, others 
 are a statutory recognition of departmental regulations and 
 practice, or are founded upon recent court decisions or constitu- 
 tional doubts as to previous statutory provisions and regulations. 
 Some modifications are directed against possible evasion of tax. 
 Other changes, and perhaps the most important, are remedial 
 in their nature, chief among which are those which release capi- 
 tal transactions from the inhibitions heretofore imposed by un- 
 wise taxation. Many provisions recognize the disturbed busi- 
 ness conditions confronting the country in this post-war period. 
 The whole statute reflects the valuable experience gained, both 
 
 HI 
 
IV PREFACE 
 
 by the Treasury Department and taxpayer, in dealing with prob- 
 lems of taxation during the past five years. 
 
 The new statute is not a simple one, nor can a simple statute 
 be devised to cover so complex a subject as income taxation 
 applied, to all the varied activities of a great nation like ours. 
 It is, however, another great step forward in the development 
 of our system of income taxation. Few taxpayers are aware of 
 the hard and unceasing work to this end that has been done by 
 many able and public-spirited men. Of these Dr. T. S. Adams 
 is a notable example. To his untiring efforts as special adviser 
 to the Treasury Department may be ascribed many of the im- 
 provements in the law. 
 
 Unfortunately, every new law creates new problems of inter- 
 pretation and application. Years of experience with the 1918 
 Law were beginning to familiarize both government and tax- 
 payer with its more obscure provisions ; the meaning of that law 
 was becoming constantly more settled and certain ; and many of 
 its complexities were being simplified in the daily round of ad- 
 ministration. Much of the ambiguity and obscurity of the new 
 law can be clarified only as concrete problems are presented in 
 the administration of the law. Much of it is apparent now and 
 will be resolved, it is to be hoped, by a liberal interpretative 
 attitude on the part of the Treasury Department, having due 
 regard, wherever possible, to the spirit as well as the strict letter 
 of the statute. 
 
 It is to be remembered, however, that the Treasury Depart- 
 ment is not a judicial body — ^the purpose of its existence is to 
 collect revenue. Its rulings may work hardship on occasion, but 
 frequently such rulings are inevitable under the statute from 
 which alone the department derives authority to make regula- 
 tions. The ultimate remedy in such cases is to improve the 
 statute by amendment — a matter to which the taxpayer gives 
 too little thoughtful attention. Moreover, the first and gen- 
 eral rulings must construe the law more narrowly than the 
 construction which may be possible in specific cases. If a broad 
 construction were indulged in generally, no taxpayer would ever 
 call attention to the cases in which revenue was allowed to es- 
 cape. This does not mean that a taxpayer is deprived of the 
 right to protest when he feels that the administration of the 
 law operates unfairly in his particular case. The present statute 
 is more explicit than any previous law in making provision that 
 he may do so. This is perhaps the only practicable method by 
 which the conscientious taxpayer may avoid being penalized by 
 
PREFACE V 
 
 rulings, the general purpose of which is to prevent the evasion 
 of taxes by citizens who will not scruple to evade taxes by every 
 means at their disposal. 
 
 One of the most difficult problems confronting us in this criti- 
 cal period of readjustment is presented by the fact that the set- 
 tlement of tax cases has lagged so far behind. Many substantial 
 
 1917 taxes remain undetermined, and taxes for 1918, 1919 and 
 1920 are in the year 1922 an unknown quantity in thousands of 
 cases. This is said in no critical spirit; it has been to a large 
 extent unavoidable, when the true magnitude of the task im- 
 posed on the Treasury Department is considered. Indeed, the 
 confusion and uncertainty might have been far worse — and even 
 irremediable — ^but for the skill with which the 1918 Law was 
 drafted and the painstaking attitude and conscientious manner 
 with which the task of interpretation and administration has 
 been approached and handled. But the fact remains that thou- 
 sands of cases arising under previous statutes remain unsettled, 
 and the permanent and final readjustment of the business affairs 
 of the country is hampered by delay in the audit of returns under 
 these preceding laws and the settlement of back taxes. 
 
 The purpose of this volume is to facilitate the early determina- 
 tion of cases arising under preceding laws, as well as to assist 
 to an understanding of the statute which has just been passed, 
 and pursuant to which returns for the year 1921 must soon be 
 filed. No adequate understanding of this new statute may be 
 had independently of the statute it replaced, and even where the 
 discussion in this volume is confined to the provisions of the 
 
 1918 or preceding laws, or the regulations issued thereunder, it 
 is believed that light will be thrown upon the meaning of the 
 present law by such a revelation of the evil intended to be cor- 
 rected by a given provision of the present law and by the history, 
 development and evolution of doubtful provisions. 
 
 Although this volume discusses many rulings issued under the 
 present law, it does not contain the new regulations (corre- 
 sponding to Regulations 45) presently to be issued. This is im- 
 possible if the volume is to be available early in 1922. The at- 
 tempt is made, however, to indicate throughout the book the 
 respects in which the rulings and regulations issued under the 
 1918 Law will necessarily be modified, as well as the rulings and 
 regulations issued under that law which ought to be substantially 
 re-enacted. Many references to and quotations from Congres- 
 sional Committee reports, throwing light on the interpretation 
 of the new law, will also be found. All decisions contained in 
 
VI PREFACE 
 
 the weekly Treasury Bulletins issued in 1921 through number 49 
 have been included in this volume, unless in the opinion of the 
 author they contribute nothing to the solution of any question 
 other than the one involved. These Treasury Bulletins are re- 
 ferred to by the abbreviation "T. B." References to the Bulle- 
 tins also indicate the nature of the decision cited by the same 
 abbreviations used in the Bulletins, which are as follows: "A. 
 R. M." (Committee on Appeals and Review Memorandum), 
 "A. R. R." (Committee on Appeals and Review Recommenda- 
 tion), "Mim." (Mimeograph Letter), "0." or "L. 0." (Solicitor's 
 Law Opinion) , "0. D." (Office Decision) , "Op. A. G." (Opinion 
 of Attorney-General), "S." (Solicitor's Memorandum), "Sol. 
 Op." (Solicitor's Opinion), '-'T. B. M." (Advisory Tax Board 
 Memorandum), "T. B. R." (Advisory Tax Board Recommenda- 
 tion) and "T. D." (Treasury Decision). The Income Tax Serv- 
 ice and the War Tax Service issued by the Corporation Trust 
 Company of New York have again been referred to as sources 
 of information. Where possible, reference has been to the latest 
 of such services. The services are so widely known and so gen- 
 erally recognized that no explanation need be given for their use. 
 They are cited "L T. S." and "W. T. S.," respectively, in the 
 footnotes. 
 
 The author has had the pleasure of association with many 
 officials, collectors, and inspectors of the Treasury Department, 
 and has found them, with rare exceptions, intelligent, fair 
 minded and just in their dealings with the taxpayer. Differences 
 of opinion as to the application, effect and interpretation of the 
 law have necessarily arisen, and in such cases the Treasury 
 Department has uniformly stood ready to afford the taxpayer 
 full opportunity to express his views and arguments. Where 
 agreement with such views and arguments has not been possible, 
 it has been because such officials have felt themselves bound by 
 their understanding of the law, even though they might recog- 
 nize the justice of the taxpayer's contentions. In his association 
 with such officials the author has observed on their part a sincere 
 interest in the development and improvement of administrative 
 rulings, which are scarcely less important than the statute itself. 
 For this reason the author has frequently commented upon vari- 
 ous rulings and regulations in instances when his opinion differs 
 from that expressed in a given ruling or regulation. This com- 
 ment is intended as constructive criticism, in the hope that it 
 may contribute to the difficult task of interpretation and admin- 
 istration. Criticisms on the shortcomings of this book and sug- 
 gestions for its improvement will be gratefully received. 
 
PREFACE Vli 
 
 The author's thanks are again extended to the many friends 
 who have given him helpful suggestions and criticisms, particu- 
 larly to Mr. Harrison B. Spaulding, to Mr. Randolph E. Paul, 
 of the New York and New Jersey bars, and to Mr. Valentine B. 
 Havens, of the New York bar, for their assistance in preparing 
 the manuscript. The assistance of Mr. John F. McCarthy, of 
 the New York Law Institute, in checking citations is also grate- 
 fully acknowledged. 
 
 George E. Holmes. 
 
 New York, January 2, 1922. 
 
CONTENTS 
 
 CHAPTER 1. 
 
 INTRODUCTION. 
 
 Preceding Federal Laws — Administration of the Laws — Advisory Tax 
 Board — Committee on Appeals and Review — Tax Simplification 
 Board — Rulings and Regulations — United States and Possessions — 
 Porto Rico and the Philippines — Gross and Net Income — Individ- 
 uals — Normal Tax — Surtax — Corporation Tax — Personal Service 
 Corporations — Partnerships — Collection at Source — Information at 
 Source — Payment of Tax — Abatement and Refund 1 
 
 CHAPTER 2. 
 
 THE INCOME TAX RATES. 
 
 Normal Tax — Surtax — Limitations — Comparative Statements of Rates 
 — Surtax on Stockholders in Respect of Undistributed Profits of 
 Corporations — Unreasonable Accumulation of Profits 20 
 
 CHAPTER 3. 
 
 INDIVIDUALS TO WHOM THE LAW IS APPLICABLE. 
 
 Persons Exempt from Tax — Citizens of the United States — Aliens Re- 
 siding in the United States — Nonresident Aliens — Possessions of the 
 United States — Husband and Wife — Community Property — Minors 
 — Incompetents — Agents — Fiduciaries — Persons Dying During Year 36 
 
 CHAPTER 4. 
 
 NONRESIDENT ALIENS. 
 
 Who Is a Nonresident Alien — Alien Seamen — Citizens Treated as 
 Nonresident Aliens — Extent to Which Nonresident Aliens Are Tax- 
 able — Income from Sources Within the United States — Deductions 
 Allowed — Credits — Returns — Paying the Tax — Abatement and Re- 
 • fund 54 
 
 CHAPTER 5. 
 
 RESIDENT AGENTS FOR NONRESIDENT ALIENS AND FOREIGN 
 CORPORATIONS — NOMINAL STOCKHOLDERS. 
 
 Lack of Authority for Rulings — Distinction Between Withholding and 
 Resident Agents — Duties and Liabilities of Resident Agents — Pro- 
 cedure in Collecting Income — Returns for Nonresident Principal — 
 Paying the Tax — Nominal Stockholders 88 
 
 ix 
 
X CONTENTS 
 
 CHAPTER 6. 
 
 FIDUCIARIES. 
 
 Trusts Created by Employers — Definitions — Duties of Fiduciaries — 
 Income of Estates and Trusts — Deductions — Credits — Distribution of 
 Income of Trust Estates — Distributable Income — Undistributed In- 
 come — Estates and Trusts Which Can Not Be Treated as a Unit — 
 Returns — Returns by Fiduciaries — Returns for Beneficiaries — In- 
 come to Be Reported by Beneficiaries — Returns of Administrators 
 and Executors — Withholding at the Source — Foreign Fiduciaries . . . 102 
 
 CHAPTER 7. 
 
 FARMERS. 
 
 Definition — Gentlemen Farmers — Inventories — Income — Deductions — 
 Returns — Payment of Tax 152 
 
 CHAPTER 8. 
 
 PARTNERSHIPS. 
 
 Domestic and Foreign Partnerships — Limited Partnerships — General 
 Partnerships — Partnerships Consisting of Corporations — Partner- 
 ships Operating Abroad — Procedure in Collecting and Paying Out 
 Income — Net Income — Distribution of Partnership Profits — Profits 
 to Be Reported by Partners — Fiscal Year — Net Losses^-Profits 
 Earned Prior to March 1, 1913 — Returns — Foreign Partnerships... 166 
 
 CHAPTER 9 
 
 PERSONAL SERVICE CORPORATIONS. 
 
 Definition — Examples — Dividends of Personal Service Corporations — 
 Returns — Distributive Shares of Stockholders — Credits Allowed 
 Stockholders — Procedure in Claiming Personal Service Status — 
 Corporation Formed to Evade the Surtaxes — Alternative Retro- 
 active Tax on Personal Service Corporations 194 
 
 CHAPTER 10. 
 
 CORPORATIONS. 
 
 Definition — Incorporation of Individual or Partnership Business — 
 Doctrine of Corporate Entity — Residence — Gross Income — Deduc- 
 tions — Sale and Retirement of Bonds — Credits Against Net Income 
 — Credits Against Tax — Fiscal Year — Returns — Consolidated Re- 
 turns — Affiliated Corporations — Special Returns — Payment of Tax — 
 Abatement and Refund — Withholding the Tax at the Source — Trans- 
 portation Systems — Telephone Companies .• 209 
 
 CHAPTER 11. 
 
 SPECIAL PROVISIONS APPLYING TO INSURANCE COMPANIES. 
 
 Domestic Life Insurance Companies Under 1921 Law — Foreign Life 
 Insurance Companies Under 1921 Law— Insurance Companies Other 
 than Life and Mutual Insurance Companies Under 1921 Law — 
 
CONTENTS XI 
 
 Comparison of 1921 and 1918 Laws — Insurance Companies Under 
 1918 Law — Returns — Foreign Insurance Companies — Expenses. . . . 274 
 
 CHAPTER 12. 
 FOREIGN CORPORATIONS. 
 
 Definition — Companies Exempt from and Subject to Tax — Income 
 from Sources Within the United States — Deductions — Items Not De- 
 ductible — Credits — Collection of the Tax at the Source — Returns — 
 Domestic Corporations Which Are Taxable Only on Income from 
 Sources Within United States — Foreign Governments 297 
 
 CHAPTER 13.- 
 
 EXEMPT CORPORATIONS. 
 
 Foreign Corporations — Limitation of Exemption — Where Question 
 Exists — Proof of Right to Exemption — Labor, Agricultural and Hor- 
 ticultural Organizations — Mutual Savings Banks — Fraternal Bene- 
 ficiary Societies — Domestic Building and Loan Associations and Co- 
 operative Banks — Cemetery Companies — Religious, Charitable, Sci- 
 entific, Literary and Educational Corporations — Business Associa- 
 tions — Civic Organizations — Clubs — Mutual or Co-operative Organi- 
 zations of a Local Character — Associations for Marketing Produce 
 and Purchasing Supplies — Corporations Owned by Exempt Corpo- 
 rations — Federal Land Banks and National Farm Loan Associa- 
 tions — Personal Service Corporations — Joint Stock Land Banks. ... 312 
 
 CHAPTER 14. 
 
 INCOME — IN GENERAL. 
 
 What Constitutes Income — Income Actually Received — Income Con- 
 structively Received — Income Accrued — Income Received in Kind — 
 Income Received in Equivalent of Cash — Income Received in the 
 Form of Notes — Gross Receipts and Gross Income — Exempt Income — 
 Net Income — Net Income Subject to Normal Tax — Income of States 
 and Political Subdivisions Thereof — Foreign Exchange 339 
 
 CHAPTER 15. 
 
 INCOME FROM PERSONAL SERVICES. 
 
 Salaries — Bonuses and Profit Sharing — Commissions — Insurance Pre- 
 miums Paid for Employees — Services in Cancellation of Indebted- 
 ness — Voluntary Offerings Received by Clergymen — Rewards — Com- 
 pensation Paid Other than in Cash — Services Rendered Prior to 
 March 1, 1913 — Compensation for Services Extending Over a Year 
 — Compensation to Federal Government Officers and Employees, 
 Federal Judges, the President of the United States, State Employees 364 
 
 CHAPTER 16. 
 
 INCOME FROM BUSINESS, TRADE OR COMMERCE. 
 
 Gross Income from Business — Contractors — Export Business — Dis- 
 counts — Manufacturers Selling on the Coupon System — Inventories 385 
 
XU CONTENTS 
 
 CHAPTER 17. 
 
 INCOME FROM SALES OR DEALINGS IN PROPERTY; QUASI CAPITAL TRANSACTIONS. 
 
 Taxation of Capital Gains — Exchange of Property Held for Invest- 
 ment or for Productive Use — Basis for Determining Gain or Loss 
 from Sale — Cost of Property — Selling Price — Market Value — Proof 
 of Market Value — Proof of Value of Intangible Property — Exchanges 
 for Different Kinds of Property — Organization, Reorganization, 
 Merger and Consolidation of Corporations Under 1921 Law — Under 
 1918 Law — Exchange of Property for Stock — Property Acquired by 
 Bequest, Devise, or Inheritance — Property Acquired by Gift — Sales 
 and Dealings in Bonds — Insurance Policies — Sales of Property In- 
 volving Installment and Deferred Payments 407 
 
 CHAPTER 18. 
 
 INCOME FROM INTEREST, RENT AND ROYALTIES. 
 
 Interest Exempt from Tax — Interest Upon United States Obligations 
 — Tax Exemptions of Liberty Bonds and Victory Notes Under 1918 
 Law — Under 1921 Law — War Finance Corporation Bonds — Obliga- 
 tions of Possessions of the United States — Interest on Obligations of 
 States — Interest on Bonds of Exempt Organizations — Reporting Ex- 
 empt Income — Accrued Interest on Obligations at Time of Purchase 
 — Bond Interest Paid in Scrip — Interest Accruing Prior to March 
 1, 1913 — Discount — Rent — Royalties 479 
 
 CHAPTER 19. 
 
 INCOME FROM DIVIDENDS. 
 
 Definitions — Distributions Which Are Not Dividends — Extent to Which 
 Dividends Are Taxable — Distribution in Liquidation Under 1918 
 Law — Under 1921 Law — Presumption as to Source of Distribution 
 — Dividends from Earnings or Profits Accumulated Prior to March 
 1, 1913 — Dividends from Exempt Income — Distribution from De- 
 pletion or Depreciation Reserve — Dividends I^id from an Apprecia- 
 tion of Capital Assets — Distributions of Capital — Dividends Tax- 
 able in Year Received — Dividends Paid in Equivalent of Cash — 
 Dividends Paid in Property — Stock Dividends — Income from Sale of 
 Stock Received as Dividend 504 
 
 CHAPTER 20. 
 
 REXJEIPT AND INCOME FROM MISCEXLANEOUS SOURCES. 
 
 Alimony — Option to Purchase Interest in Royalties — Cancelled Debts 
 — Involuntary Sale — Compensation for Loss — Replacement Fund for 
 Loss — Damages — Employees' Profit-Sharing Fund — Discarded or 
 Destroyed Property — Increment to Sinking Funds — Legacies — Pay- 
 ment of Claims — Pensions — Property Acquired by Gift — Right to 
 Subscribe to Stock — Sale of Good Will — Shares in Building and 
 Loan Association — Taxes Paid by Vendee — Compensation by Insur- 
 ance — Proceeds of Life Insurance — Annuities 538 
 
CONTENTS Xlll 
 
 CHAPTER 21. 
 
 DEDUCTIONS — IN GKNERAL. 
 
 Only Deductions Specified in the Statute Are Allowed — Deductions 
 Must Be Actual — Deductions Not to Be Duplicated — Income and ' 
 Deductions Reported ob Same Basis — Deductions 'in the Equivalent 
 of Cash — When Charges Deductible — Contributions to Charities- 
 Items Not Deductible — Special Assessments Against Local Bene- 
 fits 558 
 
 CHAPTER 22. 
 
 DEDUCTION OP BUSINESS EXPENSES. 
 
 Ordinary and Necessary Expenses — Business Expenses — Professional 
 Expenses — Cost of Manufacturing Products — Cost of Materials — 
 Repairs — Buildings Used for Rental Purposes — Reserves — Insur- 
 ance — Commissions — Salaries^ — Bonuses and Profit-Sharing Pay- 
 ments — Pensions — Donations 576 
 
 CHAPTER 23. 
 
 DEDUCTION OF INTEREST. 
 
 Interest on Capital — Indebtedness Incurred or Continued to Purchase 
 or Carry Tax Exempt Securities — Interest Paid or Accrued Within 
 the Year — Interest on Taxes — Interest on Real Estate Mortgage. . . . 602 
 
 CHAPTER 24. 
 
 DEDXJICTION OP TAXES. 
 
 Taxes Paid or Accrued Within the Year — Federal Duties and Excise 
 Taxes — Capital Stock Tax — Federal Estate Tax — Taxes Imposed 
 by the Authority of Any Foreign Country — -Taxing Subdivisions of 
 Territories — Taxes Paid by Vendee for Vendor — Taxes Paid by 
 a Tenant — Taxes Not Deductible — Taxes Paid by Corporation for 
 Stockholders 607 
 
 CHAPTER 25. 
 
 DEDUCTION OF LOSSES. 
 
 Losses Sustained in Trade — Losses Not Sustained in Trade — Trade 
 or Business — Losses Must Be Sustained During Year — Losses of 
 Income — Measure of Loss — Losses from Sales of Property — Losses 
 from Exchanges of Property — Losses from Fires, Storm, Shipwreck 
 and Other Casualty — Losses Arising from Theft — Voluntary De- 
 struction of Property — Loss of Useful Value — Shrinkage in Se- 
 curities and Stocks — Worthless Stock — Sale of Capital Stock — 
 Losses of Oil and Gas — Reserves for Losses — Worthless Debts — Re- 
 coveries for Bad Debts and Charging Off Bad Debts in Part Under 
 1921 Law — Loss Due to Adverse Judgment — Recovery on Losses — 
 Net Losses — Losses in Inventory and from Rebates 621 
 
^'IV CONTENTS 
 
 CHAPTER 26. 
 
 DEDUCTION OF ALLOWANCE FOR DEPRECIATION, OBSOLESCENCE AND AMORTIZATION. 
 
 Depreciation Under Preceding Income Tax Laws — Depreciable Prop- 
 erty—Intangible Property— Capital Sum Returnable Through De- 
 preciation Allowances — Method of Computing Depreciation Allow- 
 ances — Annual Allowance Measured by Life of Property — Rate of 
 Depreciation — Annual Allowance Must Be Charged Oflf on Books — 
 Reserves for Depreciation — Obsolescence — Obsolescence of Intangible 
 Property — Amortization 678 
 
 CHAPTER 27. 
 
 DEPLETION — IN GENERAL. 
 
 Definition of Terms — Capital Recoverable Through Depletion — Deduc- 
 tion in Case of Operating Owner — In Case of Lessee — In Case of 
 Lessor — Determination of Cost of Deposits — Determination of Fair 
 Market Value of Mineral Property — Revaluations Not Allowed — 
 Computation of Deduction for Depletion of Mineral Deposits — De- 
 pletion and Depreciation Account on Books — Depletion Under 1909 
 Law and 1913 Law — Rule As to Mine Under 1916 Law — Rule As to 
 Lessees Under Prior Laws — Depletion for Past Years Not Allowed 
 Under Present Law .- 713 
 
 CHAPTER 28. 
 
 DEPLETION OF MINES. 
 
 Determination of Mineral Contents of Mine — Discovery of Mines — - 
 Allowable Capital Additions in Case of Mines — Accumulated De- 
 pletion 735 
 
 CHAPTER 29. 
 
 DEPLETION OF OIL AND GAS WELLS. 
 
 Capital Sum — Capital Sum and Invested Capital — Capital Recover- 
 able Through Depletion Deduction in Case of Operating Owner — 
 In case of Lessee — In Case of Lessor — Determination of Quantity of 
 Oil in Ground — Computation of Allowance for Depletion of Oil 
 Wells — Computation of Allowance for Depletion of Gas Wells — Gas 
 Well Pressure Records to Be Kept — Computation of Depletion Allow- 
 ance for Combined Holdings of Oil and Gas Properties — Discovery of 
 Oil and Gas Wells — Charges to Capital and to Expenses in the Case 
 of Oil and Gas Wells — Depreciation of Improvements in the Case of 
 Oil and Gas Wells — Depletion and Depreciation in Years before 
 1916 740 
 
 CHAPTER 30. 
 
 DEIPLETION OF TIMBER. 
 
 Determination of Fair Market Value of Timber — Computation of Al- 
 lowance for Depletion for Given Year — Revaluation of Timber Not 
 Allowed — Charges to Capital and to Expense in the Case of Timber 
 — Aggregating Timber and Land for Purposes of Valuation and 
 Accounting — Timber Depletion and Depreciation Accounts on Books 
 — Information to be Furnished by Taxpayer 767 
 
CONTENTS XV 
 
 CHAPTER 31. 
 
 NORMAL TAX CREDITS — PERSONAL EXEMPTION. 
 
 Credit of Dividends — Credit of Interest — Personal and Specific Ex- 
 emptions — Credits to Nonresident Individuals 774 
 
 CHAPTER 32. 
 
 CREDIT FOR TAXES. 
 
 Definition — Citizens of the United States — Resident Aliens — Non- 
 resident Aliens — Citizens of Possessions — Domestic Corporations — 
 Foreign Corporations — Domestic Corporations Owning Stock of 
 Foreign Corporations — Members of Partnerships — Beneficiaries of 
 Estates or Trusts — Conditions of Allowance of Credit — Redetermi- 
 nation of Tax When Credit Proves Incorrect 786 
 
 CHAPTER 33. 
 
 METHODS AND PERIODS OF ACCOUNTING. 
 
 Basis of Actual Receipts — Reporting Income Upon Accrual Basis — 
 Methods of Accounting — When Items Should Be Reported — Chang- 
 ing, Basis for Computation of Net Income — Doctrine of Election — 
 Accounting Period — Fiscal Year 795 
 
 CHAPTER 34. 
 
 RETURNS OP INCOME. 
 
 By Whom Filed — Individual Returns — Corporation, Fiduciary and 
 Partnership Returns^ — Where Returns Are Filed — When Filed — 
 Returns when Accounting Period Changed — Extension of Time — 
 Forms — Verification of Returns — Notice of Failure to File Returns 
 — Inspection of Returns 822 
 
 CHAPTER 35. 
 
 1 ASSESSMENT, PAYMENT AND COLLECTION OF THE TAX. 
 
 Suit to Restrain Assessment or Collection — Time of Payment of Tax — 
 Assessment of Tax — Notice and Demand for Tax — Additional As- 
 sessment — Right of Taxpayer to Appeal — Final Determinations and 
 Assessments — Administrative Review — Extension of Time for Pay- 
 ment of Tax — Interest on Delinquent Taxes — Suits for Collection 
 of Taxes — Lien for Unpaid Taxes — Taxes Collectible by Distraint — 
 Taxpayers Contemplating Removal or Concealment of Property to 
 Defeat Collection of Tax — Medium of Payment of Tax — Receipts — 
 Deposit of United States Bonds in Lieu of Surety — Recovery of 
 Taxes Paid — Payment Under Protest — Duress — Abatement, Credit 
 and Refund — Committee on Appeals and Review 848 
 
 CHAPTER 36. 
 
 PENALTIES AND COMPROMISES. 
 
 Suit to Enjoin Collection of Penalties — Failure to File Return — In- 
 tentional Neglect or Refusal to Make Returns — False Returns — 
 
XVI CONTENTS 
 
 Fraudulent Returns — Returns of Information at Source — Returns of 
 Withholding Agents — Attempts to Evade the Tax — Failure to Pay 
 Tax — Statute of Limitations — Compromise of Taxes and Penalties. . 896 
 
 CHAPTER 37. 
 
 ABATEMENT, CREDIT, REFUND AND RECOVERY OF TAXES. 
 
 Who May Claim Recovery of Tax — Abatement — EflFect of New Pro- 
 vision for Appeal from Additional Assessments — Credit and Re- 
 fund — Procedure for Claiming Refund — Procedure for Collectors — 
 Claims for Credit of Taxes Erroneously Collected — Refund of 
 Taxes Collected on Second Assessment — Statute of Limitations — 
 Suits to Recover Taxes — Recovery of Interest — Costs — Reopening 
 of Cases 912 
 
 CHAPTER 38. 
 
 ISXAMINATION OF TAXPAYER'S BOOKS. 
 
 Examination of Books — Requiring Attendance of Witnesses — Requir- 
 ing Production of Books — Enforcement of Provisions — Constitution- 
 ality — Corporations — Examination in Cases of Special Taxes and 
 Other Cases — Inspection of Government Contracts — Instructions to 
 Revenue Agents 943 
 
 CHAPTER 39. 
 
 INFORMATION AT THE SOURCE. 
 
 Miscellaneous Information, Gains and Profits — Gains and Losses of 
 Customers of Brokers — Dividends — Interest — Return of Information 
 as to Payment to Nonresident Aliens — Foreign Items — Procedure 
 in Paying Income — Returns of Information at the Source 951 
 
 CHAPTER 40. ' 
 
 COLLECTION OF THE TAX AT THE SOURCE. 
 
 Definition — Appointment of Withholding Agent — Fixed or Determin- 
 able Annual or Periodical Income — Bond Interest — Scrip — Against 
 Whom the Tax is Withheld — Who Are Required to Withhold Tax- 
 Exemption from Withholding — Ownership Certificates — Withholding 
 in the Case of Enemies — Return of Income from Which Tax With- 
 held 964 
 
 CHAPTER 41. 
 
 COVENANTS TO PAY TAXES. 
 
 Foreign Corporations — Definition — Rate of Tax to Be Withheld — 
 Object of Withholding Provision in Case of Tax-Free Covenant 
 Bonds — Procedure of Corporation Issuing Tax-Free Covenant Bonds 
 ^Examples of Covenants to Pay Taxes 997 
 
CONTENTS XVll 
 
 CHAPTER 42. 
 
 CONSTITUTIONALITY OF THE LAW. 
 
 Construction of Constitutional Provisions — Power of Congress to Levy 
 Income Taxes — Taxing Gains and Profits from Sale of Property — 
 Requiring Disclosure of Interest on State and Municipal Obliga- 
 tions — Want of Due Process of Law — Uniformity — Exempting Cer- 
 tain Corporations from Tax — Retroactive Features 1006 
 
 CHAPTER 43. 
 
 WAR-PROFITS AND EXCESS-PROFITS TAX. 
 
 Individuals — Partnerships — Personal Service Corporations — Corpora- 
 tions — Allocation of Net Income to Particular Sources — Statement 
 of the Tax — Rates of Tax — Fiscal Year — Corporations Deriving In- 
 come from Government Contracts — Maximum Limit of Tax — -Sale of 
 Mines, Oil or Gas Wells — Invested Capital — Cash Paid in — Tangible 
 Property Paid in — Intangible Property — Mixed Aggregates of 
 Tangible and Intangible Property — Surplus and Undivided Profits — 
 Reserves — Patents — Current Profits — Additions to Surplus Account 
 — Borrowed Capital — Computing Invested Capital — Admissible 
 Assets — Inadmissible Assets — Adjustments Which Increase Book 
 Value of Assets — Adjustments Which Reduce Book Value of Assets 
 — Adjustments Due to Changes in the Taxable Year — Invested Capi- 
 tal for Fractional Part of Year — Invested Capital for Prewar Period 
 — Invested Capital of Insurance Companies, Foreign Corporations 
 and Domestic Corporations Deriving Income from Possessions of 
 the United States — War-Profits Credit — Excess-Profits Credit — 
 Specific Exemption — Net Income — Exemption Granted by Merchant 
 Marine Act — Assessment Without Reference to Invested Capital — 
 Incorporation of Business of Partnership or Individual — Affiliated 
 Corporations — Balance Sheet — Returns — Time and Manner of Pay- 
 ing Tax — Penalties — Administrative Provisions 1015 
 
 CHAPTER 44. 
 
 CAPITAL STOCK TAX. 
 
 Definitions — Domestic Corporations — Foreign Corporations — Basis and 
 Rate of Tax — Insurance Companies — Corporations Engaged in 
 Business During Preceding Year and During Taxable Year — In- 
 active Corporations — Carrying On or Doing Business — Doing Busi- 
 ness by Foreign Corporation — Exempt Corporations — Tax Due — ■ 
 Returns — Payment of the Tax 1139 
 
 CHAPTER 45. 
 
 THE STAMP TAX. 
 
 General Scope of Law — General Exemptions — Stamps — Bonds of In- 
 debtedness — Bonds of Indemnity and Surety — Capital Stock, Issue — 
 Capital Stock, Sales and Transfers — Certificates of Profits — Checks 
 — Conveyances — Drafts — Entry for Withdrawal of Goods or Mer- 
 chandise from Customs Bonded Warehouse — Entry of Goods, Wares 
 
XVlll CONTENTS 
 
 or Merchandise at Customhouse — Insurance Policies — Parcel Post 
 Packages — Passage Tickets — Playing Cards — Powers of Attorney — 
 Sales of Produce on Exchange — Promissory Notes — Proxies — 
 Records Required in Case of Sales and Transfers of Stock and 
 Produce on Exchange — Constitutionality of Stamp Taxes — Injunc- 
 tive Relief — Protest and Duress 1162 
 
 CHAPTER 46. 
 
 TAX ON EMPLOYMENT OF CHILD LABOR. 
 
 Effective Date of Act — Persons to Whom the Tax Applies — Mill, Can- 
 nery, Work Shop, Factory or Manufacturing Establishment — Mine 
 or Quarry — Time (Sun or Clock) — Duration of Employment — Cer- 
 tificate of Age — Proof of Age — Inspection of Establishment — Basis 
 and Rate of Tax — Returns — Tax Due — Time Record — Penalties — 
 Constitutionality 1250 
 
 CHAPTER 47. 
 
 CONSTRUCTION OF TAXING STATUTES. 
 
 Construction Which Will Be Constitutional — Proceedings in Congress 
 as Aid to Construction — Effect of Rulings and Practice of Treasury 
 Department — Construction by Reference to Similar Statutes — 
 Similar Statutes in Other Jurisdictions — Strict or Liberal Construc- 
 tion — Exemption from Taxation — Rule of Construction Followed by 
 the Treasury Department 1261 
 
 APPENDIX 
 
 Revenue Act of 1918— Copy of Law 1275 
 
 Revenue Act of 1921— Copy of Law 1333 
 
TABLE OF CASES 
 
 \_References 
 
 Abbott V. St. John, 40 Con. 
 Sup. Ct. 597 379 
 
 Abbott V. Wetherby, 6 Wash. 
 507, 83 Pac. 1070 45 
 
 Abrast Realty Co. v. Maxwell, 
 206 Fed. 333 885 
 
 Adams v. Bancroft, 1 Fed. 
 Cas. No. 44 1263 
 
 Adams v. Dale, 29 Ind. 273 . . 1244 
 
 Adams v. U. S., 1 Ct. CI. 306. 883 
 
 Aguirre v. Maxwell, 3 Blatch. 
 140 303 
 
 Albany City National Bank v. 
 Maher, 6 Fed. 417, 19 
 Blatch. 175 455 
 
 Aldridge v. Williams, 3 How. 
 23 1265 
 
 Alexandria v. Bethlehem, 16 
 N. J. L. 119 826 
 
 Alkan v. Bean, 23 Int. Rev. 
 Rec. 351 850 
 
 Allen V. Allen, 60 Mich. 635, 
 27 N. W. 702 826 
 
 Allen V. Pullman's Palace Car 
 Co., 139 U. S. 658 850 
 
 Alpha Portland Cement Co. v. 
 Knapp, 230 N. Y. 48, 231 
 N. Y. 8 1007 
 
 Alpha Portland Cement Co. v. 
 U. S., 261 Fed. 339 450 
 
 Altheimer Investment Co. v. 
 Allen, 246 Fed. 270, petition 
 for a writ of certiorari de- 
 nied November 18, 1918... 234 
 
 Altheimer Rawlings Invest- 
 ment Co. V. Allen, 248 Fed. 
 688 494 
 
 Ambrosini v. U. S., 187 U. 
 S. 1 489 
 
 Amer. Nat. Bank v. Nat. Co., 
 77 Fed. 85 223 
 
 American Net & Twine Co. v. 
 Worthington, 141 U. S. 468.1269 
 
 Amer. Pig Iron Co. v. State 
 Board, 56 N. J. L. 389, 29 
 Atl. 160 1171 
 
 are to pages."] 
 
 American Thread Co. v. Joyce, 
 
 104 L. T. R. 217, aff'd 106 
 
 L. T. R. 171, 28 T. L. R. 233, 
 
 6 Tax Cas. 1, approved by 
 
 House of Lords 108 L. T. R. 
 
 353, 6 Tax Cas. 163, 29 L. 
 
 T. R. 266 299 
 
 Anderson v. 42 Broadway Co., 
 
 213 Fed. 777 604 
 
 Anderson v. 42 Broadway Co., 
 
 239 U. S. 69 234 
 
 Anderson v. Morris & E. R. 
 
 Co., 216 Fed. 83 
 
 220, 229, 501, 1154, 1270 
 
 Appeal of C. Bolte, 18 Haw. 
 
 241 1169 
 
 Appeal of Green, 97 Pa. 342 . . 654 
 Apthorpe v. Peter Schoen- 
 
 hofen Brewing Co., 80 L. T. 
 
 R. 395, 15 T. L. R. 245, 4 
 
 Tax Cas. 41 299 
 
 Arnson v. Murphy, 109 U. S. 
 
 •238 906, 937 
 
 Assessment of Taxes of T. A. 
 
 Hayes, In re, 16 Haw. 796 . . 568 
 Assessor v. Osborne, 9 Wall. 
 
 567 930 
 
 Associated Pipe Line Co. v. 
 
 U. S., 258 Fed. 800 
 
 234, 1152, 1154 
 
 Atchison v. O'Connor, 223 U. 
 
 S. 280 889, 890 
 
 Atlantic C. L. R. Co. v. River- 
 side Mills, 219 U. S. 196, 
 
 200 1121, 1265 
 
 Aurora State Bank v. Oliver, 
 
 62 Mo. App. 390 173 
 
 Austin v. Seligman, 18 Fed. 
 
 519 390 
 
 Bailey v. Railroad Company, 
 
 22 Wall. 603, 106 U. S. 
 
 109 519, 530 
 
 Baldwin Locomotive Works v. 
 
 McCoach, 221 Fed. 59 
 
 239, 341, 450, 1100 
 
 XIX 
 
XX 
 
 TABLE OP CASES 
 
 [References 
 Baltimore v. Baltimore R. R., 
 
 10 Wall. 543 1002 
 
 Bank of Greencastle v. U. S., 
 
 15 Ct. Cls. 225 919 
 
 Barnsdall v. Bradford Gas 
 
 Co., 225 Pa. 338, 74 Atl. 
 
 207 502 
 
 Barr v. Simpson. 54 Tex. Civ. 
 
 App. 105, 117 S. W. 1041, 
 
 46, 49 
 
 Bartholomay Brewing Co. v. 
 
 Wyatt (1893) 2 Q. B. 499, 
 
 69 L. T. 561 299 
 
 Bate Refrigerator Co. v. Sulz- 
 berger, 157 U. S. 1 1266 
 
 Bay V. Williams, 112 111. 91.. 1084 
 Bayfield Co. v. Pishon, 162 
 
 Wis. 466, 156 N. W. 463... 149 
 Beals V. Ares, 25 New Mex. 
 
 459, 185 Pac. 780 48 
 
 Bean v. Flint, 204 N. Y. 153, 
 
 97 N. E. 490 1179 
 
 Beck V. Natalie Oil Co., 143 
 
 La. 153, 78 La. 430 48 
 
 Beer v. Moffat, 192 Fed. 984. . 885 
 Bellefontaine Building & Loan 
 
 Co. V. McMaken, 216 Fed. 
 
 526 319 
 
 Bend v. Hoyt, 13 Pet. 263 
 
 886, 887 
 
 Benzinger v. U. S., 192 U. S. 
 
 38 1269 
 
 Bertram v. Collins Mfg. Co. 
 
 69 Ga. 751 1043 
 
 Billings V. U. S., 232 U. S. 
 
 261.. 1012, 1013, 1014, 1261, 1264 
 Biwabik Mining Co. v. U. S., 
 
 242 Fed. 9 730 
 
 Biwabik Mining Co. v. U. S., 
 
 247 U. S. 116 725 
 
 Black V. Bolen, 268 Fed. 427. . 626 
 Blakeston v. Cooper, 5 Tax 
 
 Cas. 347 548 
 
 Blanchard v. Hamblin, 162 
 
 Mo. App. 242, 144 S. W. 
 
 880 283 
 
 Bleakley v. New York, 139 
 
 Fed. 807 639 
 
 Blunt V. U. S., 255 Fed. 332. .1261 
 Boling V. Owsley, 122 Minn. 
 
 190, 142 N. W. 129 502 
 
 are to pages.'] 
 
 Boobier v. Boobier, 39 Maine 
 
 406 826 
 
 Boon V. Moss, 70 N. Y. 465.. 1051 
 Booth V. Illinois, 184 U. S. 
 
 431 1006 
 
 Boreing v. Wilson, 33 Ky. L. 
 
 14, 108 S. W. 914 173 
 
 Boske V. Comingore, 177 U. S. 
 
 459 8 
 
 Boston & M. R. R. v. U. S., 
 
 265 Fed. 578 234 
 
 Boston & P. R. Corp. v. Gill, 
 
 257 Fed. 221 941 
 
 Boston Terminal Co. v. Gill, 
 
 246 Fed. 664 1154 
 
 Boughton V. U. S., 12 Ct. Cls. 
 
 330 907, 909 
 
 Boyd V. U. S., 116 U. S. 616 
 
 944, 945, 947, 1009 
 
 Brady v. Anderson, 240 Fed. 
 
 665, 244 U. S. 564 35, 53 
 
 Brady v. Anderson, 240 Fed. 
 
 665, writ of certiorari de- 
 nied 244 U. S. 654.145, 266, 1014 
 Bristor v. Chicago & N. W. 
 
 Ry. Co., 128 Iowa 479, 104 
 
 N. W. 487 826 
 
 Brosius V. Barker, 154 Mo. 
 
 App. 657, 136 S. W. 19 826 
 
 Brown v. City of Corry, 175 
 
 Pa. St. 528, 34 Atl. 854, 
 
 855 578, 812 
 
 Brown v. Cook, 9 John 361.. 639 
 Brown v. Spillman, 155 U. S. 
 
 665 503 
 
 Brown v. Walker, 161 U. S. 
 
 591 1006 
 
 Brushaber v. Union Pacific R. 
 
 R. Co., 240 U. S. 1 60, 
 
 850, 1007, 1010, 1013, 1014, 1261 
 Bryant & May, Ltd. v., Scott, 
 
 226 Fed. 875 .301, 1143 
 
 Bryce v. Keith, 257 Fed. 133 
 
 626, 627 
 
 Buchanan v. Knoxville & O. 
 
 R. Co., 71 Fed. 324 1274 
 
 Buffum V. Merry, 4 Fed. Cas. 
 
 No. 2112 390 
 
 BuUen v. Wisconsin, 240 U. 
 
 S. 625 456, 549, 903 
 
 Bunte V. Schuman, 46 Misc. 
 
 593 429 
 
TABLE OF CASES 
 
 XXI 
 
 [References 
 
 Burriss v. Starr, 165 N. C. 
 657, 81 S. E. 929 907 
 
 Burrough v. Abel, 105 Fed. 
 366 939 
 
 Butler Savings Bank v. Os- 
 borne, 159 Pa. 10, 28 Atl. 
 163 171 
 
 Butterick Co. v. U. S., 240 
 Fed. 539 210, 1155 
 
 ) 
 
 Cadwalader v. Lederer, 273 
 Fed. 879 1018 
 
 Caha V. U. S., 152 U. S. 211. . 8 
 
 Calkins v. Smietanka, 240 
 Fed. 138 1210, 1245, 1249 
 
 Cambria Steel Co. v. McCoach, 
 225 Fed. 278 893, 914, 1154 
 
 Caminetti v. U. S., 242 U. S. 
 470, 490 1265 
 
 Campbell v. Shaw, 11 Haw. 
 112 1012 
 
 Campbell v. U. S., 107 U. S. 
 410 7 
 
 Camp Bird, Ltd., v. Howbert, 
 249 Fed. 27 929 
 
 Camp Bird, Ltd., v. Howbert, 
 262 Fed. 114 934 
 
 Capital Trading Company, In 
 re, 229 Fed. 806 1206 
 
 Carbon Steel Co. v. Lewellyn, 
 258 Fed. 533 1264 
 
 Carrick v. Lamar, 116 U. S. 
 423 850 
 
 Carrol v. Tomlinson, 192 111. 
 398, 61 N. E. 484 654 
 
 Cartier-Holland Lumber Co. 
 V. Doyle, U. S. Dist. Ct., 
 W. Dist. Mich. So. Div., T. 
 D. 3080 1023 
 
 Cary v. Curtis, 3 How. 236. . . 937 
 
 Cassidy v. St. Germain, 22 
 R. L 53, 46 Atl. 35... 1242, 1244 
 
 Catawissa R. R. Co. v. Phila. 
 & Reading Co., 255 Pa. 269, 
 99 Atl. 807 35, 1002 
 
 Cathcart v. Robinson, 5 Pet. 
 
 • 264 1268 
 
 Central Building, Loan & Sav- 
 ings Co. V. Bowland, 216 
 Fed. 526 319, 1265 
 
 Central Trust Co. v. Colum- 
 bus, etc;, Co., 92 Fed. 919.. 1190 
 
 are to pages.'\ 
 
 Chadwick, In re, 5 Fed. Cas. 
 No. 2,570, 11 Int. Rev. Rec. 
 
 126, 133 944 
 
 Chaffee v. United States, 16 
 
 Wall. 516, 542 429 
 
 Chapin v. Irwin, U. S. Dist. 
 
 Ct. No. Dist. of N. H 153 
 
 Chapman, In re, 166 U. S. 
 
 661, 668 1009 
 
 Chartiers etc. Co. v. McNam- 
 
 ara, 72 Pa. St. 278 1242 
 
 Cheatham v. U. S., 92 U. S. 
 
 85 935 
 
 Chemung Iron Co. v. Lynch, 
 
 269 Fed. 368 502, 1154 
 
 Chesebrough v. U. S., 192 U. 
 
 S. 253... 883, 886, 888, 889, 1247 
 Chicago & Alton R. R. Co. v. 
 
 U. S., 53 Ct. Cls. 41 240 
 
 Chicago A. R. R. v. House, 
 
 172 111. 601, 50 N. E. 151. . . 578 
 Chicago Mill, etc., Co. v. Boat- 
 man's Bank, 234 Fed. 41 . . . 223 
 Chicago, St. Louis, etc., R. Co. 
 
 V. Pullman Co., 139 U. S. 
 
 79 638 
 
 Chicago T. and T. Co. v. 
 
 Smietanka, 275 Fed. 60 
 
 174, 211, 212 
 
 Chicago, etc., Ry. v. Kansas 
 
 City N. W. R. R., 75 Kans. 
 
 167, 88 Pac. 1085 1004 
 
 Chicago, etc., R. R. Co. v. 
 
 Missouri, 120 U. S. 569 1273 
 
 Christ Church v. Philadelphia 
 
 County, 24 How. 300 1273 
 
 Christie-Street Co. v. U. S., 
 
 126 Fed. 991 888 
 
 Christie - Street Commission 
 
 Co. V. U. S., 136 Fed. 326 
 
 933, 935, 938 
 
 Church of Holy Trinity v. U. 
 
 S., 143 U. S. 457 1263 
 
 Cinn. Gas & Elec. Co. v. Gilli- 
 
 gan, T. B. 29-21-1738 937 
 
 Citizens Bank v. Parker, 192 
 
 U. S. 73 1274 
 
 Clemens v. Conrad, 19 Mich. 
 
 170 1242 
 
 Cleveland & T. R. Co. v. Per- 
 kins, 17 Mich. 296 ' 429 
 
xxu 
 
 TABLE OF CASES 
 
 [^References 
 Cline V. Hackbarth, 27 Tex. 
 
 Civ. App. 391, 65 S. W. 
 
 1086 45 
 
 Cliquot's Champagne, 3 Wall. 
 
 114, 141. 145 429, 1271 
 
 Clopton V. Phila. & Reading 
 
 R. R. Co., 54 Pa. 356 1004 
 
 Cobb V. Heron, 180 111. 49, 
 
 54 N. E. 189, aflf'd 78 111. 
 
 App. 654 1084 
 
 Codman v. Amer. Piano Co., 
 
 229 Mass. 285, 118 N. E. 
 
 344 1002 
 
 Cohen v. Lowe, 234 Fed. 474 
 
 188, 681, 688, 691 
 
 Cole et al. v. Ralph, 252 U. 
 
 S. 286 1242 
 
 Collector v. Day, 11 Wall. 113 
 
 357, 378, 489 
 
 Collector v. Hubbard, 12 Wall. 
 
 1 519 
 
 Collector v. Hubbard, 12 Wall. 
 
 13 887 
 
 Colonial Trust Co. v. Montello 
 
 Works, 172 Fed. 310 223 
 
 Colquhoun v. Brooks, L. R. 
 
 14 App. Cas. 493, 61 L. T. 
 518 299 
 
 Columbia Water Co. v. Colum- 
 bia Co., 172 U. S. 475 1262 
 
 Commercial Bank v. Arm- 
 strong, 148 U. S. 50 283 
 
 Commercial Travelers Ass'n 
 V. Rodway, 235 Fed. 370, 
 374 313, 317, 1268 
 
 Commissioners, etc., v. Buck- 
 ner, 48 Fed. 533 884 
 
 Commonwealth v. Graham, 
 157 Mass. 73 826 
 
 Commonwealth v. Standard 
 Oil Co., 101 Pa. St. 119.. 75, 77 
 
 Commonwealth v. Werth, 116 
 Va. 604, 82 S. E. 695. .339, 638 
 
 Conant v. Kinney, 162 Fed. 
 581 940 
 
 Congregational Church So- 
 ciety V. Board, 290 111. 108, 
 125 N. E. 7 323 
 
 (Jonley v. Mathieson Alkali 
 Works, 190 U. S. 406, 409.. 219 
 
 Conley v. Mathieson Works, 
 
 are to pages.] 
 
 190 U. S. 406, 205 U. S. 
 
 392 224 
 
 Connecticut General Life Ins. 
 
 Co. V. Eaton, 218 Fed. 188 
 
 343, 1266 
 
 Connecticut Mutual Life Ins. 
 
 Co. V. Eaton, 218 Fed. 206 
 
 343, 586, 631 
 
 Connole v. Norfolk & Western 
 
 Ry. Co., 216 Fed. 823 1265 
 
 Cook V. Knott, 2 Gt. Br. Tax 
 
 Cas. 246 569 
 
 Cooks V. Bremond, 27 Tex. 457 45 
 Cornell v. Coyne, 192 U. S. 
 
 418 1263 
 
 Coulan V. Doull, 133 U. S. 
 
 216 1268 
 
 Cox V. Hickman, 8 H. L. C. 
 
 268, 9 C. B. N: S. 47 173 
 
 Craig V. Dimock, 47 111. 308. .1242 
 Crane & Co. v. Fry, 126 Fed. 
 
 278 224 
 
 Crawford v. New South Farm 
 
 and Home Co., 231 Fed. 999 1197 
 Crichfield v. Julian, 147 Fed. 
 
 65 424 
 
 Crocker v. Malley, 249 U. S. 
 
 223 211, 1141, 1175, 1270 
 
 Crocker v. Malley, 249 U. S. 
 
 223, reversing 250 Fed. 817. 215 
 Cropley v. Cooper, 19 Wall. 
 
 (U. S.) 167, 22 L. Ed. 109. . 457 
 Crutwell v. Lye, 17 Ves. Jr. 
 
 335 1051 
 
 Cryan v. Wardell, 263 Fed. 
 
 248 498, 1266 
 
 Cumberland Tel. & Tel. Co. v. 
 
 Louisville, 187 Fed. 637, 
 
 654 691 
 
 Gumming v. U. S., 22 Ct. Cls. 
 
 344 919 
 
 Curtice, Matter of. 111 App. 
 
 Div. (N. Y.) 230, 97 N. Y. 
 
 Supp. 444, aff'd 185 N. Y. 
 
 542, 77 N. E. 1184 430 
 
 Darlington v. Mayer, U. S. • 
 Dist. Ct., N. Dist. 111. aff'd 
 by U. S. Supreme Court, 
 April 18, 1921 407 
 
 Darlington v. Turner, 202 U. 
 S. 195 826 
 
TABLE OF CASES 
 
 XXUl 
 
 [References 
 D'Armond v. Dubose, 22 La. 
 
 Ann. 131 1244 
 
 Dartmouth College v. Wood- 
 ward, 4 Wheat. 518, 636... 219 
 Davis V. Evans, 133 N. C. 320, 
 
 45 S. E. 643 1242 
 
 De Bary v. Carter, 102 Fed. 
 
 130 941 
 
 De Bary v. Dunne, 162 Fed. 
 
 961 915 
 
 De Beers Consolidated Mines 
 
 V. Howe (1906) App. Cas. 
 
 455, 95 L. T. 221, 22 T. L. R. 
 
 756, 5 Tax Cas. 198 298 
 
 De Blanc v. Lynch & Co. 23 
 
 Tex. 25 46 
 
 Decatur v. Paulding, 14 Pet. 
 
 497 850 
 
 Deen v. Walker, 107 111. 540.. 1084 
 De Ganay v. Lederer, 239 Fed. 
 
 568 1262 
 
 De Ganay v. Lederer, 239 Fed. 
 
 568 aff'd 250 U. S. 376 
 
 59, 61, 198, 1266, 1272 
 
 Delaski & Thropp Co. v. Ire- 
 dell, 268 Fed. 377 202, 1020 
 
 Delaware R. R. Co. v. Pretty- 
 man, 17 Int. Rev. Rec. 99.. 850 
 Dennison Mfg. Co. v. U. S., 
 
 72 Fed. 258 1262 
 
 Des Moines Co. v. Chicago Gt. 
 
 West. Ry. Co., 188 Iowa 
 
 - 1019, 177 N. W. 90 1005 
 
 De Vaughn v. McLeroy, 82 
 
 Ga. 687, 10 S. E. 211 457 
 
 Disston V. McClain. 147 Fed. 
 
 114 1269 
 
 Dixon V. Dixon's Exors, 4 La. 
 
 188 48 
 
 Dobbins v. Erie Co., 16 Pet. 
 
 435 379 
 
 Dobbins v. Erie Co., 16 Pet. 
 
 444 489 
 
 Dodge V. Brady, 240 U. S. 122 850 
 Dodge V. Osborn, 240 U. S. 118 
 
 850, 851 
 
 Dodge Stationery Co. v. 
 
 Dodge, 145 Cal. 380, 78 
 
 Pac. 879 1051 
 
 Doei'schuck v. U. S., 274 Fed. 
 
 739 528 
 
 are to pages.] 
 
 Doerschuck v. U. S., U. S. Dist. 
 
 Ct. E. D. N. Y., T. D. 3170. .1069 
 Doherty v. Harris, 230 Mass. 
 
 341 430 
 
 Dollar Savings Bank v. U. S., 
 
 19 Wall. 227, 86 U. S. 227 
 
 267, 869 
 
 Dominici v. U. S., 72 Fed. 46 8 
 Douglas V. Douglas, 22 Idaho 
 
 336, 125 Pac. 796 50 
 
 Dowell V. Applegate, 7 Fed. 
 
 881 1244 
 
 Doyle V. Mitchell Bros., 247 
 
 U.S. 179 340, 
 
 341, 342, 388, 421, 431, 453, 
 
 519, 524, 731. 732, 733, 1008 
 Doyle V. Mitchell Bros., 247 
 
 U. S. 179, affirming 235 
 
 Fed. 686 556 
 
 Duffy V. Hobson, 40 Cal. 240. .1242 
 Dugan V. U. S., 34 Ct. Cls. 
 
 458 919 
 
 Dunavant, In re, 96 Fed. 542. . 826 
 Dunham v. Loverock, 158 Pa. 
 
 197, 27 Atl. 990 171 
 
 Dunks V. Grey, 3 Fed. 862, 
 
 . 865 826 
 
 Durham v. State, 6 Ind. App. 
 
 23, 32 N. E. 104 455 
 
 East St. Louis Ry. Co. v. Jar- 
 vis, 92 Fed. 735 224 
 
 Edison Electric Co. v. U. S., 
 38 Ct. Cls. 208 932 
 
 Edwards v. Brown, 68 Tex. 
 329 46 
 
 Edwards v. Chile Copper Com- 
 pany, 273 Fed. 452 1166 
 
 Edwards v. Keith, 231 Fed. 
 110 7, 343, 345 
 
 Edwards v. Wabash Ry. Co. 
 
 264 Fed. 610 
 
 1162, 1171, 1175, 1247, 1266 
 
 Ehret Magnesia Co. v. Leder- 
 er, 273 Fed. 689 1013, 1034 
 
 Ehrlich . v. Brogan, 262 Pa. 
 362 1003 
 
 Eidman v. Martinez, 184 U. S. 
 578 1269 
 
 Eisner v. Macomber, 252 U. 
 S. 189. .29, 207, 219, 220, 340, 
 344, 504, 525, 532, 1007, 1008 
 
XXIV 
 
 TABLE OP CASES 
 
 [References 
 Eisner v. Macomber, 254 U. 
 
 S. 189 453 
 
 Eldorado Coal Co. v. Mager, 
 
 65 L. Ed. 449 407, 1008 
 
 Eliasberg Bros. Mercantile 
 
 Co. V, Grimes, 204 Ala. 492, 
 
 86 So. 56 340 
 
 Eliot V. Freeman, 220 U. S. 
 
 178 211, 1140 
 
 Eliot Nat. Bank v. Gill, 210 
 
 Fed. 933 618 
 
 Eliot Nat. Bank v. Gill, 210 
 
 Fed. 933, aff'd 218 Fed. 600. 860 
 Eliot National Bank v. Gill, 
 
 218 Fed. 600 
 
 860, 861, 862, 899, 1262 
 
 Elliott V. Swartout, 10 Pet. 
 
 137 886, 887 
 
 Emery, Bird Thayer Realty 
 
 Co. V. U. S., 198 Fed. 242.. 938 
 Equitable Trust Co. v. Seldon, 
 
 8 Fed. Cas. No. 4, 507 1268 
 
 Equitable Trust Co. v. West- 
 ern Pac. Ry. Co., 236 Fed. 
 
 814 243 ' 
 
 Erichsen v. Lost, 8 Q. B. D. 
 
 414, 45 L. T. 703, 4 Br. Tax 
 
 Cas. 422 74 
 
 Erie, etc., R. R. v. Pennsyl- 
 vania R. R., 208 Pa. 506, 
 
 57 Atl. 980 1004 
 
 Erskine v. Van Arsdale, 15 
 
 Wall. 75 886, 887, 940 
 
 Estate of Moflfitt, 153 Cal. 
 
 359, 95 Pac. 653, 1025 49 
 
 Evans v. Gore, 253 U. S. 
 
 245 377, 378 
 
 Evanston v. Gunn, 99 U. S. 
 
 660, 17 Cyc. 306 846 
 
 Ewald V. Hufton, 31 Idaho 
 
 373, 173 Pac. 247 47 
 
 Ex parte Kollock, 165 U. S. 526 7 
 
 Fairley v. Smith, 87 N. C. 271 429 
 Fairley v. Smith, 87 N. C. 367 429 
 Fairmont Coal Co. v. Jones, 
 
 etc. Co., 134 Fed. 711 639 
 
 Farmers Loan and Trust 
 Company v. Council Bluffs 
 Gas and Electric Company, 
 90 Fed. 806 1197 
 
 are to pages.'] 
 
 Farrell v. U. S., 167 Fed. 639. 935 
 
 Faw V. Marsletter, 3 Cranch 
 10, 23 1124 
 
 Fechleter v. Palm Bros., 133 " 
 Fed. 462 171 
 
 Federal Mining Co. v. Bunker 
 Hill Co., 187 Fed. 474 224 
 
 Fennell v. Drinkhouse, 131 
 Cal. 447, 63 Pac. 734 45 
 
 Fennerstein v. United States, 
 3 WalL 145 429 
 
 Fidelity Trust Company v. 
 Lederer, U. S. Dist. Ct., 
 Eastern Dist. of Pennsyl- 
 vania, decided July 14, 
 1921 1189 
 
 Field v. Clark, 143 U. S. 649. .1066 
 
 Fink V. N. W. Mutual Life 
 
 Ins. Co., 267 Fed. 968 
 
 290, 291, 292, 342, 343 
 
 Fink V. Northwestern Mutual 
 Life Ins. Co., U. S. Circuit 
 Court of Appeals, seventh 
 circuit, June 1920 643 
 
 First Nat. Bank v. McNeel, 
 238 Fed. 559 618 
 
 First Trust & Savings Bank 
 V. Smietanka, 268 Fed. 230 
 136, 1270 
 
 Fish V. Irwin, U. S. Dist. Ct. 
 No. Dist. of N. Y 153 
 
 581 Diamonds v. U. S., 119 
 Fed. 556, 561 1272 
 
 Fletcher v. Peck, 6 Cranch 87.1006 
 
 Flint V. Stone- Tracy Co., 220 
 
 U. S. 107 211, 301, 
 
 489, 840, 850, 1012, 1013, 1154 
 
 Flour City Nat. Bank v. Shire, 
 88 (N. Y.) App. Div. 401, 
 84 N. Y. Supp. 810, aff'd 
 179 N. Y. 587, 72 N. E. 
 1141 1171 
 
 Flower v. Barnekoff, 20 Ore. 
 132, 25 Pac. 370 172 
 
 Fogg V. Blair, 139 U. S. 118, 
 127, 35 L. Ed. 104, 107, 11 
 Sup. Ct. Rep. 476 438 
 
 Foley V. Fletcher (1858) 3 
 Hurst & N. 769, 157 Eng. 
 Reprint, 678, 28 L. J. Exch. 
 N. S. 100, 5 Jur. N. S. 342, 
 
TABLE OF CASES 
 
 XXV 
 
 [References 
 
 7 Week Rep. 141, 4 Mor. 
 
 Min. Rep. 130 467 
 
 Polk V. State Capital Ass'n, 
 
 214 Pa. 529, 63 Atl. 1013. . . 319 
 Ford V. Delta & Pine Land 
 
 Co., 164 U. S. 662. . . .1263, 1273 
 Forty Fort Coal Co. v. Kirk- 
 
 endall, 233 Fed. 704 
 
 431, 453, 693 
 
 Foster v. HoUey's Adm'rs, 49 
 
 Ala. (1873) 593 1165 
 
 Fountain v. Wabash, 114 Mo. 
 
 App. 676 430 
 
 Frank Jones Brewing Co. v. 
 
 Apthorpe, 15 T. L. R. 113, 4 
 
 Tax Cas. 6 299 
 
 Franta v. Bohemian Union, 
 
 164 Mo. 304, 63 S. W. 1100. 327 
 Freedman v. Sigel, 9 Fed. 
 
 Cas. No. 5,080 378 
 
 Gaar, Scott & Co. v. Shannon, 
 
 223 U. S. 468 889 
 
 Galm V. U. S., 39 Ct. Cls. 55 
 
 374, 568, 1266 
 
 Garland v. Gaines, 73 Conn. 
 
 662, 49 Atl. 19 1242 
 
 Gavit V. Irwin, 275 Fed. 643. . 145 
 Gill V. Bartlett, 224 Fed. 927. .1269 
 Goldfield Consolidated Mines 
 
 Co. V. Scott, 247 U. S. 126 
 
 8, 725, 730 
 
 Goodrich v. Edwards, 41 Sup. 
 
 Ct. Rep. 390 407, 678, 1008 
 
 Goodrich v. Edwards, 65 L. 
 
 Ed. 450 389 
 
 Goodwine v. Wands, 25 Ind. 
 
 101 1244 
 
 Gouge V. Hart, 250 Fed. 802, 
 
 appeal dismissed 251 U. S. 
 
 542 851 
 
 Gould V. Gould, 245 U. S. 151 
 
 426, 538, 1270, 1272 
 
 Gramophone & Typewriter, 
 
 Ltd. V. Stanley (1906) 2 K. 
 
 B. 856, aff'd (1908) 2 K. B. 
 
 89, 99 L. T. R. 89 299 
 
 Granby Co. v. Webster, 98 
 
 Fed. 604 1217 
 
 Grand Rapids & Indiana Ry. 
 
 Co. V. Doyle, 245 Fed. 792 
 
 ......272, 571, 579, 584 
 
 are to pages.] 
 
 Grangiac v. Arden, 10 Johns. 
 (N. Y.) 293 826 
 
 Gray v. Darlington, 15 Wall. 
 63 407, 525, 1008 
 
 Great Northern Ry. Co. v. 
 Lynch, T. D. 3147 431, 539 
 
 Great Northern Ry. Co. v. 
 Lynch, U. S. Dist. Ct., Dist. 
 of Minn 432 
 
 Green, Matter of, 67 Hun. 527, 
 20 N. Y. Supp. 538, aff'd 22 
 N. Y. Supp. 1112 32 
 
 Greenport Basin Co. v. U. S., 
 269 Fed. 58 7, 890, 1034 
 
 Grier v. Tucker, 150 Fed. 658 915 
 
 Guaranty Title & Trust Co. v. 
 Title Guaranty & Surety 
 Co., 224 U. S. 152 873 
 
 Gulf Oil Co. V. Lewellyn, 248 
 U. S. 71, reversing 245 Fed. 
 1 which had reversed 242 
 Fed. 709 893 
 
 Gulf Oil Corporation v. Lew- 
 ellyn, 248 U. S. 71, distin- 
 guished in Walker v. Gulf 
 & Interstate Co., 269 Fed. 
 
 885 
 
 220, 222, 450, 453, 456, 519, 523 
 
 Haight V. Railroad Co., 6 
 Wall. 15 1002 
 
 Haiku Sugar Co. v. Johnstone, 
 249 Fed. 103 173, 175, 1270 
 
 Hale V. Henkle, 201 U. S. 43. . 947 
 
 Hall, In re, 167 U. S. 38 930 
 
 Hall's Safe Co. v. Herring, 
 etc., Co., 146 Fed. 37 223 
 
 Hamilton v. Rathbone, 175 U. 
 S. 414 1266, 1267 
 
 Hamlin, Matter of, 226 N. Y. 
 407, 414 1265 
 
 Hammer v. Dagenhart, 247 
 U. S. 251 1260 
 
 Harms v. McCormick, 132 111. 
 104, 22 N. E. 511 1084 
 
 Harriman v. Interstate Com- 
 merce Commission, 211 U. 
 S. 407 1009 
 
XXVI 
 
 TABLE OF CASES 
 
 [References 
 
 Harrison v. Glover, 72 N. Y. 
 451 429 
 
 Hartman v. Pistorius, 248 
 111. 568, 94 N. E. 131 1084 
 
 Harvey v. Wieland, 115 la. 
 564, 88 N. W. 1077 1244 
 
 Hastings v. Herold, 184 Fed. 
 759 914, 915, 923 
 
 Hatch v. The Boston, 3 Fed. 
 807, 810 906 
 
 Hawkins v. Spokane Hy- 
 draulic Co., 3 Idaho 650, 33 
 Pac. 40 212 
 
 Hawley, In re, 220 Fed. 372.. 1206 
 
 Hayden v. McMillan, 4 Tex. 
 Civ. App. 479, 23 S. W. 
 430 49 
 
 Hayes v. U. S., 150 Fed. 63. . .1269 
 
 Hays V. Gauley Mountain Coal 
 
 Co., 247 U. S. 189 343, 
 
 417, 431, 519, 559, 731, 732, 1008 
 
 Hedden v. Collector, 5 Wall. 
 107 1263 
 
 Hedden v. Richard, 149 U. S. 
 346 1262 
 
 Heller v. National Marine 
 Bank, 89 Md. 601, 43 Atl. 
 800 1068 
 
 Heller Hirsh & Co., In re, 258 
 Fed. 208 244, 265 
 
 Hempstead v. Thomas, 122 
 Fed. 538 1269 
 
 Henry v. North American Ry. 
 Const. Co., 158 Fed. 79 424 
 
 Herold v. Kahn, 159 Fed. 608 
 885, 887, 893 
 
 Herold v. Mutual Benefit In- 
 surance Co., 198 Fed. 199, 
 
 aff'd 201 Fed. 918 286 
 
 Herold v. Parkview Bldg. & 
 
 Loan Ass'n, 203 Fed. 876.. 321 
 Herold v. Parkview Building 
 
 & Loan Ass'n, 210 Fed. 577 . 1273 
 Herrington v. Davitt, 220 N. 
 Y. 162, 115 N. E. 476, 1 A. 
 
 L. R. 1700 907 
 
 Hicks V. James' Administra- 
 trix, 48 Fed. 542, aflf'd 110 
 
 U. S. 272 935 
 
 Hillebrant v. Brewer, 6 Tex. 
 45 826 
 
 are to 'pages.'\ 
 
 Hirth, In re, 189 Fed. 926 171 
 
 Ho Ah Kow V. Nunan, 5 
 
 Sawy. 552 1264 
 
 Holbrook v. Moore, U. S. 
 
 Dist. Ct. E. Dist. Mo., Ct. D. 
 
 10, T. B. 17-21-1592 
 
 345, 372, 801, 805 
 
 Holly Springs, etc., v. Super- 
 visors, 52 Miss. 281 455 
 
 Holyoke v. Jackson, 3 Wash. 
 
 Terr. 235, 3 Pac. 841 46 
 
 Holy Trinity Church v. U. S., 
 
 143 U. S. 457, 463 1264 
 
 Home Savings Bank v. Des 
 
 Moines, 205 N. S. 503 618 
 
 Home Tel. & Tel. Co. v. Los 
 
 Angeles (Cal.), 181 Pac. 
 
 815 892 
 
 Home Title Ins. Co. v. Keith, 
 
 230 Fed. 905 1191, 1245 
 
 Hook V. Garfield Coal Co., 112 
 
 Iowa 210, 83 N. W. 963 .. . 502 
 Hooper v. Whitaker, 130 Ala. 
 
 324, 30 So. 355 1244 
 
 Hoops V. Dunham, 41 Ga. 
 
 109 1242 
 
 Horgan, In re, 97 Fed. 319... 223 
 Houston Belt & Terminal Co. 
 
 V. U. S., 250 Fed. 1 500 
 
 Hudson's Bay Co. v. Thew, 
 
 Gt. Br. Tax Cases, Vol. VII, 
 
 Pt. II, p. 206 496 
 
 Hunter v. Corning & Co., 86 
 
 Fed. 913 1272 
 
 Hurst V. Lederer, T. D. 3221 . . 881 
 Huyvaerts v. Roedtz, 105 
 
 Wash. 657, 178 Pac. 801 .. . 46 
 
 Imperial Fire Ins. Co. v. Coos 
 
 Co., 151 U. S. 452, 462 283 
 
 Income Tax Act, In re, 10 
 
 Haw. 317 1012 
 
 Income Tax Cases, 148 Wis. 
 
 456, 134 N. W. 673, 135 N. 
 
 W. 164 
 
 ...1007, 1011, 1012, 1014, 1261 
 Industrial & General Trust v. 
 
 Tod, 180 N. Y. 215, 73 N. 
 
 E. 7 424 
 
 Industrial Trust Co. v. Walsh, 
 
 222 Fed. 437 .' 341 
 
TABLE OF CASES 
 
 XXVI 1 
 
 [References 
 In re Assessment of Taxes of 
 
 T. A. Hayes, 16 Haw. 796. . 568 
 In re Capital Trading Com- 
 pany, 229 Fed. 806 1206 
 
 In re Chadwick, 5 Fed. Cas. 
 
 No. 2, 570, 11 Int. Rev. 
 
 Rec. 126, 133 944 
 
 In re Chapman, 166 U. S. 661, 
 
 668 1009 
 
 In re Dunavant, 96 Fed. 542. . 826 
 
 In re Hall, 167 U. S. 38 930 
 
 In re Hawley, 220 Fed. 372.. 1206 
 In re Heller Hirsh & Co., 
 
 258 Fed. 208 244, 265 
 
 In re Hirth, 189 Fed. 926 171 
 
 In re Horgan, 97 Fed. 319 223 
 
 In re Income Tax Act, 10 
 
 Haw. 317 1012 
 
 In re Lippman, 3 Ben. 95, 15 
 
 Fed. Cas. No. 8,382, 9 Int. 
 
 Rev. Rec. 1 946 
 
 In re Muncie Pulp Co., 139 
 
 Fed. 546 222 
 
 In re O. R. & L. Co., 19 Haw. 
 
 544 1169 
 
 In re Pacific Ry. Commission, 
 
 32 Fed. 241 945, 1009 
 
 In re Phillips, 19 Fed. Cas. 
 
 No. 11,097, 10 Int. Rev. 
 
 Rec. 107 946 
 
 In re Piatt, 19 Fed. Cas. No. 
 
 11, 212 945 
 
 In re Rieger, Kapner & Alt- 
 mark, 157 Fed. 609 222 
 
 In re Southern Pacific Co., 82 
 
 Fed. 311. aff'd 87 Fed. 863. .1267 
 In re Strong, 1 Tax Cas. 207. . 548 
 In re Strouse, 23 Fed. Cas. 
 
 No. 13, 548, 1 Sawy. 605, 11 
 
 Int. Rev. Rec. 182 945 
 
 In re Swearinger, 23 Fed. 
 
 Cas. No. 13, 683 1268 
 
 In re Watertown Paper Co., 
 
 169 Fed. 252 222, 453 
 
 In re Williams, 40 Nev. 241, 
 
 .161 Pac. 741 48 
 
 Ins. Co. of North America v. 
 
 McCoach, 218 Fed. 905.... 343 
 Insurance Co. of North Amer- 
 ica v. McCoach, 218 Fed. 
 
 905, reversed 224 Fed. 657, 
 
 are to pages.] 
 
 661, writ of certiorari 
 granted 241 U. S. 694, re- 
 versed 244 U. S. 585 1266 
 
 International Mining Co. v. 
 Pennsylvania Railroad Co., 
 152 Fed. 557 947 
 
 International Paper Co. v. 
 Burrill, 260 Fed. 664 937 
 
 Interstate Commerce Commis- 
 sion V. Brinson, 154 U. S. 
 447, 478, 155 U. S. 3.. .946, 1009 
 
 Interstate Commerce Commis- 
 sion V. D. L. & W. R. Co., 
 220 U. S. 235 1268 
 
 Interstate Co. v. Baltimore & 
 0. Co., 51 Fed. 49 223 
 
 Ionia Co. Savings Bank v. 
 McLean, 84 Mich. 629, 48 
 N. W. 159 462 
 
 Iron Silver Min. Co. v. Camp- 
 bell, 135 U. S. 286, 298.... 846 
 
 Jackson v. Smietanka, 267 
 
 Fed. 932 807 
 
 Jackson v. Smietanka, 267 
 
 Fed. 932, aff'd, 272 Fed. 
 
 970 345, 372, 805, 806 
 
 Jacobs and Davies, Inc. v. 
 
 Anderson, 228 Fed. 505... 593 
 Jasper, etc., Ry. Co. v. Walk- 
 er, 238 Fed. 533. 1154 
 
 Jenks v. Brewster, 96 Fed. 
 
 625 224 
 
 Jennison v. Kirk, 98 U. S. 
 
 453, 459 1264, 1265 
 
 Jewelers Safety Fund Society 
 
 v. Lowe, 274 Fed. 93 283 
 
 Johnson v. Burford, 39 Tex. 
 
 242 45 
 
 Johnson v. Southern Pacific 
 
 Co., 196 U. S. 1 1272 
 
 Johnson v. U. S., 215 Fed. 
 
 679 1265 
 
 Jones V. Seward Co., 10 Nebr. 
 
 154, 4 N. W. 946 455 
 
 Kahn v. Herold, 147 Fed. 575, 
 aff'd 159 Fed. 608 886 
 
 Kaufman v. U. S., 96 U. S. 
 567 933 
 
 Keely v. Sanders, 99 U. S. 441 850 
 
XXVlll 
 
 TABLE OF CASES 
 
 [References 
 Kelly V. Gonce, 49 111. App. 
 
 82 457 
 
 Kemper Military School v. 
 
 Crutchley, 274 Fed. 125... 327 
 Kennosha v. Lamson, 9 Wall. 
 
 477 1217 
 
 Keokuk & W. R. Co. v. Mis- 
 souri, 152 U. S. 301 1273 
 
 Kidd V. Alabama, 188 U. S. 
 
 730 62 
 
 Kilbourn v. Thompson, 103 U. 
 
 S. 168 1009 
 
 Kimball v. Cotling, 234 Mass. 
 
 172, 125 N. E. 551 1004 
 
 King V. U. S., 99 U. S. 229. . . 869 
 King of Spain v. Oliver, 2 
 
 Wash. 429 870 
 
 Kings Co. Savings Inst. v. 
 
 Blair, 116 U. S. 200 930, 935 
 
 Klock Produce Co. v. Hart- 
 son, 212 Fed. 758 940 
 
 Knight V. Kaufman, 105 La. 
 
 35, 29 So. 711 45 
 
 Knowlton v. Moore, 178 U. S. 
 
 41, 77 1011, 1013, 1261, 1263 
 
 Knox V. Rossi, 25 Nev. 96, 57 
 
 Pac. 179, 48 L. R. A. 305 
 
 (note) 1242 
 
 Kodak Ltd. v. Clark (1902) 
 
 2 K. B. 450, aff'd (1903) 
 
 1 K. B. 505, 88 L. T. R. 
 
 155 299, 300 
 
 Kohlhamer v. Smietanka, 239 
 
 Fed. 408 896 
 
 Kohny v. Dunbar, 21 Idaho 
 
 258, 121 Pac. 544 47 
 
 Kollock, Ex parte, 165 U. S. 
 
 526 7 
 
 Komada v. U. S., 215 U. S. 
 
 392 1267 
 
 La Belle Iron Works v. U. S., 
 
 41 Sup. Ct. Rep. 528, 65 L. 
 
 Ed. 604 
 
 1013, 1041, 1087, 1261, 1264 
 
 La Belle Iron Works v. U. S., 
 
 decided June 28, 1920, Ct. 
 
 Cls. No. 34, 603 1266 
 
 Lamborn v. Comm'rs, 97 U. 
 
 S. 181 885, 886 
 
 Lane v. Smythe, 46 N. J. Eq. 
 
 443, 19 Atl. 199 1051 
 
 are to pages.'\ 
 
 Lapina v. Williams, 232 U. S. 
 
 78 199, 1265 
 
 Latimer v. U. S., 223 U. S. 
 
 501 1267 
 
 La Tourette v. La Tourette, 
 
 15 Ariz. 200, 137 Pac. 436. . 47 
 Landram v. U. S., 16 Ct. Cls. 
 
 74 8 
 
 Laurence v. Wardell, 270 Fed. 
 
 682, aflf'd 273 Fed. 405 45 
 
 Laurentide Co., Ltd. v. Durey, 
 
 231 Fed. 223 75, 1143 
 
 Lehigh Valley R. Co. v. Del- 
 
 achesa, 145 Fed. 617 223 
 
 Leicester v. Hoadley, 66 Kans. 
 
 113, 71 Pac. 318 545 
 
 Leprohon v. Ottawa, 2 Ont. 
 
 App. 522 379 
 
 Levy v. U. S., 271 U. S. 942 
 
 900, 903 
 
 Lewellyn v. Pittsburg, etc., R. 
 
 R. Co., 222 Fed. 177.. 1152, 1154 
 Lexington v. Butler, 14 Wall. 
 
 282 1217 
 
 Lincoln Chemical Co. v. Ed- 
 wards, 272 Fed. 142 1024 
 
 Lippman, In re, 3 Ben. 95, 15 
 
 Fed. Cas. No. 8,382, 9 Int. 
 
 Rev. Rec. 1 946 
 
 Little V. Bowers, 134 U. S. 
 
 547 886, 888 
 
 Little Schuylkill, etc. Co. v. 
 
 Philadelphia & Reading Ry. 
 
 Co., 44 P. A. County Court, 
 
 Rep. 197, aff'd 69 Pa. Super. 
 
 122 1004 
 
 Logan V. W. A. R. Co., 87 Ga. 
 
 533, 13 S. E. 516 1043 
 
 Loomis V. Wattles, 266 Fed. 
 
 876 533, 915 
 
 Loring v. Chase, 26 Misc. 318, 
 
 56 N. Y. Supp. 312 1244 
 
 Lowe V. Farbwerke-Hoechst 
 
 Co., 240 Fed. 671 1272 
 
 Lumber Mut. Fire Ins. Co. 
 
 V. Malley, 256 Fed. 380 
 
 284, 343 
 
 Lutton V. Baker, 187 la. 753, 
 
 174 N. W. 599 1244 
 
 Lynch v. Hornby, 236 Fed. 
 
 661, reversed in 247 U. S. 
 
 339 518 
 
TABLE OP CASES 
 
 XXIX 
 
 [References 
 Lynch v. Hornby, 247 U. S. 
 
 339 228, 512, 525, 733 
 
 Lynch v. Turrish, 247 U. S. 
 
 221 228, 344, 421, 512, 
 
 518, 556, 731, 733, 1008, 1264 
 Lynch v. Union Trust Co., 
 
 164 Fed. 161 1270 
 
 Mabie v. Whittaker, 10 Wash. 
 
 656, 39 Pac. 172 46 
 
 McCaskill v. U. S., 216 U. 
 
 S. 504 453 
 
 McClain v. Fleishman, 106 
 
 Fed. 880 1225 
 
 McCoach V. Continental Pas- 
 senger Ry. Co., 233 Fed. 
 
 976 1154 
 
 McCoach V. Insurance Co. of 
 
 North America, 244 U. S. 
 
 585, 37 Sup. Ct. 709 291, 293 
 
 McCoach V. Mine Hill & 
 
 Schuylkill Haven R. R. Co., 
 
 228 U. S. 295 1153 
 
 McCray v. U. S., 195 U. S. 
 
 27 ,. . 1010 
 
 McCullough V. Hopper, 47 N. 
 
 J. L. 189 862 
 
 McCullough V. Maryland, 4 
 
 Wheat. 316 379 
 
 McDaniel v. Harley, 42 S. W. 
 
 323 50 
 
 McDonald v. Hovey, 110 U. S. 
 
 619 1268 
 
 McKenzie v. Hare, 239 U. S. 
 
 299 1265 
 
 McKyring v. Bull, 16 N. Y. 
 
 297 937 
 
 McLean v. U. S., 226 U. S. 
 
 374 1265 
 
 McNally v. Field, 119 Fed. 
 
 445 1269 
 
 MacPherson & Co. v. Moore, 6 
 
 Br. Tax Cas. 107 72 
 
 Maddock v. Magone, 152 U. 
 
 S. 368 1262 
 
 Maguire v. Trefry, 253 U. S. 
 
 12, 230 Mass. 503, 120 N. 
 
 E. 162 36 
 
 Main v. Mills, Fed. Cas. No. 
 
 8974 218 
 
 Mallard v. Lawrence, 16 How. 
 
 251 1262 
 
 are to pages.'] 
 
 Malley v. Bowditch, 259 Fed. 
 809 1171, 1175, 1247 
 
 Mallory v. Hanaur Oil Works, 
 86 Tenn. 598, 8 S. W. 396. . 173 
 
 Mandell v. Pierce, 3 Cliff. 134, 
 16 Fed. Cas. No. 9008... 53, 145 
 
 Manning v. Burke, 107 La. 
 456, 31 So. 862 45 
 
 Manning v. Frazier, 96 111. 
 279 502 
 
 Mannington v. Hocking Val- 
 ley R. R. Co., 183 Fed. 133 . . 1262 
 
 Mansfield v. Excelsior Refin- 
 ing Co., 135 U. S. 326 872 
 
 Marconi Wireless Telegraph 
 Company of America v. 
 Duffy, 273 Fed. 197 1182 
 
 Markle v. Kirkendall, 267 
 Fed. 498 852 
 
 Marsal, Succession of, 118 La. 
 212, 42 So. 778 48 
 
 Marsching v. U. S., 113 Fed. 
 1006 1263 
 
 Marston v. Rue, 92 Wash. 129, 
 159 Pac. Ill 46 
 
 Maryland Casualty Co. v. U. 
 
 S., 251 U. S. 342 
 
 284, 285, 291, 292, 
 
 343, 344, 348, 349, 930, 935, 1266 
 
 Matter of Curtice. Ill App. 
 Div. (N. Y.) 230, 97 N. Y. 
 Supp. 444, aff'd 185 N. Y. 
 542, 77 N. E. 1184 480 
 
 Matter of Green, 67 Hun. 527; 
 20 N. Y. Supp. 538, aff'd 
 22 N. Y. Supp. 1112 32 
 
 Matter of Hamlin, 226 N. Y. 
 407, 414 1265 
 
 Matter of Osborne, 209 N. 
 Y. 450 524 
 
 Matter of Valentine, 147 N. 
 Y. Supp. 231 430 
 
 Mayor, etc., of City of Balti- 
 more V. Chesapeake & Poto- 
 mac Telephone Co., 92 Md. 
 692, 48 Atl. 465, 468 578 
 
 May, Succession of, 120 La. 
 692, 45 So. 551 48 
 
 Mears v. Bickford, 55 Maine 
 
 528 826 
 
 Meehan v. Valentine, 154 U. 
 S. 161, 173 171 
 
XXX 
 
 TABLE OF CASES 
 
 {_References 
 Mente v. Eisner, 266 Fed. 161 626 
 Merchants Loan & Trust Co. 
 
 V. Smietanka, 41 Sup. Ct. 
 
 Rep. 386 407, 525, 1008 
 
 Merck v. Treat 174 Fed. 388. 935 
 Merck v. Treat, 202 Fed. 133. 885 
 Merrell v. Moore, 47 Tex. Civ. 
 
 App. 200, 104 S. W. 514... 46 
 Merritt v. Cameron, 137 U. S. 
 
 542 1266 
 
 Miami & C. R. R. Co. v. U. 
 
 S., 108 U. S. 277 643 
 
 Middlesex Banking Co. v. 
 
 Eaton, 233 Fed. 87 234 
 
 Miller v. Gearin, 258 Fed. 
 
 225 498, 1270 
 
 Miller v. Snake River Valley 
 
 R. R. Co., 223 Fed. 946 1154 
 
 Miller & Lux v. East Side Co., 
 
 211 U. S. 293 223 
 
 Mitchell V. Commissioners, 9 
 
 Kans. 344, 91 U. S. 206 455 
 
 Mitchell V. Great Works Mill- 
 ing, etc. Co., 2 Story 653.. 1265 
 Moffit V. Kelly, 218 U. S. 400. 49 
 Mohawk Mining Co. v. Weiss, 
 
 U. S. Dist. Ct, No. D of 
 
 Ohio, I. T. S. 1919, par. 
 
 3635. Further opinion in 254 
 
 Fed. 502 728 
 
 Molly Varnum Chapter, D. A. 
 
 R. V. City of Lowell, 204 
 
 Mass. 487, 90 N. E. 893... 564 
 Moore v. Moore, 47 N. Y. 467 
 
 1242, 1244 
 
 Moore v. Stewarts & Lloyds, 
 
 (1906), 8 Frasier 1129 642 
 
 Morrill v. Jones, 106 U. S. 
 
 466 198 
 
 Morrill v. Jones, 106 U. S. 467 7 
 Mosle v. Bidwell, 130 Fed. 
 
 334 1265 
 
 Mt. Hermon Boys' School v. 
 
 Gill, 145 Mass. 139, 13 N. E. 
 
 354, 357 823 
 
 Mt. Vernon Co. v. Teschner, 
 
 108 Md. 158 430 
 
 Muncie Pulp Co., In re, 139 
 
 Fed. 546 222 
 
 Mustard v. Elwood, 223 Fed. 
 
 225 1268 
 
 Mutual Benefit Life Ins. Co. 
 
 are to pages.'] 
 
 V. Herold, 198 Fed. 199, 
 
 aff'd 201 Fed. 918 
 
 343, 572, 585, 1262, 1270 
 
 Mutual Benefit Life Ins. Co. v. 
 Herold, 198 Fed. 199, 209 
 283, 287, 293, 1148 
 
 Myers v. Albert, 76 Wash. 
 218, 135 Pac. 1003 50 
 
 Nash v. Classen, 163 111. 409, 
 45 N. E. 276 429 
 
 Nashville, Chattanooga & St. 
 Louis Ry. Co. v. U. S., 269 
 Fed. 351 690 
 
 National Bank of Commerce 
 V. Allen, 211 Fed. 743, aff'd 
 223 Fed. 472 618 
 
 National Bank of Commerce 
 
 V. Allen, 223 Fed. 472 
 
 862, 901, 1262 
 
 Nat. Co. V. Connecticut Co., 
 73 Fed. 491 223 
 
 Nat. Life & Accident Ins. Co. 
 V. Craig, 251 Fed. 524 1262 
 
 Neill Y. Shamburg, 158 Pa. 
 263, 27 Atl. 992 171 
 
 Nelson v. U. S., 201 U. S. 92. . 947 
 
 Newhall v. Jordan, 149 Fed. 
 586 886, 887 
 
 Newman v. Arthur, 109 U. 
 S. 132 1263 
 
 New York Central v. Gill, 219 
 Fed. 184 1154 
 
 New York Cent. R. Co. v. 
 Lockwood, 17 Wall. 357 639 
 
 New York Life Ins. Co. v. 
 Anderson, 257 Fed. 576... 8, 643 
 
 N. Y. Life Ins. Co. v. Ander- 
 son, 257 Fed. 576, reversed 
 in 263 Fed. 527 937 
 
 N. Y. Life Ins. Co. v. Ander- 
 son, 263 Fed. 527 940 
 
 New York Mail, etc., Co. v. 
 
 Anderson, 234 Fed. 590 
 
 935, 940, 1154 
 
 N. Y., N. H. & H. R. R. Co. 
 V. U. S., Ct. D. 3 1010 
 
 N. Y. Trust Co. v. Edwards, 
 
 42 Sup. Ct. Rep. 68 
 
 220, 350, 448, 529 
 
 New York Trust Co. v. Eisner, 
 U. S. Dist. Ct., So. Dist., 
 
TABLE OF CASES 
 
 XXXI 
 
 [References 
 
 N. Y., N. Y. Law Journal, 
 
 March 4, 1920 1270 
 
 New Zealand Co. v. Stephens, 
 
 24 T. L. R. 172 ... 299 
 
 Nichols V. Levy, 5 Wall. (U. 
 
 S.) 433, 442-3 457 
 
 Nichols V. U. S., 7 Wall. 122. . 912 
 Nickerson v. Nickerson, 65 
 
 Tex. 281 45 
 
 Nicol V. Ames, 173 U. S. 509 
 
 1212, 1245 
 
 Niles V. Central etc. Ins. Co., 
 
 252 Fed. 564 332 
 
 Nix V. Heddeil, 39 Fed. 109, 
 
 aff'd 149 U. S. 304 1262 
 
 Norfolk & W. R. Co. v. Reeves, 
 
 97 Va. 284, 33 S. E. 606. . . 429 
 North Amer. Tel. Co. v. 
 
 Northern Pac. Ry. Co., 254 
 
 Fed. 417 .424, 425 
 
 Northern Central R. R. Co. v. 
 
 Jackson, 7 Wall. 262 1004 
 
 Northern Commercial Co. v. 
 
 U. S., 217 Fed. 33 1264 
 
 Northern Co. v. Lowe, 250 
 
 Fed. 856 229, 501 
 
 Northern Pacific Railway Co. 
 
 v. Lynch, U. S. Dist. , Ct., 
 
 Dist. of Minnesota, T. D. 
 
 3048 495 
 
 Northern Pennsylvania R. R. 
 
 Co. V. Philadelphia & Read- 
 ing Ry. Co., 43 Pa. C. C. 
 
 150, aff'd 249 Pa. 326, 94 
 
 AtL 834 1003 
 
 Northern Trust Co. v. Buck, 
 
 263 111. 222, 104 N. E. 1114.1004 
 Northern Trust Co. v. Mc- 
 
 Coach, 215 Fed. 991 618 
 
 Northwestern Ins. Co. v. Pink, 
 
 248 Fed. 568 929 
 
 Northwestern Life Ass'n v. 
 
 Stout, 32 111. App. 31, 38.. 283 
 Nye v. Washburn, 125 Fed. 
 
 818 850 
 
 Oakes v. U. S., 174 U. S. 778. . 846 
 Ober V. Galligher, 93 U. S. 
 
 199 654 
 
 Ohio Oil Co. V. Indiana, 177 
 
 U. S. 190 502 
 
 are to pages.'] 
 
 Ohio R. June. R. R. Co. v. 
 
 Penna. Co., 222 Pa. St. 573, 
 
 72 AtL 271 1244 
 
 Old Colony R. Co. v. Gill, 257 
 
 Fed. 220 940, 1154 
 
 Oliver v. Robertson, 41 Tex. 
 
 422 50 
 
 Omaha & C. B. Street R. Co. 
 
 v. Interstate Commerce 
 
 Commission, 230 U. S. 324. .1265 
 0. R. & L. Co., In re, 19 
 
 Haw. 544 1169 
 
 Oregon Ry. Co. v. Oregonian 
 
 Ry. Co. 130 U. S. 1 219 
 
 Oregon-Washington Co. v. U. 
 
 S., 251 Fed. 211 230 
 
 Osborne, Matter of, 209 N. 
 
 Y. 450 524 
 
 Osgood V. Tax Commissioner, 
 
 235 Mass. 88, 126 N. E. 
 
 371 447, 1268 
 
 Osterberg v. Union Trust Co., 
 
 93 U. S. 424 872 
 
 Pacific Bldg. & Loan Ass'n v. 
 
 Hartson, 201 Fed. 1011 321 
 
 Pacific Ry. Commission, In re, 
 
 32 Fed. 241 945, 1009 
 
 Pargoud v. Richardson, 30 La. 
 
 Ann. 1286 1242 
 
 Park V. Gilligan, Dist. Ct. So. 
 
 Dist. Ohio, I. T. S. 1921, 
 
 TI3067 522, 527, 940 
 
 Parker v. Bethel Co., 96 Tenn. 
 
 252, 34 S. W. 209, 31 L. R. 
 
 A. 706 218 
 
 Parkview Building & Loan 
 
 Ass'n V. Harold, 203 Fed. 
 
 876, aff'd 210 Fed. 577.319, 1270 
 Patton V. Brady, Executrix, 
 
 184 U. S. 608 937, 1013 
 
 Patton V. U. S., 159 U. S. 
 
 500, 509 1263 
 
 Paul V. Virginia, 8 Wall. 168 . . 297 
 Peabody v. Eisner, 247 U. S. 
 
 347 349, 519, 528 
 
 Peacock v. Pratt, 121 Fed. 
 
 772 1012 
 
 Pearce v. Jackson, 61 Tex. 
 
 642 45 
 
 Pearce v. Madison, etc., R. 
 
 Co., 62 U. S. 441 173 
 
XXXll 
 
 TABLE OF CASES 
 
 [References 
 Peck V. Lowe, 247 U. S. 165 
 
 303, 379, 386 
 
 Penn. Collieries v. McKeever, 
 
 183 N. Y. 98 1152 
 
 Penn. Mutual Life Insurance 
 
 Co. V. Lederer, 252 U. S. 523 
 
 287, 463, 1149, 1264 
 
 Pennsylvania R. Co. v. Inter- 
 national Coal Min. Co., 230 
 
 U. S. 184 1265 
 
 Pennsylvania Steel Co. v. New 
 
 York City Railways Co., 193 
 
 Fed. 286, 198 Fed. 774 243 
 
 Penn. Steel Co. v. N. Y. City 
 
 Co., 198 Fed. 774, aff'd 231 
 
 U. S. 144 1270 
 
 People V. Albany Ins. Co., 92 
 
 N. Y. 458 455 
 
 Peo. V. Amer. Bell Tel. Co., 
 
 117 N. Y. 241, 22 N. E. 
 
 1057 219 
 
 People V. Board of Super- 
 visors, 60 N. Y. Supp. 1122. 578 
 Peo. V. Charles Schweinler 
 
 Press, 214 N. Y. 395 1264 
 
 People V. Coleman, 126 N. Y. 
 
 433, 27 N. E. 818 432 
 
 Peo. V. Hackley, 24 N. Y. 83 . . 946 
 Peo. V. Mensching, 187 N. Y. 
 
 8 1246 
 
 Peo. V. Sawyer, 27 N. Y. 
 
 Supp. 202 455 
 
 Peo. ex rel. Barbour v. Gates, 
 
 43 N. Y. 40 1242 
 
 Peo. ex rel. Ogdensburg Co. v. 
 
 Pond, 13 Abb. N. C. (N. Y.) 
 
 1, appeal dismissed 92 N. 
 
 Y. 643 431 
 
 Peppleton v. Yamhill, 8 Ore. 
 
 337 456 
 
 Perry v. Newsome, 19 Fed. 
 
 Cas. No. 11,009, 10 Int. 
 
 Rev. Rec. 1 946 
 
 Peterson v. Chicago, Rock 
 
 Island & Pac. Ry., 205 U. 
 
 S. 364 219 
 
 Peterson v. Chicago, etc., Co., 
 
 205 U. S. 362 224 
 
 Pettebone v. Smith, 150 Pa. 
 
 118, 24 Atl. 693 1004 
 
 Pewabic Min. Co. v. Mason, 
 
 are to pages.^ 
 
 145 U. S. 349, 12 Sup. Ct. 
 
 887 1043 
 
 Phelps-Stokes Estates v. 
 
 Nixon, 22 N. Y. 93, 118 N. 
 
 E. 241 1179 
 
 Philadelphia v. Collector, 5 
 
 Wall. 720 887, 933 
 
 Philadelphia & Reading R. Co. 
 
 V. Stichter, 11 Weekly 
 
 Notes of Cases, Pennsyl- 
 vania, 325 1068 
 
 Philadelphia City P. Ry. Co. 
 
 V. Philadelphia R. T. Co., 
 
 263 Pa. 561, 107 Atl. 329. . .1003 
 Phila. G. & N. R. Co. v. Phila. 
 
 & R. Ry. Co., 265 Pa. 325, 
 
 108 Atl. 528 1004 
 
 Philadelphia H. and P. R. Co. 
 
 V. Lederer, 242 Fed. 492.. 
 
 937, 1154 
 
 Philadelphia Traction Co. v. 
 
 McCoach, 224 Fed. 800 1154 
 
 Phillips, In re, 19 Fed. Cas. 
 
 No. 11,097, 10 Int. Rev. 
 
 Rec. 107 946 
 
 Phoenix Fire Ins. Co. v. Ten- 
 nessee, 161 U. S. 174 1273 
 
 Pickhardt v. Merritt, 132 U. 
 
 S. 252 1263 
 
 Pittsburg & Buffalo Co. v. 
 
 Duncan, 232 Fed. 584 . 222 
 
 Pittsburgh, etc., R. Co. v. 
 
 Keokuk, etc., Co., 131 U. S. 
 
 371 173 
 
 Piatt, In re, 19 Fed. Cas. No. 
 
 11,212 945 
 
 Plummer v. Hillsdale Coal 
 
 etc., Co., 163 Pa. 483, 28 
 
 Atl. 853 502 
 
 Polk V. Page, U. S. Dist. Court, 
 
 Dist. of Rhode Island 851 
 
 Pollard V. First Natl. Bank, 
 
 47 Kans. 406, 28 Pac. 202. . 455 
 Pollock V. Farmers Loan & 
 
 Trust Co., 157 U. S. 429, 
 
 584, 158 U. S. 601 
 
 4, 377, 489, 850, 1008 
 
 Porter v. Lederer, 267 Fed. 
 
 739 201 
 
 Powder Co. v. Burkhardt, 97 
 
 U. S. 110 .. 390 
 
TABLE OF CASES 
 
 XXXlll 
 
 [References 
 
 Powers V. Barney, 5 Blatch. 
 202 1268 
 
 Prentiss v. Eisner, 260 Fed. 
 589, aff'd 267 Fed. 16 617 
 
 Price V. Forrest, 173 U. S. 
 410, 427 1263 
 
 Providence Bank v. Billings, 4 
 Pet. 514 1273 
 
 P. S. Ry. Co. V. Herold, 219 
 Fed. 301 923, 936 
 
 P. S. Ry. Co. V. Herold, 229 
 Fed. 902, 910 937, 1154 
 
 Public Service Gas Co. v. Her- 
 old, 227 Fed. 496, 229 Fed. 
 902 923 
 
 Pullman Co. v. Missouri Pa- 
 cific Co., 115 U. S. 587.... 219 
 
 Railroad Co. v. Comm'rs, 98 
 U. S. 541 886 
 
 Railroad Co. v. Howard, 7 
 Wall. 392 267 
 
 Railway Co. v. Humboldt, 87 
 Kans. 1, 123 Pac. 727 892 
 
 Rainey v. U. S., 232 U. S. 310.1066 
 
 Rankin v. Hoyt, 4 How. 327.. 1269 
 
 Rankin v. Hoyt, 4 How. 332 
 1271, 1272 
 
 Ransom v. Burlington, 111 
 Iowa 77, 82 N. W. 427 455 
 
 Rau v. Union Paper Mill Co., 
 95 Ga. 208, 22 S. E. 146... 1043 
 
 Rau V. U. S., 260 Fed. 131, 
 136 365, 545, 909 
 
 Real Est. Savings Bank v. U. 
 S., 16 Ct. Cls. 335, Int. Rev. 
 Rec. 154, aff'd 104 U. S. 728 883 
 
 Redfield v. Bartels, 139 U. S. 
 694 940 
 
 Reg. V. Westbrook, 10 Q. B. 
 178, 205, 22 Eng. Rul. Cas. 
 623 502 
 
 Reiche v. Smythe, 13 Wall. 
 162 1263 
 
 Rensselaer & Saratoga R. R. 
 Co. V. Irwin, 249 Fed. 726. . 501 
 
 Rensselaer & Saratoga Rail- 
 road Co. V. Irwin, 249 Fed. 
 726, writ of certiorari de- 
 nied, 246 U. S. 671 229 
 
 Re Stanfield's Estate, 135 N. 
 Y. 292, 31 N. E. 1013....'. 129 
 
 are to pages.] 
 
 Revell V. Directors, 3 Gr. Br. 
 
 Tax Cas. 12 569 
 
 Rice V. U. S., 53 Fed. 910.... 
 
 75, 1262, 1269 
 
 Richmond Co. v. Richmond 
 
 Co., 68 Fed. 105 224 
 
 Ridgway v. U. S., 18 Ct. Cls. 
 
 707 919 
 
 Rieger, In re, Kapner & Alt- 
 mark, 157 Fed. 609 222 
 
 Rio Grande Junction Ry. Co. 
 
 V. U. S., 51 Ct. Cls. 274.... 1153 
 Roberts v. Anderson, 226 
 
 Fed. 7 211 
 
 Roberts v. Lowe, 236 Fed. 604 937 
 Roberts v. Pacific Nav. Co., 
 
 104 Fed. 577 1272 
 
 Roberts v. Southern Pacific 
 
 Co., 186 Fed. 934, aff'd 219 
 
 Fed. 1022 1265 
 
 Robertson v. Downing, 127 U. 
 
 S. 607 1266 
 
 Robertson v. Pratt, 13 Haw. 
 
 590 157, 1006, 1012 
 
 Robinson v. Belt, 187 U. S. 
 
 41 1268 
 
 Rockefeller v. O'Brien, 224 
 
 Fed. 541, aff'd 239 Fed. 127.1269 
 Rockefeller v. U. S., 42 Sup. 
 
 Ct. Rep. 68... 220, 350, 448, 529 
 Rock Island & C. R. Co. v. 
 
 U. S., 254 U. S. 141 
 
 883, 891, 914, 915, 934 
 
 Rossman v. Hedden, 145 U. 
 
 S. 561 1262 
 
 Rounds Bros. v. McDaniel, 133 
 
 Ky. 669, 118 S. W. 956, 958 826 
 Routh V. Routh, 57 Tex. 589. . 46 
 Rowe V. Bowman, 183 Mass. 
 
 488, 67 N. E. 636 1242, 1244 
 
 Sackett v. McCaffrey, 131 Fed. 
 
 219 1243, 1246 
 
 Safe Deposit & Trust Co. of 
 
 Baltimore v. Miles, U. S. 
 
 Dist. Ct., Dist. of Md. I. T. 
 
 S. 1921, 113033 550 
 
 Sage v. U. S., 250 U. S. 33... 937 
 St. Clement v. L'Institute 
 
 Jacques Cartier, 95 Maine 
 
 493, 50 Atl. 376 327 
 
XXXIV 
 
 TABLE OF CASES 
 
 [References 
 St. Louis Breweries v. Ap- 
 
 thorpe, 79 L. T. R. 551, 15 
 
 T. L. R. 112, 4 Tax Cas. 
 
 Ill 299 
 
 Sammons v. Halloway, 21 
 
 Mich. 162 1242 
 
 Sanborn v. Stetson, 21 Fed. 
 
 Cas. 12,291, 2 Story 481 .. . 32 
 San Francisco Co. v. Scott, 
 
 253 Fed. 854 689, 691, 697 
 
 San Francisco Society v. Gary, 
 
 2 Sawy. 393, and T. D. 1293, 
 
 T. D. 974 915 
 
 San Paulo Ry. Co. v. Carter 
 
 (1896), App. Cas. 31, 73 L. 
 
 T. 538 298 
 
 Saunders v. Isbell, 5 Tex. Civ. 
 
 App. 513, 24 S. W. 307 46 
 
 Savings Bank v. Archbold, 
 
 104 U. S. 708 896 
 
 Saxonville Mills v. Russell, 116 
 
 U. S. 21 1267 
 
 S. C. v. Gaillard, 101 U. S. 
 
 433 930 
 
 Schell V. Alston Mfg. Co., 149 
 
 Fed. 439 33 
 
 Schneider v. Barney, Fed. 
 
 Cas. No. 12,462 933 
 
 Schramm v. Steele, 97 Wash. 
 
 309, 166 Pac. 634 46 
 
 Schriefer v. Wood, 21 Fed. 
 
 Cas. No. 12,481 1262 
 
 -Schuylkill Nav. Co. v. Elliott, 
 
 21 Fed. Cas. No. 12,497. . .1014 
 Schwarzchild & Sulzberger v. 
 
 Rucker, 143 Fed. 656... 915, 935 
 Scofield et al. v. Alcott et al., 
 
 120 111. 362, 11 N. E. 351, 
 
 352 457 
 
 Scott V. Schwab, 255 Fed. 57. .1008 
 Scott V. Western Pac. Ry. 
 
 Co., 246 Fed. 545 851, 1270 
 
 Searchlight Co. v. American 
 
 Co., 240 Fed. 745....' 223 
 
 Searls v. Flora, 225 111. 167, 
 
 80 N. E. 98 1084 
 
 Seldon v. Equitable Trust Co., 
 
 8 Fed. Cas. No. 4,508, aflf'd 
 
 94 U. S. 419 1262 
 
 Sergeant v. Goldsmith Co., 
 
 110 Tex. 482, 159 S. W. 
 
 1036, 221 S. W. 259 283 
 
 are to pages.} 
 
 Sesnon Co. v. U. S., 182 Fed. 
 
 573, writ of certiorari de- 
 nied 220 U. S. 609 1261, 1272 
 
 Shaefer v. Ketchum, 21 Fed. 
 
 Cas. No. 12,693 884 
 
 Shafer v. Craft, 144 Fed. 907. 934 
 Shallus V. U. S., 162 Fed. 653 
 
 1265, 1269 
 
 Shea V. Nilima, 133 Fed. 209. . 171 
 Shepherd v. May, 115 U. S. 
 
 505 654 
 
 Sherburne v. Hartland, 37 Vt. 
 
 528 826 
 
 Sherlock v. Denny, 28 Wash. 
 
 170, 68 Pac. 452 45 
 
 Shotwell V. Moore, 45 Ohio 
 
 632, 16 N. E. 470, 129 U. 
 
 S. 590 455 
 
 Silvey v. Axley, 118 N. C. 
 
 959, 23 S. E. 933 654 
 
 Simons v. U. S., 19 Ct. Cls. 
 
 601 888 
 
 Simpson v. Brotherton, 62 
 
 Tex. 170 46 
 
 Simpson v. Treat, 126 Fed. 
 
 1003 1218, 1246 
 
 Singer Mfg. Co. v. McCollock, 
 
 24 Fed. 667 1264 
 
 Sisler v. Foster, 72 Ohio 437, 
 
 74 N. E. 649 455 
 
 Sisson v. Cleveland & T. R. 
 
 Co., 14 Mich. 489 429 
 
 Sixty Pipes Brandy, 10 Wheat. 
 
 424 1272 
 
 Skinner v. Union Pacific Coal 
 
 Co., 249 Fed. 152 519 
 
 Small V. Slocumb, 112 Ga. 279, 
 
 37 S. E. 481 1242 
 
 Smietanka v. U. S., decided 
 
 by U. S. Supreme Court, 
 
 October 24, 1921 937 
 
 Smietanka v. Zibell, 263 Fed. 
 
 883 873 
 
 Smietanka v. Zibell, U. S. C. 
 
 C. A., 7th Circ. T. D. 3000. .1267 
 Smietanka, v. Indiana Steel 
 
 Co., 42 Sup. Ct. Rep. 1 937 
 
 Smith V. British Steamship 
 
 Co., 123 Fed. 176 639 
 
 Smith V. Howell, 60 N. J. L. 
 
 384 490 
 
TABLE OF CASES 
 
 XXXV 
 
 [References 
 
 Smythe v. Fiske, 23 Wall. 
 
 374, 380 
 
 ...1263, 1266, 1269, 1271, 1272 
 Smythe v. Pure Ice Co., 193 
 
 App. Div. (N. Y.) 479 1179 
 
 Snyder v. Marks, 109 U. S. 
 
 189 850 
 
 Society V. City of Cleveland, 
 
 43 O. S. 481, 3 N. E. 357. . . 218 
 Sonn V. Magone, 159 U. S. 
 
 417 1262 
 
 South Carolina Dispensary 
 
 Case, 199 U. S. 437 490 
 
 South Carolina v. U. S., 199 
 
 U. S. 437 489 
 
 Southern Co. v. Interstate 
 
 Commerce Commission, 219 
 
 U. S. 497 223 
 
 Southern Pacific Co. v. Lowe, 
 
 238 Fed. 847, reversed in 
 
 247 U. S. 330 519 
 
 Southern Pac. Co. v. Lowe, 
 
 247 U. S. 330, 38 Sup. Ct. 
 
 540, 62 L. Ed. 1142.... 220, 
 
 221, 421, 450, 453, 456, 523, 556 
 Southern Pacific Co., In re, 
 
 82 Fed. 311, aff'd 87 Fed. 
 
 863 1267 
 
 Southern Pacific R. R. Co. v. 
 
 Muenter, 260 Fed. 837.. 239, 341 
 Southwestern R. R. Co. v. 
 
 Wright, 116 U. S. 231 1273 
 
 Spencer v. Jones, 92 Tex. 516, 
 
 50 S. W. 118 172 
 
 Spencer v. Merchant, 125 U. 
 
 S. 345 1010 
 
 Spencer "v. Smith, 201 Fed. 
 
 647 1068 
 
 Spooner v. Phillips, 62 Conn. 
 
 62, 24 Atl. 524 502 
 
 Spreckels v. Spreckels, 116 
 
 Cal. 339, 48 Pac. 228 49 
 
 Spreckels Sugar Ref. Co. v. 
 
 McClain, 192 U. S. 397.... 
 
 211, 1270 
 
 Springer v. U. S., 102 U. S. 
 
 586 873 
 
 Sprinkle v. U. S., 141 Fed. 
 
 811 8 
 
 Spruance ex rel. v. Farmers 
 
 & Merchants Insurance 
 
 Company, 10 Pac. 285, 287. .1149 
 
 are to pages."] 
 
 Stanfield's Estate, Re, 135 N. 
 
 Y. 292, 31 N. E. 1013 129 
 
 Stearns Coal Co. v. Van 
 
 Winkle, 221 Fed. 590. 1043 
 
 Stefel V. Brown, 24 Mo. App. 
 
 102 455 
 
 Stegall V. Thurman, 175 Fed. 
 
 813 7 
 
 Stein V. Hartshore, 123 App. 
 
 Div. (N. Y.) 467 430 
 
 Stevens v. Stevens, 132 Mo. 
 
 App. 624 ". 639 
 
 Stewart v. Barnes, 153 U. S. 
 
 456 884, 939 
 
 Stockdale v. Insurance Com- 
 panies, 20 Wall. 328. .1014, 1264 
 Stockton v. Lederer, 262 Fed. 
 
 173, aff'd 266 Fed. 676 116 
 
 Stone V. Tax Commissioner, 
 
 235 Mass. 93, 126 N. E. 373 447 
 Stotesbury v. U. S., 23 Ct. 
 
 Cls. 285 920 
 
 Standard Oil Co. v. U. S., 221 
 
 U. S. 1 1265 
 
 Stanton v. Baltic Mining Co., 
 
 240 U. S. 103 850, 1012 
 
 State V. Alley, 96 Miss. 720, 
 
 51 So. 467 283 
 
 State V. Evans, 99 Minn. 220, 
 
 108 N. W. 958 502 
 
 State v. Prear, 148 Wis. 456, 
 
 134 N. W. 673, 135 N. W. 
 
 164 4, 351 
 
 State V. Franklin Bank, 10 
 
 Ohio 91 519 
 
 State V. Lee (Wis.) 178 N. 
 
 W. 471 431 
 
 State V. Royal Mineral Asso- 
 ciation, 132 Minn. 232, 156 
 
 N. W. 128 502 
 
 State V. Willett, 171 Ind. 296, 
 
 86 N. E. 68, 70 1149 
 
 State ex rel. Arpin v. Eber- 
 
 hardt, 158 Wis. 20... 1263, 1264 
 State ex rel. Bundy v. Ny- 
 gaard (Wis.), 158 N. W. 
 
 87 418 
 
 State ex rel. Houghton v. 
 
 Phelps (Wis.), 176 N. W. 
 
 217 372, 805 
 
 State ex rel. Pfister v. Widule 
 (Wis.), 163 N. W. 641 519 
 
XXXVl 
 
 TABLE OF CASES 
 
 [References 
 
 State ex rel. Manitowoc Gas 
 Co. V. Wis. Tax Commis- 
 sion, 161 Wis. Ill, 152 N. 
 W. 848 72, 1006 
 
 State ex rel. Moon v. Nygaard 
 (Wis.), 175 N. W. 810 524 
 
 State ex rel. Moon Co. v. 
 Wisconsin Tax Commission, 
 166 Wis. 287, 163 N. W. 639, 
 165 N. W. 470, appeal dis- 
 missed in 249 U. S. 621 
 
 35, 344, 519 
 
 State ex rel. Mosely v. John- 
 son, 144 N. C. 257, 56 S. E. 
 922, 929 429 
 
 State ex rel. Wisconsin Trust 
 Co. V. Widule, 164 Wis. 56, 
 159 N. W. 630 149, 1261 
 
 State Line & S. E. Co. v. 
 Davis, 228 Fed. 246... 935, 1154 
 
 State R. R. Tax Cases, 92 U. 
 S. 575 850 
 
 Stratton's Independence v. 
 Howbert, 231 U. S. 399, 34 
 Sup. Ct. 136.4,340,502,693, 
 725, 730, 731, 1008, 1261 1264 
 
 Strauss v. Abrast Realty Co., 
 200 Fed. 327 850 
 
 Strong, In re, 1 Tax Cas. 207. 548 
 
 Strouse, In re, 23 Fed. Cas. 
 No. 13,548, 1 Sawy. 605, 11 
 Int. Rev. Rec. 182 945 
 
 Stuart y. Maxwell, 16 How. 
 
 160 1267 
 
 Succession of Marsal, 118 La. 
 
 212, 42 So. 778 48 
 
 Succession of May, 120 La. 
 692, 45 So. 551 48 
 
 Succession of Webre, 49 La. 
 Ann. 1491, 22 So. 390 45 
 
 Sulley V. Attorney-General, 5 
 H. & N. 711, 2 Br. Tax 
 Cas. 149 70 
 
 Suter V. Jordan-Marsh Com- 
 pany, 225 Mass. 34, 113 N. 
 E. 580 35, 1002 
 
 Swearinger, In re, 23 Fed. 
 Cas. No. 13,683 1268 
 
 Sweetser v. Emerson, 236 Fed. 
 
 161 1265 
 
 Swift v. U. S., Ill U. S. 22 
 
 884, 890 
 
 are to pages.^ 
 
 Swift Company v. U. S., 105 
 
 U. S. 691 1266 
 
 Swigart v. Baker, 229 U. S. 
 
 187 1268 
 
 Sybrandt v. U. S., 19 Ct. Cls. 
 
 461 919 
 
 Taber v. U. S., 23 Fed. Cas. 
 
 No. 13,722 1263 
 
 Tannehill v. Tannehill, 171 S. 
 
 W. 1050 49 
 
 Taylor v. Duncan, 33 Tex. 
 
 (1870) 440 1165 
 
 Taylor v. U. S., 3 How. 197, 
 
 210 1271 
 
 Taylor v. Weeks, 129 Mich. 
 
 233, 88 N. W. 466 907 
 
 Teagarden v. Garver, 24 Ind. 
 
 399 1165 
 
 Tennant v. Smith (1892), A. 
 
 C. 150, 66 L. T. 327, 3 Tax 
 
 Cas. 158 351, 370, 452 
 
 Tennessee v. Whitworth, 117 
 
 U. S. 139 1273 
 
 Terry v. Merchants & P. Bk., 
 
 66 Ga. 177 .1043 
 
 Texas, etc., Ry. Co. v. Swear- 
 
 ingen, 196 U. S. 51, 60 846 
 
 Thayer v. Clarke, 77 S. W. 
 
 1050, aff'd 98 Tex. 142, 81 
 
 S. W. 1274 50 
 
 The Hattie Law, 14 Fed. 880. 826 
 Thomas v. Railroad, 101 U. S. 
 
 71 173 
 
 Thomas v. U. S., 192 U. S. 
 
 363 ■ 1245 
 
 Tinker v. Colwell, 193 U. S. 
 
 473, 487 545 
 
 Todd v. Gamble, 148 N. Y. 
 
 382, 42 N. E. 982 430 
 
 Towne v. Eisner, 245 U. S. 
 
 418 531 
 
 Towne v. McElligott, U. S. 
 
 Dist. Ct. So. Dist. of New 
 
 York decided August 6, 1921 635 
 Traction Companies v. Col- 
 lector of Internal Rev., 223 
 
 Fed. 984 1154 
 
 Travis v. Ann Arbor Co., 180 
 
 N. Y. App. Div. 799, 168 
 
 N. Y. Supp. 53, aff'd 227 
 
TABLE OF CASES 
 
 XXXVll 
 
 \_References 
 
 N. Y. 640, 126 N. E. 923 
 
 1178, 1185 
 
 Treat v. Farmers Loan and 
 
 Trust Co., 185 Fed. 760, 
 
 763 941 
 
 Treat v. Tolman, 113 Fed. 892 
 
 1209, 1269 
 
 Treat v. White, 181 U. S. 264 
 
 ....1177, 1209, 1261, 1262, 1269 
 Trefry v. Putnam, 227 Mass. 
 
 522, 116 N. E. 904 
 
 112, 339, 340, 
 
 519, 549, 550, 1007, 1008, 1123 
 Tucker v. Carr, 39 Tex. 98. . . 45 
 Turner v. Cupson, 2 Tax Cas. 
 
 422 548 
 
 Turner v. Rickman, 4 Br. Tax 
 
 Cas. 25 72 
 
 Turton v. Cooper, 5 Tax Cas. 
 
 148 548 
 
 Twenty-Eight Cases, 2 Ben. 
 
 63 1269 
 
 Underwood Typewriter Co. v. 
 Chamberlain, 92 Conn. 199, 
 102 Atl. 600, 254 U. S. 113 
 891, 1006 
 
 Ulmer v. Luna Rock Co. 
 (Me.), 66 L. R. A. 387, 98 
 Me. 579, 57 Atl. 1001 218 
 
 Union Hollywood Water Co. v. 
 Carter, 238 Fed. 329 572 
 
 Union Ins. Co. v. Hoge, 21 
 How. 35, 64 283, 1149 
 
 Union Pacific Co. v. Dodge, 
 98 U. S. 541 886, 888 
 
 Union Transit Co. v. Ken- 
 tucky, 199 U. S. 194 36 
 
 U. S. V. Acorn Roofing Co., 
 204 Fed. 157 246, 909 
 
 U. S. V. Aetna Life Ins. Co., 
 260 Fed. 333 618 
 
 U. S. V. Alexander, 110 U. S. 
 325 914 
 
 U. S. V. Allen, 14 Fed. 263. . . 872 
 
 U. S. V. A Lot of Silk Um- 
 brellas, 12 Fed. 412 1272 
 
 U. S. V. Alpha Portland Ce- 
 ment Co., 257 Fed. 432, 242 
 Fed. 978, 261 Fed. 339 453 
 
 U. S. V. Baltimore & Ohio R. 
 R. Co., 17 Wall. 322 1004 
 
 are to pages.] 
 
 U. S. V. Barrels of Spirits, 2 
 
 Abb. (U. S.) 305, 314 1271 
 
 U. S. V. Baruch, 223 U. S. 
 
 191 1268 
 
 U. S. V. Bayard, 127 U. S. 
 
 251 939 
 
 U. S. V. Bennett, 232 U. S. 
 
 299 1264 
 
 U. S. V. Benowitz, 262 Fed. 
 
 223 836 
 
 U. S. V. Biwabik Mining Co., 
 
 247 U. S. 116 502, 729, 730 
 
 U. S. V. Blacklock, 208 U. 
 
 S. 75 871, 872 
 
 U. S. V. Black, 128 U. S. 40. . . 850 
 U. S. V. B. & O. Railroad Com- 
 pany, 17 Wall. 322 489, 490 
 
 U. S. V. Bowen, 100 U. S. 508.1267 
 U. S. V. Breed, 24 Fed. Cas. 
 
 No. 14, 638 1271 
 
 U. S. V. Brooklyn, etc., Ry. 
 
 Co., 14 Fed. 284 911 
 
 U. S. V. Brown, 224 Fed. 135 . . 1272 
 U. S. V. Capital City Dairy 
 
 Co., 252 Fed. 900 265, 268 
 
 U. S. V. Cases of Cloth, Crabbe 
 
 356 1271 
 
 U. S. V. Cerecedo Hermanos y 
 
 Compania, 209 U. S. 338... 
 
 1266, 1267 
 
 U. S. V. Chamberlin, 219 U. 
 
 S. 250 869, 1244 
 
 U. S. V. Chesbrough, 176 Fed. 
 
 778 1262 
 
 U. S. V. Chouteau, 102 U. S. 
 
 603 909 
 
 U. S. V. Cleveland C. C. & St. 
 
 L. Ry. Co., 247 U. S. 195... 
 
 519, 731, 732, 1008 
 
 U. S. V. Cleveland, Cinn., Chi- 
 cago & St. Louis Ry. Co., 
 
 U. S. Dist. Ct. So. Dist. 
 
 "Ohio, Feb. 23, 1916 (not re- 
 ported) 659 
 
 U. S. V. Colby, 251 Fed. 982, . 
 
 aff'd 258 Fed. 27 511 
 
 U. S. V. Cole, 134 Fed. 697. . .1272 
 U. S. V. Collier, 25 Fed. Cas! 
 
 No. 14,833 1267 
 
 U. S. V. Coombs, 12 Peters 
 
 72, 80 1124 
 
XXXVlll 
 
 TABLE OF CASES 
 
 [References 
 U. S. V. Coulby, 251 Fed. 982, 
 
 aflf'd 258 Fed. 27 
 
 78, 166, 175, 1270, 1273 
 
 U. S. V. Curry, 201 Fed. 371 
 
 871, 872 
 
 U. S. V. Delaware & H. Co., 
 
 213 U. S. 366 1006 
 
 U. S. V. Distilled Spirits, 27 
 
 Fed. Cas. No. 15,960, 10 
 
 Blatch. 428 1270, 1273 
 
 U. S. V. Distillery No. 28, 25 
 
 Fed. Cas. No. 14,966 944 
 
 U. S. V. Eaton, 144 U. S. 677. 7 
 U. S. V. 84 Boxes of Sugar, 
 
 7 Pet. 453 1272 
 
 U. S. V. Emery, 237 U. S. 28 
 
 937, 1153 
 
 U. S. V. Erie R. R., 106 U. S. 
 
 327 869 
 
 U. S. V. Falk & Bro., 204 U. 
 
 S. 143, 152 1267 
 
 U. S. V. Fidelity Trust Co., 
 
 222 U. S. 158 1262 
 
 U. S. V. Field, decided by U. S. 
 
 Supreme Court, February 
 
 28, 1921 1270 
 
 U. S. V. Fisk, 3 Wall. 445 1262 
 
 U. S. V. Frost, 25 Fed. Cas. 
 
 No. 15,172 651 
 
 U. S. V. Gallant, 177 Fed. 281.1272 
 U. S. V. General Inspection 
 
 and Loading Co., 192 Fed. 
 
 223, 204 Fed. 657 
 
 249, 265, 268, 858 
 
 U. S. V. Goelet, 232 U. S. 293. 39 
 U. S. V. Graft Distilling Co., 
 
 208 U. S. 198 1272 
 
 U. S. V. Graham, 110 U. S. 
 
 219 1266 
 
 U. S. V. Grand Rapids, etc., 
 
 Ry. Co., 239 Fed. 153. . .861, 869 
 U. S. V. Guaranty Trust & 
 
 Savings Bank, 253 Fed. 291 618 
 U. S. V. Guggenheim Explora- 
 tion Co., 238 Fed. 231 
 
 342, 431, 453 
 
 U. S. V. Hirsch, 100 U. S. 
 
 33 1267 
 
 U. S. V. Hodson, 14 Int. Rev. 
 
 Rec. 100, 10 Wall. 395, 
 
 406 5, 1271 
 
 are to pages."] 
 
 U. S. V. Howell, 9 Fed. 674. . . 873 
 U. S. V. Hooslef, 237 U. S. 1 
 
 1198, 1218, 1246 
 
 U. S. V. Isham, 17 Wall. 476, 
 
 84 U. S. 496 456, 
 
 903, 1217, 1262, 1263, 1268 
 U. S. V. Johnson, 124 U. S. 
 
 236 1266 
 
 U. S. V. Kaufman, 96 U. S. 
 
 567 912 
 
 U. S. V. Kelly, 97 Fed. 460. . . 930 
 U. S. V. Lamson, 162 Fed. 
 
 165 8 
 
 U. S. V. Lehigh Valley Co., 
 
 220 U. S. 254 223, 453 
 
 U. S. V. Little Miami Co., 1 
 
 Fed. 700 869 
 
 U. S. V. Maillard, 26 Fed. Cas. 
 
 No. 15,709 906 
 
 U. S. V. Masters, 264 Fed. 
 
 250 1242 
 
 United States v. Mayer, 26 
 
 Fed. Cas. No. 15,753 651 
 
 U. S. V. McHatton, 266 Fed. 
 
 602, A. R. R. 565 268, 1014 
 
 U. S. v. Mellon, U. S. Dist. 
 
 Ct. W. Dist. Pa., I. T. S. 
 
 1921, 1[3091 530, 533 
 
 U. S. V. Merck & Co., 91 Fed. 
 
 639, aflF'd 97 Fed. 989 1269 
 
 U. S. V. Mescall, 215 U. S. 
 
 26 1263 
 
 U. S. V. Military Construction 
 
 Co., 204 Fed. 153 246 
 
 U. S. V. Milwaukee Co., 142 
 
 Fed. 247, 253 222, 453 
 
 U. S. V. Minneapolis Thresh- 
 ing Mach. Co., 229 Fed. 1019 
 
 860, 868, 869 
 
 U. S. V. Nashville Rd. Co., 118 
 
 U. S. 125 906 
 
 U. S. V. Nashville, etc., Ry. 
 
 Co., T. D. 2697 869 
 
 U. S. V. Nashville, etc., Ry. 
 
 Co., 249 Fed. 678 899 
 
 U. S. V. Nat. Surety Co., 122 
 
 Fed. 904, 909 1272 
 
 U. S. V. Nebraska Distilling 
 
 Co., 80 Fed. 285 851 
 
 U. S. V. Neustaedter, 149 Fed. 
 
 1010 1205 
 
TABLE OF CASES 
 
 XXXIX 
 
 [References 
 
 U. S. V. N. Y. & Cuba, etc., 
 
 Co., 200 U. S. 488 
 
 886, 887, 889, 1249 
 
 U. S. V. N. Y. Guaranty Co., 
 8 Ben. 269 911 
 
 U. S. V. N. Y., N. H. & H. 
 R. E. Co., 265 Fed. 331.... 234 
 
 U. S. V. Ninety-Nine Dia- 
 monds, 139 Fed. 961, writ of 
 certiorari denied 201 U. S. 
 645 513, 1261, 1262, 1263 
 
 U. S. V. Nipissing Mines Co., 
 202 Fed. 803, reversed in 
 206 Fed. 431 693 
 
 U. S. V. Nipissing Mines Co., 
 206 Fed. 431, 234 U. S. 765 
 219, 265, 938, 1154 
 
 U. S. V. Olney, 27 Fed. Cas. 
 No. 15,918 1269 
 
 U. S. V. l,150i Lbs. of Cellu- 
 loid, 82 Fed. 627 638 
 
 U. S. V. l,150i Pounds Cellu- 
 loid, 82 Fed. 634 1272 
 
 U. S. V. Oregon, Washington, 
 etc., Co., 251 Fed. 211.. 340, 539 
 
 U. S. V. Pacific R. R., 1 Fed. 
 97 871, 872 
 
 U. S. V. Phellis, 42 Sup. Ct. 
 
 Rep. 63 220, 
 
 350, 426, 441, 448, 433, 529 
 
 U. S. V. Philadelphia B. & 
 W. R. Co., 262 Fed. 188. .. . 531 
 
 U. S. V. Philadelphia Knitting 
 Mills Co., 273 Fed. 65 593 
 
 U. S. V. Pittaro, I. T. S. 1921, 
 U 2358 881 
 
 U. S. V. Pomeroy, 152 Fed. 
 279, reversed in 164 Fed. 
 324 896 
 
 U. S. V. Railroad Co., 17 Wall. 
 322 357 
 
 U. S. V. Ramsey, 197 Fed. 144, 
 147 1272 
 
 U. S. V. Rhawn, 27 Fed. Cas. 
 No. 16,150 948 
 
 U. S. V. Richardson, 9 Fed. 
 804 911 
 
 U. S. V. Ritchie, 27 Fed. Cas. 
 No. 16,168 378 
 
 U. S. V. Savings Bank, 104 
 U. S. 728 912, 933 
 
 are to pages.l 
 
 U. S. V. St. Louis S. W. Ry., 
 
 189 Fed. 954, 962 1272 
 
 U. S. V. St. Paul M. & M. R. 
 
 Co., 247 U. S. 310, 318.... 
 
 201, 1121, 1265 
 
 U. S. V. Schellenger, 14 Blatch. 
 
 71, 27 Fed. Cas. No. 16,228 
 
 343, 351, 352 
 
 U. S. V. Sixty-Five Terra 
 
 Cotta Vases, 18 Fed. 508, 
 
 510 1263, 1267 
 
 U. S. v. Smith, 27 Fed. Cas. 
 
 No. 16,341 351, 352 
 
 U. S. v. Snyder, 149 U. S. 210 871 
 U. S. V. Standard Oil Co., 221 
 
 U. S. 1 1264 
 
 U. S. V. Stowell, 133 U. S. 1. .1271 
 U. S. V. Tanner, 147 U. S. 
 
 661 1266 
 
 U. S. V. Ten Cases Shawls, 28 
 
 Fed. Cas. No. 16,448 1272 
 
 U. S. V. Theurer, 213 Fed. 
 
 960 896 
 
 U. S. V. Thompson, 189 Fed. 
 
 838 1272 
 
 U. S. V. Three Barrels, 77 
 
 Fed. 963 7 
 
 U. S. V. Three Railroad Cars, 
 
 28 Fed. Cas. No. 16,513 1263 
 
 U. S. V. Tiffany, 160 Fed. 
 
 408 1269 
 
 U. S. V. Tilden, 28 Fed. Cas. 
 
 No. 16,522, 10 Ben. 566, 25 
 
 Int. Rev. Rec. 352 947 
 
 U. S. V. Trans-Missouri 
 
 Freight Association, 166 U. 
 
 S. 290, 318 1264, 1265 
 
 U. S. V. Turner, 28 Fed. Cas. 
 
 No. 16,548 871 
 
 U. S. V. Two Barrels of Whis- 
 ky, 96 Fed. 479 1272 
 
 U. S. V. Two Hundred Barrels 
 
 of Whisky, 95 U. S. 571 7 
 
 U. S. V. 2464 Pounds of To- 
 bacco, 103 Fed. 791 1272 
 
 U. S. V. Union Pacific R. R. 
 
 Co., 91 U. S. 72 1261, 1265 
 
 U. S. V. Union Stockyard Co., 
 
 192 Fed. 330 224 
 
 U. S. V. U. S. Fidelity & G. 
 
 Co., 144 Fed. 866 1272 
 
xl 
 
 TABLE OF CASES 
 
 [References 
 U. S. V. Watts, 28 Fed. Cas. 
 
 No. 16,653 1268 
 
 U. S. V. Weise, 28 Fed. Cas. 
 
 No. 16,659 1263 
 
 U. S. V. Wetherell, 65 Fed. 
 
 987 1269 
 
 U. S. V. Whitridge, 231 U. S. 
 
 144 243 
 
 U. S. V. Wigglesworth, 2 Story 
 
 369, 28 Fed. Cas. No. 16,690 
 
 1268, 1269 
 
 U. S. V. Woodward, 65 L. Ed. 
 
 728, Ct. D. 15 126, 611 
 
 U. S. V. Wright, 11 Wall. 648. 919 
 U. S. V. Zemel, 137 Fed. 989. .1272 
 United States Brewing Co. v. 
 
 Apthorpe, 4 Tax Cas. 17.. 299 
 U. S. Glue Co. V. Oak Creek, 
 
 247 U. S. 321 379 
 
 U. S. Life Ins. Co. v. Spinks 
 
 (Ky.), 96 S. W. 889 283 
 
 United Mines Co. v. Hatcher, 
 
 79 Fed. 517 224 
 
 Urquhart v. Marion Hotel Co., 
 
 128 Ark. 283, 194 S. W. 1. .1002 
 
 Valentine, Matter of, 147 N. 
 
 Y. Supp. 231 430 
 
 Van Beil v. Brogan, 65 Pa. 
 
 Super. 384, reversing 23 D. 
 
 R. 1055 (Dauphin County 
 
 Court, Pa. 1914) 1003 
 
 Van Dyke v. City of Milwau- 
 kee, 159 Wis. 460, 146 N. 
 
 W. 812. 150 N. W. 509 
 
 340, 519, 630, 636, 1266 
 
 Venable v. Southern Granite 
 
 Co., 135 Ga. 508, 69 S. E. 
 
 822 1043 
 
 Vicksburg S. & P. R. Co. v. 
 
 Dennis, 116 U. S. 665 1273 
 
 Victor Co. V. American Co., 
 
 189 Fed. 359 223 
 
 Village of Westby v. Bekkedal, 
 
 172 Wis. 114, 178 N. W. 451 69 
 Virginia v. West Virginia, 238 
 
 U. S. 202, 212, 219 
 
 ...424, 429, 430, 438, 440 
 
 Vogt V. Cope (Cal.), 4 Pac. 
 
 915 430 
 
 are to pages.] 
 
 Von Baumbach v. Sargent 
 
 Land Co., 242 U. S. 503 
 
 502, 643, 725, 730, 731, 1152, 1153 
 
 Wabash Valley Co. v. Ed- 
 wards, 264 Fed. 152, 610 
 
 1172, 1267, 1268, 1270 
 
 Waddle v. Cabana, 220 N. Y. 
 
 18, 114 N. E. 1054 1179 
 
 Wadsworth v. Boysen, 148 
 
 Fed. 771 1265 
 
 Walker v. Bement, 94 N. E. 
 
 339 639 
 
 Walker v. Gulf & Interstate 
 
 Co., 269 Fed. 885 233 
 
 Walsh V. Brewster, 65 L. Ed. 
 
 451 389 
 
 Walsh V. Brewster, 41 Sup. 
 
 Ct. Rep. 392 
 
 407, 417, 678, 1008 
 
 Ward V. Maryland, 12 Wall. 
 
 418 357 
 
 Waring v. The Mayor, 60 Ga. 
 
 93 339 
 
 Warren v. King, 108 U. S. 389, 
 
 2 Sup. Ct. 789 1069 
 
 Washburn v. Washburn, 9 
 
 Cal. 475 45 
 
 Washington Ice Co. v. Webs- 
 ter, 68 Maine 449 429 
 
 Washington Water Power Co. 
 
 V. U. S., decided by the 
 
 Court of Claims, Feb. 14, 
 
 1921, T. D. 3160 1139, 1157 
 
 Waterbury Co. v. Walsh, 228 
 
 Fed. 54 1154 
 
 Watertown Paper Co., In re, 
 
 169 Fed. 252 222, 453 
 
 Weaver v. Ewers, 195 Fed. 
 
 247 915 
 
 Webb V. Outrin, (1907) App. 
 
 Cas. 81, 95 L. T. 850, 23 T. 
 
 L. R. 147 379 
 
 Webre, Succession of, 49 La. 
 
 Ann. 1491, 22 So. 390 45 
 
 Weeks v. U. S., 232 U. S. 383 945 
 Werle & Co. v. Colquhoun, 
 
 2 Br. Tax Cas. 402, 58 L. T. 
 
 R. 756 72 
 
 West End Street Ry. Co. v. 
 
 Malley, 246 Fed. 625 1153 
 
TABLE OF CASES 
 
 xli 
 
 [References 
 West Ry. Co. v. Malley, 246 
 
 Fed. 625 1154 
 
 Whalen v. Lynch, 60 N. Y. ■ 
 
 468, at p. 474 429 
 
 Wheat V. Owens, 15 Tex. 241 46 
 Wheeler v. St. Joseph, 31 
 
 Kans. 640, 3 Pac. 297 826 
 
 White V. Arthur, 10 Fed. 80 . . 941 
 Whitney v. Fox, 166 U. S. 
 
 637 1268 
 
 Whitney v. Thatcher, 117 
 
 Mass. 523 429 
 
 Whittenton Mills v. Upton, 10 
 
 Gray 582 173 
 
 Wilcox V. Middlesex County, 
 
 103 Mass. 544 502 
 
 Wilder v. Hawaiian Trust Co. 
 
 20 Haw. 589 133 
 
 Wilder v. Trefry (Mass.), 125 
 
 N. E. 689 506 
 
 Wilkes-Barre, etc., Traction 
 
 Co. V. Davis, 214 Fed. 511.1154 
 Wilkins v.'U. S., 96 Fed. 837 8 
 Wilkinson v. Leland, 2 Pet. 
 
 627 1261 
 
 Wilkinson v. Wilkinson, 20 
 
 Tex. 237 46 
 
 Williams v. Conger, 125 U. S. 
 
 397, 410 846 
 
 Williams, In re, 40 Nev. 241, 
 
 161 Pac. 741 48 
 
 Willmann v. Walsh, Supreme 
 
 Court of Errors of Conn., T. 
 
 D. 3166, T. B. 23-21-1679.. 851 
 Wilson V. Youst, 43 W. Va. 
 
 826, 28 S. E. 781 502 
 
 Winn V. Patterson, 9 Pet. 663, 
 
 677 .* 846 
 
 are to pages.] 
 
 Wisconsin v. Pelican Ins. Co., 
 
 127 U. S. 265 870 
 
 Woods V. Latta, 3 Mont. 9... 639 
 Woods V. Lewellyn, 252 Fed. 
 
 106 805, 860, 899 
 
 Woodward v. De Graffenried, 
 
 238 U. S. 284 1265 
 
 Woodward v. Semans, 125 Ind. 
 
 330, 25 N. E. 444 390 
 
 Woollcott V. Shubert, 217 N. 
 
 Y. 212, 111 N. E. 829 1264 
 
 Woolner v. U. S., 13 Ct. Cls. 
 
 355 919 
 
 Wright V. Blakeslee, 101 U. S. 
 
 174 884, 885 
 
 Wright V. Georgia R. etc., Co., 
 
 216 U. S. 420 1273 
 
 Wright V. Hays' Admr., 10 
 
 Tex. 130 46 
 
 Wright V. Michigan Central 
 
 R. Co., 130 Fed. 843. .1198, 1269 
 
 Yake v. Pugh, 13 Wash. 78, 
 42 Pac. 528 45 
 
 Yates V. Houston, 3 Tex. 433 46 
 
 Yazoo & Miss. Valley R. Co. 
 V. Thomas, 132 U. S. 174.. 1273 
 
 Young V. Teutonia Bank, 134 
 La. 879, 64 So. 806 283 
 
 Young Men's Society v. City of 
 Fall River, 160 Mass. 409, 
 36 N. E. 57 '327 
 
 Zimpelman v. Robb, 53 Tex. 
 274 46 
 
 Zonne v. Minneapolis Syndi- 
 cate, 220 U. S. 187 1153 
 
REGULATIONS 
 
 No. Page 
 
 33, Art. 5 378 
 
 33, Art. 8 91 
 
 33, Art. 12 189 
 
 33, Art. 13 179 
 
 33, Art. 14 179 
 
 33, Art. 17 145 
 
 33, Art. 18 827 
 
 33, Art. 33 913 
 
 33, Art. 46 306 
 
 33, Art. 47 560 
 
 33, Art. 56 900 
 
 33, Art. 86 61 
 
 33, Art. 67 90,92,479,494,969 
 
 33, Art. 68 972 
 
 33, Art. 72 143 
 
 33, Art. 73 143 
 
 33, Art. 75 135 
 
 33, Art. 82 229 
 
 33, Art. 83 307 
 
 33, Art. 84 248 
 
 33, Art. 85 249,265 
 
 33, Art. 86 168 
 
 33, Art. 87 321 
 
 33, Art. 95 234 
 
 33, Art. 100 286 
 
 33, Art. 104 227 
 
 33, Art. 105 227 
 
 33, Art. 106 385 
 
 33, Art. 107 385 
 
 33, Art. 114 579 
 
 33, Art. 115 587 
 
 33, Art. 116 81 
 
 33, Art. 117 371 
 
 33, Art. 118 570 
 
 .33, Art. 119 593 
 
 33, Art. 122 588, 647 
 
 33, Art. 127 640 
 
 33, Art. 129 697 
 
 33, Art. 130 693 
 
 33, Art. 131 584 
 
 .33, Art. 132 694 
 
 33, Art. 133 694 
 
 33, Art. 148 234 
 
 33, Art. 151 234 
 
 33, Art. 153 616 
 
 33, Art. 156 608 
 
 33, Art. 157 81 
 
 33, Art. 158 608 
 
 33, Art. 177 859 
 
 33, Art. 182 342 
 
 33, Art. 183 342 
 
 33, Art. 184 859 
 
 33, Art. 185 99. 209 
 
 33, Art. 186 948 
 
 3.3, Art. 196 839 
 
 33, Rev., Art. 4 53, 152, 157, 
 
 160. 162, 164, 
 165, 345, 346, 
 369, 378, 493, 
 499, 501, 525, 
 528 
 
 Eeg. 33, Kev., Art. 8 374, 499, 565, 
 
 583, 589, 695, 
 G51, 654, 682 
 
 Res. 33, Rev., Art. 14 779 
 
 Reg. 33, Rev., Art. 17 52 
 
 Reg. 33, Rev., Art. 26 109,146,826 
 
 Reg. 33, Rev., Art. 29 103, 104, 106, 
 
 114, 128. 135. 
 144, 145, 147, 
 827 
 
 Reg. .33, Rev., Art. 30 176.178,187, 
 
 189 
 
 Reg. 33, Rev., Art. 32 66, 91. 93, 95, 
 
 98, 192, 967, 972 
 
 Reg. 
 Keg. 
 Reg. 
 Reg. 
 Eeg. 
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 Eeg. 
 Reg. 
 Eeg. 
 Eeg. 
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 No. i'imc 
 
 Eeg. 33, Rev., Art. 33 t)u4 
 
 Eeg. 33, Eev., Art. 34 370, 952 
 
 Reg. 33, Rev., Art. 35 950 
 
 Reg. 33, Rev., Art. 36 900 
 
 Eeg. 33, Rev., Art. 38 10,839 
 
 Eeg. 33. Rev., Art. 41 879 
 
 Reg. 33, Rev., Art. 43 193,306,963 
 
 Eeg. 33, Rev., Art. 50 13 
 
 Reg. 33, Rev., Art. 51 896 
 
 Eeg. 33, Eev., Art. 52 829,861 
 
 Eeg. 33, Eev., Art. 53 146,772,778, 
 
 898 
 
 Reg. 33, Rev., Art. 54 897 
 
 Reg. 33, Eev., Art. 57 210 
 
 Eeg. 33, Eev., Art. 61 266 
 
 Eeg. 33, Rev., Art. 62 168 
 
 Eeg. 33, Eev., Art. 66 300 
 
 Reg. 33, Eev., Art. 67 323,330 
 
 Eeg. 33, Eev., Art. 68 312, .337 
 
 Reg. 33, Rev., Ait. 69 3.32 
 
 Reg. 33, Eev., Art. 70 -321 
 
 Reg. 33, Rev., Art. 71 322 
 
 Reg. 33, Rev., Art. 72 330 
 
 Reg. 33, Rev., Art. 73 -- 315 
 
 Eeg. 33, Rev., Art. 74 315 
 
 Reg. 33, Rev., Art. 75 3B5 
 
 Reg. 33, Eev., Art. 76 336 
 
 Reg. 33, Rev., Art. 77 317 
 
 Eeg. 33, Eev., Art. 78 314 
 
 Eeg. 33, Rev., Art. 79 .314 
 
 Eeg. 33, Rev., Art. 80 315 
 
 Reg. 33, Rev., Art. 81 312 
 
 Reg. 33, Rev., Art. 84.^. 491 
 
 Reg. 33, Eev., Art. 86 356, .500 
 
 Eeg. 33, Eev., Art. 87 310 
 
 Reg. 33, Rev., Art. 88 314 
 
 Eeg. 33, Rev., Art. 91 227 
 
 Eeg. 33, Rev., Art. 92 227 
 
 Reg. 33, Rev., Art. 93 .'!85 
 
 Reg. 33, Rev., Art. 94 658 
 
 Reg. 33, Rev., Art. 95 234 
 
 Reg. 33, Rev., Art. 101 440 
 
 Reg. 33, Eev., Art. 102 229 
 
 Eeg. 33, Rev., Art. 104 229 
 
 Eeg. 33, Eev., Art. 105 .510 
 
 Reg. 33, Rev., Art. 106 .505 
 
 Reg. 33, Rev., Art. 108 .-)40 
 
 Reg. 33, Rev., Art. 113 .501 
 
 Reg. 33, Eev., Art. 114 .387 
 
 Eeg. 33, Rev., Art. 117 461 
 
 Reg. 33, Rev., Art. 120 461 
 
 Reg. .33, Rev., Art. 121 380 
 
 Reg. 3'3, Rev., Art. 123 152, 160, 162, 
 
 164, 165 
 
 Reg. 33, Eev., Art. 124 440 
 
 Reg. 33, Rev., Art. 125 229 
 
 Reg. 33, Rev., Art. 126 560,797 
 
 Reg. 33, Rev., Art. 128 839 
 
 Reg. 33, Rev., Art. 131 689 
 
 Reg. 33, Rev., Art. 132 690 
 
 Reg. 33, Rev., Art. 134 599 
 
 Reg. 33, Rev., Art. 136 .599 
 
 Reg. 33, Rev., Art. 138 .595 
 
 Reg. 33, Rev., Art. 141 589, S12 
 
 Reg. .33, Rev., Art. 145 2.<!3 
 
 Reg. .33, Rev., Art. 151 650 
 
 Reg. 33, Rev., Art. 155 040 
 
 Eeg. 33. Eev., Art. 156 640 
 
 Eeg. .33, Rev., Art. 1,59 680. 093 
 
 Eeg. 33, Rev., Art. 162 681,683,690, 
 
 698 
 
 Reg. 33, Eev., Art. 163 681 
 
 Eeg. 33, Eev., Art. 164 094 
 
 Reg. .33. Eev., Art. 16,5 688 
 
 Reg. 33, Rev., Art. 166 647 
 
 xliii 
 
xliv 
 
 REGULATIONS 
 
 Nil. 
 
 Iteg. 
 
 X\, 
 
 Rev, 
 
 Ueg. 
 
 X',, 
 
 Rev. 
 
 lies. 
 
 H3, 
 
 Rev. 
 
 lies. 
 
 SH. 
 
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 .■w. 
 
 Rev. 
 
 Uefr. 
 
 :i:i. 
 
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 lies. 
 
 :'.:'.. 
 
 Rev. 
 
 Kpk. 
 
 :«. 
 
 Rev., 
 
 Ueg. 
 
 X'„ 
 
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 :in. 
 
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 '.V.i, 
 
 Rev. 
 
 UeK. 
 
 :t:i. 
 
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 lies. 
 
 '.V.'>. 
 
 Rev.. 
 
 Iteg. 
 
 :',;'. 
 
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 Ketr, 
 
 :(:!, 
 
 Rev. 
 
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 ■'>'■>, 
 
 Rev. 
 
 lies. 
 
 ;!;i, 
 
 Rev. 
 
 Repr. 
 
 X',. 
 
 Rev. 
 
 Reg. 
 
 ."to. 
 
 Rev. 
 
 Reg. 
 
 :«, 
 
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 Keg. 
 
 X't, 
 
 Rev. 
 
 Reg. 
 
 '.'>'). 
 
 Rev. 
 
 Keg. 
 
 :«, 
 
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 X',. 
 
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 ;!."!. 
 
 Rev., 
 
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 ;j3. 
 
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 :!:i. 
 
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 :«, 
 
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 ;'i;'.. 
 
 Rev. 
 
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 ;:s, 
 
 Rev. 
 
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 .■IS. 
 
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 :js, 
 
 Rev. 
 
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 ;>.s. 
 
 Rev. 
 
 Reg. 
 
 40. 
 
 Rev. 
 
 Reg. 
 
 4(1. 
 
 Rev. 
 
 Reg. 
 
 40, 
 
 Rev. 
 
 Reg. 
 
 40. 
 
 Rev., 
 
 Reg. 
 
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 Rev.. 
 
 Rpg. 
 
 40. 
 
 Ri'V., 
 
 Reg. 
 
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 Keg 
 
 40. 
 
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 40, 
 
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 40, 
 
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 Rev. 
 
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 Rev. 
 
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 40 
 
 Rev. 
 
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 40, 
 
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 40, 
 
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 40, 
 
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 40, 
 
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 40. 
 
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 Reg. 
 
 40. 
 
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 40. 
 
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 4(1. 
 
 Itev. 
 
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 41. 
 
 Art. 
 
 Reg. 
 
 41, 
 
 Art. 
 
 Keg. 
 
 4], 
 
 Art. 
 
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 41, 
 
 Art. 
 
 Reg. 
 
 41, 
 
 Art. 
 
 Keg. 
 
 41, 
 
 Art. 
 
 I'.ige 
 
 Art. 100 (iS:; 
 
 Art. 171 734 
 
 Art. 175—1 04:; 
 
 Art. 170 042 
 
 Art. 177 04i 
 
 Art. 178 698 
 
 Art. 17a 698 
 
 Art. ISO 103 
 
 Art. 188 L'n4, 976 
 
 Art. 197 81 
 
 Art. 200 300 
 
 Art. 201 98, 306 
 
 Art. 20.-, 249. 265 
 
 Art. 206 248. 249 
 
 Art. 2()S 229, 263 
 
 Art. 211 260 
 
 Art. 212 260 
 
 Art. 2l:i 260 
 
 Art. 214 260 
 
 Art. 21.-1 260 
 
 Art. 21S 829 
 
 Art. 219 829 
 
 Art. 229 S40 
 
 Art. 2ac. ."hO 
 
 Art. 2:i9 2S4. ,^17, 332 
 
 Art. 240 2,S4, 293, 296 
 
 Art. 241 291 
 
 Art. 244 296 
 
 Art 2iii; 913 
 
 Art. 6 1155 
 
 Art. 12 1156 
 
 Art. .18 11.57 
 
 Art. 20 48 
 
 Art. 1 1170 
 
 Art. 2 1170 
 
 Art. :'. 1170,1177 
 
 \rt. 4 _ 1172. 1173, 1174, 
 1175. 1176,1177 
 
 Art, 4 (ID lias 
 
 Art. 5_ 1169, 1171. 1172, 
 1173, 1174. 1176, 
 1203, 1224 
 
 Arl. .-. (e) 1188 
 
 AH. 7 1170 
 
 Art. s 1170 
 
 Arl. 9 11X0 
 
 Arl. 11 117S 
 
 .\rt. ]2_ 11TS. IIMO. 1181, 
 ns2. 11S3 1184, 
 11S5. llXli. 1224 
 
 Arl. 12 (dl 1188 
 
 Arl. i:;_ 1180. 1181, 1184, 
 lis.-i. 1186, 1187 
 
 Art. 14 1188 
 
 Art. 1.-. 122.- 
 
 Art. 16 1227 
 
 Art. 17 1230 
 
 Art. IS 1231 
 
 Art. 19 1231 
 
 Art. 20 1211 
 
 Art. 21 1211 
 
 Art. 22 1210, 1211 
 
 Art. 23 1210 
 
 Art. 2.-, 1231 
 
 Art. 2(1 1232 
 
 Art. 27 12.33 
 
 Art. 2S 1234 
 
 Art. 29 1232, 1235 
 
 Art. 30 1235 
 
 Art. 31 12.36 
 
 Art. 32 1236 
 
 Art. .33- 441. 1170. 1172, 
 1174. 1177. 1178, 
 1182, 1187, 1209, 
 1210.1211,1212 
 
 , Art. .34 12,38 
 
 Art. 35 1239 
 
 Art, 37 1170, 1179 
 
 .\rt. ,39 1239 
 
 .') 1020 
 
 6 1032 
 
 7 1033 
 
 s 1018 
 
 10 1020 
 
 11 1020 
 
 Reg. 41, Art. 12 1018 
 
 Keg. 41, Art. 13 1018,1020 
 
 Keg. 41, Art. 14 1021,1033 
 
 Reg. 41, Art, 15 1021 
 
 Reg, 41, Art. 16 1023 
 
 Keg. 41, Art. 17 1023 
 
 Reg. 41, Art. 18 1136 
 
 Reg. 41, Art. 19 1033 
 
 Keg. 41, Art. 20 1033 
 
 Reg. 41, Art. 21 1108 
 
 Reg. 41, Art. 22 1108 
 
 Reg. 41, Art. 23 1109 
 
 Reg. 41, Art. 24 1110 
 
 Reg. 41, Art. 25 1115 
 
 Reg. 41, Art. 27 .'ill, 1076 
 
 Reg. 41, Art. 28 1114 
 
 Reg. 41, Art. 29 1113 
 
 Reg. 41, Art. 30 1114 
 
 Reg. 41, Art. 31 1113 
 
 Reg. 41, Art. 32 1110 
 
 Reg. 41, Art. 33 1114 
 
 Reg. 41, Art. 34 1110 
 
 Reg. 41, Art. 35 1115 
 
 Reg. 41, Art. 36 1113,1115 
 
 Reg. 41. Art. 37 1115 
 
 Reg. 41, Art. 3s mg 
 
 Reg. 41. Art. 39 mo 
 
 Reg. 41. Arl. 40 _ mo 
 
 Reg. 41. Art. 41 msi 
 
 Reg. 41, Art. 42 1041,1042,1043, 
 
 1087, 1089 
 
 Reg. 41, Art, 43 1090 
 
 Reg. 41, Arl. 44 1067,1074 
 
 Reg. 41, Art. 45 1078 
 
 Reg. 41. Art. 46 _ _ 1070 
 
 Reg. 41, Art, 47 1048,1050 
 
 Reg. 41, Arl, 4N ' 1107 
 
 Reg. 41, Art. 49 _ II1109 
 
 Reg. 41. .\rt. ."lO _ los') 
 
 Reg. 41. .U-t. 01 __ Tiioi . 
 
 Reg. 41, Art. 52 1107, 1115, 1120, 
 
 1122 1'74 
 
 H»^- ]]' '^'■^ ?,' 1039,1073,1079 
 
 R»£- J,- ■>'■• -i 1081,1136 
 
 Reg. 41. Art. 55 1041 
 
 Reg. 41. Art. 5(L^_. iofli 
 
 Reg. 41. Art. 57— io?1 
 
 Reg. 41. Art. 58 Jooi 
 
 Reg. 41. Arl. 59.__. ^gS. 
 
 Reg. 41. Art. fiO io49 
 
 Reg. 41. Art. 61 ^055 
 
 Reg. 41, Art. 62 io56 
 
 Reg. 41. Art. 6.3 H io4C 
 
 Reg. 41. Art. 64 ViVi 
 
 Reg. 41. Art. (m__ i639"linf 
 
 Reg. 41, Arl. ()(L^_ ' WW 
 
 Reg. 41. Art. 67 11 ^^I 
 
 Reg. 41. Art. 68 iXjH 
 
 Reg. 41. Art. 69 1040 1055 
 
 Reg. 41. Art. 70 iwi 
 
 Reg. 41, Art. 71 201 Ifllo 
 
 Reg. 41. Art. 72„„ 1025 
 
 Reg. 41, Art. 73_-_, IX?? 
 
 Reg. 41, Art. 74 K^ 
 
 Reg. 41, Art. 75 _ J?^? 
 
 Reg. 41. Art. 76 I ii± 
 
 Reg. 41. Art. 77 I oeo^l?S. 
 
 Reg. 41, Art. 7S_.__ Sfin' 9m 
 
 Reg. 41. Art. 79 i7§§ 
 
 Reg. 45, Art. 2 "I on 
 
 gel: t ill: t---'--^^'^'§i 
 
 Beg. 45. Art. 11___ *<••§? 
 
 Kpg. 4,5, Art. 12_ _ Zts 
 
 Beg. 45, Art. 13 ""I I 9, 
 
 Keg. 45. Art. 2i__/_:;::::::39--3-g-o;3gf 
 
 Keg. 4.5,-Art. 22_._..._ 345, it, i?; |i 
 
 Keg. 45. Art. 23 341,342,344,345, 
 
 349, 387, 796, 797, 
 
 .r . . „, 812,815,839 
 
 Reg, 45, Art, 24 342,390,797 
 
 Reg, 45, Art. 25 245,815,816,817 
 
 Reg. 45, Art. 20 260,818 
 
 Keg. 45, Art. 31_._ 2.30, 330, 526, 616, 976 
 
 -Reg. 45, Art. 32 367,368,309, 
 
 372, 547, 806 
 
REGULATIONS 
 
 xlv 
 
 No. Page 
 
 Reg. 45, Art. 33 384,308,369, 
 
 370, 371, 952 
 
 Reg. 45, Art. 34 350,352,371 
 
 Reg. 45, Art. 35 385 
 
 Reg. 45, Art. 36 386,433 
 
 Reg. 45, Art. 37 350,546 
 
 Reg. 45, Art. 38 152,156,157,158,159, 
 
 100. 161, 165, 350 
 
 Reg. -45, Art. 39 419,433,649 
 
 Reg. 45, Art. 40 433 
 
 Reg. 45, Art. 41 . ^^-433 
 
 Reg. 45, Art. 42 *6*' *SS 
 
 Reg. 45, Art. 43 478 
 
 Reg. 45, Art. 44 474 
 
 Reg. 45, Art. 45 ^'-fra 
 
 Reg. 45, Art. 46 'nPrtli 
 
 TJptr 45 Art 47 555,557 
 
 Rel: 45, Art. 48 350,498,499,503 
 
 Reg. 45, Art. 49 rjT-r^*! 
 
 Reg. 45, Art. 50 o44, 1056 
 
 Reg 45 Art. 51 230,368,539 
 
 vie"' 45 Art 52 345,802,806 
 
 rII: 45 Ar 53 346, 799, 800 
 
 rI|: 45 Art. 54 347.470,494,551 
 
 Rei. 45 Art. 71 -39,353 
 
 Rel. 45, Art. 72 SS' Sa 
 
 Rei. 45 Art. 73 5.38,548 
 
 RpS 45 Art 74 337, 490, 493 
 
 lit ts; Art: 75 350,488,509 
 
 Reg. 45, Art. 76 V-JTSn iSI 
 
 Re|. 45, Art. 77 3o4, 480, 488 
 
 Reg. 45, Art. 78 JsQ-Tfw 
 
 Reg. 45, Art. 79 *^^" ill 
 
 Reg. 45, Art. 80 f83 
 
 Kei. 45, Art. 81 11| 
 
 Reg. 45, Art. 82 ---182 
 
 Rei. 45, Art. 83 22':^- 'SS' Li 
 
 Reg. 4.5 Art. 84 So7,3nS,mi 
 
 Reg. 45, Art. ^- i^mWe 
 
 Reg. 45, Art. 86 s.^V',>-i '/bq 
 
 Rei. 45, Art. 87 341.3n,4(^. 
 
 g||- li' irt- 91 ::::6o;-63T68-,'7i 
 
 ie- 45' Art 9211: 03.60,68,175, 
 
 Keg. 4o, ATI. J 300,303.509,511 
 
 Reg. 4.5, Art. 92 (a) ^^^'^^ 
 
 Reg. 45, Art. 93 -o";^ 
 
 Reg. 45, Art. 101 578,587 
 
 Reg. 45, Art. 102 v^.-Sio 
 
 Reg. 45, Art. 103 5^' §§2 
 
 Reg. 45, Art. 104 SnJ-Si? 
 
 TjpX. iss Art 105 593,594 
 
 ulf 45 Art loei:::"— 365, 366, 593, 594 
 
 ReS; 45, Art. 107 365,548,595 
 
 , 506, 598 
 
 Reg. 45. Art. 108 595, 599 
 
 Reg. 45, Art. 109 499, 581, 587, 613 
 
 ■Reg. 45, Art. 110 152,162 
 
 Reg. 45, Art. Ill 501,039,657, 
 
 807, 809 
 
 Reg. 45, Art. 121 002, 603. 604, 606 
 
 Reg. 45, Art. 122 603 
 
 Reg. 45, Art. 131 608,612,615 
 
 Reg. 4.5, Art. 132 610 
 
 Reg. 45, Art. 133 616 
 
 Reg. 43, Art. 134 617 
 
 Reg. 45, Art. 141 621, 622, 624, 
 
 625, 627, 631 
 
 Reg. 45, Art. 142 640 
 
 Reg. 45, Art. 143 041, 682 
 
 Reg. 45, Art. 144 (i43, 645 
 
 Reg. 45, Art. 145 1.52,164,646 
 
 Reg. 45, Art. 151 648, 650, 651 
 
 Beg. 45, Art. 152 649 
 
 Reg. 45, Art. 153 654 
 
 Reg. 45, Art. 154 655 
 
 Reg. 45, Art. 161 419,679,690 
 
 Keg. 45, Art. 162 680, 081, 082, 695 
 
 Beg. 45, Art. 163 ^.683 
 
 Reg. 45, Art. 164 499,686,690 
 
 Reg. 45, Art. 165 687,691 
 
 Reg. 45, Art. 166 681, 688, 695 
 
 Reg. 45, Art. 167 419,683,684 
 
 Reg. 45, Art. 168 685 
 
 No. Pttgo 
 
 Eeg. 45, Art. 169 _ _ 693 
 
 Beg. 45, Art. 170 __695 
 
 Reg. 45, Art. 171 _ 152 165 
 
 Keg. 45, Art. 181 __ _' 707 
 
 Beg. 45, Art. 182 _ _ _ 707 
 
 Reg. 45, Art. 183 707 
 
 Beg. 45, Art. 184 _ 709 
 
 Beg. 45, Art. 185 . _ II711 
 
 Beg. 45, Art. 186 I 7O6 
 
 Beg. 45, Art. 187 711 
 
 Beg. 45, Art. 188 _ 71^ 
 
 Reg. 45, Art. 189 719 
 
 Reg. 45, Art. 201 419,714,715, 
 
 735, 740 
 
 Beg. 45, Art. 202 715 742 
 
 Reg. 45, Art. 203 716, 743 
 
 Beg. 45, Art. 204 717, 744 
 
 Beg. 45, Art. 205 719 
 
 Beg. 45, Art. 206 722 
 
 Beg. 45, Art. 207 722 
 
 Keg. 45, Art. 208 736 
 
 Reg. 45, Art. 209 744 
 
 Keg. 45, Art. 210 722, 735, 745 
 
 Reg. 45, Art. 211 748,756 
 
 Beg. 46, Art. 212 756 
 
 Beg. 45, Art. 213 750 
 
 Beg. 45, Art. 214 756 
 
 Beg. 45, Art. 215 724 
 
 Beg. 45, Art. 216 724 
 
 Beg. 45, Art. 217 j.737 
 
 Reg. 45, Art. 218 758 
 
 Reg. 45, Art. 219 738 
 
 Reg. 45, Art. 220 759 
 
 Reg. 45, Art. 220 (a) 761 
 
 Beg. 45, Art. 221 763, 798 
 
 Reg. 45, Art. 222__ 721 739 
 
 Reg. 45, Art. 223 76J 
 
 Reg. 45, Art. 225 764 
 
 Reg. 45, Art. 226 766 
 
 Beg. 45, Art. 227 ' 767 
 
 Beg. 45, Art. 229 __770 
 
 Reg. 45, Art. 230 770 
 
 Reg. 45, Art. 231 771 
 
 Reg. 45, Art. 233 773 
 
 Reg. 45, Art. 234 768 
 
 Reg. 45, Art. 235 7611 
 
 Reg. 45, Art. 236 771 
 
 Reg. 45, Art. 237 773 
 
 Beg. 45, Art. 241 J 566 
 
 Reg. 45, Art. 251 562, 505 
 
 Reg. 45, Art. 261 ^_665 
 
 Reg. 45, Art. 262 669 
 
 Reg. 45, Art. 263 066 
 
 Beg. 45, Art. 264 670 
 
 Reg. 45, Art. 265 670 
 
 Keg. 45, Art. 266 673 
 
 Reg. 45, Art. 267 II675 
 
 Beg. 45, Art. 268 670 
 
 Beg. 45 Art, 271 7<) 
 
 Reg. 45, Art. 291 538,566,567,595 
 
 Reg. 45, Art. 292 367,370,374,568 
 
 Beg. 45, Art. 293 121,570,571,589 
 
 Reg. 45, Art. 294 __ ,573 
 
 Reg. 45, Art. 301 774 776 
 
 Beg. 45, Art. 302 777.778,779 
 
 Reg. 4.5, Art. 303 779 
 
 Reg. 45, Art. 304 780 
 
 Reg. 45, Art. 305 7S1 824 
 
 Beg. 45, Art. 306 __782 
 
 Beg. 45, Art. 307 IZ 783 
 
 Keg., 45, Art. 311 85, 784 
 
 Beg. 45, Art. 312 43, 44 080 
 
 Beg. 45, Art. 312 (a) __ 57 
 
 Reg. 45, Art. 313 43,55,981 
 
 Reg. 4.5, Art. 314 44 981 
 
 Keg. 45, Art. 315 98l' 98'> 
 
 Beg. 45, Art. 316 84, 784, 785', 981 
 
 Keg. 45, Art. 321 _ 176 
 
 Keg. 45, Art. 322 _ _ _ 170 
 
 Reg. 45, Art. 323 181.182,185 
 
 Reg. 45, Art. 324 _ 187 
 
 Keg. 45, Art. 325 "_' I87 
 
 Beg. 45, Art. .326 II I "187 
 
 Beg. 45. Art. 327 ""187 
 
 Reg. 45, Art. 328 194^195 
 
 Reg. 45, Art. 329 Ill^I'Joi 
 
xlvi 
 
 REGULATIONS 
 
 Xo. 
 
 Reg 
 
 45 
 
 Kes 
 
 4o 
 
 Keg 
 
 4b, 
 
 Keg 
 
 45, 
 
 Eeg. 
 
 4o, 
 
 Reg. 
 
 4b, 
 
 Beg. 
 
 4o, 
 
 Reg. 
 
 45, 
 
 Beg. 
 
 45, 
 
 Beg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4o, 
 
 Reg. 
 
 -to. 
 
 Reg. 
 
 4u, 
 
 Reg. 
 
 io. 
 
 Reg. 
 
 4.), 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4o, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 4o, 
 
 Beg. 
 
 45, 
 
 Beg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4,1, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Beg. 
 
 4b, 
 
 Beg. 
 
 4.-), 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b. 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Beg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 i->. 
 
 Beg. 
 
 4.1, 
 
 Beg. 
 
 4o, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Beg. 
 
 45, 
 
 Beg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Be?. 
 
 45, 
 
 Beg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4.-1, 
 
 Reg. 
 
 4."i, 
 
 Beg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Beg. 
 
 45, 
 
 Beg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Pag'.! 
 
 Alt. 330 205 
 
 Art. 331 206 
 
 Art. 332 205 
 
 Art. 333 205 
 
 Art. 334 205 
 
 Art. 335 205 
 
 Art. 341 106, 110, 112 
 
 120, 121, 125 
 
 Art. 342 110, 112, 133, 137 
 
 Art. 343 — 108, 110, 111, 112, 113 
 
 Art. 344 110, 128, 136, 149 
 
 Art. 345 110, 133, 134, 135 
 
 Art. 346 110, 132 
 
 Art. 351 31 
 
 Art. 352 32 
 
 Art. 353 33, 34 
 
 Art. 361 95, 192, 306, 965, 
 
 968, 976, 979, 
 980, 981, 998 
 
 Art. 362 89, 967, 968, 975 
 
 Art. 363 97, 968 
 
 Art. 363 (a) 785,983 
 
 Art. 364 983, 984 
 
 Art. 365 193, 987, 988 
 
 Art. 366 987, 988 
 
 Art. 367 987, 991 
 
 Art. 368 958, 991 
 
 Art. 369 86, 987, 993 
 
 Art. 370 993, 994 
 
 Art. 372 294, 994 
 
 Art. 373 994 
 
 Art. 374 079, 994 
 
 Art. 375 995 
 
 Art. 376 :iOU, 996 
 
 Art. 381 787, 791 
 
 Art. 382 782 
 
 Art. 383 2.jS, 792, 793 
 
 Art. 385 788 
 
 Art. 401 823, 824 
 
 Art. 402 827 
 
 Art. 403 52, 53, 84, 85, 
 
 104, 825 
 
 Art. 404 53, 88, 89, 91, 
 
 96, 306, 967 
 
 Art. 405 95, 99, 101 
 
 Art. 406 836, 837 
 
 Art. 407 240, 836, 838 
 
 Art. 411 188 
 
 Art. 412 188, 189 
 
 Art. 421 53, 110, 142, 145, 822 
 
 Art. 422 52, 110, 143, 825 
 
 Art. 423 110, 142 
 
 Art. 424 105, 106, 109, 110 
 
 Art. 425 110, 144 
 
 Art. 431 189, 829, 830 
 
 Art. 441 554, 828 
 
 Art. 442 140, 827, 828 
 
 Art. 443 830, 831, 834 
 
 Art. 444 832, 834 
 
 Art. 445 aSl, 833 
 
 Art. 446 833 
 
 Art. 447 829 
 
 Art. 448 41, 828 
 
 Art. 451 838 
 
 Art. 504 271 
 
 Art. 511 313, 314, 315 
 
 Art. 512 315, 316 
 
 Art. 513 317 
 
 Art. 514 317 
 
 Art. 515 310, 320, 322 
 
 Art. 516 322 
 
 Art. 517 323, 325, 327, 328 
 
 Art. 518 328, 329 
 
 Art. 519 330 
 
 Art. 520 330 
 
 Art. 521 332, .'534, 335 
 
 Art. 522 336, 508 
 
 Art. 541 230, 989 
 
 Art. 542 227, 597, 645 
 
 Art. 543 230 
 
 Art. 544 239 
 
 Art. 546 229 
 
 Art. 547 265 
 
 Art. 548 284 
 
 Art. 549 285, 286, 1107 
 
 Art. 561 1 231 
 
 No. Pag:- 
 
 Keg. 45, Art. 562 430,589,599 
 
 Beg. 45, Art. 563 227,233,633,645 
 
 Reg. 45, Art. 564 234 
 
 Beg. 45, Art. 505 235, 236 
 
 Beg. 45, Art. 566 618 
 
 Beg. 45, Art. 567 612 
 
 Beg. 45, Art. 568 290 
 
 Reg. 45, Art. 569 291,292,293,1100 
 
 Reg. 45, Art. 570 294 
 
 Beg. 45, Art. 571 294 
 
 Beg. 45, Art. 572 295 
 
 Reg. 45, Art. 573 81 
 
 Reg. 45, Art. 581 231 
 
 Reg. 45, Art. 582 232, 233 
 
 Reg. 45, Art. 591 241,774,776 
 
 Reg. 45, Art. 601 306 
 
 Reg. 45, Art. 611 789,791 
 
 Beg. 45, Art. 621 246,248,1136 
 
 Beg. 45, Art. 622 244 
 
 Reg. 45, Art. 623 296 
 
 Reg. 45, Art. 624 204,205 
 
 Beg. 45, Art. 625 306 
 
 Beg. 45, Art. 626 251 
 
 Reg. 45, Art. 631 254 
 
 Reg. 40, Art. 632 253 
 
 Reg. 45, Art. 033— 255 
 
 Reg. 45, Art. 634 257 
 
 Reg. 45. Art. (iP.r, 257,259 
 
 Beg. 45, Art. 036 258, 259, 791 
 
 Beg. 45, Art. 637 260 
 
 Beg. 45, Art. 638 259 
 
 Reg. 45, Aft. 651 249, 307 
 
 Reg. 45, Art. 715 1031,1038 
 
 Reg. 45, Art. 732 1038 
 
 Reg. 45, Art. 733 1037,1038 
 
 Keg. 45, Art. 741 1025 
 
 Reg. 45, Art. 742 1020 
 
 Reg. 45, Art. 751 1027 
 
 Reg. 45, Art. 761 1112 
 
 Reg. 45, Art. 781 1108, 1109, 1110 
 
 Beg. 45, Art. 782 1108, 1109 
 
 Reg. 45, Art. 783 1108 
 
 Reg. 45, Art. 784 1108,1110 
 
 Reg. 45, Art. 785 1108 
 
 Reg. 45, Art. 791 1111 
 
 Beg. 45, Art. 801 1113, 1114 
 
 Reg. 45, Art. 802 1135 
 
 Reg. 45, Art. 811 1048,1050 
 
 Reg. 45, Art. 812 1067 
 
 Reg. 45, Art. 813 1070 
 
 Beg. 45, Art. 814 1067 
 
 Beg. 45, Art. 815 1042,1074,1075,1077 
 
 Beg. 45, Art. 816 1077,1079 
 
 Beg. 45, Art. 818 1074 
 
 Reg. 45, Art. 831 1041,1043,1087,1107 
 
 Reg. 45, Art. 832 1045 
 
 Reg. 45, Art. 833 1048 
 
 Reg. 45, Art. 835 1054 
 
 Reg. 45, Art. 836 1046 
 
 Reg. 45, Art. 837 1057, 1135 
 
 Beg. 45, Art. 838 1058 
 
 Beg. 45, Art. 839 1091 
 
 Reg. 45, Art. 840 1061, 1064, 1065 
 
 Reg. 45, Art. 841 1065,1066 
 
 Reg. 45, Art. 842 1066 
 
 Reg. 45, Art. 843 815,1061,1062 
 
 Beg. 45, Art. 844 742, 1061 
 
 Beg. 45, Art. 845 1060, 1101, 1113 
 
 Beg. 45, Art. 846 1063 
 
 Reg. 45, Art. S47 1062 
 
 Reg. 45, Art. 848 1063 
 
 Keg. 45, Art. 849 1063 
 
 Keg. 45, Art. 850 1063 
 
 Reg. 45, Art. 8.51 1051 
 
 Beg. 45, Art. 852 1080 
 
 Beg. 45, Art. 8.53 1096 
 
 Reg. 45, Art. 85.5 1104 
 
 Reg. 45, Art. 856 1104 
 
 Reg. 45, Art. 857 1099 
 
 Beg. 45, Art. 858 1097 
 
 Beg. 45, Art. 8.59 1099 
 
 Beg. 45, Art. 860 1086, 1093, 1103 
 
 Reg. 45, Art. 861 1081 
 
 Beg. 45, Art. 862 1082 
 
 Reg. 45, Art. 864 1133 
 
REGULATIONS 
 
 xlvii 
 
 No. Page 
 
 Reg. 45, Art. 865-1 1134 
 
 Reg. irj, Art. 866 1134 
 
 Reg. 45, Art. 867 1134 
 
 Reg. 45, Art. 868 1135 
 
 Reg. 45, Art. 869 1135 
 
 Reg. 45, Art. 870 1106,1107 
 
 Reg. 45, Art. 871 1107,1178 
 
 Reg. 45, Art. 901 1122,1126 
 
 Reg. 45, Art. 911 1128 
 
 Reg. 45, Art. 912 1129 
 
 Reg. 45, Art. 913 ^1130 
 
 Reg. 45, Art. 914 1129 
 
 Reg. 45, Art. 931 1135 
 
 Reg. 45, Art. 932 1105,1135 
 
 Reg. 45, Art. 933 661,1132,1135 
 
 Reg. 45, Art. 934 1104,1135 
 
 Reg. 45, Art. 962 1107,1137 
 
 Reg. 45, Art. 971 1038 
 
 Reg. 45, Art. 1001 853,854,855 
 
 Reg. 45, Art. 1002 855 
 
 Reg. 45, Art. 1003 855,868 
 
 Reg. 45, Art. 1004 855,897,898 
 
 Reg. 45, Art. 1005 855,898,900 
 
 Reg. 45, Art. 1006 855,904 
 
 Reg. 45, Art. 1007 852,855,858 
 
 Reg. 45, Art. 1008 855,869 
 
 Reg. 45, Art. 1009 855,874 
 
 Reg. 45, Art. 1010 855,870 
 
 Reg. 45, Art. 1011 853,909 
 
 Reg. 45, Art. 1012 266,855 
 
 Reg. 45, Art. 1013 875, 876 
 
 Reg. 45, Art. 1021 882 
 
 Reg. 45, Art. 1031 939 
 
 Reg. 45, Art. 1032 915,916 
 
 Reg. 45, Art. 1033 942 
 
 Reg. 45, Art. 1034 926 
 
 Reg. 45, Art. 1035 928 
 
 Reg. 45, Art. 1036 923,924 
 
 Reg. 45, Art. 1037 851 
 
 Reg. 45, Art. 1038 939 
 
 Reg. 45, Art. 1041 896 
 
 Reg. 45, Art. 1051 935,962 
 
 Reg. 45, Art. 1061 190,954.962 
 
 Reg. 45, Art. 1071 951,961 
 
 Reg. 45, Art. 1072 952 
 
 Reg. 45, Art. 1073 962 
 
 Reg. 45, Art. 1074 954,955 
 
 Reg. 45, Art. 1075 963 
 
 Reg. 45, Art. 1076 956,961 
 
 Reg. 45, Art. 1077 936,987 
 
 Reg. 45, Art. 1078 957,987 
 
 Reg. 45, Art. 1078 (a) 958 
 
 Reg. 45, Art. 1079 958,959 
 
 Reg. 45, Art. 1080 960 
 
 Reg. 45, Art. 1091—840, 841, 842, 844, 847 
 
 Reg. 45, Art. 1091 (a) 847 
 
 Reg. 45, Art. 1092 845 
 
 Reg. 45, Art. 1093 843 
 
 Reg. 45, Art. 1111 959 
 
 Reg. 45, Art. 1121 978 
 
 Reg. 45, Art. 1131 226 
 
 Reg. 45, Art. 1132 45, 789 
 
 Reg. 45, Art. 1133 226,980 
 
 Reg. 45, Art. 1503 170,212 
 
 Reg. 45, Art. 1504 215 
 
 Reg. 45, Art. 1505 168 
 
 Reg. 45, Art. 1506 168,170 
 
 Reg. 45, Art. 1507 171,172.175 
 
 Reg. 45, Art. 1508 167,283,297,300 
 
 Reg. 45, Art. 1509 999 
 
 Reg. 45, Art. 1510 194,706 
 
 Reg. 45, Art. 1521 103,106 
 
 Reg. 45, Art. 1522 103,104 
 
 Reg. 45, Art. 1523 195,196 
 
 'Reg. 45, Art. 1524 195, 19C, 198 
 
 Reg. 45, Art. 1526 197 
 
 Reg. 45, Art. 1527 197 
 
 Reg. 45, Art. 1528 198 
 
 Reg. 45, Art. 1529 198 
 
 Reg. 45, Art. 1530 199 
 
 Reg. 45, Art. 1531 199,200 
 
 Reg. 45, Art. 1532 200 
 
 Reg. 45, Art. 1533 795,966 
 
 Reg. 45, Art. 1541 505,512,525,526 
 
 Reg. 45, Art. 1542 518 
 
 Reg. 45, Art. 1543—505,507,512,518,523 
 Reg. 45, Art. 1544 528,530 
 
 Reg. 
 Reg. 
 
 4o, 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45. 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b. 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 4u, 
 
 Reg. 
 
 43, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4a, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 43, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Keg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 45, 
 
 Keg. 
 
 4b, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 4b, 
 
 Reg. 
 
 45, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 46, 
 
 Reg. 
 
 50, 
 
 Keg. 
 
 bO, 
 
 Keg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 ,50, 
 
 Keg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 bO, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 .50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 50. 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 bO, 
 
 Keg. 
 
 ,50, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Eeg. 
 
 M, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 5U, 
 
 Reg. 
 
 50, 
 
 Reg. 
 
 50, 
 
 Keg 
 
 50, 
 
 Reg 
 
 50, 
 
 Reg. 
 
 50, 
 
 Eeg. 
 
 50, 
 
 Reg 
 
 50, 
 
 Reg 
 
 50, 
 
 Reg 
 
 55, 
 
 Reg 
 
 55, 
 
 Reg 
 
 bb 
 
 Reg 
 
 bb 
 
 Reg 
 
 55 
 
 Reg 
 
 bb 
 
 I'ago 
 
 Art. 1^47 n;!5 
 
 Art. l."i4S 505, .912 
 
 Art. 1349 525 
 
 Art. 1561— 158, 414, 415, 418, 429 
 
 Art. 1562 456; 459 
 
 Art. 1563 421, 423, 452, 461 
 
 Art. 1564 417, 421 
 
 Art. 1565 436 
 
 Art. 1566 451 
 
 Art. 1567 441, 442 
 
 Art. 1568 445 
 
 Art. 1569 446, 451 
 
 Art. 1570 185 
 
 Art. 1581 390, 666 
 
 Art. 1582 394 
 
 Art. 1583 400 
 
 Art. 1584 401 
 
 Art. 1585 402 
 
 Art. 1586 152, 154, 155 
 
 Art. 1601 660 
 
 Art. 1602 662 
 
 Art. 1603 662 
 
 Art. 1621 816, 817 
 
 Art. 1622 816, 817, 820 
 
 Art. 1623 816, 817, 820 
 
 Art. 1624 816, 817, 820 
 
 Art. 1625 816, 821 
 
 Art. 1711 13 
 
 Art. 1721 879 
 
 Art. 1731 878, 880 
 
 Art. 1732 878, 881 
 
 Art. 1733 878, 870 
 
 Art. 1734 879 
 
 Art. 1 1251, 1254 
 
 Art. 2 1250 
 
 Art. 3 1250, 1254, 1255, 1259 
 
 Art. 4 1259 
 
 Art. 5 1250 
 
 Art. 6 1259 
 
 Art. 7 1260 
 
 Art. 8 1256 
 
 Art. 9 1257 
 
 Art. 10 1258 
 
 Art. 11 1260 
 
 Rev., Art. 1 1151, 1156 
 
 Rev., Art. 3 1141 
 
 Rev., Art. 4 1142 
 
 Rev., Art. 5 1142 
 
 Rev., Art. 6 1141 
 
 Rev., Art. 7 1141 
 
 Rev., Art. 10 1152 
 
 Rev. Art. 11 1155 
 
 Rev., Art. 12 1155 
 
 Rev., Art. 13 1143 
 
 Rev., Art. 14 1144 
 
 Rev., Art. 15 1144 
 
 Rev., Art. 16 1143 
 
 Rev., Art. 17 1155 
 
 Rev., Art. 18 1146,1147 
 
 Rev., Art. 19 1147, 1155 
 
 Rev., Art. 20 1155 
 
 Rev., Art. 21 1148, 1153 
 
 Rev., Art. 22 1149 
 
 Rev., Art. 23 1150, 1157 
 
 Rev., Art. 24 1150 
 
 Rev., Art. 26 1151 
 
 Rev., Art. 28 1158 
 
 Rev., Art. 30 1157 
 
 Rev., Art. 31 1157 
 
 Rev. Art. 32 1160 
 
 Rev., Art. 33 1157, 1158 
 
 Rev., Art. 34 1138 
 
 Rev., Art. 35 1151, 1159 
 
 Rev., Art. 36 1160 
 
 Rev., Art. 39 1160 
 
 Rev., Art. 40 1160 
 
 Rev., Art. 41 1156,1160 
 
 Rev., Art. 42 1160 
 
 Rev., Art. 43 1160 
 
 Art. 13 1168 
 
 Art. 35 1214 
 
 Art. 63 1213 
 
 Art. 79 1192 
 
 Art. 81 1192 
 
 Art. 82 1192 
 
xlviii 
 
 REGULATIONS 
 
 Reg. 
 Reg. 
 Reg. 
 Keg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reji. 
 Reg. 
 Reg. 
 Keg. 
 Keg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Keg. 
 Reg. 
 Keg. 
 Ki-g. 
 Keg. 
 Keg. 
 Keg. 
 Keg. 
 Keg. 
 Kc'g. 
 Kog. 
 Keg. 
 Reg. 
 Keg. 
 Keg. 
 Keg. 
 Reg. 
 Keg. 
 Keg. 
 Keg. 
 Keg. 
 Iteg. 
 Keg. 
 Keg. 
 Keg. 
 Keg. 
 Keg. 
 Keg. 
 Reg. 
 Reg. 
 Keg. 
 Keg. 
 Keg. 
 Keg. 
 Reg. 
 Reg. 
 Reg. 
 Iteg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Reg. 
 Heg. 
 Reg. 
 lieg. 
 
 No. Page 
 
 05, Art. 95 . 1192 
 
 35, Art. 100 1203 
 
 55, Art. 101 1192 
 
 55, Art. 107 1192 
 
 55, Art. 109 1193 
 
 55, Art. 123 1222 
 
 55, Art. 126 1223 
 
 55, Art. 127 1223 
 
 55, Art. 145 1206 
 
 55, Rev., Art. 1 1168 
 
 55, Rev., Art. 2 1169 
 
 55, Rev., Art. 3 1167 
 
 55, Rev., Art. i 1169, 1189 
 
 55, Rev., Art. 1169 
 
 55, Rev., Art. 6 1166 
 
 55, Rev., Art. 7 1166 
 
 .55, Rev., Art. s 1167 
 
 55, Rev., Art. 9 1189 
 
 .15, Rev., Art. 10 1167 
 
 M. Rev., Art. 11 1167, 1189 
 
 55, Rev., Art. 12 1168 
 
 .55, Rev., Art. 13 1189 
 
 55, Rev., Art. 14 1190 
 
 55, Rev., Art. 15 1190 
 
 55, Rev., Art. 16 1167 
 
 .v., Rev., Art. 17 1168 
 
 .-)."), Rev., Art. 18 1167 
 
 35, Rev., Art. 19 1168 
 
 M, Rev., Art. 33 1198. 1208, 1221 
 
 :,-<[ Rev., Art. 34. 1218, 1220,1221 
 
 55. Rev., Art. 36 1221 
 
 r,7,. Rev., Art. 37 1217, 1218 
 
 .V), Rev., Art. 38 1218 
 
 .-j5. Rev., Art. 3!) 1217 
 
 5.-,. Rev., Art. 40 1217 
 
 .-,.-!. Rev., Art. 41 1218 
 
 .-M, Rev., Art. 42 1219 
 
 .-M, Rev., Art. 4:1 1220 
 
 .j.J. Rev., Art. 44 1220 
 
 35. Rev., Art. 45 1220 
 
 .-1.1, Rev., Art. 40 1220 
 
 5.-., Rev., Art. 47 1220 
 
 .M, Rev., Art. 4S liilS, 1214, 1215 
 
 .-..-., Rev., Art. 48 (b) 1213 
 
 .-M. Rev., Art. 49 1215 
 
 .-,5. Rev., Art. 50 1215 
 
 -,:>. Rev., Art. .51 1214 
 
 .-,.-,. Rev., Art. .52 1215 
 
 .",, Rev., Art. .5:i 1222 
 
 .15. Rev., Art. .14 1222 
 
 55. Rev., Art. Hi 1222 
 
 .15. Rev., Art. 57 1214 
 
 .15. Rev., Art. 58 1217 
 
 .11. Rev., Art. 59 1215 
 
 15. Rev., Art. liO 1214 
 
 5.5. Rev., Art. 61 1215 
 
 .11. Rev., Art. 02 llS'.i 
 
 .11: Rev., Art. 63 1190, 1217 
 
 .11. Rev., Art. 64_- 1221 
 
 .15. Rev., Art. 65 1221 
 
 .11. Rev., Art. 66 1190 
 
 5.1, Rev., Art. 07 1192 
 
 .15, Rev., Art. 08 ' 11'.n.ll05 
 
 .1.1, Rev., Art. 09 1197 
 
 55, Rev., Art. 70 1193 
 
 .15, Rev., Art. 71 1191 
 
 .55, Rev., Art. 72 1191 
 
 55, Rev., Art. 73 1191 
 
 55, Rev., Art. 74 1197 
 
 35, Kev., Art. 75 II93 
 
 55, Rev., Art. 76___ 11111,1196 
 
 55, Rev., Art. 77 1196 
 
 55, Rev., Art. 78 1191 
 
 .55, Rev., Art. 82 1193 
 
 .5.5, Rev., Art. 83 1195, 1196 
 
 55, Rev., Art. 84 1193 
 
 53, Rev., Art. 85 1197 
 
 55, Rev., Art. 86 1197 
 
 No 
 Reg. 55, 
 Reg. 55, 
 Reg. 53, 
 Reg. 55, 
 Reg. 55. 
 Reg. 55, 
 Reg. 55, 
 Reg. 55, 
 Reg. 55, 
 Heg. 55, 
 Reg. 55, 
 Reg. 55, 
 Reg. 55 
 Eeg. 55, 
 Reg. 65, 
 Reg. 55, 
 Reg. 55, 
 Reg. 55, 
 Reg. 55 
 Keg. 55 
 Reg. 55, 
 Reg. 55, 
 Keg. 55, 
 Keg. 55, 
 Reg. 55, 
 Reg. 55, 
 Reg. 55 
 Keg. 55, 
 Keg. 55 
 Keg. 55, 
 Keg. 53. 
 Keg. 55, 
 Eeg. 55, 
 Eeg. 55, 
 Reg. 53 
 Eeg. .13, 
 Reg. 55, 
 Eeg. 55, 
 Reg. .55. 
 Keg. " 
 Reg. 55, 
 Reg. 55 
 Reg. 35 
 Reg. 55. 
 Reg. 55. 
 Reg. 55, 
 Reg. 55, 
 Reg. 53 
 Reg. 55 
 Reg. 55 
 Eeg. 55, 
 Eeg. 55 
 Reg. 55, 
 Eeg. 55 
 Eeg. 53, 
 Eeg. 55, 
 Eeg. 55 
 Reg. 55 
 Reg. 55 
 Reg. .55 
 Reg. 55, 
 Reg. 
 Reg. 53, 
 Beg. 55. 
 Eeg. 35, 
 Reg. 55, 
 Reg. 53, 
 Reg. 55. 
 Reg. 55. 
 Reg. 55: 
 Reg. 55: 
 Eeg. 55, 
 Reg. .55. 
 Reg. 33 
 Eeg. --' 
 Eeg. 
 Reg. 55, 
 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Eev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Eev. 
 Rev. 
 Rev. 
 Eev. 
 Eev. 
 Eev. 
 Rev. 
 Rev. 
 Eev. 
 Eev. 
 Rev. 
 Eev. 
 Eev. 
 Eev. 
 Eev. 
 Rev. 
 Rev. 
 Kev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Eev. 
 Rev. 
 Rev. 
 Eev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Eev. 
 Eev. 
 Eev. 
 Eev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Rev. 
 Eev. 
 Eev. 
 Rev. 
 Itev. 
 Rev. 
 Eev. 
 Eev. 
 Eev. 
 Kev. 
 Kev. 
 Eev, 
 Eev. 
 
 Page 
 
 Art. 87 1194 
 
 Art. 88 1194 
 
 Art. 89 1194 
 
 Art. 90 1194 
 
 Art. 91 1194 
 
 Art. 92 1194 
 
 Art. 93 1194 
 
 Art. 94 1193 
 
 Art. 97 119K 
 
 Art. 98 1193 
 
 Art. 99 1195 
 
 Art. 100 1196 
 
 Art. 102 1194 
 
 Art. 103 1195 
 
 Art. 104 1196 
 
 Art. 105 1194 
 
 Art. 106 1197 
 
 Art. 108 : 1197 
 
 Art. 110 1195 
 
 Art. Ill 1198 
 
 Art. 112 1198 
 
 Art. 113 1205 
 
 Art. 114 1204 
 
 Art. 115 1204 
 
 Art. 116 1204 
 
 Art. 117 1204 
 
 Art. 118 1204 
 
 Art. 119 1203, 1204 
 
 Art. 120 1204 
 
 Art. 121 1223 
 
 Art. 122 1224 
 
 Art. 124 1223 
 
 Art. 125 1223 
 
 Art. 126 122:-t 
 
 Art. ^M 1223 
 
 Art. 129 1209 
 
 Art. 130 1205 
 
 Art. 131 1209 
 
 Art. 132 1200 
 
 Art. 134 1207 
 
 Art. 135 1209 
 
 Art. 136 1209 
 
 Art. 137 1207 
 
 Art. 138 1208 
 
 Art. 140 1209 
 
 Art. 141 1206 
 
 Art. 142 1207 
 
 Art. 143 1200 
 
 Art. 144 1208 
 
 Art. 148 1207 
 
 Art. 147 1206, 1207 
 
 Art. 148 1209 
 
 Art. 149 1205 
 
 Art. 150 - 1200 
 
 Art. 157 1200 
 
 Art. 158 1200 
 
 Art. 159 1200 
 
 Art. 160 2I20I 
 
 Art. 161 1201 
 
 Art. 162 1201 
 
 Art. 163 1202 
 
 Art. 104 1202 
 
 Art. 165 1202 
 
 Art. 166 1202, 1203 
 
 Art. 167 1202 
 
 Art. 168 1203 
 
 Art. 170 11C5 
 
 Art. 171 1164 
 
 Art. 176 1163 
 
 Art. 177 1103 
 
 Art. 178 1164 
 
 Art. 179 1165 
 
 .Art. 180 1165 
 
 Art. 181 _1163 
 
 Art. 182 1163 
 
 Art. 183 _1164 
 
 Art. 184 1164 
 
TREASURY DECISIONS 
 
 No. 
 
 
 Page. 
 
 No. 
 
 Page. 
 
 No. 
 
 Page. 
 
 623 
 
 
 873 
 
 
 556. 614, 618, 
 
 2452 
 
 88 
 
 974 
 
 
 915 
 
 
 623, 626, 645, 
 
 2467 
 
 1146 
 
 1293 
 
 
 915 
 
 
 840, 967, 968 
 
 2481 
 
 693, 694, 725 
 
 1373 
 
 
 873 
 
 2137 
 
 68, 75, 91, 104, 
 
 2501 
 
 293 
 
 1499 
 
 
 873 
 
 
 142, 168, 170, 
 
 2511 
 
 603 
 
 1617 
 
 
 950 
 
 
 234, 247, 248. 
 
 2519 
 
 573 
 
 1651 
 
 
 878 
 
 
 249, 250. 262. 
 
 2541 
 
 1055 
 
 1655 
 
 
 321 
 
 
 314, 337, 417, 
 
 2561 
 
 834 
 
 1659 
 
 
 858 
 
 
 505, 508, 515, 
 
 2581 
 
 834 
 
 1675 
 
 81 
 
 725, 885 
 
 \ 
 
 559, 586, 589, 
 
 2584 
 
 1173 
 
 1701 
 
 
 910 
 
 
 681. 683, 694. 
 
 2585 
 
 482 
 
 1727 
 
 
 293, 636 
 
 
 827, 834 
 
 2509 
 
 1170, 1181, 1190, 
 
 1728 
 
 
 852 
 
 2152 
 
 36, 66, 248, 
 
 
 1191, 1193, 1195, 
 
 1742 
 
 
 593 
 
 
 313, 378, 502. 
 
 
 1196, 1207, 1215, 
 
 1763 
 
 
 618 
 
 
 505, 555. 557, 
 
 
 1224 
 
 1852 
 
 
 268 
 
 
 584, 593, 595, 
 
 2600 
 
 388, 390, 395 
 
 1863 
 
 
 224 
 
 
 598, 612, 646, 
 
 2616 
 
 .jO.-. 
 
 1865 
 
 
 234 
 
 
 681, 683, 688, 
 
 2625 
 
 560, 605, 797 
 
 1890 
 
 
 967, 972 
 
 
 690 
 
 2649 
 
 388 
 
 1909 
 
 
 960 
 
 2153 
 
 152, 159. 162, 
 
 2652 
 
 970 
 
 1932 
 
 
 6 
 
 
 350. 646, 680 
 
 2659 
 
 523 
 
 1941 
 
 
 319 
 
 2155 
 
 1174, 1196 
 
 2660 
 
 .595 
 
 1943 
 
 
 136 
 
 2158 
 
 878 
 
 2662 
 
 260, 263, 1134, 1135 
 
 1948 
 
 
 616 
 
 2161 
 
 75, 239. 263, 
 
 2065 
 
 152, 156, 157, 158, 
 
 1940 
 
 
 837 
 
 
 342, 386, 546, 
 
 
 159, 162, 164 
 
 1950 
 
 
 898 
 
 
 618, 647 
 
 2666 
 
 879 
 
 1957 
 
 
 166. 175 
 
 2164 
 
 1166 
 
 2669 
 
 100 
 
 1960 
 
 
 234, 605 
 
 2170 
 
 1215, 1216, 
 
 2670 
 
 951, 952, 933 
 
 1989 
 
 
 622, 626 
 
 
 1217, 1221 
 
 2673 
 
 833, 993 
 
 1990 
 
 
 878 
 
 2174 
 
 836 
 
 2678 
 
 523 
 
 1993 
 
 
 234 
 
 2182 
 
 1183 
 
 2682 
 
 1214, 1217, 1218, 
 
 2001 
 
 
 828 
 
 2190 
 
 1208 
 
 
 1221, 1239, 1246 
 
 2003 
 
 
 859 
 
 2200 
 
 249, 265 
 
 2685 
 
 1183 
 
 2005 
 
 341, 
 
 626, 628, 
 
 2210 
 
 272, 571. 
 
 2686 
 
 494 
 
 
 
 680, 697 
 
 
 579, 584 
 
 2692 
 
 777, 778, 779 
 
 2012 
 
 
 65 
 
 2220 
 
 1166 
 
 2693 
 
 312, 314, 963 
 
 2030 
 
 
 65 
 
 2224 
 
 648 
 
 2694 
 
 1172 
 
 2042 
 
 
 1191 
 
 2226 
 
 881 
 
 2696 
 
 365, 366, 591, 593, 
 
 2054 
 
 
 1168 
 
 2231 
 
 136 
 
 
 594, 595, 596 
 
 2067 
 
 1204, 1223 
 
 2233 
 
 836 
 
 2697 
 
 869 
 
 2072 
 
 
 1170 
 
 2238 
 
 836 
 
 2700 
 
 523 
 
 2073 
 
 1175, 1180, 1181 
 
 2242 
 
 42, 43, 55, 981 
 
 2701 
 
 1221 
 
 2077 
 
 
 697 
 
 2253 
 
 1197 
 
 2700 
 
 344 
 
 2079 
 
 
 373, 374 
 
 2257 
 
 1167 
 
 2707 
 
 463 
 
 2081 
 
 
 1209 
 
 2262 
 
 593 
 
 2711 
 
 160 
 
 2085 
 
 
 1208 
 
 2265 
 
 1215 
 
 2713 
 
 1167, 1189, 1198, 
 
 2090 
 
 103, 
 
 121, 144, 
 
 2269 
 
 1208 
 
 
 121G 
 
 
 145, 
 
 178, 188, 
 
 2274 
 
 531 
 
 2716 
 
 930 
 
 
 229, 
 
 234, 248, 
 
 2278 
 
 1192 
 
 2734 
 
 330 
 
 
 249, 
 
 262, 265, 
 
 2279 
 
 1192 
 
 2736 
 
 :'.4, 523 
 
 
 315, 
 
 330, 364, 
 
 2283 
 
 1190, 1196 
 
 2737 
 
 308 
 
 
 367, 
 
 368, 370, 
 
 2289 
 
 135, 136 
 
 2742 
 
 231 
 
 
 372, 
 
 377. 417, 
 
 2293 
 
 836 
 
 2744 
 
 388 
 
 
 546, 
 
 547, 549, 
 
 2311 
 
 910, 1191 
 
 2747 
 
 336 
 
 
 555, 
 
 557, 573, 
 
 2313 
 
 10, 59, 65, 91 
 
 27.52 
 
 1172, 1175, 1176, 
 
 
 587, 
 
 588, 589, 
 
 2317 
 
 10 
 
 
 1177, 1178, 1181, 
 
 
 590, 
 
 595, 598, 
 
 2325 
 
 65 
 
 
 1182, 1185, 1180 
 
 
 599, 
 
 601. 613, 
 
 2331 
 
 133 
 
 27.j4 
 
 083 
 
 
 616, 
 
 626, 645. 
 
 2341 
 
 881, 910 
 
 2759 
 
 956, 960 
 
 
 646, 
 
 682, 697, ' 
 
 2364 
 
 1150 
 
 2762 
 
 182 
 
 
 836, 
 
 837, 966, 
 
 2380 
 
 100 
 
 2769 
 
 OG.'! 
 
 
 967, 
 
 968, 972 
 
 2391 
 
 98 
 
 2786 
 
 1184, 1198 
 
 2092 
 
 
 40 
 
 2401 
 
 88, 300 
 
 2791 
 
 1060, 1101 
 
 2098 
 
 
 1165 
 
 2402 
 
 94 
 
 2794 • 
 
 43, 981, 982 
 
 2101 
 
 
 1217 
 
 2407 
 
 312 
 
 2797 
 
 1102 
 
 2111 
 
 1193, 1197 1 
 
 2418 
 
 211 
 
 2805 
 
 260 
 
 2112 
 
 
 1170 
 
 242:i 
 
 1156 
 
 2815 
 
 85 
 
 21i:i 
 
 1190, 1191, 
 
 242.-, 
 
 310 
 
 2817 
 
 1205, 1240 
 
 
 1192, 1193, 
 
 2427 
 
 777, 778, 779 
 
 2836 
 
 483 
 
 
 1194, 1195, , 
 
 2433 
 
 156, 560, 609, 
 
 2840 
 
 83(1 
 
 
 
 1196 
 
 
 797, 810 
 
 2844 
 
 S3;i 
 
 2124 
 
 
 374 
 
 2441 
 
 234, 494 
 
 2847 
 
 237, 562, 599, 600 
 
 2129 
 
 1223, 1224 1 
 
 2442 
 
 587, 972 
 
 2849 
 
 835 
 
 2130 
 
 
 432 
 
 2443 
 
 923 
 
 2851 
 
 878, 870 
 
 2134 
 
 1205, 1208, 1209 i 
 
 2446 
 
 685 
 
 2857 
 
 483 
 
 2135 
 
 30, 40, 55, 58, 
 
 2450 
 
 46 
 
 2858 
 
 181 
 
 
 121, 
 
 364, 372, 1 
 
 2451 
 
 284, 344 
 
 2859 
 
 700 
 
 xlix 
 
TREASURY DECISIONS, OPINIONS 
 
 TRE 
 
 4SURY DECISI 
 
 ONS- 
 
 -Continued. 
 
 
 
 
 
 No. 
 
 Page. 
 
 No. 
 
 
 Page. 
 
 No. 
 
 
 
 Page. 
 
 2865 
 
 485 
 
 3032 
 
 
 818 
 
 3154 
 
 
 
 928 
 
 2871 
 
 910. 923, 924, 926 
 
 3042 
 
 
 874 
 
 3155 
 
 43 
 
 . 44 
 
 981, 982 
 
 2873 
 
 815 
 
 3043 
 
 
 268 
 
 3156 
 
 
 
 1155 
 
 2874 
 
 881 
 
 3044 
 
 661, 
 
 007, 818 
 
 3160 
 
 
 1139, 1157 
 
 2876 
 
 59 
 
 30411 
 
 
 287 
 
 3166 
 
 
 
 851 
 
 2882 
 
 043, 937 
 
 3047 
 
 
 401 
 
 3170 
 
 
 
 528, 1069 
 
 2891 
 
 1241 
 
 3048 
 
 
 495 
 
 3179 
 
 
 319, 
 
 320, 322 
 
 2899 
 
 290 
 
 3049 
 
 
 377, 378 
 
 3183 
 
 
 
 1024 
 
 2901 
 
 1134, 1135 
 
 3051 
 
 
 1266 
 
 3188 
 
 
 
 847 
 
 2903 
 
 840, 905 
 
 3052 
 
 
 528, 532 
 
 3190 
 
 
 
 115 
 
 2919 
 
 1189 
 
 3053 
 
 
 285, 286 
 
 3193 
 
 
 174 
 
 , 211, 212 
 
 2920 
 
 785 
 
 3056 
 
 
 228, 989 
 
 3200 
 
 
 
 1034 
 
 2924 
 
 451 
 
 3057 
 
 290. 
 
 291. 292, 
 
 3206 
 
 158, 
 
 185, 
 
 227, 341, 
 
 2925 
 
 676 
 
 
 
 342, 643 
 
 
 350, 
 
 371, 
 
 407, 413, 
 
 2927 
 
 618 
 
 3058 
 
 403 
 
 , 404, 405 
 
 
 414, 
 
 415, 
 
 417. 418, 
 
 2929 
 
 683 
 
 3060 
 
 
 788 
 
 
 419, 
 
 421, 
 
 429, 433, 
 
 2931 
 
 1101 
 
 3061 
 
 
 688 
 
 
 436, 
 
 445, 
 
 448, 451, 
 
 2933 
 
 617 
 
 3062 
 
 581 
 
 587, 686 
 
 
 456, 
 
 459, 
 
 463, 478, 
 
 2935 
 
 831 
 
 3065 
 
 
 756 
 
 
 495, 
 
 498, 
 
 507, 512, 
 
 2937 
 
 616 
 
 3071 
 
 
 49 
 
 
 525, 
 
 535, 
 
 541, 549, 
 
 2943 
 
 168 
 
 307S 
 
 
 283 
 
 
 033, 
 
 641, 
 
 643, 645, 
 
 29.51 
 
 836 
 
 3080 
 
 
 1023 
 
 
 
 
 807 
 
 29.52 
 
 836 
 
 3082 
 
 464 
 
 466, 469 
 
 3209 
 
 
 
 631 
 
 2956 
 
 759, 761, 703 
 
 3089 
 
 716, 
 
 717, 759 
 
 3210 
 
 
 
 962 
 
 2960 
 
 372, 807 
 
 3101 
 
 
 568 
 
 3215 
 
 
 
 237, 600 
 
 2961 
 
 840 
 
 3103 
 
 
 1230 
 
 3210 
 
 
 
 874, 876 
 
 2962 
 
 840 
 
 310.5 
 
 
 238, 900 
 
 3220 
 
 
 
 1089 
 
 2960 
 
 563 
 
 3108 
 
 
 394 
 
 3221 
 
 
 
 881 
 
 2967 
 
 991 
 
 3109 
 
 
 401 
 
 3229 
 
 
 
 875. 876 
 
 2969 
 
 995 
 
 3110 
 
 
 826 
 
 3235 
 
 
 1129, 1130 
 
 2970 
 
 783 
 
 3111 
 
 
 75 
 
 3238 
 
 
 
 535 
 
 2972 
 
 624, 625 
 
 3112 
 
 
 373 
 
 3240 
 
 
 
 942 
 
 2977 
 
 563 
 
 311.5 
 
 
 880, 881 
 
 3242 
 
 
 
 375 
 
 2979 
 
 424 
 
 3118 
 
 1171, 1172. 1177 
 
 3243 
 
 
 
 1089 
 
 2987 
 
 139 
 
 3123 
 
 709, 
 
 711, 712 
 
 3245 
 
 
 1037, 1038 
 
 2988 
 
 144 
 
 3126 
 
 
 874 
 
 .3247 
 
 
 
 802, 800 
 
 2992 
 
 368, 371 
 
 3133 
 
 
 233 
 
 3250 
 
 
 
 879 
 
 2998 
 
 563 
 
 3130 
 
 
 832, 856 
 
 3251 
 
 
 
 919 
 
 3018 
 
 991 
 
 3137 
 
 
 1034 
 
 3260 
 
 923, 93] 
 
 , 932, 934 
 
 3019 
 
 573 
 
 3138 
 
 
 49 
 
 3261 
 
 028, 643, 645, 659 
 
 3024 
 
 403 
 
 3143 
 
 
 880 
 
 3262 
 
 
 
 657 
 
 .•'.02S 
 
 788 
 
 3147 
 
 
 431. 539 
 
 3263 
 
 
 
 866 
 
 303(1 
 
 958 
 
 315.5 
 
 28.5, 286, 1106, 1107 
 
 3265 
 
 
 
 654 
 
 3031 
 
 957 
 
 
 
 
 
 
 
 
 
 OPINIC 
 
 ►NS ATTORNEY GEP 
 
 ^ERA] 
 
 L. 
 
 
 
 X", 
 
 Page. 
 
 No. 
 
 
 Page. 
 
 No. 
 
 
 
 Page. 
 
 1 
 
 126, 817 
 
 13 
 
 
 377, 378 
 
 
 
 
 303, 480 
 
 o 
 
 IDS 
 
 18 
 
 
 1271 
 
 31 
 
 
 
 .579 
 
 3 
 
 373 
 
 28 
 
 74 
 
 , 170, 268. 
 
 
 
 
 
 
 SOLI 
 
 CITOR'S LAW OPIN 
 
 IONS. 
 
 
 
 
 No. 
 
 Page. 
 
 No. 
 
 
 Page. 
 
 No. 
 
 
 
 Page. 
 
 130 
 
 237 
 
 916 
 
 
 1029, 1030 
 
 1024 
 
 
 
 496 
 
 29(1 
 
 241 
 
 922 
 
 
 606 
 
 1028 
 
 
 
 902 
 
 797 
 
 105 
 
 926 
 
 
 581, 614 
 
 1032 
 
 
 
 285 
 
 780 
 
 625 
 
 928 
 
 
 615 
 
 1033 
 
 
 
 784 
 
 781 
 
 488, 1077 
 
 9.52 
 
 
 305, 522 
 
 1035 
 
 
 
 645, 903 
 
 7S.5 
 
 42 
 
 942 
 
 
 1100 
 
 1040 
 
 
 
 547, 548 
 
 7! 10 
 
 334 
 
 957 
 
 
 916 
 
 1045 
 
 
 
 551, 571, 
 
 7'. 11 
 
 43.5 
 
 962 
 
 
 4.55 
 
 
 
 
 578, 592 
 
 7112 
 
 .'0.> 
 
 968 
 
 
 236, 621 
 
 1050 
 
 
 
 . 295 
 
 80! 1 
 
 y.',:: 
 
 '.174 
 
 
 918 
 
 1051 
 
 
 
 129 
 
 812 
 
 617 
 
 976 
 
 
 226 
 
 1054 
 
 
 
 775 
 
 810 
 
 186 
 
 979 
 
 
 .563 
 
 1055 
 
 
 
 767 
 
 818 
 
 897 
 
 980 
 
 
 349 
 
 1056 
 
 
 
 292 
 
 833 
 
 868, 914, 928, 930 
 
 982 
 
 
 787 
 
 1059 
 
 
 
 609 
 
 S44 
 
 394 
 
 988 
 
 
 474 
 
 1060 
 
 
 
 897, 1266 
 
 S45 
 
 639. 659 
 
 995 
 
 
 .554 
 
 1061 
 
 
 
 623 
 
 8u.S 
 
 111 9 
 
 1000 
 
 
 1126 
 
 1062 
 
 
 219 
 
 220, 455. 
 
 .862 
 
 705 
 
 1000a 
 
 
 1126 
 
 
 
 
 645, 903 
 
 872 
 
 3080 
 
 1008 
 
 
 898, 899 
 
 1063 
 
 
 
 283. 1149. 
 
 870 
 
 847 
 
 1009 
 
 
 243 
 
 
 
 
 1150, 1156 
 
 .880 
 
 461 
 
 1012 
 
 
 111, 110 
 
 1060 
 
 
 
 226 
 
 8.S4 
 
 868 
 
 1014 
 
 
 .368 
 
 1072 
 
 
 
 910 
 
 907 
 
 905. 900 
 
 1010 
 
 
 187 
 
 1073 
 
 
 
 525 
 
 014 
 
 543 
 
 1023 
 
 
 1131 
 
 1074 
 
 
 
 708 
 
OPINIONS, RECOMMENDATIONS, ETC. 
 
 li 
 
 SOLICITOR'S OPINIONS. 
 
 7 
 11 
 14 
 23 
 26 
 32 
 35 
 36 
 40 
 41 
 42 
 46 
 49 
 52 
 55 
 56 
 
 Page. 1 
 
 
 441 
 
 
 818 
 
 
 907 
 
 
 807 
 
 
 827 
 
 
 234 
 
 
 464 
 
 917, 
 
 928 
 
 
 458 
 
 
 173 
 
 285, 286, 
 
 293 
 
 802,, 
 
 1086 
 
 
 186 
 
 
 494 
 
 216 
 
 217 
 
 
 907 
 
 
 463 
 
 215 
 
 217 
 
 No. 
 
 Page. 
 
 No. 
 
 Page. 
 
 57 
 
 336 
 
 92 
 
 861, 862 
 
 59 
 
 349 
 
 93 
 
 212 
 
 60 
 
 861, 906 
 
 97 
 
 377 
 
 68 
 
 338 
 
 99 
 
 334 
 
 70 
 
 287 
 
 100 
 
 290 
 
 71 
 
 1172, 1173 
 
 100 
 
 932 
 
 72 
 
 444 
 
 107 
 
 932 
 
 76 
 
 292 
 
 110 
 
 526 
 
 77 
 
 854 
 
 114 
 
 697 
 
 78 
 
 320 
 
 115 
 
 516 
 
 79 
 
 860, 861, 868, 
 
 116 
 
 176 
 
 
 919, 930 
 
 117 
 
 171, 1021 
 
 80 
 
 720, 728 
 
 118 
 
 717 
 
 83 
 
 294 
 
 120 
 
 322 
 
 86 
 
 580, 717 
 
 121 
 
 50 
 
 88 
 
 124 
 
 122 
 
 379 
 
 90 
 
 824, 1263 
 
 127 
 
 234 
 
 91 
 
 218 
 
 845 
 
 812 
 
 SOLICITOR'S MEMORANDA. 
 
 No. 
 
 Page. 
 
 No. 
 
 Page. 
 
 No. 
 
 Page. 
 
 -923 
 
 
 809 
 
 1052 
 
 
 563 
 
 1298 
 
 234 
 
 926 
 
 389, 
 
 902 
 
 1068 
 
 215, 
 
 216 
 
 1305 
 
 610 
 
 930 
 
 
 817 
 
 1081 
 
 
 536 
 
 1312 
 
 367 
 
 931 
 
 
 904 
 
 1088 
 
 
 137 
 
 1315 
 
 800 
 
 035 
 
 
 570 
 
 1090 
 
 
 228 
 
 1329 
 
 545 
 
 952 
 
 
 335 
 
 1117 
 
 
 33 
 
 1334 
 
 903 
 
 957 
 
 
 545 
 
 1140 
 
 
 320 
 
 1335 
 
 802, 810 
 
 958 
 
 
 330 
 
 1145 
 
 
 232 
 
 1337 
 
 215, 216 
 
 961 
 
 
 134 
 
 1156 
 
 
 870 
 
 1344 
 
 100 
 
 965 
 
 
 600 
 
 1165 
 
 
 169 
 
 1353 
 
 467 
 
 969 
 
 
 782 
 
 1176 
 
 
 563 
 
 1361 
 
 174 
 
 971 
 
 
 512 
 
 1179 
 
 
 403 
 
 1362 
 
 324, 564 
 
 972 
 
 
 217 
 
 1200 
 
 
 1068 
 
 1365 
 
 503, 725, 726 
 
 975 
 
 
 972 
 
 1202 
 
 
 563 
 
 1371 
 
 908 
 
 983 
 
 799, 
 
 809 
 
 1205 
 
 215, 
 
 216 
 
 1373 
 
 390 
 
 992 
 
 
 563 
 
 1217 
 
 
 546 
 
 1374 
 
 116, 357 
 
 1001 
 
 
 213 
 
 1229 
 
 
 131 
 
 1384 
 
 541 
 
 1003 
 
 
 389 
 
 1229a 
 
 
 131 
 
 1385 
 
 455 
 
 1022 
 
 
 460 
 
 1246 
 
 323, 326 
 
 564 
 
 1387 
 
 1057 
 
 1048 
 
 569, 
 
 581 
 
 1294 
 
 
 443 
 
 1391 
 
 1048 
 
 ADVISORY TAX BOARD RECOMMENDATIONS. 
 
 No. 
 
 Page. 
 
 No. 
 
 Page. 
 
 No. 
 
 Page. 
 
 2 
 
 1106 
 
 28 
 
 
 485 
 
 47 
 
 129 
 
 3 
 
 1099 
 
 29 
 
 
 972 
 
 48 
 
 341, 396, 398, 428 
 
 4 
 
 716, 1044 
 
 32 
 
 354, 
 
 1047 
 
 49 
 
 1055, 1135 
 
 6 
 
 1065 
 
 33 
 
 323, 
 
 326 
 
 54 
 
 1098 
 
 7 
 
 260 
 
 34 
 
 180 
 
 625 
 
 55 
 
 660 
 
 8 
 
 22 
 
 36 
 
 
 258 
 
 57 
 
 420, 421, 422, 
 
 10 
 
 669 
 
 37 
 
 
 818 
 
 
 423, 430 
 
 12 
 
 372, 805 
 
 38 
 
 
 1044 
 
 58 
 
 203, 1023 
 
 13 
 
 647, 811 
 
 39 
 
 
 443 
 
 59 
 
 684 
 
 35 
 
 668 
 
 41 
 
 
 543 
 
 63 
 
 532 
 
 16 
 
 1111 
 
 42 
 
 
 533 
 
 65 
 
 399 
 
 24 
 
 470, 471, 474 
 
 43 
 
 
 521 
 
 67 
 
 1059 
 
 25 
 
 442 
 
 44 
 
 
 703 
 
 71 
 
 512 
 
 27 
 
 1132 
 
 46 
 
 591, 
 
 592 
 
 521 
 
 256 
 
 ADVISORY TAX BOARD MEMORANDA. 
 
 No. 
 2 
 4 
 
 17 
 18 
 21 
 30 
 31 
 32 
 
 Page. 
 
 No. 
 
 Page. 
 
 No. 
 
 Page. 
 
 33 
 
 39 
 
 699 
 
 57 
 
 1045 
 
 1037 
 
 41 
 
 1056 
 
 58 
 
 1120 
 
 1053 
 
 42 
 
 1113 
 
 60 
 
 1038, 1039, 1124 
 
 1119 
 
 44 
 
 .591 
 
 61 
 
 543 
 
 202 
 
 49 
 
 1083 
 
 70 
 
 591 
 
 1050 
 
 50 
 
 1025, 1112 
 
 73 
 
 410, 549 
 
 705 
 
 51 
 
 1103 
 
 77 
 
 52(1 
 
 775 
 
 52 
 
 668 
 
 81 
 
 597 
 
 1127 
 
 53 
 
 1124 
 
 82 
 
 522, 1071 
 
 396 
 
 .55 
 
 812 
 
 86 
 
 .591, .592 
 
 250 
 
 56 
 
 1095 
 
 
 
lii 
 
 RECOMMENDATIONS, MEMORANDA 
 
 COMMITTEE ON APPEALS AND REVIEW RECOMMEN- 
 DATIONS. 
 
 No. 
 
 Page. 
 
 Xo. 
 
 1 
 
 539 
 
 223 
 
 fi 
 
 536 
 
 220 
 
 7 
 
 203 
 
 232 
 
 9 
 
 1036 
 
 233 
 
 10 
 
 1049 
 
 237 
 
 13 
 
 476 
 
 242 
 
 15 
 
 .361 
 
 247 
 
 16 
 
 1086 
 
 249 
 
 17 
 
 1039 
 
 250 
 
 18 
 
 398 
 
 '^.5'^ 
 
 23 
 
 203 
 
 257 
 
 24 
 
 204 
 
 265 
 
 27 
 
 691 
 
 266 
 
 20 
 
 105(1, 1056 
 
 268 
 
 30 
 
 649 
 
 269 
 
 31 
 
 .591, 592 
 
 272 
 
 32 
 
 501, 592 
 
 27.5 
 
 33 
 
 424, 420, 432 
 
 270 
 
 3fi 
 
 1110 
 
 280 
 
 43 
 
 268, 1020 
 
 284 
 
 4.-> 
 
 692 
 
 285 
 
 40 
 
 106, 203 
 
 289 
 
 .10 
 
 203 
 
 291 
 
 33 
 
 •501, 592 
 
 301 
 
 58 
 
 203 
 
 307 
 
 sa 
 
 203 
 
 315 
 
 61 
 
 .591, 592 
 
 .321 
 
 0.71 
 
 1019 
 
 326 
 
 07 
 
 114, 512 
 
 328 
 
 70 
 
 1118 
 
 .331 
 
 71 
 
 1050. 1058, 1062, 
 
 .332 
 
 
 1090 
 
 335 
 
 78 
 
 1071 
 
 .337 
 
 81 
 
 1101 
 
 .338 
 
 Wi 
 
 1036 
 
 339 
 
 03 
 
 695 
 
 342 
 
 00 
 
 624 
 
 340 
 
 07 
 
 570 
 
 340 
 
 08 
 
 583 
 
 352 
 
 102 
 
 1(170, 1073, 1098 
 
 :!50 
 
 104 
 
 1126 
 
 358 
 
 110 
 
 1122 
 
 36(1 
 
 111 
 
 1080 
 
 303 
 
 113 
 
 125 
 
 364 
 
 IIG 
 
 1070 
 
 365 
 
 123 
 
 263 
 
 366 
 
 124 
 
 527 
 
 367 
 
 120 
 
 455 
 
 373 
 
 127 
 
 518 
 
 374 
 
 140 
 
 394 
 
 375 
 
 la.T 
 
 667 
 
 370 
 
 156 
 
 430, 452 
 
 377 
 
 161 
 
 1046 
 
 378 
 
 173 
 
 453, 454 
 
 379 
 
 178 
 
 582 
 
 383 
 
 182 
 
 364, 801, 805 
 
 384 
 
 185 
 
 700 
 
 390 
 
 209 
 
 1117 
 
 .391 
 
 210 
 
 1024 
 
 393 
 
 211 
 
 1021 
 
 394 
 
 217 
 
 796 
 
 396 
 
 218 
 
 314, 324 
 
 .397 
 
 210 
 
 314. 323 
 
 398 
 
 221 
 
 1106 
 
 403 
 
 Page. 
 
 No. 
 
 591, 592 
 
 404 
 
 1063 
 
 408 
 
 808 
 
 409 
 
 1047 
 
 413 
 
 234. 1069 
 
 425 
 
 627 
 
 431 
 
 1020 
 
 435 
 
 52, 418, 625, 627 
 
 436 
 
 551 
 
 
 432. 433-. 435 
 
 444, 
 
 172 
 
 448 
 
 968 
 
 459 
 
 569 
 
 463 
 
 1043. 1085 
 
 464 
 
 639 
 
 460 
 
 685 
 
 473 
 
 808 
 
 475 
 
 692 
 
 477 
 
 121 
 
 470 
 
 125 
 
 487 
 
 249. 1083. 1086 
 
 493 
 
 447, 803 
 
 498" 
 
 668 
 
 490 
 
 564 
 
 500 
 
 1053. 1055 
 
 501 
 
 1023 
 
 .500 
 
 372 
 
 517 
 
 1124 
 
 518 
 
 1050 
 
 519 
 
 676. 916 
 
 320 
 
 1122 
 
 538 
 
 1123 
 
 542 
 
 1041. 1087 
 
 545 
 
 1117. 1122. 1124 
 
 547 
 
 683 
 
 551 
 
 816, 818 
 
 554 
 
 592 
 
 550 
 
 706 
 
 550 
 
 652 
 
 565 
 
 1070. 1098 
 
 570 
 
 1046 
 
 571 
 
 900 
 
 572 
 
 202 
 
 577 
 
 203 
 
 588 
 
 652 
 
 589 
 
 348 
 
 .590 
 
 .548 
 
 594 
 
 600 
 
 399 
 
 589 
 
 004 
 
 347 
 
 Oil 
 
 1041 
 
 018 
 
 628, 693 
 
 619 
 
 256 
 
 624 
 
 565 
 
 629 
 
 1082 
 
 636 
 
 587, 1089 
 
 641 
 
 1046, 1091 
 
 643 
 
 816. 818 
 
 045 
 
 1083 
 
 051 
 
 1066 
 
 652 
 
 1050 
 
 664 
 
 1118 
 
 667 
 
 627 
 
 678 
 
 50. 429 
 
 
 Page. 
 
 627 
 
 1098 
 
 1065. 1084 
 
 1049 
 
 1020 
 
 642. 736 
 
 592, 635. 636 
 
 1062. 1086, 1090, 
 
 1093 
 
 566. 581. 6.38 
 
 255 
 
 1055. 1119 
 
 197, 198. 203 
 
 198. 199. 1122 
 
 041 
 
 1067 
 
 31 
 
 .327 
 
 649 
 
 401. 067 
 
 592 
 
 642 
 
 1108 
 
 203 
 
 817 
 
 396 
 
 394, 1089, 1090 
 
 1123 
 
 592 
 
 683, 1044 
 
 1123, 1124 
 
 639 
 
 239 
 
 1109 
 
 119. 681, 780 
 
 675 
 
 641, 1117 
 
 234 
 
 146. 1014 
 
 692. 743 
 
 17S 
 
 568 
 
 518 
 
 571. 646 
 
 501 
 
 670 
 
 682 
 
 1118. 1122. 1123 
 
 625, 627 
 
 1049 
 
 1083, 1114, 1132 
 
 1039, 1114 
 
 203 
 
 172, 1020 
 
 2, 1020, 1021, 1117 
 
 255. 263 
 
 791 
 
 1084 
 
 170 
 
 211. 212 
 
 380 
 
 413 
 
 1047 
 
 COMMITTEE ON APPEALS AND REVIEW MEMORANDA 
 
 10 
 12 
 13 
 16 
 
 17 
 
 ?age. 
 
 No. 
 
 1031 
 
 23 
 
 563 
 
 24 
 
 669 
 
 25 
 
 1037 
 
 26 
 
 456 
 
 29 
 
 705 
 
 30 
 
 1122 
 
 31 
 
 181 
 
 33 
 
 613 
 
 34 
 
 739 
 
 30 
 
 431. 
 
 Page. 
 
 Xi). 
 
 899 
 
 37 
 
 710 
 
 38 
 
 181, 184 
 
 39 
 
 609 
 
 40 
 
 609 
 
 41 
 
 591, 592 
 
 42 
 
 .652 
 
 43 
 
 395 
 
 44 
 
 435, 684 
 
 40 
 
 326 
 
 51 
 
 Page. 
 
 132, 150 
 
 396 
 
 591, .592 
 
 1020 
 
 1019 
 
 203 
 
 1136 
 
 1071 
 
 918 
 
 1100 
 
MEMORANDA, DECISIONS 
 
 liii 
 
 COMMITTEE ON APPEALS AND REVIEW MEMORANDA— 
 Continued. 
 
 No. 
 
 Page. 
 
 No. 
 
 56 
 
 349. 869 
 
 95 
 
 59 
 
 203 
 
 96 
 
 60 
 
 3 085 
 
 100 
 
 64 
 
 653 
 
 101 
 
 67 
 
 446, 453 
 
 104 
 
 68 
 
 434 
 
 105 
 
 71 
 
 1072 
 
 106 
 
 79 
 
 315 
 
 110 
 
 80 
 
 1053, 1055 
 
 111 
 
 82 
 
 521 
 
 112 
 
 85 
 
 396 
 
 114 
 
 88 
 
 619 
 
 115 
 
 89 
 
 1120 
 
 116 
 
 93 
 
 514 
 
 120 
 
 94 
 
 454 
 
 121 
 
 No. 
 
 Page. 
 
 OF] 
 
 No. 
 
 2 
 
 202, 203 
 
 95 
 
 3 
 
 807 
 
 97 
 
 4 
 
 518 
 
 98 
 
 5 
 
 518 
 
 102 
 
 6 
 
 547 
 
 104 
 
 7 
 
 429 
 
 105 
 
 9 
 
 805 
 
 , 108 
 
 12 
 
 383 
 
 110 
 
 13 
 
 804, 805 
 
 111 
 
 14 
 
 547 
 
 112 
 
 15 
 
 373 
 
 113 
 
 16 
 
 485, 487 
 
 114 
 
 19 
 
 364, 801, 805, 806 
 
 115 
 
 20 
 
 310 
 
 117 
 
 21 
 
 551 
 
 119 
 
 23 
 
 473 
 
 120 
 
 24 
 
 470, 474 
 
 121 
 
 25 
 
 471 
 
 122 
 
 27 
 
 375, 873 
 
 123 
 
 28 
 
 1077 
 
 124 
 
 30 
 
 490 
 
 125 
 
 31 
 
 487 
 
 126 
 
 33 
 
 381 
 
 ■ 127 
 
 34 
 
 489 
 
 128 
 
 35 
 
 63 
 
 129 
 
 36 
 
 374 
 
 ■ 131 
 
 38 
 
 574 
 
 133 
 
 39 
 
 564 
 
 134 
 
 40 
 
 604 
 
 136 
 
 42 
 
 625 
 
 137 
 
 43 
 
 770 
 
 138 
 
 44 
 
 564 
 
 139 
 
 47 
 
 668 
 
 140 
 
 48 
 
 566 
 
 143 
 
 51 
 
 113 
 
 144 
 
 58 
 
 144 
 
 146 
 
 60 
 
 325 
 
 148 
 
 61 
 
 329 
 
 152 
 
 63 
 
 318 
 
 153 
 
 64 
 
 336 
 
 156 
 
 65 
 
 337 
 
 162 
 
 66 
 
 230 
 
 163 
 
 70 
 
 619 
 
 165 
 
 71 
 
 816 
 
 167 
 
 73 
 
 244 
 
 174 
 
 74 
 
 868 
 
 . 175 
 
 75 
 
 268 
 
 177 
 
 79 
 
 1025 
 
 ■ 179 
 
 80 
 
 1038 
 
 180 
 
 81 
 
 1075 
 
 181 
 
 82 
 
 1093 
 
 182 
 
 83 
 
 1174 
 
 184 
 
 85 
 
 1099 
 
 185 
 
 86 
 
 1077 
 
 186 
 
 87 
 
 1220, 1228 
 
 187 
 
 89 
 
 1041 
 
 188 
 
 90 
 
 1090 
 
 189 
 
 91 
 
 1057 
 
 190 
 
 92 
 
 1058 
 
 191 
 
 93 
 
 1077 
 
 192 
 
 94 
 
 1129 
 
 193 
 
 Page. 
 
 684 
 
 1115 
 
 393, 558 
 
 640 
 
 327 
 
 901 
 
 1091, 1093 
 
 763 
 
 767 
 
 694 
 
 597 
 
 548 
 
 1135 
 
 195 
 
 389, 815 
 
 OFFICE DECISIONS. 
 
 Page. 
 1132 
 527 
 461 
 705 
 564 
 781 
 331 
 600 
 239 
 303 
 251 
 244- 
 954 
 56 
 368 
 549 
 184 
 375 
 
 376, 777 
 598 
 700 
 564 
 43 
 983 
 113 
 877 
 395 
 467 
 1228 
 610 
 623 
 780 
 180 
 982 
 
 965, 987 
 
 647, 812 
 250 
 529 
 311 
 127 
 957 
 524 
 659 
 973 
 105 
 982 
 337 
 1063 
 221 
 476 
 311 
 1112 
 184 
 674 
 172 
 31 
 837 
 314 
 336 
 
 485, 487 
 677 
 
 No. 
 122 
 123 
 124 
 128 
 129 
 133 
 135 
 136 
 138 
 139 
 140 
 141 
 142 
 164 
 413 
 
 No. 
 194 
 195 
 196 
 197 
 198 
 199 
 202 
 204 
 205 
 206 
 207 
 208 
 211 
 212 
 213 
 214 
 215 
 216 
 217 
 218 
 219 
 221 
 222 
 223 
 224 
 227 
 228 
 229 
 231 
 232 
 233 
 234 
 236 
 240 
 241 
 243 
 245 
 246 
 248 
 249 
 2.50 
 252 
 253 
 254 
 255 
 256 
 257 
 258 
 259 
 260 
 261 
 263 
 269 
 270 
 271 
 272 
 273 
 274 
 275 
 278 
 
 ■279 
 280 
 
 Page. 
 
 542 
 
 918 
 
 739 
 
 534 
 
 392 
 
 75, 302 
 
 393 
 
 669, 811 
 
 592, 593 
 
 173 
 
 474 
 
 1049, 1065 
 
 543 
 
 1065 
 
 1087 
 
 Page. 
 113 
 381 
 311 
 44 
 56 
 619 
 
 1042 
 441 
 818 
 488 
 966 
 144 
 
 1132 
 488 
 483 
 375 
 588 
 646 
 564 
 675 
 112 
 76, 969 
 1101, 1113 
 
 1131 
 
 1030 
 484 
 189 
 273 
 249 
 793 
 857 
 861 
 215 
 235 
 624 
 179 
 67 
 343 
 
 1045 
 
 1047 
 338 
 334 
 784 
 983 
 273 
 381 
 381 
 984 
 707 
 
 1136 
 
 102'.1, 1030 
 
 668 
 
 63 
 
 874 
 
 877 
 
 87 
 
 842 
 
 H90 
 
 560 
 
 317 
 
 977 
 
 331 
 
liv 
 
 DECISIONS 
 
 OFFICE DECISIONS— Contd. 
 
 No. 
 282 
 2ls3 
 284 
 285 
 286 
 287 
 288 
 28» 
 291 
 292 
 293 
 294 
 293 
 297 
 298 
 299 
 300 
 301 
 302 
 304 
 305 
 306 
 308 
 309 
 310 
 311 
 312 
 313 
 314 
 315 
 310 
 317 
 318 
 319 
 321 
 322 
 320 
 327 
 328 
 329 
 330 
 331 
 332 
 334 
 335 
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DECISIONS 
 
 Iv 
 
 OFFICE DECISIONS— Contd. 
 
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Ivi 
 
 DECISIONS 
 
 OFFICE DECISIONS— Contd. 
 
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 No. 
 
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 51 
 
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 171 
 
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 113 
 
 1085 
 
 40, 143, 979 
 
 1086 
 
 972 
 
 1087 
 
 978 
 
 1088 
 
 .320 
 
 1089 
 
 498 
 
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 382 
 
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 624 
 
 1092 
 
 134, 566 
 
 1093 
 
 787 
 
 1094 
 
 292 
 
 1096 
 
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 75 
 
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 913 
 
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 1105 
 
 155 
 
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 813 
 
MIMEOGRAPHS 
 
 Ivii 
 
 OFFICE DECISIONS 
 
 — Continued. 
 
 
 
 
 No. Page. 
 
 No. 
 
 Page. 
 
 No. 
 
 Page. 
 
 1107 474 
 
 1114 
 
 491 
 
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 248 
 
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 814 
 
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 50 
 
 1112 459 
 
 1119 
 
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 319 
 
 1113 815 
 
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 240, 248 
 
 1130 
 
 898 
 
 MIMEOGRAPHS 
 
 No. 
 
 2195 
 
 2429 
 
 2436 
 
 2688 
 
 age. 
 
 No. 
 
 877 
 532 
 532 
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 2708 
 2714 
 2738 
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 Page. 
 
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 Pag*. 
 
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 2764 
 
 928, 930, 931 
 
 499 
 
 2791 
 
 407, 901 
 
 818 
 
 2848 
 
 1089 
 
 407 
 
 
 
FEDERAL INCOME TAX 
 
 CHAPTER I 
 INTRODUCTION ^ 
 
 The Federal Income Tax is now imposed by Title II and the 
 Excess-Profits Tax by Title III of the Revenue Act of 1921.2 This 
 act (referred to in this book as the Revenue Act of 1921, the 
 1921 Law, or the present law) became a law on November 23, 
 1921, but the income tax and the excess-profits tax titles, as well 
 as certain other specified parts of the statutes, are made effective 
 as of January 1, 1921. The Revenue Act of 1921 follows the 
 general scheme of the comprehensive Revenue Act of 1918. 
 
 That act was, of course, a war measure, introduced into Con- 
 gress while the war was still in progress, and passed during the 
 period of the government's maximum need of revenue. Many 
 of its provisions were a direct result of economic and other con- 
 ditions caused by the war and others were enacted with probable 
 post-war conditions in mind. The need of revenue is still tre- 
 mendous after more than three years of peace, and the taxpayer's 
 burden under the new law will still be heavy. The normal tax 
 rates for individuals remain the same as under the 1918 Law. 
 The surtax rates are not changed for 1921, but for 1922 and 
 succeeding years the maximum surtax rate is 50% and some 
 relief is also provided by the lower rates. For the year 1921, 
 corporations are taxed at the same rates as formerly, both un- 
 der the income and excess-profits tax laws. For 1922 and suc- 
 ceeding years, the income tax on corporations is increased from 
 10% to 121/^%, but the excess-profits tax is repealed. In addi- 
 tion to the reduction in rates the law is less rigorous in several 
 other respects. In this regard, the most notable remedial 
 changes made by the 1921 Law are those relating to exchanges 
 of property, including reorganizations and transfers of property 
 
 1 The purpose of this chapter is to describe briefly the salient provisions 
 and requirements of the law and the system by which it is administered, so 
 that the reader may obtain a general understanding of the subject before 
 the various provisions are discussed in detail. 
 
 2 Title I of the same act contains definitions applicable to the titles fol- 
 lowing, and must be consulted in connection with Titles II and III. The act 
 is entitled "An Act to reduce and equalize taxation, to provide revenue, and 
 for other purposes," and may be cited as the "Revenue Act of 1921." 
 (See § 1.) 
 
I FEDERAL INCOME TAX 
 
 to corporations for stock, the extension of the net loss provision, 
 and the provision limiting the tax on profits from the sale of 
 capital assets to a maximum of 121/2 %• Other important 
 changes are: the new scheme for the taxation of insurance com- 
 panies; the abolition, after December 31, 1921, of the special 
 class of corporations theretofore known as personal service cor- 
 porations ; the limitation of the depletion deduction based on dis- 
 covery value to the net income of the property upon which dis- 
 covery is made ; the provision in regard to losses established by 
 wash sales; the provision permitting the taxation as a corpora- 
 tion of certain trades or businesses operated by individuals and 
 partnerships in the event of incorporation within four months 
 from the passage of the act ; the provision making the filing of 
 consolidated returns by affiliated corporations optional for taxable 
 years beginning after December 31, 1921 ; the provision hmiting 
 the gross income of citizens and domestic corporations, under 
 certain conditions, to gross income from sources within the 
 United States; the provision in regard to income from the sale 
 of property acquired by gift; the allowance of interest on 
 amounts of tax improperly collected and certain new adminis- 
 trative provisions. The provisions of the former law dealing 
 with the taxation of nonresident aliens and foreign corporations 
 have been considerably modified. The taxes imposed by the 1921 
 Law are in lieu of those imposed by the 1918 Law, and the 1918 
 Law is repealed except in so far as it remains in force for the 
 assessment and collection of all taxes which have accrued there- 
 under and for the imposition and collection of penalties with 
 respect thereto. Notwithstanding the changes in the new act 
 just indicated, the Revenue Act of 1921 is in the main a re-enact- 
 ment of the Revenue Act of 1918, which represented a material 
 advance in income tax legislation. Many of the changes and 
 improvements contained in the present law are founded upon the 
 experience gained by government and taxpayer in the administra- 
 tion of the 1918 Law, and must be read in the light of that ex- 
 perience. For these reasons, and because there are still many 
 points undecided, and many millions of dollars of taxes uncol- 
 lected or overpaid, under the 1918 Law, it is necessary in this 
 volume to discuss or refer to all decisions, regulations and rulings 
 made thereunder. In large part, these will be as authoritative 
 under the new law as the old. Even where the provisions of the 
 1918 Law are changed or repealed, however, a discussion of such 
 decisions, regulations and rulings in this work remains neces- 
 sary ; the collection of taxes due and settlement of controversies 
 arising under that law will require several years, under the best 
 
INTRODUCTION A 
 
 of administrative conditions. This is particularly true with re- 
 gard to those exceptional provisions of the Revenue Act of 1918 
 designed to meet the extraordinary situation resulting from the 
 abnormal incomes, losses, and tax rates of the period which em- 
 braced the closing of the war and the transition of business from 
 a war to a peace basis — a transition still in progress and under- 
 lying many of the provisions of the Revenue Act of 1921. 
 
 Preceding Federal Tax Laws. The 1918 Revenue Bill was first 
 introduced in Congress on May 27, 1918, but was not finally 
 enacted until February 24, 1919, after many changes and the 
 substantial modification of many of its provisions. It was de- 
 signed to raise in 1918 the greatest amount of revenue ever 
 raised in any year in any nation and was drafted with the utmost 
 care in a form which it was hoped would not be changed material- 
 ly by future enactments except in so far as its provisions were 
 designed to meet war conditions. That this hope was largely 
 justified is shown by a perusal of the Revenue Act of 1921, which, 
 as indicated in the preceding paragraph, follows the scheme of 
 the 1918 Law very closely and is in large part a re-enactment 
 thereof. A discussion of the rates under the 1918 Law and of 
 all its other provisions will be found in the appropriate chapters 
 of this work. In 1917 the Federal Income Tax was imposed by 
 two statutes, prescribing separate and different rates, one addi- 
 tional to the other. The Act of September 8, 1916 (referred to 
 in this book as the 1916 Law), imposed a tax at comparatively 
 low rates and with comparatively high exemptions. It was 
 amended in many respects by the Act of October 3, 1917 (referred 
 to in this book as the 1917 Law), but remained in force as a 
 separate law imposing a general income tax in contradistinction 
 to the "war income tax" at higher rates and with lower exemp- 
 tions, which was also included in the Act of October 3, 191.7. The 
 1917 War Income Tax Law contained no administrative provi- 
 sions, but provided that the tax it imposed should be computed, 
 levied, assessed, collected, and paid upon the same basis and in 
 the same manner as similar taxes imposed by the 1916 Law. 
 Generally speaking, both laws were administered as one, and 
 only one annual return of net income was required from each 
 taxpayer, on the basis of which both taxes were assessed. The 
 1916 Law was preceded by the Act of October 3, 1913 (referred 
 to in this book as the 1913 Law). This law remained in force 
 without change or amendment up to September 8, 1916, when 
 the 1916 Law was enacted and made retroactive to January 1, 
 1916. The 1913 Law was the first general income tax law after 
 the adoption of the constitutional amendment permitting the im- 
 
4 FEDERAL INCOME TAX 
 
 position of an income tax without apportionment and without 
 regard to any census or enumeration, but there was in effect in 
 this country, from August 5, 1909, to January 1, 1913, a corpora- 
 tion excise tax act (referred to in this book as the 1909 Law) , 
 which imposed a special excise tax on corporations with respect 
 to the carrying on or doing of business by such corporations. 
 Though the 1909 Law was not intended to be and was not in any 
 proper sense an income tax law,^ the tax was measured by the net 
 income of corporations, and the language of the subsequent in- 
 come tax laws is in some instances either identical or very simi- 
 lar. To that extent decisions and rulings under the 1909 Law 
 throw light on the construction of the present law and are re- 
 ferred to for that purpose in this book. Rulings and decisions 
 under the 1913, 1916, and 1917 Laws are referred to in this book 
 so far as, in the opinion of the author, they may be of present 
 value to taxpayers in general.* 
 
 During and after the Civil War income taxes were imposed 
 by the Act of July 1, 1862, the Act of June 30, 1864, and the joint 
 resolution of July 4, 1864, the Act of March 3, 1865, amending 
 the Act of June 30, 1864, the Act of March 2, 1867, and the Act 
 of July 14, 1870. In 1871 the last of the Civil War income tax 
 acts expired and was not re-enacted. No further attempt was 
 made to collect income taxes by the federal government until the 
 Act of August 28, 1894, which was held unconstitutional on the 
 ground that incomes from real property could not be taxed with- 
 out apportionment.^ As a result, the Sixteenth Amendnient ex- 
 pressly authorized the imposition of a tax on income from all 
 
 3 See language of Justice Pitney in Stratton's Independence v. Howbert, 
 231 U. S. 399. 
 
 4 Rulings and decisions under all the prior laws should be used with cau- 
 tion in construing the 1918 and 1921 Laws, as these laws contain many new 
 features and change the old law radically in many respects. 
 
 5 Pollock V. Farmers Loan & Trust Co., 157 U. S. 429, 158 U. S. 601. With 
 regard to the history of the income tax, the Wisconsin Court in State v. 
 Frear, 148 Wis. 456, 134 N. W. 673, 135 N. W. 164, said in 1912: "It may 
 be well to note, however, that income taxation is no new and untried experi- 
 ment in the field of taxation. It has been in use in various forms, and 
 generally with the progressive feature, by many of the civilized govern- 
 ments of the world for decades, which in some instances run into centuries. 
 It has been used at various times by nearly or quite twenty of our own 
 states, and is now in use in several of them. It was used for a brief period 
 by the government of the United States, and is now in successful operation 
 in practically all of the great nations of the civilized world except the 
 United States. The fundamental idea upon which its champions rest their 
 argument in its favor is that taxation should logically be imposed accord- 
 ing to ability to pay, rather than upon the mere possession of property, 
 which for various reasons may produce no revenue to the owner." 
 
INTRODUCTION 5 
 
 sources without apportionment and without regard to any census 
 or enumeration. 
 
 Administration of the Laws. The duty of administering the 
 income tax laws and collecting income taxes is imposed on the 
 Bureau of Internal Revenue, which is a part of the Federal 
 Treasury Department. The bureau is under the charge of the 
 Commissioner of Internal Revenue (referred to in this book as 
 the commissioner), who under the direction of the Secretary of 
 the Treasury (referred to in this book as the secretary) has 
 general superintendence of the assessment and collection of all 
 duties and taxes imposed by any law providing for internal 
 revenue.^ The states and territories are divided into some sixty- 
 four collection districts,'^ each under the charge of a collector 
 of internal revenue, with one or more deputy collectors. Returns 
 of net income are filed with the local collector and the tax is 
 paid to him, although assessments are made by the commissioner 
 at Washington. The commissioner, through his revenue agents 
 or inspectors, has supervisory power over, and authority to in- 
 vestigate, all accounts, lists or returns required to be made by 
 persons liable to tax,^ may examine the books of such taxpayers, 
 and on refusal to allow an examination, may summon any person 
 or corporation to produce his or its books and to appear before 
 him to give testimony or answer interrogatories under oath re- 
 specting the matter.^ Collectors and the commissioner may 
 make returns for taxpayers from their own knowledge and from 
 such information as they can obtain through testimony or other- 
 wise in cases where the taxpayer fails to file a return or makes 
 a false or fraudulent return.^" Appeals from decisions of col- 
 lectors may be taken to the commissioner." 
 
 Revenue Agents and Inspectors. The duties of revenue 
 agents and inspectors are to ascertain and report the names of 
 persons who in their opinion are liable to the income tax and 
 
 6R. s. §320 
 
 ■? As a rulfTOie boundaries of collection districts coincide with the bound- 
 aries of the states, but sometimes one collection district embraces two or 
 three states, or one state is divided into two or more collection districts. 
 Districts within a state are designated by number, as the first and sixth 
 districts of California, being the two districts of that state. The lack of 
 sequence in numbering is due to the consolidation of districts from time to 
 time since the period immediately following the Civil War, when the coun- 
 try was divided into the maximum number of districts. 
 
 8 Revenue Act of 1921, §1308; Revenue Act of 1918, §1305. See also 
 U. S. v. Hodson, 14 Int. Rev. Rec. 100; 10 Wall. 395, 406. 
 
 9 R. S. § 3173, as amended by the Revenue Act of 1921. 
 
 10 R. S. § 3176, as amended by the Revenue Act of 1921. 
 
 11 See Chapter 37. 
 
b FEDERAL INCOME TAX 
 
 who have failed to make the returns required by law ; to inquire 
 into income tax returns where there is any suspicion that the re- 
 turn made is erroneous; to examine the books and accounts of 
 persons who have made returns for the purpose of ascertaining 
 and reporting as to whether or not the law has been complied 
 with, when so ordered by the agent in charge of the division to 
 which they are assigned, who in turn reports to the commissioner, 
 and to the collector of the proper district. In the discharge of 
 their official duties officers of this class are expected to exercise 
 sound discretion, treat all persons with due courtesy, and, while 
 acting firmly and courageously, to avoid all contention or con- 
 troversy that would give just ground for complaint.^^ 
 
 Committee on Appeals and Review. Because of the large num- 
 ber of difficult cases arising under the Internal Revenue Laws, 
 and the amount of revenue involved in the collection of the taxes 
 imposed thereby and to insure fair and adequate consideration 
 of every case arising under such laws, an "Advisory Tax Board" 
 was created by the 1918 Law.^^ The Advisory Tax Board con- 
 sisted of not more than six ^^ members appointed by the commis- 
 sioner with the approval of the secretary, and was to remain in 
 existence until February 24, 1921, unless abolished before that 
 time by the commissioner with the approval of the secretary. 
 This board was dissolved on October 1, 1919, and its work taken 
 over by a "Committee on Appeals and Review".^'' The commis- 
 sioner may, and on the request of any taxpayer directly inter- 
 ested must, submit to this committee any question relating to the 
 interpretation or administration of the Internal Revenue Laws. 
 The committee reports its findings and recommendations to the 
 commissioner. Particular attention will be given to problems 
 presenting differences of opinion existing between the taxpayers 
 and the bureau. Such differences occur not only with individuals 
 but also with groups and even with classes of industry. Formal 
 hearings will be given to taxpayers in every case wtere the facts 
 warrant. The commissioner announced that his pc5j.^ would be 
 "to employ every means available so that the scales of justice 
 may be held evenly in deciding each case." The committee will 
 be called upon to decide questions involving general aspects of 
 
 12 T. D. 1932. 
 
 13 Revenue Act of 1918, Sec. 1301 (d) (1). 
 
 li Five memberships on the Advisory Tax Board were announced on 
 March 14, 1919. The sixth membership was reserved as a roving commis- 
 sion for experts to be called from time to time from various industries. 
 (I. T. S. 1919, 113249.) 
 
 15 Announcement by the commissioner of internal revenue dated Septem- 
 ber 27, 1919; I. T. S. 1919, 1[3587. 
 
INTRODUCTION 7 
 
 taxation and the differentiation of economic activities, account- 
 ing, forms of organization, trade customs, industrial management, 
 legal procedure and administration. Special studies will be made 
 of such matters so far as they affect federal taxation.!^ 
 
 Tax Simplification Board. The Revenue Act of 1921 estab- 
 lishes a "Tax Simplification Board" to be composed of three mem- 
 bers to represent the public, to be appointed by the President and 
 three members to represent the bureau of internal revenue, to be 
 appointed by the secretary. The duty of the board is to investi- 
 gate the procedure of and forms used by the bureau in the ad- 
 ministration of the internal revenue laws and to make recom- 
 mendations in respect to the simplication thereof. 
 
 Rulings and Regulations. The commissioner, with the approv- 
 al of the secretary, is expressly authorized to make all needful 
 regulations for the enforcement of the provisions of the revenue 
 laws.i'^ Such regulations are published under the caption of 
 "Treasury Decisions" and are numbered serially for the purpose 
 of reference.!* At intervals large compilations of rulings and 
 regulations are published by the Bureau of Internal Revenue 
 and these are designated as "Regulations" and given a serial 
 number.i^ As a general rule, it may be said that these regula- 
 tions have the force and effect of law and are as binding as if in- 
 corporated in the statute.^" But they must be in execution of or 
 supplementary to, and not in conflict with, the provisions of the 
 statute pursuant to which they are issued.^i It is also held that 
 they must be reasonable and a regulation defeating the purpose 
 or enlarging the scope of the statute is invalid.22 In determining 
 
 16 See I. T. S. 1919, H 3251. 
 
 IT Revenue Act of 1921, § 1303; Revenue Act of 1918, § 1309. 
 
 i*> Treasury decisions contain rulings on all subjects over which the bureau 
 of internal revenue has jurisdiction. Those relating to the income tax are 
 therefore not numbered in sequence. Reference to treasury decisions is 
 usually made by abbreviation, thus "T. D. 2476." 
 
 19 The last general compilation of rulings on the income tax is knovm as 
 Regulations No. 45 (1920 edition), promulgated January 28, 1921. All pre- 
 vious rulings and decisions or parts thereof, including Regulations 45 (Pre- 
 liminary edition) Regulations No. 33, issued January 5, 1914, and Regula- 
 tions No. 33, Revised, issued February 4, 1918, which are in conflict with 
 those contained in this revised compilation are thereby superseded and re- 
 voked, but any former rulings, not inconsistent, remain in effect. 
 
 20 Ex parte Kollock, 165 U. S. 526; U. S. v. Eaton, 144 U. S. 677; Stegall 
 V. Thurman, 175 Fed. 813. See Chapter 47. 
 
 21 Edwards v. Keith, 231 Fed. 110. See Chapter 47. 
 
 22 Campbell v. U. S., 107 U. S. 410; U. S. v. Two Hundred Barrels of 
 Whiskey, 95 U. S. 571; Morrill v. Jones, 106 U. S. 467; U. S. v. Three Bar- 
 rels, 77 Fed. 963; Greenport Basin & Construction Co. v. U. S., 269 Fed. 58. 
 See Chapter 47. 
 
8 FEDERAL INCOME TAX 
 
 whether a regulation is consistent with law the courts apply the 
 same rule of decision which controls when an act of congress is 
 assailed as not being within the powers conferred upon congress 
 by the Constitution, and it will not be held invalid unless it is 
 plainly and palpably inconsistent with law and entirely inappro- 
 priate to the end specified in the Act of Congress.^s The promul- 
 gation of a regulation does not estop the treasury department 
 from reassessing the tax on a different basis if the courts hold 
 that the regulation was not authorized by the law.^* Regula- 
 tions are admissible in evidence when pertinent to the issues, and 
 as the courts take judicial notice of them as public records, it is 
 unnecessary to introduce them formally in evidence.^s What 
 has been said of regulations applies only to the express terms of 
 the regulation itself regularly promulgated and not to printed 
 headings on a form additional to the express terms.^^ In addi- 
 tion to rulings and regulations the department issues so-called 
 mimeograph letters to collectors, more or less confidential in their 
 character and not intended for general publication. Frequently 
 such letters throw light on the administration of the law and 
 such mimeograph letters as have been made public are referred 
 to in this book. Mimeograph letters are addressed to collectors 
 only and not also "to others concerned" as are the official treasury 
 decisions, and do not affect or give notice to taxpayers. Similar- 
 ly, instructions to a particular collector do not affect collectors 
 as a class.2'^ 
 
 Informal Rulings. It was previously the practice of the 
 Bureau of Internal Revenue to make informal rulings in the form 
 of letters, at the request of taxpayers, upon abstract propositions 
 involving questions of tax liability. The bureau will no longer 
 answer such inquiries except under the following circumstances : 
 (1) The transaction must be completed and not merely a proposi- 
 tion or plan, (2) the complete facts relating to the transaction 
 together with abstracts from contracts or other documents neces- 
 sary to present the complete facts must be submitted, (3) the 
 names of all the real parties interested (not "dummies" used in 
 a transaction) must be stated regardless of who presents the 
 
 23 Boske V. Comingore, 177 U. S. 459. See Chapter 47. 
 
 24 Goldfield Consolidated Mines Co. v. Scott, 247 U. S. 126; N. Y. Life Ins. 
 Co. V. Anderson, 257 Fed. 576. 
 
 25 Sprinkle v. U. S., 141 Fed. 811; Caha v. U. S., 152 U. S. 211; Dominici 
 V. U. S., 72 Fed. 46; Wilkins v. U. S., 96 Fed. 837. 
 
 26 U. S. V. Lamson, 162 Fed. 165. 
 
 27 Landram v. U. S., 16 Ct. Cls. 74. 
 
INTRODUCTION » 
 
 question, whether attorney, accountant, tax service, or other 
 representative.2s 
 
 Bureau of Internal Revenue Income Tax Bulletin Serv- 
 ice. Treasury decisions, certain court decisions and amend- 
 ments to or modifications of existing regulations affecting the 
 income and excess-profits taxes are published in weekly bulletins 
 issued by the bureau of internal revenue. In addition, these 
 bulletins contain a statement of rulings made in cases arising 
 before the bureau. These informal rulings include committee 
 on appeals and review memoranda, recommendations, mimeo- 
 graph letters, solicitor's law opinions, opinions of the attorney- 
 general, solicitor's memoranda, solicitor's opinions, and office 
 decisions. Reference is made in this book to these rulings by 
 the abbreviations shown in the table at the front of this volume. 
 The "income tax bulletin service" of the bureau of internal 
 revenue consists, in addition to the weekly bulletins, of bi- 
 monthly digests of rulings published in the weekly bulletins 
 and semi-annual cumulative bulletins containing in full the rul- 
 ings in the weekly bulletins during the previous six months. 
 The scope and purpose of the above "service" may best be gath- 
 ered from the statement issued with each weekly bulletin which 
 reads as follows: 
 
 "The income tax rulings constitute a service of information 
 from which taxpayers and their counsel may obtain the best 
 available indication of the trend and tendency of official opinion 
 in the administration of the income and profits tax provisions 
 of the revenue acts. The rulings have none of the force or effect 
 of treasury decisions and do not commit the department to any 
 interpretation of law which has not been formally approved and 
 promulgated by the secretary of the treasury. Each ruling em- 
 bodies the administrative application of the law and treasury 
 decisions to the entire state of facts upon which a particular 
 case arises. It is especially to be noted that the same result 
 will not necessarily be reached in another case unless all the 
 material facts are identical with those of the reported case. As 
 it is not always feasible to publish a complete statement of the 
 facts underlying each ruling, there can be no assurance that any 
 new case is identical with the reported case. As bearing out 
 this distinction, it may be observed that the rulings published 
 from time to time may appear to reverse rulings previously 
 published. 
 
 28 statement by the bureau of internal revenue dated August 26, 1019, 
 I. T. S. 1919, H 3538. 
 
10 FEDERAL INCOME TAX 
 
 "Officers of the bureau of internal revenue are especially cau- 
 tioned against reaching a conclusion in any case merely on the 
 basis of similarity to a published income tax ruling, and should 
 base their judgment on the application of all pertinent provisions 
 of the law and treasury decisions to all of the facts in each case. 
 The income tax rulings should be used merely as aids in studying 
 the law and the treasury decisions." 
 
 Retroactive Effect of Rulings. Treasury department de- 
 cisions promulgating rulings of the internal revenue bureau 
 become effective upon the date of approval unless otherwise 
 stated therein. Cases previously adjusted in contravention of 
 law as pronounced in such decisions, are subject to readjustment 
 in accordance with the decisions.^" Generally speaking, any 
 ruling or regulation made by the treasury department supersedes 
 all prior rulings and regulations and 'is retroactive to the time 
 the law was enacted, since a ruling or regulation is merely an 
 interpretation of the meaning of the law, and in theory the mean- 
 ing has been the same from the beginning. The treasury depart- 
 ment recognizes, however, that in some instances it would be 
 unjust or impracticable to reopen returns, adjustments or assess- 
 ments which have been made in accordance with previous rulings, 
 and where such rulings are superseded, an express limitation is 
 made in the superseding ruling oir regulation as to the retro- 
 active effect thereof.^" The Revenue Act of 1921 expressly per- 
 mits amending regulations to be applied without retroactive 
 effect.31 
 
 United States. The term "United States" where used in a 
 geographical sense in the law includes only the states, the terri- 
 tories of Alaska and Hawaii, and the District of Columbia.^^ 
 
 Possessions of the United States. The Revenue Act of 1921 
 does not extend to possessions of the United States. An indi- 
 vidual who is a citizen of any possession of the United States 
 (but not otherwise a citizen of the United States) and who is 
 not a resident of the United States, is taxable only on income 
 derived from sources within the United States. In such cases 
 the tax is computed and paid in the same manner as in the case 
 of other persons who are taxable only as to income from such 
 sources.^^ 
 
 29 Reg. 33 Rev., Art. 38. . 
 
 30 See last paragraph of mimeograph letter to collectors dated August 14, 
 1914; I. T. S. 1918, UH 392 and 1344; also the last paragraph of T. D. 2313 
 and T. D. 2317. 
 
 31 Revenue Act of 1921, § 1314. 
 
 32 Revenue Act of 1921, § 2 (5); Revenue Act of 1918, § 1. 
 
 33 Revenue Act of 1921, § 260; Revenue Act of 1918, § 260. 
 
INTRODUCTION 11 
 
 Porto Rico and the Philippines. The Revenue Act of 1921 pro- 
 vides that in Porto Rico and the Philippine Islands the income 
 tax shall be levied, assessed, collected and paid as provided 
 by law prior to its passage, and that the Porto Rican or Philip- 
 pine legislature shall have pov?er by due enactment to amend, 
 alter, modify, or repeal the income tax laws in force in Porto 
 Rico or the Philippine Islands respectively .s* The Revenue Act 
 of 1918, which went into eifect on February 24, 1919, provided a 
 local income tax law for these possessions by making the Reve- 
 nue Act of 1916, as amended, apply to them, and gave the legis- 
 latures of these possessions the same power as is given by the 
 present law to amend, alter, modify or repeal the income tax 
 laws in force in such possessions.^^ On July 26, 1919, the Porto 
 Rican legislature repealed the 1916 law, as amended, with respect 
 to Porto Rico,3<' and on March 7, 1919, the 1916 Law, as amended, 
 was similarly superseded with respect to the Philippine Islands.^'' 
 Under the present law a citizen or resident of the United States, 
 and a domestic corporation, is entitled, with certain limitations, 
 to deduct the amount of income, war-profits and excess-profits 
 taxes paid to those possessions from the amount of such taxes 
 due to the United States.^^ 
 
 Gross Income. Gross income is defined in the law to include 
 income, gains or profits of all kinds except those enumerated 
 as exempt from taxation. A more complete definition will be 
 found in a subsequent chapter.^a 
 
 Net Income. Net income is defined as gross income less the 
 deductions allowed by the law, as is more fully stated in a sub- 
 sequent chapter.*" The Revenue Act of 1918*^ for the first time 
 required net income to be computed on the basis of the tax- 
 payer's annual accounting period (fiscal year or calendar year 
 as the case might be) in accordance with the method of account- 
 ing employed in keeping the books of such taxpayer. This pro- 
 vision was retained in the. present law.*^ jf ^q method of ac- 
 counting has been employed or if the method employed does not 
 clearly reflect the income, the computation is to be made upon 
 
 3i Revenue Act of 1921, § 261. 
 
 35 Revenue Act of 1918, § 261. 
 
 36 See Laws of Porto Rico, § 77, The Income Tax Law. 
 
 3T See Laws of the Philippines, § 2, An Act Establishing the Income Tax. 
 38 Revenue Act of 1921, §§ 222, 238, Reg. 45, Arts. 1132 and 1133. No 
 limitation existed under the 1918 law. See Revenue Act of 1918, §§ 222, 238. 
 3» See Chapter 14. 
 « See Chapter 14. 
 « Revenue Act of 1918, §212 (b). 
 42 Revenue Act of 1921, §212 (b). 
 
12 FEDERAL INCOME TAX 
 
 such basis and in such manner as in the opinion of the commis- 
 sioner does clearly reflect the income.*^ 
 
 Deductions and Credits. • The law specifies that certain deduc- 
 tions may be made from gross income in ascertaining the net 
 income of the taxpayer. "Deductions" reduce income for all 
 purposes. "Credits" do not reduce net income for all purposes, 
 but reduce the net income of an individual for the purpose of 
 the normal tax and not the surtax, or, in the case of a corpora- 
 tion, reduce net income for the purpose of the income tax and 
 not the excess-profits tax. Another form of credit provided by 
 the law may be applied directly against the tax and not against 
 the net income. These distinctions are more fully stated and 
 explained in subsequent chapters.** 
 
 Reporting Net Income. Taxpayers are required to file annually 
 a return showing the amount of gross income received, the de- 
 ductions, credits and exemptions claimed and the net income 
 upon which the tax is to be imposed. This return is filed in the 
 collection district in which the taxpayer resides or has his 
 principal place of business. Nonresidents having no plaCe of 
 business in this country file their returns with the collector of 
 internal revenue at Baltimore, Maryland.*^ Except in the case 
 of nonresident aliens and foreign corporations, the returns are 
 required to be filed on or before March 15, if the report is made 
 for the preceding calendar year, or if made for a fiscal year, the 
 returns are required to be filed on or before the 15th day of the 
 third month following the close of the fiscal year. In the case 
 of nonresident aliens and foreign corporations, returns are re- 
 quired to be filed on or before the 15th day of the sixth month 
 following the close of the fiscal year, or, if the return is made 
 on a calendar year basis, then on or before June 15. The com- 
 missioner may grant a reasonable extension of time for filing re- 
 turn whenever, in his judgment, good cause exists.*^ Under both 
 the present law and the 1918 law individuals and corporations are 
 required to file their returns for their fiscal years instead of for 
 the calendar year if they keep books of account which are regu- 
 larly closed each year at the end of some month other than De- 
 cember. An important change initiated by the 1918 law and 
 retained by the present law is that partnerships are required to 
 
 *3 Revenue Act of 1921, §212; Revenue Act of 1918, §212. 
 
 *4 See Chapters 31 and 32. 
 
 « Revenue Act of 1921, §§ 229 and 241. Revenue Act of 1918, §§ 227 and 
 241. This district is the one in which Washington, the national capital, is 
 located. 
 
 46 Revenue Act of 1921, §§227 and 241. Revenue Act of 1918, §§227 
 and 241. 
 
INTRODUCTION 13 
 
 file annual returns showing their net income although they are 
 not subject to tax as partnerships.*'^ 
 
 Record to Be Kept. Every individual, partnership or corpora- 
 tion liable to any tax imposed by the internal revenue laws of 
 the United States, or for the collection thereof, is required to 
 keep such records, to render such statements and returns under 
 oath, and to comply with such regulations as shall be prescribed 
 by the commissioner. The commissioner may also examine any 
 books, papers, records or memoranda of a taxpayer.^^ 
 
 Individuals. Ordinarily, no person whose net income is less 
 than $1,000 in any calendar year is required to file a return for 
 that year, but the commissioner may require any person, whether 
 liable to tax or not, to file returns of income or such statements 
 as he may deem sufficient to show whether or not such person 
 is liable to tax.*^ Under both the 1918 Law and the present law 
 unmarried persons and married persons not living with husband 
 or wife and receiving $1,000 or more net income during the cal- 
 endar year, and married persons living with husband or wife 
 and receiving $2,000 or more net income during the same period, 
 are required to file annual returns.^" Under the 1921 Law, in 
 addition to the above, every individual having a gross income 
 for the taxable year of $5,000, or over, regardless of the amount 
 of his net income, must file a return, and if a husband and wife 
 living together have an aggregate net income for the taxable, 
 year of $2,000 or over, or an aggregate gross income for such 
 year of $5,000, or over, separate returns or a joint return must 
 be made.51 Minors are required to file returns if they have re- 
 ceived the minimum amount of income specified in the law. 
 
 Prior to 1918 returns were required only of persons of lawful 
 age.s2 
 
 Personal Exemption. The personal exemption, or credit, is 
 an arbitrary amount of net income on which residents and citi- 
 zens (in some cases nonresident aliens) are not liable to the 
 normal tax.^s it may be said to be an amount allowed for per- 
 sonal or family expenses, the actual amount of such expenses not 
 being deductible in ascertaining net income. The amount of the 
 
 i'< Revenue Act of 1918, § 224, see Chapter 8. 
 
 48 Revenue Act of 1921, §§1300, 1308 and 1309; Revenue Act of 1918, 
 § 1305; Reg. 45, Art. 1711; Reg. 33 Rev., Art. 50. 
 
 49 Revenue Act of 1921, § 1307. 
 
 50 Revenue Act of 1921, § 223; Revenue Act of 1918, § 223. 
 
 51 Revenue Act of 1921, § 223. 
 
 52 See Chapter 34 for a further discussion of this subject. 
 
 53 Revenue Act of 1921, §§216 and 217; Revenue Act of 1918, §§216 
 and 217. 
 
14 FEDERAL INCOME TAX 
 
 personal exemption allowed to an individual depends upon his 
 status. Married persons living together and heads of families, 
 whether married or not, are entitled to an exemption of $2,000, 
 unless the net income is less than $5,000, in which case the 
 exemption is $2,500. Others are entitled to $1,000. An addi- 
 tional exemption of $400 is allowed to any taxpayer, whether 
 single or married or head of a family, for each person (other 
 than husband or wife) dependent upon and receiving his chief 
 support from the taxpayer, if such dependent person is under 
 eighteen years of age or is incapable of self-support because 
 mentally or physically defective.^^ Under the 1918 Law, a non- 
 resident alien was entitled to claim these exemptions to the same 
 extent as a citizen or resident, unless he was a citizen or subject 
 of a country which imposed an income tax and did not allow a 
 similar exemption or credit to citizens of the United States not 
 residing in such country. Under the present law, nonresident 
 alien individuals and certain citizens whose income is largely 
 from sources within a possession of the United States 5° are en- 
 titled only to a personal exemption oi, $1,000 and are not entitled 
 to any exemption on account of dependents.^^ The personal ex- 
 emption may be deducted only in computing the normal tax.^'' 
 The 1918 Law provided that domestic corporations should be 
 entitled to an exemption of $2,000.^^ Under the present law a 
 specific credit of $2,000 is allowed to domestic corporations whose 
 net income is $25,000 or less, but if the net income is more than 
 $25,000, the income tax is limited to an amount not in excess 
 of that which would be payable if the credit of $2,000 were al- 
 lowed, plus the amount of net income in excess of $25,000.^^ 
 
 Normal Tax. The normal tax is a tax imposed upon all the 
 net income of an individual in excess of (a) dividends received 
 from domestic and certain foreign corporations; (b) interest 
 upon bonds and other obligations of the United States issued 
 after September 1, 1917; (c) interest upon bonds issued by the 
 War Finance Corporation ; (d) the personal exemption and (e) 
 
 s* Revenue Act of 1921, §216. This exemption was $200 under the 1918 
 Law (Revenue Act of 1918, § 216). Prior to the 1918 Law this exemption of 
 $200 was limited to cases of children dependent upon the taxpayer. 
 
 55 See Revenue Act of 1921, § 262. 
 
 50 See Revenue Act of 1921, § 216 (e). 
 
 5'i' For a further discussion of the personal exemption, see Chapter 31. 
 
 58 Prior to the 1918 Law, corporations were not allowed an exemption 
 similar to the personal exemption allowed to individuals. 
 
 59 Revenue Act of 1921, §236 (b). 
 
INTRODUCTION 15 
 
 the exemption for dependent persons.^" For the year 1919 and 
 subsequent years the rate of normal tax in the case of citizens 
 and residents of the United States is 4% on the first $4,000 of 
 income subject to normal tax and 8% on the remainder; and in 
 the case of nonresident aliens 8% on all net income from sources 
 within the United States subject to normal tax.^i 
 
 Surtax. A surtax (sometimes called "supertax" or "addi- 
 tional tax") is imposed upon the entire net income of individuals 
 in excess of $5,000 without deducting the personal exemption 
 and including dividends and interest on United States obligations, 
 issued after September 1, 1917, and bonds of the War Finance 
 Corporation. The surtaxes are imposed by a series of graduated 
 rates. The first rate, for the taxable years 1918 to 1921, inclu- 
 sive, is imposed on that part of the net income which exceeds 
 $5,000 and does not exceed $6,000. Each additional $2,000 of 
 net income is subject to a higher rate of tax than the preceding 
 one up to and including $100,000, and thereafter the surtax is 
 increased at less frequent intervals on income up to $1,000,000, 
 the final rate being 65 % on the amount by which the net income 
 exceeds $1,000,000.^2 por 1922 and succeeding years the first 
 
 60 Revenue Act of 1921, §216; Revenue Act of 1918, §216. The distinc- 
 tion made between incomes subject to normal tax and incomes subject to 
 surtax is artificial and necessary only for the purpose of granting certain 
 partial exemptions or taxing various kinds of income at different .rates. 
 The distinction between normal taxes and surtax seems to have originated 
 in England, where the income tax was first Imposed at a proportional rate 
 on all income and later graduated rates were applied to incomes over a 
 minimum limit. One reason for distinguishing between normal taxes and 
 surtaxes under our 1913 Law lay in the fact that the statute provided for 
 withholding at the source of the normal tax, as does the English Law. Under 
 the 1913 Law and the 1916 Law the normal tax was the rate which applied 
 to corporations and individuals alike, but under the 1918 Law and the pres- 
 ent law this characteristic is destroyed since the normal tax is also a 
 graduated tax. The law will no doubt always retain the distinction between 
 normal and surtaxes, since bonds of the United States are issued exempt 
 from "normal tax," an exemption which, by the way, is uncertain and pre- 
 carious since it is within the power of congress to reduce the normal tax 
 at any time to a minimum and thereby practically destroy the tax exemp- 
 tion or raise the normal tax as is done by the present law in order to in- 
 crease the exemption. 
 
 61 Revenue Act of 1918, § 210; Revenue Act of 1921, § 210. For the year 
 1918 the rate of normal tax in the case of citizens and residents of the 
 United States was 6% on the first $4,000 of income subject to normal tax 
 and 12% on the remainder. Nonresident aliens were subject to a normal tax 
 at the rate of 12% on all of the net income subject to normal tax received 
 from all sources in the United States. 
 
 62 Revenue Act of 1918, §211; Revenue Act of 1921, §211 (a) (1). See 
 Chapter 2 for a schedule of rates of this tax. 
 
16 FEDERAL INCOME TAX 
 
 rate of surtax is 1%, and applies to the amount of net income 
 between $6,000 and $10,000. In general, each additional $2,000 
 of net income is subject to a higher rate up to and including 
 $100,000. The maximum surtax rate for such years is 50%, 
 which applies to all net income in excess of $200,000.^^ 
 
 Corporation Tax. The income tax imposed on corporations is 
 at the rate of 10%, for the calendar year 1921, and 121/2% for 
 succeeding years.** This rate might formerly be said to measure 
 the normal tax imposed on corporations in contradistinction to 
 the graduated excess-profits tax which was also imposed on cor- 
 porations. But this is hardly true after 1921, when the excess- 
 profits tax is abolished, and the income tax on corporations raised 
 in lieu thereof. For the purpose of the income tax the net in- 
 come which is subject to the excess-profits tax is reduced by 
 deducting therefrom certain credits consisting of (a) interest 
 on the bonds and obligations of the United States issued after 
 September 1, 1917, and bonds issued by the War Finance Cor- 
 poration; (b) the amount of any excess-profits tax imposed on 
 the net income for the same taxable year; and (c) in the case 
 of a domestic corporation the sum of $2,000 subject to the con- 
 ditions stated in a previous paragraph.*^ Certain classes of cor- 
 porations not organized for profit, both domestic and foreign, are 
 exempt from this tax.** 
 
 Personal Service Corporations. The 1918 Law recognized a 
 new class of corporations — ^those whose income is due primarily 
 to the activities of the principal owners or stockholders who are 
 themselves regularly engaged in the active conduct of the affairs 
 of the corporation and in which capital is not a material income- 
 producing factor. Such corporations are recognized as being 
 taxable in the same manner as partnerships ; that is, the corpo- 
 ration is required to pay no tax but the stockholders are required 
 to include in their personal returns their distributive shares of 
 all the profits of such corporations whether distributed or not. 
 Personal service corporations are composed, for instance, of pro- 
 fessional men or agents who have adopted the corporate form 
 merely as an incidental convenience. The law expressly provides 
 that no foreign corporation shall be considered to be a personal 
 service corporation, nor shall any corporation be so considered 
 if 50% of its gross income consists either of gains, profits or 
 
 63 Revenue Act of 1921, §211 (a) (2). 
 
 64 This rate was 12% for the year 1918 and 10% for 1919 and 1920. See 
 Revenue Act of 1918, § 230, and Revenue Act of 1921, § 230. 
 
 65 Revenue Act of 1921, §§230 and- 236; Revenue Act of 1918, §§ 230 and 
 236. This subject is more fully discussed in Chapter 10. 
 
 66 See Chapter 13 for list of exempt corporations. 
 
INTRODUCTION 17 
 
 income derived from trading as a principal or of gains, profits, 
 commissions or other income, derived from government contracts 
 made between April 6, 1917, and November 11, 1918, both dates 
 inclusive.8^ Under the present law, such corporations are taxed 
 as above for 1921 only, after which they will be subject to tax 
 as other corporations.^^ 
 
 Partnerships. A partnership itself is not taxable, but the 
 members of the partnership are required to report their dis- 
 tributive shares of the partnership income, whether such income 
 is actually distributed or not. All partnerships are required to 
 file annual returns of income for the purpose of showing the 
 amount of net income distributable to each partner.^" 
 
 Collection of the Tax at the Source. Collection at the source, 
 deduction at the source, withholding at the source and stoppage 
 at the source, are synonymous terms meaning that the one pay- 
 ing income to another deducts or withholds an amount equal to 
 the tax on the sum so paid and turns it over to the government 
 to the credit of the one against whom it is withheld. This 
 method is used in order to facilitate the collection and to prevent 
 evasion of the tax. Under the 1913 Law, and the 1916 Law dur- 
 ing the year 1916, the normal tax was withheld on payments to 
 individuals, whether citizens, residents or nonresident aliens. 
 Under the 1916 Law, as amended by the 1917 Law, the tax was 
 not withheld on payments of income to citizens and residents 
 (except in the case of bonds containing tax-free covenants) .'''•' 
 Collection at the source applies at the present time only to (1) 
 payments of fixed and determinable annual or periodical income 
 to nonresident aliens, or partnerships composed in whole or in 
 part of nonresident aliens, in which case the tax is to be with- 
 held at the rate of 8% (and if the commissioner so rules the 
 nonresident alien may claim exemption from withholding to the 
 extent of his personal exemption) ; (2) payments of the same 
 kind of income to nonresident foreign corporations not engaged 
 in trade or business within the United States and not having an 
 office or place of business therein, in which case the tax is to be 
 withheld at the rate of 10% for 1921, and 121/2% for subsequent 
 years; and (3) the commissioner may authorize deduction ^1 at 
 
 C7 Revenue Act of 1918, §200; Revenue Act of 1921, §200. For further 
 discussion of this subject see Chapter 9. 
 es Revenue Act of 1921, § 218 (d). 
 «« Revenue Act of 1921, § 224; Revenue Act of 1918, § 224. 
 
 70 Revenue Act of 1916, § 9 (c) as amended by Revenue Act of 1917. 
 
 71 The law is not clear whether the commissioner may authorize deduction 
 at the rate of 8% or 10% or 12%% in the case of bonds not having "tax- 
 free covenants" and it seems to be within his discretion. 
 
18 I'EDERAL INCOME TAX 
 
 the source in the case of payments of any interest upon any 
 securities the owners of which are not known to the withholding 
 agent; (4) in the case of payments of interest on bonds and 
 similar obligations of domestic corporations which contain a 
 so-called "tax-free covenant," the tax to be withheld in all such 
 cases to be limited to 2%, whether the owner be a citizen or 
 resident or a nonresident alien or a foreign corporation or a 
 domestic or foreign partnership. The only bondholders to which 
 the last mentioned provision does not apply are domestic and 
 resident corporations. The commissioner may authorize the tax 
 of 2% to be withheld on interest on "tax-free covenant" bonds 
 where the owner is not known.'^- It is to be noted that the only 
 case in which withholding against citizens or residents of this 
 country takes place is (4) above. In such cases the law is made 
 to operate in order that the debtor corporation issuing such 
 "tax-free covenant" bonds may be compelled to assume a part 
 of the tax of the bondholder, since withholding does not actually 
 take place.''^^ 
 
 Information at the Source. For the purpose of checking up the 
 returns of taxpayers the law provides for a system of informa- 
 tion at the source, whereby every corporation may be required 
 to report to the commissioner the names and addresses of its 
 stockholders and the amount of dividends paid to each;^* brokers 
 may also be required, when called upon, to report the names and 
 addresses of customers and furnish information as to the profits 
 and losses of each ; "' and all persons, corporations or partnerships 
 may be required to report the names and addresses of any per- 
 sons to whom they pay fixed or determinable gains, profits or 
 income of $1,000 or more in any taxable year. In the case of 
 payments of interest to the bondholders of corporations the 
 names and addresses of such bondholders are required to be re- 
 ported, regardless of the amount paid during the year, and this 
 is also true in the case of the collection of foreign items of inter- 
 est and dividends.''® 
 
 Payment of the Tax. The income tax is due and payable in 
 four installments, each consisting of one-fourth of the total tax. 
 The first installment is payable at the time when the return is 
 due to be filed, unless an extension of time for filing the return 
 is granted, in which case the first installment is due at the 
 
 72 Revenue Act of 1921, §§221 and 237; Revenue Act of 1918, §§221 
 and 237. 
 
 T'3 For a further discussion of this subject see Chapter 40. 
 "i Revenue Act of 1921, §254; Revenue Act of 1918, §254. 
 
 75 Revenue Act of 1921, § 255; Revenue Act of 1918, § 255. 
 
 76 Revenue Act of 1921, §256; Revenue Act of 1918, §256. 
 
INTRODUCTION 19 
 
 expiration of such extended period with interest at the rate of 
 one-half of 1 per cent, per month from the date on which the 
 return was originally due to be filed. Such an extension does 
 not postpone the time of payment of subsequent installments. 
 In the event of default in the payment of any installment the 
 whole amount of tax still unpaid becomes due and payable upon 
 notice and demand by the collector. The above provisions do 
 not apply to taxes collected at the source. The tax may be paid 
 in a single payment instead of in installments.'^''^ No discount is 
 allowed where such an advance payment is made. Receipts are 
 not given for taxes paid, except upon, the request of the tax- 
 payer.'^s 
 
 Abatement and Refund. The collection of the income tax can- 
 not be restrained by injunction, but the commissioner is author- 
 ized to remit and pay back to the taxpayer any taxes which have 
 been erroneously or illegally collected. The importance of col- 
 lecting revenue is so great that the law permits no taxpayer to 
 interpose a hindrance to the orderly assessment of the tax. He 
 must allow the tax to be assessed and claim abatement or refund 
 thereafter.'^^ 
 
 77 Revenue Act of 1921, § 250 (a) ; Revenue Act of 1918, § 250 (a). 
 
 78 Revenue Act of 1921, § 251; Revenue Act of 1918, § 251. 
 7» See Chapter 38. 
 
CHAPTER 2 
 
 THE INCOME TAX RATES 
 
 As indicated in the foregoing chapter, the income tax is im- 
 posed generally at two rates (called the normal tax) on a part 
 of the net income, and at a series of progressive rates (called the 
 surtax) 1 on the net income over $6,000. In the case of corpora- 
 tions no surtax is imposed, the income tax rate being uniform on 
 all amounts of net income. For the year 1921 and subsequent 
 years, the income tax is imposed by the Revenue Act of 1921. It 
 •was imposed by the Revenue Act of 1918 for the years 1918, 1919 
 and 1920. 
 
 Normal Tax. Under both the Revenue Act of 1918 and the 
 Revenue Act of 1921 a normal tax of 4% ^ is imposed upon the 
 first $4,000 of taxable net income of citizens and residents for 
 the calendar year 1919 and subsequent years, and a normal tax 
 of 8 % 3 upon the remainder of such taxable net income.* In the 
 case of nonresident alien individuals the rate is 8 % ^ on the tax- 
 able net income.^ The following items are deducted from net in- 
 come, under the Revenue Act of 1921, to determine taxable net 
 income in assessing the normal tax of citizens or residents: (a) 
 dividends from a domestic corporation (except a domestic cor- 
 poration deriving the greater part of its income from sources 
 within a possession of the United States) and a foreign corpora- 
 tion deriving more than 50% of its income from sources within 
 the United States; (b) interest upon obligations of the United 
 States issued after September 1, 1917, and bonds issued by the 
 War Finance Corporation which is included in gross income; (c) 
 the personal exemption and credit for dependents.'^ No credit 
 
 1 In 1917 the income tax was assessed and collected under two laws (the 
 Revenue Act of 1916 and the Revenue Act of 1917) ; but it is now, as in 
 1918-1921, assessed and collected under one law — the Revenue Act of 1918 
 for the years 1918-1920 and the Revenue Act of 1921 for 1921 and subsequent 
 years. 
 
 2 This rate was 6% for the calendar year 1918 under the 1918 Law. 
 
 3 This rate was 12% for the calendar year 1918 under the 1918 Law. 
 
 4 Revenue Act of 1921, §210; Revenue Act of 1918, §210 (b); Reg. 45, 
 Art. 2. The subject of income is treated fully in Chapter 14 et seq. 
 
 5 This rate was 12% for the calendar year 1918 under the 1918 Law. 
 
 6 In the case of nonresident alien individuals only income from sources 
 within the United States is taxable; Revenue Act of 1921, § 213 (c); Reve- 
 nue Act of 1918, §213 (c). 
 
 7 Revenue Act of 1921, §§ 210, 216 and 262. This is different from the 
 corresponding provision of the Revenue Act of 1918 (§ 216) in regard to the 
 
 20 
 
THE INCOME TAX RATES 21 
 
 for dependents is allowed in assessing the normal tax of nonresi- 
 dent alien individuals, the remaining above items are deducted 
 only on the condition that the nonresident alien files a return of 
 his total income received from all sources, corporate or otherwise, 
 in the United States, including therein all information which the 
 commissioner may deem necessary for the calculation of his 
 credits and deductions.* On all the net income in excess of the 
 above items the normal tax rates apply.^ 
 
 Comparative Statement of Normal Tax Rates. The rates 
 of normal tax under the various laws since March 1, 1913, are as 
 follows : 
 
 1913—1%; 1916—2%; 1917—2%; 1918—6% and 12% for 
 the year 1918 and 4% and 8% for 1919 and 1920; 1921—4% 
 and 8%. The corporation tax for each of the years up to 1917 
 was the same as the normal tax. In 1917 the normal tax rates 
 imposed by the 1916 and 1917 Laws were applied to incomes of 
 citizens and residents, but only the 1916 rate to nonresident 
 aliens, while the corporation tax was 6%. For the year 1918, 
 the corporation tax was the same as the higher of the normal tax 
 rates for individuals (12%) ; for 1919 and 1920, it was 10%. It 
 remains at 10% under the present law for 1921, but goes up to 
 12y2 % for 1922 and subsequent years.^" 
 
 Surtax. In addition to the normal tax a surtax is imposed at 
 various and graduated rates under the present law. For the pur- 
 pose of assessing the surtax the items deductible from net income 
 for normal tax purposes and the personal exemption are not de- 
 ducted.ii 
 
 Limitation in Case of Sales of Mines, Oil, or Gas Wells. 
 In the case of a bona fide sale of mines, oil or gas wells, or any 
 interest therein, where the principal value of the property has 
 
 dividends which ma;y be credited. Under that law dividends from a corpora- 
 tion taxable on its net income could be credited, and also from a personal 
 service corporation out of earnings subject to income tax. With regard to ■ 
 dividends from a personal service corporation under the present law, see 
 Chapter 31. 
 
 S Revenue Act of 1921, §217 (g); Revenue Act of 1918, §217. Under 
 the 1918 Law (§ 216 (e) ), in the case of nonresident alien individuals who 
 are citizens or subjects of a foreign country imposing an income tax, the 
 personal exemption was allowed only if such country allowed a similar 
 credit to citizens of the United States not residing in such country. 
 
 9 Revenue Act of 1921, § 210; Revenue Act of 1918, § 210. 
 
 10 Cf. Revenue Act of 1921, §§ 230, 210,'and Revenue Act of 1918, §§ 230, 
 210. 
 
 11 Revenue Act of 1921, §211; Revenue Act of 1918, §211 (a); Reg. 45, 
 Art. 11. The surtax was called "the additional tax" in the 1916 law and 
 the 1917 law. 
 
22 FEDERAL INCOME TAX 
 
 been demonstrated by prospecting or exploration and discovery- 
 work done by the taxpayer, the surtax attributable to such sale 
 cannot exceed for the calendar year 1921, 20%, and for each cal- 
 endar year thereafter 16% of the selling price.i^ Exploration 
 work alone without discovery is not sufficient to bring a case 
 within this provision. Shares of stock in a corporation owning 
 mines, oil or gas wells do not constitute an interest in such prop- 
 erty. To determine the application of this provision to a particu- 
 lar case, the taxpayer should first compute the surtax in the or- 
 dinary way upon his net income, including his net income from 
 any such sale. The proportion of the surtax indicated by the ratio 
 which the taxpayer's net income from the sale of the property, 
 bears to his total net income is the portion of the surtax at- 
 tributable to such sale, and if it exceeds the above percentage 
 of the selling price of the property, such portion of the surtax 
 should be reduced to that amount.^'' Where individuals transfer 
 property to a corporation which later demonstrates the principal 
 value of such property as oil-producing property "by prospecting 
 or exploration and discovery work" and then dissolves, trans- 
 ferring the property to the individuals, who had remained stock- 
 holders without change in interests, and such stockholders sell 
 the property, the portion of the surtax attributable to such sale 
 is not limited to 20% or 16% of the selling price of such prop- 
 erty or interests.^* The limitation with respect to the tax at- 
 tributable to the sale of mines, oil or gas wells, or any interest 
 therein has no application to the tax on profits realized from the 
 sale of oil and gas produced in the operation of such wells.^s 
 Limitation in the Case of Capital Gains. If the taxpayer 
 so elects, neither the normal nor the surtaxes imposed for the 
 year 1922 and subsequent years apply to net gains fronl the 
 sale or exchange of capital assets consummated after December 
 
 12 Revenue Act of 1921, § 211 (b) ; Revenue Act of 1918, § 211 (b). 
 
 13 Reg. 45, Art. 13. It should be noted that this construction of the statute 
 is reached from the government's viewpoint. The courts would perhaps under 
 some circumstances hold that shares of stock in a corporation owning the 
 property constitute an interest in the property within the meaning of the 
 statute. See discussion of the doctrine of corporate entity in Chapter 10. 
 It seems also that the method here presented for calculating the surtax 
 applicable to such sale is open to question. The portion of the tax attribut- 
 able to such sale is clearly the difference between the amount of surtax 
 computed on the entire net income and the amount computed on the net 
 income less the profit on the sale — and not the proportion indicated in the 
 text. 
 
 14 T. B. R. 8, T. B. 3-19-176. 
 
 15 O. D. 658, T. B. 37-20-1190. 
 
THE INCOME TAX RATES 23 
 
 31, 1921, such net gains being the amount over and above (a) 
 losses resulting from the sale of capital assets consummated 
 after that date and (b) deductions properly allocable to or 
 chargeable against capital gains. At the election of the tax- 
 payer, an ungraduated tax of 121/^% is imposed on such capital 
 net gains, the balance of the taxpayer's income being liable to 
 the normal and surtaxes.^^ 
 
 Comparative Statement of Surtax Rates. The rates of sur- 
 tax under the various laws since March 1, 1913, are as follows : 
 
 On the amount by which the total net income 
 
 
 But does not 
 
 1921 
 
 1918 
 
 1917 
 
 1916 
 
 1913 
 
 Exceeds 
 
 exceed 
 
 Law* 
 
 Law** 
 
 Law 
 
 Law 
 
 Law 
 
 $ 5,000 
 
 $ 6,000 
 
 None 
 
 1% 
 
 1% 
 
 None 
 
 None 
 
 6,000 
 
 7,500 
 
 1% 
 
 2% 
 
 1% 
 
 None 
 
 None 
 
 7,500 
 
 8,000 
 
 1% 
 
 2% 
 
 2% 
 
 None 
 
 None 
 
 8,000 
 
 10,000 
 
 1% 
 
 3% 
 
 2% 
 
 None 
 
 None 
 
 10,000 
 
 12,000 
 
 2% 
 
 4% 
 
 3% 
 
 None 
 
 None 
 
 12,000 
 
 12,500 
 
 3% 
 
 5% 
 
 3% 
 
 None 
 
 None 
 
 12,500 
 
 14,000 
 
 3% 
 
 5% 
 
 4% 
 
 None 
 
 None 
 
 14,000 
 
 15,000 
 
 4% 
 
 6% 
 
 4% 
 
 None 
 
 None 
 
 15,000 
 
 16,000 
 
 4% 
 
 6% 
 
 5% 
 
 None 
 
 None 
 
 16,000 
 
 18,000 
 
 5% 
 
 7% 
 
 5% 
 
 None 
 
 None 
 
 18,000 
 
 20,000 
 
 6% 
 
 8% 
 
 5% 
 
 None 
 
 None 
 
 20,000 
 
 22,000 
 
 8% 
 
 9% 
 
 7% 
 
 1% 
 
 1% 
 
 22,000 
 
 24,000 
 
 9% 
 
 10% 
 
 7% 
 
 1% 
 
 1% 
 
 24,000 
 
 26,000 
 
 10% 
 
 11% 
 
 7% 
 
 1% 
 
 1% 
 
 26,000 
 
 28,000 
 
 11% 
 
 12% 
 
 7% 
 
 1% 
 
 1% 
 
 28,000 
 
 30,000 
 
 12% 
 
 13% 
 
 7% 
 
 1% 
 
 1% 
 
 30,000 
 
 32,000 
 
 13% 
 
 14% 
 
 7% 
 
 1% 
 
 1% 
 
 32,000 
 
 34,000 
 
 15% 
 
 15% 
 
 7% 
 
 1% 
 
 1% 
 
 34,000 
 
 36,000 
 
 15% 
 
 16% 
 
 7% 
 
 1% 
 
 1% 
 
 36,000 
 
 38,000 
 
 16% 
 
 17% 
 
 7% 
 
 1% 
 
 1% 
 
 38,000 
 
 40,000 
 
 17% 
 
 18% 
 
 7% 
 
 1% 
 
 1% 
 
 40,000 
 
 42,000 
 
 18% 
 
 19% 
 
 10% 
 
 2% 
 
 1% 
 
 42,000 
 
 44,000 
 
 19% 
 
 20% 
 
 10% 
 
 2% 
 
 1% 
 
 44,000 
 
 46,000 
 
 20% 
 
 21% 
 
 10% 
 
 2% 
 
 1% 
 
 46,000 
 
 48,000 
 
 21%- 
 
 22% 
 
 10% 
 
 2% 
 
 1% 
 
 48,000 
 
 50,000 
 
 22% 
 
 23% 
 
 10% 
 
 2% 
 
 1% 
 
 16 Revenue 
 
 Act of 1921, 
 
 §206. This subject 
 
 is more 
 
 fully discussed in 
 
 Chapter 17. 
 
 
 
 
 
 
 
 * For 1922 
 
 and subsequent years. 
 
 
 
 
 
 **Also the 1921 Law for 1921. 
 
 
 
 
 
24 FEDERAL INCOME TAX 
 
 
 But does not 
 
 1921 
 
 1918 
 
 1917 
 
 1916 
 
 1913 
 
 Exceeds 
 
 exceed 
 
 Law* 
 
 Law** 
 
 Law 
 
 Law 
 
 Law 
 
 50,000 
 
 $ 52,000 
 
 23% 
 
 24% 
 
 10% 
 
 2% 
 
 2% 
 
 52,000 
 
 54,000 
 
 24% 
 
 25% 
 
 10% 
 
 2% 
 
 2% 
 
 54,000 
 
 56,000 
 
 25% 
 
 26% 
 
 10% 
 
 2% 
 
 2% 
 
 56,000 
 
 58,000 
 
 26% 
 
 27% 
 
 10% 
 
 2% 
 
 2% 
 
 58,000 
 
 60,000 
 
 27% 
 
 28% 
 
 10% 
 
 2% 
 
 .2% 
 
 60,000 
 
 62,000 
 
 28% 
 
 29% 
 
 14% 
 
 3% 
 
 2% 
 
 62,000 
 
 64,000 
 
 29% 
 
 30% 
 
 14% 
 
 3% 
 
 2% 
 
 64,000 
 
 66,000 
 
 30% 
 
 31% 
 
 14% 
 
 3% 
 
 2% 
 
 66,000 
 
 68,000 
 
 31% 
 
 32% 
 
 14% 
 
 3% 
 
 2% 
 
 68,000 
 
 70,000 
 
 32% 
 
 33% 
 
 14% 
 
 3% 
 
 2% 
 
 70,000 
 
 72,000 
 
 33% 
 
 34% 
 
 14% 
 
 3% 
 
 2% 
 
 72,000 
 
 74,000 
 
 34% 
 
 35% 
 
 14% 
 
 3% 
 
 2% 
 
 74,000 
 
 75,000 
 
 35% 
 
 86% 
 
 14% 
 
 3% 
 
 2% 
 
 75,000 
 
 76,000 
 
 35% 
 
 36% 
 
 14% 
 
 3% 
 
 3% 
 
 76,000 
 
 78,000 
 
 36% 
 
 37% 
 
 14% 
 
 3% 
 
 3% 
 
 78,000 
 
 80,000 
 
 37% 
 
 38% 
 
 14% 
 
 3% 
 
 3% 
 
 80,000 
 
 82,000 
 
 38% 
 
 39% 
 
 18% 
 
 4% 
 
 3% 
 
 82,000 
 
 84,000 
 
 39% 
 
 40% 
 
 18% 
 
 4% 
 
 3% 
 
 84,000 
 
 86,000 
 
 40% 
 
 41% 
 
 18% 
 
 4% 
 
 3% 
 
 86,000 
 
 88,000 
 
 41% 
 
 42% 
 
 18% 
 
 4% 
 
 3% 
 
 88,000 
 
 90,000 
 
 42% 
 
 43% 
 
 18% 
 
 4% 
 
 3% 
 
 90,000 
 
 92,000 
 
 43% 
 
 44% 
 
 18% 
 
 4% 
 
 3% 
 
 92,000 
 
 94,000 
 
 44% 
 
 45% 
 
 18% 
 
 4% 
 
 3% 
 
 94,000 
 
 96,000 
 
 45% 
 
 46% 
 
 18% 
 
 4% 
 
 3% 
 
 96,000 
 
 98,000 
 
 46% 
 
 47% 
 
 18% 
 
 4% 
 
 3% 
 
 98,000 
 
 100,000 
 
 47.% 
 
 48% 
 
 18% 
 
 4% 
 
 3% 
 
 100,000 
 
 150,000 
 
 48% 
 
 52% 
 
 22% 
 
 5% 
 
 4% 
 
 150,000 
 
 200,000 
 
 49% 
 
 56% 
 
 25% 
 
 6% 
 
 4% 
 
 200,000 
 
 250,000 
 
 50% 
 
 60% 
 
 30% 
 
 7% 
 
 4% 
 
 250,000 
 
 300,000 
 
 50% 
 
 60% 
 
 34% 
 
 8% 
 
 5% 
 
 300,000 
 
 500,000 
 
 50% 
 
 63% 
 
 37% 
 
 9% 
 
 5% 
 
 500,000 
 
 750,000 
 
 50% 
 
 64% 
 
 40% 
 
 10% 
 
 6% 
 
 750,000 
 
 1,000,000 
 
 50% 
 
 64% 
 
 45% 
 
 10% 
 
 6% 
 
 ,000,000 
 
 1,500,000 
 
 50% 
 
 65% 
 
 50% 
 
 11% 
 
 6%. 
 
 .500,000 
 
 2,000,000 
 
 50% 
 
 65% 
 
 50% 
 
 12% 
 
 6% 
 
 ,000,000 
 
 
 50% 
 
 .65% 
 
 50% 
 
 13% 
 
 6% 
 
 * For 1922 and subsequent years. 
 **Also the 1921 Law for 1921. 
 
 The 1913 rates applied in 1913, 1914, and 1915 ; the 1916 rates 
 in 1916 ; the 1916 and 1917 rates were both imposed in 1917 ; the 
 
THE INCOME TAX RATES 25 
 
 1918 rates apply to 1918, 1919, 1920 and 1921," and the 1921 
 rates to 1922 and subsequent years. 
 
 Surtax Tables for 1921 and Prior Years. The following 
 table shows the surtax for 1918, 1919, 1920, and 1921 on net 
 incomes of the specified amounts. In each instance the first 
 figure of net income in the net income column is to be excluded 
 and the second figure included. The percentage given opposite 
 applies to the excess of income over the first figure in the net in- 
 come column, and the sum in the next column is the tax on the 
 entire difference between the first figure and the second figure in 
 the net income column. The final column gives the total surtax 
 on a net income equal to the second figure in the net income 
 column. 
 
 Net income Per cent Surtax Total surtax 
 
 $ 5,000 to $ 6,000 1 $ 10 $ 10 
 
 6,000 to 8,000 2 40 50 
 
 8,000 to 10,000 3 60 110 
 
 10,000 to 12,000 4 80 190 
 
 12,000 to 14,000 5 100 290 
 
 14,000 to 16,000 6 120 410 
 
 16,000 to 18,000 7 140 550 
 
 18,000 to 20,000 8 160 710 
 
 20,000 to 22,000 *. . . 9 180 890 
 
 22,000 to 24,000 10 200 1,090 
 
 24,000 to 26,000 11 220 1,310 
 
 26,000 to 28,000 ' 12 240 1,550 
 
 28,000 to 30,000 13 260 1,810 
 
 30,000 to 32,000 14 280 2,090 
 
 32,000 to 34,000 15 300 2,390 
 
 34,000 to 36,000 16 320 2,710 
 
 36,000 to 38,000 17 340 3,050 
 
 38,000 to 40,000 18 360 3,410 
 
 40,000 to 42,000 19 380 3,790 
 
 42,000 to 44,000 20 400 4,190 
 
 44,000 to 46,000 21 420 4,610 
 
 46,000 to 48,000 22 440 5,050 
 
 48,000 to 50,000 23 460 5,510 
 
 50,000 to 52,000. 24 480 5,990 
 
 52,000 to 54,000 25 500 6,490 
 
 54,000 to 56,000 26 520 7,010 
 
 56,000 to 58,000 27 540 7,550 
 
 58,000 to 60,000 28 560 8,110 
 
 17 The 1918 rates apply to 1921, but they are imposed by the 1921 Law. 
 
26 >^ FEDERAL INCOME TAX 
 
 Net income Percent Surtax Total surtax 
 
 $ 60,000 to $ 62,000 29 $ 580 $8,690 
 
 62,000 to 64,000 30 600 9,290 
 
 64,000 to 66,000 31 620 9,910 
 
 66,000 to 68,000 32 640 10,550 
 
 68,000 to 70,000 33 660 11,210 
 
 70,000 to 72,000 34 680 11,890 
 
 72,000 to 74,000 35 700 12,590 
 
 74,000 to 76,000 36 720 13,310 
 
 76,000 to 78,000 37 740 14,050 
 
 78,000 to 80,000...: 38 760 14,810 
 
 80,000 to 82,000 39 780 15,590 
 
 82,000 to 84,000 40 800 16,390 
 
 84,000 to 86,000 41 820 17,210 
 
 86,000 to 88,000 42 840 18,050 
 
 88,000 to 90,000 43 860 18,910 
 
 90,000 to 92,000 44 880 19,790 
 
 92,000 to 94,000 45 900 20,690 
 
 94,000 to 96,000 46 920 21,610 
 
 96,000 to 98,000 47 940 22,550 
 
 98,000 to 100,000 48 960 23,510 
 
 100,000 to 150,000 52 26,000 49,510 
 
 150,000 to 200,000 56, 28,000 77,510 
 
 200,000 to 300,000 60* 60,000 137,510 
 
 300,000 to 500,000 63 126,000 263,510 
 
 500,000 to 1,000,000 64 320,000 583,510 
 
 1,000,000 up 65 
 
 The surtax for any amount of net income not shown in the 
 above table is computed by adding to the total surtax for the 
 largest amount shown which is less than the income, the surtax 
 upon the excess over that amount at the rate indicated in the 
 table. For example, if the amount of net income is $63,128, the 
 surtax is the sum of $8,690 (the surtax upon $62,000 as shown by 
 the table) plus 30 per cent, of $1,128, or $338.40, making a total 
 surtax of $9,028.40.18 
 
 Surtax Tables For 1922 and Subsequent Years. The follow- 
 ing table shows the surtax for 1922 and subsequent years on net 
 incomes of the specified amounts. This table is prepared in a 
 manner similar to the above table for 1921 and prior years, and 
 the surtax for any amount not shown is computed by adding to 
 the total surtax for the largest amount shown which is less than 
 the income, the surtax upon the excess at the rate indicated in 
 the table. 
 
 18 Reg. 45, Art. 12. 
 
THE INCOME TAX RATES 
 
 27 
 
 Net income Per cent 
 
 6,000 to $ 10,000 1 
 
 10,000 to 12,000 2 
 
 12,000 to 14,000 3 
 
 14,000 to 16,000 4 
 
 16,000 to 18,000 5 
 
 18,000 to 20,000 6 
 
 20,000 to 22,000 8 
 
 22,000 to 24,000 9 
 
 24,000 'to 26,000 10 
 
 26,000 to 28,000 11 
 
 28,000 to 30,000 12 
 
 30,000 to 32,000 13 
 
 32,000 to 36,000 15 
 
 36,000 to 38,000 16 
 
 38,000 to 40,000 17 
 
 40,000 to 42,000 18 
 
 42,000 to 44,000 19 
 
 44,000 to 46,000 20 
 
 46,000 to 48,000 21 
 
 48,000 to 50,000 22 
 
 50,000 to 52,000 23 
 
 52,000 to 54,000 24 
 
 54,000 to 56,000 25 
 
 56,000 to 58,000 26 
 
 58,000 to 60,000 27 
 
 60,000 to 62,000 28 
 
 62,000 to 64,000 29 
 
 64,000 to 66,000 30 
 
 66,000 to 68,000 31 
 
 68,000 to 70,000 32 
 
 70,000 to 72,000 33 
 
 72,000 to 74,000 34 
 
 74,000 to 76,000 35 
 
 76,000 to 78,000 36 
 
 78,000 to 80,000 37 
 
 80,000 to 82,000 38 
 
 82,000 to 84,000 39 
 
 84,000 to 86,000 40 
 
 86,000 to 88,000 41 
 
 88,000 to 90,000 42 
 
 90,000 to 92,000 43 
 
 92,000 to 94,000 44 
 
 94,000 to 96,000 45 
 
 Surtax 
 
 Total surtax 
 
 40 
 
 $ 40 
 
 40 
 
 80 
 
 60 
 
 140 
 
 80 
 
 220 
 
 100 
 
 320 
 
 120 
 
 440 
 
 160 
 
 600 
 
 180 
 
 780 
 
 200 
 
 980 
 
 220 
 
 1,200 
 
 240 
 
 1,440 
 
 260 
 
 1,700 
 
 300 
 
 2,000 
 
 320 
 
 2,320 
 
 340 
 
 2,660 
 
 360 
 
 3,020 
 
 380 
 
 3,400 
 
 400 
 
 3,800 
 
 420 
 
 4,220 
 
 440 
 
 4,660 
 
 460 
 
 5,120 
 
 480 
 
 5,600 
 
 500 
 
 6,100 
 
 520 
 
 6,620 
 
 540 
 
 7,160 
 
 560 
 
 7,720 
 
 580 
 
 8,300 
 
 600 ■ 
 
 8,900 
 
 620 
 
 9,520 
 
 640 
 
 10,160 
 
 660 
 
 10,820 
 
 680 
 
 11,500 
 
 700 
 
 12,200 
 
 720 
 
 12,920 
 
 740 
 
 13,660 
 
 760 
 
 14,420 
 
 780 
 
 15,200 
 
 800 
 
 16,000 
 
 820 
 
 16,820 
 
 840 
 
 17,660 
 
 860 
 
 18,520 
 
 880 
 
 19,400 
 
 900 
 
 20,300 
 
28 FEDERAL INCOME TAX 
 
 Net income Percent Surtax Total surtax 
 
 $ 96,000 to $ 98,000 46 $ 920 $21,220 
 
 98,000 to 100,000 47 940 22,160 
 
 100,000 to 150,000 48 24,000 46,160 
 
 150,000 to 200,000 49 24,500 70,660 
 
 200,000 up 50 
 
 Computing the Tax — Illustration for 1921. The tax on a 
 married person living with husband or wife, with a net income of 
 $15,000 for the year 1921, assuming that none of such income 
 consists of (a) dividends or (b) interest upon obligations of the 
 United States or bonds issued by the War Finance Corporation, 
 is computed as follows : 
 
 Normal Tax K^t^ Amt.oftax 
 
 $15,000 minus $2,000 (personal exemption) 
 equals $13,000 
 
 First $4,000 at 4% $160 
 
 Remaining 9,000 at 8% 720 
 
 Surtax 
 
 On first $5,000 0% 
 
 On next 1,000 1% 10 
 
 (?5,000 to $6,000) 
 
 On next 2,000 2% 40 
 
 ($6,000 to $8,000) 
 
 On next 2,000 3% 60 
 
 ($8,000 to $10,000) 
 
 On next 2,000 4% 80 
 
 ($10,000 to $12,000) 
 
 On next 2,000 5% 100 
 
 ($12,000 to $14,000) 
 
 On next 1,000 6% 60 
 
 ($14,000 to $15,000) 
 
 Total $1,280 
 
 The tax on an unmarried person would be increased by 8 % on 
 $1,000 or $80, since the personal exemption is $1,000 less, and 
 the balance of taxable net income over $4,000 would be increased 
 accordingly. In case the married person or head of a family in 
 the above computation is entitled to further exemption because 
 of persons dependent upon him, the normal tax will be reduced at 
 the rate of $32 for each such dependent, that is, 8% on $400.1^ 
 If the above net income were $5,000 or less, the tax would be 
 computed as follows : 
 
 $5,000 minus $2,500 (personal exemption) 
 
 equals $2,500 taxed at 4% equals $100 
 
 19 Revenue Act of 1921, §216 (d); Revenue Act of 1918, §216 (d). 
 
THE INCOME TAX RATES 
 
 29 
 
 Computing the Tax — Illustration for 1922. The tax on 
 a married person with a net income of $15,000 for the year 1922, 
 assuming that none of such income consists of (a) dividends or 
 (b) interest upon obligations of the United States or bonds is- 
 sued by the War Finance Corporation, is computed as follows: 
 
 Normal Tax Rate Amt. of tax 
 
 $15,000 minus $2,000 (personal exemption) 
 
 equals $13,000 
 
 First $4,000 at 4% $160 
 
 Remaining 9,000 at 8% 720 
 
 Surtax 
 
 On first $6,000 . 0% 
 
 On next 4,000 1% 40 
 
 (ipe.oooto $10,000) 
 
 On next 2,000 2% 40 
 
 ($10,000 to S12,000) 
 
 On next 2,000 3% 60 
 
 ($12,000 to $14,000) 
 
 On next 1,000 4% 40 
 
 ($14,000 to $15,000) 
 
 Total $1,060 
 
 Surtax on Stockholders in Respect of Undistributed Profits of 
 Corporations.20 The surtax is ordinarily assessed only upon in- 
 come actually, received by the taxpayer. But if any corporation, 
 however created or organized, is formed or availed of for the pur- 
 pose of preventing the imposition of the surtax upon its stock- 
 holders or members through the medium of permitting its gains 
 and profits to accumulate, instead of being divided or distrib- 
 uted, the corporation is subject to an additional income tax 
 of 25 % ; or if all the stockholders or members agree thereto, the 
 commissioner may, in lieu of all income, war-profits and excess- 
 profits taxes for the taxable year, tax the stockholders or mem- 
 bers upon their distributive shares in the net income as the mem- 
 bers of a partnership are taxed. This second above alternative 
 is similar to the corresponding provision of the 1918 Law, ex- 
 cept that no unanimous consent of stockholders was necessary 
 
 20 It is to be seriously doubted whether this provision of the statute and 
 the corresponding provision of the Revenue Act of 1918 (§ 220) is con- 
 stitutional, particularly in view of the decision of the Supreme Court in 
 Eisner v. Macomber, 252 U." S. 189. Such expressions as "the substantial 
 difference between corporation and stockholders"; we cannot "look upon 
 stockholders as partners, when they are not such"; we cannot treat stock- 
 holders "as having in equity a right to partition of the corporate assets, 
 when they have none"; we cannot "indulge in the fiction that they have 
 received and realized a share of profits, which, in truth, they have never 
 received nor realized." It is only by treating a corporation as an entity 
 
30 
 
 FEDERAL INCOME TAX 
 
 under that law. Under the 1918 Law the excess-profits tax paid 
 by the corporation was deductible from the net income before the 
 computation of the proportionate share of each stockholder or 
 member. It does not seem to be within the discretion of the 
 Commissioner to apply either of the two alternative methods of 
 taxation provided by the Revenue Act of 1921. The stockholders 
 or members may, of course, oblige the Commissioner to resort 
 to the 25% tax by withholding consent. The history of the pro- 
 vision indicates that they may oblige him to use the second alter- 
 native by giving consent.-^ 
 
 This provision applies only where the accumulation is per- 
 mitted for the purpose of avoiding the surtax. Ordinarily, the 
 stockholder of a corporation has no need to concern himself with 
 or to make any inquiry as to the undistributed income of the cor- 
 poration.22 The 1918 provision applies only to the income of 1918, 
 1919 and 1920, and cannot be utilized to force a distribution of 
 
 separate from its stockholders that a dividend which is paid may be regarded 
 as income. The following remark of the Supreme Court in the same case 
 is also interesting in this connection: "If profits have been made and not 
 divided they create additional bookkeeping liabilities under the head of 
 'profit and loss', 'undivided profits', 'surplus account', or the like. None 
 of these, however, gives to the stockholders as a body, much less to any 
 one of them, either a claim against the going concern for any particular 
 sum of money, or a right to any particular portion of the assets or any 
 share in them unless or until the directors conclude that dividends shall 
 be made and a part of the company's assets segregated from the common 
 fund for the purpose." Neither, it seems, can the tax imposed by this 
 section be sustained as a property tax. The attempt was made to sustain 
 the tax on* stock dividends as a tax upon the shareholders upon their 
 property interest in the stock of corporations. The Supreme Court, how- 
 ever, denominated such a tax as a tax upon property which could not be 
 imposed without apportionment. Whether the tax imposed by § 220 is con- 
 stitutionally justifiable as being in the nature of a penalty is a question 
 which only the courts can satisfactorily determine. These considerations 
 apply equally to the tax imposed by § II-A-2 of the 1913 Law, and § 3 of 
 the 1916 Law. The doubt as to the constitutionality of § 220 of the 1918 Law 
 is the reason for the imposition by Congress of the flat additional tax of 
 25% on corporations of the above character, with the alternative tax on the 
 stockholders discussed above. (See report of the Revenue Bill of 1921 by 
 the senate committee on finance, p. 16.) 
 
 21 Cf. Revenue Act of 1921, § 220, and Revenue Act of 1918, § 220. The 
 provision of the 1918 Law was broader than the provision contained in the 
 
 "1916 Law, which authorized the commissioner to assess a tax on the share- 
 holders with respect to the undistributed profits only in cases where such 
 profits were allowed to accumulate with fraudulent intent to avoid the 
 surtax. Compare the section with section 3 of the Revenue Act of 1916. 
 
 22 See T. D. 2135. 
 
THE INCOME TAX RATES 31 
 
 unnecessary surplus accumulated in prior years.-^ The fact 
 that a corporation is in the process of liquidation has been held 
 not to render this provision of the law inapplicable.^* 
 
 The fact that a corporation is a mere holding company,^^ or 
 that the gains and profits are permitted to accumulate beyond 
 the reasonable needs of the business is prima facie evidence of a 
 purpose to escape the surtax. The collectors, however, have no 
 authority to decide when gains and profits are accumulated be- 
 yond the reasonable needs of the business so as to be taxable as 
 indicated above. The commissioner must first certify that in his 
 opinion the accumulation is unreasonable.^^ In any case the 
 commissioner or a collector may require a corporation, to furnish 
 a statement of its gains and profits and of the names, addresses, 
 and shareholdings of the stockholders, and if upon the basis of 
 such statement or other evidence the commissioner certifies that 
 in his opinion its accumulation of profits is unreasonable for 
 the purposes of the business, the corporation and its stockhold- 
 ers must make their returns accordingly .^^ Under the 1918 law, 
 when the commissioner had so certified, the stockholders were 
 notified and called upon to add the amount of their respective 
 shares in the undistributed gains and profits of the corporation 
 for the year to their income from other sources and to pay the 
 surtax accordingly. 
 
 Purpose to Escape Surtax. The application of the rule stated 
 in the foregoing paragraph depends upon the two elements of 
 
 (a) purpose to escape the surtax and (b) unreasonable accumu- 
 lation of gains and profits. Prima facie evidence of (a) exists 
 where a corporation has practically no business except holding 
 stocks, securities or other property and collecting the income 
 
 23 0. D. 188, T. B. 8-19-326. To such unnecessary accumulations, however, 
 the provisions of the Acts of October 3, 1913, September 8, 1916, and October 
 3, 1917, will be applicable according to the respective years in which such 
 acts were in effect and such portions of the surplus were accumulated. The 
 applicable provision of the Act of September 8, 1916, is § 3 and not § 10 
 
 (b) added by the Revenue Act of 1917, which provided for> a tax on the 
 undistributed income of corporations without reference to whether such 
 earnings were accumulated with a fraudulent purpose of preventing the 
 imposition of the surtaxes. 
 
 24 0. D. 838, T. B. 10-21-1499. 
 
 25 "A mere holding company" within the meaning of this provision of the 
 law would seem to be a company which does nothing but hold the stock 
 of other corporations, or which merely holds or acts as a receptacle for 
 property and which is not actively engaged in business. (A. R. R. 475, 
 T. B. 21-21-1653.) 
 
 26 Revenue Act of 1921, §220; Revenue Act of 1918, §220. 
 
 27 Reg. 45, Art. 351. 
 
32 FEDERAL INCOME TAX 
 
 therefrom, or where a corporation other than a mere holding 
 company permits its gains and profits to accumulate beyond the 
 reasonable needs of the business. 
 
 Both the Revenue Act of 1921 and the Revenue Act of 1918 
 require that a corporation be "formed" or "availed of" for the 
 purpose of preventing the imposition of the surtax. The statutes 
 differ from prior laws in that they do not specifically require that 
 a corporation be "fraudulently" availed of .^s It is to be doubted, 
 however, whether this distinction is not more apparent than 
 real.29 In any event, however, it should be remembered that 
 there is a presumption against fraud. Good faith is presumed 
 and the burden of proving fraud is on the party asserting it.*" 
 The evidence by which fraud or a fraudulent purpose may be 
 proved should be clear and unequivocal and should not admit of 
 any innocent construction. The certificate by the commissioner 
 that in his opinion the accumulation of profits of a corporation 
 is unreasonable can have no greater probative force than the 
 facts upon which it is predicated and is certainly open to re- 
 buttal by evidence to the contrary. 
 
 The business of a corporation is not limited to that which it 
 has previously carried on, but in general includes any line of 
 business which it may legitimately undertake. However, a rad- 
 ical change of business when a considerable surplus has been 
 accumulated may afford evidence of a purpose to escape the 
 surtax. When one corporation owns the stock of another cor- 
 poration in the same or a related line of business and in effect 
 operates the other corporation, the business of the latter may 
 be considered in substance the business of the first corporation. 
 Gains and profits of the first corporation put into the second 
 through the purchase of stock or otherwise may therefore, if a 
 subsidiary relationship is established, constitute employment of 
 the income in its own business. To establish that the business 
 of one corporation can be regarded as including the business of 
 another it is ordinarily essential that the first corporation own 
 substantially all of the stock of the second. Investment by a 
 corporation of its income in stock and securities of another cor- 
 poration is not of itself to be regarded as employment of the 
 income in its business.^^ 
 
 28 See footnote 21, and also cf. Revenue Act of 1921, § 220; Revenue Act 
 of 1918, § 220; Revenue Act of 1913, § II-A-2. 
 
 29 See § 252 of the 1918 and 1921 Laws, which prescribe a penalty for 
 any wilful attempt to defeat or evade the tax "in any manner". 
 
 30 Sanborn v. Stetson, 21 Fed. Cas. 12, 291, 2 Story, 481; Matter of 
 Green, 67 Hun. 527, 20 N. Y. Supp. 538, affirmed 22 N. Y. Supp. 1112. 
 
 31 Reg. 45, Art. 352. 
 
THE INCOME TAX RATES 33 
 
 Unreasonable Accumulation of Profits. An accumulation 
 of gains and profits is unreasonable if it is not required for the 
 purposes of the business, considering all the circumstances of the 
 case. No attempt can be made to enumerate all the ways in 
 which gains and profits of a corporation may be accumulated for 
 the reasonable needs of the business.^s Whether a corporation is 
 unreasonably accumulating its profits cannot be determined in 
 advance; it must be determined at a later date in the light of 
 what has actually been done with the profits retained.^'' The 
 question is one of fact to be decided upon consideration of the 
 volume of business done and the principles of sound business 
 management.^* In determining what are the reasonable needs 
 of a business, the general rule is applicable that the amount of 
 capital necessary to accomplish the objects of a business is a 
 matter largely in the discretion of the directors of a corporation, 
 particularly directors who may be, by reason of many years of 
 service, particularly familiar with the requirements of a business. 
 The exercise of the discretion of such directors will not be dis- 
 turbed in the absence of a clear or gross abuse thereof .^^ where 
 a company has been in existence for a long period, part of which 
 antedates the imposition of the surtax with respect to undis- 
 tributed corporate profits and a conservative dividend policy has 
 been pursued prior to the enactment of the tax on undistributed 
 corporate profits, this fact will be important in determining 
 whether there is any unreasonable accumulation of profits. ^^ A 
 retirement of capital stock indicates that additional capital is 
 not required by a corporation and if upon such a retirement sur- 
 plus is permitted to stand, such surplus will be deemed an unrea- 
 sonable accumulation.^''' Undistributed income is properly accu- 
 mulated if invested in increased inventories or additions to plant 
 reasonably needed by the business. It is properly accumulated if 
 retained for working capital required by the business or in accord- 
 ance with contract obligations placed to the credit of a sinking 
 fund for the purpose of retiring bonds issued by the corporation. 
 
 32 Reg. 45, Art. 353. 
 
 33 T. B. M. 2, T. B. 1-19-72. 
 
 34 S. 1117, T. B. 15-19-448. The fact that a corporation having a capital 
 of $10,000 and doiwg an annual business in excess of $150,000, has an 
 accumulation of $55,000 in undivided profits, is not sufficient basis for the 
 finding that there has been an unreasonable accumulation of profits. 
 
 35 See Cook on Corporations, 5th edition, § 545. Kester on "Accounting 
 Theory and Practice", Vol. II, p. 210. Schell v. Alston Mfg. Co., 149 Fed. 
 439. 
 
 36 See A. R. R. 475, T. B. 21-21-1563. 
 
 37 0. D. 360, T. B. 2-20-667. 
 
34 FEDERAL INCOME TAX 
 
 In the case of a banking institution the business of which is to 
 receive and loan money, using capital, surplus and deposits for 
 that purpose, undistributed income actually represented by loans 
 or reasonably retained for future loans is not accumulated 
 beyond the reasonable needs of the business. The nature of the 
 investment of gains and profits is immaterial if they are not in 
 fact needed in the business.^^ 
 
 38 Reg. 45, Art. 353. In connection with the interpretation of the phrase 
 "reasonable needs of the business," see the interpretation placed upon the 
 phrase "'reasonable requirements of business", as used in § 10-b of the 1916 
 Law. (See T. D. 2736.) 
 
CHAPTER 3. 
 INDIVIDUALS TO WHOM THE LAW IS APPLICABLE 
 
 The theory upon which the income tax is imposed seems to be 
 two-fold. The law imposes the tax upon the net income of all 
 persons within its jurisdiction, regardless of the source of such 
 income, and upon all income arising from sources within the 
 United States, regardless of whether or not the United States 
 has jurisdiction of the recipient. The tax has been defined as a 
 tax on the person, measured by his ability to pay, that is, his net 
 income,! and as a tax on the income itself .^ As a matter of fact, 
 it is both. The government claims personal jurisdiction over all 
 of its citizens wherever they reside and over all aliens who reside 
 within the borders of the United States. Hence, as to citizens 
 and resident aliens, the tax is imposed on income from all sources 
 whether arising in this country or in a foreign country .^ No jur- 
 
 1 In Brady v. Anderson, 240 Fed. 665, writ of certiorari denied, 244 U. S. 
 564, the court said : "In our opinion the tax is against the citizens and resi- 
 dents of the United States personally. They are chargeable in respect to 
 income received by them.'' In State ex rel, Moon Co. v. Wisconsin Tax 
 Commission 166 Wis. 287; 163 N. W. 639; 165 N. W. 470, appeal dismissed 
 by U. S. Supreme Court, 249 U. S. 621; the court said: "Much confusion 
 of thought arises from regarding the income tax as a tax that is levied upon 
 or attaches to property as such, irrespective of the person sought to be 
 taxed. It is the recipient of the income that is taxed, not his property; and 
 the vital question in each case is, has the person sought to be taxed re- 
 ceived an income during the tax year? If so, such income, unless specifical- 
 ly exempted, is subject to a tax though the property out of which it is paid 
 may have been exempt from an income tax in the hands of the payer. It 
 is the relation that exists between the person sought to be taxed and specific 
 property claimed as income to him that determines whether there shall be 
 a tax. If the person sought to be taxed is the recipient during the tax 
 year of such specific property as income in its ordinary significance, then 
 the person is taxed. But the tax is upon the right or ability to produce, 
 create, receive, and enjoy, and not upon specific property. Hence the 
 amount of the tax is measured by the amount of the income, irrespective 
 of the amount of specific property or ability necessary to produce or create 
 it. In the ordinary acceptation of the term this may be said to be a tax 
 upon income as the statute denominates it. But the tax does not seek to 
 reach property, or an. interest in property as such. It is a burden laid upon 
 the recipient of an income." 
 
 2 In a case decided by the Supreme Judicial Court of Massachusetts, Suter 
 V. Jordan-Marsh Company, 225 Mass. 34., 113 N. E. 580, it was held that 
 the tax was levied upon the rent paid by the defendant to the plaintiff. See 
 also Catawissa R. Co. v. Phila. & Reading Co., 255 Pa. St. 269, 99 Atl. 807. 
 
 3 This is generally true ; the 1921 Law, however, contains a provision that 
 the gross income of citizens and domestic corporations with a substantial pro- 
 
 35 
 
36 FEDERAL INCOME TAX 
 
 isdiction can be claimed over the persons of nonresident aliens, 
 but insofar as their income is received from sources within this 
 country, it is taxed on the theory that the government has juris- 
 diction over the income, grants protection to the creation of such 
 income, and is, therefore, entitled to a share thereof to defray 
 the expenses of government.* The fact that a person is taxable 
 in foreign countries on all or part of his income does not relieve 
 him from tax liability on the same income in this country,^ al- 
 though he is entitled under the Revenue Act of 1921 and the 
 Revenue Act of 1918, to a credit in certain cases against his tax 
 liability in this country by reason of the payment of taxes to 
 foreign countries.^ 
 
 Persons Exempt from the Tax. Individuals may enjoy exemp- 
 tion from the income tax by reason of the amount or character 
 of their income. 
 
 Exemption Based on Amount op Income. Citizens and 
 residents receiving less than $1,000 of net income during the year, 
 if single, or less than $2,500, if the head of a family or a mar- 
 ried person living with husband or wife, are exempt from the 
 tax. Such persons are not required to file returns, unless they 
 have a gross income of $5,000 or over, or, if husband and wife, 
 an aggregate gross income of $5,000 or over. But on demand 
 of the commissioner they may be required to file a statement 
 sufficient to satisfy him that they are not liable.''' Nonresident 
 aliens and citizens deriving a substantial proportion of income 
 from sources within a United States possession are allowed a 
 personal exemption of $1,000 on income received from sources 
 within the United States if they file the required returns.^ 
 
 portion of income from sources within United States possessions shall be 
 limited to income from United States sources (Revenue Act of 1921, § 262). 
 
 *Reg'. 45, Art. 3. See Union Transit Co. v. Kentucky, 199 U. S. 194; 
 Maguire v. Trefry, 253 U. S. 12, 230 Mass. 503, 120 N. E. 162- 
 
 5T. D. 2152. 
 
 e Revenue Act of 1921, §§222, 238; Revenue Act of 1918, §§222, 238. 
 This credit against a person's tax should not be confused with the deduction 
 of taxes in order to determine net income. 
 
 7 Revenue Act of 1921, §§ 223, 1307. Under the 1918 Law a married per- 
 son was exempt only to the extent of $2,000; and that law determined 
 whether a return should be filed on the basis of net, not gross, income in 
 all cases (Revenue Act of 1918, §§223, 1305). 
 
 8 Revenue Act of 1921, §§ 216 (e), 217 (g). Under the 1918 Law, non- 
 resident aliens were allowed a personal exemption of $2,000 provided the 
 country of which they were subjects, if it imposed an income tax, allowed 
 a similar credit to citizens of the United States. 
 
individuals to whom the law is applicable 37 
 
 Exemption Based on Character of Income or Status of 
 Recipient. Individuals may also enjoy an exemption from the 
 tax because of the character of their income, or because of 
 their status, or both, since the law expressly provides that cer- 
 tain kinds of income shall not be included in gross income and 
 shall be exempt from the tax. Among the items of income so 
 exempt^ are: (a) the proceeds of life insurance policies paid 
 upon the death of the insured ;i° (b) the amount received by 
 the insured as return of premiums paid by him under life 
 insurance, endowment or annuity contracts; (c) property ac- 
 quired by gift, bequest, devise or descent (but the income from 
 such property is taxable) ; (d) amounts received through acci- 
 dent or health insurance or under Workmen's Compensation Acts 
 as compensation for personal injuries or sickness and the amount 
 of any damages received whether by suit or agreement on ac- 
 count of such injuries or sickness; (e) the income of a non- 
 resident alien or foreign corporation consisting exclusively of 
 earnings derived from the operation of ships documented under 
 the laws of a foreign country which grants an equivalent exemp- 
 tion to citizens of the United States and to corporations or- 
 ganized in the United States; (f) compensation, family allot- 
 ments and allowances under the provisions of the W4r Risk 
 Insurance and the Vocational Rehabilitation Act, or pensions 
 from the United States for service of the beneficiary or- another 
 in the military or naval forces of the United States in time of 
 war;" (g) so much of the amount received by an individual after 
 December 31, 1921, and before January 1, 1921, as interest or 
 dividends from domestic building and loan associations i- oper- 
 ated exclusively for the purpose of making loans to members, 
 
 9 Eevenue Act of 1921, § 213 (b) ; Revenue Act of 1918, § 213 (b) . 
 
 10 Such proceeds must be paid "to individual beneficiaries, or to the 
 estate of the insured," under the 1918 Law. 
 
 11 Such compensation was taxable under the Revenue Act of 1918 (letter 
 from treasury department dated April 7, 1921; I. T. S. 1921, 112975). 
 The term "active services" is used in the sense of services in all military 
 and naval branches at home or abroad, as contradistinguished from the 
 retired or reserve list and is not confined merely to services in the field or 
 the theatre of war. The term "military or naval forces" includes the Marine 
 Corps, the Coast Guard, the Army Nurse Corps, Female, and the Navy 
 Nurse Corps, Female, but this definition does not exclude other units other- 
 wise included (Revenue Act of 1921, §2 [10]). The term also includes 
 army contract surgeons, but does not include members of draft boards. 
 (Reg. 45, Art. 86.) It does not include the Public Health Service (T. D. 
 3242). Under the 1918 Law, so much of the amount received during the war 
 with Germany by a person in the military or naval forces as salary or 
 compensation in any form from the United States for active services in 
 such forces, as did not exceed $3,500, was exempt. 
 
 12 For a definition of building and loan associations see Chapter 13. 
 
38 FEDERAL INCOME TAX 
 
 as does not exceed $300; and (h) the rental value of a dwelling 
 house and appurtenances thereof furnished to a minister of the 
 gospel as part of his compensation. Income derived from the 
 operation of a public utility and the receipts of shipowners' 
 mutual protection and indemnity associations is also exempt to 
 a certain extent and under certain conditions, as is indicated 
 more fully in another chapter.^^ Interest upon (1) the obligations 
 of a state, territory or any political subdivision thereof, the 
 District of Columbia, or any possession of the United States, 
 (2) securities issued under the provisions of the Federal Farm 
 Loan Act, (3) the obligations of the United States, issued prior 
 to September 1, 1917, is exempt. The interest upon obligations 
 of the United States issued after September 1, 1917 (other than 
 postal savings certificates of deposit) and bonds issued by the 
 War Finance Corporation is exempt only if and to the extent 
 provided in the acts authorizing the issue thereof, as amended 
 and supplemented, and may be excluded from gross income only 
 if and to the extent it is wholly exempt from taxation to the tax- 
 payer both under the income and excess-profits taxes.^* The 
 1916 Law expressly exempted the compensation of the present 
 President of the United States, during the term for which he has 
 been elected, and the compensation of the judges of the Supreme 
 Court and inferior courts of the United States, in office at the 
 time the Act was passed, but the Revenue Act of 1921, and 
 the Revenue Act of 1918 expressly tax the compensation received 
 as such of the President, the judges of the Supreme Court and 
 inferior courts of the United States, and all other officers and 
 employees, whether elected or appointed, of the United States, 
 Alaska, Hawaii, or any political subdivision thereof, or the Dis- 
 trict of Columbia.15 Neither the Revenue Act of 1921 nor the 
 Revenue Act of 1918 expressly exempts "the compensation of 
 all officers and employees of a state, or any political subdivision 
 thereof, except when such compensation is paid by the United 
 States Government,"!® as did the 1916 law. It seems to have 
 been the intent of congress in the present statute and the 
 1918 Law to tax such salaries and to leave the constitutional 
 
 13 See Chapter 14. 
 
 14 Revenue Act of 1921, §§213 (b) 4, 233; Revenue Act of 1918, §§214 
 (b) 4, 233. 
 
 15 Revenue Act of 1916, §4. But see Chapter 15. 
 
 16 Revenue Act of 1921, §213 (a); Revenue Act of 1918, §213 (a). 
 The constitutional question involved in taxing such salaries is discussed in 
 Chapter 15. 
 
INDIVIDUALS TO WHOM THE LAW IS APPLICABLE 39 
 
 question involved in levying the tax to the courts,^'^ but the 
 treasury department has ruled that compensation paid to its 
 officers and employees by a state or any political subdivision 
 thereof, will not be taxed.^® Exempt income is omitted from 
 the returns of individuals and corporations,^^ but income exempt 
 only from normal tax and not from surtax, or from the income 
 tax, but not from the excess-profits tax, must be included in the 
 return. 
 
 Citizens of the United States. Citizens of the United States 
 are ordinarily taxable upon their net income from all sources; 
 whether they reside in this country or not.^o With the exception 
 of citizens deriving a substantial proportion of their income 
 from sources within a possession of the United States, it makes 
 nQ difference that they may own no assets within the United 
 States and may receive no income from sources within the United 
 States.21 They are taxable for the purpose of the surtax upon 
 their entire net income received in each year from all sources 
 and for the purpose of the normal tax upon net income less 
 statutory credits.22 Income wholly, exempt is not included in 
 gross income, the foundation for the computation of net income.^^ 
 On dividends of domestic and certain foreign corporations they 
 are liable only for the surtax; and so also with respect to inter- 
 est on bonds of the United States issued after September 1, 1917, 
 and bonds of the War Finance Corporation.^* The regulations 
 and rulings respecting taxable and nontaxable income are, as 
 a rule, applicable both to individuals and corporations, and are 
 discussed in detail in the later chapters on income.^s 
 
 17 Revenue Act of 1921, §213 (a); Revenue Act of 1918, §213 (a). 
 The constitutional question involved in taxing such salaries is discussed in 
 Chapter 15. 
 
 IS Reg. 45, Art. 85. This subject is more fully discussed in Chapter 15. 
 
 19 Reg. 45, Art. 71. The exclusion of such income should not be confused 
 with the reduction of taxable income by the application of allowable de- 
 ductions. 
 
 20 In U. S. V. Goelet, 232 U. S. 293, the court held that a United States 
 citizen permanently residing or domiciled aboard was not liable to the tax 
 on foreign-built y3.chts imposed by the tariff act of August 5, 1909. The 
 court said that "the taxing power, when exerted, is not usually applied to 
 those even albeit they are citizens, who have a permanent domicile or resi- 
 dence outside of the country levying the tax." 
 
 21 Reg. 45, Art. 3. See Revenue Act of 1921, § 262. 
 
 22 Reg. 45, Art. 21. 
 
 23 Revenue Act of 1921, §§213, 212; Revenue Act of 1918, §§213, 212; 
 Reg. 45, Art. 21. 
 
 24 Revenue Act of 1921, §216; Revenue Act of 1918, §216. 
 
 25 See Chapters 14-20. 
 
40 FEDERAL INCOME TAX 
 
 Who Is a Citizen. Every person born in the United States 
 subject to its jurisdiction, or naturalized in the United States, 
 is a citizen. An individual born in the United States of citizen 
 or resident alien parents, who has long since moved to a foreign 
 country and established a domicile there, but who never has been 
 naturalized therein or taken an oath of allegiance thereto is still 
 a citizen of the United States.^" Married women are considered 
 to have the same citizenship as their husbands. An American 
 woman who marries .a foreigner consequently loses her status 
 as an American citizen and is thereafter treated as an alien.^^ 
 Determination by the state department of the status of an 
 individual is not conclusive upon the treasury department in 
 fixing citizenship for income tax purposes.^s Under the natural- 
 ization laws of the United States, the naturalization of a father 
 operates to confer the right of citizenship upon his minor child, 
 who is dwelling at the time of the father's naturalization within 
 the jurisdiction of the United States or who dwells within that 
 jurisdiction subsequent to the father's naturalization and dur- 
 ing the child's minority. If, after attaining his majority, the 
 son returns to his native land, but registers with the American 
 consul under the rules and regulations prescribed by the depart- 
 ment of state as an American citizen residing abroad, his status 
 under American law is that of an American citizen. A minor, 
 an alien by birth, living with and subject to the authority and 
 guardianship of a mother who became an American citizen by 
 marriage, the minor having been physically present in the United 
 States at the time of such marriage, and the mother at that time 
 having intended this country to be the minor's permanent place 
 of residence or domicile, is an American citizen and cannot elect 
 another nationality or expatriate himself while he is a minor. 
 No election which he may make after his majority will affect his 
 status as a citizen during his minority.^s A naturalized citizen, 
 over the age of majority, who takes an oath of allegiance to 
 a foreign government has expatriated himself.^" He does not 
 become repatriated by subsequently applying to an American 
 consul for registration as an American citizen residing abroad, 
 even though his registration is accepted by the department of 
 state. The oath of allegiance taken upon such registration is 
 
 26 Reg. 45, Art. 4. 
 
 27 T. D. 2092. 
 
 28 T. D. 2135. 
 
 29 0. D. 695, T. B. 43-20-1256; 0. D. 1085, T. B. 44-21-1897. 
 
 30 See Act of March 2, 1907, § 2. 
 
INDIVIDUALS TO WHOM THE LAW IS APPLICABLE 41 
 
 not the one prescribed by the naturalization law and regulations, 
 which oath must be taken as a condition to repatriation.^^ 
 
 Citizens Residing in the United States. Citizens residing 
 in the United States report and pay the tax in the district in 
 which they legally reside or have their principal place of busi- 
 ness, regardless of where their income may arise.^^ 
 
 Citizens Residing Abroad. If a citizen residing abroad has 
 no office or place of business in this country, he files his return 
 and pays his tax to the collector at Baltimore, Maryland.^^ With 
 the exception indicated in the next paragraph, he is required 
 to report his income from all sources, whether within or with- 
 out the United States. Income received by a citizen of the 
 United States residing abroad from foreign sources in foreign 
 money or credits should be reported in terms of United States 
 money on the basis of the rate of exchange in effect at the time 
 it was actually received.^* Although the question as to the 
 liability of a nonresident citizen is determined by the treasury 
 department, not by the state department, still, in the case of 
 a naturalized citizen against whom the presumption of expatria- 
 tion has arisen, the fact that he has paid the income tax will 
 receive due consideration by the state department in connection 
 with other evidence submitted to overcome such presumption 
 in connection with applications for passports or for registra- 
 tion in a consulate or for actual protection in a foreign coun- 
 try. The payment of the income tax will also be duly considered 
 by the state department in passing upon rights to the continued 
 protection of this government in cases of native American citi- 
 zens who have resided abroad for a period sufficiently prolonged 
 to raise the natural presumption that they have abandoned citi- 
 zenship in this country.35 
 
 Citizens Deriving Income From United States Possessions. 
 Citizens who for three years immediately preceding the close 
 of the taxable year derive 80% or more of their gross income 
 from sources within a possession of the United States and 50% 
 for the same period from the active conduct of a trade or busi- 
 ness within a possession of the United States, either on their 
 
 31 See Act of May 9, 1918, §4; 0. D. 861, T. B. 14-21-1540. 
 
 32 Revenue Act of 1921, '§ 227 (b) ; Revenue Act of 1918, § 227 (b) ; Reg. 
 45, Art. 448. 
 
 33 Revenue Act of 1921, § 227 (b) ; Revenue Act of 1918, § 227 (b) . 
 3*0. D. 459, T. B. 16-20-873. For the rates of exchange prevailing on 
 
 various dates, see Chapter 14. 
 
 35 Letter from secretary of state to American diplomatic and consular 
 officers, dated March 18, 1914; I. T. S. 1918, US; Revenue Act of 1918, 
 §227 (b). 
 
42 FEDERAL INCOME TAX 
 
 own account or as employees or agents of another, are treated 
 as nonresident aliens under the Revenue Act of 1921, except 
 that all amounts received by such citizens within the United 
 States, whether derived from sources within or without the 
 United States, must be included in their gross income.^® 
 
 Aliens Residing in the United States. All residents of this 
 country, even though they may be aliens, are generally classified 
 with citizens of the United States for the purpose of income 
 tax, and are taxable upon their entire net income from all 
 sources.^'' Where a nonresident alien taxpayer becomes a citizen 
 or resident of the United States during the taxable year, he is 
 taxable for the entire year upon income derived from all 
 sources.^* The question whether or not an alien resides in this 
 country is sometimes difficult to determine. The Treasury Depart- 
 ment holds that the term "nonresident alien individual" means 
 an individual (a) whose residence's is not within the United 
 States, and (b) who is not a citizen of the United States. Any 
 alien actually present in the Uniied States, who is not a mere 
 transient or sojourner, is a resident of the United States for 
 purposes of the income tax. Whether he is a transient or not 
 is determined by his intentions with regard to his stay and 
 the length and nature of his stay. If he lives in the United 
 States and has no definite intention as to his stay, he is a resi- 
 dent. A mere fioating intention, indefinite as to time, to return 
 to another country is not sufficient to constitute him a transient. 
 One who comes to the United States for a definite purpose which 
 in its nature may be promptly accomplished is a transient ; but if 
 his purpose is of such a nature that an extended stay may be 
 necessary for its accomplishment, and to that end the alien 
 makes his home temporarily in the United States, he becomes 
 a resident, though it may be his intention at all times to return 
 to his domicile abroad when the purpose for which he came has 
 been consummated or abandoned. 
 
 Pkoof of Residence of Alien. The following rules of evi- 
 dence will govern in determining whether or not an alien within 
 
 36 Revenue Act of 1921, § 262. The Virgin Islands are not a possession 
 of the United States within the meaning of this provision. 
 
 37 Reg. 45, Art. 3. , 
 
 38 0. 785, T. B. 1-19-66. 
 
 39 The treasury department has adopted the following definition of the 
 word "residence" as used in the income tax laws: "That place where a 
 man has his true, fixed and permanent home and principal establishment, 
 and to which, whenever he is absent, he has the intention of returning; 
 and indicates permanency of occupation as distinct from lodging or board- 
 ing, or temporary occupation." (T. D. 2242.) 
 
INDIVIDUALS TO WHOM THE LAW IS APPLICABLE 43 
 
 the United. States has acquired residence therein. An alien, by- 
 reason of his ahenage, is presumed to be a nonresident alien. 
 Such presumption may be overthrown (1) in the case of an 
 alien who presents himself for determination of tax liability 
 prior to departure for his native country, by (a) proof that the 
 alien, at least six months prior to the date he so presents him- 
 self, has filed a declaration of his intention to become a pitizen 
 of the United States under the naturalization laws, (b) proof 
 that the alien, at least six months prior to the date he so presents 
 himself, has filed Form 1078 (revised) or its equivalent with the 
 withholding agent charged with the duty of withholding the 
 tax on income paid to nonresident aliens,, or (c) proof of acts 
 and statements of the alien showing a definite intention to 
 acquire residence in the United States or showing that his stay 
 in the United States had been of such an extended nature as to 
 constitute him a resident; (2) in all other cases by (a) proof 
 that the alien has filed a declaration of his intention to become 
 a citizen of the United States under the naturalization laws, 
 (b) proof that the alien has filed Form 1078 (revised) or its 
 equivalent, or (c) proof of acts and statements of an alien show- 
 ing a definite intention to acquire residence in the United States 
 or showing that his stay in the United States has been of such 
 an extended nature as to constitute him a resident. In any case 
 in which an alien seeks to overcome the presumption of non- 
 residence under (1) (c) or (2) (c) above, if the officer who 
 examines the alien is in doubt as to the facts, such officer may, 
 to assist him in determining the facts require an affidavit or 
 affidavits setting forth the facts relied upon, executed by some 
 credible person or persons, other than the alien and members 
 of his family, who have known the alien at least six months 
 prior to the date of execution of the affidavit or aiiidavits.*" 
 
 Loss OF Residence by Alien. An alien who has acquired resi- 
 dence in the United States retains his status as a resident until 
 he abandons the same and actually departs from the United 
 States. An intention to change his residence does not change 
 his status as a resident alien to that of a nonresident alien. 
 Thus an alien who has acquired a residence in the United States 
 is taxable as a resident for the remainder of his stay in the 
 
 40 Reg. 45, Arts. 312 and 313, as amended by T. D. 3155, T. B. 17-21-1599; 
 Reg. 45, Art. 362; T. D. 2794; T. D. 2242. See O. D. 127, T. B. 3-19-195. 
 This rule differs from the English rule which provides that a person within 
 the United Kingdom, for some temporary purpose only, for less than six 
 months during the year, is not taxable as a resident, but after a residence 
 of six months he becomes chargeable with the duties for the year com- 
 mencing on April 6th preceding. 
 
44 FEDERAL INCOME TAX 
 
 United States. The status of an alien on the last' day of his 
 taxable year or period determines his liability to tax for such 
 year or period as a resident or nonresident.*^ A British citizen, 
 a member of a British partnership, who is within the terri- 
 torial limits of the United States seven or eight months of 
 the year for the purpose of transacting business for the part- 
 nership and who returns to Europe when the purpose which 
 necessitates his presence in the United States is accomplished 
 is considered a nonresident alien.^^ The fact that Germans 
 who were resident aliens of the United States prior to the war 
 with Germany were registered as alien enemies will not de- 
 prive them of their status as residents if the conduct, acts, and 
 declarations of the aliens indicate their intention to maintain 
 their status as residents.*^ The treasury department holds 
 that residence in the United States by an alien for as much as 
 one year establishes a presumption that such alien is a resident 
 of the United States and this presumption will be indulged in 
 the absence of known facts showing that the alien is in fact 
 a transient.** The distinction between resident and nonresi- 
 dent aliens is also discussed elsewhere in this book.*^ 
 
 Nonresident Aliens.*^ Nonresident aliens are those individ- 
 uals who are neither citizens nor residents of this country.*'^ As 
 stated above, they are taxable only on that part of their income 
 which is from sources within the United States.*^ 
 
 Taxation of Indi'ifiduals Between United States and Porto Rico 
 and Philippine Islands. A citizens of the United States who re- 
 sides in Porto Rico, and a citizen of Porto Rico who resides in 
 the United States, may be taxed in both places, but the income 
 tax in the United States may be credited with the amount of 
 any income, war-profits and excess-profits taxes paid in Porto 
 Rico. If a resident of the United States, who is not a citizen 
 of Porto Rico, is taxed in Porto Rico, as a nonresident alien 
 individual on any income derived from sources within Porto 
 Rico, the income tax in the United States may be credited with 
 the tax paid in Porto Rico. A resident of Porto Rico, who is 
 not a citizen of the United States, is taxable in the United 
 States as a nonresident alien individual on any income derived 
 
 41 Reg. 45, Art. 314, as amended by T. D. 3155, T. B. 17-21-1599. 
 
 42 0. D. 592, T. B. 29-20-1072. 
 
 43 0. D. 400, T. B. 6-20-731. 
 
 44 0. D. 197, T. B. 9-19-342. 
 
 45 See Chapter 4. 
 
 46 The term "nonresident alien" is defined more fully in Chapter 4. 
 4TReg. 45, Art. 312; O. D. 333, T. B. 28-19-619. 
 
 48 Revenue Act of 1921, §§213 (c), 217; Revenue Act of 1918, §213 (c). 
 
INDIVIDUALS TO WHOM THE LAW IS APPLICABLE 45 
 
 from sources within the United States, and receives no credit. 
 The same principles apply in the case of the Philippine Islands.*" 
 But citizens of the United States who have derived for a three- 
 year period preceding the close of the taxable year, 80% of 
 their gross income from sources within a possession of the 
 United States and 50% of their gross income from the active 
 conduct of a trade within a United States possession, may be 
 taxed, as to the United States, as nonresident aliens.^" 
 
 Husband and Wife. In so far as possible the family is treated 
 as a unit for purposes of the income tax, and the husband and 
 wife may make joint returns.^i The matter of filing returns by 
 husband and wife is treated more fully in another chapter,^^ ex- 
 cept as to the effect of the "community property system" which is 
 treated below. 
 
 "Community" Property and Income of Husband and 
 Wife. What is known as the "community property system" 
 prevails in Texas, Arizona, California, Washington, Louisiana, 
 Idaho, Nevada and New Mexico. It seems to have had its origin 
 in France and Spain and to have been brought thence into the 
 judicial systems of the above states. Community property 
 laws provide generally that all property acquired during mar- 
 riage by the industry and labor of either husband or wife, 
 or both together, with the produce and increase thereof, be- 
 longs to both in equal shares during the continuance of the 
 marital relation.^^ The foundation of this community property 
 system lies in the fact or the legal assumption that all property 
 acquired during marriage otherwise than by gift, devise or 
 descent, is acquired by the joint efforts of husband and wife.^^ 
 Their relation partakes of the nature of a partnership in which 
 each partner may have separate assets or property as well as 
 common stock of acquisitions and gains. The business of the 
 firm generally is transacted in the name of the husband and 
 
 49 Revenue Act of 1921, §222; Reg. 45, Art. 1132; Lawrence v. Wardell, 
 270 Fed. 682, affirmed 273 Fed. 405. See Chapter 32. 
 
 50 See Chapter 4 for a full discussion of this subject. 
 
 51 Revenue Act of 1921, §223; Revenue Act of 1918, §223. 
 
 52 See Chapter 34. 
 
 53 See Tucker v. Carr, 39 Tex. 98; Cooks v. Bremond, 27 Tex. 457; Fennell 
 v. Drinkhouse, 131 Cal. 447, 63 Pac. 734; Washburn v. Washburn, 9 Cal. 
 475; Succession of Webre, 49 La. Ann. 1491, 22 So. 390; Knight v. Kauf- 
 man, 105 La. 35, 29 So. 711; Manning v. Burke, 107 La. 456, 31 So. 862; 
 Abbott V. Wetherby, 6 Wash. 507, 33 Pac. 1070 ; Yake v. Pugh, 13 Wash. 
 78, 42 Pac. 528; Sherlock v. Denny, 28 Wash. 170, 68 Pac. 452; Cline v. 
 Hackbarth, 27 Tex. Civ. App. 391, 65 S. W. 1086; Johnson v. Burford, 39 
 Tex. 242; Pearce v. Jackson, 61 Tex. 642. 
 
 54 Nickerson v. Nickerson, 65 Tex. 281. 
 
46 FEDERAL INCOME TAX 
 
 he prosecutes and defends its suits with the same effect as if 
 his partner were named in the case,^^ and, although community 
 property has not all the incidents of partnership property, it 
 has many of them and is commonly spoken of as partnership 
 property.^fi In a conventional partnership the gains of the 
 partners are in proportion to their respective shares of stock 
 and services, but in the conjugal partnership implied in the 
 community property system, the division is equal although one 
 spouse may have brought in the greater part if not all of the 
 property from which the profits are derived or may have con- 
 tributed all his or her skill and services unaided by the other.^T 
 The fact that one or the other of the spouses may do all the 
 work does not change the character of community property ^^ 
 and though the management and disposal of community prop- 
 erty during marriage are usually given to the husband, this is 
 said to be for reasons of public policy and social economy and 
 not on the ground that the husband has any greater interest 
 in it than the wife. 
 
 It appears that in all of the community-property states except 
 California their own courts have held that the wife has, during 
 the existence of the marriage relation, a vested interest in one- 
 half of the community property. Her rights in the property of 
 the community are perhaps most fully recognized in the state of 
 Washington, where both spouses have testamentary disposition 
 over one-half of the community property, and where, in the 
 absence of such disposition, it descends to their issue, or, in the 
 absence of issue, to the survivor ; while the husband is manager 
 of the community estate in Washington he may not sell, convey, 
 or encumber real estate unless the wife join with him in the 
 conveyance; and the separate debt of the husband cannot be 
 satisfied out of community property where it is not incurred 
 in connection with the community business, nor for the benefit 
 of the community .29 
 
 55 Simpson v. Brotherton, 62 Tex. 170. 
 
 56 De Blanc v. Lynch & Co., 23 Tex. 25; Wilkinson v. Wilkinson, 20 Tex. 
 237; Holyoke v. Jackson, 3 Wash. Terr. 235, 3 Pac. 841. 
 
 5i Wheat V. Owens, 15 Tex. 241; Routh v. Routh, 57 Tex. 589; Merrell v. 
 Moore, 47 Tex. Civ. App. 200, 104 S. W. 614; Edwards v. Brown, 68 Tex. 
 329; Saunders v. Isbell, 5 Tex. Civ. App. 513, 24 S. W. 307; Barr v. Simp- 
 son, 54 Tex. Civ. App. 105, 117 S. W. 1041; Wright v. Hays' Admr., 10 
 Tex. 130; Zimpelman v. Robb, 53 Tex. 274; T. D. 2450. 
 
 58 Yates V. Houston, 3 Tex. 433. 
 
 59 Pierce's Washington Code of 1919, § 1424-6. Holyoke v. Jackson, 3 
 Wash. T. 235; Mabie v. Wittaker, 10 Wash. 656, 39 Pac. 172; Martson v. 
 Rue, 92 Wash. 129, 159 Pac. Ill; Schramm v. Steele, 97 Wash. 309, 166 
 Pac' 634; Huyvaerts v. Roedtz, 105 Wash. 657, 178 Pac. 801. 
 
INDIVIDUALS TO WHOM THE LAW IS APPLICABLE 47 
 
 In Idaho the limitation upon the alienation of the community 
 real property is the same as in Washington. But while the 
 wife's earnings and the rents and profits of her separate estate 
 are community property she is given the management and con- 
 trol of same. The Idaho rule governing the disposition of com- 
 munity property on the death of either spouse is, with minor 
 variations, the same as that of Washington. In neither state 
 is an inheritance tax payable on the one-half of the community 
 that goes to the one spouse on the death of the other.^" 
 
 In Arizona, the husband only may dispose of community per- 
 sonal property, but the wife must join him in deeds or mortgages 
 affecting real estate, except unpatented mining claims. One- 
 half of the community property is subject to the testamentary 
 disposition of either spouse, and in absence of such disposition 
 goes to his or her descendants; where there is neither testa- 
 mentary disposition nor descendants it is subject to distribution 
 in the same manner as the separate property of the husband. 
 On decree of divorce the court may divide the property as it 
 sees fit, but in the absence of provision for the community prop- 
 erty the parties from the date of the decree hold as tenants 
 in common. The courts of Arizona hold that the wife is equal 
 owner with her husband.^^ 
 
 In Nevada, the husband has the entire management and con- 
 trol of the community property, except that the wife has entire 
 control of her earnings when living separate from her husband. 
 Upon her death the husband takes the whole community estate, 
 except that where he has abandoned her without good cause 
 she may by will dispose of half and in absence of such disposi- 
 tion it goes to her heirs, exclusive of her husband. On the 
 death of the husband the wife takes half and the husband may 
 dispose of the other half by will, or it goes to his surviving 
 children; if there is no will and no children survive, the whole 
 goes to the wife without administration, subject to certain pro- 
 visos. On dissolution of community by divorce for any other 
 ground than adultery or extreme cruelty, the community prop- 
 erty must be equally divided between the parties. The wife 
 pays no inheritance tax under the inheritance tax law of Nevada 
 on her interest in community property, the courts holding that 
 she takes not as heir but by a right vested in her at all times 
 
 60 Compiled statutes of Idaho, Art. 4656, 4659, 4666 as Amended by the 
 Laws of 1913; Art. 4667 enacted in 1915. Ewald v. Hufton, 31 Idaho 373, 
 173 Pac. 247; Kohny v. Dunbar, 21 Idaho 258, 121 Pac. 544. 
 
 61 Civil code of Arizona, Art. 1100, 2061, 3848, 3850. La Tourette v. 
 La Tourette, 15 Ariz. 200, 137 Pac. 426. 
 
48 FEDERAL INCOME TAX 
 
 during marriage. It is to be noted that the constitution of 
 Nevada recognizes the wife's interest in community property .^^ 
 
 In New Mexico, while the husband is manager of the commu- 
 nity estate, he may not transfer real property without a valuable 
 consideration without the written consent of his wife ; and under 
 certain circumstances the wife may be substituted as manager; 
 prior tq 1915 he could not transfer community personal prop- 
 erty except for a valuable consideration without her written 
 consent; on dissolution of the community by the death of the 
 wife the husband takes all except such portion as may have been 
 set aside to the wife by judicial decree, which portion goes to 
 her heirs unless she has disposed of same by will; on death of 
 the husband one-half goes to the wife and the other half is 
 subject to testamentary disposition by the • husband. If he 
 makes no will one-fourth of his one-half goes to the wife and 
 the remainder to the children. On separation either may peti- 
 tion for division of community property and after divorce con- 
 tinue to hold as tenants in common where no disposition has 
 been made in the divorce decree. New Mexico has no state 
 inheritance tax act.^^ 
 
 In Louisiana the community property comprehends all prop- 
 erty acquired during the marriage by either husband or wife 
 except that acquired with separate funds or by inheritance or 
 particular donation, and excepting the earnings of the wife when 
 she is living separate from her husband; the husband is man- 
 ager of the community, but he may not convey community im- 
 movables by gratuitous title, and can not dispose of movables 
 in fraud of the wife; either spouse may dispose of one-half the 
 community property by will and the laws governing the descent 
 of such property in the absence of testamentary disposition 
 apply equally to both spouses, the survivor taking the deceased 
 spouse's half by inheritance when there is no will, and neither 
 father, mother, or descendants. The survivor pays no inher- 
 itance tax on his or her one-half of the community property, 
 but does pay on that part inherited from the deceased spouse.** 
 
 62 Revised laws of Nevada, §§ 21B5-6, 2160, 2164-5. In re Williams, 40 
 Nev. 241, 161 Pac. 741. 
 
 63 Compiled statutes of Nevir Mexico, §§ 2757-8, 2764-5, 2766 as amended 
 in 1915, 2767, 2770, 2774, 2781, 1845, 1841. Beals v. Ares, 25 N. Mex. 459, 
 185 Pac. 780. 
 
 64 Revised civil code of Louisiana, Arts. 915-6 as amended in 1920 ; Arts. 
 2332-4, 2385-6, 2399, 2402, 2404, 2406. Succession of May, 120 La. 692, 45 
 So. 551. Dixon v. Dixon's Executors, 4 La. 188; Beck v. Natalie Oil Co., 
 143 La. 153, 78 So. 430; Succession of Marsal, 118 La. 212, 42 So. 778. 
 
INDIVIDUALS TO WHOM THE LAW IS APPLICABLE 49 
 
 In T^xas the control of community property is divided between 
 the husband and wife; in that state on the death of either 
 spouse without issue the survivor takes the whole and where 
 there is issue, takes one-half, the other half going to said issue 
 or their descendants. Under the state inheritance tax law the 
 wife pays no tax on her half of the community property .^^ 
 
 In California the wife has no power of testamentary disposi- 
 tion of community property except of such as may have been 
 set aside to her by judicial decree; she takes one-half as heir 
 on the death of the husband; but on the death of the wife the 
 entire community property belongs to the husband without 
 administration. The California courts have held that under 
 the law as it stood prior to 1917 the wife had no vested interest 
 in community property prior to the dissolution of the marriage.^® 
 
 Basing his conclusion upon the several state decisions inter- 
 preting state laws governing property rights, the attorney- 
 general has decided that in Washington, Arizona, Idaho, New 
 Mexico, Louisiana, Texas and Nevada, the husband and wife 
 domiciled therein rendering separate income tax returns may 
 each report as gross income one-half of the income which, under 
 the laws of the respective states becomes, simultaneously with 
 its receipt, community property; that this is not based upon 
 any statute enacted subsequent to March 1, 1913, and applies 
 under the income tax acts prior to the Revenue Act of 1918, 
 as well as that act.^^ 
 
 65 Under the Laws of Texas it has been held that — (1) The earnings of 
 husband and wife belong to them jointly in equal shares; (2) The com- 
 munity interest attaches as soon as the right to the wage comes into exist- 
 ence; and (3) The increase and revenues from the separate property of each 
 spouse (except the increase, rents and revenues from lands) is also com- 
 munity property in which the interests of husband and wife are equal. 
 (Tannehill v. Tannehill (Tex. Civ. App.), 171 S. "W. 1050). This before the 
 amendment of § 4621 in 1917 made the rents from separate lands the sepa- 
 rate property of the owner of the land (Barr v. Simpson, 54 Tex. Civ. App. 
 105, 117 S. W. 1041 ; Hayden v. McMillan, 4 Tex. Civ. App. 479, 23 S. W. 430.) 
 It has therefore been ruled that: — (1) The earnings of husband and wife 
 and the revenues from their community property and separate personal 
 jiroperty are community income under the provisions of the Revenue Act 
 of 1918; and (2) That the husband and wife in rendering separate income 
 tax returns may each report as gross income one-half the total — (a) Earn- 
 ings of the husband and wife; (b) Income from separate property; and 
 (c) Income from community property. (T. D. 3071, T. B. 39-20-1218.) 
 
 66 Civil code of California, §§162-4, 172-172 (a), 1401-2; Spreckels v. 
 Spreckels, 116 Cal. 339, 48 Pac. 228; Estate of Moffltt, 153 Cal. 359, 95 
 Pac. 653, 1025; Moffltt v. Kelly, 218 U. S. 400. 
 
 67 T. D. 3138, containing opinion of attorney-general, dated February 26, 
 1921, T. B. 11-21-1515; T. D. 3071 containing opinion of attorney-general, 
 
50 FEDERAL INCOME TAX 
 
 In returns in which community income is divided between 
 husband and wife domiciled in states where such income is 
 divisible for income tax purposes, both husband and wife should 
 report in detail the gross income from such community property. 
 The deductions properly chargeable against such income should 
 be equally divided between husband and wife.^^ Where a hus- 
 band and wife, domiciled in a state other than a community 
 property state, purchase lands located in Texas with the separate 
 funds of one of the spouses, the rents and revenues therefrom 
 constitute the income of the spouse whose funds purchased the 
 land, and are so returnable; and where a husband and wife, 
 domiciled in a state other than a community property state, 
 purchase land located in the state of Texas with funds furnished 
 in part by the husband and in part by the wife, then the rents 
 and revenues are income of each in proportion to their interest 
 in the land and are so returnable. This is so though the spouses 
 thereupon become domiciled in the state where the land is 
 situated."" Where husband and wife acquire community property 
 while domiciled in the state of Idaho, and then take up domicile 
 in California, they may continue to render separate returns 
 of the income from such property, since the wife has a vested in- 
 terest in the property, which is not affected by change of 
 domicile.'^'' When a husband and wife acquire with community 
 earnings real property in the state of Washington while domi- 
 ciled therein and then move to another state, the wife's inter- 
 est is not affected and they may file separate returns in which 
 the income from community property in Washington is divided 
 between them.'^'i The guardian of a taxpayer, non compos mentis, 
 whose legal domicile is Texas, and whose wife has been main- 
 taining a residence in Virginia since prior to the enactment 
 of the income-tax law, may, if the marital relation has not been 
 dissolved, report one-half of the income from the property 
 which is within the state of Texas.''^ 
 
 dated August 2i, 1920, T. B. 39-20-1218; modifying 0. D. 285, T. B. 21-19- 
 528 and O. D. 426, T. B. 13-28-15. See also A. R. R. 403, T. B. 10-21-1492. 
 In California a wife may not include in her separate return salary and 
 wages received by her. (0. D. 1128, T..B. 49-21-1964.) 
 
 68 O. D. 909, T. B. 19-21-1625. 
 
 69 0. D. 975, T. B. 28-21-1727; Oliver v. Robertson, 41 Tex. 422; McDaniel 
 V. Harley (Tex.), 42 S. W. 323; Thayer v. Clarke, 77 S. W. 1050, affirmed 
 98 Tex. 142, 81 S. W. 1274; Douglas v. Douglas, 22 Idaho 336, 125 Pac. 796; 
 Myers v. Albert, 76 Wash. 218, 135 Pac. 1003. 
 
 TO Sol. Op. 121, T. B. 39-21-1845. 
 
 71 0. D. 1110, T. B. 47-21-1933. 
 
 72 0. D. 1023, T. B. 36-21-1805. 
 
individuals to whom the law is applicable 51 
 
 Abatement, Credit and Refund in Case of Community 
 Income. The following procedure has been approved with 
 regard to amended returns and claims for refund, credit, or 
 abatement under the ruling contained in the preceding para- 
 graph with regard to community income under the laws of Texas, 
 in so far as taxpayers in the state of Texas are concerned: 
 Amended separate returns may be filed for each of the taxing 
 years in which the law of Texas contains a provision giving 
 husband and wife equal rights to community property, subject 
 to the five-year statute of limitations. A claim for credit of 
 the net amount of taxes overpaid for any of the taxable years 
 may be filed for the amount of, assessment outstanding and 
 claim for refund filed for the balance. A claim for abatement 
 instead of a claim for credit, however, should be filed for exces- 
 sive tax assessed for 1919 over the tax due for 1919 under 
 amended separate returns. A claim for refund may be filed 
 for the entire net overpayment if no assessment is outstanding.'^^ 
 Where such claims for the refund of taxes erroneously paid for 
 1919 and prior years have been filed they may be converted into 
 claims for credit to be applied against any taxes due from the 
 husband or wife, as shown by separate returns filed by them 
 for the taxable year 1920 and subsequent years, subject to the 
 provision of § 252 of the Revenue Act of 1918.'^* The adjust- 
 ment of taxes between husband and wife due on amended sepa- 
 rate returns will be made as a matter of accounting and no 
 claim for credit should be filed. Any claim for abatement, re- 
 fund or credit must be accompanied by an agreement signed by 
 husband and wife, consenting to adjustments therein de- 
 manded.'^^ In all cases in which it appears that amended sepa- 
 rate returns are filed and the income shown in the returns now 
 filed was disclosed in a prior return or returns no penalty on 
 account of delinquency will be asserted and interest on account 
 of failure to pay the tax shown by the returns on the date 
 payment was required by law will not be assessed. Where a 
 claim for credit is filed, bond will not be required.''® A husband 
 and wife domiciled in Texas January 1, 1918, and who abandoned 
 that domicile August, 1919, the husband having included in his 
 1918 and 1919 income tax returns income received from all' 
 sources, including personal earnings, and no ireturns having 
 been filed by the wife, may file amended separate returns for 
 
 73 0. D. 757, T. B. 51-20-1358. 
 
 74 0. D. 854, T. B. 12-21-1525. 
 
 75 0. D. 1068, T. B. 42-21-1873. 
 
 76 0. D. 757, T. B. 51-20-1358. 
 
52 FEDERAL INCOME TAX 
 
 1918, each reporting as gross income one-half the income re- 
 ceived during that year which constituted "community" income. 
 They may also file amended separate returns for 1919, each 
 reporting as gross income one-half the income received prior 
 to the abandonment of the marital domicile in Texas, which con- 
 stituted "community" income.'^'^ In the case of a deceased tax- 
 payer, the proper person to file the amended return or claim is the 
 executor or administrator. Where the estate has been placed 
 in the hands of trustees, the amended return or claim is accept- 
 able only when filed by the trustees. Where the administrator 
 or executor has been discharged or there has been no administra- 
 tion upon the estate an amended return and claim should be 
 filed by a duly authorized representative of all the individuals 
 claiming any portion of the property of the deceased. In all 
 cases involving the filing of a separate amended return and 
 claim for a deceased taxpayer, an agreement, signed by the 
 surviving spouse and the duly authorized agent or representa- 
 tive of the deceased taxpayer, consenting to the adjustments 
 therein demanded, must accompany such return and claim.''^ 
 
 Minors.™ Minors are required to make returns unless their 
 income is included in the return of the parent or reported by a 
 fiduciary.*" 
 
 Incompetents. Incompetents or insane persons are unable to 
 make their own returns, and their returns must be made by the 
 guardian or other person charged with the care of the person 
 or property of such incompetent or insane person.^i 
 
 Agents. The return of a taxpayer may be made by an agent 
 when by reason of illness, absence, or nonresidence the person 
 liable for the return is unable to make it, the agent assuming 
 the responsibility for making the return and incurring liability 
 to the specific penalties provided for erroneous, false, or fraudu- 
 
 TTO. D. 810, T. B. 7-21-1451. 
 
 78 0. D. 920, T. B. 20-21-1643. , 
 
 79 A minor is a person under 21 years of age or under the statutory age 
 of majority where he or she lives (Reg. 45, Art. 403). The statutory ages 
 of majority in the different states are set forth in Chapter 34. 
 
 80 Revenue Act of 1921, §223; Revenue Act of 1918, §223; Reg. 45, Art. 
 403. Under the 1916 and 1917 Laws, minors were not required to make re- 
 turns, such returns being made by their guardians (Reg. 33, Rev., Art. 17; 
 letter from treasury department dated April 11, 1918; I. T. S. 1918, 1[3295). 
 The change to the present rule was accomplished by the omission of the 
 words "of lawful age" from the section requiring returns of individuals. 
 Compare Revenue Act of 1916, § 8 (b) with Revenue Act of 1918, § 223. 
 
 81 Revenue Act of 1921, §223; Revenue Act of 1918, §223; Reg. 45, Art. 
 422. 
 
INDIVIDUALS TO WHOM THE LAW IS APPLICABLE 53 
 
 lent returns.82 Responsible representatives of nonresident aliens 
 having charge of the property of nonresident aliens may be 
 charged with the duty of making a return and paying the tax 
 normal and additional, on the income passing through their 
 hands.^ 
 
 Fiduciaries, (guardians, trustees, executors, administrators, 
 receivers, conservators or any persons acting in a fiduciary ca- 
 pacity are charged with special duties under the law. These 
 duties are fully discussed in another chapter.^* 
 
 Persons Dying During the Year. When a person dies during 
 any calendar year, it is the duty of the executor or administrator 
 or person taking charge of his property to make a return for 
 the deceased from the beginning of the year to the date of 
 death.83 If the decedent was a citizen or resident and died after 
 the close of the calendar year, but before March 15 of the fol- 
 lowing year, and has not made a return for the preceding calen- 
 dar year, a return should be made for the full year preceding 
 and in addition a return from January 1 of the current year to 
 the date of death. If during the period in which the decedent 
 lived he was not in receipt of $1,000 of net income,, if unmarried, 
 or $2,500 if married or the head of a family, no return need be 
 filed,^^ unless he was a nonresident alien, in which case a return 
 should be filed, whether he was married or single, regardless of 
 amount.87 The fact that a person may have died before the pas- 
 sage of the law does not relieve his estate from liability to tax, 
 if he lived after the incidence of the tax.^® 
 
 82 Revenue Act of 1921, §223; Revenue Act of 1918, § 223. 
 
 83 Revenue Act of 1921, §223; Revenue Act of 1918, §223; Reg. 45, Art. 
 404. See Chapter 5. 
 
 84 Revenue Act of 1921, § 225; Revenue Act of 1918, § 225. See Chapter 6. 
 
 85 Reg. 45, Art. 421; Mandell v. Pierce, 3 Cliff. 134, 16 Fed. Cas. No. 9008. 
 
 86 Reg. 45, Art. 421. 
 
 87 Reg. 33, Rev., Arts. 4 and 14; Reg. 45, Art. 403. Non'resident aliens 
 reporting on the calendar year basis are not obliged to file returns until 
 June 15. » 
 
 88 Brady v. Anderson, 240 Fed. 665, writ of certiorari denied, 244 U. S. 
 654. Thus, a person dying after January 1, 1919, but before February 25, 
 1919, the date on which the 1918 Law went into effect, will be held to be 
 taxable thereunder. The effect of making the act retroactive is to apply it 
 to him exactly as if it had been enacted on January 1, 1918. 
 
CHAPTER 4 
 NONRESIDENT ALIENS 
 
 The law imposes a tax upon the net income received by non- 
 resident alien individuals "from sources within the United 
 States."! The Revenue Act of 1921 contains many new provisions 
 dealing with the taxation of nonresident aliens, but in general 
 these provisions do not change the basic scheme for the taxation 
 of this class of taxpayers. In large part the new provisions, as 
 will be seen in the following paragraphs, are an amplification 
 of definition of the troublesome term "sources within the United 
 States," an expression which had received a more detailed defini- 
 tion in the 1918 Law than ever before. Some of the provisions 
 defining this term are a statutory enactment of previous de- 
 partmental regulations. 
 
 Who Is a Nonresident Alien,* The definition of the term 
 "nonresident alien" would seem to remain the same under the 
 Revenue Act of 1921 as it was under the 1918 Law, with an 
 exception indicated below. Therefore the regulations issued 
 under that law are generally applicable under the present statute. 
 Ordinarily it is a simple matter to determine whether an indi- 
 vidual is or is not a nonresident alien ; he falls into this class if 
 he is neither a citizen nor a resident. Any individual who is a 
 citizen of any possession of the United States (but not other- 
 wise a citizen of United States) and who is not a resident of 
 the United States is subject to income tax upon income derived 
 from sources within the United States, and his tax is computed 
 and paid in the same manner and subject to the same condi- 
 tions as the tax of nonresident aliens who are citizens or sub- 
 jects of foreign countries.-^ The term "nonresident alien," there- 
 fore, is used in this chapter to include any nonresident citi- 
 zen of any possession of the United States. Difficulty may arise 
 in determining whether an individual is or is not a nonresident 
 
 1 Revenue Act of 1921, §213 (c). , 
 
 2 The term "nonresident aliens," as used in several places in the 1916 Law, 
 was not defined therein, but clearly referred to individuals only and not 
 to partnerships, corporations, or associations. The Revenue Act of 1918, 
 however, removed all doubt by using the expression "nonresident alien 
 individuals," and the Revenue Act of 1921 uses the same expression (Reve- 
 nue Act of 1921, §§213 (c), 216 (e); Revenue Act of 1918, §213 (c) ; Reg. 
 45, Art. 3). 
 
 3 Revenue Act of 1921, § 260; Revenue Act of 1918, § 260. 
 
 54 
 
NONRESIDENT ALIENS 55 
 
 alien, where a nonresident citizen, naturalized or native, has 
 resided abroad for a period sufficient to raise a presumption 
 that he has abandoned his citizenship,* and again where an 
 alien has resided in this country for a period so long as to 
 raise a presumption of residence. In either of these cases the 
 intent of the individual is important. The treasury department 
 holds that the status of a nonresident native or naturalized citi- 
 zen remains unchanged until some affirmative action is taken, 
 or the right to citizenship is forfeited by some overt act.^ When 
 any naturalized citizen has left the United States and resided 
 for two years in the foreign country from which he came, or 
 for five years in any other foreign country, he is presumed to 
 have lost his American citizenship; but this presumption does 
 not apply to residence abroad while the United States is at war. 
 An Italian, who has come to the United States and filed his 
 declaration of intention to become a citizen, but who has not 
 yet received his final citizenship papers, is an alien. A Swede, 
 who, after having come to the United States and become natu- 
 ralized here, returned to Sweden and resided there for two years 
 prior to April 6, 1917, is presumed to be once more an alien.^ 
 On the other hand, an alien, coming to the United States with the 
 intention of becoming a resident within the meaning and intent 
 of the income tax statute, may indicate that fact and thereupon 
 will be taxed as a resident, regardless of the length of time he 
 has been here.'' The tests as to the residence of aliens located 
 within this country have been set forth in another chapter.® 
 
 4 The Act of March 2, 1907, provides, briefly, that any American citizen 
 becomes an alien by becoming naturalized in a foreign state or taking an 
 oath of allegiance to any foreign state. A naturalized citizen residing for 
 two years in the country from which he came or for five years in any other 
 foreign country, is presumed to have renounced his American citizenship in 
 the absence of satisfactory evidence to the contrary. A woman assumes the 
 nationality of her husband, but may resume her original citizenship on 
 becoming a widow; she assumes or retains her American citizenship as a 
 widow if, living abroad, she registers with a United States consul, or without 
 formal action if she resides here. Minor children of naturalized citizens 
 are deemed to be citizens from the time they begin to reside permanently 
 in this country. Children born outside of the United States of citizens, and 
 continuing to reside abroad must at the age of 18 declare their intention as 
 to citizenship. Determination of citizenship by the state department under 
 this act is not conclusive upon the treasury department; other factors may 
 also be considered, as indicated in 'the text. See also O. D. 533, T. B. 23-20- 
 983 as to resumption of citizenship by widow of nonresident alien. 
 
 5 T. D. 2135. 
 
 6 Reg. 45, Art. 4. 
 
 7 Reg. 45, Art. 313; T. D. 2242. See Chapter 3 for status of resident aliens. 
 
 8 See Chapter 3. 
 
56 FEDERAL INCOME TAX 
 
 The status of an alien leaving the United States during 
 the taxable year is determined by his status on the last day of 
 his taxable period. If the alien had formed no intention of leav- 
 ing the United States he will be taxed as a resident alien. If his 
 intention to depart was formed prior to the departure, he will be 
 taxed as a nonresident alien for such period. In either case the 
 alien is entitled to the full exemption to which he would have been 
 entitled if his return had been filed for the full taxable year. If 
 the absence of a resident alien is to be only temporary, he will not 
 lose his status as resident by reason of such absence.^ An alien 
 who established a residence in the United States in 1910 and sub- 
 sequently acquired property interests in this country and who en- 
 listed in the army of his native country in 1917, serving abroad 
 until 1919, when he returned to the United States in accordance 
 with an intention to do so expressed prior to his departure, will 
 not be considered to have lost his status of resident alien and will 
 be required to render returns as such, including in gross income 
 the compensation received for services in the foreign army as 
 well as his taxable income from all other sources." A nonresident 
 alien who has served in the United States army for a period 
 of one year is considered a resident for income tax purposes.!^ 
 The members of families of foreign ambassadors and ministers 
 are considered nonresident aliens.^^ 
 
 Residence of Alien Seamen. In order to determine whether 
 an alien seaman is a resident, it is necessary to decide whether 
 the presumption of nonresidence is overcome by facts showing 
 that he has established a residence in the territorial United 
 States, which consists of the states, the District of Columbia, and 
 the territories of Hawaii and Alaska, and excludes other places. 
 Residence may be established on a vessel regularly engaged in 
 coastwise trade, but the mere fact that a sailor makes his home 
 on a vessel flying the United States flag and engaged in foreign 
 trade is not sufficient to establish residence in the United States, 
 even though the vessel, while carrying on foreign trade, touches 
 at American ports. An alien seaman may acquire an actual 
 residence in the territorial United States, although the nature 
 of his calling requires him to be absent from the place where his 
 
 9 0. D. 468, T. B. 16-20-867. 
 
 10 O. D. 498, T. B. 19-20-921. 
 
 11 0. D. 117, T. B. 3-19-175. 
 
 12 0. D. 198, T. B. 9-19-343. 
 
NONRESIDENT ALIENS 57 
 
 residence is established for a long period. An alien seaman may 
 acquire such a residence at a sailor's boarding house or hotel, 
 but such a claim should be carefully scrutinized in order to 
 make sure that such residence is bona fide. The filing of Form 
 1078 (Revised), or taking out first citizenship papers, is proof 
 of residence in the United States from the time the form is 
 filed or the papers taken out, unless rebutted by other evidence 
 showing an intention to be a transient. The fact that a head 
 tax has been paid on behalf of an alien seaman entering the 
 United States is no evidence that he has acquired residence, 
 because the head tax is payable unless the alien who is entering 
 the country is merely in transit through the country. An alien 
 may remain a nonresident although he is not in transit through 
 the country .13 It has been held that vessels; plying between the 
 continental United States and Porto Rico are engaged in "foreign 
 trade." A citizen and resident of Porto Rico employed as sea- 
 man aboard such a vessel and who has not established him- 
 self otherwise as a resident of the United States occupies the 
 status of a nonresident alien.i* The term "foreign trade" in- 
 cludes the transportation upon the high seas of passengers and 
 freight between the United States and foreign countries.^s 
 
 Citizens Who Are Treated As Nonresident Aliens. The Reve- 
 nue Act of 1921 contains a new provision giving a certain class 
 of United States citizens the privilege of being treated as non- 
 resident aliens and being taxable only upon gross income "from 
 sources within the United States." In order to be entitled to this 
 privilege a citizen of the United States must satisfy the follow- 
 ing conditions: (1) 80% or more of his gross income (computed 
 with the benefit of being treated as a nonresident alien) for the 
 three-year period immediately preceding the close of the taxable 
 year (or for such part of such period immediately preceding 
 the close of such taxable year as may be applicable) must be 
 derived from sources within a possession of the United States ; 
 and (2) 50% or more of his gross income (computed without 
 the benefit of being treated as a nonresident alien) for the 
 same three-year period or the applicable part thereof, must be 
 derived from the active conduct of a trade or business within a 
 possession of the United States, either on his own account or as 
 an employee or agent of another, The gross income of such 
 citizen, however, includes any "amounts received within the 
 
 13 Reg. 45, Art. 312a; T. D. 2869. As to when the wages of alien seamen 
 are subject to tax, see Reg. 45, Art. 92a and p. 67. 
 1* 0. D. 536, T. B. 23-20-987. 
 15 O. D. 315, T. B. 26-19-591. 
 
58 FEDERAL INCOME TAX 
 
 United States, whether defived from sources within or without 
 the United States.i" The term "nonresident aUen" or "nonresi- 
 dent alien individual" as used in this chapter includes citizens 
 of the United States, as thus defined. The term "foreign cor- 
 poration" includes domestic corporations entitled under this 
 provision of the statute to classification as a foreign corporation 
 and subject only to tax upon gross income from sources within 
 the United States, when they fulfill the same conditions which 
 have been detailed above in respect to United States citizens. 
 
 Rate of Tax. The rate of normal tax upon nonresident aliens 
 is the same as in the case of citizens and residents (8%), but 
 nonresident aliens do not secure the benefit of the lower rate 
 (4%) on the first $4,000 of income. The surtax rates upon non- 
 resident aliens are the same as the rates upon citizens and 
 residents.!'^ 
 
 Extent to Which Nonresident Aliens are Taxable. Nonresi- 
 dent aliens are subject to the normal tax and the surtax imposed 
 by the Revenue Act of 1921, upon their net income received 
 from all "sources within the United States." The Revenue Act 
 of 1918 also subjected nonresident aliens to tax on income from 
 such "sources." The chief difference between the two statutes 
 lies in the definition adopted for this term. ' The definition con- 
 tained in the present law is much more ample and detailed, and, 
 in one or two respects, different. Little progress has been made 
 in determining the taxes of nonresident aliens under the 1918 
 Law, and for that reason it seems advisable to consider in this 
 chapter not only the present law, but the provisions in force 
 with regard to nonresident aliens for the last few years. It 
 may be noted in passing that, irrespective of any rules of statu- 
 tory construction, the present law no doubt to a considerable 
 extent expresses the intention of congress in the vaguer and 
 less detailed statutes which preceded it, the greater definiteness 
 of the present law being founded upon the experience of the 
 treasury department in administering those previous laws. Not- 
 withstanding the increased precision of the Revenue Act of 1921, 
 the difficult problem of taxing nonresident aliens justly and 
 upon a basis consistent with economics and reason is by no 
 means solved. The difficulty of the problem is inherent and can 
 only be finally solved in each case which arises by the fairest 
 possible application of the rules set forth in the statute and a 
 
 16 Revenue Act of 1921, § 262. The term "possession of the United States", 
 as used in the text above, does not include the Virgin Islands. 
 
 17 Revenue Act of 1921, §§ 210, 211. 
 
NONRESIDENT ALIENS 59 
 
 certain disregard of technicalities and forms, in favor of sub- 
 stantial considerations. Inasmuch as the present law, like the 
 1918 Law, taxes foreign corporations in the same manner as non- 
 resident alien individuals on income "from sources within the 
 United States" ^^ the convenience of the reader will probably be 
 furthered by a consideration of that term in one place, as it 
 applies to both nonresident aliens and foreign corporations. This 
 has been done, except that any rulings having sole bearing upon 
 foreign corporations are reserved for a later chapter.^^ 
 
 Income From Sources Within the United States. The Revenue 
 Act of 1918 defined income from sources within the United 
 States as including "interest on bonds, notes, or other interest- 
 bearing obligations of residents, corporate or otherwise, divi- 
 dends from resident corporations, and including all amounts re- 
 ceived (although paid under a contract for the sale of goods or 
 otherwise) representing profits on the manufacture and dispo- 
 sition of goods within the United States." 20 
 
 18 Revenue Act of 1921, § 234 (b). 
 
 19 See Chapter 12. 
 
 20 Revenue Act of 1918, § 213 (c) ; Reg. 45, Art. 3, T. D. 2876. The 1913 
 Lavsr imposed a tax in the net income of nonresident aliens "from all property 
 owned and from every business, trade, or profession carried on in the 
 United States." This language was held, under two opinions of the attorney- 
 general, not to include interest or dividends received by nonresident alien 
 investors from domestic corporations, but on March 21, 1916, the treasury 
 department reversed this holding and thereafter claimed the tax from non- 
 resident aliens on these classes of income. (T. D. 2313.) In De Ganay v. 
 Lederer, 239 Fed. 568, the district court held a nonresident alien taxable 
 on such income if the stock certificates and bonds were kept in this country, 
 as then they acquired a, situs here for purposes of the income tax. This 
 decision has now been affirmed by the United States Supreme Court (.250 
 U. S. 376), which takes the position that stock certificates, bonds, and 
 mortgages are "property" within the meaning of the statute, having a situs 
 within the United States in spite of the maxim mobilia sequuntur personam. 
 The court said: "In the case under consideration the stocks and bonds were 
 those of corporations organized under the laws of the United States, and the 
 bonds and mortgages were secured upon property in Pennsylvania. The 
 certificates of stock, the bonds and mortgages were in the Pennsylvania Com- 
 pany's offices in Philadelphia. Not only is this so, but the stocks, bonds 
 and mortgages were held under a power of attorney which gave authority 
 to the agent to sell, assign, or transfer any of them, and to invest and re- 
 invest the proceeds of such sales as it might deem best in the management 
 of the business and affairs of the principal. It is difficult to conceive how 
 property could be more completely localized in the United States. There can 
 be no question of the power of Congress to tax the income from such securi- 
 ties. Thus situated and held, and with the authority given to the local 
 agent over them, we think the income derived is clearly from property within 
 the United States within the meaning of Congress as expressed in the 
 
60 FEDERAL INCOME TAX 
 
 Following the statutory definition the most comprehensive 
 ruling issued under the 1918 Law defining gross income from 
 sources within the United States includes in the term, in addi- 
 tion to the items specified in the statutes, rentals, and royalties 
 from property, and income from business carried on in the 
 United States, interest on deposits in banks located within tlie 
 United States, income from capital otherwise invested in the 
 United States, and income from services rendered or labor per- 
 formed within the United States.^i 
 
 The language just quoted and the regulations adopted in pur- 
 suance thereof are evidently an attempt to tax income arising 
 from "sources within the United States," rather than the right 
 of doing any thing or enjoying any privilege in the United 
 States.22 It will be noted that the 1916 Law was the first law 
 using the expression "sources within the United States," ^s the 
 1913 Law having used the phrase "business transacted and capi- 
 
 statute under consideration." The language of the 1916 Law and the present 
 law expressly included such income, regardless of where the securities might 
 be kept. 
 
 21 Reg. 45, Art. 91. In the earliest edition of Regulations 45 income from 
 isolated transactions or activities directly resulting in gain, carried on within 
 the United States by a nonresident or his representative in person, was 
 stated to be from sources within the United States, but the treasury depart- 
 ment later apparently abandoned this position. 
 
 22 This conclusion is supported by a consideration of the historical cir- 
 cumstances under which the acts of 1909, 1913 and 1916 and 1918 were 
 passed. The act of August 5, 1909, which has been held to be an excise tax 
 law, imposing a tax measured by net income, was necessarily so, because 
 the constitutional authority of Congress "to lay and collect taxes on 
 incomes from whatever source derived, without apportionment" was first 
 granted by the Sixteenth Amendment to the Constitution, which was adopted 
 in 1913, and the constitutionality of the 1913 Law has been sustained as an 
 income tax on the basis of this constitutional amendment (Brushhaber v. 
 Union Pacific R. R. Co., 240 U. S. 1). The Sixteenth Amendment was 
 adopted plainly with the view of relieving income taxes from apportion- 
 ment and the Revenue Act of 1916, and the Revenue Act of 1918, as well 
 as the act of October 3, 1913, were passed as income taxes in consequence 
 of the relief granted by the Sixteenth Amendment. Furthermore (as to 
 foreign corporations) the socalled capital stock tax, imposed by the Reve- 
 nue Act of 1918, (§ 1000 et seq.) and the Revenue Act of 1921 (§ 1000 et 
 seq.) are excise taxes for the privilege of doing business and it is self- 
 evident that Congress did not intend to impose two taxes for the same 
 privilege. 
 
 23 This law provided that nonresident aliens should be taxed upon income 
 "from sources within the United States * * * including interest 
 on bonds, notes, .or other interest-bearing obligations of residents, corporate 
 or otherwise" (Revenue Act of 1916, § 1 (a)); and that the income tax should 
 be "levied, assessed, collected and paid annually upon the total net in- 
 
NONRESIDENT ALIENS 61 
 
 tal invested within the United States." 2* The word "source" con- 
 veys only one idea — that of origin.^s It is defined in the Standard 
 Dictionary as follows: "That from which any act, movement, 
 or effect proceeds; a person or thing that originates, sets in 
 motion, or is a primary agency in producing any course of action 
 or result; an originator; creator; origin. A place where some- 
 thing is found or whence it is taken or derived." This is its 
 natural, ordinary, and familiar meaning, and it is particularly 
 true that terms used in statutes describing objects of taxation 
 should be construed according to their popular signification.^^ 
 The "source" should not be restricted to the place where pay- 
 ment is made, since such place may be arbitrarily selected 
 without relation to the nature of the transaction and is not in- 
 dicative of source.2''^ The same considerations apply to the place 
 where title passes under a contract of sale. The intention of 
 Congress seems to have been to discard the 1913 basis of taxing 
 nonresident aliens and foreign corporations on income accruing 
 from "business transacted and capital invested" in the United 
 States (as well as the 1909 excise basis) and to tax these classes 
 of taxpayers on income arising from "sources within the United 
 States." The object of this phrase may well be, on the one hand, 
 to prevent nonresident aliens and foreign corporations from de- 
 riving income from the United States free from tax by virtue of 
 a technical construction of the phrase "business transacted and 
 capital invested" 28 and, on the other hand, to prevent the undue 
 
 come received in the preceding calendar year from all sources within the 
 United States by every corporation, joint-stock company or association, or 
 insurance company, organized, authorized, pr existing under the laws of any 
 foreign country including interest on bonds, notes, or other interest-bearing 
 obligations of residents, corporate or othervsdse, and including the income 
 derived from dividends on capital stock or from net earnings of resident 
 corporations, joint-stock companies or associations, or insurance companies, 
 whose net income is taxable under this title." (Revenue Act of 1916, § 
 10 (a).) 
 
 24 Under the 1913 Law nonresident aliens and foreign corporations were 
 taxable only upon the "net income accruing from business transacted and 
 capital invested within the United States." The similarity between the 
 1913 Law and the British law taxing nonresident foreign corporations on 
 gains arising or accruing from "any trade as exercised within the United 
 Kingdom" should be noted. 
 
 25 The word "source" has been defined by regulation to mean "the place 
 of origin of income." (Reg. 33, Art. 667) 
 
 26 De Ganay v. Lederer, 250 U. S. 376, decided June 9, 1919. See Chapter 
 47 for other cases on this point. 
 
 27 0. D. 651, T. B. 35-20-1174. 
 
 28 See attorney-general's opinions under date of October 23, 1913, and 
 July 15, 1914, as to taxability of interest on bonds and dividends on stock 
 
62 FEDERAL INCOME TAX 
 
 imposition of a tax when the real source of income is not within 
 this country. The Revenue Act of 1918 goes further than the 
 1916 Law in expressly citing certain kinds of incomers as being 
 from "sources within the United States" and together with the 
 1916 Law marks a long step in advance towards international 
 comity in taxation^" — a sincere regard for the essentially just 
 and proper jurisdictional limitation upon the exercise of the 
 sovereign power and an avoidance of taking constructive juris- 
 diction for the purpose of taxing income which rightly should 
 not be levied upon to defray the burdens of government in the 
 United States. 
 
 With this statutory and departmental definition of the term 
 "sources within the United States" in mind, and in the light 
 of the general principles which have just been discussed, it 
 seems best to consider the term as defined by the present law 
 separately in respect of the several classes of income referred to 
 in the statute. 
 
 Income From Interest. The Revenue Act of 1921 provides ^^ 
 that. the following shall constitute income from "sources within 
 the United States," and that all other interest shall be regarded 
 as from "sources without the United States" : 
 
 "Interest on bonds, notes, or other interest-bearing obliga- 
 tions of residents, corporate or otherwise, not including (a) 
 interest on deposits with persons carrying on the banking busi- 
 ness paid to persons not engaged in business within the United 
 States and not having an office or place of business therein, or 
 (b) interest received from a resident alien individual or a resi- 
 dent foreign corporation wl;ien it is shown to the satisfaction 
 of the commissioner that less than 20 per centum of the gross in- 
 come of such resident payor has been derived from sources with- 
 in the United States, as determined under the provisions of 
 this section, for the three-year period ending with the close of 
 the taxable year of such payor, or for such part of such period 
 
 under the language of the Act of October 3, 1913, with respect to nonresi- 
 dent aliens, as one of the reasons for adopting the phrase "sources within 
 the United States." 
 
 29 Cf. Revenue Act of 1918, § 233 (b), and Revenue Act of 1916, § 10 (a). 
 
 30 The evil of double taxation as between the states of this country was 
 deprecated by Mr. Justice Holmes in Kidd v. Alabama, 188 U. S. 780, at 
 p. 732, where he said: "No doubt it would be a great advantage to the 
 country and to the individual states if principles of taxation could be agreed 
 upon which did not conflict with each other, and a common scheme could be 
 adopted by which taxation of substantially the same property in two juris- 
 dictions could be avoided." 
 
 31 Revenue Act of 1921, § 217 (a) 1, (c) 1. 
 
NONRESIDENT ALIENS 63 
 
 immediately preceding .the close of such taxable year as may be 
 applicable," 
 
 This provision is a repetition of thp Revenue Act of 1918, 
 except that the interest specified under (a) and (b) is excluded 
 from gross income from "sources within the United States." ^^ 
 The interest specified under (a) was taxable under the 1918 
 Law.^3 It was also ruled under that law Ihat where a bank in 
 •the United States collects interest upon foreign securities for, 
 its nonresident alien customers and credits same to their ac- 
 count, allowing interest on the balance so maintained, the iden- 
 tity of the interest derived from foreign securities is lost so that 
 the interest thus paid or credited was subject to tax and with- 
 holding.s* Where nonresident aliens purchase British Govern- 
 ment treasury bills at a discount in United States markets and 
 collect the same at maturity either in the foreign country or 
 from the paying agent of that government in the United States, 
 such discount is not income from sources within the United 
 States.35 
 
 The place where interest is payable is immaterial ; the test is 
 whether or not it is paid on bonds, notes, or other interest- 
 bearing obligations of residents, corporate, or otherwise.^^ In- 
 terest upon obligations of corporations organized in the United 
 States, but doing no business and owning no property therein, 
 is not taxable when paid to nonresident aliens.^''^ Where bonds, 
 notes or other obligations of a foreign government are under- 
 written by a United States banking establishment and are by 
 their terms payable at an office of such banking establishment 
 in the United States, interest paid from the United States office 
 to nonresident alien individuals or foreign corporations who are 
 holders of such securities is not regarded as income from 
 "sources within the United States." ^^ A domestic firm opened a 
 credit with a foreign bank which was to be used by drafts which 
 the foreign bank agreed to accept. Various acceptances and 
 renewals were effected during a certain period, the last accepted 
 draft having come due in 1914. The domestic firm settled most 
 of its debt in London with a correspondent of the bank, and 
 at the end of 1919, the balance, representing part of the interest 
 
 32 Cf. Revenue Act of 1921, §217 (a) 1; Revenue Act of 1918, §213 (b). 
 
 33 Reg. 45, Art. 91. 
 
 3* 0. D. 269, T. B. 18-19-485. 
 
 35 O. D. 534, T. B. 23-20-985. 
 
 36 0. D. 35, T. B. 1-19-47; 0. D. 239, T. B. 13-19-417; 0. D. 651, T. B. 
 35-20-1174. 
 
 37 Reg. 45, Art. 92; 0. D. 908, T. B. 18-19-478. 
 
 38 0. D. 786, T. B. 1-19-16. 
 
64 FEDERAL INCOME TAX 
 
 and commissions, was paid in the foreign country in foreign 
 money. It was held under the 1918 Law that the obligation of 
 the domestic firm to pay the drafts which were accepted by the 
 foreign bank, and the interest thereon, is such an "interest- 
 bearing obligation" as is contemplated by the statute, regardless 
 of the fact that the debt was incurred outside the jurisdiction of 
 the United States and the interest was paid in a foreign country 
 in foreign money. The commissions were paid for services 
 rendered by a nonresident foreign corporation in a foreign coun- 
 try and were not income from a source within the United States, 
 but the amount paid as interest was subject to tax.^^ 
 
 Interest Upon Obligations of the United States. Interest 
 received on and after March 3, 1919, on bonds, notes and certifi- 
 cates of indebtedness of the United States, and bonds of the 
 War Finance Corporation, while beneficially owned by a non- 
 resident alien individual, or a foreign corporation, partnership 
 or association, not engaged in business in the United States is 
 exempt from all income and war-profits and excess-profits 
 taxes.^o Where trustees hold United States Liberty bonds or 
 Victory notes in trust for a nonresident alien life beneficiary and 
 are to distribute the income periodically, the bonds and notes 
 are held to be "beneficially owned" by such nonresident alien.*i 
 
 Income From Dividends. The Revenue Act of 1921 provides *2 
 that the following shall constitute income from "sources within 
 the United States" and that all other dividends shall be regarded 
 as from "sources without the United States": 
 
 "The amount received as dividends (a) from a domestic corpo- 
 ration other than a corporation entitled to the benefits of Section 
 262, or (b) from a foreign corporation unless less than 50 per 
 centum of the gross income of such foreign corporation for the 
 three-year period ending with the close of its taxable year pre- 
 ceding the declaration of such dividends (or for such part of such 
 period as the corporation has been in existence) was derived from 
 sources within the United States as determined under the provi- 
 sions of this section." 
 
 The Revenue Act of 1918 provided that gross income "from 
 sources within the United States" included dividends from "res- 
 
 39 O. D. 1062, T. B. 41-21-1863. 
 
 40 Reg. 45, Art. 93; Act of July 9, 1918 (Public No. 192), §3, as amended 
 by Act of March 3, 1919, § 4. This is true notwithstanding the provisions of 
 the Second Liberty Bond Act (Act of September 24, 1917, Public No. 43), 
 the Third Liberty Bond Act (Act of April 4, 1918, Public No. 120), and the 
 War Finance Corporation Act (Act of April 5, 1918, Public No. 121). 
 
 41 O. D. 464, T. B. 16-20-861. 
 
 42 Revenue Act of 1921, § 217 (a) 2, (c) 2. 
 
NONRESIDENT ALIENS 65 
 
 ident" corporations, but permitted a credit for purposes of the 
 normal tax (in the case of nonresident alien individuals) and 
 the deduction (in the case of foreign corporations) of divi- 
 dends from a corporation t^able upon its net income, or from 
 a personal service corporation out of earnings or profits upon 
 which income tax had been imposed.*^ If a foreign payor cor- 
 poration paid any tax upon its income, however small that tax 
 (or the income from United States sources upon which it was 
 paid) might be, its dividends might be so credited or deducted 
 by nonresident alien individuals and foreign corporations re- 
 spectively.** The exemption of dividends from the normal tax 
 applied not only to dividends received direct from a corporation, 
 but also to dividends received through the medium of fiduciaries 
 or partnerships. *5 Dividends of nonresident foreign corpora- 
 tions (that is, corporations not engaged in trade or business 
 within the United States and not having any office or place of 
 business in this country) were not taxable in the hands of a 
 nonresident alien, even though. such dividends were payable in 
 this country .*8 Dividends on stock of corporations organized in 
 the United States, but doing no business in the United States 
 and owning no property therein, were held not to be taxable 
 when paid to nonresident aliens.*^ 
 
 43 See Revenue Act of 1918, §§ 213 (c), 216 (a), 233 (c), 234 (a) 6, (b). 
 *4 Letter from treasury department dated June 9, 1919; I. T. S. 1921, 
 II 1661. 
 
 45 See Chapter 19 for a further discussion of this subject. 
 
 46 Revenue Act of 1918, § 213 (c). See also T. D. 2012, T. D. 2030, T. D. 
 2313, T. D. 2325. Letter from treasury department dated. April 5, 1916, 
 I. T. S. 1919, T[687. In two provisions of the 1916 Law (Revenue Act of 
 1916, §1 1 (b) and 8 (b) ) nonresident aliens were excepted from the require- 
 ments of making reports on and paying the surtax on "sulfii income (income 
 derived from dividends on the capital stock or from the net earnings of any 
 corporation) derived from sources without the United States.'' Although 
 this language was not construed by the courts or by any regulation, it un- 
 doubtedly applied to dividends received from foreign corporations where the 
 earnings of such foreign corporations were derived from sources without 
 the United States even though the dividends were payable in this country, 
 and there seems to be ground for the contention that it also applied with 
 equal force whether the corporation was foreign or domestic. Under the 
 1918 Law it is provided (Revenue Act of 1918, § 213 (c)), that in the case 
 of nonresident aliens "gross income includes only the gross income from 
 sources within the United States, including * * * and including dividends 
 from resident corporations." It may, therefore, be said that this language 
 removes the doubt existing under the provisions of the 1916 Law, and places 
 the taxability of nonresident aliens in respect to dividends on the ground 
 of the residence of the corporation paying the dividends. 
 
 47 Reg. 45, Art. 92. The English law taxes an English company which 
 
66 FEDERAL INCOME TAX 
 
 Under the Revenue Act of 1921, while dividends from domestic 
 corporations (except those taxed as foreign corporations) *s are 
 to be included in gross income by nonresident alien individuals 
 and foreign corporations, they may be credited for purposes of 
 the normal tax by nonresident alien individuals, and deducted in 
 ascertaining net income by foreign corporations.''^ This makes 
 them subject to the surtaxes in the case of individuals, but would 
 seem to free them from tax in the case of foreign corporations. 
 The same considerations would seem to apply to dividends from 
 foreign corporations with a gross income, for the three-year 
 period preceding the close of the taxable year preceding the date 
 of declaration, of 50% or more from sources within the United 
 States. Since dividends from foreign corporations with a gross 
 income, as indicated above, of less than 50 % from sources within 
 the United States are income from sources without the United 
 States, all dividends would seem to be free from tax under the 
 present law, in the case of a foreign corporation. 
 
 Income From Personal Services. The Revenue Act of 1921 
 provides s" that "compensation for labor or personal services per- 
 formed in the United States" shall constitute inconie from 
 "sources within the United States," and that "compensation for 
 labor or personal service performed without the United States" 
 shall constitute income "from sources without the United States." 
 This provision is a statutory enactment of departmental regula- 
 tions under the 1918 Law.^^ A nonresident alien individual em- 
 ployed by a domestic corporation on a monthly salary basis as 
 its salesman in a foreign territory, who visits the home office of 
 the company -the first part of each year for the purpose of re- 
 porting on sales and conditions generally in the foreign markets 
 and receiving instructions in sales methods and in regard to new 
 apparatus, is not subject to tax on the salary he receives while 
 in the United States.52 
 
 has permanently located its business and seat of management abroad only 
 with respect to the profits of the English shareholders. 
 
 48 See Revenue Act of 1921, § 262. 
 
 49 See Revenue Act of 1921, §§213 (c), 216 (a), 217, 233 (b), 234 (a), 
 6, (b). 
 
 50 Revenue Act of 1921, §217 (a) 3, (c) 3. 
 
 51 Reg. 45, Art. 92. Under the 1913 Law it was held that compensation 
 paid to nonresident aliens for services rendered in a foreign country, in- 
 cluding business and traveling expenses, was not taxable. (T. D. 2152.) 
 The 1916 Law by imposing a tax on "income from all sources within the 
 United States" raised a question as to the taxability of such compensation. 
 (Reg. 33, Rev., Art. 32.) 
 
 52 0. D. 578, T. B. 28-20-1053. Compensation received by nonresident alien 
 munitions inspectors and purchasing agents, from foreign governments is 
 not subject to tax. (Reg. 45, Art. 92.) 
 
NONRESIDENT ALIENS 67 
 
 Wages of Alien Seamen. While resident alien seamen are 
 taxable like citizens on their entire income from whatever 
 sources derived, nonresident alien seamen are taxable only on 
 income from sources within the United States. Ordinarily, wages 
 received for services rendered inside the territorial United States 
 are to be regarded as from sources within the United States. The 
 wages of an alien seaman earned on a coastwise vessel are from 
 sources within the United States, but wages earned by an alien 
 seaman on a ship regularly engaged in foreign trade are not to 
 be regarded as from sources within the United States, even 
 though the ship flies the American flag, or although during a 
 part of the time the ship touched at United States ports and re- 
 mained there a reasonable time for the transaction of its busi- 
 ness. The presence of a seaman aboard a ship which enters 
 a port for such purposes of foreign trade is merely transitory 
 and wages earned during that period by a nonresident alien sea- 
 man are not taxable.^^ The wages earned by persons serving 
 aboard vessels plying between the continental United States 
 and Porto Rico do not constitute income from sources within 
 the United States since such vessels are held to be engaged in 
 foreign trade.^* A steamer engaged in foreign trade which lies 
 for a period of two weeks in a United States port for the pur- 
 pose of completing repairs is deemed to be in such port a reason- 
 able time for the transaction of business, and wages paid to its 
 nonresident seamen during such period are income from souifces 
 without the United States.^^ Wages earned by a nonresident alien 
 on an occasional coastwise voyage on a vessel generally making 
 foreign voyages are income from sources within the United 
 States.56 
 
 A vessel sailing from a port in the United States on the Paci- 
 fic coast to a port in the United States on the Atlantic coast, or 
 vice versa, via the Panama Canal, does not come within the 
 meaning of the term "a vessel engaged in foreign trade." The 
 wages of nonresident alien seamen received for services ren- 
 dered on such vessels are subject to withholding. ^^ There is no 
 withholding from the wages of alien seamen unless they are non- 
 residents.ss An employer is, however, required to render a re- 
 
 53 Reg. 45, Art. 92a. As to the status of alien seamen as residents or non- 
 residents, see Reg. 45, Art. 312a. 
 
 54 O. D. 536, T. B. 23-20-987. 
 
 55 0. D. 559, T. B. 26-20-1027. 
 
 56 O. D. 245, T. B. 13-19-424. 
 
 57 O. D. 784, T. B. 5-21-1416. 
 
 58 Reg. 45, Art. 92a. 
 
68 FEDERAL INCOME TAX 
 
 turn of information in all cases where he has made payment of 
 $1,000 or over of wages to resident alien seamen in any taxable 
 year.58 
 
 Income From Rentals or Royalties. The Revenue Act of 1921 
 provides ^0 that the following shall constitute incOme from 
 "sources within the United States": "Rentals or royalties from 
 property located in the United States or from any interest in 
 such property, including rentals or royalties for the use of or for 
 the privilege of using in the United States, patents, copyrights, 
 secret processes and formulas, good will, trade-marks, trade 
 brands, franchises, and other like property ;" and that the follow- 
 ing shall constitute income from "sources without the United 
 States" : "Rentals or royalties from property located without the 
 United States or from any interest in such property, including 
 rentals or royalties for the use of or for the privilege of using 
 without the United States, patents, copyrights, secret processes 
 and formulas, good will, trade-marks, trade brands, franchises, 
 and other like property." The same rule in regard to rentals 
 prevailed under the Revenue Act of 1918.^i Profits derived by a 
 nonresident alien author from the sale of all rights of serial 
 publication to a domestic corporation of certain stories were held 
 not to be income from "sources within the United States" under 
 the 1918 Law, inasmuch as the author had no domicile within the 
 United States and as the income received by him from such sale 
 could not be said to issue out of property or business having a 
 situs in the United States.®^ 
 
 Income From Sales and Dealings in Real Property. The 
 Revenue Act of 1921 provides ^^ that "gains, profits, and income 
 from the sale of real property located in the United States" 
 shall constitute income from "sources within the United States," 
 and that "gains, profits, and income from the sale of real prop- 
 erty located without the United States" shall constitute income 
 from "'sources without the United States." The same rule es- 
 
 59 Letter from treasury department, dated September 30, 1919; I. T. S. 
 1919,113069. 
 
 60 Revenue Act of 1921, § 217 (a) 4, (c) 4. Under the 1913 Law royalties 
 paid to nonresident aliens under an agreement for the purchase of certain 
 patent rights, the patents being based upon the quantity of goods produced 
 by the use of such patents, have been held to be income accruing to non- 
 resident aliens by reason of property owned or business carried on within 
 the United States. (T. D. 2137). See Reg. 45, Art. 91. 
 
 61 Reg. 45, Art. 92. 
 
 62 0. D. 988, T. B. 32-21-1759. 
 
 63 Revenue Act of 1921, § 217 (a) 5, (c) 5. 
 
NONRESIDENT ALIENS 69 
 
 tablishing the location of the property as the test of source ap- 
 plies to exchanges of real property.^^ The same rule prevailed 
 under the Revenue Act of 1918. 
 
 Miscellaneous Income: Income From Manufacturing and Sell- 
 ing Property. It is provided ^^ further in the Revenue Act of 
 1921 that items of gross income other than those enumerated in 
 the preceding paragraphs "shall be allocated or apportioned to 
 sources within or without the United States under rules and reg- 
 ulations prescribed by the commissioner with the approval of the 
 secretary"; and also that: "Gains, profits and income from (1) 
 transportation or other services rendered partly within and part- 
 ly without the United States, or (2) from the sale of personal 
 property produced (in whole or in part) by the taxpayer within 
 and sold without the United States, or produced (in whole or in 
 part) by the taxpayer without and sold within the United States, 
 shall be treated as derived partly from sources within and partly 
 from sources without the United States. Gains, profits and in- 
 come derived from the purchase of personal property within and 
 its sale without the United States or from the purchase of per- 
 sonal property without and its sale within the United . States, 
 shall be treated as derived entirely from the country in which 
 sold." The words "sale" or "sold" include "exchange" or "ex- 
 changed" ; and the word "produced" includes "created," "fabri- 
 cated," "manufactured," "extracted," "processed," "cured," or 
 "aged." 66 
 
 This provision should be read in the light of the following 
 statement made by Senator Penrose in his report ^'^ on the Reve- 
 nue Act of 1921 : 
 
 "The present law is both obscure and economically unsound, 
 inasmuch as the attorney-general has held that where goods are 
 manufactured, or produced in the United States and sold abroad, 
 
 64 Revenue Act of 1921, § 217 (f ) 
 
 65 Revenue Act of 1921, §217 (e). Where a Wisconsin partnership and 
 a New York partnership entered into a partnership agreement under which 
 the Wisconsin partnership furnishes 40% of necessary capital and has exclu- 
 sive control of purchasing, handling, storing and shipping of Wisconsin 
 tobacco, and the New York firm furnishes 60% of the capital and has exclu- 
 sive control of the sale and disposition of the tobacco, all sales being made 
 without the state of Wisconsin, the portion of the income going to the New 
 York firm has been held under the Wisconsin Income Tax Law to be income 
 derived partly from property and business within the state of Wisconsin 
 and partly from business transacted without the state, which should be 
 allocated. (Village of Westby v. Bekkedal, 172 Wis. 114, 178 N. W. 451.) 
 
 66 Revenue Act of 1921, § 217 (f). 
 
 67 See report of finance committee on Internal Revenue Bill of 1921, p. 16. 
 
70 FEDERAL INCOME TAX 
 
 no part of the profit is derived from a source within the United 
 States." 
 
 In the opinion referred to by Senator Penrose the attorney- 
 general dealt with the following five specific cases : 
 
 1. A corporation organized under the laws of Scotland owns 
 and operates two sawmills in the United States. The mills saw 
 logs into plank squares called "handle blanks" and also roughly 
 turn hammer handles. These products are all exported to Glas- 
 gow, where they are finished at the home mill. In addition 
 the manager of the American plant buys logs in the United 
 States and exports them as such to Great Britain. No part of 
 the products of the mills located in this country or of the logs 
 purchased here is sold in the United States, but the entire output 
 •is sold in Great Britain. The plants and operations of the man- 
 ager in the United States are conducted solely from funds sent 
 to this country from the home office in Glasgow, Scotland, and 
 no funds are sent to the home office from the American plants. 
 No income is derived from the mere manufacture of goods ; be- 
 fore there can be income there must be sale; and there is no 
 income from sources within the United States from goods man- 
 ufactured here unless there is, in the language of the statute,^* 
 "both manufacture and disposition of goods within the United 
 States." The obvious purpose of this section is to tax only 
 income that accrues within the United States. Congress does 
 not attempt to tax profits arising from goods manufactured in 
 this country but sold after being shipped abroad and without 
 being disposed of by the owner in this country. When the corpo- 
 ration manufactures or partially manufactures articles in this 
 country but does not sell or dispose of them until they are taken 
 to Scotland, there is no income from sources within the United 
 States. As to the purchase and exportation of logs, since profits 
 that may accrue from such transactions are not specifically pro- 
 vided for in the section of the statute taxing profits on the "man- 
 ufacture and disposition of goods within the United States," they 
 are taxable, if at all, because they represent compensation from 
 trades, businesses, commerce, etc., as enumerated in another sec- 
 tion,68 which are carried on within the United StateL For the 
 reasons given in cases quoted from in the footnote below™ it is 
 concluded that income which may accrue to the corporation in 
 England by sale of logs purchased in the United States is not 
 income from sources within the United States. 
 
 68 Revenue Act of 1918, §233 (b). 
 
 69 Revenue Act of 1918, § 213 (a). 
 
 TOIn Sulley v. Attorney-General, 5 H. & N. 711 (2 Br. Tax Gas. 149), un- 
 der a statute taxing the income of nonresidents "from any property what- 
 
NONRESIDENT ALIENS 71 
 
 2. The second case involved an English corporation acting 
 through a New York corporation. Under an agreement between 
 them the latter corporation is granted the exclusive right to 
 handle the merchandise of the former in the United States and 
 Canada. Orders for the goods are taken by the New York cor- 
 poration on net terms, payment to be made 10 days after delivery. 
 A minimum net price for the sale of the goods by the New York 
 corporation is fixed by the English corporation at an amount not 
 to exceed the price obtained for similar goods in England. The 
 New York corporation assumes credit risks and advances 50 % of 
 the minimum net price against the bills of lading or packers re- 
 ceipts. The amount advanced is deducted by it, together with 
 freight charges, commissions, etc., when remitting to the Eng- 
 lish corporation the amounts collected from the customers. The 
 New York corporation receives a 5% commission on the sale of 
 the goods and any excess over the minimum net price, after de- 
 ducting such commission, and charges for freight, duties, insur- 
 ance, etc., are shared equally between the two corporations. No 
 price that is insufficient to cover the minimum net price, plus 
 freight, duty, and other charges, is accepted without the approval 
 
 ever in the United Kingdom, or profession, trade, employment, or voca- 
 tion exercised within the United Kingdom," the facts are similar to those 
 above stated. SuUey was a partner in a firm of general merchants and 
 drapers carrying on business in both the United States and England. Sulley 
 resided in England and the other petitioners in the United States. Sulley 
 transacted the business of the firm in England, which consisted of pur- 
 chasing goods in England and shipping them to the United States. No 
 money was received in England except what was sent from the United 
 States, and the profits of the business were made by the resale of goods 
 at an increased price in the United States. The court held that the liability 
 to income tax attached only to such profits as came home to England as the 
 share of Sulley, the partner resident there. The Lord Chief Justice said: 
 "The question is, whether there is a carrying on or exercise of the trade 
 in this country. I think there is not, looking at the sense in which the 
 term is used and having regard to the subject-matter of the statute. Where- 
 ever a merchant is established, in the course of his operations his dealings 
 must extend over various places; he buys in one place and sells in another. 
 But he has one principal place in which he may be said to trade, viz., where 
 his profits come home to him. That is where he exercises his trade. It 
 would be very inconvenient if this were otherwise. If a man were liable 
 to income tax in every country in which his agents are established, it would 
 lead to great injustice. The argument for the Crown must be carried to 
 this extent, that merely buying goods in this country is a trade exercised 
 here so as to subject the purchaser of the goods to income tax. In the 
 present case the defendant is a partner; but if the argument is well founded, 
 this American firm might be taxed in the same way if he had been merely 
 an agent. It would be most impolitic thus to tax those who come here as 
 customers. The subject of a foreign state, not resident here, can not be 
 
72 FEDERAL INCOME TAX 
 
 of the English corporation. The latter accepts all merchandise 
 risks. If goods are refused or returned to the New York corpo- 
 ration by its customers, it is required to make every effort to dis- 
 pose of them. Unless goods are sold at a profit above all ex- 
 penses, the New York corporation receives no commission there- 
 on. The goods are covered by insurance for the joint account of 
 both corporations and are invoiced to the customer by the New 
 York corporation. This case is the converse of the' situation in 1, 
 above. The English corporation in this case purchases goods in 
 England and sells them within the United States, and profits 
 accruing from such transactions are plainly profits derived from 
 business carried on within the United States.'^^ The gross income 
 from such business is income from sources within the United 
 States and is to be estimated in the same way that such income 
 is estimated where both manufacture and sale are had within the 
 United States. 
 
 3. The third case involves a partnership organized in England, 
 consisting of two members who are citizens and residents of that 
 country. The principal office of the firm is at Liverpool, Eng- 
 land, but it maintains an office at Dallas, Texas, which is operated 
 under a somewhat similar name. The Dallas office is in charge 
 of a manager, who receives a fixed salary and a stipulated com- 
 mission based upon the net earnings of the firm in accordance 
 with a contract of employment made by him with the members 
 of the firm. The business of the firm is that of cotton merchants 
 and importers. The branch office is engaged in buying cotton in 
 the United States in behalf of the firm and in shipping it to the 
 parent office in England for disposition. It is the custom of the 
 branch office to draw on the parent office for amounts sufficient 
 to make such purchases, together with a liberal margin to cover 
 estimated charges and expenses, so that at the end of the season 
 
 marie amenable to our laws. How then are their .profits to be made amen- 
 able to the fiscal law? Simply by the provision that whosoever carries on 
 the business and receives the profits here shall be assessed. But in the 
 present case no profits are received by the firm, or exist in this country. 
 * * * The profits of the firm in America do not accrue in respect of any 
 trade carried on in this country, but in respect to the trade carried on in New 
 York, where the main business is conducted." In State ex rel. Manitowoc 
 Gas Co. v. Wisconsin Tax Commission, 161 Wis. Ill, 152 N. W. 848, the 
 Supreme Court of Wisconsin said: "If an income be taxed, the recipient 
 thereof must be domiciled within the state, or the property or business out 
 of which the income issues must be situated within the state so that the 
 income may be said to have a situs therein." 
 
 71 See Werle & Co. v. Colquhoun, 2 Br. Tax Cas. 402, 58 L. T. R. 756; 
 Turner v. Rickman, 4 Br. Tax Cas. 25; MacPherson & Co. v. Moore, 6 Br. 
 Tax Cas. 107. 
 
NONRESIDENT ALIENS 73 
 
 the branch office may show a balance to its credit. The branch 
 office does not make any sales. It was held that the firm is not 
 deriving income from sources within the United States. 
 
 4. The fourth case is that of a partnership organized in Eng- 
 land consisting of six members, five of whom are British subjects 
 residing in London and the other a citizen of the United States, 
 residing in New York. The home office of the firm is in» London, 
 but it maintains a branch office in New York city in charge of 
 and conducted under the name of the partner resident of that 
 city. The business of the firm is that of commission merchant in 
 raw furs. The furs are consigned to it from various parts of the 
 world, including the United States, the sales being made almost 
 entirely in London at auction by auctioneers employed by the 
 firm or at private sale. The firm does not at any time take title 
 to the goods, but title remains in the consignor until the sale, 
 when it passes to the purchaser. The principal function of the 
 New York office is to solicit consignments of raw furs to the firm 
 at London, which requires the resident partner to travel to vari- 
 ous points in the United States and Canada. The majority of 
 goods consigned from Canada are sent to New York for ship- 
 ment to London. The New York office also acts as disbursing 
 agent for the firm in paying to consignors in the United States 
 and Canada the proceeds of sales of their goods in London, at- 
 tends to the shipment of the goods to London, and their storage 
 and insurance in New York while waiting for steamers, and 
 further makes advances to consignors on the security of bills of 
 lading or express receipts. The money required to maintain the 
 New York office is obtained by selling drafts on London, and a 
 balance of about $20,000 is usually carried by it with a New York 
 bank. The income of the partnership is derived from a commis- 
 sion of about 6% on the proceeds of sales from furs consigned 
 to it. It collects the proceeds of the sales and deducts its commis- 
 sion, the expenses, if any, incurred by it for freight, insurance, 
 or storage, and also the amount of any advances made to the con- 
 signors. The balance of the proceeds is remitted to the consign- 
 ors. No profit is made on the freight or other charges. It has 
 been held that only the income of the partner resident within the 
 United States is taxable. 
 
 5. In the fifth case a corporation organized under the laws 
 of Great Britain, with its home office at Manchester, England, 
 operates a line of freight steamships between Philadelphia, Pa., 
 and foreign ports. The corporation has no office in the United 
 States, but consigns its steamships to a corporation at Philadel- 
 phia, who handles them as agents and brokers, together with 
 
74 FEDERAL INCOME TAX 
 
 steamships consigned to them by other owners. The agents see 
 to the entry and clearance of each steamer and the discharge and 
 loading of the cargo and supplies, collect such part of the freight 
 as is prepayable in this country for the ocean carriage, deduct the 
 amount of the agents' disbursements and charges for their serv- 
 ices, and remit the balance to the steamship corporation at Man- 
 chester upon the departure of the vessel. Frequently a large part 
 of the freight is not prepayable, but is payable upon delivery of 
 the goods at Manchester. In an opinion '^^ rendered by the at- 
 torney-general under the 1909 Law it was decided that foreign 
 steamship companies engaged in the business of transporting 
 passengers, goods, and merchandise between ports in the United 
 States and foreign ports, and maintaining passenger and freight 
 agencies in this country were taxable under that act. Th'e attor- 
 ney-general said : 
 
 "* * * Their business consists entirely in transporting 
 passengers and goods and merchandise between ports in this 
 country and those of foreign countries, and receiving and dis- 
 charging the same. Through agents located here all contracts 
 and arrangements incident to such a business at this end of their 
 lines are made, and all exports are delivered to their warehouses 
 and loaded upon their vessels, and the passengers embark, while 
 they are within the limits of the United States ; and likewise here 
 their imports are unloaded and passengers from foreign ports 
 disembark. If these companies do not transact business in the 
 United States they transact no business in any foreign port, and 
 their entire business is carried on upon the high seas. To such 
 a conclusion I am unable to give assent." A similar conclusion 
 was arrived at in an English case'''^ which held that a cable cor- 
 poration established at Copenhagen, with an agent and an office 
 in London, with cables extending between England and Den- 
 mark, was carrying on trade in England from which profit arose 
 on account of contracts entered into with persons in England to 
 send messages from England to other countries. Brett, L. J., 
 said: 
 
 " * * * That which earns the profit, as I said at first, 
 or that out of which they get the profit is the better phrase, 
 is the money to be paid to them out of the contract, which con- 
 tract is made in England, and such contracts being habitually 
 made by them in England, it seems to me, they carry on in Eng- 
 land the trade or business of making such contracts. Therefore, 
 it seems to me, that these people are properly said to be persons 
 
 72 28 Op. Atty. Gen., dated March 9, 1910. 
 
 TS Erichsen v. Last, 8 Q. B. D. 414; 45 L. T. 703, 4 Br. Tax Cas. 422. 
 
NONRESIDENT ALIENS ■ 75 
 
 from whom this duty must be collected." It was held that the 
 English corporation derives income from sources within the 
 United States to the extent that it derives income from freight 
 and passenger traffic originating within the United StatesJ* 
 
 The 1918 Law, upon which this opinion was based, taxed as 
 income from "sources within the United States" all "amounts 
 received (although paid under a contract for the sale of goods or 
 otherwise) representing proiits on the manufacture and disposi- 
 tion of goods within the United States." ''"^ It was held under this 
 provision that where the products of certain foreign corpora- 
 tions, the entire capital stock of which was owned by a domestic 
 corporation, were sold by mail or through United States repre- 
 sentatives visiting the foreign plants, to United States citizens 
 and domestic corporations f. o. b. shipping point in a foreign 
 country, no income was derived by such foreign corporations 
 from "sources within the United States," even though invoices 
 were made by a United States office and payments were made 
 through the office of the domestic holding company.'''^ Under the 
 provision just quoted, it was held that the mere selling of raw 
 materials in this country through the medium of a mail order 
 
 74 T. D. 3111, T. B. 3-21-1401. See also A. R. M. 133, T. B. 26-21-1703. 
 
 To Revenue Act of 1918, §§213 (c), 233 (b). The use of the word "and" 
 between "manufacture" and "disposition" was important. The word "and" 
 is never to be construed as "or" in the absence of cogent reasons (Rice v. 
 U. S., 53 Fed. 910). In an early edition of Regulations 45 (Reg. 45, Art. 
 91) the treasury department violated this rule of construction. Under the 
 1913 Law, under which a foreign corporation was subject to the tax on income 
 accruing from "business transacted and capital invested" within the United 
 States, the court held a foreign corporation taxable where (a) it sent agents 
 into the United States to solicit purchasers for its products, hiring desk 
 room in the United States and empowering the salesmen to make written 
 contracts, (b) shipped its product consigned to itself in the United States 
 to different points, where it hired storage rooms and stored the product 
 in its ovim name and at its own risk to insure delivery according to contract, 
 and to meet anticipated demands. (Laurentide Co., Ltd. v. Durey, 231 Fed. 
 223.) Under the 1913 Law the department held also that where a foreign 
 corporation sent a representative to this country to solicit business, the 
 merchandise thus sold to be shipped direct to the consignee, the corporation 
 was transacting business in this country. The fact that the solicitor or 
 representative had only a mailing address in this country was immaterial, 
 as he was none the less an agent of the foreign corporation. (T. D. 2161.) 
 An agent who was doing business in this country, buying and selling certain 
 products of the foreign corporation, was held to be a branch of the foreign 
 corporation, as through and by him the foreign corporation was transacting 
 business here. (T. D. 2137.) As to the propriety of buying as a test of 
 doing business, see Commonwealth v. Standard Oil Co., 101 Pa. St. 119. 
 
 78 0. D. 1100, T. B. 46-21-1920. 
 
76 FEDERAL INCOME TAX 
 
 business or unsolicited orders, did not constitute transacting busi- 
 ness within the United States, and any income received from 
 such transactions would not be subject to tax;" but that an alien 
 who comes to the United States with merchandise which he dis- 
 poses of in this country is subject to tax on the profit derived 
 from such activities even though within the United States for a 
 period of less than 30 days.'^s Where a foreign corporation pur- 
 chased through an agent in this country bank acceptances at a 
 certain rate of discount and sold such acceptances through that 
 agent or some other agent, for a price greater than the price for 
 which purchased, the amount of income received as a result of 
 the transaction was held under the 1918 Law to represent income 
 from "sources within the United States."™ The purchase of 
 bonds and sale thereof in the United States was also held to create 
 income from "sources within the United States." ^o Where secu- 
 rities have been purchased in the United States for a foreign 
 estate by a domestic company upon an order transmitted to that 
 company by the estate, the securities then having been held by 
 the company for safekeeping and to prevent delay in trading and 
 sold by the company upon an order from the executors of the 
 estate, it has been held that profits from the sale are income from 
 sources within the United States.®^ 
 
 Broadly speaking, the commercial history of any marketable 
 article involves two main considerations. The article is (a) 
 manufactured — made from other products into its present state 
 or form — and (b) disposed of. These two considerations indi- 
 cate the well known distinction between a "manufacturing" and 
 a "mercantile" business. Economically, either or both of the 
 processes may bring a profit. The earnings of a mercantile busi- 
 ness may be just as truly due to intelligent and well directed 
 buying as the earnings of a manufacturing business are due to 
 cheap and efficient manufacturing business. The profits of a 
 manufacturing business are due to two practically indivisible 
 factors: (1) efficient manufacturing, and (2) efficient market- 
 ing. Similarly, the profits of a mercantile business are due to 
 two indivisible factors: (1) efficient buying, and (2) efficient 
 selling. But Congress has seen fit to differentiate in the present 
 law between the mercantile business and the manufacturing 
 
 "77 0. D. 294, T. B. 23-19-543. 
 ra O. D. 291, T. B. 23-19-543. 
 
 79 O. D. 221, T. B. 11-19-387. 
 
 80 O. D. 890, T. B. 17-21-1593. But the profit on retirement of such 
 bonds is held not to create taxable income. 
 
 81 O. D. 863, T. B. 14-21-1546. 
 
NONRESIDENT ALIENS 77 
 
 business. Profits from the sale of property produced within the 
 United States and sold without the United States is income part- 
 ly from sources within and partly from sources without the 
 United States, but profits from the sale of property purchased 
 within the United States and sold without the United States is 
 income from sources without the United States. Conversely, 
 profits from the sale of property produced without the United 
 States and sold within the United States is income partly from 
 sources within and partly from sources without the United 
 States, but profits from the sale of property purchased without 
 the United States and sold within the United States is income 
 from sources within the United States. In other words, produc- 
 tion, but not purchasing, is treated as an income factor. Selling 
 is always such a factor.^^ Under the provision giving the com- 
 missioner broad authority and discretion to apportion to sources 
 within and sources without the United States, it seems to be 
 within his power to give due weight to the fact, when it obtains, 
 that property is produced only in part in this country. When only 
 part of the production of property takes place in the United 
 States, the proportion of income attributable to "sources within 
 the United States" should not be so large as it would be if com- 
 plete production took place here. 
 
 Income Received From Fiduciaries. Where a nonresident 
 alien is the beneficiary of a trust, or of the estate of a deceased 
 person, or is the recipient of income from any property held by 
 another, such income is taxable to the extent that it arises from 
 sources within the United States. The intervention of an agent,- 
 trustee or other fiduciary between the nonresident alien and the 
 source of the income does not render income subject to taxation, 
 which otherwise would not be taxable, nor does it serve to re- 
 
 S2 See Revenue Act of 1921, § 217 (e). See also O. D. 890, T. B. 17-21-1593. 
 This is in line with the theory of such cases as Commonwealth v. Standard 
 Oil Co., 101 Pa. St. 119, in which the court said: "That the purchase of 
 oil in the state by a foreign corporation for the purpose of shipping to its 
 refineries without the state, is doing business within the state, is a proposi- 
 tion that does not need serious discussion. * * * Thousands of corporations 
 and individuals in other states make their purchases of supplies of raw 
 materials here, but it has never been seriously asserted that they were 
 doing business within the state. It has not been the policy of the state at 
 any time, as evidenced by its tax laws to embarrass the development and 
 sale of her rich products, agricultural and mineral, by levying taxes upon 
 strangers who come here to buy, and it is not the province of the courts 
 to erect a judicial Chinese wall around the state, which could not fail to 
 affect injuriously the best interests of the people." But the question in this 
 case was whether the buyer transacted business in Pennsylvania, not whether 
 it had income from sources within the state. 
 
78 FEDERAL INCOME TAX 
 
 lieve from taxation income which otherwise would be taxed."*''' 
 Dividends, for instance, would not be subject to the normal tax 
 for the reason that they are paid to a trustee and by him distrib- 
 uted to nonresident aliens.^^ Similarly, interest upon 3% % notes 
 of the Fifth Liberty Loan is not made taxable by passing through 
 the hands of a fiduciary to the beneficiary.**^ 
 
 Income From Partnerships. Nonresident aliens, who are 
 members of partnerships deriving all their income from sources 
 within this country, are taxable on their entire distributive 
 shares.^" If a partnership derives only part of its income from 
 sources within the United States, nonresident alien partners are 
 taxable only on that part of their respective distributive shares 
 of the partnership profits which represent income of the partner- 
 ship from such sources.^^ 
 
 Deductions Allowed in Computing Net Income. A nonresident 
 alien is required to report all his taxable income from sources 
 within this country, but from the gross income so reported is 
 entitled to make certain deductions before the tax is assessed 
 on the remainder, which constitutes his net income. The deduc- 
 tions are ordinarily similar in kind to those allowed to residents 
 and citizens but, in general, are confined to expenditures con- 
 nected with the production of the income subject to tax as being 
 from sources within the United States.''^ In the case of a non- 
 resident alien individual the deduction for losses incurred in any 
 transaction entered into for profit is confined to transactions the 
 profit of which, if they had resulted in profit, would have been 
 ■taxable. The deduction for losses arising from fires, storms, 
 shipwreck, or other casualty, or from theft, is confined to prop- 
 
 ss Letter from treasury department dated March 25, 1915; L T. S. 1918, 
 11110. 
 
 84 Letter from treasury department dated April 5, 1916; L T. S. 1918, 
 n 32, 62, and 873. 
 
 So Exempt income is not reported by the fiduciary as income accruing to 
 the estate for the purpose of tax. See Revenue Act of 1921, §§ 219 (b), 212 
 (a) and 213; Revenue Act of 1918, §§219 (b), 212 (a) and 213. 
 
 S6 Revenue Act of 1921, § 218; Revenue Act of 1918, § 218. See Chapters 
 8 and 9. 
 
 87 This is one of the many questions on which the treasury department 
 has not as yet made any clear public statement of its position. The 
 status of a partner differs materially from that of a stockholder in a cor- 
 poration, since in the case of a partnership no separate entity is interposed 
 between the recipient of the income and its original source. See U.- S. v. 
 Coulby, 251 Fed. 982, affirmed 258 Fed. 27. 
 
 88 Revenue Act of 1921, §214 (b); Revenue Act of 1918, §214 (b). 
 
NONRESIDENT ALIENS 79 
 
 erty within the United States.^^ The deduction for charitable 
 contributions excludes gifts to foreign corporations, and includes 
 gifts to domestic corporations, community chests, funds, or foun- 
 dations created in the United States, and the Vocational Rehabili- 
 tation Fund.9o 
 
 The other deductions (for business expenses, interest, taxes, 
 losses in trade, bad debts, depreciation, amortization, depletion, 
 and gains arising from a replacement of property) are allowed 
 only if and to the extent that they are connected with income 
 arising from sources within the United States, and the proper 
 apportionment and allocation of the deductions with respect to 
 sources within and without the United States is to be determined 
 by the commissioner.^^ A "net loss," within the meaning of the 
 1918 Law, attributable to operations in the United States was held 
 deductible under that law by a foreign concern."^ ^n extended 
 discussion of deductions is contained in other chapters,^^ the dis- 
 cussion in this chapter being limited to the provisions which 
 apply particularly to nonresident aliens, and to some new provi- 
 sions of importance contained in the Revenue Act of 1921. In 
 general, the deductions allowed nonresident alien individuals and 
 foreign corporations and the principles governing their computa- 
 tion are the same, and for the convenience of the reader, the dis- 
 cussion of the deductions applying to both will be found below. 
 Some rulings having reference particularly to foreign corpora- 
 tions will be found in a later chapter."^ 
 
 Apportionment of Deductions. The Revenue Act of 1921 
 contains some provisions ^^ regarding the allocation and appor- 
 tionment of deductions which are so important that they are 
 quoted below : 
 
 "From the items of gross income * * (from sources within the 
 United States) , * * there shall be deducted the expenses, losses, 
 and other deductions properly apportioned or allocated thereto 
 
 89 Cf. Revenue Act of 1921, §234 (a) 5, 6, and Revenue Act of 1918, 
 §234 (a), 5, 6. Under the 1918 Law deductible losses in transactions 
 entered into for profit had to be losses in transactions within the United 
 States. Probably the intent of the two laws is the same. 
 
 90 Cf. Revenue Act of 1921, §234 (a) 11; Revenue Act of 1918, §234 
 (a) 11. The 1921 Law is broader in permitting the deduction of gifts to 
 community chests, funds, or foundations created in the United States. 
 
 91 Revenue Act of 1921, §214 (b) ; Revenue Act of 1918, §214 (b). Reg. 
 45, Art. 271. 
 
 92 0. D. 611, T. B. 31-20-1099. 
 
 93 See Chapters 21-30. 
 oi See Chapter 12. 
 
 95 Revenue Act of 1921, § 217 (b), (d), (e). 
 
80 FEDERAL INCOME TAX 
 
 and a ratable part of any expenses, losses, or other deductions 
 which cannot definitely be allocated to some item or class of gross 
 income. The remainder, if any, shall be included in full as net 
 income from sources within the United States. 
 
 "From the items of gross income * * (from sources without 
 the United States) * * there shall be deducted the expenses, 
 losses, and other deductions properly apportioned or allocated 
 thereto, and a ratable part of any expenses, losses, or other de- 
 ductions which cannot definitely be allocated to some item or class 
 of gross income. The remainder, if any, shall be treated in full 
 as net income from sources without the United States. 
 
 "Items of * * * expenses, losses and deductions, other than 
 those specified in subdivisions (a) and (c), shall be allocated or 
 apportioned to sources within or without the United States under 
 rules and regulations prescribed by the commissioner with the 
 approval of the secretary. Where items of gross income are 
 separately allocated to sources within the United States, there 
 shall be deducted (for the purpose of computing the net income 
 therefrom) the expenses, losses and other deductions properly 
 apportioned or allocated thereto and a ratable part of other ex- 
 penses, losses or other deductions which cannot definitely be allo- 
 cated to some item or class of gross income. The remainder, if 
 any, shall be included in full as net income from sources within 
 the United States. In the case of gross income derived from 
 sources partly within and partly without the United States, the 
 net income may first be computed by deducting the expenses, 
 losses or other deductions apportioned or allocated thereto and a 
 ratable part of any expenses, losses or other deductions which 
 cannot definitely be allocated to some item or class of gross in- 
 come ; and the portion of such net income attributable to sources 
 within the United States may be determined by processes or 
 formulas of general apportionment prescribed by the commis- 
 sioner with the approval of the secretary." 
 
 The 1918 Law did not contain any such explicit provisions re- 
 garding the allocation and apportionment of the deductions of 
 nonresident aliens, except a provision^^ permitting the deduction 
 by a nonresident alien (and foreign corporation) of that "pro- 
 portion" of interest paid or accrued within the taxable year 
 "whic*h the amount of his gross income from sources within the 
 United States bears to the amount of his gross income from all 
 sources," and the vague provision ^'^ that the deductions should 
 be allowed, in the case of a nonresident alien (and foreign corpo- 
 
 96 Revenue Act of 1918, §§ 214 (a) 2, 234 (a) 2. 
 9T Revenue Act of 1918, §§214 (b), 234 (b). 
 
NONRESIDENT ALIENS 81 
 
 ration) "only if and to the extent that they are connected with 
 income arising from a source within the United States ; and the 
 proper apportionment of the deductions with respect to sources 
 of income within and without the United States shall be deter- 
 mined under rules and regulations prescribed by the commis- 
 sioner with the approval of the secretary." Under these provi- 
 sions and under the 1916 and 1913 Laws, the attempt was made 
 to allocate deductions by processes of formulas of general appor- 
 tionment in a few cases ; but little progress toward any solution 
 of this problem had been made. In one ruling a Canadian manu- 
 facturing corporation which sold part of its product in the United 
 States and part in Canada was required to report its deductions 
 for cost of manufacture, "exclusive of interest paid on its indebt- 
 edness, in the same proportion as the quantity of its product sold 
 in the United States bore to the total quantity sold.^^ Where 
 under the 1916 and prior laws cerljain expenses, such as coal, 
 ships, stores, etc., in the case of foreign steamship companies, 
 could not be segregated, the total expenses of foreign corpora- 
 tions for such items were pro-rated in such proportion as the 
 gross income of the corporation from sources within the United 
 States bore to the gross income derived from all sources both 
 within and without the United States ; that is to say, if one-half 
 of the gross income of the foreign corporation was from sources 
 within this country, one-half of such expense was a proper deduc- 
 tion.39 II ^ag required under the 1916 Law that the deductions 
 of a foreign corporation should as nearly as possible represent 
 the actual expenses and authorized charges incident to the income 
 derived from this country, and must not comprehend either di- 
 rectly or indirectly any expenditures or charges incurred in the 
 transaction of business or the investment of capital without the 
 United States.i°o A corporation deriving its sole income from this 
 country in the form of dividends or interest on domestic stocks 
 and bonds was permitted under the 1916 Law to deduct from the 
 income so received such items of disbursement, loss, etc., as would 
 be properly deductible, if the income were derived from any other 
 source. The deduction comprehended only such expenditures, 
 losses, etc., as were incurred in or were incidental to the creation 
 of the income against which they were charged, and in all cases 
 
 9S Reg. 45, Art. 573. 
 
 99 T. D. 1675; Reg. 33, Art. 116. Letter from treasury department dated 
 December 8, 1916. 
 
 100 Reg. 33, Rev., Art. 197; Reg. 33, Art. 157. 
 
82 FEDERAL INCOME TAX 
 
 were required to be within the Umits fixed by the 1916 Law.i"^ 
 The principle followed by the treasury department under the 1913 
 Law was that all allowable deductions should be computed upon 
 a basis which recognized that the income arising and accruing 
 from business done in and from this country should bear its 
 share, and no more, of expense incident to the earning or creation 
 of such income in the ratio that the gross income arising in and 
 from this country bore to the entire gross income arising from 
 business done both within and without this country .^os 
 
 The new provisions of the 1921 Law quoted at the beginning 
 of this paragraph represent a distinct progress from the indefi- 
 nite rulings which had previously been the sole guide of the tax- 
 payer in determining net (as distinguished from gross) income 
 from "sources within the United States." Particularly signifi- 
 cant is the provision that a "ratable part of any expenses, losses 
 or other deductions which cannot be definitely allocated to some 
 item or class of gross income" shall be deducted from gross in- 
 come from "sources within the United States," and the corre- 
 sponding provision for the allocation of a "ratable part" of 
 deductions to income from "sources without the United States," 
 and the corresponding provision for the allocation of a "ratable 
 part" of deductions to income from "sources partly within and 
 partly without the United States." ^^^ These provisions will prop- 
 erly allow for a just proportion of foreign overhead expense, de- 
 preciation on property without the country, and any such items 
 which enter into the production of the income from "sources 
 within the United States" as well as the income from other 
 sources. 
 
 Condition to Allowance of Deductions. As a condition to 
 obtaining the benefit of the deductions allowed by the Revenue 
 Act of 1921, nonresident aliens are required to file a true and 
 accurate return of total income received from all sources, cor- 
 porate or otherwise, in the United States, including therein all 
 the information which the commissioner may deem necessary for 
 the calculation/ of such deductions.^"^* The same requirement was 
 contained in the Revenue Act of 1918.1"° 
 
 101 Letter from treasury department dated June 6, 1916; I. T. S. 1921, 
 H 1095. 
 
 102 Letter from treasury department dated July 18, 1916; I. T. S. 1921, 
 111082. , , ^ 
 
 103 Revenue Act of 1921, §217 (b), (d), (e). 
 lOi Revenue Act of 1921, §217 (g). 
 
 105 Revenue Act of 1918, § 217. 
 
NONRESIDENT ALIENS 83 
 
 Credits. Nonresident aliens are permitted a credit of divi- 
 dends for the purpose of the normal tax in certain cases. They 
 are also permitted a credit for purposes of the normal tax of any 
 interest upon obligations of the United States and bonds issued 
 by the War Finance Corporation which is included in gross in- 
 come.^oe This subject is discussed elsewhere in this chapter."'' 
 A nonresident alien individual may receive the benefit of credits 
 only by filing a true and accurate return of his total income 
 received from all sources, corporate or otherwise, in the United 
 States, including therein all the information which the commis- 
 sioner may deem necessary for the calculation of the credits.^"® 
 
 Credit of Tax Withheld at the Source. As the law re- 
 quires the normal tax to be withheld by the one in this country 
 who pays fixed or determinable and annual or periodical income 
 to a nonresident alien,!''^ a due credit for the amount so withheld 
 may be claimed by the nonresident alien in filing his return.^^" 
 The nonresident alien should therefore keep a record of the 
 amount of tax withheld at the source from time to time on pay- 
 ments made to him, and should report the aggregate sum so with- 
 held in his return, in order that the normal tax may not be twice 
 collected with respect to the same income. 
 
 Personal Exemption. Under the present law a nonresident 
 alien is entitled to a personal exemption of only $1,000 and to no 
 credit for dependents."^ This credit will not be allowed unless 
 the nonresident alien files a true and accurate return of income 
 from all sources, but the commissioner may, in his discretion, 
 allow the personal exemption upon the filing of a claim with a 
 withholding agent.^^^ 
 
 Returns. A nonresident alien individual must make or have 
 made on his behalf a full and accurate return of income received 
 
 106 Revenue Act of 1921, §216 (a), (b); Revenue Act of 1918, §216. 
 As to interest received after March 3, 1919, see Chapter 18. 
 
 107 See p. 64. 
 
 108 Revenue Act of 1921, § 217 (g) ; Revenue Act of 1918, § 217. 
 
 109 See Chapter 40. 
 
 110 Revenue Act of 1921, § 221 (d) ; Revenue Act of 1918, § 221 (d). Tele- 
 gram from treasury department dated March 5, 1919; I. T. S. 1919, 113244. 
 
 111 Revenue Act of 1921, §216 (e). A nonresident alien individual, sim- 
 ilarly to a citizen or resident, was entitled, under the 1918 Law, to a personal 
 exemption, and to a credit of $200 for each dependent, except that if he 
 was a citizen or subject of a country which imposed an income tax the 
 personal exemption was allowed only if his country allowed a similar credit 
 to citizens of the United States not residing in such country. The subject 
 of the personal exemption, both as to citizens and residents and as to non- 
 resident aliens, is fully treated in another chapter. See Chapter 31. 
 
 112 Revenue Act of 1921, § 217 (g). See Chapter 40. 
 
84 FEDERAL INCOME TAX 
 
 from sources within the United States, regardless of amount, 
 unless the tax on such income has been fully paid at the source."^ 
 A nonresident alien may have had the tax on all his income aris- 
 ing from sources within this country withheld at the source, 
 although he may be taxable on a lesser amount by reason of 
 expenses, interest, losses and other deductible items or credits. 
 Only by filing a return may he claim these deductions and credits 
 and secure the return to him of any amount withheld in excess of 
 his tax liability. His return must include such information as 
 may be deemed necessary by the commissioner for the calculation 
 of any deductions and credits to which he may be entitled. The 
 personal exemption may be allowed to nonresident aliens in the 
 discretion of the commissioner without the filing of the above 
 return of income from all sources within the United States, credit 
 being received in such case by the filing of a claim therefor with 
 the withholding agent.^^* The commissioner has ruled, however, 
 that for the present the benefit of the credits allowed against net 
 income for the purpose of the normal tax may not be received 
 by a nonresident alien by filing a claim with the withholding 
 agent, but only by claiming them upon filing a return of income. 
 Unless a nonresident alien individual renders a return of income, 
 the tax will as a general rule^^^ j^e collected on the basis of his 
 gross income (not his net income) from sources within the 
 United States. Where a nonresident alien has various sources of 
 income within the United States, so that from any one source or 
 from all sources combined the amount of income calls for the 
 assessment of a surtax, and a return of income is not filed by or 
 on his behalf, the commissioner will cause a return of income to 
 be made, and include therein the income of such nonresident alien 
 from all sources concerning which he has information, and he 
 will assess the tax and collect it from one or more of the sources 
 of income within the United States of such nonresident alien, 
 without allowance of deductions or credits, and may distrain for 
 
 113 Revenue Act of 1921, § 223; Revenue Act of 1918, § 223; Reg. 45, Art. 
 403. Form 1040C was used for this purpose under the 1918 Law. For the 
 year 1918 the same form (Form No. 1040) was prescribed for the use of all 
 individuals, resident and nonresident. A nonresident alien made such 
 changes as were necessary to indicate that the return covered in his case 
 only income from sources within this country. The additional information 
 required in order to compute the amount of deductible interest (deductions 
 and credits under the present law) was made on. a supplementary state- 
 ment attached to the return. 
 
 114 Revenue Act of 1921, § 217 (g); Revenue Act of 1918, § 217. 
 
 115 For the exceptions to this rule see Reg. 45, Art. 316. The exceptions 
 are discussed in Chapter 31. 
 
NONRESIDENT ALIENS 85 
 
 the tax any property belonging to such nonresident alien.ii'^ For 
 the purpose of obtaining a refund of any amount withheld in 
 excess of his tax liability as above indicated, a nonresident alien 
 is required to attach to his return a statement showing accurately 
 the amounts of tax withheld, with the names and postofRce ad- 
 dresses of all withholding agents.^^''' Upon the basis of such in- 
 formation the treasury department thereupon orders the 
 withholding agent to release the excess withheld.^^s 
 
 Returns by Agents. If a nonresident alien is unable to make 
 his own return, it may be made on his behalf by a duly authorized 
 agent and in proper cases may also be made by guardians or 
 other persons charged with the care of the person or property of 
 such taxpayer.119 it should be borne in mind that a nonresident 
 alien may have an agent in this country for the purpose of 
 making returns without having appointed one. The responsible 
 representatives of nonresident aliens in connection with any 
 sources of income which such nonresident aliens may have within 
 the United States must make a return of such income, and must 
 pay any and all tax, normal and additional, assessed upon the 
 income received by them in behalf of their nonresident alien 
 principals, in all cases where the tax on income so in their re- 
 ceipt, custody or control shall not have been withheld at the 
 source. The agent of a nonresident alien is responsible for a 
 correct return of all income accruing to his principal within the 
 purview of the agency. The agency appointment will determine 
 how completely the agent is substituted for the principal for tax 
 purposes.120 Any individual, partnership or corporation having 
 the control, receipt, custody, disposal or payment of fixed or de- 
 terminable income payable to any nonresident alien, such income 
 with certain exceptions being required to be vnthheld at the 
 source, makes a return thereof on or before March 1st of each 
 year and pays the tax due thereon on or before June ISth.^^i 
 
 Where Filed. A nonresident alien files his return»in the dis- 
 trict in which he has his principal place of business in this 
 country, and if he has none, then with the collector of internal 
 revenue at Baltimore, Maryland.122 
 
 lie Revenue Act of 1921, § 217 (g) ; Reg. 45, Art. 311. 
 
 117 Reg. 45, Art. 403; T. D. 2815. 
 
 118 Telegram from treasury department dated January 25, 1917; I. T. S. 
 1918, If 91. 
 
 119 Revenue Act of 1921, § 223; Revenue Act of 1918, § 223. 
 
 120 Reg. 45, Art. 403. See Chapter 5 for a discussion of this ruling. 
 
 121 Revenue Act of 1921, § 221; Revenue Act of 1918, § 221. See Chapters 
 40 and 5. 
 
 122 Revenue Act of 1921, § 227 (b); Revenue Act of 1918, § 227 (b). 
 
86 FEDERAL INCOME TAX 
 
 When Filed. The return of a nonresident alien should be 
 filed on or before June 15th or on or before the 15th day of the 
 sixth month following the close of such nonresident's fiscal year, 
 accordingly as he reports for income tax purposes on the basis 
 of the calendar or a fiscal year.^^s 
 
 Extension of Time. Nonresident aliens are allowed a reason- 
 able extension of time for filing returns whenever in the judg- 
 ment of the commissioner good cause exists therefor.^^* 
 
 Failure to File Return. In general, nonresident aliens are 
 subject to the same penalties for failure to file returns as are citi- 
 zens and residents.^5 If a return is not filed, the deductions and 
 credits allowed by the statute cannot be claimed and the collector 
 will collect the tax on the income of a nonresident alien and all 
 property in the United States belonging to such nonresident alien 
 will be liable to distraint for the tax.i^s 
 
 Paying the Tax. Except in so far as the income tax payable 
 by a nonresident alien is collected at the source ^^7 t^g general 
 provisions in regard to the payment of income taxes apply to 
 nonresident aliens as well as to citizens and residents. The tax 
 is payable in four installments, the first installment being paid at 
 the time the return is filed; the second installment on the 15th 
 day of the third month ; the third installment on the 15th day of 
 the sixth month; and the fourth installment on the 15th day of 
 the ninth month, after filing the return. This subject is dis- 
 cussed more fully in another chapter.^^s 
 
 Abatement and Refund. If upon the filing of the return it 
 appears that the nonresident alien is liable for less tax than the 
 amount which has been withheld at the source, the treasury de- 
 partment will issue instructions to the withholding agents 
 (whose names and addresses should be given by the nonresident 
 alien in his return) to release at once the proper amounts.^29 
 After the tax has been assessed against the withholding agents 
 by the government, abatement may be claimed, and after the tax 
 
 las Revenue Act of 1921, § 227 (a) ; Revenue Act of 1918, § 227 (a). Under 
 the 1918 Law this date was the same as in the case of citizens and residents. 
 
 124 Revenue Act of 1921, §227 (a); Revenue Act of 1918, §227 (a). See 
 Chapter 34. 
 
 125 See Chapter 36. 
 
 12c Revenue Act of 1921, § 217 (g) ; Revenue Act of 1918, § 217. 
 
 127 See Chapter 40. 
 
 12s See Chapter 35. 
 
 129 Revenue Act of 1921, §221 (d); Revenue Act of 1918, §221 (d); Reg. 
 45, Art. 369. Telegram from treasury department dated January 25, 1917; 
 I. T. S. 1918, H 91. 
 
NONRESIDENT ALIENS 87 
 
 has been paid, refund may be claimed; in the manner outlined in 
 a later chapter .i^o 
 
 When a claim for refund is filed by aliens, resident or nonresi- 
 dent, on Form 46, a copy of the form upon which the alien was 
 assessed and taxed should be attached to Form 46.^^^ 
 
 130 See Chapter 37. 
 
 131 O. D. 272, T. B. 18-19-488. 
 
CHAPTER 5 
 
 RESIDENT AGENTS FOR NON-RESIDENT ALIENS AND FOREIGN 
 CORPORATIONS — NOMINAL STOCKHOLDERS 
 
 The Revenue Act of 1921 expressly provides for the collection 
 of the tax at the source on payment of certain specified forms of 
 income to nonresident aliens, partnerships composed in whole or 
 in part of nonresident aliens and noresident foreign corpora- 
 tions.^ The persons required to withhold and account for the 
 tax are designated in the law as withholding agents.^ The treas- 
 ury department, in addition, has followed under the 1918 Law 
 a method of collecting the tax on income liable to pass out of 
 its jurisdiction, which it evolved under the 1916 Law and which 
 consists in impressing upon residents, under certain circum- 
 stances, the duty of filing returns and paying the normal tax 
 and the surtax on any and all income of nonresident aliens and 
 nonresident foreign corporations over which they have custody 
 or control.^ Under the present law this duty will also be imposed 
 with respect to income of partnerships composed in whole or in 
 part of nonresident aliens. Such persons are held to be agents 
 of the nonresidents and to stand in the place of their principals.* 
 A withholding agent may or may not, depending on the circum- 
 stances, be an agent within the meaning of this chapter.^ 
 
 Lack of Authority Under Present Law. Neither the Revenue 
 Act of 1918 nor the Revenue Act of 1921 contain any provision 
 expressly making an agent liable for the surtax — or the normal 
 tax upon income which is not both fixed or determinable and 
 annual or periodical imposed upon his principal with respect to 
 income passing through the hands of such agent.*' The com- 
 missioner has nevertheless ruled that the responsible representa- 
 
 1 Revenue Act of 1921, §§ 221 and 237. Partnerships were not included 
 under the 1918 Law. Revenue Act of 1918, §§ 221, 237. Under the 1916 
 Law agents for foreign partnerships were not required to make any returns 
 or pay any taxes for the foreign partnerships unless and until they were so 
 instructed by the commissioner. (T. D. 2401.) This was because a part- 
 nership was not itself subject to tax or required to make returns. 
 
 2 Revenue Act of 1921, §200; Revenue Act of 1918, §200. See Chapter 
 40. 
 
 3 Reg. 45, Art. 404. 
 
 *Reg. 45, Art. 404; T. D. 2135. 
 
 5 See p. 89 for a discussion of this distinction. 
 
 6 See Revenue Act of 1916, §9 (g). The treasury department evidently 
 based its authority to impose upon resident agents the duties discussed in 
 this chapter upon this section of the 1916 Law (T. D. 2452). 
 
 88 
 
RESIDENT AGENTS FOR NONRESIDENT ALIENS 89 
 
 tives of nonresident aliens in connection with any sources of in- 
 come which such nonresident aliens may have within the United 
 States, must make a return of such income, and must pay any 
 and all tax, normal and additional, assessed upon the income 
 received by them in behalf of their nonresident alien principals, 
 in all cases where the tax on income so in their receipt, custody 
 or control shall not have been withheld at the source. The agent 
 of a nonresident alien is responsible for a correct return of all 
 income accruing to his principal within the purview of the agency. 
 The agency appointment will determine how completely the agent 
 is substituted for the principal for tax purposes.''^ 
 
 Distinction Between Withholding and Resident Agents. The 
 distinction between withholding agents and resident agents may 
 be indicated from two angles: (a) Their respective services in 
 securing to the government the payment of the income tax of 
 nonresident alien individuals, partnerships composed in whole or 
 in part of nonresident aliens and nonresident foreign corporations 
 and (b) the character of their respective relationships to the 
 taxpayer for whose tax they are responsible. As appears more 
 fully in a subsequent chapter, the provisions for the collection 
 of the tax at the source apply only to the normal tax and then 
 only in the case of income which is both (1) fixed or determinable 
 and (2) annual or periodical.* Obviously, a large part of the 
 income accruing to nonresident aliens, individually and in part- 
 nership, and nonresident foreign corporations from sources 
 within the United States is not both fixed or determinable and 
 annual or periodical, and a large part would, because of its amount 
 (combined or not with other items of income to the same recipi- 
 ent from sources within the United States) be liable to the sur- 
 
 7 Reg. 45, Art. 404. It may be argued that the commissioner has author- 
 ity under § 223 of the Revenue Act of 1921 and the Revenue Act of 1918 
 which provides that "if a taxpayer is unable to make his own return, the 
 return shall be made by a duly aiithorized agent * * * qj- other 
 person charged with the care of the person or property of such taxpayer" 
 to compel resident agents to file returns on behalf of their nonresident 
 principals, but this section certainly gives no authority for imposing the 
 duty to pay any tax. It seems clear that this deficiency of authority in 
 the present law should be remedied by prompt amendment, since otherwise 
 large sums of just taxes payable by nonresident aliens and nonresident for- 
 eign corporations may be lost to the government. A resident fiduciary is 
 not liable for surtax on the income which it received as trustee for a non- 
 resident alien beneficiary, under the Revenue Act of 1917, provided the 
 income was returned for the purpose of the tax by the beneficiary. (O. D. 
 1011, T. B. 12-20-798.) 
 
 8 Reg. 45, Art. 362. See Chapter 40. 
 
90 FEDERAL INCOME TAX 
 
 taxes. The ordinary withholding provisions^ of the present law 
 therefore provide insufficient security for the collection of the 
 normal tax upon the income of nonresident aliens and nonresident 
 foreign corporations from sources within the United States and 
 no security whatever for the collection of the surtax upon such 
 income. The placing of a responsibility upon so-called resident 
 agents fills this deficiency. Withholding agents insure the col- 
 lection of the normal tax upon income which is both fixed or 
 determinable and annual or periodical; resident agents insure 
 the collection of the normal tax upon income not falling within 
 these rigid classifications and of the surtax upon income with- 
 out regard to any classification. The distinction between with- 
 holding agents and resident agents frofti the viewpoint of their 
 respective relationships • with the taxpayer is not so clear. A 
 withholding agent is defined in the law^" as "any person required 
 to deduct and withhold any tax." In brief, a person is required 
 to deduct and withhold the normal tax, in the case of nonresident 
 aliens, partnerships with nonresident alien members and non- 
 resident foreign corporations, upon the payment of fixed or de- 
 terminable and annual or periodical income.^^ The relationship 
 of the withholding agent to the taxpayer whose tax is withheld 
 is an artificial relationship and arises in all cases where the rela- 
 tionship of debtor and creditor exists and the parties contemplate 
 payment in a certain manner. As a matter of fact, a withholding 
 agent is primarily a,n agent of the government, not the taxpayer. 
 On the other hand, a resident agent's status depends neither on 
 the relationship of debtor and creditor nor on the manner of 
 payment contemplated for the debt. Thus, a bank is not a resi- 
 dent agent for its nonresident depositors where the relationship 
 is merely that of bank and depositori^ (i. e., ordinarily debtor 
 and creditor) , but a bank acting as the custodian of securities on 
 which it collects and disburses interest would be a resident 
 agent.i^ In other words, a resident agent is at least to some 
 degree an agent of the taxpayer as well as of the government; 
 and being an agent of the taxpayer, he must derive his appoint- 
 ment and authority from some act or conduct of the principal, 
 
 '9 Revenue Act of 1921, §§221, 237; Revenue Act of 1918, §§221, 237. 
 
 10 Revenue Act of 1921, §200; Revenue Act of 1918, §200. 
 
 "Revenue Act of 1921, §§221, 237; Revenue Act of 1918, §§221, 237. 
 
 12 Reg. 33, Art. 67; letter from treasury department dated February 8, 
 1917; I. T. S. 1918, 1[106. 
 
 13 Letter from treasury department dated April 10, 1916; L T. S. 1919, 
 Tf560. 
 
RESIDENT AGENTS FOR NONRESIDENT ALIENS 91 
 
 such as a power of attorney, or fiduciary relation existing be- 
 tween himself and the taxpayer.^* 
 
 Definition. In order to simplify the discussion in- the following 
 pages of this chapter the term "nonresidents" will be used to 
 include nonresident alien individuals, partnerships composed in 
 whole or in part of nonresident aliens and nonresident foreign 
 corporations, i. e., foreign corporations having no office or place 
 of business in this country. 
 
 Who Are Resident Agents. A resident corporation, partner- 
 ship or individual may be an agent within the meaning of this 
 chapter. The following have been held to be such resident 
 agents: (a) Residents acting by power of attorney for non- 
 residents; (b) responsible heads or representatives in charge of 
 property owned or business carried on by non-residents in this 
 country; 15 (c) resident nominal stockholders holding stock in 
 their names for nonresident actual owners ;i6 ((j) residents hav- 
 ing custody of securities of nonresidents on which they collect 
 the income, both with respect to the income and with respect to 
 any profits made from the sale of the securities ;i''^ (e) residents 
 purchasing patent rights from nonresidents and paying royalty 
 thereon; IS (f) real estate agents managing buildings owned by 
 nonresidents.!^ A domestic corporation purchased abroad from 
 a foreign corporation goods at a minimum price for resale in the 
 United States. If sold for more than the minimum price, the 
 domestic corporation was to receive a commission and after 
 deducting certain expenses and the commission, the net profit 
 was divided between the domestic corporation and the foreign 
 corporation. The share of the profits so received by the foreign 
 corporation represents income from sources within the United 
 States, but is not subject to the withholding provisions of the 
 Revenue Act of 1918, since it is not "fixed or determinable in- 
 come" within the meaning of the act. However, the domestic 
 corporation acting as agent of the foreign corporation with re- 
 
 1* The following language of Reg. 45, Art. 404, should be noted in this con- 
 nection: "The agency appointment will determine how completely the agent 
 is substituted for the principal for tax purposes.'' (See also Reg. 33, Rev., 
 Art. 32.) 
 
 15 Reg. 33, Art. 8; T. D. 2313. 
 
 16 See p. 95. 
 
 17 Letter from treasury department dated May 31, 1916; I. T. S. 1918, 
 If 105. For the purpose of reporting profits made from the sale of the 
 securities such agents are required to obtain all facts necessary to ascertain 
 the profit in any transaction. 
 
 18 T. D. 2137. 
 
 19 Letter from treasury department dated January 19, 1915; I. T. S. 1918, 
 T[99. 
 
92 FEDERAL INCOME TAX 
 
 spect to goods sold in the United States must file a return of 
 income for the foreign corporation and pay any tax found to 
 be due.2o An insurance broker in the United States who solicits 
 and procures insurance in nonresident alien corporations, collects 
 the premiums thereon, and credits the account of the respective 
 corporations with the net proceeds after deductions for losses 
 are made, is considered the resident agent of such foreign cor- 
 porations with respect to the business obtained through his 
 efforts. Where the insurance broker transacts business in the 
 United States for certain nonresident foreign corporations and 
 pays the premiums to a nonresident alien individual who acts as 
 agent for the nonresident foreign corporations it has been held 
 that the insurance broker must file returns for each nonresident 
 foreign corporation, covering the gross income received from 
 sources within the United States within the purview of his 
 agency, claiming therein any deductions to which the corpora- 
 tions are entitled by reason of losses sustained and pay the total 
 tax due thereon.^i 
 
 Who Are Not Resident Agents. The following have been held 
 not to be resident agents within the meaning of this chapter: 
 (a) Corporations paying interest on their own bonds or dividends 
 on their own stock to nonresidents, bondholders or stockholders, 
 although they are withholding agents for the purpose of collec- 
 tion of the tax at the source ; (b) resident debtors, individual or 
 partnership, although they are required to withhold the tax at 
 the source on interest paid to nonresident aliens; (c) banks, 
 where their relation to their nonresident depositors is merely 
 that of bank and depositor; 22 (d) banks receiving interest or 
 dividends direct from domestic corporations to be credited to 
 the accounts of nonresident depositors ;23 (e) banks holding for 
 the account of foreign banks and bankers securities on which 
 they collect and disburse interest to the foreign banks and 
 bankers; 2* (f) an individual, partnership, or corporation, occupy- 
 ing or standing in the ordinary relation of broker towards a 
 
 20 O. D. 384, T. B. 4-20-708. 
 
 21 O. D. 586, T. B. 28-20-1062. 
 
 22 Banks are held not to be withholding agents with respect to interest paid 
 on deposits. (Reg. 33, Art. 67.) 
 
 23 Letter from treasury department dated February 8, 1917; I. T. S. 1918, 
 11106. 
 
 24 Letter from treasury department dated April 10, 1916; L T. S. 1919, 
 H 560. Where the bank however acts as custodian of securities for nonresi- 
 dents other than banks it seems that it is a resident agent. Rulings however 
 are not clear or consistent on this point. 
 
RESIDENT AGENTS FOR NONRESIDENT ALIENS 93 
 
 nonresident as client, although he or it may be required to with- 
 hold the tax as a withholding agent.^s 
 
 Duties and Liabilities of Resident Agents. The responsible 
 heads or representatives of nonresident aliens in connection with 
 any sources of income which such nonresident aliens may have 
 within the United States, are required to make a return of such 
 income and to pay any and all tax, normal and additional, as- 
 sessed upon the income received by them in behalf of their non- 
 resident alien principals, in fill cases where the income tax on 
 income so in their receipt, custody, or control shall not have been 
 withheld at the source.^^ They are under no duty to inquire into 
 or report any income of the nonresident principal received from 
 other sources in this country, but may, if authorized by the non- 
 resident principal, make a complete return of all income from 
 sources within this country. Where the same nonresident has 
 several agents, none of whom is authorized to .make a return 
 of all the principal's income, each agent reports separately the 
 income coming into his hands, and the treasury department takes 
 into consideration the aggregate amount of net income covered 
 by all of the returns, in assessing the tax, making a further as- 
 sessment to cover any surtax which may be due, in the case of 
 individuals, on the aggregate income.^^ Of course, if the non- 
 resident principal files a return of all his income from sources 
 within this country, the agents are not also required to file re- 
 turns. Resident agents, therefore, ascertain in due time whether 
 or not their nonresident principals intend to report their income 
 from sources within the United States and to pay the tax due 
 thereon, and govern themselves accordingly. 
 
 Procedure in Collecting Income for Nonresidents. In collect- 
 ing income subject to withholding of the tax at the source, the 
 resident agent is required to execute the ownership certificate 
 required of his nonresident principal, signing it with the name of 
 the principal and affixing his own signature as agent.^s In brief, 
 with respect to such income, he is required to proceed as if he 
 
 25 Letter from treasury department dated April 17, 1918; 'I. T. S. 1921, 
 TI 1723. In the hypothetical case upon which this ruling was based the non- 
 resident client maintained an account with the broker, occasionally buying 
 some securities on margin and selling some from time to time, interest being 
 charged on balances due and dividends as paid on the stocks carried and 
 credited to the account. All dealings were in response to directions from 
 the nonresident. 
 
 28 Reg. 45, Art. 404; Reg. 33 Rev., Art. 32. 
 
 27 Letter from treasury department dated March 6, 1917; I. T. S. 1918, 
 11114. 
 
 28 See Chapter 40. 
 
94 FEDERAL INCOME TAX 
 
 were the nonresident principal, in whose place he stands for 
 the purpose of the income tax. The fact that the nonresident has 
 an agent here does not relieve his income from withholding at 
 the source when paid to such agent. The appointment by a non- 
 resident alien banking corporation of a resident agent in the 
 United States who has authority to make returns for the corpo- 
 ration will relieve a domestic bank from the responsibility of 
 withholding the tax from the interest credited to the account 
 of the foreign bank provided the agent furnishes a certificate 
 stating that the foreign corporation has an office or place of 
 business in the United States and that he will make all necessary 
 returns and pay the taxes shown to be due.^" 
 
 Making Returns for Nonresident Principal. In making the 
 annual return for his nonresident principal a resident agent is 
 required to use the same form as would be used by the principal^" 
 and follow the provisions of the law and the regulations relating 
 to nonresident aliens or foreign corporations, as the case may 
 be, in claiming deductions. In the affidavit at the end of the 
 individual's form, to be executed by the agent, a statement is 
 required to be made that the return covers only the income 
 received by the agent, or that it covers all the income of the 
 principal from sources within the United States, as the case may 
 be. The affidavit on the corporation's form is prepared for exe- 
 cution by two officers of the corporation, when the return is 
 signed by an agent for a foreign corporation, an affidavit that' 
 he is the properly authorized agent, and that the report covers 
 income from all sources within the United States, or income 
 passing through his hands, as the case may be, is required to 
 be attached to the return and duly executed. The return may be 
 filed in the district in which the agent resides or has his principal 
 place of business. 
 
 Paying the Tax for Nonresident Principal. Under the 1918 
 Law the tax of a nonresident became due and payable at the same 
 time and in the same manner as the tax of a resident, and might 
 be paid in the same way.^i Under the present law the tax on 
 
 29 0. D. 358, T. B. 1-20-661. 
 
 30 See Chapter 34 for forms. 
 
 31 A special ruling was made to cover cases in 1916, where the agent for 
 a nonresident alien had received income from corporate interest or divi- 
 dends and paid the same over to his principal prior to September 8th. In 
 such cases, if the agent did not have, between September 8th and the end 
 of the year, any income of the nonresident alien from which to pay the 
 tax he was relieved from liability, leaving the tax a charge against the 
 nonresident alien to be collected direct from him by the treasury department, 
 (T. D. 2402.) A like special ruling was made to cover cases in 1917 where 
 
RESIDENT AGENTS FOR NONRESIDENT ALIENS 95 
 
 nonresidents does not become due and payable until three months 
 after the due date for residents. Upon paying the tax, the agent 
 may demand a separate receipt for the amount paid on behalf 
 of his nonresident principal, and such receipt is sufficient evidence 
 to justify the agent in withholding the amount therein stated 
 from his next payment to the principal, if he has not already 
 withheld an amount sufficient to satisfy the tax. The principal 
 may demand this receipt from the agent upon giving him a full 
 written receipt acknowledging the payment of the tax as a satis- 
 faction of the agent's debt to that extent.^^ 
 
 Nominal Stockholders. For convenience in handling financial 
 transactions, stock certificates are sometimes issued in the names 
 of others than the actual owners of the stock. The individuals, 
 partnerships or corporations so holding the nominal title to the 
 stock are known as nominal stockholders or stockholders of 
 record.^^ A nominal stockholder is not a withholding agent, 
 although under the 1916 Law he might have been one if the 
 actual owner was a nonresident • foreign corporation. The dis- 
 tinction between a nominal stockholder and a fiduciary lies in the 
 fact that the latter holds legal title to stock (if that is the subject 
 of the trust), while a nominal stockholder may hold no title at 
 all, the stock merely standing in his name on the books of the 
 corporation. Nominal stockholders may acquire their status by 
 arrangement with the actual owners, as where a broker carries 
 in his name the stock of a customer, in which event fhe name 
 and status of the actual owner is known ; but in some cases the 
 names of the actual owners may not be known to the nominal 
 stockholder as, for instance, where the actual ownership is evi- 
 denced by bearer certificates.^* In other cases, notably when 
 large amounts of stock are left in the names of stock exchange 
 
 the agent for a nonresident alien had received income and paid the same 
 over to his principal prior to October 3, but where the agent received the 
 income of his principal subsequent to October 3 he vyas obliged to pay the 
 total tax due for the entire year 1917 and subsequent years. (Reg. 33 
 Rev., Art. 32.) AS the 1918 Lavir did not go into effect until February 25, 
 1919, the agent would undoubtedly only be held for tax on income passing 
 through his hands up to that date, at the rates prescribed by the Revenue 
 Act of 1916. Under the present law no change in rates occurs until Jan- 
 uary 1, 1922, and the same rule should apply. (See Reg. 45, Art. 361, where 
 this situation is treated in connection with the collection of the tax at the 
 source.) 
 
 32 Revenue Act of 1921, § 251 ; Revenue Act of 1918, § 251. 
 
 33 They are generally called "record owner" in the regulations. See Reg. 
 45, Art. 405. 
 
 34 The procedure under the 1916 Law applicable to such situations is in- 
 dicated at the end of this chapter. 
 
96 FEDERAL INCOME TAX 
 
 houses, one may become a nominal stockholder without knowing 
 the identity of the actual owner. Thus, stock certificates en- 
 dorsed in blank by an actual owner, and sold on the market, 
 may pass by delivery to several consecutive purchasers before 
 the stock is transferred on the books of the corporation. In such 
 cases, the original transferor remains the record owner until the 
 transfer is made on the corporate books, and, as such, he is pre- 
 sumed to be the real owner of dividends declared on the stock, 
 unless he proves that actual ownership of the stock does not rest 
 in him.35 If, however, a nominal stockholder not only parts with 
 the certificate of stock, endorsed in blank, but also gives the 
 corporation a "dividend order" to pay dividends to another, his 
 responsibility for tax on such dividends ceases, and the one to 
 whom the corporation pays the dividend becomes liable for any 
 tax thereon, unless he in turn shows that actual ownership does 
 not rest in him. A nominal stockholder receiving dividends and 
 paying them over to one claiming to be the actual owner is re- 
 quired to ascertain the name and address of such claimant and 
 proceed as indicated below.^^ 
 
 Application of 1918 Law and Present Law to Nominal 
 Stockholders. The treasury department based its authority 
 for the rules and regulations issued under the 1916 Law in regard 
 to withholding on dividend income against nonresident foreign 
 corporations on the basis of apparent ownership, upon the pro- 
 vision37 of the 1916 Law that "all the provisions of this title 
 relating to the tax authorized and required to be deducted and 
 withheld and paid to the officer of the United States govern- 
 ment authorized to receive the same from the income of non- 
 resident alien individuals from sources within the United States 
 shall be made applicable to income derived from dividends upon 
 the capital stock or from the net earnings of domestic or other 
 resident corporations, joint-stock companies or associations, and 
 insurance companies by nonresident alien companies, corpora- 
 tions, joint-stock companies, or associations, and insurance com- 
 panies not engaged in business or trade within the United States 
 and not having any office or place of business therein." This 
 provision was separate from and additional to the general with- 
 holding provisions^ of the 1916 Law which expressly excepted 
 
 35 Letter from treasury department dated December 28, 1916 ; I. T. S. 
 1918, 11274. 
 
 36 The regulations on this subject refer only to dividends of domestic cor- 
 porations and resident foreign corporations. Reg. 45, Art. 404. 
 
 37 Revenue Act of 1916, §13 (f). 
 
 38 Revenue Act of 1916, §9 (b). 
 
RESIDENT AGENTS FOR NONRESIDENT ALIENS 97 
 
 from its scope "income derived from dividends on capital stock, 
 or from the net earnings of a corporation, joint-stock company 
 or association, or insurance company, which is taxable upon its 
 net income as provided in this title." The treasury department 
 based its authority for requiring the tax to be paid on dividend 
 income of nonresident alien individuals by nominal stockholders 
 or record owners upon the provision^f of the 1916 Law that "the 
 intent and purpose of this title is that all gains, profits, and in- 
 come of a taxable class, as defined by this title, shall be charged 
 and assessed with the corresponding tax, normal and additional, 
 prescribed by this title, and said tax shall be paid by the owner 
 of such income, or the proper representative having the receipt, 
 custody, control, or disposal of the same." The general with- 
 holding provision*" of the Revenue Act of 1918 expressly ex- 
 cepted from its scope "income received as dividends from a cor- 
 poration which is taxable under this title on its net income," 
 and contains no provision corresponding to the provision of the 
 1916 Law quoted above applying its general withholding require- 
 ments to income derived from dividends received by nonresident 
 foreign corporations or making an agent liable for the surtax 
 imposed upon his principal with respect to income passing 
 throtigh the hands of such agent. The 1918 Law does provide 
 for withholding in the case of dividends other than those in- 
 cluded in the above exception, but as such other dividends would 
 not be taxable in the hands of nonresidents, the law in that re- 
 spect appears to be an anachronism. The reason for the failure 
 (with the exception just mentioned) of the 1918 Law to provide 
 for withholding against nonresident foreign corporations as to 
 income derived from dividends is that foreign corporations, as 
 well as domestic corporations, were entitled to deduct from 
 gross income, in computing net income, "amounts received as 
 dividends from a corporation which is taxable upon its net in- 
 come, and amounts received as dividends from a personal service 
 corporation out of earnings or profits upon which income tax 
 has been imposed by act of Congress." ^^ Under the 1918 Law, in 
 practical effect, no withholding from corporate dividends was 
 required in any case,*^ and the responsibility of a nominal stock- 
 holder pertained only to the surtax for which a nonresident in- 
 dividual actual owner might be liable. He was a resident agent 
 
 39 Revenue Act of 1916, § 9 (g) . 
 
 40 Revenue Act of 1918, §§ 221 and 237. 
 
 41 Revenue Act of 1918, § 234 (a) 6 and (b). Reg. 45, Art. 363. 
 
 42 See p. 88 in regard to the deficiency of authority in the commissioner 
 under the present law in this connection. 
 
98 FEDERAL INCOME TAX 
 
 within the meaning of this chapter as to dividend income, but 
 since the dividends of domestic or resident corporations were 
 in no case subject to the normal tax, his liability was some- 
 what narrower than the liability of other resident agents.''^ 
 
 A full discussion of the taxability, under the present law, of 
 dividends in the hands of nonresidents is contained in the pre- 
 ceding chapter and it will be seen from that discussion that the 
 duties of withholding agents and resident agents with respect 
 to income from dividends will be the same under the present law 
 as under the 1918 Law. 
 
 Procedure when Nominal Stockholder Is a Resident and 
 Actual Owner Is a Resident. In cases where both the nominal 
 stockholder and the actual owner are residents of the United 
 States, the nominal stockholder is not required to obtain any 
 certificate disclosing the name of the actual owner. The primary 
 purpose of requiring disclosure of the actual owner is to assist 
 in administering that provision of the law which makes dividends 
 on the stock of domestic or resident foreign corporations liable 
 to surtax when paid to nonresident alien individuals.** The 
 actual owner is, of course, in all cases obligated to report the 
 dividends and pay the surtax thereon, if he is liable ; the nominal 
 stockholder is under no duty to report the dividends as his in- 
 come, but should be prepared to show conclusively, if question 
 arises, that actual ownership does not rest in him.''^ If a nominal 
 stockholder pays over the dividends to a resident whom he knows 
 to be the agent of a nonresident alien, he. is under no duty as 
 agent, since it is the one who collects the dividend for a non- 
 resident, or who finally pays it over to a nonresident, who has 
 impressed upon him the duty of a resident agent. 
 
 Procedure Where Nominal Stockholder Is Resident and 
 Actual Owner Is Non-resident.**^ In this case it is immaterial 
 whether the nominal stockholder is an individual, partnership, or 
 corporation, since irrespective of his or its individual or corporate 
 status, the nominal stockholder may be held responsible as resi- 
 dent agent for the surtax payable by the actual owner upon divi- 
 dends. It was ruled under the 1918 Law that in all cases where 
 
 43 See letter from treasury department dated November 21, 1916 ; I. T. S. 
 1918, % 272, dealing with the 1916 Law. 
 
 44 Letter from treasury department dated November 21, 1916 ; I. T. S. 
 1918, 11272. 
 
 45 Letter from treasury department dated November 21, 1916 ; I. T. S. 
 1918, H 272. 
 
 46 For the procedure under the 1916 Law see Reg. 33 Rev., Arts. 32 and 201 ; 
 T. D. 2301; letter from treasury department dated June 6, 1918; I. T. S. 
 1918, 113528. 
 
RESIDENT AGENTS FOR NONRESIDENT ALIENS 99 
 
 the actual owner is a nonresident alien individual and the record 
 owner is a person in the United States, the record owner will be 
 considered for tax purposes to have the receipt, custody, control 
 and disposal of the dividend income and will be required to make 
 return for the actual owner, regardless of the amount of the 
 income, and to pay any surtax found by such return to be due.*'' 
 If the actual owner is an individual, the return made by the 
 nominal stockholder on his behalf may show that a surtax is 
 due, since individuals are liable to the surtax. If, however, the 
 actual owner is a partnership or corporation, the return made by 
 the nominal stockholder on its behalf will not show any surtax 
 to be due, since partnerships are not subject to any income 
 tax as such,*s and corporations are not liable to the surtax.** 
 
 Procedure Where Nominal Stockholder Is Non-Resident 
 AND Actual Owner Is Resident.™ In this case, whether the 
 actual owner is an individual, partnership, or corporation is 
 immaterial, since the residence, of the actual owner within the 
 United States dispenses with the necessity of impressing the duty 
 of the resident agent on the nominal stockholder. It was ruled 
 under the 1918 Law that dividends on the stock of domestic 
 or resident foreign corporations are prima facie income of the 
 record owner of the stock, and such record owner will be liable 
 for any additional tax based thereon, unless a disclosure ^^ of the 
 actual ownership is made to the commissioner which shall show 
 that the record owner is not the actual owner and who the owner 
 is and his address.^^ jf the nominal stockholder is an individual 
 and fails to make this di^losure, the dividends will, therefore, 
 be subject to surtax as if they belonged to the individual nominal 
 stockholder. If the nominal, stockholder is "a partnership, and 
 fails to make such disclosure, the dividends will be regarded 
 as incomers of the partnership, to be reported in the information 
 return of the partnership, and such dividends will ultimately 
 be subject to surtax in the hands of the individual partners. If 
 the nominal stockholder i§ a corporation and fails to make such 
 disclosure, the dividends will be regarded as income of the 
 corporation. But since dividends paid by domestic or resident 
 foreign corporations are deductible from gross income when 
 
 « Reg. 45, Art. 405. 
 
 48 Revenue Act of 1921, § 218; Revenue Act of 1918, § 218. 
 
 49 Reg. 33, Art. 185. 
 
 50 See Note 46. ' I : i 
 
 51 This disclosure is made on Form No. 1087 (revised) . 
 
 52 Reg. 45, Art. 405. 
 
 53 Revenue Act of 1921, §224; See Revenue Act of 1918, §224. 
 
100 FEDERAL INCOME TAX 
 
 received by corporations, domestic or foreign.^* they will not be 
 taxable income in this event and it follows that a corporation 
 need not make such disclosure. 
 
 Procedure in Case of Dutch Administration Offices. Un- 
 der the 1916 Law a special ruling having application to many 
 similar situations in foreign countries was made with respect 
 to the so-called "Administration Offices" in Holland. It appears 
 that the Dutch Administration Offices are the registered owners 
 6f large blocks of American stocks, against which they have 
 issued bearer certificates, with coupons attached. These coupons, 
 upon presentation and surrender, entitle the bearer to dividends 
 declared on the stocks. The administration offices were held to 
 be prima facie liable for the tax on dividends paid on the stock 
 standing in their names, unless they disclosed the names of the 
 actual owners by use of the proper certificates.^^ gy appointing 
 an agent in the United States they could avoid having the tax 
 withheld at the source. Such agent was required to make returns 
 of income for the Dutch administration office represented by him 
 and pay the corporation tax of 2% on all dividends received by 
 it, except such amounts as were shown by certificates disclosing 
 actual ownership to have been received for the account of non- 
 resident alien individuals or partnerships. Such certificates were 
 attached to and made the basis of the return when filed.^^ 
 
 Certificates Issued to Bearer. When stock of an American 
 corporation is floated in some European countries, where in- 
 vestors are accustomed to bearer stock certificates, a block of 
 the stock is sometimes issued to a trust company in this country 
 which in turn issues bearer certificates entitling the holder to 
 certificates of stock for the number of shares designated, upon 
 the surrender of the bearer certificates, and to any dividends 
 which may be declared on such shares while the bearer certificate 
 is outstanding. The bearer certificates pass by delivery, the divi- 
 dends being claimed through foreign banks by presentation and 
 surrender of numbered coupons, attached thereto. In such cases 
 the trust company was, under the 1916 Law, in the position of a 
 resident nominal stockholder. Under the present law the rule 
 
 54 Revenue Act of 1921, § 234 (a) (6) ; Revenue Act of 1918, § 234 (a) 
 6, (b). 
 
 55 Disclosure was made on Form No. 1087. 
 
 58 T. D. 2386; T. D. 2669. This ruling was based on the theory that the 
 Dutch Administration offices were "nonresident alien corporations," subject 
 to tax on dividends and to having the tax withheld at the source. Since the 
 Revenue Acts of 1918 and 1921 do not tax corporations on dividends re- 
 ceived by them, it seems that only on some other theory can they be re- 
 quired to ascertain and disclose the names of the ovraers of their bearer 
 
RESIDENT AGENTS FOR NONRESIDENT ALIENS 101 
 
 would still seem to apply, and where the actual owner is a non- 
 resident alien individual the trust company will be required to 
 make return for such actual owner and pay the surtax found 
 to be due.5'' 
 
 certificates, under the present law. Neither the law nor the latest regula- 
 tions have provided for the case of a foreign corporation nominal stock- 
 holder and a nonresident alien actual owner. 
 
 57 See Reg. 45, Art. 405. Form 1087 should be used to disclose actual 
 ownership when the owner is a nonresident alien. 
 
CHAPTER 6 
 
 FIDUCIARIES 
 
 The Revemie Acts of 1918 and 1921 have in general clarified 
 rather than changed the provisions of the 1916 Law fixing the 
 special duties and responsibilities of fiduciaries. Fiduciaries are 
 classed as individuals under the law, irrespective of their status, 
 individual or corporate, and may be required to make returns of 
 income or returns of information, according to the character 
 of their relationship with their beneficiaries or the nature of 
 the income constituting the subject of the trust. In certain 
 cases trust estates are taxed as entities in which cases the fidu- 
 ciary is required to pay the tax for the estate ; in other cases the 
 law, ignoring the entity of the trust estate, taxes the income in 
 the hands of the beneficiary, in which event the fiduciary is not 
 required to pay any tax upon the estate. The Revenue Act of 
 1921 contains a new provision concerning trusts, part of the 
 income of which is distributable and part of which is to be held 
 for future distribution i as well as a provision with respect to 
 trusts created by employers as part of a stock bonus or profit- 
 sharing plan.2 The provisions of law and regulations pertaining 
 particularly to fiduciaries and trust estates are indicated below. 
 
 Trusts Created by Employers. The Revenue Act of 1921 con- 
 tains a new provision with respect to trusts created by employ- 
 ers as a part of a stock bonus or profit-sharing plan for the 
 benefit of employees. It provides that a trust created by an 
 employer as a part of a stock bonus or profit-sharing plan 
 for the exclusive benefit of some or all of his employees, to which 
 contributions are made by such employer, or employees, or 
 both, for the purpose of distributing to such employees the earn- 
 ings and principal of the fund accumulated by the trust in ac- 
 cordance with such plan, shall not be taxable as an estate or trust, 
 but the amount actually distributed or made available to any 
 distributee will be taxable to him in the year in which so distrib- 
 uted or made available to the extent that it exceeds the amounts 
 paid in by him. Such distributees will for the purpose of the 
 normal tax be allowed as credits that part of the amount so 
 distributed or made available as represents the items ordinarily 
 allowed as credits to individuals.^ 
 
 1 Revenue Act of 1921, §219 (e). 
 
 2 Revenue Act of 1921, §219 (f). 
 
 3 Revenue Act of 1921, § 219 (f ) . 
 
 102 
 
FIDUCIARIES 103 
 
 Who Are Fiduciaries. The term "fiduciary" is defined to mean 
 a "guardian, trustee, executor, administrator, receiver, conserva- 
 tor, or any person acting in any fiduciary capacity for any person, 
 trust or estate."* In view of the definition of the word "person" 
 used in this definition,^ a corporation, partnership, joint-stock 
 company or insurance company may be a fiduciary under the 
 law. It has been held that a fiduciary for income tax purposes is 
 one who holds in trust an estate to which another has the benefi- 
 cial title or in which another has a beneficial interest, or receives 
 and controls the income of another, as in the case of receivers.^ 
 It has also been ruled that the term, "fiduciary" applies to all 
 persons or corporations who occupy positions of peculiar con- 
 fidence towards others, such as trustees, executors, or adminis- 
 trators.''^ Some rulings and regulations issued in explanation of 
 the term "fiduciary" are given below as indicative of the treasury 
 department's attitude in interpretation of the broad term "any 
 person acting in any fiduciary capacity for any person, trust 
 or estate." 
 
 Agents. An agent, as such, is not a fiduciary for his principal 
 even though he may have complete charge of the property of 
 his principal.^ There may be a fiduciary relationship between an 
 agent and a principal, but the word "agent" standing alone does 
 not denote a fiduciary within the meaning of the law.^ An oral 
 agreement whereby one of a number of brothers and sisters acts 
 as agent for all of them in managing property held by them as 
 tenants in common under the father's will, and in distributing 
 the income therefrom, is not a legal trust for income tax pur- 
 poses, nor is the agent a fiduciary. Each principal should file 
 a separate return, including therein his share of the income 
 from the property and claiming a proportionate share of any 
 allowable deductions.i" By an agreement addressed to a certain 
 company setting forth that the persons signing such agreement 
 are the owners of a royalty interest in certain oil wells, each 
 
 4 Revenue Act of 1918, §200; Revenue Act of 1921, §200. This defini- 
 tion is the same in both laws, and the rulings discussed below, issued under 
 the 1918 Law, should be applicable under the present law. 
 
 5 In the Revenue Act of 1921, § 2, and in the Revenue Act of 1918, § 1, 
 the term "person" is defined to include "partnerships and corporations, as 
 well as individuals." The term "corporation" includes associations, joint- 
 stock companies and insurance companies. 
 
 6 Reg. 45, Art. 1521; T. D. 2090. 
 
 7 Reg. 45, Art. 1521; Reg. 33 Rev., Art. 29. 
 
 8 Reg. 45, Art. 1522; T. D. 2135. 
 
 9 Reg. 45, Art. 1522; Reg. 33 Rev., Art. 29; T. D. 2090. 
 
 10 O. D. 425, T. B. 13-20-814. 
 
104 FEDERAL INCOME TAX 
 
 owning the respective interest set opposite his name, and that 
 on account of the diversity of ownership in said property it is 
 impracticable for the signers, as well as for the company as 
 purchaser of the oil and gas, to keep separate books of account 
 showing the respective interests of the several owners, an indi- 
 vidual was selected and appointed as trustee of the owners to 
 collect from the purchaser of the oil and gas any and all moneys 
 arising from the sale of oil and gas from the property and to 
 account therefor to them. The trustee was also given authority 
 to sign division orders respecting the sale and the running of oil 
 and gas from the land. It has been held that as no property 
 was conveyed to the individual named as trustee by the agree- 
 ment, his duties being merely to receive from the company in- 
 come payable to the signers of the agreement, to account to such 
 signers for the income so received and to sign division orders, 
 he is not a trustee within the meaning of the law, but an agent 
 of the persons signing the agreement. He is not, therefore, 
 required to make a return, either of income or of information, 
 as a fiduciary ,11 
 
 Power of Attorney. A person cannot, by power of attorney, 
 appoint another to act as a fiduciary. A power of attorney can- 
 not create a fiduciary relationship. An agent having entire 
 charge of property with authority conferred upon him by a 
 power of attorney to effect and execute leases with tenants 
 entirely on his own responsibility and without consulting his 
 principal, paying taxes and expenses and all other charges in 
 connection with the property out of funds in his hands from 
 the rents collected, merely turning over the net profits from the 
 property periodically to his principal is not a fiduciary. In 
 cases where no legal trust has been created in the estate con- 
 trolled by the agent and attorney, the liability under the law 
 to make returns and pay the taxes rests with the principalis 
 
 Guardians. A legal guardian is a fiduciary, but it does not 
 seem that a natural guardian comes within the definition. Under 
 the Revenue Acts of 1918 and 1921 minors are required to file re- 
 turns, but if a minor is dependent upon his parent, who appro- 
 priates or may appropriate his earnings, such earnings are in- 
 come of the parent and not of the minor for the purpose of the 
 normal tax and surtax. In the absence of proof to the contrary 
 a parent will be assumed not to have emancipated his minor child 
 and must include in his return any earnings of the minor.i^ jt 
 
 11 0. D. 875, T. B. 16-21-1569. 
 
 12 Reg. 45, Art. 1522; Reg. 33 Rev., Art. 29; T. D. 2137. 
 
 13 Reg. 45, Art. 403. 
 
FIDUCIARIES 105 
 
 seems, therefore, that if a minor exercises independent control 
 of any of his own income, the guardian should not make a sepa- 
 rate return for the minor of income from a separate estate nor 
 should the parent include the minor's income in his own return. 
 
 Ancillary Administrator. An ancillary administrator is 
 merely an agent of the domiciliary administrator and should 
 transmit to him all information as to income of the estate re- 
 ceived by the ancillary administrator, to the end that the original 
 administrator may make a return covering the entire income 
 of the estate.!* 
 
 Trustees in Bankruptcy. A trustee in bankruptcy is a 
 fiduciary and is required to file a return for the bankrupt estate 
 if its net income exceeds the specific exemption of $1000.1^ 
 
 Receivers. A receiver for an individual is a fiduciary, but 
 it seems that a receiver for a corporation is not,!" notwithstand- 
 ing the broad definition!'^ of the words "fiduciary" and "person" 
 and the general provisions of the law^^ governing fiduciaries.^^ 
 Receivers appointed by authority of law, in possession of part 
 only of the property of an individual, are expressly excepted 
 from the requirement that fiduciaries shall make returns.-" 
 
 Temporary Receiver Held to Be Fiduciary. Under the 1916 
 Law it was held that one appointed under interlocutory orders 
 of the United States district court to act as receiver of an indi- 
 vidual in a proceeding wherein certain persons complaining as 
 creditors were seeking to have the property of the individual 
 distributed among them, was a fiduciary, notwithstanding that 
 title to the property in question (cash and securities) remained 
 in the individual sued and that his possession and right to deal 
 with the same were only suspended. The receiver, having re- 
 
 14 Reg. 33 Rev., Art. 180. 
 
 15 0. D. 174, T. B. 7-19-297. 
 
 16 Reg. 45, Art. 424. See letter from treasury department dated Feb- 
 ruary 27, 1915; I. T. S. 1917, 11597, and letter from treasury department 
 dated June 22, 1916; I. T. S. 1918, If 1097. 
 
 IT Revenue Act of 1921, §§ 2 and 200; Revenue Act of 1918, §§ 1 and 200. 
 
 18 Revenue Act of 1921, §§219 and 225; Revenue Act of 1918, §§219 
 and 225. 
 
 19 This is true because it is specifically provided elsewhere that receivers, 
 trustees in bankruptcy, or assignees operating the property or business of 
 corporations shall make returns for such corporations in the same manner 
 and form as corporations are required to make returns, and that any tax due 
 on the basis of such returns will be collected in the same manner as if col- 
 lected from the corporations of whose business or property they have cus- 
 tody and control. (Revenue Act of 1921, §239; Revenue Act of 1918, 
 § 239.) 
 
 20 Revenue Act of 1921, § 225; Revenue Act of 1918, § 225. 
 
106 FEDERAL INCOME TAX 
 
 ceived income from the property in his possession, was required 
 to file a return as a fiduciary .21 
 
 Mortgage Foreclosure Receivers. A receiver, appointed 
 in a mortgage foreclosure action in the state of New York by 
 a court of equity in aid of its jurisdiction, who is not a receiver 
 of all the property of the mortgagor corporation, but is a com- 
 mon-law receiver in charge of only a part of the mortgaged 
 property of the corporation and a receiver merely of the rents 
 and profits of such mortgaged property, need not file a return 
 of income but he is required to file a return of information at 
 the source.22 
 
 Committee for an Incompetent. The committee for the 
 property of an incompetent person is regarded as a fiduciary.^s 
 
 Deeds of Trust. A deed of trust must be absolute so far 
 as the conveyance of title is concerned and irrevocable by the 
 donor, otherwise the income from the property in question will 
 accrue to the donor and must be accounted for by him.^* Where 
 a person transfers funds or property to trustees to pay to him 
 during his lifetime so much of the income as he may demand 
 and from time to time as much of the principal as such trustees 
 might deem advisable, all unwithdrawn income at the date of the 
 death of the settlor to become a part of the trust fund, the 
 settlor should return in any one year all the income accruing 
 from such trust fund whether actually withdrawn by him or not. 
 The trustees under such deed must make return of all income 
 from the trust, but are relieved from paying a tax thereon. ^s 
 
 Where under the terms of an irrevocable trust the income 
 from the trust property was to be paid to the donor during her 
 life and upon her death to certain named persons or institutions, 
 or to such other persons or institutions as the trustee should see 
 
 21 Letter from treasury department dated January 22, 1917. 
 
 22 Reg. 45, Art. 424. Letter from treasury department dated May 1, 
 1918; I. T. S. 1919, 111433. This letter stated that the same ruling extended 
 to receivers of partnerships under the excess profits tax. It was first held 
 by the treasury department under the 1916 Law that a receiver in foreclos- 
 ure proceedings of the rents, issues and profits of mortgaged premises, even 
 though for only a part of the property of the mortgagor, was required to 
 file a return of income, reporting the entire operations transacted by the 
 receiver during the year 1917. Upon further consideration the treasury 
 department changed this ruling to that stated in the text above. (Letter 
 from treasury department dated March 28, 1918; I. T. S. 1918, H 3293.) 
 
 23 Reg. 45, Art. 1521 ; Reg. 33 Rev., Art. 29. Letter from treasury depart- 
 ment dated February 21, 1916; I. T. S. 1918, H 128. Letter from treasury 
 department dated May 1, 1918; I. T. S. 1919, H 1433. 
 
 24 Reg.. 45, Art. 341 ; Reg. 33 Rev., Art. 29. 
 
 25 S. 1344, T. B. 10-20-780; O. D. 621, T. B. 32-20-1116. 
 
FIDUCIARIES 107 
 
 fit and in such amounts as he might deem proper, the trust prop- 
 erty to be sold upon the death of the trustee and the proceeds 
 distributed among certain named persons or institutions, it was 
 held that during the life of the donor the entire income of the 
 trust was taxable to her whether distributed or not, inasmuch as 
 it was distributable to her. If the net income of the estate was 
 $1,000 or more, Form 1041 should have been filed by the trustee. 
 All income received after the death of the donor and during the 
 life of the trustee is to be entirely distributed and if any bene- 
 ficiary is not exempt, he must include in his income tax return 
 all income received in any year. If the trustee fails to distribute 
 the entire income and the amount so retained is $1,000 or more, 
 Form 1040 must be filed and payment made of any tax found 
 to be due. If the entire net income of the trust estate for any 
 year is $1,000 or more, a return on Form 1041 must be filed to 
 show the amount of net income distributed to each beneficiary 
 and to show any amount retained by the estate.^^ 
 
 Where a declaration of trust provides that during the life of 
 the donor he may indicate the manner in which the trustee shall 
 exercise the powers conferred by the trust agreement; that the 
 donor shall have a voice in determining the amount of net in- 
 come to be distributed to the beneficiaries ; and that the estate cre- 
 ated and the interests vested thereunder shall be subject to 
 revocation by the donor at any time, in whole or in part, it is 
 held that the amount of income received by the beneficiaries is 
 in the nature of a gift, and that the trustee merely acts as agent 
 for the donor. The income of the trust should therefore be in- 
 cluded in the gross income of the donor. The trustee should file 
 a return for the trust on Form 1041, revised, showing the 
 grantor as b«neficiary under the trust and the grantor should 
 include the net income of the trust in gross income in his individ- 
 ual return under the item of income from fiduciaries.^'' 
 
 Alien Property Custodian. The alien property custodian 
 appointed by the President during the war, under the authori- 
 ty of the Trading With the Enemy Act, is not a fiduciary 
 within the meaning of the law, but is a mere official of the gov- 
 ernment, or agent of the President in taking over and preserving 
 the property of alien enemies and is therefore not required to 
 make return or pay taxes in behalf of alien enemies whose money 
 or property is taken over by him. This does not mean that if 
 income shall have accrued during the period when the property 
 
 2B O. D. 749, T. B. 50-20-1344. 
 27 0. D. 676, T. B. 40-20-1224. 
 
108 FEDERAL INCOME TAX 
 
 has been held by the alien property custodian the former alien 
 enemy owners are not liable for tax. Before paying out any 
 funds representing such income, the treasury department may 
 ascertain the taxes due and require them to be paid.^^ 
 
 Who Are Beneficiaries. A beneficiary within the meaning of 
 the law and regulations and in the sense used in this book is 
 the ward, cestui que trust, legatee, distributee, creditor, or other 
 person entitled to any part of the net income of a trust or estate 
 in the charge of a fiduciary. The trust estate itself is the bene- 
 ficiary with respect to (1) income received by estates of de- 
 ceased persons during the period of administration or settlement 
 of the estate and not properly credited to any legatee, heir, or 
 other beneficiary; (2) income accumulated in trust for the 
 benefit of unborn or unascertained persons, or persons with con- 
 tingent interests; (3) income held for future distribution under 
 the terms of the will or trust.^^ 
 
 Duties of Fiduciaries Generally. Every fiduciary is required 
 by the law to make under oath a return for the individual, es- 
 tate or trust for which he acts.^" This return may be of two 
 kinds: (a) a return of income, or (b) a return of information, 
 according to the nature of the income constituting the subject 
 of the trust. If the income is (1) received by estates of deceased 
 persons during the period of administration or settlement,^! and 
 not properly paid or credited to any legatee, heir, or other bene- 
 ficiary during that period, (2) accumulated in trust for the 
 benefit of unborn or unascertained persons, or persons with 
 contingent interests, or (3) held for future distribution under 
 the terms of the will or trust, the return is one of income. If 
 the income (4) is to be distributed to the beneficiaries periodi- 
 cally, whether or not at regular intervals, (5) is collected by the 
 guardian of an infant to be held or distributed as the court may 
 direct, or (6) is properly paid or credited to any legatee, heir, 
 or other beneficiary during the period of administration or set- 
 tlement of an estate, the fiduciary's return is merely an infor- 
 mation return. It is the duty of every fiduciary who is required 
 to make a return of income to pay the tax computed in the return 
 
 28 Op. A. G. 2, T. B. 30-20-1092. 
 
 29 See Revenue Act of 1921, § 219, and Revenue Act of 1918, § 219. 
 
 30 Revenue Act of 1921, § 225 ; Revenue Act of 1918, § 225. 
 
 31 The "period of administration or settlement of the estate" is the period 
 required by the executor or administrator to perform the ordinary duties 
 pertaining to administration, in particular the collection of assets and the 
 payment of debts and legacies. It is the time actually required for this pur- 
 pose, whether longer or shorter than the period specified in the local statute 
 for the settlement of estates. (Reg. 45, Art. 343.) 
 
FIDUCIARIES 109 
 
 to be due. Cases in which the fiduciary is required to pa/y the 
 tax are divided into two classes: (1) Cases in which, by reason 
 of the nature of the income constituting the subject of the trust, 
 the tax is imposed upon the trust estate as an entity and the 
 fiduciary's return is one of income, and (2) cases in which the 
 fiduciary's return is merely one of information but, by reason 
 of the status of the beneficiary, the tax, although laid upon the 
 beneficiary, must be paid by the fiduciary on his behalf. 
 
 Duties of Receivers. Receivers who, as officers of a court, 
 stand in the stead of some principal, are required to account for 
 income tax as the principal would be required to account.^^ 
 Where a receiver for an individual, acting under interlocutory 
 orders of the court, receives income during any year or funds 
 which he holds in trust as such receiver, such income must be 
 accounted for and the tax paid thereon for that year. Having 
 been thus freed from tax liability, the income assumes the status 
 of capital and may thereafter be distributed by the receiver in 
 the same manner as other capital. The fact that all or any part 
 of the income received by a receiver may be used to pay creditors 
 does not relieve the receiver from first paying the tax on all 
 income received by him, since the government has a prior lien 
 for the amount of the tax and only what remains after the tax 
 is paid may be distributed to creditors or others.^^ 
 
 Duties of Executors and Administrators. In addition to 
 the duties of fiduciaries generally, executors and administrators 
 are charged with the duty of making returns of income of the 
 decedent for the period during which he lived and made no 
 return prior to his death.^* 
 
 32 Reg. 45, Art. 424; Reg. 33 Rev., Art. 26. Form No. 1040 (revised) or 
 1040A (revised) is used by a receiver for an individual. The 1916 Law con- 
 tained a general provision (Revenue Act of 1916, § 9 (g) ) which charged 
 all gains, profits and income of a taxable class with the corresponding tax, 
 and provided further that such tax should be paid by "the owner of such 
 income, or the proper representative having the receipt, custody, control or 
 disposal of the same." The Revenue Acts of 1918 and 1921 contain no 
 similar provision. However strong the implication may be that receivers 
 are to pay the tax on income of the persons for whom they act, the absence 
 of a mandatory provision imposing this duty and indemnifying them 
 against all claims and demands of every beneficiary for all payments of 
 taxes they are required to make, may place receivers in embarrassing situa- 
 tions, since they are held rigidly to account for all their acts, and any 
 moneys paid out under doubtful authority may involve them in personal lia- 
 bility. The same considerations apply to guardians. 
 
 33 Letter from treasury department dated February 9, 1917; I. T. S. 1919, 
 II 1242. 
 
 34 See p. 146 for a more complete statement of this liability. 
 
110 FEDERAL INCOME TAX 
 
 Income of Estates and Trusts. The income of estates and 
 trusts received during any taxable year is subject to tax either 
 (a) in the hands of the beneficiaries on their respective shares 
 paid or credited to them by the fiduciary during the year or (b) 
 in the hands of the fiduciary, if the income is not paid or credited 
 to a beneficiary. In other words, all or a part of the net income 
 of an estate or trust may be distributable to beneficiaries ^^ and if 
 so, there is to be included in computing the net income ■of each 
 beneficiary his distributive share, whether distributed or not, 
 and the fiduciary is required to make a return showing the net 
 income of the estate or trust and the -distributable shares of each 
 beneficiary. The fiduciary's return is one of information and 
 he is not required to pay any tax unless the beneficiary is a non- 
 resident alien, a minor, an incompetent, or otherwise incapaci- 
 tated. On thfe other hand, all or a part of the net income of an 
 estate or trust may be retained for future distribution and at the 
 end of the year added to the corpus of the estate.^" Such income 
 is taxed to the fiduciary and he is required to file a return show- 
 ing the amount thereof and the tax due thereon, just as individ- 
 uals are required to report income and pay the tax.^'^ If part of 
 the income is distributable and part is retained by the estate, the 
 tax is imposed on the respective parts as above indicated, the 
 fiduciary, under the present law, being required to make a. re- 
 turn of the entire income and being allowed to deduct the amount 
 of distributable income.^* Where the same trustee is designated 
 in a will to administer several trusts, the accumulated income 
 of each separate trust will be taxable as an entity, not the income 
 of the trusts combined.^'' 
 
 A testator by his will directed that his executor pay an an- 
 nuity to two individuals jointly during their joint lives and a 
 like amount to the survivor during his life. As no provision 
 
 35 Income to be distributed to beneficiaries periodically, whether or not at 
 regular intervals, income collected by the guardian of an infant to be held 
 or distributed as the court may direct, or income properly paid or credited 
 to beneficiaries during the period of administration or settlement of an 
 estate, is here referred to. 
 
 36 Income received by estates of deceased persons during the period of 
 administration or settlement (not paid or credited as indicated in note 35) , 
 income accumulated in trust for the benefit of unborn or unascertained per- 
 sons, or persons with contingent interests, or income held for future distri- 
 bution under the terms of the will or trust, is here referred to. 
 
 37 Revenue Act of 1921, § 219; Revenue Act of 1918, § 219; Reg. 45, Arts, 
 341 to 346, incl., and Arts. 421 to 425, incl. 
 
 38 Revenue Act of 1921, § 219 (e) . 
 
 39 0. D. 316, T. B. 26-19-592. 
 
FIDUCIARIES 111 
 
 was made as to a fund from which this annuity was to be paid, 
 the executor purchased out of the funds of the estate a single- 
 payment two-year term endowment insurance policy covering 
 the life of another individual. The policy provided that at its 
 maturity the insurance company would enter into a trust agree- 
 ment to retain the proceeds of the policy, pay over to the an- 
 nuitants the amount of the annuity, and at their deaths to dis- 
 tribute the principal and any accrued income among the resid- 
 uary legatees. As the amount of the annuity may reasonably 
 be expected to be earned by the principal of the trust fund, no 
 part of the corpus of the estate would be distributed. It has 
 been held that the amounts received by the annuitants are not 
 received by bequest nor are they a return of capital invested 
 by them nor proceeds of an insurance policy exempt under the 
 law,*" but income received from a trust and taxable as such. It 
 was also held that the amount by which the proceeds of the policy 
 upon its maturity exceeded its cost is income to the insurance 
 company in its fiduciary capacity and should be included in its 
 return for the year in which the policy matured. The entire 
 amount paid over to the residuary legatees upon the death of 
 the annuitants will be exempt from income tax in the hands of 
 the residuary legatees.*! 
 
 Corpus of Estates and Trusts. The corpus, that is, the amount 
 of capital transferred to the estate or trust at the time of its 
 creation is not income.*^ in the case of estates of deceased 
 persons, the appraised value of the property at the time of the 
 death of the decedent is capital, regardless of the fact that the 
 cost of that property to the decedent may have been less than 
 such appraised value. Similarly, the value of the property con- 
 stituting the subject of a trust at the time the trust is created 
 is its capital. Income received by a decedent before his death 
 is capital when received by the estate.*^ 
 
 40 Revenue Act of 1921, § 213 (b) 1; Revenue Act of 1918, § 213 (b) 1. 
 
 41 0. D. 755, T. B. 51-20-1355. 
 
 42 In the case of estates of deceased persons the appraised value of the 
 property at the time of death (not the date of distribution of the assets) 
 constitutes the corpus. In the case of estates created by trust instruments 
 the value of the property constituting the subject of the trust at the time 
 the trust is created constitutes the corpus. (0. 1012, T. B. 12-20-792.) But 
 see Chapter 17 as to gifts made after December 31, 1920. 
 
 43 Telegram from treasury department dated February 3, 1917; I. T. S. 
 1921, Tf697; Reg. 45, Art. 343. A loss can not be claimed for a decedent 
 covering the taxable period to the date of his death where the cost of se- 
 curities, or their fair market value as at March 1, 1913, if acquired prior 
 thereto, is in excess of the value established by appraisal for the purposes 
 of administering the estate, except in the case of a decedent who was a 
 
112 FEDERAL INCOME TAX 
 
 Gross Income of Estates and Trusts. The gross income of an 
 estate or trust embraces income from all sources, as in the case 
 of individuals.** In general, this corpus may produce income in 
 two ways: (1) by investment of the corpus producing income 
 in the form of interest, rents, or other return on capital, and 
 (2) by profit derived from a sale or exchange of the corpus. 
 Both these forms of increase of the corpus of an estate constitute 
 taxable income to the estate. The rules laid down by the courts 
 with respect to the distinction between income and capital in 
 cases involving the respective rights of life-tenant and remain- 
 derman do not necessarily apply under the provisions of the 
 income tax law, so far as assessing the tax is concerned.*^ Thus, 
 extraordinary dividends received by an estate are held to be 
 income to the same extent as if received by an individual, al- 
 though a part of the surplus or undivided profits from which 
 the dividends are declared may have been earned by the corpo- 
 ration prior to the creation of the estate. • As an intestate's real 
 estate does not pass to his administrator, upon a sale by the 
 heirs, whether before or after settlement of the estate, each heir 
 is taxed individually on any profit derived.*" The income of a 
 revocable trust must be included in the gross income of the 
 grantor.*'^ Where during the period of administration an 
 executor converts the estate in his possession into money for 
 the purpose of settling the estate and closing the administration, 
 the gain or loss on the sale of such property is determined by 
 deducting from the selling price (or vice versa) the appraised 
 value of the property at the time of the death of the decedent or, 
 if the estate was created prior to March 1, 1913, the fair market 
 price or value on that date.*^ If the corpus of an estate or trust 
 is delivered in kind to beneficiaries no income is realized by the 
 
 dealer in securities and regularly inventoried his securities. The executor 
 should not make returns of book gains or losses, either up to the date of 
 death or on transfer of the property to the legatee or to a trustee under the 
 will, or from one trustee to a succeeding trustee, the appraised value re- 
 maining as the basis for computing all subsequent realizations of losses or 
 gains in cash. (O. D. 219, T. B. 11-19-383.) No taxable income or de- 
 ductible loss results from the passage of property to the executor or 
 administrator on the death of the decedent, even though such property has 
 appreciated or depreciated in value since the decedent acquired it. (0. D. 
 731, T. B. 46-20-1306.) 
 
 « Revenue Act of 1921, § 219; Revenue Act of 1918, § 219. 
 
 45 See Trefry v. Putnam, 227 Mass. 522, 116 N. E. 904. 
 
 46 Reg. 45, Art. 342. 
 
 47 Reg. 45, Art. 341. 
 
 48 Reg. 45, Art. 343. See, however, Ch. 17. 
 
FIDUCIARIES • 113 
 
 estate or trust, although the value of the property when delivered 
 may be greater than its appraised value at the time of its trans- 
 fer to the estate or trust.*^ If securities held in trust and form- 
 ing the corpus of a trust estate are sold and the selling price 
 exceeds their value at the time the trust is created, such excess 
 constitutes taxable income to the estate, even though under the 
 terms of the trust the income from the securities is payable to 
 individual beneficiaries. s" An executor who pays to another, as 
 agent, a commission upon the sale of property belonging to the 
 estate may deduct from the selling price the amount so paid in 
 determining the gain or loss. An executor who retains as his 
 commission a portion of the amount received by him from the 
 sale of property belonging to the estate may not deduct the 
 amount in the return for the estate, since any service performed 
 by him in that connection is deemed to be a part of his duties 
 as executor. Such a commission, however, should be included 
 in the gross income reported in the executor's personal return 
 for the year in which received.^i Where the trustee of assets 
 of an oil company sells oil or gas wells and the principal value 
 of the property has been demonstrated by prospecting or ex- 
 ploration or discovery work done by the trustee, the limitation 
 upon the surtax attributable to such sale is applicable.^^ 
 Amounts paid by an executor of an estate out of his personal 
 funds in discharge of obligations of the estate, such amounts 
 being credited against the executor's liability for interest to 
 the estate, are nevertheless income to the estate to the extent 
 that they represent interest accrued since the death of the testa- 
 tor on obligations of the executor to the estate.^^ 
 
 Amount Received in Settlement of Claims. Where a cor- 
 poration turns over a real estate mortgage to the executors of 
 an estate in process of administration in part payment of a 
 claim held against it by the estate, the executors accepting such 
 mortgage at its face value, no part of such mortgage will con- 
 stitute taxable income to the estate, unless the face value is 
 greater than the fair market value of the decedent's claim against 
 the company at the date of death.^* Where a corporation in 
 liquidation turned over its assets to the executor of an estate to 
 which it was indebted and which owned all of its outstanding 
 
 49 See Reg. 45, Art. 343. 
 
 50 O. D. 129, T. B. 3-19-198. 
 
 51 0. D. 632, T. B. 33-20-1135. 
 
 52 0. D. 194, T. B. 9-19-337. See Chapter 2. 
 
 53 0. D. 51, T. B. 1-19-70. 
 
 5* 0. D. 1084, T. B. 44-21-1896. 
 
114 FEDERAL INCOME TAX 
 
 capital stock, any excess in the value of the assets so received 
 over the indebtedness of the corporation to the estate plus the 
 value of the stock at the time of the owner's death constitutes 
 profit in the hands of the executor of the estate.^s 
 
 Income Constructively Received by Decedent Prior to 
 Death. Where dividends are declared on stock and interest 
 accrues on bonds and mortgages during the lifetime of a decedent 
 keeping his accounts upon a cash receipt and disbursement basis, 
 but such dividends and interest are not paid until after his death, 
 the dividends are income of the decedent when credited to or set 
 apart for him, although not collected prior to his death. If the 
 interest is upon matured coupons not cashed, but nevertheless 
 available to the decedent prior to his death, it is constructively 
 received when made available. If the interest is mortgage in- 
 terest, it should be included in the decedent's gross income for 
 the year in which it becomes due and payable.s" It follows that 
 such dividend and interest income, having been constructively 
 received by the decedent during his lifetime, should be treated 
 as capital of the estate, and will not be taxable in the hands 
 of his estate. Interest accrued on bonds owned by an individual 
 at the date of his death should be included in the return filed 
 for the decedent by the executor or administrator, if the books 
 of the decedent were kept on an accrual basis; if the books 
 were kept on the basis of actual receipts and disbursements, 
 only the amount of interest on coupons falling due prior to de- 
 cedent's death should be included. Interest accruing or falling 
 due subsequent to the decedent's death should be reported in the 
 return of the estate.^'' 
 
 Proceeds of Life Insurance Policies. The proceeds of life 
 insurance policies paid to an estate upon the death of the insured 
 are exempt from income tax under the present law as well as 
 under the 1918 Law.^s 
 
 55 A. R. R. 67, T. B. 17-20-877. 
 
 56 Letter from treasury department dated May 31, 1919; I. T. S. 1919, 
 H 3407. 
 
 57 O. D. 454, T. B. 15-20-851. 
 
 58 Revenue Act of 1921, §213 (b) (1); Revenue Act of 1918, §213 (b) 
 (1). Under the 1916 Law the proceeds'of life insurance policies were exempt 
 only if paid to individual beneficiaries (Revenue Act of 1916, §4; Act of 
 October 3, 1913, B). It was first held under the 1916 Law that the proceeds 
 of life insurance policies payable to the estate of a decedent, when re- 
 ceived by an executor or administrator, were, in the amount by which they 
 exceeded the premium or premiums paid by the decedent, income of the 
 estate, to be accounted for by the executor or administrator. (Reg. 33 Rev., 
 Art. 29.) It has since been ruled that proceeds of life insurance policies 
 
FIDUCIARIES 115 
 
 Installment Sales op Real Property. In February, 1919, 
 an individual contracted for the sale of certain land, receiving 
 $1,000 in cash, the balance of $11,000 to be paid in April, 1919. 
 The vendor died before April, 1919, and the contract vi^as not 
 completed until September of that year when the deed was passed 
 and possession taken by the purchaser. The treasury depart- 
 ment has held that the decedent did not receive taxable income 
 from the transaction inasmuch as the contract was not consum- 
 mated during his life and since the $1,000 received by him prior 
 to his death was mere earnest money to bind the contract. 
 Neither was any taxable gain realized by the estate because of 
 the transaction. Although the legal title to the land vested in 
 the executor for purposes of administration, the substantial thing 
 that went to the executor was the rigM under the contract to 
 the unpaid balance of the purchase price in trust for the devisees. 
 Under the law the basis for determining the gain or loss 
 upon the sale or conversion of property acquired by bequest, 
 devise or descent, is the value of the property at the death of 
 the testator.59 In this case the value of the right or contract 
 and not the value of the land should be considered. As the right 
 or contract was in this case valued for federal estate tax pur- 
 poses at $11,000, which was the amount received by the estate, 
 there could be no gain or loss to the estate.^" This ruling modi- 
 fies a previous decision of the department, where under some- 
 what similar circumstances it was held that the executor should 
 report as income to the estate the difference between the fair 
 market value of the property at the date of death and the total 
 price received for the property .^^ 
 
 Income Bequeathed to a Governmental Agency of a State. 
 Where executors under a will hold property specifically be- 
 queathed to a university, state owned, controlled and operated 
 in every sense, and conducted by officers appointed in accord- 
 ance with the state Constitution, supported by state funds and 
 all the property of which is vested in the state, and the other 
 assets of the decedent's estate are sufficient to pay all debts, 
 income received by the executors during the period of adminis- 
 
 payable to the estate of a decedent are not to be accounted for as income 
 of the estate by the executor or administrator under the provisions of 
 §2 (b), Act of September 8, 1916. (T. D. 3190, T. B. 29-21-1732.) 
 
 59 If the property was acquired prior to March 1, 1913, see the rules set 
 forth in Chapter 17. The present law contains a new provision respecting 
 profits from the sale of property acquired as a gift after December 31, 
 1920. See Chapter 17. 
 
 60 0. D. 907, T. B. 7-21-1448. 
 
 61 See 0. D. 631, T. B. 33-20-1134. 
 
116 FEDERAL INCOME TAX 
 
 tration from such property is not taxable in the hands of the 
 executors. The education of the citizens of a state, when con- 
 ducted by the state or by its subdivisions or agencies, is consid- 
 ered to be one of the public governmental functions of the 
 state.e2 
 
 Accumulations for Charitable Purposes. Where a testa- 
 tor by will bequeaths and devises his whole estate to his execu- 
 tors in trust to invest and keep invested and to pay annuities to 
 certain beneficiaries, the corpus of the estate, together with ac- 
 cumulated income to be paid to a designated charity after the 
 coming of age of one beneficiary and the death of the survivor 
 of the others, it has been argued that the income of the trust 
 estate is taxable, notwithstanding the fact that it ultimately goes 
 to charity. This argument was based upon the theory that while 
 the estate might be large and the income therefrom many times 
 the sum required to meet the annuities, there was no legal cer- 
 tainty that anything would go to the charity. The court held, 
 on the contrary, that such income was exempt from tax on two 
 grounds : ( 1 ) That one part of the income was exempt because 
 of the exemption in favor of charity, and the other part because 
 it was below the taxable limit, such parts taking in the whola 
 income; (2) that the income was not the income of the estate 
 but of the parties to whom it was given, the legal representa- 
 tives of the testator being nothing more than the reservoir and 
 conduit pipe through which the income reached the beneficia- 
 ries.^^ 
 
 It has been held by the treasury department, on the other hand, 
 that income from the corpus of an estate which at some uncer- 
 tain date in the future will, together with the accumulation of 
 income of a certain character, be paid over to exempt corpora- 
 tions is taxable in the hands of the trustee, there being no 
 exemption in the law to trustees who are to hold income for 
 future distribution to. exempt corporations."* 
 
 62 S. 13T4, T. B. 18-20-896. This conclusion was strengthened by the fact 
 that under the laws of the state in question title to the property specifi- 
 cally devised or bequeathed passed by will. The title to the stocks be- 
 queathed, therefore, vest;ed immediately upon the death of the testator in the 
 state university and under such circumstances a tax directed against the 
 income from such property would be a tax upon income from property 
 the title to which has vested in a state university. The ruling was made 
 under the 1916 Law, as amended, but it would be equally applicable under 
 the present law. 
 
 63 Stockton V. Lederer, 262 Fed. 173, affirmed 266 Fed. 676. 
 8*0. 1012, T. B. 12-20-792. 
 
FIDUCIARIES 117 
 
 Where under the terms of a will or trust deed income is to be 
 paid to or permanently set aside for a charitable or exempt 
 organization, such income is not deductible by the estate or trust 
 where the exempt organization has received its charter, but has 
 not been completely organized or has not begun to operate suf- 
 ficiently to establish its exemption.''^ 
 
 In another case a testator gave property to a trust company 
 to be held in trust for his wife and daughter for the period of 
 their lives, the income accruing to be divided equally between 
 them. It was provided that upon the death of the wife she might 
 appoint a certain portion of the estate by her will and a similar 
 provision was made in the case of the daughter. The principal 
 remaining at the termination of the trust was directed to be 
 paid over to certain charitable and educational corporations. 
 In case the corpus of the estate remaining upon the death of 
 the life beneficiaries was not in excess of the amount which might 
 be appointed by the life beneficiaries in their respective wills 
 the charitable and educational corporations would receive no 
 part thereof, since it would go to the persons designated by the 
 wife and daughter under the power of appointment given to 
 them by the will of the testator. In 1918, prior to the termina- 
 tion of the trust, a certain sum was received by the trustee from 
 the sale of subscription rights on stock, which sum was added 
 to the corpus of the estate. Upon the assumption that the sub- 
 scription rights on stock which were sold were granted directly 
 to the trust company as trustee, it was held that the entire pro- 
 ceeds from their sale, which was added to the corpus of the 
 estate for future distribution, must be reported by the trustee 
 in a return for the estate on Form 1040 (Revised), together 
 with all other income so accumulated during the taxable year."*' 
 
 An individual died in August, 1916, and by his will devised 
 to his wife certain specific property together with one-half of 
 all his remaining estate. After making several other specific 
 bequests he then directed that all the rest and residue of his 
 estate should be given to his wife. With respect to the one-half 
 interest given and the residuary estate left to her, the will spe- 
 cifically provided that these properties were given to his wife, 
 "to have and to hold the same to her for and during her natural 
 life, with full power of disposing of the same by deed, will, or 
 other mode of transfer, my intention being not to vest in my 
 said wife an absolute estate or an estate in fee simple in said 
 residue of my property, but an estate for life only, with the use 
 
 65 O. D. 278, T. B. 20-19-511. 
 
 66 O. D. 507, T. B. 20-20-939. 
 
118 FEDERAL INCOME TAX 
 
 and enjoyment thereof during her life as her needs or pleasure 
 may require and with the power of disposing of the same as 
 aforesaid." Another clause of the will provided that if the wife 
 should at her death leave unused or undisposed of any portion 
 of the property thus given, it should be transferred to certain 
 persons and institutions named in the will. In September, 1916, 
 the wife executed a will making certain bequests and giving the 
 residue of her estate to certain charitable, religious and educa- 
 tional institutions. These institutions were unquestionably 
 exempt organizations. In 1917, the wife executed a trust inden- 
 ture by which she transferred to a corporation as trustees, all 
 her interest and right in the estate of her husband making spe- 
 cific reference thereto. The trustees were to have full control 
 of the property during her life and were to pay over to her the 
 entire income and upon her death the whole of such trust fund 
 then in the hands of the trustees was to be paid over, delivered 
 and conveyed to the persons named in her will. The will was 
 by reference made a part of the trust agreement for the purpose 
 of providing for the distribution of the trust fund and the desig- 
 nation of the beneficiaries of the trust. The trust was by its 
 own terms declared irrevocable. The funds were paid over to 
 the trustees in accordance with the directions of the trust instru- 
 ment and the trustees assumed full control. During the life- 
 time of the wife, the trustees paid over to her the entire income 
 from the trust funds and retuined it as her income. The wife 
 died in July, 1918, and the former trustees held the trust prop- 
 erty for some time before conveyance was made to the bene- 
 ficiaries. It was held that the income from such property was 
 the income of the beneficiaries and since they were exempt, was 
 not taxable. The trustees were required to make a return on 
 Form 1041, taking as a deduction all amounts paid to or perma- 
 nently set aside during the taxable year for the named exempt 
 institutions. It was the opinion of the treasury department 
 that the husband bequeathed to his wife a life estate in the prop- 
 erty coupled with the power of disposition by deed, will, or other 
 mode of transfer. The wife's will, since it made no reference 
 whatever either to the property or to the power granted in 
 connection therewith, could not be considered an execution of 
 the power of disposition. The trust instrument executed by the 
 wife referred specifically to the property bequeathed to her by 
 her husband and although it did not specifically refer to the 
 power, was an exercise of the power of disposition granted. The 
 trust instrument was by its own terms declared irrevocable. 
 Even if the will was revoked (which it was not) and became 
 
FIDUCIARIES 119 
 
 ineffective as a will, it was incorporated and made a part of the 
 trust disposition by reference, for the purpose of providing for 
 the distribution of the trust fund and the designation of the 
 beneficiaries. When the precise nature of a trust and the par- 
 ticular persons who are to take and their interests can be ascer- 
 tained, the trust will be executed, and it was concluded, there- 
 fore, that the trust instrument was irrevocable and effective to 
 convey the property according to its terms. The effect of the 
 delivery of the trust property to the trustees was to vest title in 
 the beneficiaries immediately and they were, therefore, entitled 
 immediately, upon the death of the wife, to the trust property 
 and it at no time constituted a part of the wife's estate.^'^ 
 
 Liberty Bond Exemption in Case op Estates and Trusts. 
 When income is taxable to beneficiaries, as in the case of a trust 
 the income of which is to be distributed to the beneficiaries peri- 
 odically, each beneficiary is regarded as the owner of a propor- 
 tionate part of the bonds held in trust and is entitled to exemp- 
 tion on account of such ownership as if he owned such propor- 
 tionate part of the bonds directly. In such a case a subscription 
 by a trustee for bonds of the Fourth Liberty Loan, or notes of the 
 Victory Liberty Loan, constitutes each beneficiary existing at the 
 time of such subscription an original subscriber for his propor- 
 tionate part of such bonds or notes, as the case may be, and 
 entitles such beneficiary to the appropriate collateral exemption 
 of interest on bonds of previous issues, whether owned by such 
 beneficiary or by the trustee, as if the beneficiary had himself 
 originally subscribed for such proportionate part of the bonds or 
 notes; and a subscription by such beneficiary for bonds of the 
 Fourth Liberty Loan or notes of the Victory Liberty Loan, as the 
 case may be, entitles him to the appropriate collateral exemption 
 of interest on bonds of previous issues held by the trustee. 
 When, on the other hand, income is taxable to the trustee, as in 
 the case of a trust the income of which is accumulated for the 
 benefit of unborn or unascertained persons, the trustee is re- 
 garded as the owner of all the bonds held in trust and the trust 
 is entitled to exemption on account of such ownership. In such 
 a case a subscription by a trustee constitutes the trustee as such 
 the original subscriber and entitles the trust, on account of such 
 subscription, to the collateral exemption of interest on bonds of 
 previous issues.^s Where a testator died in February, 1920, and 
 
 67 A. R. R. 551, T. B. 24-21-1688. 
 
 68 Reg. 45, Art. 81. The Liberty bond tax exemptions are now consoli- 
 dated in § 1328 of the Revenue Act of 1921. This section as of January 1, 
 1921, abolishes the exemptions founded upon original subscription to the 
 Fourth Liberty Loan and the Victory Liberty Loan. 
 
120 FEDERAL INCOME TAX 
 
 at the date of his death owned certain Fourth Liberty Loan 
 bonds for which he was the original subscriber, and by his will 
 his widow, who is the residuary legatee of his estate is entitled 
 to the bonds, it was held that neither the estate of the testator 
 nor the widow is entitled to the collateral exemption provided by 
 the supplement to the Second Liberty Bond Act, because neither 
 the estate nor the widow was the original subscriber to the 
 Fourth Liberty Loan bonds owned by the decedent at the date of 
 his death. It has been held, also, that the collateral exemption 
 cannot be properly claimed in the return of the decedent for 
 the period from January 1, 1920, to the date of his death, be- 
 cause the bonds having passed to his estate at his death could 
 not in fact be owned by him on the date such return was filed 
 with the collector."'' 
 
 Deductions Allowed to Estates and Trusts. In computing the 
 net income of trust estates the law allows the same deductions 
 as are allowed to individuals with the exception indicated in the 
 next following paragraph.'^" The treasury department, however, 
 has made several special rulings with respect to the deductions 
 which may be claimed by fiduciaries against the income of estates 
 or trusts and these rulings are given in the succeeding para- 
 graphs. 
 
 Contributions to Charities. In lieu of the deduction au- 
 thorized in the case of citizens or residents for charitable contri- 
 butions, trust estates are allowed to deduct without limitation 
 any part of the gross income which, pursuant to the terms of 
 the will or deed creating the trust, is during the taxable year 
 paid to or permanently set aside for the use of: (a) The United 
 States, any state, territory, or any political subdivision thereof, 
 or the District of Columbia, for exclusively public purposes; 
 (b) any corporation, or community chest, fund, or foundation, 
 organized and operated exclusively for religious, charitable, 
 scientific, literary, or educational purposes, including posts of 
 the American Legion or the women's auxiliary units thereof, 
 or for the prevention of cruelty to children or animals, no part 
 of the net earnings of which inures to the benefit of any private 
 stockholder or individual; or (c) the special fund for vocational 
 
 69 0. D! 742, T. B. 49-20-1333. See footnote 68. 
 
 TO Revenue Act of 1921, § 219 (b) ; Revenue Act of 1918, § 219 (b) ; 
 Reg. 45, Art. 341. 
 
FIDUCIARIES 121 
 
 rehabilitationJi No deduction may be taken for an amount of 
 income retained or permanently set aside for the benefit of a 
 religious, charitable, scientific or educational corporation where 
 such corporation is not fully in existence at the time the income 
 is so retained or set asideJ- 
 
 Ordinary and Necessary Expenses. The ordinary and 
 necessary expenses of carrying on a business conducted by a 
 fiduciary, including a reasonable allowance for salaries, rentals, 
 repairs to business properties, etc, have been held to be prop- 
 erly deductible, since they are expenses which reduce the income 
 accruing to the beneficiaries.'^^ A distinction has been made 
 between expenses properly chargeable against the corpus of an 
 estate at the time of its creation, and expenses incident to ad- 
 ministration arising from the nature of the properties of an 
 estate and the details of its business management. Thus, court 
 costs, attorneys' fees, executors' commissions, etc., have been 
 held generally to be expenses that reduce the corpus of the estate 
 in the fiduciary's hands and not expenses which directly reduce 
 the income accruing to the beneficiaries. For this reason such 
 expenses are ordinarily not a proper deduction.'^* 
 
 In a recent case before the department the question arose as 
 to whether various expenses were deductible as business ex- 
 penses or must be classed as expenses of administration. A 
 testatrix left an estate consisting principally of corporate secu- 
 rities. After numerous specific bequests, the residuary estate 
 was given to executors and trustees with instructions that for 
 a period of two years after the death of the testatrix they should 
 collect the rents, income and profits therefrom, applying a part 
 thereof to the payment of the debts, taxes and charges, govern- 
 mental or otherwise, payable by or out of the estate, and apply- 
 ing as much as they should deem advisable for the support, edu- 
 cation and maintenance of a certain beneficiary. At the end of 
 the two-year period, the residuary estate was to be divided into 
 two parts and the income therefrom paid to two named bene- 
 ficiaries. The ordinary and necessary expenses incurred in 
 managing the property were admittedly deductible in computing 
 
 Tl Revenue Act of 1921, § 219 (b) ; Revenue Act of 1918, § 219 (b) ; Reg. 
 .45, Art. 341. It will be noted that the 1918 Law did not include -the words 
 "for exclusively public purposes," or "community chest, fund or founda- 
 tion," or "including posts of the American Legion or the Women's Auxil- 
 iary units thereof." 
 
 72 A. R. R. 280, T. B. 46-20-1305. 
 
 73 Revenue Act of 1921, §§ 219 (b) and 214 (a) (1) ; Revenue Act of 
 1918, §§219 (b) and 214 (a) 1; O. D. 537, T. B. 23-20-988. 
 
 74 Reg. 45, Art. 293; T. D. 2090, T. D. 2135; 0. D. 537, T. B. 23-20-788. 
 
122 FEDERAL INCOME TAX 
 
 net income, since where substantially the entire income of the 
 taxpayer is received from investments and dealings in securities, 
 such investments and dealings in securities constitute the carry- 
 ing on of a trade or business. The difficulty arose in distinguish- 
 ing between business expenses and administration expenses. In 
 this case the executors were engaged in trade or business only 
 to the extent that they continued the business of the decedent 
 and only expenses incurred in continuing the business were al- 
 lowable deductions. On the other hand, the ordinary duties of 
 the executors as such are to secure the necessary processes and 
 orders of the probate court, collect the assets of the estate, satisfy 
 the debts of the decedent and the estate and inheritance taxes, 
 preserve the assets of the estate until distributed, and distribute 
 such assets to the beneficiaries, if necessary reducing them tc 
 cash for this purpose. Expenses incurred in discharging these 
 and similar duties are clearly expenses of administration. Cer- 
 tain expenses, however, such as salaries of clerks and office rents, 
 contribute both to the administration of the estate and the con- 
 tinuance of the business of the decedent. With regard to these 
 expenses it was held that a segregation should be made and there 
 should be estimated the proportion of the personal services or 
 facilities secured by the expenditure which contributed to the 
 administration of the estate and the proportion which contrib- 
 uted to the continuance of the business. It was held immaterial 
 whether the expenses were paid from the corpus of the estate or 
 from income. Expenses derive their character not from the 
 funds out of which they are paid, but from the purposes for 
 which they are incurred. The executors were allowed a com- 
 mission upon cash received and paid out by them in the course 
 of the administration. They retained this commission upon 
 funds received by them from sales of securities and upon funds 
 paid out by them for the purchase of securities, including in- 
 vestments and reinvestments as well as upon receipts and dis- 
 bursements made by them in the ordinary course of adminis- 
 tration. These fees were held to be administration or business 
 expenses, according to the transactions for which they are al- 
 lowed. The same rule was applied to attorneys' fees and fees 
 of expert accountants paid upon itemized bills. Payments made 
 upon unitemized bills of attorneys and accountants were treated 
 as expenses contributing both to the administration of the estate, 
 and the continuance of the business of the decedent, and the 
 proportional parts of such expenditures attributable to business 
 or administration expenses, respectively, were required to be esti- 
 mated. Office expenses and salaries of bookkeepers and clerks. 
 
FIDUCIARIES 123 
 
 including executors' commissions thereon, also contributed both 
 to the administration of the estate and the continuance of the 
 business, and were required to be apportioned in the same man- 
 ner. Expenses connected with the sale of property, including 
 executors' commissions and attorneys' fees, were held to be ex- 
 penses of administration in all cases in which the sale was made 
 for the purpose of securing cash to satisfy legacies or to satisfy 
 items which were themselves expenses of administration or 
 necessary in the administration of the estate, such as court costs, 
 estate and inheritance taxes, etc. On the other hand, when the 
 sale was made to secure cash for the purpose of continuing the 
 business, as for. reinvestment or to satisfy business expenses or 
 the income tax, the expenses of the sale werie held to be expenses 
 of business. When property was sold to secure cash for both 
 administration purposes and purposes connected with the con- 
 tinuance of the business, the expenses of the sale were required 
 to be allocated in the percentages in which the proceeds of the 
 sale were used for administration and business purposes. Ex- 
 penses, including executors' commissions and attorneys' fees, 
 incurred in collecting dividends and interest, investing funds, 
 preparing income tax returns and paying the tax, were made 
 necessary by reason of the continuance of the business and con- 
 sequently were held to be business expenses. Expenses, includ- 
 ing executors' commissions and attorneys' fees, incurred in the 
 preparation of the return for, and the payment of, the federal 
 estate tax and state inheritance taxes were necessary for pur- 
 poses which are within the ordinary duties of the executors as 
 such, and were held to be administration expenses. All ad 
 valorem taxes (except taxes assessed against local benefits) were 
 held to be deductible from gross income.''^ However, the ex- 
 penses of paying the taxes, including the executors' commissions 
 thereon, might be deducted only if expended in the trade or 
 business; they were business expenses when the property taxed 
 was used in the trade or business, and administration expenses 
 when the property is not so used, as where property was held 
 for future distribution to legatees or devisees. The executors 
 of this estate were independent executors under the Texas Laws, 
 and after qualifying them and receiving and approving the in- 
 ventory, appraisement, and list of claims, the probate court had 
 no further jurisdiction over them. They were not required to 
 report to the court for discha'rge, nor was there any date upon 
 
 75 See Revenue Act of 1921, §214 (a) (3) ; Revenue Act of 1918, §214 
 (a) (3). 
 
124 FEDERAL INCOME TAX 
 
 which they formally ceased to be executors and became trustees. 
 However, when they completed the ordinary duties of adminis- 
 tration, the period of administration ended, and thereafter office 
 expenses and other expenses which during the period of admin- 
 istration contributed both to the administration of the estate and 
 the continuance of the business, constituted business expenses. 
 Executors' commissions, attorneys' fees, fees of expert account- 
 ants and salaries of bookkeepers and clerks paid by the estate, 
 in continuing the business, were held deductible only to the extent 
 that they were reasonable compensation.'''' 
 
 Amounts expended by an estate on account of special assess- 
 ments for the maintenance or repair of streets or for sidewalk 
 improvements levied upon property used in a trade or business, 
 if the same is necessary in the conduct of such trade or business, 
 constitute allowable deductions. In case any of the property of 
 the estate is used for residential purposes by anyone beneficially 
 interested in the estate, the amounts expended in payment of 
 assessments levied upon such property for maintenance and re- 
 pairs cannot be deducted by the estate, unless the rental value of 
 the property is included in the gross income of the estate. 
 Amounts expended for replacements can, under no circum- 
 stances, be claimed as a business expense; such items are in- 
 vestments of capital." 
 
 An amount paid by the committee for a taxpayer, who has 
 been declared mentally incompetent, in settlement of attorney's 
 fees incurred by the taxpayer in resisting the proceedings looking 
 to declare him incompetent, is not a necessary expense incurred 
 in the management of the affairs of such taxpayer, but is a 
 personal expense arid therefore not deductible by the committee 
 in computing the net income of the taxpayer.'^^ Where trustees 
 under a will hold real estate and are obliged to pay attorney's 
 fees for services in connection with litigation brought by one 
 claiming an interest in the property, it has been held that such 
 fees are not deductible from the income of the trust as ordinary 
 and necessary expenses even though the trustees are not author- 
 ized to sell any part of the property out of which to satisfy the 
 attorney's fees or the tax imposed. Such expenses are held to 
 
 T6 Sol. Op. 88, T. B. 8-21-1463. 
 
 77 0. D. 613, T. B. 31-20-1102. If such replacements, however, are used 
 in connection with the business of the estate, a reasonable amount may be 
 claimed for exhaustion, wear and tear of the property, including obso- 
 lescence. 
 
 78 0. D. 603, T. B. 30-20-1089. 
 
FIDUCIARIES 125 
 
 be a part of the cost of the property and chargeable against the 
 corpus of the estate.™ 
 
 Executors' Commissions. If under the laws of the state, 
 the terms of the will appointing an executor, or the decree of a 
 court having, jurisdiction of an estate, executors' commissions 
 are deductible from the corpus of the estate, it has been held 
 that they should not be deducted by the fiduciary, but if they 
 are to be deducted from the income of the estate distributable 
 among the beneficiaries they have been held to be deductible as 
 a legitimate and necessary expense-^" 
 
 Statutory Allowance to Widow. A, statutory allowance 
 paid to a widow from the corpus of an estate is not deductible 
 from gross income.^i Since the law provides that "in determining 
 the net income of the estate of any deceased person during the 
 period of administration or settlement there may be deducted 
 the amount of any income properly paid or credited to any lega- 
 tee, heir or other beneficiary," it has been held that where an 
 executor of an estate in process of administration paid, under 
 an order of the probate court, a monthly allowance to the widow 
 of the testator, the court order providing that the amount should 
 be payable out of the personal property and the income of the 
 real ; estate, and the income from the personal property being 
 more than sufficient to pay the allowance, such payment may be 
 claimed as a deduction in the return to be filed by the executor 
 the amounts being "properly" paid. The widow should include 
 such amounts in her individual return.^^ 
 
 Interest. Where interest has accrued on notes of a de- 
 cedent and been deducted from the estate in determining the 
 amount of the gross estate for estate tax purposes it has been 
 held that such interest, where paid by the administrator, is 
 deductible from the income of the estate, unless the decedent 
 kept his books on some basis other than that of actual receipts 
 and disbursements. Only the accrued interest on outstanding 
 obligations may be deducted, and where interest upon an old 
 note has been capitalized by giving a new note, representing 
 the aggregate of the old note with the interest accrued, only the 
 amount of interest accrued upon the new note can be deducted, 
 the new note representing payment of both principal and interest 
 of the old.83 
 
 ra A. R. R. 284, T. B. 42-20-1248. 
 
 80 Letter from treasury department dated March 2, 1915 ; I. T. S. 1919, 
 T[ 1255. See also the paragraph "Business Expenses," supra. 
 
 81 Reg. 45, Art. 341. 
 
 82 O. D. 829, T. B. 9-21-1482. 
 
 83 A. R. R. 113, T. B. 21-20-953. 
 
126 FEDERAL INCOME TAX 
 
 Taxes. Any tax paid by a trust estate is a proper deduction 
 to the same extent as in the case of individuals or corporations.^* 
 The United States Supreme Court has recently held that the 
 federal estate tax is deductible by an estate in determining its 
 net taxable income for the year in which the estate tax is paid 
 or accrues under the broad provision of the law permitting the 
 deduction of "taxes paid or accrued within the taxable year im- 
 posed (a) by the authority of the United States, except income, 
 war-profits and excess-profits taxes." ^^ Where property owned 
 by an estate is sold, the amount of the stamp tax upon the deed 
 conveying title to the property constitutes an allowable deduction 
 in the return of the estate.^^ 
 
 Losses. Losses sustained during the taxable year, and not 
 compensated for by insurance or otherwise, (a) if incurred in 
 trade or business, (b) if incurred in any transaction entered into 
 for profit, though not connected with the trade or business, or 
 (c) if of property not connected with the trade or business if 
 arising from fires, storms, shipwreck, or other casualty, and 
 from theft, or losses in inventory or from rebates (under the 
 Revenue Act of 1918) and net losses may be deducted by fidu- 
 ciaries under the rules applicable to individuals.^'^ 
 
 The cost of property, sold for purposes of determining loss, 
 upon a sale or exchange thereof, is the appraised value at the 
 time the decedent died, or the estate was created. The deductible 
 loss should be computed in accordance with the rules discussed 
 in another chapter.ss 
 
 Net loss resulting from the sale of stocks, bonds, or other 
 property owned by a trust, which would be an allowable deduc- 
 tion from the gross income of an individual is an allowable 
 deduction from the gross income of a trust, whether or not the 
 income of such trust is "to be distributed to the beneficiaries 
 periodically, whether or not at regular intervals," and whether 
 or not there is any requirement in the instrument creating the 
 trust, a decree of court, or a general law, that the principal of 
 the trust shall be kept intact at the expense of income as against 
 such loss. Such a deduction is not allowable as against the cur- 
 rent or future gross income of the present beneficiaries, or of 
 
 84 See Chapter 24 and the paragraph "Business Expenses," supra. 
 
 85 U. S. V. Woodward, 65 L. ed. 728. This case reverses Prentiss v. 
 Eisner, 267 Fed. 16, and the previous rulings of the treasury department 
 to the contrary. See Op. A. G. 1, T. B. 16-20-875. 
 
 86 O. D. 632, T. B. 53-20-1135. 
 
 87 See Chapter 25. 
 
 88 See Chapter 17. See also Chapter 25. 
 
FIDUCIARIES 127 
 
 those who will receive the property at the termination of the 
 trust. The beneficiary is not required to include in his personal 
 return as a part of "his distributive share whether distributed 
 or not, in the net income of the * * * trust for the taxable 
 year" any part of the amounts allowed to the trust as a whole 
 as a deduction for loss resulting from the sale of the property .^^ 
 
 Worthless Debts. Worthless debts may be deducted to the 
 same extent as in the case of individuals. Where a decedent was 
 coindorser on the note of a corporation in process of liquidation 
 at the time of his death, and his share of the liability was not 
 known at the time of his death, but was determined at the^ end 
 of 1918 and paid by the administrator in the early part of 1919, 
 the payment was held deductible in the administrator's return 
 in the year in which the liability was paid and charged off on 
 the administrator's books, provided all the circumstances indi- 
 cated the debt to be worthless and uncollectible, and that legal 
 action to enforce payment would in all probability not have re- 
 sulted in the satisfaction of execution on a judgment. The same 
 decedent was not permitted to deduct the difference between the 
 appraised value of a subrogated claim against a company whose 
 past due note decedent had been obliged to pay as indorser and 
 the amount paid to the bank payee. The theory of this decision 
 was that the transaction was not a closed and completed one. So 
 long as the claim against the company was, not disposed of by 
 the administrator, the exact amount of the loss, if any, could 
 not be definitely determined, and, therefore, could not be claimed 
 as a deduction-^" The Revenue Act of 1921 contains a new pro- 
 vision to the effect that when satisfied that a debt is recoverable 
 only in part, the commissioner may allow such debt to be charged 
 off in part.81 
 
 Depreciation. An individual who receives income from a 
 trust estate is not permitted to claim a deduction in his personal 
 return for any depreciation sustained during the year on real 
 estate or other assets of the estate. It is permissible, however, 
 for the fiduciary in ascertaining the net income of the estate or 
 trust for which he acts to deduct a proper amount for the de- 
 preciation sustained during the taxable year, whether or not the 
 
 89 Letter from treasury department dated October 13, 1919; I. T. S. 
 1919, H 3626. Where the income of an estate is to be distributed periodically 
 and the trustees sell part of the principal or corpus of the estate at a loss, 
 the beneficiaries are not allowed to deduct any part of the Toss in their 
 returns. (0. D. 156, T. B. 5-19-255.) 
 
 90 0. D. 556, T. B. 25-20-1017. 
 
 91 Revenue Act of 1921, § 214 (a) (7). See Chapter 25. 
 
128 FEDERAL INCOME TAX 
 
 terms of the will or agreement creating same or a decree of 
 court provides for the taking care of depreciation which may be 
 sustained on the property held in trust.^^ Replacements to 
 streets and sidewalks used in connection with the business of 
 an estate are not deductible as business expense, but will consti- 
 tute the subject of an annual allowance for depreciation."^ 
 
 Net Income of Estates or Trusts. The gross income minus the 
 deductions permitted to an estate or trust, as enumerated above, 
 constitutes its net income. If such net income is (1) received by 
 estates of deceased persons during the period of administration 
 or settlement and not properly paid or credited to any legatee, 
 heir, or other beneficiary during that period, (2) accumulated in 
 trust for the benefit of unborn or unascertained persons, or per- 
 sons with contingent interests, or (3) held for future distribu- 
 tion under the terms of 'the will or trust, it is to be treated as 
 taxable income of the estate or trust on which the fiduciary must 
 pay the tax from the funds of the estate or trust."* When the 
 income upon which the fiduciary has so paid the tax is later dis- 
 tributed among the beneficiaries, it is a distribution of capital 
 and no tax is at that time required to be paid by the beneficiary 
 with respect thereto."" If, on the other hand, the net income is 
 (4) to be distributed to the beneficiaries periodically, whether 
 or not at regular intervals, or (5) is collected by the guardian 
 of an infant, to be held or distributed as the court may direct, 
 or (6) is properly paid or credited to any legatee, heir, or other 
 beneficiary during the period of administration of an estate, the 
 amount of the distributable share of each beneficiary is assessed 
 to the beneficiary."" In such cases the fiduciary may be respon- 
 sible for the payment of the tax, as, for instance, when the bene- 
 ficiary is a minor or a nonresident alien, but the tax is still the 
 tax of the beneficiary, and the fiduciary, in paying such tax, does 
 not act for the estate or trust. Under the 1921 Law, in the case 
 of an estate or trust the income of which consists partly of the 
 class included in (1), (2) and (3) above and partly of the class 
 included in (4), (5) and (6), the net income of the estate or 
 trust is required to be computed by the fiduciary as in the case 
 of (1), (2) and (8) and the tax must be paid by the fiduciary, 
 
 92 Letter to treasury department dated October 6, 1919; L T. S. 1919, 
 ![ 3632. 
 
 93 O. D. 613, T. B. 31-20-1102. 
 
 94 Revenue Act of 1921, § 219 ; Revenue Act of 1918, § 219. 
 
 95 Reg. 45, Art. 344; Reg. 33 Rev., Art. 29. 
 
 96 Revenue Act of 1921, § 219; Revenue Act of 1918, § 219. 
 
FIDUCIARIES 129 
 
 but there is, in such cases, allowed as an additional deduction 
 the income of the class included in (4), (5) and (6). Such 
 income will be included in the returns of the beneficiaries.''^ 
 
 Decedent's Estate Duking Administration. During the 
 period of administration it is the duty of the administrator or 
 executor to make return and pay whatever tax may be due on 
 income received by the estate of a deceased person. ^^ Income 
 of an estate during the period of administration not paid or 
 credited to the beneficiaries is taxable to the estate, even though 
 the beneficiaries are as a matter of law entitled to be paid or 
 credited with such income during the year.'^^ An executor or 
 administrator of an estate in process of administration may 
 not, at his option, in rendering the return, Form 1040, for the 
 estate, either claim as a deduction the amount of income prop- 
 erly paid or credited during the year to any heir, legatee, or 
 other beneficiary, or compute the net income without the benefit 
 of such deduction and pay the entire tax himself.^" 
 
 In a case ruled upon by the treasury department an individual 
 died in 1917, his widow qualifying as administratrix in 1918. 
 The entire estate was left to the widow, with the exception of 
 a legacy which was paid in 1918, during which year all debts, 
 taxes and costs of administration were paid in full, the widow 
 as sole beneficiary reducing whatever remained to her possession 
 as her personal estate. Upon making final report and settlement 
 
 97 Revenue Act of 1921, § 219 (e). For the procedure in such cases under 
 the 1918 Law, see p. 140. 
 
 98 0. D. 598, T. B. 29-20-1082. 
 
 99 T. B. R. 47, T. B. 16-19-46. The rule in New York that one who re- 
 ceives a bequest of the income of a specified sum, the property of the de- 
 cedent being income producing at the time of his death, is entitled to such 
 income from the date of death. Re Stanfleld's Estate, 135 N. Y. 292, 31 N. 
 E. 1013 has no application to interests arising under a will creating a trust 
 of the residuary estate, and directing the payment of the income of certain 
 portions thereof to specified individuals. The trust being created only at 
 the expiration of administration, the right to the income of the trust fund 
 accrues only at that time ; and consequently, under the Revenue Act of 1916, 
 no part of it is taxable to the individual beneficiary during the period of 
 administration, but the whole of it is taxable to the estate as an entity. 
 (Revenue Act of 1916, §2 (b).) The result is the same where the will 
 creates a right in the legatee to income from the date of the death, since 
 such income is not payable until the completion of administration, and 
 until that time the property producing the income is part of the estate in 
 process of administration. Under the Revenue Acts of 1918 and 1921, 
 however, the estate is entitled to deduct income properly paid or credited 
 to legatees during the period of administration, and such income is tax- 
 able to the beneficiary. (L. O. 1051, T. B. 38-20-1206, revoking S. M. 783.) 
 
 100 0. D. 967, T. B. 27-21-1714. 
 
130 FEDERAL INCOME TAX 
 
 in 1921, a court order was issued discharging the widow from 
 liability as administratrix. It was held that inasmuch as the 
 estate of the testator was in process of administration until 
 1921, the widow as administratrix is required to file a return 
 for the estate for the period from the date of the testator's 
 death to December 31, 1917, for each of the calendar years 
 1918, 1919 and 1920, and for the period January 1, 1921, to the 
 date of her discharge, during any of which periods the net in- 
 come of the estate amounted to $1,000 or more. The return for 
 the first period should be on Form 1040 or 1040a, and the ad- 
 ministratrix was required to pay the tax upon the basis of such 
 returns. If the income of the estate for any of the other periods 
 in question was $1,000 or more, as computed without deducting 
 the amount paid or credited to the beneficiary, returns covering 
 such periods were also required to be made on Form 1040 or 
 1040a, as the case might be. The returns were required to be 
 accompanied by a statement showing that during each period 
 the entire net income was paid or credited to the widow as sole 
 beneficiary.i"! In another case, by a certain article of his will, 
 a testator created a trust in favor of his wife, directing that 
 one year after her death a certain part of the principal of the 
 trust estate should be paid to her heirs, and that the remainder 
 of such principal should revert to and become a part of his 
 residuary estate. In accordance with the terms of the trust, 
 after the death of the widow and after making certain payments, 
 the trustees during 1920 paid over to the husband's adminis- 
 trators all of the property remaining in their hands and the 
 administrators in their turn distributed to the beneficiaries 
 under the will all of the property of the estate which they held, 
 including the property received from the trustees. This prop- 
 erty so paid over included certain income received by the trus- 
 tees during 1920. With regard to the distributions made by the 
 administrators, all amounts so distributed were held deductible in 
 the final return of the administrators to be filed for the estate 
 for the period from January 1, 1920, to the date of settlement 
 in 1920. As under the terms of the will of the husband the 
 trustees were required to distribute at the termination of the 
 trust the entire property of the estate, including the net income 
 received by them, the income was properly distributable and 
 the trustees were not required to file a return on Form 1040 or 
 1040a for the year in which such distribution was made. A 
 return on Form 1041 was required to be filed, however, showing 
 the gross income of the trust for such year and the deductions 
 
 101 O. D. 926, T. B. 21-21-1652. 
 
• FIDUCIARIES 131 
 
 claimed, as well as the amount of income paid over to the admin- 
 istrators and any amount of such income paid over to the heirs 
 of the wife. If the entire net income of the estate for 1920, 
 including income received through the trustees, was $1,000 or 
 more, the administrators were required to file a return on Form 
 1040 or 1040a, claiming a deduction for the entire amount of 
 income received during the year, either directly or through the 
 trustees, and properly paid over or credited to the beneficiaries 
 under the will. This applied to the final distribution made in the 
 settlement of the estate, as well as to distributions made during 
 the period of administration. i"^ 
 
 Where the deceased owner of real estate has not in his will 
 directed the sale of real estate or devised the same upon trust 
 to be sold to pay debts, legacies, or for other purposes, or done 
 such other act as to effect equitable conversion of his real estate 
 at his death, and the personal property is sufficient to pay all 
 the debts and legacies, the real property does not form part 
 of the estate and the executor will not be required to make a 
 single return for the income from the real estate and the per- 
 sonal estate of the decedent during the period of administra- 
 tion, even though the real estate was devised to a trustee.ios 
 The demand of the Alien Property Custodian for the interest 
 of a beneficiary, who is an alien enemy, entitles the Alien 
 Property Custodian to receive from the administrator or ex- 
 ecutor the net amount found to be due by the court adminis- 
 tering the estate of the alien enemy. After the distribution 
 and receipt by the Alien Property Custodian of the enemy's 
 share in the estate no further tax can be required to be reported 
 or paid by the Alien Property Custodian. However, up to the 
 date of the distribution of the estate it is incumbent upon the 
 administrator or executor to report and pay the income tax 
 due on the estate, the Alien Property Custodian being concerned 
 only with the net amount found to be due the enemy on distri- 
 bution.i"* 
 
 Credits to Trust or Beneficiary. In the case of an estate or 
 trust taxed to the fiduciary it is allowed the same credits against 
 net income as a single person, including a personal exemption of 
 $1,000, but no credit for dependents. In the case of an estate or 
 trust taxed to the beneficiaries each beneficiary is allowed for 
 the purpose of the normal tax, in addition to his individual cred- 
 
 102 0. D. 806, T. B. 7-21-1447. 
 
 103 S. 1229-A, T. B. 13-20-811, revoking 1229. The same ruling applies 
 under § 2 (b) of the Revenue Act of 1916, as amended. 
 
 104 O. D. 598, T. B. 29-20-1082. 
 
132 FEDERAL INCOME TAX 
 
 its, his proportionate share of such dividends ordinarily allowed 
 as a credit to individuals and of such interest not entirely ex- 
 empt from tax upon obligations of the United States and bonds 
 of the War Finance Corporation as are received by the estate 
 or trust. Each beneficiary is entitled to but one personal ex- 
 emption, no matter from how many trusts he may receive in- 
 come.i"'' The undistributed net income of a trust estate under 
 the control of a resident fiduciary and subject to the jurisdiction 
 of a state or territory of the United States, or of the District of 
 Columbia, is taxable in the same manner as income accruing to 
 an unmarried resident individual, irrespective of the fact that 
 the creator of the trust may be a nonresident alien and irrespec- 
 tive of the fact that the ultimate beneficiaries may be nonresi- 
 dent aliens. The exemption to which a single person is entitled 
 may properly be claimed regardless of the citizenship or resi- 
 dence of the creator of the trust or of the beneficiaries for whom 
 the income is retained. The income of an estate in process of 
 administration in the courts of a state or territory of the United 
 States or of the District of Columbia by resident fiduciaries 
 is taxable as an entity, irrespective of the fact that the deced- 
 ent may have been a nonresident individual and the benefici- 
 aries or distributees may be nonresident aliens and the income 
 may be, in part or whole, derived from foreign sources. The 
 same specific exemption may properly be claimed as that to 
 which a single person is entitled regardless of the citizenship 
 or residence of the creator of the trust or of the beneficiaries.^o^ 
 
 Credit of Tax Paid at the Source. If the trust estate is the 
 owner of bonds on the interest of which the debtor corporation 
 has agreed to pay any tax withheld at the source, the law re- 
 quires the debtor corporation to pay for the bondholder an 
 amount equal to 2% of the interest paid during the year. This 
 amount is a credit against the tax to be paid on the income of the 
 estate or trust, and should be divided proportionately among 
 the beneficiaries and the estate according to the respective shares 
 of the income to which each is entitled. 
 
 Credit for Taxes. The estate may be in a position to claim 
 credit for taxes paid in foreign countries or possessions of the 
 United States on income derived from sources in such foreign 
 countries or possessions,!*"^ in which case the amount of such 
 
 105 Revenue Act of 1921, § 219 (d) ; Revenue Act of 1918, § 219 (d) ; Reg. 
 45, Art. 346. 
 
 100 A. R. M. 37, T. B. 13-20-810; O. D. 743, T. B. 49-20-1335. 
 
 107 See Revenue Act of 1921, § 222 (a) ; Revenue Act of 1918, § 222 (a). 
 
FIDUCIARIES 133 
 
 taxes is divided between the beneficiaries and the estate accord- 
 ing to their respective shares of the income. 
 
 Distribution of Income of Trust Estates. The Revenue Act of 
 1921 provides that the tax shall be imposed upon the net income 
 of the estate or trust and shall be paid by the fiduciary upon 
 income (1) received by estates of deceased persons during the 
 period of administration or settlement and not paid or credited 
 to any legatee, heir or other beneficiary during that period, (2) 
 accumulated in trust for the benefit of unborn or unascertained 
 persons, or persons with contingent interests, and (3) held for 
 future distribution under the terms of a will or trust-i^^ It pro- 
 vides also that the tax shall not be paid by the fiduciary upon 
 income (4) to be distributed to the beneficiaries periodically, 
 whether or not at regular intervals, (5) collected by a guardian 
 of an infant to be held or distributed as the court may direct, 
 and (6) properly paid or credited to any legatee, heir or other 
 beneficiary during the period of administration or settlement of 
 an estate.i"^ For purposes of convenience income included in (1) , 
 (2), and (3) above are referred to hereinafter as "undistributed 
 income," and the income referred to in (4), (5), and (6) above 
 will be referred to as "distributable income" in the following 
 discussion. The object of the law is to tax (1) the respective 
 beneficiaries upon any income of estates or trusts which can be 
 definitely and legally assigned to them during the year, and (2) 
 to tax the estate or trust as an entity upon all income which can- 
 not be definitely and legally assigned to some beneficiary. In 
 other words, beneficiaries are taxed when their distributive 
 shares can be definitely determined, and if their distributive 
 shares cannot be definitely determined at the close of the year, 
 the tax is imposed upon the estate' itself .^i" A profit from the 
 sale of property during life tenancy which is held for future 
 distribution to remaindermen is "undistributed" income and 
 
 108 Revenue Act of 1921, §219 (c) ; Revenue Act of 1918, §219 (c). 
 
 109 Revenue Act of 1921, § 219 (d) ; Revenue Act of 1918, § 219 (d) ; 
 Reg. 45, Arts. 342 and 345. 
 
 110 See T. D. 2231 ; letter from treasury department dated October 19, 
 1915; I. T. S. 1919, 111235; Revenue Act of 1921, §219; Revenue Act of 
 1918, § 219. This distinction is illustrated by a Haviraiian case in which it 
 was held that income tax on an annuity paid out of income derived from 
 property held in trust is assessable against the annuitant, not the trustee; 
 but that surplus income from property held in trust and accumulating in 
 the hands of the trustee pursuant to the terms of the will is not taxable 
 prior to the arrival of the time for its distribution (Wilder v. Hawaiian 
 Trust Co., 20 Haw. 589). This surplus income is taxable against the 
 estate as an entity under the American law. 
 
134 FEDERAL INCOME TAX 
 
 is taxable as an entity in the hands of the trustee of the estate.^" 
 When a trust provides for the distribution of income "when 
 received" the beneficiary should account for it personally, wheth- 
 er distributed or not. The creator of the trust is not liable for 
 income tax with respect thereto."^ 
 
 Distributable Income. In the case of "distributable" income 
 the fiduciary is required to report ii^ the respective amounts paid 
 or credited to each beneficiary. In such case there is included in 
 computing the net income of each benefici-ary his distributive 
 share, whether distributed or not, of the net income of the trust 
 estate, for the taxable year, or if his net income for such taxable 
 year is computed upon the basis of a period different from that 
 upon the basis of which the net income of the trust estate is com- 
 puted, then his distributive share of the net income of the trust 
 estate for any accounting period of such trust estate ending 
 within the fiscal or calendar year, upon the basis of which such 
 beneficiary's net income is computed.^" The beneficiaries are re- 
 quired to report "distributable income" in their personal returns 
 and to add the same to any income they may have received from 
 other sources in order to determine their respective tax liabilities. 
 They are entitled to their proportionate shares of the credits for 
 purposes of the normal tax as indicated in the preceding para- 
 graphs. The regulations governing partnerships are generally 
 applicable to an estate or trust which is taxed to the benefici- 
 aries.ii^ Where a taxpayer established a trust fund, the in- 
 come from which by agreement is to be paid to his former wife in 
 lieu of alimony, maintenance and support, any excess over a 
 certain stipulated sum which it was agreed the trustee must 
 pay to the former wife annually to be paid to the creator of the 
 trust and in event the former wife and sons predecease the 
 grantor the principal of the trust to revert to him, it has been 
 held that the instrument in question created a valid trust which 
 is irrevocable and beyond the control of the grantor, the income 
 of which is distributable periodically and is taxable to the bene- 
 ficiary.ii^ 
 
 INCOME Not Actually Paid to Beneficiaries in Year. It 
 will be noted that in the case of so-called "distributable income" 
 the tax is paid by the beneficiary upon his distributable share 
 
 111 O. D. 560, T. B. 26-20-1029. 
 
 112 S. 961, T. B. 1-19-69. 
 
 113 This return is made on Form No. 1041, but like the return required 
 of partnerships, as such, it is essentially a return of information only. 
 
 114 Revenue Act of 1921, §219 (d) ; Revenue Act of 1918, §219 (d). 
 
 115 Reg. 45, Art. 345. 
 
 116 0. D. 1092, T. B. 45-21-1910, overruling O. D. 399, T. B. 6-20-730. 
 
FIDUCIARIES 135 
 
 whether or not it is actually distributed. In other words, there 
 may be an actual or a constructive distribution of the income of 
 an estate. When it is credited or made available to the benefici- 
 ary, it is to be accounted for by the beneficiary as if it were ac- 
 tually paid over to him. Where the tax on such income construc- 
 tively distributed has been paid by the beneficiary, it is not again* 
 payable when at a later date the income is actually received by 
 him.ii'^ Under a will a trust fund was established, the income 
 to be distributed to the beneficiary periodically during her natural 
 life. The trust fund was invested in two mortgages on prop- 
 erty owned by the beneficiary and by verbal agreement it was 
 provided that the beneficiary should pay no interest upon the 
 mortgages and that the trustees should pay her no income 
 from the trust. It was ruled that the fact that the trust fund 
 was invested in a mortgage belonging to the beneficiary and 
 that the contract was entered into by which the trustees agreed 
 not to collect the interest due them, the beneficiary agreeing 
 to receive no income from the trust estate, did not alter the fact 
 that income had accrued to the credit of the estate and that 
 the beneficiary was in constructive receipt of income from the 
 trust. If for any taxable period the net income of the estate 
 should be $1000 or more, including the entire amount of interest 
 receivable upon the mortgage, the trustees would be required 
 to render a return on Form 1041 and the beneficiary would be 
 required to make a return of her distributable share of the in- 
 come of the trust fund. She would, of course, be entitled to de- 
 duct the amount of interest payable within the year upon the 
 mortgages on her property.^^^ 
 
 Distribution op Income of Several Years. Where a de- 
 cedent died in 1913, leaving a will devising a part of his estate 
 in trust to pay the income therefrom to one beneficiary during 
 life, and other parts to be divided among other beneficiaries, and 
 it was impracticable for the executors to complete distribution of 
 the estate or determine the amount of net income until 1916, at 
 which time an account was prepared showing the net income ac- 
 cruing to each beneficiary during the last three months of 1913 
 and during the years 1914 and 1915, a large part of the accumu- 
 lated income being distributed in 1916, it was held that the 
 executors should make a fiduciary return for each of the years 
 
 117 Reg. 45, Art. 345; Reg. 33 Rev., Art. 29; T. D. 2289; Reg. 33, Art. 75. 
 The theory seems to be that such income is separated from the estate when 
 it is credited to the beneficiary, the fiduciary thereafter holding it, not as 
 fiduciary, but as agent for the beneficiary. 
 
 118 0. D. 606, T. B. 30-20-1093. 
 
136 FEDERAL INCOME TAX 
 
 1913, 1914, 1915, and 1916, reciting therein the respective bene- 
 ficiaries and their interests and the beneficiaries could make 
 amended returns for any of those years in which they would be 
 taxable by reason of the amount so distributed.i^^ In this case, 
 apparently, the respective shares of the beneficiaries were known 
 *at all times, but the amount of net income of the estate was not 
 determinable until 1916. 
 
 Undistributed Income. Where the tax has been paid on the 
 "undistributed" income of an estate or trust by the fiduciary 
 such income is free from tax when it is actually distributed to the 
 beneficiaries.120 Where under the terms of the will or deed the 
 trustee may in his discretion distribute the income or accumu- 
 
 119 Letter from treasury department dated March 24, 1917; I. T. S. 1918, 
 11728. 
 
 120 Revenue Act of 1921, §219; Revenue Act of 1918, §219. See also 
 Reg. 45, Art. 344. The 1913 Law was silent as to the taxability of "undis- 
 tributed" inconje. It was first held by the treasury department that if 
 income was added to the corpus of the estate, under the provisions of the 
 will or under a statute, no tax would accrue with respect thereto, but 
 it was later held under that law that such income was taxable, on the 
 theory that an estate could not be without a beneficiary for income tax 
 purposes. Where the beneficiaries and their beneficial interest were known, 
 the income was to be reported as accruing to them, and the estate itself 
 was to be listed as a beneficiary with respect to any of its income not 
 otherwise beneficially assigned or accounted for. (T. D. 2231.) The exe- 
 cutor or administrator of an estate was required to make no return of 
 the income until the settlement of the estate had reached the stage where 
 the beneficiaries and their respective interests in the income were deter- 
 minable, at which time returns should be made showing the annual accrual, 
 a separate return being required for each tax year involved. (Letter 
 from treasury department dated March 4, 1916; I. T. S. 1917, 11576; T. D. 
 2289; T. D. 2231 and T. D. 1943.) In First Trust & Savings Bank v. 
 Smietanka, 268 Fed. 230, the court held that the earliest ruling of the 
 treasury department was the correct interpretation of the statute and 
 that T. D. 2231 is contrary to law. The 1916 Law provided that "income 
 received by estates of deceased persons during the period of administration 
 or settlement of the estate, shall be subject to the normal and additional 
 tax and taxed to their estates. * * * " (§ 2 (b).) It has been in- 
 dicated by the treasury department that under the 1916 Law the income 
 received by an estate of a decedent during the period of administration or 
 settlement was intended to be taxed as an entity whether or not any 
 amounts were paid over to legatees, heirs, or other beneficiaries during that 
 period, but the language of § 2 (b) of the 1916 Law seems to indicate that 
 the law intended the tax to be imposed on the estate "except where the 
 income is returned for the purpose of the tax by the beneficiary," and the 
 construction generally placed upon the provisions of the 1917 Law was 
 that the executor or administrator became liable for the tax only on the 
 amount not paid over to a legatee or heir during the year. This point was 
 settled by the 1918 law. 
 
FIDUCIARIES 137 
 
 late it, the income is taxed to the trustee, irrespective of the ex- 
 ercise of his discretion. The imposition of the tax is not affected 
 by the fact that an ultimate beneficiary may be a person exempt 
 from tax.121 in 1915 a woman died intestate, owning real prop- 
 erty in the state of New York and leaving surviving a husband 
 and a son of full age, who was her sole heir at law and next of 
 kin. The property was sold at a profit in 1920 and the proceeds 
 by consent of the father and the son were placed in a bank in a 
 special account in the name of the husband with an agreement 
 between the father and the son that the father was to have the 
 income from the fund for life and that upon his death the prin- 
 cipal was to go to the son. Under the laws of New York, where 
 a life estate with remainder over is created in personal property, 
 the life tenant is entitled to possession, and upon possession be- 
 comes a trustee for the remainderman. The profits from the 
 sale of the property accrued to and constituted a part of the 
 corpus of the trust fund in the possession of the father, of which 
 the son was the ultimate beneficiary. It was not distributable 
 to the son or to the father, but under the law was required to be 
 held in the fund during the life of the father. Such profits, 
 therefore, represented the undistributable income of a trust 
 entity, and the father, as trustee, was required to file a return 
 showing the profit from the sale as income of the trust and pay 
 the tax thereon.122 
 
 Estates and Trusts Which Cannot Be Treated as a Unit. The 
 
 Revenue Act of 1921 provides that in the case of an estate or 
 trust the income of which consists both of distributable and 
 undistributed income, the net income of the estate or trust 
 shall be computed and a return thereof made by the fiduciary in 
 the' same manner as in the case of undistributed income and 
 that the tax thereon shall be paid by the fiduciary, except that 
 there shall be allowed as an additional deduction in computing 
 the net income of the estate or trust the amount of distributable 
 income. In such cases the distributable income must be included 
 in the returns of the beneficiaries.^^s The following rulings were 
 made to provide for such cases under the 1918 Law: 
 
 121 Reg. 45, Art. 342, is applicable only under the Revenue Acts of 1918 
 and 1919. Where the income of a trust fund is payable only in the discre- 
 tion of the trustee, such income as the trustees distributed to the bene- 
 ficiaries during the years 1916 or 1917 was taxable to the recipient per- 
 sonally. (Revenue Act of 1916, §2-B; S. 1088, T. B. 11-19-382.) 
 
 122 0. D. 1040, T. B. 38-21-1830. 
 
 123 Revenue Act of 1921, §219 (e). 
 
138 FEDERAL INCOME TAX 
 
 In the case of certain estates and trusts it is recognized that 
 the estate or trust can not be treated as a unit for income tax 
 purposes and may represent an aggregate of distinct interests to 
 all of which the fiduciaries are responsible; in such cases the 
 procedure stated in this paragraph should govern. The follow- 
 ing are recognized as cases which can not be treated as a unit: 
 (a) When there is income distributable periodically and also 
 income which is to be accumulated in trust, held for future distri- 
 bution, or added to the corpus; (b) when there is income dis- 
 tributable periodically and also income (according to the federal 
 income tax statutes and regulations) which is not distributable 
 periodically under state law, e. g., gains from sale of capital 
 assets, stock dividends; (c) when there is income distributable 
 periodically and deductions (according to federal income tax 
 statutes and regulations) which are not deductible under state 
 law from the distributable income, e. g., losses from the sale of 
 capital assets, depletion, depreciation. In ascertaining whether 
 an estate or trust comes within any one of the cases just enumer- 
 ated, the provisions of the federal statutes and regulations — 
 rather than the provisions of the will or trust and the provisions 
 of state laws — will determine what items constitute taxable 
 gross income or allowable deductions ; the provisions of the will 
 or trust and of state laws will determine the allocation of items 
 of gross income or deductions ; that is, to which of the different 
 interests making up the whole such items shall be charged or 
 allowed. In cases in which an estate or trust cannot be treated 
 as a unit the items of gross income and deductions, as determined 
 by the federal income tax statutes and regulations, must be 
 scrutinized and classified in accordance with the provisions of 
 the will or trust, or rules of local law, into two classes. The'Hrst 
 class will include the items of gross income and deductions so 
 determined which relate to "undistributed" income, with re- 
 spect to which the estate or trust is treated as a taxable entity 
 and upon which income the tax is paid by the fiduciary. The 
 second class will include the items of gross income and deduc- 
 tions so determined which relate to the "distributable" income, 
 the tax upon which is not paid by the fiduciary but by the bene- 
 ficiary. The result will be that the beneficiary to whom income 
 is to be distributed periodically must include in computing his 
 net income the amount actually distributable to him (except 
 exempt income) even though the aggregate of the distributive 
 shares should be larger than the.net income of the estate or 
 trust computed as a unit. Any gain, profit, or income which is 
 not periodically distributable must be included in computing 
 
FIDUCIARIES 139 
 
 the net income of the estate or trust so that the fiduciary will 
 pay the tax upon any excess of the net income of the estate or 
 trust computed as a unit over the aggregate distributive shares.124 
 Under a will a trust was created for the period of the life 
 of a certain individual, a part of the income of which was to 
 be paid to a charitable institution and an educational institution 
 and the remainder to the individual. At the termination of the 
 trust the property was bequeathed to the charitable and educa- 
 tional institutions. A portion of the trust property was shares of 
 stock. In 1919, the right was given to shareholders to subscribe 
 to additional shares of this stock which right was sold by the 
 trustee. It was held that the amount received by the trustee 
 from the sale of the right was taxable income, the imposition of 
 the tax not being affected by the fact that the ultimate beneficia- 
 ries might be a charitable and an educational institution ; and it 
 was further held that the trust could not be treated as a unit for 
 income tax purposes, there being income distributable periodical- 
 ly and also income which was not distributable periodically under 
 the law of the state in which the testator resided. The trustee 
 was required to file Form 1040, returning as income the amount 
 received from the sale of the right which was not distributable 
 
 124 T. D. 2987, T. B. 10-20-781, revoking all previous rulings inconsistent 
 therewith and retroactive to January 1, 1918; 0. 1013, T. B. 12-20-795-6. 
 For example, a trust is created the income of which is distributable periodi- 
 cally for the life of the beneficiary, the remainder over to others. The trust 
 , has the following items of income: Rent, $3,000; interest, $2,000; gain on 
 sale of capital assets, $1,500; cash dividend, $1,000; and deductions, gener- 
 al expenses (all deductible from distributable income), $700; depreci- 
 ation, $300; loss on sale of capital assets, $3,000. Under the terms of the 
 trust $5,300 will be distributed to the beneficiary, viz, rent, $3,000; plus 
 interest, $2,000; plus dividend, $1,000; less general expenses $700. The 
 gain and loss on the sale of capital assets will be considered capital items 
 affecting the corpus only, and the items of depreciation will not affect the 
 amount to be distributed, there being no rule of state law or provision of 
 the trust requiring this deduction from distributable income. In such 
 a case the fiduciary must report on Form 1041, showing a net income for 
 the trust of $3,500, and must show as the distributive share of the bene- 
 ficiary the $5,300 to which he is entitled. The beneficiary must account for 
 the amount actually distributable to him as income, viz. $5,300 as provided 
 in § 219 (d) and will be entitled to a credit of $1,000 on account of the divi- 
 dends in computing the normal tax, but not to any deduction on account of 
 depreciation or capital losses. If there had been no loss on the sale of capi- 
 tal assets so that the net income of the estate or trust was $6,500. Form 1041 
 should show the distributive share of the beneficiary as $5,300, and the 
 distributive share of the fiduciary as $1,200; and the fiduciary should file 
 a separate return on Form 1040A, reporting $1,200 for taxation. 
 
140 FEDERAL INCOME TAX 
 
 periodically and also Form 1041 showing the distributive shares 
 of the beneficiaries in that portion of the trust income which was 
 distributable periodically.i^s 
 
 Where under the terms of the will of a decedent a trust was 
 created part of the income of which was distributable periodical- 
 ly to the beneficiaries and a portion of which was to be accumu- 
 lated and added to the principal of the trust or held for future 
 distribution, and during the taxable year 1920, real estate owned 
 by the trust was sold at a loss and the return for the trust for 
 that year showed a net loss as a result of the sale, it was held that 
 the amount of the loss might be deducted from the gross income 
 of the trust for the taxable year in computing the net income 
 of the trust as a unit ; but since the loss on the sale of the capital 
 assets of the trust affected the corpus of the trust only, each 
 beneficiary was required to include in computing his net income 
 the amount of the income of the trust, if any, distributable to 
 him, even though the aggregate of the distributive shares of the 
 beneficiaries was larger than the net income of the trust com- 
 puted as a unit.126 
 
 Receiver in Partition Proceedings. A receiver in partition pro- 
 ceedings was required under the 1916 law to report at the close 
 of each year during the pendency of the partition suit, the net 
 income collected from the property during such year, and pay 
 the tax thereon.127 Where an executor under a will is also re- 
 ceiver in partition proceedings the income accruing to him as 
 receiver should be reported separately and not added to the 
 income received by him as executor, if the receivership is sepa- 
 rate and apart from the administration and settlement of the 
 estate. 
 
 Returns by Fiduciaries. A fiduciary is responsible for making 
 a return for the estate or trust for which he acts.^^^ The re- 
 turn is required to state specifically the items of gross income re- 
 ceived and the deductions and credits allowed against such gross 
 income, the net income, and the respective amounts distributed 
 to the respective beneficiaries or retained by the estate as undis- 
 tributed income.129 The return is prepared in the manner indi- 
 cated on the form supplied by the government. No special rules 
 
 125 0. D. 808, T. B. 7-21-1449. See, however, Chapter 20 as to income 
 from the sale of such rights. 
 120 0. D. 1041, T. B. 38-21-1831. 
 
 127 Letter from treasury department dated March 14, 1917; L T. S. 1918, 
 U 1004. 
 
 128 Revenue Act of 1921, § 219 (b) ; Revenue Act of 1918, § 219 (b) . 
 
 129 Revenue Act of 1921, § 225; Revenue Act of 1918, § 225. 
 
FIDUCIARIES 141 
 
 are applicable to fiduciaries, except that in case of income which 
 is to be distributed to the beneficiaries periodically, whether or 
 not at regular intervals, and in the case of income collected by a 
 guardian of an infant to be held or distributed as the court may 
 direct, the fiduciary is required to include in his return a state- 
 ment of each beneficiary's distributive share of the net income of 
 the estate or trust, whether or not distributed before the close 
 of the taxable year for which the return is made.^^" 
 
 By Whom Filed. The return is filed by the fiduciary having 
 charge of the trust estate. Fiduciaries required to make re- 
 turns are subject to all the provisions of the law which apply to 
 individuals. Under such regulations as the commissioner, with 
 the approval of the secretary, may prescribe, a return made 
 by one of two or more joint fiduciaries and filed in the oifice of 
 the collector of the district where such fiduciary resides, is a 
 sufficient compliance with the requirements of the law.^^^ In 
 case no necessity exists for the appointment of an administrator, 
 the beneficiaries may act jointly, or may duly appoint one of 
 their number as the agent of the estate for the purpose of filing 
 the income tax return of the decedent. In doing so, however, 
 the agent assumes the responsibility for making the return and 
 incurs the liability to the specific penalties provided for in the 
 case of the filing of erroneous, false, and fraudulent returns.^^^ 
 
 Revocable Trusts. The trustee under a revocable trust is 
 required to file a return on Form 1041, revised, showing the 
 grantor as the beneficiary under the trust. The trustee must 
 also file a return of information upon which should be entered 
 the name and address of the grantor in whose return the income 
 should be included.^-^^ 
 
 When a Return Is Required. Every fiduciary (except re- 
 ceivers appointed by authority of law in possession of part only 
 of the property of an individual) or at least one of joint fiduci- 
 aries, were required, under the 1918 law, to make a return of in- 
 come (a) for the individual whose income is in his charge, if the 
 net income of such individual is $2,000 or over, if married and 
 living with husband or wife, or is $1,000 or over in other cases, 
 or (b) for the estate or trust for which he acts, if the net income 
 of such estate or trust is $1,000 or over, or if any beneficiary of 
 
 130 Revenue Act of 1921, §219 (b) ; Revenue Act of 1918, §219 (b). 
 
 131 Revenue Act of 1921, § 225 (b)'; Revenue Act of 1918, § 225. 
 
 132 0. D. 702, T. B. 43-20-1264. 
 
 133 0. D. 621, T. B. 32-20-1116. 
 
142 FEDERAL INCOME TAX 
 
 such estate or trust is a nonresident alien.^^* Under the 1921 
 Law, in the case of (a) above, a return must be made for every 
 individual for whom he acts if such individual has a gross in- 
 come for the taxable year of $5,000 or over, regardless of the 
 amount of his net income, and in the case of (2) above, for every 
 estate or trust the net income of which for the taxable year is 
 $1,000 or over and for every estate or trust of which any bene- 
 iiciary is a nonresident alien.i^s 
 
 Fiduciaries Acting in More Than One Estate. In the case 
 of two or more trusts the income of which is taxable to the bene- 
 ficiaries, which were created by the same person and are in 
 charge of the same trustee, the trustee is required to make a 
 single return on Form 1041 (revised) for all such trusts, not- 
 withstanding that they may arise from different instruments. 
 When, however, a trustee holds trusts created by different per- 
 sons for the benefit of the same beneficiary, he is required to 
 make a return on Form 1041 (revised) for each trust sepa- 
 rately.^3^ 
 
 Where Filed. The return of a fiduciary should be filed in the 
 collection district in which the fiduciary resides or has his 
 place of business, regardless of the residence of the benefici- 
 aries.i^'^ Where an estate has two or more joint fiduciaries, the 
 return may be filed by one of them in the district where he re- 
 sides, such filing being a sufficient compliance with the law.i^s 
 
 When Filed. The return must be filed on or before March 
 15th in each year, or on or before the fifteenth day of the third 
 month following the close of the fiscal year of the estate or trust, 
 accordingly as it reports upon the basis of the calendar or a fiscal 
 year. Foreign fiduciaries must file returns on or before June 
 15th if they report upon the basis of the calendar year, and on 
 or before the close of the sixth month following the close of their 
 fiscal year.139 
 
 Extension of Time. The same extension of time may be 
 granted for filing the returns of fiduciaries as may be granted to 
 individuals. 
 
 134 Revenue Act of 1918, § 225; Reg. 45, Art. 421. The return in case (a) 
 and also in case (b) if the tax is payable by the fiduciary should be made on 
 Form 1040 (revised), except that it may be on short Form 1040-A (revised) 
 where the net income does not exceed $5,000. The return may be made on 
 Form 1041 (revised) in case (b) if the tax is payable by the beneficiaries. 
 
 135 Revenue Act of 1921, §225 (a). 
 
 136 Reg. 45, Art. 423; T. D. 2090; T. D. 2137. 
 
 13T Revenue Act of 1921, §227 (b) ; Revenue Act of 1918, §227 (b). 
 
 138 Revenue Act of 1921, § 225 (b) ; Revenue Act of 1918, § 225. 
 
 139 See Chapter 34. 
 
FIDUCIARIES 143 
 
 How Signed and Sworn to. The law provides that the fidu- 
 ciary shall make oath that he has sufficient knowledge of the af- 
 fairs of the individual, trust, or estate for which he acts, to en- 
 able him to make the return and that the same is, to the best of 
 his knowledge and belief, true and correct.^*" When the return 
 is signed and sworn to by an individual as a fiduciary his full 
 address is required to be stated. If the fiduciary is an organ- 
 ization, the return is signed and sworn to by the president, secre- 
 tary or treasurer .1*1 
 
 Returns foi? Beneficiaries. As a general rule, the fiduciary is 
 not required to make any return of "distributable" income, as 
 that term is defined in a previous paragraph,"- for and on behalf 
 of his beneficiary.i*3 jf^ however, the fiduciary has been legally 
 authorized to act as agent for the beneficiary, or is an attorney- 
 in-fact for him, he may also make and file the personal return of 
 the beneficiary in the same manner as any other duly authorized 
 agent.i** If the beneficiary is unable to make his own return, or 
 is a nonresident alien, the fiduciary is required to make the per- 
 sonal return for him, as indicated in the following paragraphs. 
 
 For Minors or Insane Persons. A fiduciary acting as the 
 guardian of a minor having a net income of $1,000 or $2,000 ac- 
 cording to the marital status of such person, or a gross income 
 of $5,000, must make a return for such minor and pay the tax, 
 unless such minor himself makes a return or causes it to be 
 made. A fiduciary acting as the committee of an insane person 
 having a net income of $1,000 or $2,000, according to the marital 
 status of such person, or a gross income of $5,000, must make. 
 a return for such incompetent and pay the tax.i*^ 
 
 For Non-Resident Alien Beneficiaries. Where a citizen or 
 resident fiduciary has the distribution of trust income for which 
 there is a nonresident alien beneficiary, the fiduciary must make 
 a return for such nonresident alien and pay the tax. If there 
 are two or more beneficiaries, the fiduciary should render a re- 
 
 140 Revenue Act of 1921, §225 (b) ; Revenue Act of 1918, §225. 
 
 1« Reg. 33, Art. 73. See instructions on Form 1041. 
 
 "2 See p. 133. 
 
 143 See, however, the paragraph "Estates and Trusts Which Cannot Be 
 Treated as an Entity," p. 137. 
 
 W*See Reg. 33, Art. 72. 
 
 145 Reg. 45, Art. 422. Form Nos. 1040 (revised) or 1040-A (revised) are 
 used for this purpose. See 0. D. 1085, T. B. 44-21-1897. 
 
144 FEDERAL INCOME TAX 
 
 turn on Form 1041 (revised) and also a return for each non- 
 resident alien beneficiary.^*'' 
 
 It was held under the 1918 law that a fiduciary should file 
 Form 1040 for a nonresident alien beneficiary, even though the 
 individual's distributive share of income is derived from divi- 
 dends and is less than $5,000.w where two separate trusts are 
 created for the same nonresident alien beneficiary, each trustee 
 is required to render a personal return on Form 1040 or 1040a 
 on behalf of the nonresident alien, and pay any and all normal 
 tax found by such return to be due and any and all surtax, pro- 
 vided the income is not returned for the purpose* of the tax by 
 the beneficiary. If one of the trustees is the representative or 
 authorized agent of the nonresident alien, he may render a com- 
 plete return on Form 1040 or 1040a, combining the entire net 
 income from both trusts and take credit on the. return for any 
 tax paid by the other fiduciary in behalf of the nonresident alien. 
 If the nonresident alien beneficiary of the two trusts should 
 appoint a resident agent for the purpose of filing his return and 
 paying the tax in his behalf, it would not be necessary for the 
 two trustees to file returns on Form 1040 or 1040a, provided 
 they have received notice of such appointment. The fiduciaries, 
 however, would not be relieved from liability for rendering re- 
 turns as such on Form 1041."8 
 
 Fiduciary Who is Also Beneficiary. A fiduciary who is 
 also the beneficiary of the trust 'should file a return for the 
 estate or trust, and should also file an individual return show- 
 ing his entire income derived from the estate and from all other 
 sources."^ 
 
 Income to Be Reported by Beneficiary. Unless the beneficiary 
 is under some disability which requires a fiduciary to act, the 
 beneficiary makes his own personal return and accounts for the 
 tax upon his entire net income, including that which has been 
 received from the estate.^^o The fiduciary is not under any duty 
 to account for or pay the tax on amounts distributed to benefi- 
 ciaries where the beneficiary is capable of making his own return 
 and is not a nonresident alien. The beneficiary reports the in- 
 come for the year in which it is received by him or credited to 
 
 146 Reg. 45, Art. 425. Form Nos. 1040 (revised) or 1040-A (revised) are 
 used for this purpose. See Reg. 33 Eev., Art. 29, as amended by T. D. 2988, 
 T. B. 11-20-785; 0. D. 1085, T. B. 44-21-1897. 
 
 "7 0. D. 58, T. B. 1-19-79. 
 
 148 0. D. 572, T. B. 27-20-1042. 
 
 149 0. D. 208, T. B. 10-19-360. 
 
 150 See T. D. 2090. See p. 133. 
 
FIDUCIARIES 145 
 
 him, — that is, for the year in which it is actually or construc- 
 tively received. All amounts paid by fiduciaries to beneficiaries 
 of trust estates from the income of such trust estates, whether 
 from reserves or otherwise, are held to be distributions of income 
 and will be treated foi- income tax purposes in accordance with 
 the provisions of law and regulations applicable to income of 
 such beneficiaries. The beneficiary will be required in the case 
 of trust estates to account for the actual amounts distributed or 
 credited to him.i^i 
 
 Returns of Executors and Administrators. In addition to the 
 duties which executors and administrators have in common with 
 other fiduciaries, they are also required to report the income of 
 the decedent for that part of the last taxable year during which 
 he lived ; and also for the preceding taxable year, if the decedent 
 died before the time for filing returns for such year had expired 
 and no return had been filed by him. Thus, if a decedent died 
 in February, 1920, without having made a return for 1919 the 
 executor or administrator is required to file a return for 1919 
 and a return for the part of 1920 in which the decedent lived.^^^ 
 If the net income of the decedent, from January 1 of the year 
 in which he died to the date of his death, was less than the sum 
 which would have made him liable to make a return if living, 
 no return is required by the executor or administrator.i^s The 
 personal exemption which may be deducted from the decedent's 
 income so reported is the full amount allowed to living persons 
 
 151 Reg. 33 Rev., Art. 29. See Revenue Act of 1921, §219 and Revenue 
 Act of 1918, § 219. In a recent case (Gavit v. Irwin, 275 Fed. 643), it has 
 been decided that there is no provision of the 1913 Law by which it can be 
 held that the moneys received by a beneficiary under a trust fund established 
 by the will of a decedent, no part of the capital of which inures to the benefit 
 of such beneficiary, are taxable income. Such moneys are held to be income 
 to the estate but not to the beneficiary. As. to him they are property acquired 
 by bequest or devise and therefore not taxable. (I. T. S. 1921, T[3177.) 
 
 152 Revenue Act of 1918, § 223. Returns seem to be required of executors 
 or administrators in such cases on the theory that by reason of death the 
 decedent is unable to make his own return, a return therefore being required 
 by the "person charged with the care of the person or property of such tax- 
 payer." See Brady v. Anderson, 240 Fed. 665, writ of certiorari denied, 
 244 U. S. 654; Mandell v. Pierce, 3 Cliff. 134, 16 Fed, Cas. No. 9008; Reg. 
 33 Rev., Arts. 4 and 14. 
 
 153 Revenue Act of 1921, §223; Revenue Act of 1918, §223; Reg. 45, 
 Art. 421. See also T. D. 2090 and Reg. 33, Art. 17. 
 
146 FEDERAL INCOME TAX 
 
 of the same status as that of the decedent at the time of his 
 death.15* 
 
 Time for Filing Return Upon Death or Termination of 
 Trust. As soon as possible after his appointment and qualifi- 
 cation, without waiting for the close of the taxable year, an 
 executor or administrator should file a return of income for the 
 decedent. Upon the completion of the administration of an 
 estate and final accounting an executor or administrator should 
 file a return of income of the estate for the portion of the taxable 
 year in which the administration was closed, attaching to the 
 return a certified copy of the order for his discharge. An 
 ancillary administrator need make no separate return if the 
 domiciliary administrator includes in his return the entire in- 
 come of the estate. Similarly, upon the termination of any other 
 trust the trustee should make a return without waiting for the 
 close of the taxable year. In any such case the requirements 
 with respect to the payment of the tax are the same as if the 
 return were for a full taxable year closing at the end of the 
 month during which the decedent dies or the estate is settled or 
 the trust is terminated, as the case may be. The payment of the 
 tax before the end of the taxable year in such circumstances 
 does not relieve the taxpayer from liability for any additional tax 
 which might subsequently be imposed upon income of the taxable 
 year.155 Where a testator died in May, 1917, and the adminis- 
 tration of the estate was closed and the executor discharged in 
 October, 1918, it has been held that the tax for the period from 
 January 1, 1918, to the close of the administration of the estate 
 must be computed and paid at the rates imposed by the Revenue 
 Act of 1918, even though the return was filed and the tax paid 
 before that act became law.i"" Where a taxpayer who was 
 granted an extension of time in which to file his 1919 return, 
 died before the expiration of such extension without rendering 
 a returij, the return was required to be filed by the executor or 
 administrator as soon as possible after appointment or qualifi- 
 cation and be accompanied by the amount of any tax due, to- 
 gether with interest at the rate of one-half of 1 per cent, per 
 month on the amount of any deferred installments from their 
 respective original due dates until paid.^"'' 
 
 154 Revenue Act of 1921, §216 (f). See Reg. 33 Rev., Art. 14. See 
 Chapter 31. 
 
 155 Reg. 45, Art. 442 ; Reg. 33 Rev., Art. 26. 
 
 156 A. R. R. 565, T. B. 29-21-1737. 
 
 157 O. D. 681, T. B. 41-20-1234. 
 
FIDUCIARIES 147 
 
 Liability of Executors for Tax. Liability for payment of 
 the income tax attaches to the person of an executor or admin- 
 istrator up to and after his discharge, where prior to distribu- 
 tion and discharge he had notice of his tax obligations or failed 
 to exercise due diligence in determining whether or not such 
 obligations existed. Liability also follows the estate itself, and 
 when, by reason of the distribution of the estate and the dis- 
 charge of the executor or administrator, it appears that the col- 
 lection of the tax cannot be made from the executor or adminis- 
 trator, the legatees or distributees must account for their propor- 
 tionate share of the tax due and unpaid. The same considerations 
 apply to other trusts.^^* 
 
 Collection of the Tax From Distributees. In a case in 
 which a taxpayer in October, 1919, converted all of his prop- 
 erty into cash and distributed it to his wife and sister, so that 
 at the time of his death in January, 1920, nothing remained 
 to be administered or to satisfy his income tax liability, it has 
 been held that the gift tended to defeat the intent and purpose 
 of the income tax law, and that liability for income tax attaches 
 to and follows the property distributed into the hands of the 
 recipients ; also that a return for 1919 should be filed on behalf 
 of the decedent and payment of the tax assessed against the 
 estate of the decedent should be demanded of the recipients of 
 the gift.^^59 Inasmuch as a residuary estate is the gross estate 
 of the decedent less proper expenses and bequests of specific 
 amounts or specific property, and the specific bequests must be 
 paid in full after all debts and expenses are paid, even though 
 nothing remains to constitute a residue, it follows that if an 
 estate is distributed and no provision made for any part of such 
 expenses or specific bequests, a proper residue is not obtained 
 and the residuary legatee has received an amount in excess of 
 that to which he is entitled. Therefore, where the estate of a 
 deceased person has been settled, no provision being made for 
 the payment of income tax, the tax assessable is properly col- 
 lectible from the residuary legatee.^"" 
 
 Returns by Ancillary Executors. The ancillary executor of 
 the estate of a nonresident alien should make returns for the 
 estate and pay the taxes due, as agent of the foreign executor, 
 
 158 Reg. 45, Art. 344; Reg. 33 Rev., Art. 29. 
 
 159 0. D. 582, T. B. 28-20-1058. 
 
 160 O. D. 722, T. B. 45-20-1295. 
 
148 FEDERAL INCOME TAX 
 
 and file personal returns for each nonresident alien benefi- 
 ciary.161 
 
 In a case where a decedent, a resident of New York, but at 
 the time of her decease living in California, left property in 
 both states, an executor being appointed in each state, it has 
 been held that since the entire will was probated in New York 
 and only that part pertaining to property located in California 
 was probated in that state in conformity with its laws, the 
 executor in California was in fact an ancillary executor and 
 was not required to file a return for the estate, if the domiciliary 
 executor includes in his return the entire income of the estate.^^^ 
 
 Withholding at the Source Against Fiduciaries. The provi- 
 sions with respect to withholding the tax at the source apply in 
 the case of payments to fiduciaries in the same manner as in the 
 case of payments to individuals. There is, generally speaking, 
 no withholding at the source on payments to citizens and resi- 
 dents of this country and it follows that there is no withholding 
 at the source in the case of a fiduciary who is a citizen or a 
 resident, or has an office or place of business in this country. 
 The one exception to this rule is the withholding of a tax equal 
 to 2% on interest paid on obligations of corporations containing 
 a tax-free covenant. In such cases the tax is in theory 
 withheld, but not in actual fact, since the paying corporation 
 assumes the burden of the tax, paying the interest in full to 
 its bondholder. Although the fiduciary may be a corporation, in 
 its capacity as fiduciary it is subject to the provisions of law 
 applicable to individuals and not to corporations ; hence on pay- 
 ments of such interest as that referred to in the preceding sen- 
 tence, the paying corporation will be required to treat the 
 corporation fiduciary as an individual and assume the burden 
 of the 2% tax.163 
 
 Withholding at the Source by Fiduciaries. A fiduciary is ex- 
 pressly required to withhold the tax at the source in the same 
 cases in which individuals, corporations and partnerships are 
 required so to do ; that is, the tax must be withheld at the source 
 by a fiduciary upon all annual or periodical payments of fixed 
 and determinable income to nonresident aliens and nonresident 
 foreign corporations.^^* 
 
 161 0. D. 292, T. B. 23-19-547. The personal returns are filed on Forms 
 1040 (revised) or 1040 (a) (revised). The ancillary executor should also 
 file a withholding return on Form 1042 (revised) accompanied by certi- 
 ficate 1098 (revised). 
 
 162 0. D. 584, T. B. 28-20-1060. 
 
 163 See Chapter 40. 
 
 164 See Chapter 40. 
 
FIDUCIARIES 149 
 
 Information at the Source. Fiduciaries are expressly subject 
 to all the provisions of the law requiring information at the 
 source. These requirements are discussed in full in a subsequent 
 chapter.i*'^ A fiduciary is required to file with his return on 
 Form 1041, an information return on Form 1099, covering the 
 distributable share of each beneficiary, regardless of the amount 
 or character of the income comprising such distributable share. 
 This is true even though the entire income of the estate consists 
 of dividends which may be taken as a credit against the normal 
 tax in the case of individuals or deducted by corporations.^''^ 
 
 Penalties. The law provides that fiduciaries required to make 
 
 returns shall be subject to all the provisions which apply to 
 
 individuals. ^^'^ Fiduciaries are liable to the same penalties, 
 
 so far as they are applicable, as those which may attach to 
 
 individuals. These penalties are discussed at length in another 
 chapter.iss 
 
 Foreign Fiduciaries. The term "foreign fiduciary" as here 
 used means a fiduciary who neither resides in this country nor 
 has an office or place of business here, that is, one who is not 
 within the jurisdiction of this government. The law provides 
 that "fiduciaries required to make returns under this act shall 
 be subject to all the provisions of this act which apply to 
 individuals." 189 T^e law implies that foreign fiduciaries shall 
 be subject to its provisions to the same extent as nonresident 
 alien individuals. 
 
 Trust Estates. The trust estate under the control of a for- 
 eign fiduciary is subject to tax on net income derived from 
 sources within this country. Net income from sources within 
 this country is determined under the same rules as apply to 
 nonresident aliens.^^" The deductions claimed by the foreign 
 fiduciary are governed by the rules relating to fiduciaries in 
 
 165 See Chapter 39. 
 
 166 O. D. 575, T. B. 27-20-1046. 
 
 167 Revenue Act of 1921, § 225 (b) ; Revenue Act of 1918, § 225. 
 188 See Chapter 36. 
 
 169 Revenue Act of 1921, § 225 (b) ; Revenue Act of 1918, § 225. 
 
 i™ See Chapter 4. In state ex rel. Wisconsin Trust Co. v. Widule, 164 Wis. 
 56, 159 N. W. 630, it was held that dividends from stocks and interest upon 
 notes, mortgages, etc., received by a resident trustee (individual or corpo- 
 ration) as a gain or profit from securities constituting the trust fund, were 
 taxable as income from sources within Wisconsin, even though the person 
 entitled to the enjojraient and to whom they must be paid over was a non- 
 resident and also a co-trustee and even though two of the three trustees 
 resided without the state. The resident trustee was held to be the recipient 
 of the income. It has also been held in Wisconsin (Bayfield Co. v. Pishon, 162 
 Wis. 466, 156 N. W. 463) that where income of a nonresident testamentary 
 
150 FEDERAL INCOME TAX 
 
 general, except so far as they are limited by rules relating to 
 the deductions allowed to nonresident aliens. The same rules 
 applicable to domestic fiduciaries with respect to "distributed" 
 and "undistributed" income apply to foreign fiduciaries. Non- 
 resident alien fiduciaries of trusts subject to the jurisdiction 
 of a foreign country are taxable on undistributed net income 
 from sources within the United States, irrespective of the fact 
 that the creator of the trust or estate may be either a citizen 
 or resident of the United States or a nonresident alien and the 
 beneficiaries may be either citizens or residents of the United 
 States or nonresident aliens. A personal exemption allowed a 
 single person may properly be claimed.^^i The income of 
 estates in process of administration in the cotirts of a foreign 
 country by nonresident alien fiduciaries is taxable as an entity in 
 so far as the income received is from sources within the United 
 States, irrespective of the fact that the decedent may have been 
 either a nonresident alien or citizen of the United States and 
 the beneficiaries in the distribution may be either nonresident 
 aliens or citizens or residents of the United States. The same 
 specific exemption as provided for above may be claimed."^ 
 
 Returns of Foreign Fiduciaries. Under the law a foreign 
 fiduciary is required to make under oath a return for the in- 
 dividual, estate or trust for which he acts, stating specifically 
 the items of the gross income received from sources within this 
 country, and the deductions and credits allowed by the law, 
 and the respective shares distributable to beneficiaries. The 
 fiduciary is required to make oath that he has sufficient knowl- 
 edge of the affairs of the individual, estate or trust for which 
 he acts to enable him to make the return, and that the same is, 
 to the best of his knowledge and behef, true and correct.^'^s In 
 making the return he should comply with the law and regulations 
 respecting returns by nonresident aliens. 
 
 Where Filed. In the case of foreign fiduciaries the return 
 should be filed with the collector at Baltimore, Maryland."* 
 
 trustee was derived from sources without the state, the fact that the trust 
 was being administered by a Wisconsin court was insufficient to subject the 
 income to tax; that it was not sufficient that "sources" be constructively 
 within the state. 
 
 171 Under the 1918 Law such exemption including the credit for depend- 
 ents might be claimed only provided the fiduciary was a citizen or subject 
 of a country which, if it imposed an income tax, allowed a similar credit 
 to citizens of the United States not residing in such country. 
 
 172 A. R. M. 37, T. B. 13-20-810. 
 
 m Revenue Act of 1921, §225; Revenue Act of 1918, §225. 
 
 174 Revenue Act of 1921, §227 (b) ; Revenue Act of 1918, §227 (b). 
 
FIDUCIARIES 151 
 
 When Filed. Returns of foreign fiduciaries are filed at the 
 same time as those of nonresident aliens.i'^s The same general 
 rules are applicable to the filing of returns by nonresident 
 aliens and by foreign fiduciaries. The same extensions of time 
 may be granted and the same penalties imposed for neglect or 
 failure to file.^'^*' 
 
 Withholding at the Source Against Foreign Fiduciaries. 
 The provisions with respect to withholding the tax at the source 
 apply, in the case of payments to foreign fiduciaries, in the 
 same manner as in the case of payments to nonresident aliens. 
 A foreign fiduciary may not receive the benefit of the specific 
 exemption by filing a claim therefor with the withholding 
 agent, 1'^'' and cannot otherwise claim exemption from withhold- 
 ing of the tax at the source.^'''* He may claim the benefit of de- 
 ductions and credits and obtain a refund of any amounts with- 
 held in excess of the tax liability of the estate, in the same 
 manner as is prescribed with respect to nonresident alien in- 
 dividuals.i™ 
 
 Withholding at the Source by Foreign Fiduciaries. Since 
 a foreign fiduciary is not personally within the jurisdiction 
 of this government, the requirements imposed upon domestic 
 or resident fiduciaries to withhold the tax in paying income to 
 nonresident aliens do not apply to such fiduciaries. 
 
 Information at the Source of Foreign Fiduciaries. A for- 
 eign fiduciary is under no duty to supply the government with 
 information at the source as to payments made to others, except 
 so far as information is supplied with respect to beneficiaries 
 in the return of income. 
 
 175 Revenue Act of 1921, §§ 225 and 227 (a) ; Revenue Act of 1918, §§ 225 
 and 227 (a). 
 
 176 See Chapters 34 and 36. 
 
 177 Revenue Act of 1921, § 217 ; Revenue Act of 1918, § 217. This provi- 
 sion of the lavsr authorizes the Commissioner to permit nonresident aliens to 
 claim exemption at the source, but no such permission has been granted 
 except as to alien employees. See Chapter 40. 
 
 178 Letter from treasury department dated December 28, 1916; I. T. S. 
 1919, II 546. 
 
 179 See Chapter 4. 
 
CHAPTER 7. 
 FARMERS 
 
 The application of the income tax law in the case of farmers 
 presents certain peculiar difficulties and has been the subject of 
 particular consideration on the part of the treasury department. 
 A number of rulings and regulations relating specifically to farms 
 and farming have resulted.^ These rules pertain mainly to 
 special items of a farmer's income, the methods permitted for the 
 computation of his gross income, and the application of the 
 statutory deductions to the transactions usually involved in the 
 business of farming. 
 
 Definition. The term "farm" is defined as embracing the 
 farm in the ordinarily accepted sense and includes stock farms, 
 dairy farms, poultry f airms, fruit farms, trqck farms, plantations, 
 ranches, and all land used for farming operations ; and the term 
 "farmer" is defined as all corporations,, partnerships or indi- 
 viduals who cultivate, operate, or manage such farms for gain 
 or profit, either as owners or tenants.^ 
 
 "Gentlemen Farmers." A person cultivating or operating a 
 farm for recreation or pleasure, and not upon the basis of the 
 recognized principles of commercial farming, the usual result of 
 which is a loss from year to year, is not regarded as a farmer. 
 In such cases, if the operation of a farm results in a net gain 
 for the year, such gain must be reported as income. If, how- 
 ever, the expenses and losses incurred in connection with the 
 farm are in excess of the receipts therefrom, the entire receipts 
 from the sale of products may be ignored in rendering a return 
 of income ; and the expenses, being regarded as personal expenses, 
 will not be allowed as a deduction from the income derived from 
 other sources.^ 
 
 iReg. 45, Arts. 38, 110, 145, 171, 1586; T. D. 2665, amending T. D. 2153; 
 Reg. 33 Rev., Arts. 4 and 123. 
 
 2 Reg. 45, Art. 38; T. D. 2665. 
 
 3 Reg. 45, Arts. 38 and 110; Reg. 33 Rev., Art. 4. If a farmer buys a 
 farm which is much run dovs^n, with the intention of making it a profit pay- 
 ing property, to do which he is obliged to expend large amounts for labor 
 in plowing and cultivating the land, for fertilizer, lime, etc., so that for 
 several years the expenses will greatly exceed the gross receipts, the excess 
 of such expenses over such receipts may be claimed as a loss against other 
 income, provided the farm continues to be operated on a strictly commercial 
 basis. (Income Tax Primer for Farmers, Question 80.) See A. R. R. 249, T. 
 B. 35-20-1168. 
 
 152 
 
FARMERS 153 
 
 In two recent cases* the question arose as to whether certain 
 taxpayers owning large farms were engaged in the business 
 of farming. In the first case, the plaintiff owned two farms. 
 The first farm consisted of 1300 acres — 900 of woodland and 400 
 of cultivated land. The place was equipped with cow barns, 
 there were 40 cows and there was evidence of it being a cattle 
 farm. There were no profits from the farm, although there was 
 reasonable probability that some day there would be. The plain- 
 tiff was held, in this case, to be carrying on the business of a 
 farmer. The second farm consisted of 480 acres and only 70 
 were cultivated, and the testimony was that there never was 
 a profit or reasonable expectancy thereof, that the expenses 
 were far in excess of what legitimately would be a farm venture 
 and that the raising of crops was more of a hobby than a busi- 
 ness. The court sustained the finding of the jury that the plain- 
 tiff could not be said to be carrying on the business of farming 
 with respect to this latter farm. In the second case two questions 
 were submitted to the jury; (1) was the plaintiff engaged in 
 carrying on the business of farming and (2) were the expenses 
 incurred in connection with such farm necessary expenses of 
 carrying on business. The jury answered the first question in 
 the affirmative and the second in the negative, the only reason 
 for this appearing to be that while they considered the plaintiff 
 engaged in carrying on a business, they also considered the ex- 
 penses to be so gross and unreasonable as not to be necessary. 
 In the case of a second farm owned by the same plaintiff, the 
 jury found that he was merely a gentleman farmer, running the 
 place as a forest preserve for his own pleasure. The plaintiff 
 also had an office in New York city, where he went to receive 
 his mail and through which he contended he conducted his busi- 
 ness of farming. The jury, strangely enough, found in this con- 
 nection that the expenses of the office were necessary expenses. 
 
 Inventories. Farmers may change (without formal permis- 
 sion) s the basis of their returns from that of receipts and dis- 
 bursements to that of an inventory basis, which necessitates the 
 use of opening and closing inventories for the year in which the 
 change is made. There should be included in the opening in- 
 ventory all farm products (including live stock) purchased or 
 raised which were on hand at the date of the inventory, and 
 there must be submitted with the return for the current tax- 
 able year an adjustment sheet for 1917 and each year thereafter 
 
 4 Fish V. Irwin and Chapin v. Irwin, U. S. Dist. Ct., No. Dist. of New 
 York, motions to set aside the jury verdicts denied, July 29, 1921. 
 
 5 0. D. 841, T. B. 11-21-1504. 
 
154 FEDERAL INCOME TAX 
 
 (prior to the year in which the change is made) based on the 
 inventory method; upon the amount of which adjustments the 
 tax shall be assessed and paid (if any be due) at the rate of 
 tax in effect for each respective year. Where it is impossible to 
 render complete inventories from the beginning of the taxable 
 year 1917, the department will accept estimates which in its 
 opinion substantially reflect the income, on the inventory basis, 
 for the year 1917 and thereafter ; but inventories must not in- 
 clude real estate, buildings, permanent improvements, or any 
 other assets subject to depreciation.'' Adjustment of taxes for 
 years prior to 1917, in cases in which farmers change to the 
 inventory basis in rendering their income tax returns for the 
 current taxable year, is not required, because in most cases 
 records for such prior years are not available. If, however, 
 adequate records for the years 1915 and 1916 are available, ad- 
 justments may be made for those years also.'^ Because of the 
 difficulty of ascertaining actual cost of live stock and other farm 
 products, farmers who render their returns upon an inventory 
 basis may, at their option, value their inventories for the current 
 taxable year according to the "farm-price method" of determining 
 costs, which provides for a valuation of inventories at market 
 price less cost of rmm-keting. If the use of the "farm-price 
 method" of valuing inventories for any taxable year involves 
 a change in method of pricing inventories from that employed 
 in prior years, the opening inventory for the taxable year in 
 which the change is made should be brought in at the same value 
 as the closing inventory for the preceding taxable year (this 
 being the same in effect as valuing the opening inventory on 
 the new basis and crediting income with the excess valuation 
 brought in) . If such valuation of the opening inventory for the 
 taxable year in which the change is made, results in an ab- 
 normally large income for that year, there may be submitted 
 with the return for such taxable year, an adjustment sheet for 
 1917 and each year thereafter (prior to the year in which the 
 change is made), based on the "farm-price method" of valuing 
 inventories; upon the amount of which adjustments the tax will 
 be assessed and paid, as provided above. Where returns have 
 been made in which the taxable net income has been computed 
 upon incomplete inventories, the abnormality must be corrected 
 by submitting with the return for the current taxable year an 
 adjustment sheet for 1917 and each year thereafter (prior to 
 
 6 Reg. 45, Art. 1586. 
 
 7 0. D. 802, T. B. 7-21-1443. 
 
FARMERS 155 
 
 the year in which the change is made) , upon which such adjust- 
 ments shall be made as are necessary to bring the closing in- 
 ventory for the preceding year into agreement with the opening 
 complete inventory for the current taxable year; upon the 
 amount of which adjustments the tax will be assessed and paid, 
 as provided above.* The above regulations and rulings are in- 
 tended to revoke all previous rulings and instructions inconsistent 
 therewith. Where a change is made by farmers in the basis 
 of making their returns from that of cash receipts and disburse- 
 ments to that of an accrual basis with inventories, many items 
 of gross income and deductions may be duplicated or entirely 
 omitted as a result of the change unless an adjustment is made 
 of the net income for the prior years, and it is the purpose of 
 the above provisions requiring an adjustment sheet from the 
 beginning of the taxable year 1917 to reduce any discrepancies 
 caused by such omissions and duplications to a minimum and 
 properly to allocate over the period from 1917 to date, the net 
 difference in gain or loss due to changing from a cash basis to 
 an inventory basis. It is also necessary from an administrative 
 standpoint that a uniform procedure be followed in such cases. 
 It is, therefore, not permissible for farmers in changing to the 
 inventory basis of making their returns to make adjustments 
 by calculating their net income for the current taxable year 
 without taking as a credit the inventory of live stock, crops, and 
 other products at the beginning of the year in accordance with 
 the instructions on page 4 of Form 1040-F.9 Opening and clos- 
 ing inventories for the years from 1917 to date are first ascer- 
 tained from the best source of information available, and the 
 gross income of each year is adjusted by adding or subtracting, 
 as the case may be, the additional gain or loss due to the differ- 
 ence between the opening and closing inventory in each year. 
 A separate adjustment sheet should be made for each year 
 from 1917 to date, in order that the sheet for each year may 
 be attached to the return for that particular year. The net income 
 is then adjusted conformably, and from this information the 
 tax on each return is recomputed by the commissioner at the 
 rate at which the tax was originally computed.^" Florists are not 
 required to use inventories of growing plants for the purpose of 
 calculating their net income for income tax purposes and should 
 not compute the cost of goods sold during the year by using 
 
 8 Reg. 45, Art. 1586. 
 
 9 0. D. 939, T. B. 23-21-1671; 0. D. 1105, T. B. 47-21-1928. 
 
 10 O. D. 1105, T. B. 47-21-1928. 
 
156 FEDERAL INCOME TAX 
 
 an inventory value of growing plants on hand at the beginning 
 and end of the taxable year.^i 
 
 Accounting on an Accrual Basis. Farmers keeping books are 
 required to report their income on the cash or accrual basis, 
 according to the method of accounting employed by them in 
 keeping their books.^^ In the case of a farmer reporting on the 
 accrual basis, (in which an inventory to determine profits is 
 used) his gross profits are ascertained by adding to the inventory 
 value of live stock and products on hand at the end of the year 
 the amount received from the sale of live stock and products, 
 and miscellaneous receipts for hire of teams, machinery, and 
 the like, during the year, and deducting from this sum the 
 inventory value of live stock and products on hand at the begin- 
 ning of the year and the cost of live stock and products pur- 
 chased during the year. In such cases all live stock raised or 
 purchased for sale should be included in the inventory at their 
 proper valuation determined in accordance with the method 
 authorized and adopted for the purpose. Also live stock acquired 
 for draft, breeding, or dairy purposes and not for sale may be 
 included in the inventory, instead of being treated as capital 
 assets subject to depreciation, provided such practice is followed 
 consistently by the taxpayer. In case of the sale of any live 
 stock included in an inventory their cost must not be taken as 
 an additional deduction in the return of income, as such deduc- 
 tion will be reflected in the inventory.i^ 
 
 Farmers Not Keeping Books and Not Taking Inventories, All 
 farmers not keeping books and not taking inventories must 
 report on the basis of actual receipts and disbursements, in order 
 that their returns may permit of audit for the purpose of verifica- 
 tion.!* 
 
 Income. The income of a farmer may be in cash or in kind; 
 that is, like the income of any other individual or corporation 
 subject to tax, it may consist of money or of a money equivalent. 
 In general, the income of a farmer may be said to be determined 
 according to the same principles which determine the income 
 of other taxable individuals or corporations, but certain special 
 rules are set forth in the following paragraphs. 
 
 11 0. D. 995, T. B. 34-21-1774. 
 
 12 Revenue Act of 1921, §212; Revenue Act of 1918, §212; T. D. 2665; 
 T. D. 2433. This subject is discussed in Chapter 33. 
 
 13 Reg. 45, Art. 38. 
 
 14 T. D. 2665. See Chapter 33. 
 
FARMERS 157 
 
 Value of Products Consumed by Farmer. A farmer is not 
 required to report as income the value of farm products con- 
 sumed by himself and family .^^ 
 
 Income from Rents Received in Kind. Rents received in 
 crop shares are to be reported as income for the year in which 
 the crop shares are sold or otherwise reduced to money or a 
 money equivalent.^^ 
 
 Income from Sale or Exchange of Annual Produce. All 
 gains, profits and income derived from the sale of annual produce, 
 whether produced on the farm or purchased and resold by the 
 farmer, must be reported as income for the year in which the 
 product is actually marketed and sold, unless an inventory is 
 used.^^ Where a farmer exchanges farm produce for merchandise, 
 groceries, or mill products, the market value of the article or 
 property received should be reported as income.^^ Where a 
 farmer purchases for a certain price land together with crops 
 growing thereon, the basis for determining gain or loss upon 
 a subsequent sale of the crops is the difference between the 
 cost, or if no part of the purchase price was assigned to the 
 crops, the fair market value thereof at the time of purchase, 
 and the selling price less cost of harvesting and marketing.i^ 
 
 Income from Sale of Live Stock. For 'the purpose of this 
 discussion live stock may be divided into three classes: (1) live 
 stock raised on the farm, (2) live stock purchased by the farmer 
 for the purpose of resale at a later time, and (3) live stock 
 raised or purchased for draft, breeding or dairy purposes, or 
 any purpose other than resale. Where a farmer keeps books 
 
 15 T. D. 2665. Under this rule a farmer may use 100 bushels of potatoes 
 for himself and family without being subject to tax, but if he should 
 sell the potatoes, and use the proceeds in buying other potatoes for his 
 family, he would be taxable. The rule seems incongruous, but may be the 
 only practicable one under the circumstances. Speaking of a somewhat 
 similar provision of the Hawaiian law the court said in Robertson v. Pratt, 
 13 Haw. 590 : " * * * ^^x laws must be practical. It would be next 
 to impossible for everyone to keep an account and estimate the value of 
 everything he produced and consumed." 
 
 16 Reg. 45, Art. 38; Reg. 33 Rev., Art. 4. 
 
 17 Reg. 45, Art. 38; T. D. 2665. The sale of crops, dairy products, eggs 
 and fruit, falls within this rule. (See Income Tax Primer for Farmers, 
 Question 30.) 
 
 18 Reg. 45, Art. 38; T. D. 2665. The rulings do not cover cases where 
 farm products are exchanged or bartered for other articles or property 
 having no definitely ascertainable market value, as for instance, the ex- 
 change of one horse for another, and it would seem no taxable income ac- 
 crues to either party in such transaction. See Chapter 14. 
 
 19 O. D. 714, T. B. 45-20-1285. 
 
158 FEDERAL INCOME TAX 
 
 and carries the value of his live stock in annual inventories, the 
 total amount received on the sale of any such stock should be 
 entered on his books as gross receipts, and the income therefrom 
 will be reflected through the inventories.20 Where the farmer 
 does not keep books and take inventories, the profit or income 
 from the sale of live stock is, generally speaking, the difference 
 between the cost thereof and the amount received on the sale.^i 
 This general rule is, however, subject to several qualifications 
 or exceptions, as follows: (a) When the live stock was owned 
 on March 1, 1913. For the purpose of determining gain or loss 
 from the sale or exchange of live stock owned on March 1, 1913, 
 the basis is the cost of such live stock. But when its fair 
 market value as of that date is in excess of its cost, the gain 
 which is taxable is the excess of the amount realized therefor 
 over such fair market value. Where its fair market value as 
 of that date is lower than its cost, the deductible loss is the 
 excess of such fair market value over the amount realized 
 therefor. No gain or loss is recognized in the case of live stock 
 sold or exchanged (a) at more than cost, but at less than its 
 fair market value as of March 1, 1913, or (b) at less than cost, 
 but at more than its fair market value as of March 1, 1913.^2 
 
 (b) When the live stock was raised on the farm. If the live 
 stock was raised on the farm, the farmer has no purchase price 
 to deduct and the entire selling price is income, unless the live 
 stock was owned on March 1, 1913, inwhich case the rules stated 
 in the preceding paragraph will apply. The cost of raising such 
 stock is not deducted from the selling price, since such cost 
 is an item of annual expense, which should be deducted from 
 year to year, as incurred. 
 
 (c) When the live stock has been purchased. When the live 
 stock has been purchased, the purchase price thereof should 
 be deducted from the selling price, unless the stock was acquired 
 before March 1, 1913, in which case the rules stated in paragraph 
 (a) above will apply. The expense of care, feeding and marketing 
 such stock is not deducted from the selling price, but is treated 
 as an item of annual expense.^s A special rule may apply in 
 the cases referred to in this paragraph. Under a former regular 
 
 20 T. D. 2665. The rulings require the value of live stock raised on the 
 farm to be carried in inventory. 
 
 21 Reg. 45, Art. 38. Of course, if the selling price is less than the cost 
 the result virill be a loss. 
 
 22 Revenue Act of 1918, § 202. See Reg. 45, Art. 1561, as amended by 
 T. D. 3206, T. B. 33-21-1767. See Chapter 17. 
 
 23 T. D. 2665. 
 
FARMERS 159 
 
 tion of the treasury department 2* a farmer was permitted to 
 charge to expense the cost of live stock purchased for resale. 
 Where the cost of live stock has been charged to expense and 
 claimed as a deduction under that regulation in any past year, 
 the entire proceeds from the sale of such live stock must be 
 returned as income for the reason that the farmer is not again 
 entitled to the benefit of a deduction which he has already 
 received.25 
 
 (d) Live stock used for draft, breeding or dairy purposes. 
 Where live stock has been purchased or raised for draft, breeding 
 or dairy purposes, and is sold, the income is ascertained in the 
 manner indicated in the preceding paragraph, unless the farmer 
 has claimed a deduction for the depreciation of such stock in any 
 year.26 In such cases the aggregate amount allowed for depre- 
 ciation in preceding years must be added to the selling price in 
 order to ascertain the taxable profit.^^ Thus, if $35 has been 
 claimed for depreciation in each of three years on a horse pur- 
 chased for $500 and sold for $550, the taxable profit will be 
 ascertained by adding the depreciation for three years, amount- 
 ing to $105, to the selling price, making a total of $655, and sub- 
 tracting from such total the purchase price of $500, leaving a 
 taxable profit of $155. 
 
 Income from Sale of Other Farm Property. Income from 
 the sale of other farm property should be reported in accord- 
 ance with the general rules set forth in another chapter.^s In 
 every case of the sale of machinery, farm equipment, or other 
 capital assets (which are not to be included in an inventory 
 if one is used to determine profits) any excess over the cost 
 thereof less the amount of depreciation theretofore sustained 
 must be included in gross income.^" 
 
 Exchange of Farm Property. The exchange of farm lands 
 in all cases in which the farm land exchanged has a market 
 value has been held, under the 1918 Law, to constitute a com- 
 pleted or closed transaction from which a gain or loss is realized, 
 
 24 T. D. 2153, dated February 12, 1915. 
 
 25 T. D. 2665, Income Tax Primer for Farmers, Question 30. In such 
 cases, however, it seems the return for the year in which the stock was 
 purchased might be amended to conform to present rulings and the return 
 for the year in which the stock was sold prepared accordingly. 
 
 26 Reg. 45, Art. 38. See Chapter 26 for the rules regarding depreciation. 
 
 27 Reg. 45, Art. 38. The same rule applies when farm machinery is sold. 
 
 28 See Chapter 17. 
 
 29 Reg. 45, Art. 38. 
 
 30 O. D. 429, T. B. 14-20-821. See Revenue Act of 1921, § 202. See 
 Chapter 17. 
 
IbO FEDERAL INCOME TAX 
 
 even though the land received in exchange may be of a similar 
 kind and of similar value. A different rule would apply under the 
 present law.^" 
 
 Dividends from Co-operative Associations. All dividends 
 from co-operative associations must be included in a farmer's 
 gross income. They are not exempt from the normal tax for 
 the reason that the association itself is not taxed upon its earn- 
 ings. They simply represent additional amounts accruing to the 
 farmer upon sales through the association. Dividends from co- 
 operative buying associations are to be treated in the same 
 manner as dividends from co-operative selling associations.^^ 
 
 Proceeds of Insurance. Proceeds of insurance, such as hail 
 and fire insurance, on growing crops should be included in gross 
 income to the amount received in cash or its equivalent for the 
 crop injured or destroyed.^^ 
 
 Income from Other Sources. If the cost of produce, live 
 stock or other property which has been lost or destroyed is 
 deducted as a loss and subsequently the farmer is reimbursed in 
 whole or in part by the state or federal authorities (e. g. where 
 the stock has been killed to avoid the spreading of disease) or 
 by insurance or indemnity, the amount so received as reimburse- 
 ment is income.33 This contemplates a case where the loss may 
 have been deducted in one year and the reimbursement is 
 received in another year. It is allowable, however, and advisable 
 that no loss be claimed in such cases until the reimbursement 
 has been received, as until that time the net loss is not ascer- 
 tainable. When the reimbursement is received, it should then 
 be treated the same as if it represented the selling price and the 
 gain or loss determined according to the rules set forth in the 
 preceding paragraphs relative to sales. If a farmer works out 
 his road or other taxes and claims such taxes as a deduction he 
 must also include the same amount as income, as by the work 
 he earns sufficient to .pay the taxes. If he does not claim deduc- 
 tion for such taxes he need not include a corresponding amount 
 as income. All amounts received for board of persons, board and 
 pasturage of animals, labor of men and teams, and the hire or use 
 of machinery must be reported as income by a farmer.^* 
 
 31 Income Tax Primer for Farmers, Questions 49 and 50. 
 
 32 Reg. 45, Art. 38. 
 
 33 Reg. 33 Rev., Arts. 4 and 123. 
 
 34 Income Tax Primer for Farmers, Question 28. These items are reported 
 under the head of "Income From Business or Profession" on the Tax 
 Return. 
 
FARMERS 161 
 
 Computing Income Upon Crop Basis. If a farmer is engaged 
 in producing crops Which take more than a year from the time 
 of planting to the time of gathering and disposing, the income 
 therefrom may be computed upon the crop basis ; but in any such 
 case the entire cost of producing the crop must be taken as a 
 deduction in the year in which the gross income from the crop 
 is realized.35 
 
 Deductions. The special rules in regard to the deductions 
 permitted to farmers are set forth in the following paragraphs. 
 In the case of statutory deductions not treated below the gen- 
 eral rules relative to all taxpayers apply. 
 
 Expense. A farmer who operates a farm for profit is entitled 
 to deduct from gross income as necessary expenses all amounts 
 actually expended in the carrying on of the business of farming. 
 The cost of ordinary tools, of short life or small cost, such as 
 hand tools, including shovels, rakes, etc., may be included. The 
 purchase of a cultivator and mowing machine constitute im- 
 provements. They have an estimated life of more than one year 
 and payment for them should be considered a capital expendi- 
 ture. A reasonable amount of depreciation of the machines may 
 be deducted from gross income. The same principles apply to the 
 purchase of a threshing machine. The cost of feeding and raising 
 live stock may be treated as an expense deduction, in so far as 
 such cost represents actual outlay, but not including the value 
 of farm produce grown upon the farm or the labor of the tax- 
 payer. Where a farmer is engaged in producing crops which 
 take more than a year from the time of planting to the process 
 of gathering and disposal, expenses deducted may be determined 
 upon the crop basis, and such deductions must be taken in the 
 year in which the gross income from the crop has been realized. 
 The cost of farm machinery and farm buildings represents a 
 capital investment and is not an allowable deduction as an item 
 of expense. Amounts expended in the development of farms, 
 orchards, and ranches prior to the time when the productive 
 state is reached may be regarded as investments of capital. An 
 individual bequeathed to his widow, for the term of her natural 
 life, various orange groves in Florida, a great many of the 
 trees of which, during a severe frost, were so seriously injured 
 tjaat grafting, special fertilizing, etc., had to be resorted to, to 
 restore th€m, in spite of which some of the trees died. The 
 widow expended a sum of money from her personal income for 
 the grafting and fertilizing. It has been held that the amounts 
 
 35 Reg. 45, Art. 38. 
 
^62 FEDERAL INCOME TAX 
 
 expended are properly allowable as a deduction for the ordinary 
 and necessary expense of business but the widow may not 
 deduct any amount on account of loss of trees totally destroyed 
 since while the loss tends to reduce the income of the estate, 
 it is not a loss to the life tenant, but is a decrease in the corpus 
 of the estate.36 The amount expended in purchasing draft or 
 work animals or live stock, either for resale or for breeding 
 purposes, is regarded as an investment of capital. The pur- 
 chase price of an automobile, even when wholly used in carrying 
 on farming operations, is not deductible, but is regarded as 
 an investment of capital. The cost of gasoline, repairs and 
 upkeep of an automobile if used wholly in the business of farm- 
 ing is deductible as an expense, if used partly for business pur- 
 poses and partly for the pleasure or convenience of the taxpayer 
 or his family, such cost may be apportioned according to the 
 extent of the use for purposes of business and pleasure or con- 
 venience, and only the proportion of such cost justly attributable 
 to business purposes is deductible as a necessary expense.^'' 
 Any payments which a farmer is compelled to make as a result 
 of a collision between his automobile and a vehicle is an allow- 
 able deduction if the automobile was being used in connection 
 with his business at the time of the collision. The rule is 
 otherwise if he was riding for pleasure.^s The cost of digging 
 irrigation ditches is not an allowable deduction, but the cost of 
 repairing such ditches may be deducted. 
 
 Salaries. Amounts paid to a male employee assisting a farmer 
 in operating the farm are an allowable deduction. A line must 
 
 36 0. D. 554, T. B. 25-20-1014. 
 
 ST Rev. 45, Art. 110; Income Tax Primer for Farmers, Questions 59 and 
 72. Under Reg. 33 Rev., Art. 4 and T. D. 2153, dated February 12, 1915, 
 the deduction of expenses in the return for the year in virhich they were 
 made, even though the crops and stock in connection with which they 
 were incurred may not have been marketed during the year for which the 
 return was rendered, was only permissible. Where under the former 
 rulings a farmer had not deducted the cost of producing the farm products 
 he might deduct the same from the selling price and report only the dif- 
 ference as income. T. D. 2665 limited such deduction to the year in which 
 the expenditures were made. The above ruling in relation to crops which 
 take more than a year from the time of planting to the process of gather- 
 ing and disposal limits the deduction to the year in which the gross in- 
 come from the crop is realized. It was formerly held that the cost of stock 
 purchased for resale might, at the option of the farmer, be deducted as an 
 expense, or taken into consideration upon the sale of such stock, but that 
 money expended for stock for breeding purposes was, as now, to be re- 
 garded as capital invested and therefore not deductible, except as the stock 
 depreciated in value. (See also Reg. 33 Rev., Arts. 4 and 123.) 
 
 38 Income Tax Primer for Farmers, Questions 71 and 73. 
 
FARMERS ' 163 
 
 be drawn as to compensation paid to a female employee who 
 assists a farmer about the house. If her time is employed entirely 
 in taking care of milk and cream produced for sale, in the 
 production of butter, cheese, etc., the care of milk cans and 
 churns, or, if a separate table is maintained for laborers em- 
 ployed on the farm and her services are used entirely in the 
 preparation and serving of the meals furnished the laborers 
 and in caring for their rooms, the compensation paid her con- 
 stitutes an allowable deduction. If, however, she is employed 
 to assist in caring for the farmer's own household, no deduc- 
 tion can be claimed. Salaries paid to minor children may not 
 be claimed as a deduction.^^ 
 
 Irrigation Company Assessments. In California and other 
 states, fruit growers, ranchers and farmers are shareholders in 
 irrigation companies, which are mutual in character, and they 
 are often assessed, in proportion to their holdings of stock, for 
 sufficient amounts to make repairs to the irrigation system, clean- 
 ing out pipes, laterals, etc. Such assessments can be claimed 
 as a deduction under the heading of business expenses where 
 their purpose is merely to raise funds to keep the irrigation 
 system in usable condition, and not to, make extensions and 
 betterments. *° 
 
 Taxes. In general, the rules respecting the deduction of taxes 
 by farmers are the same as the rules respecting the deducting of 
 taxes by other individuals or corporations subject to tax, and 
 are discussed elsewhere in this book.^i Farmers who work out 
 road or other taxes may deduct the amount thereof, but if they 
 do so they must also report the same amount as income. 
 
 Losses. Losses incurred in the operation of farms as business 
 enterprises are deductible from gross income. If farm products 
 are held for favorable markets, no deduction on account of 
 shrinkage in weight or physical value or by reason of deteriora- 
 tion in storage will be allowed. The total loss by frost, storm, 
 flood or fire of a prospective crop, or of a crop which has not been 
 sold, is not a deductible loss in computing net income.*^ In 
 the case of orchards and vineyards acquired subsequent to 
 March 1, 1913, and later, destroyed any deduction for loss 
 should be confined to the amounts of capital originally invested 
 
 39 Income Tax Primer for Farmers, Questions 66 and 67. 
 
 40 Income Tax Primer for Farmers, Question 70. 
 
 41 See Chapter 24. 
 
 42 The value of such a crop has never entered into gross income, and the 
 cost of raising the same is deductible as a necessary expense. (Income Tax 
 Primer for Farmers, Question 78.) 
 
164 . FEDERAL INCOME TAX 
 
 in the growing trees and in the new nursery stock which was 
 totally destroyed and the amount expended from date of acquire- 
 ment to date of destruction in an endeavor to bring such trees 
 and stock to an income-producing stage, if not previously de- 
 ducted as expenses, eliminating all expenditures on account of 
 permanent improvements or on account of trees and vines the 
 growth of which was merely retarded and not entirely de- 
 stroyed.43 A farmer engaged in raising and selling stock, cattle, 
 sheep, horses, etc., is not entitled to claim as a loss the value 
 of animals that perish from among those animals that were 
 raised on the farm. If live stock has been purchased for any 
 purpose, and afterwards dies from disease, exposure or injury, 
 or is killed by order of the authorities of a state of the United 
 States, the actual purchase price of such stock, less any de- 
 preciation which may have been previously claimed with respect 
 to such perished live stock, less also any insurance or indemnity 
 recovered, may be deducted as a loss. The actual cost of other 
 property, less depreciation already allowed, destroyed by order of 
 the authorities of a state or of the United States may, in like 
 manner, be claimed as a loss; but if reimbursement is made by 
 a state or the United States, in whole or in part, on account of 
 stock killed or property destroyed, the amount received must 
 be reported as income for the year in which reimbursement is 
 made. In determining the cost of stock for the purpose of 
 ascertaining the deductible loss there shall be taken into account 
 only the purchase price, and not the cost of any feed, pasturage, 
 or care which has been deducted as an expense of operation. 
 If an individual owns and operates a farm, in addition to being 
 engaged in another trade, business, or calling, and sustains a 
 loss from such operation of the farm, then the amount of loss 
 sustained may be deducted from gross income received from 
 all sources, provided the farm is not operated for recreation 
 or pleasure.** 
 
 Net Losses. A farmer who in 1919 suffered a net loss may 
 adjust his 1918 tax in accordance with the net loss provision of 
 the Revenue Act of 1918.*5 The Revenue Act of 1921 has extended 
 the net loss provision so that it now applies in the case of a net 
 loss sustained in any taxable year beginning after December 
 31, 1920.« 
 
 43 0. D. 374, T. B. 3-20-690. 
 
 44 Reg. 45, Art. 145; Reg. 33 Rev., Arts. 4 and 123; T. D. 2665. 
 
 45 0. D. 558, T. B. 26-20-1025. For a definition of the term "net loss" 
 and the procedure under § 204 of the Revenue Act of 1918, see Chapter 25. 
 
 40 See Chapter 25. 
 
FARMERS 165 
 
 Depreciation. A reasonable allowance for depreciation may 
 be claimed on farm buildings (other than a dwelling occupied 
 by the owner), farm machinery, and other physical property, 
 including live stock purchased for draft, dairy, or breeding pur- 
 poses, but no claim for depreciation on live stock raised or pur- 
 chased for resale will be allowed. If an inventory is not used, 
 a reasonable allowance for depreciation may be claimed, based 
 upon the cost and the estimated life of draft and work animals 
 and animals kept solely for breeding purposes and not for re- 
 sale.*'^ An owner of an orchard which has reached an income- 
 producing stage is entitled to deduct from gross income an 
 annual allowance for depreciation, based upon the capital in- 
 vested, which comprises the original purchase price of the trees 
 together with the necessary expenditures incurred in brining 
 them to the producing age, the rate of depreciation to be deter- 
 mined, by the average life of the trees under normal conditions.*^ 
 
 Returns of Farmers. Farmers are required to make returns 
 of annual income or special returns with respect to withholding 
 at the source, information at the source, and other matters in the 
 same manner and according to the same rules as those prevailing 
 in the case of all individuals and corporations. This subject is 
 treated elsewhere in this book.*^ In addition to the annual 
 return of income, farmers who either keep no records or only 
 records of cash receipts and disbursements are required to pre- 
 pare and file a "schedule of farm income and expenses" (Form 
 1040F) , copies of which may be obtained from the local collector. 
 Its use is optional with other farmers. 5" 
 
 Payment of Tax; Penalties. Farmers pay the tax in the same 
 manner as other individuals and corporations.^i They are also 
 subject to all the penalties which may be imposed upon other 
 individuals and corporations.^^ 
 
 iTReg. 45, Art. 171; Reg. 33 Rev., Arts. 4 and 123. For the rule when 
 an inventory is used, see p. 153. 
 
 48 0. 797, T. B. 1-19-52. 
 
 49 See Chapter 34. 
 
 50 Reg. 45, Art. 38. 
 
 51 See Chapter 35. 
 
 52 See Chapter 3&. 
 
CHAPTER 8. 
 PARTNERSHIPS 
 
 The Revenue Act of 1921, like the Revenue Act of 1918, pro- 
 videsi that individuals carrying on business in partnership shall 
 be liable for income tax only in their individual capacity and 
 that there shall be included in computing the net income of each 
 partner his distributive share, whether distributed or not, of 
 the net income of the partnership for the taxable year, or if his 
 net income is computed upon the basis of a period different 
 from the basis upon which the net income of the partnership is 
 computed, then his distributive share of the net income of the 
 partnership for any annual accounting period of the partnership 
 ending within the fiscal or calendar year upon the basis of which 
 the partner's net income is computed.^ The Revenue Act of 1918 
 contained a new provision, requiring partnerships to file returns 
 for each taxable year.^ The Revenue Act of 1921 is identical 
 with the 1918 Law in its provisions regarding the taxation of 
 partnerships. All rulings and regulations promulgated under 
 the 1918 Law will, therefore, be authoritative under the present 
 law. 
 
 Domestic and Foreign Partnerships. General partnerships are 
 divided into two classes, domestic and foreign. A domestic part- 
 nership is one organized or created in the United States, includ- 
 
 1 Revenue Act of 1921, §218 (a); Revenue Act of 1918, §218 (a). 
 Partnerships as such were not taxable under the 1916 Law, the partners 
 thereof being taxable in their individual capacity. (Revenue Act of 1916, 
 § 8 (e) ; T. D. 1957.) Partnerships were expressly excepted from the tax 
 on corporations. (Revenue Act of 1916, § 10.) In U. S. v. Coulby, 251 Fed. 
 982, affirmed 258 Fed. 27, arising under the 1913 Law, the court said in part: 
 "This law, therefore, ignores for taxing purposes the existence of a 'part- 
 nership. The law is so framed as to deal with the gains and profits of a 
 partnership as if they were the gains and profits of the individual partner. 
 * * * The law looks through the fiction of a partnership and treats 
 its profits and its earnings as those of the individual taxpayer. Unlike a 
 corporation, a partnership has no legal existence aside from the members 
 who compose it. The Congress, consequently, it would seem, ignored, for 
 taxing purposes, a partnership's existence and placed the individual part- 
 ner's share in its gains and profits on the same footing as if his income had 
 been received directly by him without the intervention of a partnership 
 name." 
 
 2 See page 187 as to rates of tax applicable where the fiscal year of a part- 
 nership falls in calendar year in which rates are changed. 
 
 3 See Revenue Act of 1918, § 224; Revenue Act of 1921, § 224. 
 
 166 
 
PARTNERSHIPS 167 
 
 ing only the states, the territories of Alaska and Hawaii, and 
 the District of Columbia, and a foreign partnership is one organ- 
 ized or created outside the United States as so defined. In 
 general, the nationality or residence of members of a partnership 
 does not affect its status.* A partnership created by articles 
 entered into in San Francisco between residents of the United 
 States and residents of China is a domestic partnership.^ 
 
 Limited Partnerships. So-called limited partnerships of the 
 type authorized by the statutes of New York and most of the 
 states are partnerships and not corporations within the mean- 
 ing of the statute. Such limited partnerships, which can not 
 limit the liability of the general partners, although the special 
 ■partners enjoy limited liability so long as they observe the 
 statutory conditions, which are dissolved by the death or at- 
 
 i The Revenue Act of 1921 contains a new provision requiring vyithhold- 
 ing at the source in the case of certain income paid to partnei;ships, com- 
 posed in whole or in part of nonresident aliens (Revenue Act of 1921, 
 §221). See Chapter 40. 
 
 5 Reg. 45, Art. 1508. According to this definition (which is practically 
 unavoidable in view of the definitions contained in § 1 of the statute), a part- 
 nership composed entirely of citizens and residents and doing all its business 
 here would be a "foreign" partnership if created by articles entered into 
 in a foreign country. The intention of the parties as to the place where 
 the principal business is to be carried on (which is best evidenced by the 
 subsequent acts of the partnership) would seem to be a sounder basis for a 
 distinction between domestic and foreign partnerships. Thus, a domestic 
 partnership would be one which has its principal place of business in this 
 country and directs all or the greater part of its business from its ofiice 
 or offices in this country, whether or not the partners are citizens or aliens, 
 residents or nonresidents, and a foreign partnership would be one which has 
 its principal place of business in a foreign country and directs all or the 
 principal part of its business from its office outside the jurisdiction of the 
 United States, whether or not the partners are citizens or aliens, residents 
 or nonresidents. The 1916 Law expressly mentioned foreign partnerships 
 in only one provision (Revenue Act of 1916, § 13 (e) ) that which required 
 the withholding of the tax on payments of income from interest upon bonds 
 and mortgages or deeds of trust or similar obligations of domestic or other 
 resident corporations, to nonresident alien firms and copartnerships not 
 engaged in business or trade within the United States and not having 
 any office or place of business therein. No definition of the term ''alien 
 partnership" was given in the law or was to be found in the regulations. 
 The law also referred to ''nonresident alien firms'' and to ''nonresident 
 alien copartnerships" synonymously, and applied the terms without regard 
 to whether or not the firm or copartnership was engaged in business or 
 trade within the United States or had an office or place of business in this 
 country. The term may be argued to have had reference to the status 
 of the partners composing the firm, and in this respect it was indefinite 
 as a firm may be composed of nonresident aliens and resident aliens or 
 citizens. 
 
168 FEDERAL INCOME TAX 
 
 tempted transfer of the interest of a general partner and 
 which can not take real estate or sue in the partnership name, 
 are so like common-law partnerships as to render impracticable 
 any differentiation in their treatment for tax purposes. Illinois 
 limited partnerships are held to be partnerships. A California 
 special partnership is a partnership. On the other hand, limited 
 partnerships of the type of partnerships with limited liability 
 or partnership associations authorized by the statutes of Penn- 
 sylvania and of a few other states are only nominally partner- 
 ships. Such so-called limited partnerships, offering opportunity 
 for limiting the liability of all the members, providing for the 
 transferability of partnership shares, and capable of holding 
 real estate and bringing suit in the common name, are more 
 truly corporations than partnerships and must make returns 
 of insome and pay the tax as corporations. In all doubtful cases 
 limited partnerships will be treated as corporations unless they 
 submit satisfactory proof that they are not in effect so organized. 
 A Michigan partnership is a corporation. Such a corporation 
 may or may not be a personal service corporation.*' 
 
 6 Reg. 45, Art. 1505, Art. 1506 as amended by T. D. 2943. In Art. 1506 
 as first promulgated Virginia partnership associations, also, were held to be 
 corporations. Under the 1909 Law it was held that a limited partnership was 
 liable for the tax, if organized for profit and having a capital stock repre- 
 sented by shares, although no "certificates of stock" were issued. (Op. 
 Atty. Gen. Feb. 14, 1910.) Limited Partnerships were first broadly and 
 without any qualifications held to be in the same category as corporations 
 or associations under the 1916 Law and subject to the income tax imposed 
 on such entities. The profits of limited partnerships so reporting were 
 treated as dividends and were not subject to the normal tax in the hands of 
 the partners receiving them but were subject to the additional or sur- 
 taxes in the hands of such partners. (Reg. 33 Rev., Art. 62; Reg. 33, Art. 
 86; T. D. 2137.) A limited partnership was defined as a form of business 
 organization created by statute in many of the United States, wherein 
 the liability of certain special partners, who contribute a specific amount 
 of capital, is limited to the amount so contributed, while the general 
 partners of the same partnership are jointly and severally responsible 
 as in ordinary partnerships. (Reg. 33 Rev., Art. 62.) It was held that a 
 limited partnership would be classed as a quasi-corporation or association 
 within the meaning of the law. In a letter dated January 19, 1916, written 
 with particular reference to limited partnerships of the type created under 
 the New York Statute, Laws of 1897, Ch. 427,' § 3D, the treasury depart- 
 ment gave its reasons for classifying limited partnerships with corpo- 
 rations. After quoting the language of Revenue Act of 1916, §10 (a), 
 which imposed a tax on "every corporation, joint-stock company or associ- 
 ation, or insurance company * * * but not including partnerships" 
 the letter stated that the term "partnership" as there used was a common- 
 law term and applied only to such partnerships as were known to the 
 common law. The treasury department later modified this ruling, drawing 
 
PARTNERSHIPS 169 
 
 In addition, the following types of limited partnership are held 
 not to be taxable as corporations or associations : 1. A limited 
 partnership organized under the laws of Mississippi.'^ 2. A 
 partnership organized under the laws of Pennsylvania which 
 does not use the word "limited" in the firm name, has no pro- 
 vision for a common seal or for limiting the liability of the 
 members, or for annual meetings of the partners, but which 
 is not dissolved by the death of one or more partners,^ where 
 in addition, the liability of only one partner is limited, there 
 is no provision in the partnership agreement for the free trans- 
 ferability of partnership shares, and the books of account are 
 to be open and accessible to each of the copartners at any time 
 so that each copartner may at any and all times be fully cog- 
 nizant and aware of the conduct of the business, has been held 
 to be taxable as a partnership.^ The following types of limited 
 partnerships are held to be taxable as corporations or associa- 
 tions: 1. A partnership association or limited partnership or- 
 ganized under the Ohio code.^o 2. A partnership association or 
 limited partnership organized under the Virginia code of 1904.ii 
 Partnership Associations. Under the 1909 law the attor- 
 ney-general held that partnership associations organized under 
 
 a distinction between limited partnerships of the Pennsylvania type and 
 New York type and holding that, for purposes of the income, excess - 
 profits and capital stock taxes, limited partnerships of the New York 
 type were partnerships and limited partnerships of the Pennsylvania type 
 were corporations Or joint-stock companies. (T. D. 2711; lettei: from 
 treasury department dated May 4, 1918; I. T. S. 1918, 113355; telegram 
 from treasury department dated April 24, 1918; I. T. S. 1918, 113325.) 
 
 7 Hemingway's Ann. Miss. Code (1917), §§ 5467-5484. See S. 1165, T. 
 B. 20-19-501. The above sections of the Mississippi Code show that limited 
 partnerships formed thereunder are similar to those formed under the 
 New York laws, in that general partners are not afforded limited liability 
 although special partners do enjoy limited liability under certain condi- 
 tions, and further, in that Mississippi limited partnerships do not sue in 
 the partnership name and are in general so like common-law partnerships 
 that they should be treated as such. 
 
 S O. D. 599, T. B. 30-20-1084. The partnership involved in this case 
 had no provision for the free transferability of the interest of a member. 
 It is to be noted that as a general rule limited partnerships of the Penn- 
 sylvania type are treated for income tax purposes as corporations. See 
 p. 168. 
 
 9 O. D. 800, T. B. 7-21-1440. 
 
 10 §§ 8059-8078; see O. D. 444, T. B. 15-20-840. 
 
 11 §§ 2878-2886. The status of Virginia limited partnerships formed under 
 the Act of March 14, 1918, must be determined in each case by a con- 
 sideration of the certificate of partnership and other pertinent facts. (0. D. 
 334, T. B. 29-19-671.) 
 
170 FEDERAL INCOME TAX 
 
 the laws of Pennsylvania (referred to in the foregoing paragraph 
 as limited partnerships of the Pennsylvania type), possessing 
 every privilege and pov^er essential to a corporation were prop- 
 erly taxable as corporations. 12 Such associations have capital 
 contributed by the partners, who are not individually liable 
 beyond the unpaid capital subscribed by each. The other charac- 
 teristics of such associations which are more in the nature of a 
 corporation than of a partnership are that the word "Limited" 
 must be a suffix to the name, the interest of a partner may be 
 transferred and new partners may be taken in by vote of a ma- 
 jority of the partners, and the association may sue or be sued 
 in the association name. Michigan partnership associations are 
 of this type and are held to be taxable as corporations.^^ 
 
 Dividends from Limited Partnerships. The profits of lim- 
 ited partnerships of the Pennsylvania type should be treated by 
 the members of the partnership as dividends of corporations are 
 treated by stockholders.^* Members of limited partnerships 
 should ascertain if the partnership is paying a tax according to 
 this requirement, and if so the normal tax should not again be 
 paid on their shares of the profits. 
 
 Private or Partnership Banks. A partnership bank con- 
 ducted like a corporation and so organized that the interests of 
 its members may be transferred without the consent of the other 
 members is a joint-stock company or association within the 
 meaning of the statute. A partnership bank, the interests of 
 whose members can not be so transferred, is a partnership.^^ 
 
 Certain persons entered into an agreement to carry on a pri- 
 vate banking business. Each member is liable for all debts, and 
 in case of failure no "stockholder's" property is exempt. Profits 
 are divided according to the amount each member has contrib- 
 uted. The interests of members are represented by certificates 
 which can not be disposed of without the consent of the other 
 members. The bank has been taxed as a partnership in the state 
 where located. Although the bank issued certificates of owner- 
 ship, the individuals possessing same were not exempt from the 
 payment of debts of the bank out of their individual property. 
 The fact that certificates can not be transferred without the con- 
 sent of the other members makes it appear that new members can 
 only get into the organization by mutual agreement, and that 
 
 12 28 Op. Atty. Gen. 189 (1910). 
 IS Reg. 45, Art. 1506. See note 6. 
 
 14 T. D. 2137. 
 
 15 Reg. 45, Art. 1503; T. D. 2137. 
 
PARTNERSHIPS 171 
 
 such agreement constituted a new firm upon every change of cer- 
 tificate ownership. It was held that the bank must be treated as 
 a partnership for the purpose of taxation.i^ 
 
 Joint Ownership and Joint Adventure. Joint investment 
 in and ownership of real and personal property not used in the 
 operation of any trade or business and not covered by any part- 
 nership agreement does not constitute a partnership. Co-owners 
 of oil lands engaged in the joint enterprise of developing the 
 property through a common agent are not necessarily partners.!'^ 
 It has been held that several persons who contributed severally 
 to a fund used to develop and operate an oil field, with an agree- 
 ment that they were to share pro rata in the profits, did not con- 
 stitute a partnership.^^ Participation "in the profits of an enter- 
 prise, while one of the well-known tests in determining whether 
 any given agreement constitutes the parties thereto partners, is 
 not conclusive, but merely raises a presumption of partnership.^^ 
 It has been held in several oil cases that no presumption of part- 
 nership between co-owners of oil lands arises from the fact that 
 they are jointly engaged in producing oil.^" The use of the joint 
 names of the individuals in the enterprise operates only to estop 
 such individuals from denying a partnership liability in the case 
 of third parties who were misled and dealt with the firm relying 
 on such misrepresentation. It does not create a partnership 
 where one does not exist.^i The intention of the parties as gath- 
 ered from the whole circumstances and evidence in each case 
 should be considered.22 In the absence of special facts affirma- 
 tively showing an association or partnership, where a vessel is 
 owned by several individuals and operated by a managing owner 
 or agent for the account of all, the relation does not constitute 
 either a joint-stock association or a partnership.^^ An organiza- 
 tion is not a joint venture if a majority in interest controls the 
 business, has authority to elect a manager and the legal title to 
 the property involved is in trustees for the benefit of a syndicate 
 
 16 0. D. 1083, T. B. 44-21-1895. 
 
 17 Reg. 45, Art. 1507. 
 
 18 Sol. Op. 117, T. B. 33-21-1772. 
 
 ISMeehan v. Valentine, 145 U. S. 611; Fechteler v. Palm Bros., 133 Fed. 
 462. 
 
 20Neill V. Shamburg, 158 Pa. 263, 27 Atl. 992; Butler Savings Bank v. 
 Osborne, 159 Pa. 10, 28 Atl. 163; Dunham v. Loverock, 158 Pa. 197, 27 Atl. 
 990. 
 
 21 Rowley on Partnership, H 210. 
 
 22 Shea V. Nilima, 133 Fed. 209; In re Hirth, 189 Fed. 926. 
 
 23 Reg. 45, Art. 1507. Art. 1507 of Reg. 45 Rev., applies to situations 
 arising under the Revenue Act of 1917 and 1918 (0. D. 411, T. B. 12-20-790). 
 
172 FEDERAL INCOME TAX 
 
 and not the particular members, the organization being created 
 expressly for the purpose of preserving the real estate of a dis- 
 solved corporation.2* In case two partnerships enter into a single 
 adventure under an agreement to terminate in two years, no part 
 of the profit to be distributable and no drawings to be allowed 
 during such period, the amount of profit realized and determin- 
 able each taxable year should be reported proportionately in the 
 respective returns of the partnerships regardless of the agree- 
 ment. The individual members of each partnership are likewise 
 subject to tax each year on their distributive shares of the profit 
 allocable to each partnership-^^ A partnership may exist in a 
 single transaction as well as in a series of ventures, or an estab- 
 lished business-^" Two parties on several occasions had engaged 
 in the enterprise of buying cattle in the fall, feeding them and 
 selling them in the spring, the profits being equally divided be- 
 tween them. The two parties paid for the cattle by giving the 
 commission merchants their joint note, secured by a chattel mort- 
 gage on the cattle. Feed was purchased through the proceeds of 
 another joint note, which was discounted at a bank. After they 
 were sold the notes were taken up and the profits divided equally. 
 The same procedure had been followed in previous years and it 
 was also followed in subsequent years. In one of the later years 
 a resulting loss was borne equally by the two parties. There 
 were no written articles of partnership, although it was admitted 
 that the commission merchants with whom they dealt probably 
 considered them to be partners, and a joint bank account was 
 maintained in the names of both parties. The treasury depart- 
 ment held that the enterprise was taxable as a partnership.^'? A 
 married woman may become a partner in business with her hus- 
 band.28 The participation of two United States corporations in 
 a joint enterprise or adventure does not constitute them part- 
 ners.29 As a general rule, a corporation cannot enter into a part- 
 nership for the reason that to allow a corporation to do so would 
 be to place the power of binding the corporation in hands other 
 than the duly elected directors and to place upon the stockholders 
 
 24 0. D. 896, T. B. 18-21-1603. 
 23 O. D. 187, T. B. 8-19-325. 
 
 26 18 L. R. A. (N. S.) p. 976, citing Flower v. Barnekoff, 20 Ore. 132, 
 25 Pac. 370, and other cases. See also Spencer v. Jones, 92 Tex. 516, 50 
 S. W. 118. 
 
 27 A. R. R. 257, T. B. 35-20-1160. See also A. R. R. 629, T. B. 40-21-1850. 
 
 28 A. R. R. 636, T. B. 41-21-1865. 
 
 29 Reg. 45, Art. 1507. 
 
PARTNERSHIPS. 173 
 
 burdens other than those to which they consent.^'^ A corporation 
 
 will not be held as a mining partner against its express refusal to 
 
 be liable for any portion of the expense of operation, or to be 
 
 responsible for the operation of mining property in which it has 
 
 a one-eighth interest, merely because it receives a proportion of 
 
 the profits realized from such operation equal to its interest in 
 
 such property .31 It has been held that corporations organized 
 
 under the laws of Arkansas may not become members of a part- 
 nership.32 
 
 General Partnerships. A general partnership, or what is 
 known as a common-law partnership, which Congress clearly 
 intended to be exempt from the income tax law, is one which 
 does not have a separate entity, but is composed of two or more 
 individuals associated together for the purpose of carrying on a 
 given business or transaction. Such a partnership has been de- 
 fined by the courts as "a business organization in which every 
 partner possesses full power and absolute authority to bind all 
 the partners by his acts or contracts in relation to the business 
 of the firm, in the same manner and to the same extent as if he 
 held full power of attorney from them."^^ Among the principal 
 elements of a general partnership are community of ownership 
 of the partnership property, mutual responsibility and powers in 
 the conduct of the partnership business, mutual liability, joint 
 
 SOPearce v. Madison, etc. R. Co., 62 U. S. 441; Thomas v. Railroad, 
 101 U. S. 71; Pittsburgh, etc., R. Co. v. Keokuk, etc. Co., 131 U. S. 371; 
 Whittenton Mills v. Upton, 10 Gray 582; Aurora State Bank v. Oliver, 
 62 Mo. App. 390; Mallory v. Hanaur Oil Works, 86 Tenn. 598, 8 S. W. 396. 
 
 31 Sol. Op. 36, T. B. 36-20-1179. See the paragraph General Partnerships. 
 
 32 A. R. M. 139, T. B. 42-21-1866. 
 
 33 Letter from treasury department dated January 19, 1916. This letter 
 held all limited partnerships to be corporations for income tax purposes, as 
 stated above. (See note 6.) The definition given is known as the test of 
 mutual agency and has been criticised, as being neither strictly logical nor 
 entirely satisfactory, on the ground that agency results from the partner- 
 ship and not the partnership from the agency and on the ground that the 
 existence of a relation of mutual agency is the very question at issue. (See 
 Boreing v. Wilson, 33 Ky. L. 14, 108 S. W. 914.) There is great conflict of 
 authority in the American decisions on the subject. The so-called "inten- 
 tion" test is usually applied as between the partners while as to third 
 persons the profit-sharing test is often applied. No one test seems to be 
 conclusive, the existence of a partnership being a question of fact upon 
 which all the various tests may bear. (See Meehan v. Valentine, 145 U. S. 
 611; Haiku Sugar Co. v. Johnstone, 249 Fed. 103.) One of the chief ele- 
 ments of a partnership is the liability of a partner for its debts. Sharing 
 of profits is but evidence of a partnership which may be rebutted by other 
 evidence to the contrary. (Cox v. Hickman, 8 H. L. C. 268, 9 C. B. N. S. 
 47; Sol. Op. 36, T. B. 36-20-1179.) 
 
174 FEDERAL INCOME TAX 
 
 and several, for the debts of the partnership and mutual interest 
 in the profits of the same. Such partnerships are not subject to 
 the tax, but the partners are taxed on their respective shares of 
 the profits.^* 
 
 If the interests of members of an organization are evidenced 
 by negotiable certificates and the organization continues despite 
 the death of a member, the organization is not a partnership.^^ 
 An agreement, referred to as "Articles of Partnership," by the 
 terms of vi^hich two individuals associate themselves as copart- 
 ners in business under the name of A (one of the individuals) & 
 Company for the period of five years, and under which one of the 
 so-called partners is paid the same salary which he had thereto- 
 fore received as an employee from the other individual, one- 
 fourth of said salary being deductible from said individual's 
 share of the profits, and which provides also that all capital is to 
 be contributed by the individual whose name is used in the firm 
 title, three-fourths of the profits going to said individual and one- 
 fourth (less one-fourth of his salary) going to the other indi- 
 vidual, losses to be borne by the partners in the same ratio as 
 profits except that the excess of losses over gains, if any, are 
 payable by the individual receiving three-fourths of the profits, 
 the business to be carried on for the benefit of the firm by the 
 survivor of either of the partners until the close of the current 
 fiscal year in which the other partner may, die, and upon final 
 settlement the entire capital of the partnership and any increase 
 thereof to go to the individual receiving three-fourths of the 
 profits, or his estate, is held to be a partnership under the laws 
 of Pennsylvania.^^ 
 
 Partnerships Consisting of Corporations. In a case arising 
 under the 1913 law several corporations, organized under the 
 laws of Hawaii, entered into a partnership with one another, the 
 laws of Hawaii permitting such a combination for the transac- 
 tion of any lawful business. The by-laws provided for manage- 
 ment by representatives selected by the several partners, who 
 were to represent the partners according to their respective in- 
 terests. There were no special partners and there was no 
 partnership capital stock. The by-laws provided for the exist- 
 ence of the association for 45 years unless sooner terminated by 
 mutual consent. It was held that this provision did not show any 
 
 34 Revenue Act of 1921, §218; Revenue Act of 1918, §218. 
 
 35 O. D. 896, T. B. 18-21-1603. See Chicago T. & T. Co. v. Smietanka, 275 
 Fed. 60; T. D. 3193, T. B. 30-21-1741. 
 
 36 S. 1361, T. B. 14-20-820. 
 
PARTNERSHIPS 175 
 
 plan for changeability in the membership ; that dissolution would 
 probably be effected through the transfer of any partner's inter- 
 est; and that the association must be treated for income tax 
 purposes as a partnership.^'? But the participation of two cor- 
 porations in a joint enterprise would not constitute them 
 partners. ^s 
 
 Partnerships Operating Abroad. No distinction is made in the 
 law or regulations between domestic partnerships which operate 
 entirely within this country and those which operate partly 
 abroad. A partner's share of the net profits of the partnership 
 is in all cases taxable in full if the partner is a resident or citizen 
 of this country. If a partner is a nonresident alien many ques- 
 tions arise as to the extent to which he is properly taxable on the 
 gains from business of the partnership conducted abroad. If the 
 partnership is a limited partnership association under the pro- 
 visions of some statute, similar to the Pennsylvania statute, the 
 government will undoubtedly hold that the partner is taxable to 
 the same extent as though it were a corporation, but if it is a 
 general partnership, operating partly in a foreign country, the 
 entire income 'therefrom can scarcely be considered as income 
 arising within the United States, even though the partnership 
 has an office in this country and the income is paid to the partner 
 from that office, since a general partnership is not a separate 
 entity interposed between the individual and the source of the 
 income.^^ 
 
 Procedure in Collecting Income. With one exception, a do- 
 mestic partnership is not subject to withholding at the- source. 
 But a partnership may be required to establish its identity and 
 status by filing a certificate or statement showing it to be a part- 
 nership.40 A new provision first inserted in the Revenue Act of 
 1918 and continued in the present law requires withholding at 
 the source against partnerships in the case of interest on bonds, 
 mortgages, or deeds of trust, or other similar obligations con- 
 taining a so-called "tax-free covenant," thus giving partnerships 
 
 37 Haiku Sugar Co. v. Johnstone, 249 Fed. 103. This case contains a 
 discussion of the distinction between joint-stock companies and partnerships. 
 
 38 Reg. 45, Art. 1507. 
 
 39 U. S. V. Coulby, 251 Fed. 982, affirmed 258 Fed. 27. A distinction is 
 made by the treasury department under the 1918 Law between domestic 
 corporations operating entirely within this country and those operating 
 entirely abroad. (Reg. 45, Art. 92.) 
 
 40 Revenue Act of 1921, §221; T. D. 1957, T. D. 1998; telegram from 
 treasury department dated May 17, 1918; I. T. S. 1918, 1j 3362. See Chapter 
 40. 
 
176 FEDERAL INCOME TAX 
 
 as well as individuals the benefit of such covenants.*! Partner- 
 ships as vs^ell as all other recipients of income will be required to 
 disclose their identity in the case of receiving fixed and deter- 
 minable income from another under the provisions of law re- 
 quiring information at the source.*^ 
 
 Duty in Paying Out Income. A partnership is under the same 
 duty in paying out income as is an individual or a corporation ; 
 that is, in all cases required by law the tax must be withheld on 
 payments of income to nonresident aliens, partnerships composed 
 in whole or in part of nonresident aliens, and nonresident for- 
 eign corporations,*^ and information as to the name and address 
 of the recipient must be obtained upon the payment of income to 
 other individuals, partnerships or corporations.** 
 
 Net Income of Partnerships. The net income of a partnership 
 is computed in the same manner and on the same basis as the 
 net income of an individual except that a partnership is, unlike 
 individuals, not allowed to deduct charitable contributions or 
 gifts made within the taxable year.*^ The proceeds of life insur- 
 ance policies paid upon the death of the insured to partnership 
 beneficiaries need not be included in the gross income of the part- 
 nership under the 1918 law.**^ Under the present law the pro- 
 
 41 Revenue Act of 1921, §221; Revenue Act of 1918, §221. See Chapter 
 40. 
 
 42 See Chapter 39. 
 
 « Revenue Act of 1921, §221; Revenue Act of 1918, §§221 and 237. 
 
 44 See Chapters 39 and 40. 
 
 45 Revenue Act of 1921, § 218 (c) ; Revenue Act of 1918, § 218 (d) ; Reg. 
 45, Art. 321. For the manner of computing the net income of partner- 
 ships under the 1916 Law, see Reg. 33 Rev., Art. 30. It seems that the part- 
 ners may consider the contributions of the partnership as their own con- 
 tributions, pro rata. Until very recently the rule under the 1916 Law was 
 that partnerships were not permitted to deduct the amount of their Red 
 Cross contrib"Utions, but the partners in computing their individual in- 
 come taxes might deduct their proportionate amounts of such contribu- 
 tions subject, of course, to the 15% limitation. (Telegram from treasury 
 department dated May 23, 1918; I. T. S. 1918, K3436.) Certain donations 
 immediately and closely connected with the business of a partnership were 
 held deductible under the 1916 Law. (Letter from the treasury department 
 dated May 23, 1918; L T. S. 1921, 11553.) 
 
 It is now ruled that partnerships are entitled to deduct, under the 1916 
 Law, as amended by the Revenue Act of 1917, the amount of their charitable 
 contributions (including contributions to the Red Cross) even though such 
 contributions were not so closely connected with the trade or business as 
 to secure to it some definite benefit or consideration, subject, of course, 
 to the 15% limitation (A. R. R. 651, Sol. Op. 116, T. B. 45-21-1914). Thia 
 subject is more fully considered in a later paragraph. 
 
 46 Letter from treasury department dated November 18, 1919; I. T. S. 
 1921, 111208. 
 
PARTNERSHIPS 177 
 
 ceeds of life insurance policies paid upon the death of the insured 
 is exempt income irrespective of who the beneficiary may be.*'' 
 
 Deductions. The deductions to which a partnership is entitled 
 are the same as those allowed to individuals with the exception 
 noted in the preceding paragraph.^s i^ the case of limited part- 
 nerships of the Pennsylvania type reporting as corporations, the 
 deductions should be made under the rules applicable to corpora- 
 tions. An individual may deduct from his gross income the ordi- 
 nary and necessary expenses of his business, but this does not 
 permit an individual who is a member of a partnership to deduct 
 from his personal income any amounts expended therefrom for 
 and on account of the partnership. The individual members of 
 a partnership and the partnership itself are treated separately 
 for income tax purposes, and the individuals comprising the 
 partnership are not considered to be engaged in the business 
 conducted by the partnership merely because they are members 
 of the firm.*^ Certain special rulings made with respect to de- 
 ductions by partnerships are given below. 
 
 Business Expense. Under the rules of various exchanges, 
 seats must be issued in the names of individuals and may not 
 be issued in the name of a partnership. In the case of a part- 
 nership which purchased seats on various exchanges from 
 partnership funds, the seats being issued in the names of the 
 individual members of the partnership, who might buy and sell 
 for themselves as well as for the account of other persons, the 
 amount expended being charged to "membership account" and 
 carried as a capital expenditure on the partnership books, it has 
 been held that the amounts so expended are investments of capi- 
 tal and not deductible as business expenses.™ Where by the 
 terms of a partnership agreement one of the members of the 
 partnership is required to pay out of his own funds the compen- 
 sation of one of the employes of the partnership who performs 
 a part of the duties delegated to said member, it has been held 
 that the amount so paid constitutes a proper deduction in the 
 income tax return of the member.^^ 
 
 Losses. Where a corporation, all the stock of which is owned 
 by a partnership, sustained a loss for each of the years from 
 
 47 Revenue Act of 1921, §213 (b) (1). 
 
 48 Revenue Act of 1921, § 218 (c) ; Revenue Act of 1918, §§ 218 (d) , 212. 
 
 49 O. D. 593, T. B. 29-20-1073. 
 
 50 O. D. 473, T. B. 17-20-885. In this case the partnership agreement 
 contained no provision as to the disposition of the seats upon the termi- 
 nation of the partnership. 
 
 51 0.. D. 947, T. B. 24-21-1686. 
 
178 FEDERAL INCOME TAX 
 
 1915 to 1919 inclusive, it has been held that the partnership may 
 not reduce its income by transferring partnership funds for the 
 purpose of liquidating the loss of the corporation. The partner- 
 ship and corporation are separate entities and no provision 
 exists in the law under vs^hich a partnership and a corporation 
 may file consolidated returns.s^ Where on July 1, 1920, the indi- 
 viduals comprising a partnership incorporated and acquired the 
 entire capital stock in payment for the assets of the partnership 
 with the exception of a few shares which were held by two em- 
 ployes, the partnership having shown a profit for the first six 
 months of the year while for the last six months the return of 
 the corporation showed a loss, it has been held that the loss of 
 the corporation is not deductible in computing the net income of 
 the predecessor partnership since there was no provision in the 
 1918 law for the taxing of partnership profits as profits of a suc- 
 cessor corporation where the corporation comes into existence 
 subsequent to July 1, 1919.-''» 
 
 Profit Sharing. It has been held that an arrangement 
 whereby a partnership agreed with an expert to take charge of 
 one of its departments upon a participation of profits basis, by 
 which the expert served without salary and received his compen- 
 sation in the form of 20% of the net profits of the department 
 at the end of the year, established the relation of employer and 
 employe, and that the compensation paid to the expert consti- ' 
 tuted a proper item of business expense to be deducted in com- 
 puting the net income accruing to the partnership members.^* 
 
 Insurance Premiums. Premiums paid on life insurance poli- 
 cies covering the life of an officer, employe or of any person 
 financially interested in any business conducted as a partnership 
 are not permitted to be deducted in computing the profits of a 
 partnership for the purpose of determining the distributive 
 shares of the partners.^s Premiums paid by a partnership for 
 
 52 0. D. 795, T. B. 6-21-1431. 
 
 53 A. R. B. 571, T. B. 29-21-1736. See Revenue Act of 1918, § 330. The 
 Revenue Act of 1921, however, contains such a provision. See Revenue Act 
 of 1921, § 229. See Chapter 10. 
 
 54 Letter from treasury department dated June 30, 1916; I. T. S. 1919, 
 11 1297. 
 
 55 Revenue Act of 1921, § 215 (a) (4) ; Revenue Act of 1918, § 215 (d) ; 
 Revenue Act of 1916, as amended by the Revenue Act of 1917, § 32 (the ref- 
 erence to § 9 is apparently a mistake, the reference being Intended to § 8 
 (e) ). See Reg. 33 Rev., Art. 30. Under the 1916 Law, prior' to the 1917 
 amendment, the treasury department permitted such premiums on life in- 
 surance to be deducted from year to year as paid and required the amount 
 of the policy to be included in gross income in the year in which the policy 
 matured and such amount was received. (T. D. 2090.) 
 
PARTNERSHIPS 179 
 
 accident and health insurance policies covering the lives of the 
 individual partners are not deductible from gross income of the 
 partnership. 56 
 
 Distribution of Partnership Profits. The law has not been 
 construed at any time to require the collection of the tax at the 
 source on the distribution and payment of the profits of a part- 
 nership to the partners. No ruling has appeared under the 1918 
 law expressly requiring such deduction on payments to non- 
 resident alien partners.^'' 
 
 Profits to Be Reported by Partners. The distributive share 
 of the net income of a partnership which a partner is required 
 to include in his return is his proportionate share of the net in- 
 come of the partnership, either (a) for the taxable year upon 
 the basis of which the partner's net income is computed, or (b) 
 if the partner's net income is computed upon the basis of a period 
 different from that upon the basis of which the net income of the 
 partnership is computed, for any taxable year of the partnership 
 ending within the taxable year upon the basis of which the 
 partner's net income is computed. Amounts earned and distrib- 
 uted to a partner by a partnership after the end of its taxable 
 year and before the end of his corresponding taxable year should 
 be accounted for both by the partnership and by the partner in 
 their returns for their next succeeding taxable years.^^ Both 
 normal and surtaxes must be paid, upon this distributive share, 
 except as noted below. When the annual profits are not distrib- 
 uted and paid to the partners, the respective interests of each 
 partner in the undistributed profits for the year should be ascer- 
 tained and the partners entitled thereto should include the 
 amount of their respective interests in their returns as if the 
 profits had been distributed and paid to them.^^ Such undivided 
 annual profits of partnerships having been reported by the indi- 
 vidual members thereof and the tax having been paid thereon, 
 are not again taxable to the partners when actually distributed 
 at a later date.^o The distributive interests of the partners in 
 the firm's net income should be the amount shown by the books 
 when closed and not their distributive interests in the amount 
 of income of the partnership represented by actual cash receipts, 
 unless the partnership keeps its books on the basis of cash re- 
 
 56 0. D. 243, T. B. 13-19-422. 
 
 57 See I. T. S. 1918, Ij 665. See Chapter 40. 
 
 58 Reg. 45, Art. 322. 
 
 59 Reg. 33, Art. 13. Revenue Act of 1921, § 218 (a) ; Revenue Act of 
 1918, §218 (a). 
 
 60 Reg. 33, Art. 14. 
 
180 FEDERAL INCOME TAX 
 
 ceipts and disbursements. Where accounts receivable, for in- 
 stance, are entered on the books of the partnership as income 
 and are treated as debts due from customers or clients, the part- 
 ners' returns are required to be based on the total sum of such 
 accounts receivable and not on the amount thereof that has ac- 
 tually been paid.^^ 
 
 Where a distribution of partnership profits is made in securi- 
 ties the partners v^ill nevertheless be taxable with respect to their 
 distributive shares of the net income of the partnership for the 
 taxable year. No gain need be reported nor can any loss bei 
 claimed on account of any diiference between the book value of 
 the securities distributed and their market value at the date 
 of distribution. In other words, the distribution of partner- 
 ship profits in the form of securities, like a distribution of part- 
 nership assets upon dissolution, does not constitute a closed and 
 completed transaction. To hold otherwise would be to hold 
 that a person might sell at a profit or a loss to himself. The 
 realization of any gain or loss with respect to such securities 
 depends upon their subsequent sale after distribution.02 In- 
 come from a particular source can not be allocated to one part- 
 ner, but must be divided pro rata among the several partners.^^ 
 Where a member of a partnership died owning certain shares 
 of the common stock of a company subsequently becoming 
 insolvent and under the plan of reorganization of such com- 
 pany holders of the common stock were required to pay a certain 
 assessment per share, which assessment the decedent's estate 
 was unable to meet, and where the partnership advanced the 
 sum called for and underwrote the reorganization receiving for 
 its services certain shares of stock of the reorganized company, 
 as well as an amount of money, all of which was turned over to 
 the decedent's estate and never entered upon the partnership's 
 books, it has been held that since the stock and cash received by 
 the partnership were for services performed .by it as under- 
 writer, such compensation represented taxable income to the 
 members of the partnership regardless of the fact that no 
 distribution of such funds was made to them and irrespective of 
 the reason for which the partnership entered into the transac- 
 tion.6* Where an individual member of a partnership received 
 a salary for services performed as an employee of a city and, 
 
 61 Letter from treasury department dated February 28, 1916 ; I. T. S. 1919, 
 H 1285. 
 
 62 T. B. R. 34, T. B. 10-19-354. 
 
 63 O. D. 140, T. B. 4-19-221. 
 
 64 0. D. 542, T. B. 24-20-998. 
 
PARTNERSHIPS 181 
 
 in accordance with his contract with the firm, turned over to it 
 as the value of his time the entire amount so received, it has 
 been ruled that the individual partner might deduct the amount 
 of the salary in his personal return as a business expense, but 
 that no exemption could be claimed by the partnership, since 
 to allow the amount received by it to be treated as exempt in- 
 come would in effect be to regard it as an employee of the city, 
 which was not the fact.^s The same rule applies where a partner 
 turns over to the partnership the fees i-eceived by him as notary 
 public under commission from a state.^^ A portion of the net 
 income of the partnership for the taxable year may represent 
 dividends or interest exempt from normal tax, interest from 
 corporate bonds containing "tax-free covenants" and interest 
 on bonds which may be wholly exempt from income tax, in which 
 case the rules stated in the following paragraphs apply. 
 
 Dividends. For the purpose of the normal tax a partner is 
 allowed a credit of his proportionate share of the incomfe re- 
 ceived by the partnership as dividends from a domestic corpo- 
 ration (except domestic corporations receiving a substantial por- 
 tion of their income from sources within a possession of the 
 United States) and foreign corporations 50% or more of the 
 income of which for a certain period has been from sources 
 within the United States.^^ Under the 1918 law, the credit 
 was allowed with respect to dividends from (a) a corporation 
 taxable upon its net income, and (b) a personal service corpora- 
 tion out of earnings or profits upon which income tax was im- 
 posed.ss In the case of a partnership sustaining an operating 
 loss and receiving dividends liable to surtax in the hands of 
 the individual partners, such operating loss is to be applied to 
 the reduction of such dividends so that only the 7iet distributive 
 shares of the partnership income will be included for purposes of 
 the surtax.^^ 
 
 Interest on National Bonds. For the purpose of the normal 
 tax only, a partner is allowed a credit of his proportionate share 
 of the income received by the partnership as interest upon the 
 obligations of the United States and bonds issued by the War 
 Finance Corporation which is included in the gross income of the 
 
 65 A-. R. M. 25, T. B. 4-20-702. 
 6(5 O. D. 648, T. B. 35-20-1167. 
 «T Revenue Act of 1921, §218 (b). 
 
 68 Revenue Act of 1918, §218 (a); Reg. 45, Art. 323; T. D. 2858. See 
 Chapter 19. 
 
 09 A. R. M. 13, T. B. 1-20-659. 
 
182 FEDERAL INCOME TAX 
 
 partnership.™ This credit of interest on national bonds for the 
 purpose of the normal tax is unrestricted, because the interest 
 on all national bonds is exempt from the normal tax. Interest 
 upon obligations of the United States issued after September 1, 
 1917, other than postal savings certificates of deposits ''^ and 
 War Finance Corporation bonds is exempt from the surtax only 
 to a limited extent and as provided in the respective acts author- 
 izing the issue of such obligations or bonds, as amended and 
 supplemented.''2 Thg Revenue Act of 1918 and the Revenue 
 Act of 1921 provide that in the case of such obligations or bonds 
 the interest shall be exempt only if and to the extent provided in 
 the respective acts authorizing the issue thereof, as amended and 
 supplemented, and shall be excluded from gross income only if 
 and to the extent it is wholly exempt from taxation to the tax- 
 payer both under the income and vs^ar-profits and excess-profits 
 taxes.'^s As income of a partnership is taxable to the individual 
 partners, each partner is treated as the owner of a proportionate 
 part of the bonds held by the partnership and is entitled to 
 exemption on account of such partnership as if such partner 
 owned such proportionate part of the bonds directly. Such 
 partner, if a partner at the time of the original subscription by 
 the partnership for bonds of the Fourth Liberty loan or notes 
 of the Victory Liberty loan, as the case may be, is treated as an 
 original subscriber for a proportionate part of such bonds or 
 notes subscribed for by the partnership and is entitled to the 
 appropriate collateral exemption of interest on bonds of previous 
 issues on account of such original subscription for bonds or 
 notes as if he had subscribed directly for such proportionate 
 part.'^* Where Liberty bonds are subscribed for and continuously 
 held by a partnership and one of the partners purchases the 
 bonds directly from the partnership, the purchaser is entitled 
 
 70 Revenue Act of 1921, §218 (b) ; Revenue Act of 1918, §§218 (a), 216 
 (b) ; Reg. 45, Art. 323. 
 
 71 Revenue Act of 1921, §213 (b) (4). 
 
 72 The amount of the exemption in the case of each issue is discussed in 
 Chapter 18. 
 
 73 Revenue Act of 1921, § 213 (b) (4) ; Revenue Act of 1918, § 213 (b) 
 
 (4). 
 
 74 Reg. 45, Art. 82 ; T. D. 2762. This principle also applies to stockholders 
 in personal service corporations. Under the 1916 Law, as amended, in- 
 terest upon the obligations of the United States issued after September 24, 
 1917, was required to be included in gross income of a partnership only to 
 the extent to which the partnership's holdings exceeded $5,000 par value 
 (see Form No. 1065), this being the exemption granted in the Second Liber- 
 ty Bond Act for purposes of the surtaxes then in force. Under the present 
 law "original subscription" and "continuous holding" are unimportant. 
 
PARTNERSHIPS 183 
 
 to the exemption which is conditioned upon original subscrip- 
 tion to and continuous holding of the bonds. The basis of the 
 exemption will be an amount of the bonds not in excess of (1) 
 his original share of the bonds held by the partnership, or (2) 
 his share of such bonds not sold by the partnership plus the 
 amount bought by him from the partnership ; whichever amount 
 is smaller. However, if the bonds are purchased from another 
 partner or they are sold by the partnership and repurchased 
 by him in the open market, he can not claim such exemption in 
 respect to any amount of the bonds so acquired.'^^ Where a 
 partnership was an original subscriber to Liberty bonds of the 
 Fourth Liberty Loan and was reorganized as a corporation, an 
 individual member of the partnership purchasing from the cor- 
 poration .certain of such bonds taken over will not be considered 
 the "original subscriber" thereof.'^" 
 
 Interest on Bonds of States, Possessions and Political 
 Subdivisions. The interest received by the partnership on the 
 obligations of a state or any political or taxing subdivision there- 
 of and upon the obligations of the possessions of the United 
 States, might, under the 1916 law, be deducted by a partner in 
 proportion to his share of the total partnership profits." It 
 was unnecessary to provide for this deduction or credit under 
 the Revenue Act of 1918, or the Revenue Act of 1921, since such 
 interest, as well as interest upon obligations of a territory or any 
 political subdivision thereof or the District of Columbia and 
 securities issued under the Federal Farm Loan Act, is excluded 
 from gross income,'''^ and will not appear in the net income of the 
 
 75 O. D. 362, T. B. 2-20-672. 
 
 76 O. D. 502, T. B. 2Q-20-932. 
 
 77 This was undoubtedly intended to give the partner the benefit of the 
 same exemption as was accorded to individuals or corporations under § 4 
 of the Revenue Act of 1916, although that section referred only to "political 
 subdivisions" while the provision relating to partnerships refers to "political 
 and taxing subdivisions." However, political subdivision has been construed 
 to mean any subdivision of a state having the power to levy taxes so that the 
 inclusion of the phrase "taxing subdivision" apparently did not extend 
 any greater exemption to partners than to others. 
 
 78 Revenue Act of 1921, §213 (b) (4) ; Revenue Act of 1918, §213 (b). 
 It was provided in the 1918 Law that every person (the term "person" in- 
 cluding partnerships) owning any of the obligations, securities or bonds 
 enumerated in the law to be absolutely exempt from the income tax — which 
 includes the bonds referred to in the text above — should in his return of 
 income submit a statement showing the number and amount of such obli- 
 gations, securities or bonds owned by him and the income received therefrom 
 in such form and with such information as the commissioner might re- 
 quire. (Revenue Act of 1918, § 213 (b) (4).) This provision is omitted from 
 the 1921 Law. 
 
184 FEDERAL INCOME TAX 
 
 partnership, which consists of its gross income less deductions. 
 
 Income Exempt to Partners. A member of a partnership 
 who performed services in the military forces of the United 
 States during the war, and according to agreement turned over 
 to the partnership the compensation received for such services, 
 might, under the 1918 law, in reporting his distributive share 
 of the partnership's income, exclude from his return an amount 
 equal to the sum received for military services and turned over 
 to the partnership, but not in excess of $3,500. The other part- 
 ner was required to report his entire distributive share of the 
 income regardless of the fact that a portion of it was derived 
 from his partner's compensation for military service.™ An in- 
 dividual member of a partnership receiving a salary for services 
 performed as an employee of a city, who turns over the entire 
 amount so received to his firm as the value of his time, may de- 
 duct the amount of the salary in his personal return as a business 
 expense, but the partnership may claim no deduction with re- 
 spect thereto.80 
 
 Contributions to Charities. The proportionate share of 
 contributions to charities made by a partnership may be claimed 
 by the individual members of the partnership to an amount not 
 in excess of 15% of the net income of the individual partners 
 as computed without such deduction.^i 
 
 Credit for Taxes. The provisions of the Revenue Act of 
 1921 that the tax computed shall be credited with the amount of 
 any income, war-profits and excess-profits taxes paid during 
 the taxable year to any foreign country or to any possession of 
 the United States is discussed elsewhere in this book.®^ Where 
 such taxes have been paid by a partnership, the income tax of 
 an individual member thereof will be credited with the member's 
 proportionate share of such taxes of the partnership paid during 
 the taxable year to a foreign country or to any possession of the 
 United States, as the case may be.^^ Under the 1918 Law a part- 
 ner, who is an alien resident of the United States and a citizen 
 or subject of a foreign country, is entitled to such credit only 
 for taxes paid or accrued to a possession of the United States, 
 or to the foreign country of which he is a citizen or subject, and 
 is not entitled to such credit for taxes paid or accrued to that 
 country unless it allows a similar credit to a citizen of the United 
 
 TO 0. D. 121, T. B. 3rl9-I82. The 1921 Law does not contain the $3,500 
 exemption granted by the 1918 Law to those in active service. 
 
 80 A. R. M. 25, T. B. 4-20-702. 
 
 81 O. D. 185, T. B. 8-19-322. 
 
 82 See Chapter 32. 
 
 83 Revenue Act of 1921, §222; Revenue Act of 1918, §222. 
 
PARTNERSHIPS 185 
 
 States residing therein.^* Under the Revenue Act of 1921 an 
 alien resident is entitled to a credit of any income, war-profits 
 and excess-profits taxes paid during the taxable- year to any 
 foreign country if the foreign country of which such alien resi- 
 dent is a citizen or subject, in imposing such taxes, allows a 
 similar credit to citizens of the United States residing in such 
 country.85 
 
 Readjustment of Partnership Interests. When a partner 
 retires from a partnership or it is dissolved, he realizes a gain 
 or loss measured by the difference between the price received for 
 his interest and the cost to him of his interest in the partnership^, 
 including in such cost the amount of his share in any undistrib- 
 uted partnership net income earned since he became a partner 
 on which the income tax has been paid. However, if such inter- 
 est in the partnership was acquired prior to March 1, 1913, both 
 the cost as hereinbefore provided and the value of such interest 
 as of such date, plus the amount of the share in any undistrib- 
 uted partnership net income earned since February 28, 1913, 
 , on which the income tax has been paid, must be ascertained and 
 the taxable gain derived or the deductible loss sustained be 
 computed in accordance with the rules relative to the basis for 
 determining gain or loss from sales set forth elsewhere in this 
 book.s^ If the partnership distributes its assets in -kind and 
 not in cash, the partner realizes no gain or loss until he disposes 
 of the property received on liquidation. Whenever a new part- 
 ner is admitted to a partnership, or any existing partnership is 
 reorganized, the facts as to such change or reorganization should 
 be fully set forth in the next return of income, in order that the 
 commissioner may determine whether any gain or loss has been 
 realized by any partner.^^ The effect of the admission to a part- 
 nership of a new partner will depend upon the terms of his 
 admission. If, under the terms of the partnership agreement he 
 contributes property or cash to the capital of the partnership he 
 acquires a right, upon dissolution, to a return of his contribution 
 together with his proportionate share of the net profits of the 
 partnership business, and in' the 'meantime to a corresponding 
 share in the net earnings of the partnership. There is no 
 realization on the part of any partner. If, on the other hand, 
 he purchases, for cash, an interest in the existing partnership, 
 it is clear that what he has acquired is simply a right to share 
 
 84 Revenue Act of 1918, § 222 (a) ; Reg. 45, Art. 323. 
 
 85 Revenue Act of 1921, §222 (a) (8). 
 
 86 See Chapter 17. 
 
 87 Reg. 45, Art. 1570, as amended by T. D. 3206; T. B. 33-21-1767. 
 
186 FEDERAL INCOME TAX 
 
 in the profits of the partnership during its continuance and in 
 any sum remaining, upon the dissolution of the partnership, 
 after the satisfaction of creditors and of the equities as between 
 the contributing partners. Since this would represent a pur- 
 chase, by the incoming partner, there could be no realization 
 as to him, and, as to the members of the former partnership, 
 the amount paid by him will clearly be income to them in direct 
 proportion to their respective interests in the former partner- 
 ship and should be returned by them as such.^s 
 
 Fiscal Year. The net income of a partnership is computed 
 generally in the same manner and on the same basis as the net 
 income of individuals.ss Its net income must be computed upon 
 the basis of the partnership's annual accounting period (fiscal 
 year or calendar year, as the case may be) in accordance with 
 the method of accounting regularly employed in keeping ,the 
 books of the partnership. If no such method of accounting has 
 been employed, or if the method employed does not clearly refiect 
 income, the computation is made upon such basis and in such 
 manner as in the opinion of the commissioner does clearly reflect 
 income. If the partnership's annual accounting period is other 
 than a fiscal year, or if the partnership has no annual accounting 
 period or does not keep books, its net income will be computed 
 on the basis of the calendar year.^" If the net income of a part- 
 ner is computed on the basis of a period different from that upon 
 the basis of which the net income of the partnership is com- 
 puted, then the partner's distributive share of the net income of 
 
 88 Sol. Op. 42, T. B. 36-20-1182; O. 816, T. B. 3-19-197. 
 
 89 Revenue Act of 1921, § 218 (c) ; Revenue Act of 1918, § 218 (d) . 
 
 90 Revenue Act of 1921, §212 (b) ; Revenue Act of 1918, §212 (b). 
 Prior to the enactment of the Revenue Act of 1918 reporting on the basis 
 of a fiscal year was a privilege; now it is a requirement, if the books of 
 the partnership are kept on the basis of a fiscal year. (See Chapter 34.) 
 Under the 1916 Law a partnership had the same privilege of fixing and 
 making returns upon the basis of its own fiscal year as was accorded to 
 corporations. If a fiscal year ended during 1916 or during a subsequent 
 calendar year for which there was a rate of tax different from the rate of 
 the preceding calendar year, the rate for the preceding calendar year 
 applied to an amount of each partner's share of such partnership profits 
 equal to the proportion which the part of such fiscal year falling within 
 such preceding calendar year bore to the full fiscal year and the rate for the 
 calendar year during which such fiscal year ended applied to the remainder 
 of such profits. (Revenue Act of 1916, § 8 (e) as amended by the Revenue 
 Act of 1917.) Prior to this amendment of the statute the treasury depart- 
 ment held that where the fiscal year of a partnership ended at any time 
 other than December 31st the total profits of the partnership were required 
 to be reported as income of the partners for the calendar year in which 
 the fiscal year of the partnership ended. 
 
PARTNERSHIPS 187 
 
 the partnership for any accounting period of the partnership 
 ending within the fiscal year or calendar year upon the basis 
 of which the partner's net income is computed, is included in 
 computing the net income of each partner.^^ Under the 1918 
 Law if the fiscal year of a partnership ends during a calendar 
 year for which the rates of tax differ from those for the preced- 
 ing calendar year, then (1) the rates for such preceding calendar 
 year apply to an amount of each partner's share of such partner- 
 ship net income equal to the proportion which the part of such 
 fiscal year falling within such calendar year bears to the full 
 fiscal year, and (2) the rates for the calendar year during which 
 such fiscal year ends apply to the remainder.^^ If the fiscal 
 year of a partnership begins in 1920 and ends in 1921, or begins 
 in 1921 and ends in 1922, (1) the rates for the calendar year 
 during which such fiscal year begins will apply to an amount 
 of each partner's share of such partnership net income (deter- 
 mined under the law applicable to such year) equal to the propor- 
 tion which the part of such fiscal year falling within such calen- 
 dar year bears to the full fiscal year, and (2) the rates for the 
 calendar year during which such fiscal year ends will apply to 
 an amount of each partner's share of such partnership net 
 income (determined under the law applicable to such calendar 
 year) equal to the proportion which the part of such fiscal 
 year falling within such calendar year bears to the full fiscal 
 year.93 , 
 
 Net Losses of Partnership. Where the result of partnership 
 operation is a net loss, the loss will be divisible between the 
 partners in the same proportion as a profit would have been 
 divisible, and may be used by the individual partners in their 
 returns of income,^* as the loss of a partnership is considered 
 to be a loss sustained in trade by the individual members. The 
 partner may deduct the loss whether he is compelled to make 
 
 91 Revenue Act of 1921, §218 (a); Revenue Act of 1918, §218 (a). 
 
 92 Revenue Act of 1918, §218 (b). In the case of an individual member 
 of a partnership making return for a fiscal year beginning in 1917 and 
 ending in 1918, his proportionate share of any excess-profits tax imposed 
 upon the partnership under the Revenue Act of 1917 with respect to that 
 part of such fiscal year falling in 1917, was deducted from that part of the 
 income subject to the 1917 rates, and not from that part subject to the 1918 
 rates. (Revenue Act of 1918, §218 (c).) For the detailed rule as to the 
 application of the different tax rates in the case of partnerships with fiscal 
 years ending in 1916, 1918 and 1919, see respectively O. 1016, T. B. 14-20-833, 
 Reg. 45, Arts. 324-5 and Reg. 45, Arts. 326-7. 
 
 93 Revenue Act of 1921, §205 (c). 
 
 94 Reg. 33 Rev., Art. 30. 
 
188 FEDERAL INCOME TAX 
 
 good his proportionate share by payment of money to the part- 
 nership or whether the loss is charged against profits accrued 
 to his account in preceding years.^s If the loss occurs in a fiscal 
 year covering a period in which there is a change of tax rates 
 it does not seem that under the Revenue Act of 1918 the loss 
 should be prorated although the income, if any, would be, since 
 a loss is deductible in the year in which it is actually sustained.^^ 
 Under the Revenue Act of 1921, however, if, in order to clearly 
 reflect the income, the loss should, in the opinion of the commis- 
 sioner, be accounted for as of a different period it may be de- 
 ducted in a year other than the one in which sustained.'''^ 
 
 Profits Earned Prior to March 1, 1913. In a case arising under 
 the 1913 law it was contended that where the fiscal year of a 
 partnership ended between March 1, 1913, and December 31st 
 of the same year, the equitable method would be to apportion the 
 profits for the fiscal year in equal monthly installments and allot 
 to the period preceding March 1st its proper proportion, making 
 the partners taxable only on their respective shares in the re- 
 mainder. The court held that the plaintiff in this case failed 
 to show that profits were earned by the partnership prior to 
 March 1, 1913, and in what sum, and in the absence of such 
 showing the court assumed that the tax was legally coUected.^^ 
 The treasury department held under the 1913 Law that the entire 
 amount of profits accruing to a partner at the close of the fiscal 
 year of the partnership was taxable in the calendar year in 
 which the fiscal year ended,^^ although a part of the fiscal year 
 may have covered a period prior to the incidence of the tax. 
 
 Returns by Partnerships. Every partnership must make a 
 return of income, regardless of the amount of its net income. 
 The return under the 1918 Law was on form 1065 (revised). 
 The return should be sworn to by one of the partners. Such 
 return should be made for the taxable year of the partnership, 
 that is, for its annual accounting period (fiscal year or calendar 
 year as the case may be), irrespective of the taxable years of 
 the partners.ioo A receiver in charge of the business of a part- 
 nership must make a return for it on form 1065 (revised) . As 
 the death or withdrawal of a partner ordinarily dissolves the 
 
 95 Letter from treasury department dated February 12, 1915; I. T. S. 
 1918, 11674. 
 
 96 See Chapter 25. 
 
 97 Revenue Act of 1921, §214 (a) (6). 
 
 98 Cohen v. Lowe, 234 Fed. 474. 
 
 99 T. D. 2090. 
 
 100 Revenue Act of 1921, §224; Revenue Act of 1918, §224; Reg. 45, 
 Arts. 411 and 412. If the partnership makes any change in its accounting 
 
PARTNERSHIPS 189 
 
 partnership, a return would be required covering the period 
 from the beginning of the partnership's taxable year to the 
 date of its dissolution. If the business of the partnership is con- 
 tinued as such, a new accounting period would be established 
 upon the necessary reorganization of the partnership, and its 
 next return should cover the period from the date of reorganiza- 
 tion until the end of the taxable year.ioi 
 
 Contents of Partnership Return. Under the 1918 law the 
 return of a partnership was required to state specifically (a) the 
 items of its gross income; (b) the deductions to which it is en- 
 titled under the law; (c) the amounts of dividends from taxable 
 corporations and from personal service corporations out of 
 earnings and profits upon which income tax has been imposed, 
 and of interest upon obligations of the United States and bonds 
 of the War Finance Corporation included in gross income; (d) 
 the amount of any income, war-profits and excess-profits taxes of 
 the partnership paid during the taxable year to a foreign coun- 
 try or to any possession of the United States, and the amount of 
 any such taxes accrued but not paid during the taxable year; 
 (e) the names and addresses of the individuals who would be 
 entitled to share in the net income of the partnership if distrib- 
 uted; (f) the amount of the distributive share of such net 
 income of each such individual; and (g) such other facts as are 
 required by form 1065 (revised) .^^^ , 
 
 Returns of Tax Withheld at Source. Partnerships are re- 
 quired to make returns on or before March first of each year of 
 amounts of tax required to be withheld at the source-i^^ 
 
 period, it should make its return in accordance with the provisions of § 226 
 of the statute and Reg. 45, Art. 431. Prior to the enactment of 1918 Law, 
 partnerships as such were not required to render annual returns of in- 
 come, but when requested by the commissioner, or any collector, were re- 
 quired to make a correct return of earnings, profits and income, showing 
 their gross income and the deductions and credits allowed by the law and 
 the names and addresses of the individuals who would be entitled to the 
 net earnings, profits and income if distributed. It was not required in 
 such returns that the partnership report income exempt under § 4 of the 
 1916 Law. (Revenue Act of 1916, §8 (e); Reg. 33 Rev., Art. 30; Reg. 33, 
 Art. 12.) Special returns from partnerships were required generally in 
 1913, but no returns were required for the year 1914 or for subsequent 
 years, except in instances where it was specially required by the commis- 
 sioner or a collector. In 1917 partnerships were required to file returns 
 of income for the excess-profits tax. 
 
 101 0. D. 228, T. B. 12-19-403. 
 
 102 Reg. 45, Art. 412. 
 
 103 Revenue Act of 1921, §§ 221 (c) and 237; Revenue Act of 1918, §§ 221 
 (c) and 237; Reg. 45, Arts. 361-376; see Chapter 40. 
 
190 FEDERAL INCOME TAX 
 
 Returns of Information. Partnerships are required to file 
 such returns as are required under the provisions of law relating 
 to information at the source.^"* 
 
 Reports by Brokers. Every partnership doing business as a 
 broker is required, vs^hen called upon by the commissioner, to 
 make a return showing the names of its customers with such de- 
 tails as to the profits, losses or other information which the com- 
 missioner may require, as to each of such customers, as will en- 
 able the commissioner to determine whether all income tax due 
 on the profits or gains of such customers has been paid.i"^ This 
 report is for the purpose of information at the source and is 
 more fully discussed in another chapter.^o^ 
 
 Penalties. Partnerships or their members or employes are 
 subject in certain cases to penalties, both specific and ad valorem, 
 for failing or refusing to make returns, to supply information, 
 to pay or collect any tax, or for wilfully attempting in any 
 manner to defeat or evade the income tax. Such penalties are 
 more particularly discussed in another chapter.i"^ 
 
 Examination of Partnership Records. All partnership books, 
 papers, records or memoranda are subject to examination by any 
 revenue agents or inspectors designated by the commissioner 
 for the purpose of ascertaining the correctness of returns which 
 have been made, or making a return where none has been made, 
 in accordance with and subject to rules which are discussed at 
 length in another chapter.i^s 
 
 Foreign Partnerships. The distinction between domestic and 
 foreign partnerships is given above.i*"' The Revenue Acts of 
 1918 and 1921 do not use the word "foreign" in connection with 
 partnerships in the part of the act imposing the income tax.^^" 
 The acts, however, provide that individuals carrying on business 
 in partnership shall be liable for income tax in their individual 
 capacity. This implies that the income of a foreign partnership 
 from sources within the United States is taxable in the hands 
 of the nonresident alien partners, to the extent included in the 
 
 104 Revenue Act of 1921, §256; Revenue Act of 1918, §256; Reg. 45, 
 Arts. 1071-1080. 
 
 105 Revenue Act of 1921, §256; Revenue Act of 1918, §255; Reg. 45, 
 Art. 1061. 
 
 106 See* Chapter 39. 
 
 107 See Chapter 36. 
 los See Chapter 38. 
 
 109 See p. 166. 
 
 110 The term "foreign" is applied to partnerships in the title imposing 
 stamp taxes. (Revenue Act of 1921, Title XI, Schedule A-13; Revenue Act 
 of 1918, Title XI, Schedule A-15.) 
 
PARTNERSHIPS 191 
 
 distributive share of each, and such has been the ruling of the 
 treasury department.^ii The income received by a nonresident 
 alien partnership from sources within the United States does 
 not, like the income received by a domestic or resident alien 
 partnership, lose its identity as to source when distributed to a 
 nonresident alien member of a firm.i^^ jf the partner is a citi- 
 zen or resident of this country, he is of course subject to tax upon 
 his entire distributive share of the profits of any partnership of 
 which he may be a member. Foreign partnerships are divided 
 into two classes : (1) resident foreign partnerships, and (2) non- 
 resident foreign partnerships. A foreign partnership which is 
 engaged in business or trade within the United States and has 
 an office or place of business therein is a resident foreign part- 
 nership, and a foreign partnership which is not engaged in busi- 
 ness or trade within the United States and has no office or place 
 of business therein is a nonresident foreign partnership. 
 
 Extent to Which Taxable. Foreign partnerships, unless 
 they are of the kind taxable as corporations,!!^ are not taxable, 
 but the partners are required to pay the tax in all cases on their 
 distributive shares of the profits, gains or income of the partner- 
 ship arising from sources within the United States. A complete 
 discussion of the term "income from sources within the United 
 States" is contained in another chapter.^!* In a recent case un- 
 der the 1918 law it appeared that two members of a British 
 partnership, engaged in the cotton business, resided in England, 
 and the third resided temporarily in the United States. The 
 partnership maintained an office in this country for the purpose 
 of purchasing cotton to be shipped abroad. The purchase price 
 was paid by draft drawn on England. None of the cotton so 
 purchased was sold within the United States, nor were any of the 
 profits of the sale received in this country. The treasury de- 
 partment held that any income derived from the sale of such 
 cotton was not taxable as income from sources within the United 
 States, since the sale was consummated in a foreign country 
 through transactions by the home office. The third member of 
 the partnership who remained within the United States seven 
 
 111 Letter from treasury department dated April 7, 1917; I. T. S. 1918, 
 TI702; Letter from treasury department dated June 6, 1918; I. T. S. 1918, 
 Tf3528; Letter from treasury department dated October 1, 1918; I. T. S. 
 1921, If 1700 ; Letter from treasury department dated December 6, 1916 ; 
 L T. S. 1921, H 1701. 
 
 112 Letter from treasury department dated October 1, 1918; I. T. S. 1921, 
 H 1700. 
 
 113 See the discussion of Limited Partnerships on p. 167. 
 
 114 See Chapter 4. 
 
192 FEDERAL INCOME TAX 
 
 or eight months of the year for the purpose of transacting the 
 partnership business, and who returned to Europe when this 
 purpose was accomplished, was held to be a nonresident alien 
 and therefore not taxable with respect to his share of the part- 
 nership profits so held to be from sources without the United 
 States."^ A foreign partnership is liable for tax under thQ 
 1917 act on the entire amount of profit derived from the sale of 
 goods through its branch oifice or through its agencies in the 
 United States. The basis of computation of profits should be 
 the difference between the cost of the goods sold through its 
 branch office or agent in the United States and the price received 
 therefor and not merely the amount disclosed by the books of the 
 branch office in the United States.ii'^ 
 
 Collection of the Tax at the Source. Under the Revenue 
 Act of 1918, a partnership, resident or non-resident, is not 
 subject to having any tax withheld at the source on income from 
 sources in this country, except in the case of interest upon bonds 
 of corporations containing covenants to pay the tax.^^''' The 
 treasury department under the 1916 law made no distinction 
 
 115 0. D. 593, T. B. 29-20-1072. 
 
 116 O. D. 311, T. B. 25-19-585. 
 
 117 Revenue Act of 1918, § 221 (b) ; Reg. 45, Art. 361. Withholding was 
 not required in any case on payments to a resident foreign partnership 
 under the 1916 Law. Nonresident foreign partnerships were also not sub- 
 ject to having the tax withheld on interest from investments in the bonds 
 or similar obligations of domestic or resident corporations (telegram from 
 treasury department dated May 17, 1918; I. T. S. 1918, TI3362) or on divi- 
 dends (Reg. 33 Rev., Art. 32; letter from treasury department dated June 
 6, 1918; I. T. S. 1918, 113528) on the stock of corporations or other income. 
 The language of the Revenue Act of 1916, § 13 (e), as amended, was am- 
 biguous. It provided that the provisions relating to withholding of the tax 
 should be made applicable "to the tax imposed by subdivision (a) of § 10 
 upon incomes derived from interest upon bonds and mortgages or deeds of 
 trust or similar obligations of domestic or other resident corporations 
 * * * by nonresident alien firms." No tax, as a matter of fact, was 
 imposed upon firms or partnerships by subdivision (a) of § 10, and conse- 
 quently it was ruled that no tax need be withheld. 
 
 ] IS Telegram from treasury department dated May 17, 1918; I. T. S. 
 1918, H 3362. It is interesting to note in this connection that immediately 
 after the 1913 Law was enacted and before it was held that partnerships 
 were not subject to withholding the treasury department provided for the 
 use of partnerships an ownership certificate which required a statement 
 of the names and addresses of each of the partners. NO' such disclosure of 
 the names of the partners of nonresident foreign partnerships was subse- 
 quently required, which indicates that the treasury department did not con- 
 sider the individual status of the partners to be essential in determining 
 whether or not withholding is necessary. 
 
PARTNERSHIPS 193 
 
 based upon the status of the individual partners and no such 
 distinction was made under the 1918 law."* Under the 1921 
 law, however, withholding is required against partnerships com- 
 posed in whole or in part of non-resident aliens to the same ex- 
 tent as against non-resident alien individuals.^^" 
 
 Procedure in Collecting Income. Under the 1918 law, in 
 collecting income from interest on bonds not containing a "tax- 
 free covenant" a resident or non-resident foreign partnership 
 made use of a form certifying that it was not subject to having 
 the income tax withheld at the source.^^" In collecting any other 
 form of income no prescribed certificate was necessary, but the 
 partnership, might be called upon to disclose its name and loca- 
 tion for the purpose of supplying the payor of the income with 
 the information which he was required to transmit to the govern- 
 ment.121 
 
 Duty in Paying Out Income. Resident foreign partnerships 
 are under the same duty in paying out income to others as are 
 domestic partnerships ; that is, they are required to withhold on 
 payments made from the office in this country under the same 
 conditions which require domestic partnerships to withhold. 
 They are also required to report the names of those to whom 
 they pay fixed or determinable income, in the manner required by 
 law of corporations, partnerships, and individuals generally.^- 
 
 119 Revenue Act of 1921, §221 (a). See Chapter 40. 
 
 120 Reg. 45, Art. 365. Form No. 1001 (revised) is used for this purpose. 
 
 121 For the 1916 procedure in this respect see Reg. 33 Rev., Art. 43. 
 Telegram from treasury department dated May 21, 1918; I. T. S. 1918, 
 U 3364. See I. T. S. 1918, 1[ 3452a. 
 
 122 See Chapters 39 and 40. 
 
CHAPTER 9 
 
 PERSONAL SERVICE CORPORATIONS 
 
 In an attempt to equalize the relative tax burdens of corpora- 
 tions and partnerships the Revenue Act of 1918 prescribed a new 
 system of taxation for a certain type of corporation, vs^hich it 
 called a personal service corporation. Personal service corpora- 
 tions are corporations vi^hose income is to be ascribed primarily 
 to the activities of the principal owners or stockholders who are 
 themselves regularly engaged in the active conduct of the affairs 
 of the corporation and in which capital (whether invested or bor- 
 rowed) is not a material income-producing factor. The term 
 "personal service corporation" does not include, however, any 
 foreign corporation, or any corporation 50 per centum or more 
 of whose gross income consists either (1) of gains, profits, or 
 income derived from trading as a principal, or (2) of gains, 
 profits, commissions, or other income, derived from a govern- 
 ment contract or contracts made between April 6, 1917, and 
 November 11, 1918, both dates inclusive.^ Personal service cor- 
 porations as such are not subject to the income, war-profits or 
 excess-profits taxes imposed by the Revenue Act of 1918 and the 
 Revenue Act of 1921 for the year 1921, the individual stock- 
 holders thereof being taxed in the same manner as the mem- 
 bers of partnerships.^ The latter statute, however, abolishes 
 the exemption of personal service corporations as of December 
 31, 1921. Thereafter personal service corporations are to be 
 treated in the same manner as all other corporations. The dis- 
 cussion in this chapter is, therefore, limited to the years 1917 
 to 1921, inclusive. The Revenue Act of 1921 also imposes an 
 alternative retroactive tax on personal service corporations in 
 the event that the scheme of taxation of such corporations is 
 held unconstitutional and invalid, and this provision will be 
 discussed below. 
 
 All the provisions of law discussed in the preceding chapter 
 relating to partnerships and the members thereof apply, so far 
 
 1 Revenue Act of 1921, § 200 (5) ; Revenue Act of 1918, § 200. The defini- 
 tion is the same in the two laws. For a definition of the term "Government 
 Contract," see Reg. 45, Art. 1510, and Revenue Act of 1921, §2 (11). 
 
 2 Revenue Act of 1921, §§ 231 (14), 218 (d) ; Revenue Act of 1918, §§ 231 
 (14), 218 (e); Reg. 45, Art. 328. In making returns for fiscal years be- 
 ginning in 1917, personal service corporations were not treated wholly as 
 such 
 
 194 
 
PERSONAL SERVICE CORPORATIONS 195 
 
 as practicable, to personal service corporations and the stock- 
 holders thereof, provided that amounts distributed by a personal 
 service corporation during its taxable year be accounted for by 
 the distributees (i.e., the persons who actually receive the divi- 
 dends) ; and any portion of the net income remaining undis- 
 ■ tributed at the close of its taxable year must be accounted for by 
 the stockholders of such corporation at the close of its taxable 
 year in proportion to their respective shares.^ Thus, the indi- 
 vidual stockholders of personal service corporations are taxable 
 upon their distributive shares in the same manner as th^ mem- 
 bers of partnerships, and the corporation is subject to neither 
 income nor excess-profits taxes.* . 
 
 Definition. The statutory definition of personal service cor- 
 porations has been given above. By regulation the term "per- 
 sonal service corporation" is defined as a corporation, not ex- 
 pressly excluded, the income of which is derived from a profes- 
 sion or business (a) which consists principally of rendering 
 personal service, (b) the earnings of which are to be ascribed 
 primarily to the activities of the principal owners or stockhold- 
 ers, and (c) in which the employment of capital is not necessary 
 or is only incidental. No definite and conclusive tests can be 
 prescribed by which it can be finally determined in advance of an 
 examination of the corporation's return whether or not it is 
 a personal service corporation.^ The general principles under 
 which such determination will be made are stated in the follow- 
 ing paragraphs. 
 
 Certain Corporations Excluded. The. following classes of 
 corporations are expressly excluded from classification as per- 
 sonal service corporations: (a) foreign corporations; (b) cor- 
 porations 50 per centum or more of whose gross income consists 
 of gains, profits or income derived from trading as a principal ; 
 and (c) corporations 50 per centum or more of whose gross 
 income consists of gains, profits, commissions, or other income 
 derived from a government contract or contracts made between 
 April 6, 1917, and November 11, 1918, inclusive. A corporation 
 is not a personal service corporation merely because less than 
 50 per centum of its gross income was derived from trading as 
 a principal or from government contracts.® A corporation can 
 
 3 Revenue Act of 1921, § 218 (d) ; Revenue Act of 1918, § 218 (e). 
 i Reg. 45, Art. 328. 
 
 5 Reg. 45, Art. 1523. 
 
 6 Reg. 45, Art. 1524. This rule was applied in A. R. M. 120, T. B. 15-21- 
 1558, where 25% of the earnings of the corporation were derived from trad- 
 ing as a principal. No other reason against persona! service classification 
 
196 FEDERAL INCOME TAX 
 
 not be considered a personal service corporation when another 
 corporation owns or controls substantially all of its stock, or 
 when substantially all of its stock and of the stock of another 
 corporation (not itself a personal service corporation) forming 
 part of the same business enterprise is owned or controlled by 
 the same interests. '^ 
 
 In a case in which this ruling was applied, the recommendation 
 has been made that the ruling be modiiied so as to allow both the 
 parent corporation and its subsidiaries to be classed as personal 
 service corporations, provided they fulfill all other requirements 
 for such qualification.^ 
 
 Personal Services Rendered. In order that a corporation 
 may be deemed to be a personal service corporation its earnings 
 must be derived principally from compensation for personal 
 services rendered by the corporation to the persons with whom 
 it does business. Merchandising or trading either directly or 
 indirectly in commodities or the services of others is not render- 
 ing personal service. Conducting an auction, agency, brokerage, 
 or commission business strictly on the basis of a fee or commis- 
 sion is rendering personal service. If, however, the corporation 
 assumes any such risks as those of market fluctuation, bad debts, 
 failure to accept shipments, etc., or if it guarantees the accounts 
 of the purchaser or is in any way responsible to the seller for 
 the payment of the purchase price, the transaction is one of 
 merchandising or trading and this is true even though the goods 
 are shipped directly from the producer to the consumer and are 
 never actually in the possession of the corporation. The fact 
 that earnings of the corporation are termed commissions or fees 
 is not controlling. The fact that a commission or fee is based 
 on a difference in the prices at which the seller sells and the 
 buyer buys raises a presumption that the transaction is one of 
 merchandising or trading, and it will be so considered in the ab- 
 sence of satisfactory evidence to the contrary." 
 
 appeared. The statute prescribes 50% as the amount of trading as a 
 principal which disqualifies a corporation from being classed as a personal 
 service corporation, and the intent of the 1917 Act was similar. Where the 
 statute prescribes 50% as the limit, and there is only 25% of such trading, 
 a corporation would seem to be a personal service corporation unless some 
 other factor required a different conclusion. The validity of the ruling 
 upon the theory that capital was a material income-producing factor is 
 doubtful. 
 
 7 Reg. 45, Art. 1524; O. D. 1, T. B. 1-19-4. 
 
 S A. R. R. 46, T. B. 13-20-802. 
 
 9 Reg. 45, Art. 1525. It is perhaps the most fundamental positive essential 
 to personal service classification that the earnings of a corporation be de- 
 
personal service corporations 197 
 
 Personal Service Rendered: More Than One Business. 
 It frequently happens that corporations are engaged in two or 
 more professions or businesses which are more or less related, 
 one of which does not consist of rendering personal service. 
 Thus an engineering concern may also engage in contracting, 
 which amounts to trading in materials and labor, a brokerage 
 concern may guarantee some of its accounts, a photographer 
 may sell pictures, frames, art goods, and supplies, or a dealer in 
 a commodity may furnish expert advice or services with respect 
 to its installation, use, etc. In such case the corporation is not 
 a personal service corporation unless the non-personal service 
 element is negligible or merely incidental and no appreciable part 
 of its earnings is to be ascribed to such sources.^" 
 
 Activities of Stockholders. In determining whether a cor- 
 poration is a personal service corporation, no weight can be 
 given to the fact that it renders personal services unless (a) 
 the principal owners or stockholders are regularly engaged in 
 the active conduct of its affairs and are engaged in such a man- 
 ner that the earnings are to be ascribed primarily to their activ- 
 ities, and (b) its affairs are conducted principally by such owners 
 or stockholders.^! Where the principal owners or stockholders 
 do not render the principal part of the services, but merely su- 
 pervise or direct a force of employees, the corporation is not a 
 personal service corporation. If employees contribute substan- 
 tially to the services rendered by a corporation, it is not a per- 
 sonal service corporation unless in every case in which services 
 are so rendered the value of and the compensation charged 
 for such services are to be attributed primarily to the experience 
 or skill of the principal owners or stockholders and such fact 
 is evidenced in some definite manner in the normal course of the 
 profession or business. The fact that the principal owners or 
 stockholders give personal attention or render valuable services 
 to the corporation as a result of which its earnings are greater 
 than those of a corporation engaged in a like or similar business, 
 the principal owners or stockholders of which do not devote per- 
 sonal attention to the management or supervision of its affairs, 
 
 rived "principally from compensation for persoval services rendered by the 
 corporation to the persons with whom it does business." The force of the 
 word "principally," as well as the word "primarily," as used in the statute 
 is discussed in A. R. R. 463, T. B. 41-21-1858. 
 
 1" Reg. 45, Art. 1526. 
 
 11 Reg. 45, Art. 1527. 
 
198 FEDERAL INCOME TAX 
 
 does not of itself constitute the corporation a personal service 
 corporation.12 
 
 Activities op Stockholders: Stock Interest Required. 
 No definite percentage of stock or interest in the corporation 
 which must be held by those engaged in the active conduct of its 
 affairs in order that they may be deemed to be the principal 
 owners or stockholders can be prescribed as a conclusive test, as 
 other facts may affect any presumption so established. No cor- 
 poration or its owners or stockholders may, however, make a 
 return in the first instance on the basis of its being a personal 
 service corporation unless at least 80 per centum of its stock 
 is held by those regularly engaged in the active conduct of its 
 affairs.^2 
 
 12 Reg. 45, Art. 1528; A. R. R. 464, T. B. 17-21-1588. The statute does 
 not require that the "'affairs" of a personal service corporation be "con- 
 ducted principally" by its "owners or stockholders." The regulations given 
 in the text above are in this rpspect an attempt to put into the body of the 
 statute a limitation which Congress did not think it necessary to prescribe. 
 The statute itself simply requires that the principal owners or stock- 
 holders be "regularly engaged" in the active conduct of the affairs of a 
 personal service corporation and that the earnings of the corporation be 
 such as may be ascribed "primarily" to the activities of such owners or 
 stockholders. It does not require that the affairs of the corporation be 
 conducted "principally" by its owners or stockholders. The principal ovimers 
 of a corporation might be "regularly engaged" in the conduct of its affairs 
 so that its earnings would be ascribed "primarily to their activities," and 
 yet the activities of a corporation might be conducted, at least on a quanti- 
 tative basis, "principally" by nonstockholding employees. Insofar as this 
 regulation extends the terms of the statute its validity is to be questioned 
 (See Morrill v. Jones, 106 U. S. 466, and cases cited upon this point in 
 Chapter 47). There is no requirement, furthermore, that the principal 
 owners or stockholders shall attend to all the detail of a business. (See 
 A. R. R. 463, T. B. 41-21-1858.) 
 
 13 Reg. 45, Art. 1529. This regulation is to be read in connection with 
 Reg. 45, Art. 1524, in which it is held that a corporation can not be con- 
 sidered a personal service corporation when another corporation owns or 
 controls substantially all of its stock. The basic theory underlying these 
 rulings is that a corporation cannot render personal services. The statute, 
 however, does not require that all the owners and stockholders of a per- 
 sonal service corporation must be regularly engaged in the active conduct 
 of its affairs and that the earnings of the corporation be such as can be 
 ascribed completely to the activities of such owners and stockholders. 
 It is careful to avoid any such absolute requirement. If the 80% 
 limitation given in the text above is intended to be anything more 
 than prima facie, it would seem to be a perversion of the statute. For ac- 
 cording to their natural, ordinary and familiar meaning, which must control 
 in ascertaining the legislative intent (DeGanay v. Lederer, 250 U. S. 376, 
 239 Fed. 568, and cases cited in Chapter 47) the words "principal" and 
 "primarily" do not necessarily imply a percentage as high as 80%. This 
 
PERSONAL SERVICE CORPORATIONS 199 
 
 Activities of Stockholders : Change in Ownership. The 
 fact that the owners or stockholders of the corporation may- 
 change during the course of the taxable year does not take a 
 corporation which is normally in the personal service class out 
 of that class. Frequent changes in the ownership of any sub- 
 stantial interest or number of shares is, however, evidence bear- 
 ing on the question as to whether the principal owners or stotk- 
 holders are actively engaged in the conduct of the affairs of the 
 corporation. The incapacity, retirement or death of a principal 
 owner or stockholder who has been actively engaged in the con- 
 duct of its affairs will not be deemed to make any change in the 
 status of the corporation during a reasonable time thereafter.^* 
 
 Capital. In determining whether a corporation is a personal 
 service corporation, no weight can be given to the fact that the 
 invested capital for purposes of the excess-profits tax or the 
 actual investment of the principal owners or stockholders is 
 comparatively small. The test established by the statute with 
 respect to capital is entirely different. That test is the nature 
 of the profession or business as indicated (a) by the kind of 
 service it renders and (b) the extent to which capital is required 
 to carry on such profession or business.^^ If the use of capital 
 
 conclusion is fortified by a statement of Mr. Kitchin, the chairman of the 
 Ways and Means Committee of the House of Representatives, made on 
 March 18 and 19, 1920, in regard to Sec. 200 of the Revenue Act of 1918. Mr. 
 Kitchin said at that time: "It (a personal service corporation) may have a 
 thousand stockholders, but four men may own, say 75 or 60 per cent, of 
 the stock, and these four men, say the president, the secretary, the mana- 
 ger, and supervisor, or whatever they may be, give their active service to 
 it, and you can attribute the profits they may make, or substantially all of 
 their profits, to their services, then it is a personal service corporation under 
 that section." Statements by a committee chairman in charge of a bill may 
 be referred to upon questions of legislative intent (Lapina v. Williams, 232 
 U. S. 78, and cases cited in Chapter 47). 
 
 14 Reg. 45, Art. 1530. 
 
 15 Reg. 45, Art. 1531; A. R. R. 464, T. B. 17-21-1588. This ruling is 
 clearly unsound. In determining the extent to which capital is required to 
 carry on a profession or business, there would seem to be no better evi- 
 dence than the extent to which capital is in fact employed in a profession 
 or business. The rule stated professes to determine the extent to which 
 capital is required without reference to the actual investment of capital 
 by the principal owners or stockholders. No clearer indication of the fact 
 that capital is not required could be supplied than the fact that it has not 
 been invested. If it has not been invested, it can hardly be required. On 
 the other hand, if it is invested, it is usually invested because it is re- 
 quired. The amount of invested capital or the actual investment of the 
 principal owners or stockholders should be taken into consideration in de- 
 termining the extent to which capital is required in a business. As a 
 matter of fact, it is so taken into consideration. In the last sentence of 
 
200 FEDERAL INCOME TAX 
 
 is necessary or more than incidental, capital is a material 
 income-producing factor and the corporation is not a personal 
 service corporation. No corporation is a personal service cor- 
 poration if it carries on business of a kind which ordinarily 
 requires the use of capital, irrespective of whether the owners 
 or stockholders have actually invested a substantial amount of 
 capital.16 
 
 Capital: Inference from Use. The term "capital" means 
 not only capital actually invested by the owners or stockholders, 
 but also capital secured in other ways. Thus, if capital is bor- 
 rowed either directly as shown by bonds, debentures, certificates 
 of indebtedness, notes, bills payable or other paper, or indirectly 
 as shown by accounts payable or other forms of credit, or if the 
 business of the corporation is in any way financed by or through 
 aiiy of the owners or stockholders, these facts will be deemed 
 evidence that the use of capital is necessary. If a substantial 
 amount of capital is used to finance or carry the accounts of 
 clients or customers, it will be inferred that because of compe- 
 tition or other reasons such practice is necessary in order to 
 secure or hold business which otherwise would be lost, and that 
 the corporation is not a personal service corporation. If a cor- 
 poration engaged in an agency, brokerage, or commission busi- 
 ness regularly employs a substantial amount of capital to lend 
 to principals, to buy and carry goods on its own account, or to 
 buy and carry odd lots in order that it may render more satisfac- 
 tory service to its principals or customers, it is not a personal 
 service corporation. In general the larger the amount of the 
 capital actually used the stronger is the evidence that capital is 
 necessary and is a material income-producing factor and that the 
 corporation is not a personal service corporation.^^ 
 
 Article 1532 of Regulations 45, the treasury department holds that the 
 larger the amount of capital actually used, the stronger is the evidence 
 that capital is necessary. The converse of this proposition is equally true. 
 The smaller the amount of capital actually used, the stronger is the evidence 
 that capital is not necessary. 
 
 16 Reg. 45, Art. 1531. This ruling is also a misinterpretation of the 
 statute. The question to be determined in regard to any corporation claim- 
 ing personal service classification is not whether corporations doing a 
 similar business ordinarily require the use of capital, but whether the 
 particular corporation under consideration in fact requires the use of cap- 
 ital. The fact that similar corporations do ordinarily require the use of 
 capital may be evidential, but it should certainly not conclusively preclude 
 personal service classification if a corporation in fact does not employ cap- 
 ital in carrying on its business. 
 
 17 Reg. 45, Art. 1532. See foot note 13. The distinction between capital 
 invested and held in a corporation and capital actually used should not be 
 
PERSONAL SERVICE CORPORATIONS 201 
 
 Additional Principles Bearing Upon Personal Service Classifi- 
 cation: Examples. The Revenue Act of 1917 contained a pro- 
 vision to the effect that in the case of a trade or business "having 
 no invested capital or not more than a nominal capital," there 
 should be levied, assessed, collected, and paid an excess-profits 
 tax of 8 % of the net income.i^ The regulations interpreting this 
 provision stated that it applied primarily to occupations, pro- 
 fessions, trades and businesses engaged principally in rendering 
 personal service in which the employment of capital is not neces- 
 sary and the earnings of which are to be ascribed primarily to 
 the activities of the owners. These regulations also provided 
 that no weight would be given to the fact that a business was 
 carried on by means of personal services, unless the principal 
 owners were regularly engaged in the active conduct of the busi- 
 ness.18 It will be noted that this provision of the Revenue Act 
 of 1917, as construed by the treasury department, is closely 
 analogous to the personal service corporation provision of the 
 Revenue Act of 1918. Several cases have arisen in which the 
 applicability of the above provision of the Revenue Act of 1917 
 and the personal service corporation provision of the Revenue 
 Act of 1918, or both, has been discussed at some length with 
 reference to a more or less complicated state of facts. 
 
 The question whether a particular business is one having 
 not more than a "nominal capital" or is such as to render a cor- 
 poration a personal service corporation within the meaning of 
 
 forgotten. The fact that a corporation has a substantial capital or earned 
 surplus may not preclude personal service classification, if this capital or 
 earned surplus is not necessary to the prosecution of the business of the cor- 
 poration ; and the fact that it is not necessary may be indicated by the man- 
 ner in which it is invested. There is nothing in the statute preventing the ac- 
 cumulation of surplus or profits by a personal service corporation. This 
 is expressly stated by Mr. Kitchin, the chairman of the Ways and Means 
 Committee of the House of Representatives (hearings before the committee 
 on Ways and Means, House of Representatives, March 18 and 19, 1920, p. 38) , 
 and this statement is admissible evidence of legislative intent (U. S. v. St. 
 Paul M. & M. R. Co., 247 U. S. 310, and cases cited in Chapter 47). See 
 also Congressional Record, September 18, 1918, pp. 11, 329. In Porter v. 
 Lederer, 267 Fed. 739, in construing § 209 of the Revenue Act of 1917, it is 
 said : "The mere fact, however, that the profits of a business having no capital 
 are not wholly withdrawn does not make of such undrawn profits a capital 
 fund. Congress has given a clear definition of such capital or capital de- 
 rived from this source. When, in addition to profits being left undravim, 
 the fund thus accumulated is 'used or employed in the business,' it is capital 
 within the meaning of the tax law, otherwise it is not." 
 
 IS Revenue Act of 1917, § 209. 
 
 19 Reg. 41, Art. 71. 
 
202 FEDERAL INCOME TAX 
 
 the Revenue Act of 1918, involves in each case an extensive 
 examination of such business and the manner in which it is 
 conducted. It is beyond the scope of this work to describe at 
 length and in detail the businesses involved in the rulings of 
 the treasury department upon this question. There are stated 
 below, however, certain general principles enunciated by such 
 rulings for guidance in connection with the determination of 
 the question in respect of any particular business. 
 
 1. In order to be classed as a concern with nominal capital or 
 as a personal service corporation, the treasury department holds 
 that the income of a corporation must not result in substantial 
 degree from the ownership of property, such as patents.^" But 
 the courts have assumed a rather more liberal attitude toward 
 this question than the treasury department. In a recent case 
 a corporation originally incorporated with a capital stock of 
 $100,000, which in 1911 had ceased conducting any other busi- 
 ness than that of granting licenses under patents owned by it, 
 its capital having been reduced to $10,000 and its surplus in 
 1917 amounting to $2,000, this capital being used as a fund from 
 which to advance salaries and wages and to provide office furni- 
 ture and equipment, was held to be a concern with not more 
 than a nominal capital under the 1917 Law. The court held in 
 this case that patents were not capital in an economic sense or 
 in the sense of the phrase "nominal capital." 21 
 
 2. In order to be classed as a concern with nominal capital 
 or as a personal service corporation, an agency acting as selling 
 
 20 T. B. M. 9, T. B. 1-10-135; 0. D. 2, T. B. 1-19-5; A. R. R. 363, T. B. 
 3-21-1394. 
 
 21 De Laski & Thropp Co. v. Iredell, 268 Fed. 377. After referring to 
 the fact that Congress included patents in invested capital to the extent 
 only of investment, and that if there was no investment in them they re- 
 mained in the same class as that intangible something which makes for the 
 wealth of the professional man or broker, the court said : "The patents which 
 the plaintiff owned were the concrete embodiment of the skill which the 
 plaintiff possessed in its field of activity. This skill or service it bartered 
 for a consideration. Such skill or service is like the service a lawyer in 
 large practice renders for an annual retainer, and is very nearly akin to the 
 service which a commission house renders to those who buy and sell through 
 it, or the service of a concern engaged in selling or leasing real estate, and 
 in writing insurance. The plaintiff's source of income was that which 
 certain persons were willing to pay it for the use of its skill and knowledge. 
 It is true that skill and knowledge had been reduced to concrete form; but 
 the payment was for the use of the skill and knowledge, and not for any 
 part or parcel of the form to which the skill and knowledge had been 
 reduced." 
 
PERSONAL SERVICE CORPORATIONS 203 
 
 agent must not acquire title to the products handled or be re- 
 sponsible to the manufacturer for the products sold.^^ 
 
 3. In order to be classed as a concern with nominal capital 
 or as a personal service corporation, a company in the brokerage 
 commission business must not be liable to the consignor for the 
 selling price of the product sold.^s 
 
 4. In order to be classed as a concern with nominal capital 
 or as a personal service corporation, a commission house or 
 agency must not extend substantial credit to firms for which it 
 acts as agent.2* 
 
 5. Where the income of a concern is to be ascribed to a com- 
 bination of the activities of the principal owners and stockhold- 
 ers and the activities of the managers and various agencies who 
 are not stockholders, the concern will not be entitled to be classed 
 as one with a nominal capital or as a personal service corpo- 
 ra tion.^s 
 
 The following businesses have been held not to fall within the 
 definition of concerns with a nominal capital or personal service 
 corporations : 
 
 1. A freight forwarding business which advances various 
 costs of carriage.26 
 
 2. A corporation engaged in the business of retailing auto- 
 mobiles, which business is that of the ordinary commercial en- 
 terprise in which capital is a material factor in the conduct of 
 the business.2'7 
 
 3. A sanitarium owned and operated by doctors which de- 
 rives income from the buildings and grounds by housing pa- 
 tients.^s 
 
 4. A stevedoring company, financed by a foreign government, 
 the stockholders of which are practically stevedoring efficiency 
 engineers.29 
 
 A corporation conducting a commercial school, having both 
 home study and resident instruction departments, which does not 
 lodge or board any students, and to which the principal owners 
 give all their time and attention in the preparation of courses, 
 
 22 A. R. M. 42, T. B. 17-20-880; A. R. R. 23, T. B. 6-20-724; A. R. R. 364, 
 T. B. 3-21-1395. The nominal capital of a corporation may be evidence that 
 no responsibility was contemplated (A. R. R. 500, T. B. 21-21-1645). 
 
 23 A. R. R. 23, T. B. 6-20-724. 
 
 24 A. R. R. 50, T. B. 20-20-929; A. R. R. 46, T. B. 13-20-802. 
 
 25 A. R. M. 59, T. B. 26-20-1023. But see A. R. R. 463, T. B. 41-21-1858. 
 
 26 A. R. R. 7, T. B. 29-19-622. 
 
 27 T. B. R. 58, T. B. 19-19-492. 
 
 28 0. D. 2, T. B. 1-19-5. 
 
 29 A. R. R. 463, T. B. 41-21-1858. 
 
204 FEDERAL INCOME TAX 
 
 syllabus of work, inspection of higher lessons, and settling 
 points in dispute, has been held to be a concern with nominal 
 capital only and a personal service corporation under the Reve- 
 nue Act of 1918.30 
 
 Dividends. In the case of personal service corporations the 
 term "dividend" means any distribution made by a personal 
 service corporation to its shareholders or members, whether in 
 cash or in property of the corporation except a distribution out 
 of its earnings or profits accumulated since December 31, 1917, 
 and prior to January 1, 1922.^1 Any distribution is deemed to 
 have been made from earnings or profits, and from the most 
 recently accumulated earnings or profits, to the extent of such 
 earnings or profits accumulated sincje March 1, 1913; but any 
 earnings or profits accumulated, or increase in value of property 
 accrued, prior to March 1, 1913, may be distributed exempt from 
 tax, after the earnings and profits accumulated since February 
 28, 1913, have been distributed.^^ 
 
 Returns. Every personal service corporation must make a 
 return of income, regardless of the amount of its net income. 
 The return should be on Form 1065 (Revised). It should be 
 made for the taxable year of the personal service corporation; 
 that is, for its annual accounting period (fiscal year or calendar 
 year, as the case may be) , regardless of the taxable years of its 
 stockholders. 33 
 
 Contents of Return. The return of a personal service cor- 
 poration should state specifically (a) the items of its gross in- 
 come; (b) the deductions to which it is entitled; (c) the amounts 
 of dividends from taxable corporations and from personal serv- 
 ice corporations out of earnings and profits upon which- income 
 tax has been imposed, and from interest upon obligations of the 
 United States and bonds of the War Finance Corporation in- 
 cluded in gross income; (d) the amount of any income, war- 
 profits and excess-profits taxes of the personal service corpora- 
 tion paid during the taxable year to a foreign country or to any 
 
 30 A. R. R. 24, T. B. 27-27-36. 
 
 31 Cf. Revenue Act of 1921, § 201 (a) and Revenue Act of 1918, § 201 (a) . 
 The change made in the 1921 Law is, of course, occasioned by the abolition 
 of personal service corporations as of December 31, 1921. 
 
 32 Revenue Act of 1921, §201 (b) ; Revenue Act of 1918, §201 (b). See 
 Chapters 17 and 19 in which the application of distributions against and 
 their reduction of the basis provided in § 202 for determining gain or loss 
 is discussed. 
 
 33 Reg. 45, Art. 624. If the personal service corporation makes any 
 change in its accounting period, it should render its return in accordance 
 with the provisions of § 226. 
 
PERSONAL SERVICE CORPORATIONS 205 
 
 possession of the United States, and the amount of any such 
 taxes accrued but not paid during the taxable year; (e) the 
 amounts distributed by the corporation during its taxable year 
 with the dates of distribution; (f) the names and addresses of 
 the stockholders of the corporation at the close of its taxable 
 year and their respective shares in such corporation; (g) such 
 facts as tend to show whether or not the corporation is a per- 
 sonal service corporation; and (h) such other facts as are re- 
 quired by the form.^* 
 
 Distributive Shares of Stockholders. A stockholder of a per- 
 sonal service corporation is required to include in his gross in- 
 come for the taxable year (a) any dividends paid by the corpo- 
 ration in such year out of earnings or profits accumulated since 
 February 28, 1913, and before January 1, 1918; (b) his share 
 of any distribution made by the corporation in such year out of 
 earnings or profits accumulated since December 31, 1917, and 
 since the close of its taxable year ending with or during his next 
 preceding taxable year; and (c) his distributive share of the 
 undistributed net income of the corporation for its taxable year 
 ending with or during his taxable year, provided he was at the 
 close of its taxable year a stockholder in the corporation, not- 
 withstanding he might since have ceased to be a stockholder. 
 In the case of personal service corporations with taxable years 
 other than the calendar year, however, such distributive shares 
 or distributions may be subject to different rates of tax.^s In 
 view of the fact that personal service corporations are not re- 
 quired to file consolidated returns, a profit realized or loss sus- 
 
 3i Reg. 45, Art. 624. This ruling was made under the 1918 Law. Point 
 (c) will be changed under the 1921 Law to dividends from domestic corpo- 
 rations (except those taxable under § 262) and foreign corporations with 
 50% of their income from sources within the United States, as provided in 
 §216 (a). In connection with (d) it will be necessary to furnish evidence 
 as to the amount of income derived from sources without the United States 
 and any information necessary for the verification and computation of the 
 credit for taxes. (See § 222 (c).) 
 
 35 Reg. 45, Art. 330. This ruling was made under the 1918 Law. The tax- 
 ation of stockholders of personal service corporations with fiscal years 
 ending in 1918 and 1919, is discussed in Reg. 45, Arts. 329, 332, 334; O. D. 
 453, T. B. 15-20-850; O. D. 1101, T. B. 46-21-1922; 0. D. 1127, T. B. 49-21-1963. 
 The application of different tax rates in the case of fiscal years of personal 
 service corporations ending in 1918 and 1919 respectively, is discussed in 
 Reg. 45, Arts. 329, 333 and 335. Point (a) will now probably be changed 
 to any such dividends out of earnings or profits accumulated since February 
 28, 1913, except between January 1, 1918, and December 31, 1921; and 
 Point (b) will probably be changed to any such dividends out of earnings 
 or profits accumulated between January 1, 1918, and December 31, 1921. 
 
206 FEDERAL INCOME TAX 
 
 tained by a personal service corporation, attributable to its own- 
 ership of stock in another personal service corporation, should 
 be accounted for in the same manner as in the case of an indi- 
 vidual stockholder. Where the business of a personal service 
 corporation results in an operating loss, such loss will be divided 
 among the stockholders at the close of its taxable year in pro- 
 portion to their respective shares, and will constitute an allow- 
 able deduction in their returns of annual net income.^^ 
 
 Credits Allowed Stockholders. A stockholder of a personal 
 service corporation is entitled to credit for the purpose of the 
 normal tax only for amounts received in distribution of earnings 
 or profits of the corporation accumulated since February 28, 
 1913, and prior to January 1, 1918. He will, of course, also be 
 entitled to a credit for amounts received in distribution of earn- 
 ings or profits accumulated after December 31, 1921, because 
 from that date the corporation will no longer be taxed as a per- 
 sonal service corporation. In addition to the credits ordinarily 
 allowed to an individual a stockholder of a personal service cor- 
 poration is entitled to the following credits,: (a) A credit 
 against net income for the purpose of the normal tax only of 
 his proportionate share of such dividends and interest as are 
 received by the personal service corporation, and which an indi- 
 vidual is entitled to credit against net income for the purpose 
 of the normal tax and (b) a credit against income tax of the 
 stockholder's proportionate share of income, war-profits and 
 excess-profits taxes of the personal service corporation paid or 
 accrued during the taxable year to a foreign country upon in- 
 come derived from sources therein, or to any possession of the 
 United States.s^ 
 
 Procedure in Claiming Personal Service Status. A corpora- 
 tion filing returns on Form 1120 and subsequently desiring to 
 establish its status as a personal service corporation should 
 adopt the following method of procedure : 
 
 It should file amended returns on Form 1065 accompanied by 
 a claim for refund on Form 46 for the tax or installments thereof 
 paid. The individual members of the corporation should also 
 file amended returns accompanied with claims in abatement, 
 Form 47, covering the additional assessment shown by such re- 
 turns. In the event that the corporation is found to be taxable as 
 an ordinary corporation the claim for refund will be disallowed. 
 
 36 O. D. 581, T. B. 28-20-1057. 
 
 37 Reg. 45, Art. 331. See Revenue Act of 1921, § 201, 216. The credit 
 stated in (b) is of course subject to the limitations of § 222 of the statute. 
 See foot note 34. 
 
PERSONAL SERVICE CORPORATIONS 207 
 
 In case the corporation establishes a personal service status, the 
 claim for refund will be allowed for the tax paid by the corpo- 
 ration, and the claims in abatement will be disallowed and as- 
 sessment made to the extent of the additional tax shown to be 
 due on the amended individual returns. Where this procedure 
 is adopted, however, the installments of tax which become due 
 prior to determination of the status of the corporation as shown 
 by its return, as originally filed, must be paid on or before the 
 due dates. Such installments are not subject to either abate- 
 ment or credit, but can only be covered by supplemental claim 
 for refund.^s 
 
 Corporations Formed to Evade the Surtaxes. If any corpora- 
 tion, however created or organized, is formed or availed of for 
 the purpose of preventing the imposition of the surtax upon its 
 stockholders or members through the medium of permitting its 
 gains and profits to accumulate, instead of being divided or dis- 
 tributed, the stockholders of such corporation will be subject to 
 income tax of 25% or they will be subject to tax in the same 
 manner as the stockholders of a personal service corporation 
 or members of a partnership.^^ 
 
 Alternative Retroactive Tax on Personal Service Corporations. 
 It has been contended that certain expressions of the Supreme 
 Court in the stock dividend decision*" indicate the invalidity of 
 the provisions of the Revenue Act of 1918 dealing with the taxa- 
 tion of thd stockholders of personal service corporations and 
 taxing such stockholders upon their distributive, but undistrib- 
 uted, shares of the net income of such corporations. While the 
 treasury department has officially disagreed with this view,*i 
 Congress has recognized that there is "doubt" as to the "provi- 
 sions of the Revenue Act which treat personal service corpora- 
 tions substantially as partnerships," *2 and has provided that if 
 such provisions, and also the corresponding provisions (for 
 1921) of the Revenue Act of 1921 are by final adjudication de- 
 clared invalid, there shall, in addition to all other taxes, be levied, 
 collected, and paid on the net income received during the calendar 
 years 1918, 1919, 1920, and 1921, by every personal service cor- 
 
 38 O. D. 614, T. B. 31-20-1103. 
 
 39 Revenue Act of 1921, §220; Revenue Act of 1918, §220. For a full 
 discussion of this subject see Chapter 2. 
 
 40 Eisner v. Macomber, 252 U. S. 189. Some of the expressions referred 
 to are indicated in Chapter- 2. 
 
 41 0. D. 679, T. B. 41-20-1232. 
 
 42 See Report of Finance Committee on Internal Revenue Bill of 1921, 
 p. 34. The same reasoning occasioned the flat 25% tax imposed by § 220 
 of the Revenue Act of 1921. (See same report, p. 16.) Some of the ex- 
 pressions referred to are indicated in Chapter 2. 
 
208 FEDERAL INCOME TAX 
 
 poration, a tax equal to the taxes imposed by Titles II and IH 
 of the Revenue Act of 1918 and, in the case of income received 
 during the calendar year 1921, by Titles II and III of the Reve- 
 nue Act of 1921. In such event every such personal service cor- 
 poration is required, on or before the 15th day of the 6th 
 month following the date of entry of decree upon such final ad- 
 judication, to make a return of any income received during each 
 of the calendar years 1918, 1919, 1920, and 1921 in the manner 
 prescribed by the Revenue Act of 1918 (or in the manner pre- 
 scribed by the Revenue Act of 1921, in the case of income re- 
 ceived during the calendar year 1921). Such return must be 
 made and the net income computed on the basis of the taxpayer's 
 annual accounting period (fiscal year or calendar year, as the 
 case may be) in the manner provided for other corporations 
 under the Revenue Act of 1918 and the Revenue Act of 1921. 
 This alternative tax will be assessed, collected, and paid upon 
 the same basis, in the same manner, and subject to. the same 
 provisions of law, including penalties, as the ordinary taxes im- 
 posed by the Revenue Act of 1918 (or the Revenue Act of 1921 
 in the case of income received during the calendar year 1921), 
 but no interest or penalties will be due or payable thereon for 
 any period prior to the date upon which the above return is re- 
 quired to be made and the first installment paid. The tax paid 
 by any shareholder or member of a personal service corporation 
 will be credited against the alternative tax due from such corpo- 
 ration upon the joint written application of such corporation and 
 such shareholder or member or his representatives, heirs, or 
 assigns, if such application is filed with the commissioner within 
 six months from such date of entry of decree. 
 
 No credit or refund of taxes paid by any shareholder or mem- 
 ber of a personal service corporation will be allowed unless claim 
 therefor is filed within six months from the date of entry of the 
 decree declaring the provisions taxing personal service corpora- 
 tions invalid. If the claims for credit or refund, filed within 6 
 months from such date of entry of decree, represent less than 
 30% of the outstanding stock or shares in the corporation, the 
 alternative tax upon such corporation will be reduced to that 
 proportion thereof which the number of stock or shares owned 
 by the shareholders or members making such claims bears to 
 the total number of stock or shares outstanding. A personal 
 service corporation of which no shareholder or member has filed 
 such a dlaim for credit or refund within such period of six 
 months, will not be subject to the alternative tax discussed in 
 this paragraph.*^ 
 
 43 Revenue Act of 1921, § 1332. 
 
CHAPTER 10 
 
 CORPORATIONS 
 
 Corporations are taxed as separate entities apart from their 
 stockholders. They were subject, under the Revenue Act of 1918, 
 to a tax of 10% upon their net income for the years 1919 and 
 1920.^ Under the Revenue Act of 1921, in lieu of the tax imposed 
 by the 1918 law, they are subject to a tax of 10% for the- year 
 1921, and 121/2% for the year 1922 and subsequent years, upon 
 their net income.^ The rate is increased for .1922 and subsequent 
 years because of the repeal of the excess-profits tax, as of Decem- 
 ber 31, 1921. Aside from this increase of rate the most important 
 changes made in the present law applying particularly to corpora- 
 tions are (a) the provision that for any taxable year beginning 
 after January 1, 1922, the filing of consolidated returns by affil- 
 iated corporations shall be optional with the taxpaying corpora- 
 tion, (b) the provision for the taxation of certain domestic corpo- 
 rations only upon income from "sources within the United States," 
 and (c) the provision for the taxation as corporations of individ- 
 ual or partnership businesses incorporated within four months of 
 the passage of the act.^ Corporation^ are not subject to the sur- 
 taxes.* They are entitled to deduct from their gross income, 
 which (except in the case of insurance companies) is computed 
 in the same manner as the gross income of individuals,^ the de- 
 ductions and credits specified in the law,® which differ to some 
 extent from the deductions and credits allowed to individuals. 
 Corporations, like individuals, make returns for the calendar or 
 their fiscal year, according to the annual accounting period em- 
 ployed in keeping their books.''' The mere existence of a corpora- 
 tion during any part of the year is ordinarily sufficient to require 
 
 1 Revenue Act of 1918, §230. This rate was 12% for the calendar year 
 1918. This tax was in lieu of the taxes imposed by the 1916 Law, as amended 
 by the 1917 law. (Revenue Act of 1916, §10.) The total tax to which corpo- 
 rations were subject under the 1916 and the 1917 Laws was 6%. (Revenue 
 Act of 1917, § 4.) 
 
 2 Revenue Act of 1921, § 230. 
 
 3 Revenue Act of 1921, §§ 240, 262, 229. The filing of consolidated returns 
 was obligatory under the 1918 Law. 
 
 * See Reg. 33, Art. 185. The excess-profits tax is in effect a corporate 
 surtax. 
 
 5 Revenue Act of 1921, § 233; Revenue Act of 1918, §233. 
 
 6 Revenue Act of 1921, §§234, 236; Revenue Act of 1918, §§234, 236. 
 
 7 Revenue Act of 1921, §§200, 232; Revenue Act of 1918, §§200, 232. 
 
 209 
 
210 
 
 FEDERAL INCOME TAX 
 
 it to make a return.s Prior to the 1918 law, the mere receipt of 
 net income from any source made it liable for the tax, but it may 
 now be in receipt of net income without being liable for the in- 
 come tax if the credits to which it is entitled equal or exceed. such 
 net income.^ Thus, a corporation may be in receipt of net income 
 not in excess of $2,000 and be entitled to a credit of $2,000 
 against such net income for the purpose of the income tax, as a 
 result of which it will be in receipt of net income without being 
 liable for the income tax. Since the tax is an income tax and not 
 an excise tax,io doing business is not a necessary element of tax- 
 ability." The special provisions of the law applicable only to 
 insurance companies are discussed in another chapter.^ 
 
 Definition. The tax is imposed on every corporation, domestic 
 or foreign. The word "corporation" is used in this chapter as 
 defined in both the 1918 and the present law,i^ and includes asso- 
 ciations, joint-stock companies, and insurance companies. The 
 rulings under the 1918 law in definition of corporations will, 
 therefore, be applicable under the present law. 
 
 Joint-Stock Companies and Associations." There seems 
 to be no constitutional or legal objection to including joint-stock 
 
 8 See page 245. 
 
 9 Revenue Act of 1921, §§234, 236; Revenue Act of 1918, §§234, 236. 
 
 10 The tax assessed on corporations for the months of January and Feb- 
 ruary, 1913, under the 1913 Law, was an excise tax and not an income tax 
 and, therefore, applied only to corporations "doing business," but the exemp- 
 tions and deductions to which a corporation was entitled were those allowed 
 by the 1913 Law, which law did not permit the deduction of dividends. (But- 
 terick Company v. U. S., 240 Fed. 539.) 
 
 u The nlimerous cases under the 1909 Law holding certain corporations 
 not to be taxable on the ground that they were not "doing business" have 
 no application to the incoTne tax laws. 
 
 12 See Chapter 11. 
 
 13 Revenue Act of 1918, § 1 ; Revenue Act of 1921, § 2. As used in the 
 regulations issued under the 1916 law, the term "corporation" was construed 
 to include all corporations, joint-stock companies and associations, and all 
 insurance companies coming* vsdthin the terms of the law as well as all 
 business trusts organized or created for the purpose of engaging in com- 
 mercial or industrial enterprises, the capital of which was evidenced by 
 certificates or shares of interest issued or issuable to members on the basis 
 of which profits were distributed or distributable. (Reg. 33 Rev., Art. 57.) 
 
 14 The 1909 Law taxed "Every corporation, joint-stock company or as- 
 sociation, organized for profit and having a capital stock represented by 
 shares, and every insurance company, now or hereafter organized under 
 the laws of the United States or of any state or territory of the United 
 States or under the acts of Congress applicable to Alaska or the District 
 of Columbia, or now or hereafter organized under the laws of any foreign 
 country and engaged in business in any state or territory of the United 
 States or in Alaska or in the District of Columbia." (Act of August 5, 
 
CORPORATIONS 211 
 
 companies in the same category with corporations.^^ A joint- 
 stock company organized pursuant to the New York Joint-Stock 
 Association Law was held, under the 1909 law, to be practically a 
 "corporation," despite the absence of the important corporate 
 attribute of limited liability, and was held taxable as such.^^ By 
 regulation issued under the 1918 law, it is provided that the terms 
 "joint-stock companies" and "associations" include associations, 
 common-law trusts, or organizations by whatever name known 
 which act or do business in an organized capacity, whether 
 created under and pursuant to state laws, agreements, declara- 
 tions of trust, or otherwise, the net income of which, if any, is 
 distributed or distributable among the members or shareholders 
 on the basis of the capital stock which each holds, or where there 
 is no capital stock, on the basis of the proportionate share or 
 capital which each has, or has invested, in the business or prop- 
 
 1909, § 38.) The 1913 Law taxed "Every corporation, joint-stock com- 
 pany or association, and every insurance company, organized in the United 
 States, no matter hovsr created or organized, not including partnerships." 
 (Act of October 3, 1913, § G (a).) The 1916 Law taxed "Every corporation, 
 joint-stock company or association, or insurance company organized in the 
 United States, no matter how created or organized but not including part- 
 nerships." (Revenue Act of 1916, § 10 (a).) The present law and the 1918 
 Law tax every corporation and define the term "corporation" to include 
 "associations, joint-stock companies, and insurance companies." (Revenue 
 Act of 1921, § 2; Revenue Act of 1918, § 1, 230.) It will be noted that the 
 phrase "no matter how created or organized" used in both the 1913 and 
 1916 Laws is omitted from the definition of corporation contained in the 
 1918 and the present law. On the other hand, the phrase "joint-stock com- 
 pany or association" (between commas) has been changed to "associations, 
 joint-stock companies." The purpose of this transposition is to separate 
 the word "associations" from any limitation imposed by conjunction with 
 the word "joint-stock" and to use it to cover organizations which can not 
 be included within the terms "corporations," "joint-stock companies," or 
 "insurance companies." The phrase "no matter how created or organized" 
 seems to have been aimed to include organizations not "organized under the 
 laws of the United States or of any state * * *" which were held not 
 liable to tax under the 1909 Law, in view of the language of that act. They 
 apply not only to insurance companies, but relate back to the words "every 
 corporation, joint-stock company or association," so that what is meant 
 is that all such concerns (not including partnerships) are included and 
 are taxable. See Crocker v. Malley, 249 U. S. 223; Eliot v. Freeman, 
 220 U. S. 178; T. D. 2418; Chicago T. and T. Co. v. Smietanka, 275 Fed. 
 60; T. D. 3193, T. B. 20-21-1741; A. R. R. 652, T. B. 45-21-1902; Reg. 38 
 Rev., Art. 2, General Instructions 3. 
 
 15 See Spreckels Sugar Refining Qo. v. McClain, 192 U. S. 397; Flint v. 
 Stone Tracy Co., 220 U. S. 107. 
 
 16 Roberts v. Anderson, 226 Fed. 7. 
 
212 FEDERAL INCOME TAX 
 
 erty of the organization." An organization the membership in- 
 terests in which are transferable without the consent of all the 
 members, however the transfer may be otherwise restricted, and 
 the business of which is conducted by trustees or directors and 
 officers without the active participation of all the members as 
 such, is an association and not a partnership.!'* 
 
 It has been held under the 1913 law that an organization, in 
 form a trust, created by an agreement of the stockholders of 
 several street railway corporations desiring to effect a unitary 
 control of the properties of such corporations is an association, 
 where the agreement uses language that reads much like the 
 state corporation law, and superimposes that organization upon 
 Lhe several corporations by placing the legal title to the capital 
 stock of those corporations in the trustees named, who are to do 
 certain specified things only, and by providing for a committee 
 which controls even the power of the trustees to vote the capital 
 stock of the corporations, and which is elected and controlled by 
 what are called participating shareholders, who hold certificates 
 of common and preferred participating shares issued by the 
 trustees in lieu of the capital stocks of the corporations. ^^ A min- 
 ing partnership, within the meaning of the laws of Colorado, has 
 no delectus personarum and is not dissolved by the withdrawal, 
 death, or bankruptcy of a member; a member's interest therein 
 may be sold; a majority in interest may bind the partnership. 
 As has been said of an Idaho mining partnership, it is "in all 
 essential elements * * * precisely like a corporation''.^" Such a 
 partnership is, therefore, taxable as an association, even though 
 formed independently of any statute.21 Where after the expira- 
 tion of the charter of a corporation, by limitation, its business is 
 continued in the corporate form, the organization so conducting 
 the business is an "association".- 
 
 POOLING OF Corporate Stock. Where the holders of the 
 entire common stock of a corporation agree to pool their stock 
 interests and share in a certain portion of the profits accruing 
 to the corporation according to a fixed arbitrary percentage 
 rather than in proportion to their respective stock holdings, 
 
 17 Reg. 45, Art 1502; Reg. 33 Rev., Art. 58; Reg. 33, Art, 79. See Chi- 
 cago T. & T. Co. V. Smietanka, 275 Fed. 60; T. D. 3193, T. B. 20-21-1741. 
 
 18 Reg. 45, Art. 1503. 
 
 19 Chicago T. & T. Co. v. Smietanka, 275 Fed. 60; T. D. 3193, T. B. 
 30-21-1741. 
 
 20 Hawkins v. Spokane Hydraulic Co., 3 Idaho 650, 33 Pae. 40. 
 
 21 A. R. R. 652, T. B. 45-21-1902. 
 
 22 Sol. Op. 93, T. B. 14-21-1552. ' 
 
CORPORATIONS 213 
 
 the corporation is still taxable as such and is' not to be treated 
 as a partnership for purposes of the income tax.^s 
 
 "Syndicates." Where a block of securities is purchased in 
 joint account by several corporations, partnerships or individuals 
 for the purpose of disposing of them to the public through the 
 syndicate managers, the only obligation of the members of the 
 syndicate being to take and pay for the portion of the securities 
 not disposed of, such temporary combinations of business inter- 
 ests are neither corporations, joint-stock companies or associa- 
 tions, nor partnerships, and the profits of the syndicate are not 
 taxable in the hands of the syndicate. The several members pay 
 the tax on their respective shares of the profit of the transac- 
 tion.2* Where the property of a dissolved corporation is trans- 
 ferred to trustees for the benefit of a newly formed syndicate 
 consisting of the trustees and two other persons, and all the 
 stockholders of the dissolved corporation receive transferable 
 certificates of interest in the syndicate in the same proportion 
 that they had held stock in the corporation, the purpose of the 
 agreement being to preserve the ownership of the real estate 
 of the corporation until it can be sold on reasonable terms, it has 
 been held that the organization effected constitutes an "associa- 
 tion", and not a "partnership", "trust" or "joint venture". In 
 this case a majority in interest controlled the management and 
 sale of the property. Distribution to the shareholders of the 
 profits and assets upon dissolution was provided for. At the 
 end of 10 years, an undivided interest in all property of the 
 syndicate was to be conveyed to the members as their interests 
 appear at that time. The death of any one or more of the 
 members could not work a dissolution of the syndicate.^s 
 
 Trusts Not Taxable as Associations. In a case arising 
 under the 1913 law a Maine corporation with eight shareholders 
 had its mills in Massachusetts and owned outlying land. The 
 Maine corporation conveyed to a Massachusetts corporation 
 formed in 1912 seven mills and let to it an eighth that was in the 
 process of construction, together with the outlying lands and 
 tenements, on a long lease, receiving the stock of the Massa- 
 chusetts corporation in return. The Maine corporation then 
 transferred to the plaintiffs as trustees the fee of the property 
 subject to the lease, left the Massachusetts stock in their hands, 
 and was dissolved. By the declaration of trust the plaintiffs 
 
 23 S. 1001, T. B. 4-19-227. 
 
 -■i Letter from treasury department dated February 25, 1914. 
 
 -'5 0. D. 896, T. B. 18-21-1603. 
 
214 FEDERAL INCOME TAX 
 
 declared that they held the real estate and all other property at 
 any time received by them thereunder, subject to the provisions 
 thereof, "for the benefit of the cestui que timsts (who shall be 
 trust beneficiaries only, without partnership, associate, or other 
 relations whatever inter sese)" upon trust to convert the same 
 into money and distribute the net proceeds to the persons then 
 holding the trustees' receipt certificates — the time of distribu- 
 tion being left to the discretion of the trustees, but not to be 
 postponed beyond the end of twenty years after the death of the 
 specified persons then living. In the meantime the trustees were 
 to have the powers of owners, were to distribute what they de- 
 termined to be fairly distributable net income according to the 
 interests of the cestuis que trust, but could apply any funds in 
 their hands for the repair or development of the property held 
 by them, or the acquisition of other property, pending conversion 
 and distribution. A consent of a majority in interest of the 
 cestuis que trust was required for the filling of a vacancy among 
 the trustees, for a modification of the terms of the trust, or for 
 any increase over the stipulated fee of the trustees. In no other 
 matter had the beneficiaries any control. The court held that (1) 
 the declaration of trust was an ordinary real estate trust of the 
 kind familiar in Massachusetts in spite of the fact that the 
 trustees' receipt provided that the holder had no interest in any 
 specific property and that it purported only to declare the holder 
 entitled to a certain fraction of the net proceeds of the property 
 when converted into cash "and meantime to income," and in 
 spite of the fact that the trustees held (although not pursuant 
 to the declaration of trust) stock of the Massachusetts corpo- 
 ration and collected dividends upon it; (2) the function of the 
 trustees was not to manage the mills but simply to collect the 
 rents and income from such property as might be in their hands, 
 with a large discretion in the application of it, but with a recogni- 
 tion that the receipt holders were entitled to it, subject to the 
 exercise of the powers confided to the trustees; (3) that the 
 trust would not fall under any familiar conception of a joint-stock 
 association, "whether formed under a statute or not"; (4) the 
 trustees by themselves could not be a joint-stock association, and 
 there was no ground for grouping the trustees and beneficiaries 
 together ; (5) the result was not affected by any technical analy- 
 sis of the individual receipt holder's rights in the income received 
 by the trustees ; and (6) the statute failed to show a clear intent 
 to subject the trust to tax as an association or the trustees or 
 
CORPORATIONS 215 
 
 receipt holders to extra tax upon the dividends of the Massa- 
 chusetts corporation.20 
 
 The treasury department, in deciding whether a given organi- 
 zation constitutes a "trust" or an "association," now treats the 
 question whether the cestui que trust or beneficiaries have a 
 voice in the conduct of the business as the decisive test.^''^ If 
 this control is "substantial," an association is held to exist ; other- 
 wise a mere trust. In the former event the so-called trust thus 
 held to be an "association" is treated as a distinct entity equiva- 
 lent to a corporation. Ordinary distributions of income by the 
 trustees are regarded as dividends and as liable only to the sur- 
 taxes, the association itself being liable to the corporate income 
 and excess-profits taxes.^s If the organization in question is held 
 to be a "trust" as distinguished from an "association", its in- 
 come is treated in the manner more fully described in another 
 
 26 Crocker v. Malley, 249 U. S. 223, reversing 250 Fed. 817. The court 
 said in part: "We do not see either that the result is affected by any 
 technical analysis of the individual receipt holder's rights in the income 
 received by the trustees. The description most in accord Vfith what has 
 been the practice would be that, as the receipts declare, the holders, until 
 distribution of the capital, were entitled to the income of the fund subject to 
 an unexercised power in the trustees in their reasonable discretition to divert 
 it to the improvement of the capital. But even if it were said that the receipt 
 holders were not entitled to the income as such until they got it, we do not 
 discern how that would turn them into a joint-stock company. Moreover 
 the receipt holders did get it and the question is what portion it was the 
 duty of the trustees to withhold. We presume that the taxation of corpor- 
 ations and joint-stock companies upon dividends of corporations that them- 
 selves pay the income tax was for the purpose of discouraging combina- 
 tions of the kind now in disfavor, by which a corporation holds controlling 
 interests in other corporations which in their turn may control others, and so 
 on, and in this way concentrates a power that is disapproved. There is 
 nothing of that sort here. Upon the whole case we are of opinion that the 
 statute fails to show a clear intent to subject the dividends on the Massa- 
 chusetts corporation's stock to the extra tax imposed by G. (a)." (See 
 also Reg. 45, Art. 1504.) 
 
 27 Crocker v. Malley, 249 U. S. 223; Reg. 45, Art. 1504; S. 1337, T. B. 
 9-20-762; S. 1068, T. B. 10-19-351; S. 1205, T. B. 27-19-600; O. D. 598, T. B. 
 30-20-1083; O. D. 407, T. B. 9-20-763; O. D. 236, T. B. 13-19-414; Sol. Op. 
 56, T. B. 36-20-1177; O. D. 654, T. B. 36-20-1178; 0. D. 896, T. B. 18-21- 
 1603; 0. D. 868, T. B. 15-21-1557; 0. D. 931, T. B. 22-21-1658; 0. D. 886, 
 T. B. 17-21-1587. 
 
 28 As an association the organization would be subject also to the capital 
 stock tax imposed by Title X of the present law and the 1918 Law. This 
 subject is treated more fully in Chapter 44. Dealings in the shares or 
 certificates of a so-called trust are subject to the stamp taxes imposed by 
 Title XI, Schedule A, of the present law and the 1918 Law. This subject is 
 also treated more fully in Chapter 45. 
 
216 FEDERAL INCOME TAX 
 
 chapter.2» The question whether a particular organization is to 
 be classed as a "trust" or "association" involves in each case a 
 minute examination of the terms of the instrument creating the 
 so-called trust and the rights of the parties to such instrument. 
 It is deemed inadvisable to repeat at length and in detail the 
 provisions of the instruments involved in numerous rulings 
 which have been made by the treasury department upon this 
 point, but there are stated below general principles enunciated 
 by such rulings for guidance in connection with the determina- 
 tion of the question in respect of any particular instrument: 
 
 1. It is the extent of the control vested in beneficiaries under 
 a trust agreement rather than the extent to which such control is 
 exercised that is determinative of the question whether the trust 
 is, in fact, an "association".-^" 
 
 2. If the beneficiaries or shareholders have the right under 
 the trust agreement to elect trustees annually, the trust con- 
 stitutes an "association"; on the other hand, if the trustees 
 appointed by the instrument are to hold office during the entire 
 period of the trust, the right of the beneficiaries or shareholders 
 being limited to filling vacancies, such beneficiaries or share- 
 holders not retaining any substantial control over the affairs of 
 the trust, the trust instrument creates a "trust" and not an asso- 
 ciation.^i 
 
 3. The power to increase capital stock, advise trustees as 
 
 to the management of the business, and amend or terminate the 
 
 trust may likewise cause an organization to be treated as an 
 association.32 
 
 4. The reservation to the beneficiaries or shareholders of the 
 right to direct and approve the terms of sale of the trust property 
 will constitute the trust an "association".^^ 
 
 5. A provision authorizing the trustee or trustees to call 
 upon the beneficiaries or shareholders to pay certain items, such 
 as costs, fees and expenses, in the event that the income of the 
 trust is insufficient, will constitute the trust an "association"."-^ 
 
 29 See Chapter 6. 
 
 30 0. D. 407, T. B. 9-20-763. 
 
 31 S. 1068, T. B. 10-19-351; 0. D. 620, T. B. 82-20-1112; S. 1337, T. B. 
 9-20-762; O. D. 868, T. B. 15-21-1557; 0. D. 931, T. B. 22-21-1658; 0. D. 
 790, T. B. 6-21-1425. 
 
 32 0. D. 868, T. B. 15-21-1557. It may be doubted whether the power 
 merely to "advise'' should be given such an effect unless acceptance of 
 advice given be imperative upon the trustees. 
 
 33 O. D. 598, T. B. 30-20-1083; Sol. Op. 49, T. B. 39-20-1208. 
 
 34 0. D. 598, T. B. 30-20-1083; S. 1205, T. B. 27-19-600. 
 
CORPORATIONS 217 
 
 6. Where an agreement between a reorganization committee 
 and the bondholders of a company gives power (a) to the bond- 
 holders to terminate the trust (this alone is not sufficient) ; (b) 
 to terminate the authority of the committee to continue business 
 operations, and (c) to fill vacancies in the committee if dis- 
 satisfied with the committee's choice, the agreement has been 
 held to create an "association".-'^^ 
 
 7. If the trustee is given absolute control over the affairs 
 of the trust, in other words, if the trustee is given all the rights 
 and powers which would be his if he were conducting a business 
 of which he was the sole owner, the instrument creates a mere 
 "trust" and not an "association." ^6 
 
 8. Where a majority in amount of the shares of beneficial 
 interest in the trust are owned by the trustees as beneficiaries 
 so that to the extent of such ownership the trustees and bene- 
 ficiaries or shareholders are identical, the beneficiaries are held 
 in fact to control the trustees, even though no control is vested 
 in such beneficiaries under the tetrms of the trust instrument.^^ 
 
 9. A given organization may be a "trust" for part of the 
 year and an association for part of the year. This may happen 
 where the trustees become the holders of a majority interest or 
 divest themselves of such majority interest; or it may happen 
 when the instrument is amended. In such cases separate re- 
 turns should be made for the two parts of the year, according 
 to the character of the organization.^s 
 
 Limited Partnerships and Private Banks. This subject is 
 discussed in another chapter.^^ A private bank owned by an in- 
 . dividual is not an "association." 
 
 De Facto Corporations. Where articles of incorporation 
 are filed under the laws of Kentucky and business is transacted 
 in the corporate name, a return of income received from such 
 business should be rendered for the corporation although its 
 organization as a corporation has not been perfected in the man- 
 ner required by law. But the rule would be different if no 
 articles of incorporation were filed and the corporation had no 
 de facto existence.*" 
 
 35 Sol. Op. 49, T. B. 39-20-1208. 
 
 36 O. D. 620, T. B. 32-20-1112. 
 
 37 Sol. Op. 56, T. B. 36-20-1177; O. D. 654, T. B. 36-20-1178; 0. D. 886, 
 T. B. 17-21-1587. 
 
 38 O. D. 886, T. B. 17-21-1587. 
 
 39 See Chapter 8. 
 
 ^OS. 972, T. B. 2-19-168; O. D. 1016, T. B. 35-21-1796; 0. D. 1078, T. B. 
 43-21-1887. 
 
218 FEDERAL INCOME TAX 
 
 If the charter board of a state declared the charter of a cor- 
 poration forfeited but the corporation had no notice of such 
 action and continued to do business for a number of years as a 
 corporation and made returns to the federal government ac- 
 cordingly, the corporation can not now set up the action of the 
 charter board to negative its corporate existence. Until the 
 company surrenders its charter to and the same is annulled by 
 the state, or the charter is annulled in some other manner and 
 the company ceases to operate as a corporation, it must be held 
 to be a corporation for income and profits tax purposes.*^ 
 
 Where a single stockholder acquires all of the stock in a cor- 
 poration organized and existing under the laws of Ohio, and 
 thereafter carries on the business in the corporate name and 
 with corporate property, the corporation is not thereby dissolved, 
 even though under the statutes of Ohio a corporation cannot be 
 organized with less than five stockholders and directors, and the 
 corporation should be required to file returns as a de facto corpo- 
 ration.*^ 
 
 Incorporation of Individual or Partnership Business. The 
 Revenue Act of 1921 contains a new provision that in the case 
 of the organization as a corporation within four months after 
 its passage of any trade or business in which capital is a material 
 income-producing factor, and which was previously owned by a 
 partnership or individual, the net income of such trade or bus- 
 iness from January 1, 1921, to the date of such organization may 
 at the option of the individual or partnership be taxed as the net 
 income of a corporation is taxed under Titles II and III ; in which 
 event the net income and invested capital of such trade or busi- ■ 
 ness shall be computed as if such corporation had been in exist- 
 ence on and after January 1, 1921, and the undistributed profits 
 or earnings of such trade or business shall not be subject to the 
 surtaxes, but amounts distributed on and after January 1, 1921, 
 from the earnings or. profits of such trade or business accumu- 
 lated after December 31, 1920, shall be taxed to the recipients as 
 dividends ; and all the provisions of Titles II and^ III relating to 
 
 41 O. D. 365, T. B. 2-20-677. 
 
 42 Sol. Op. 91, T. B. 12-21-1524; Society v. City of Cleveland, 43 O. S. 
 481, 3 N. E. 357 (as to when a corporation is dissolved, and as to whether 
 it can exercise corporation functions when it was not legally constituted) ; 
 Parker v. Bethel Co., 96 Tenn. 252; 34 S. W. 209, 31 L. R. A. 706; Main v. 
 Mills, Fed. Cas. No. 8974; Ulmer v. Luna Rock Co. (Me.), 66 L. R. A. 387, 
 98 Me. 579; 57 Atl. 1001. This is another application of the frequently 
 cited principle that a corporation is an entity irrespective of the persons 
 who own its stock (see page 219) a view consistently adhered to by the 
 treasury department. 
 
CORPORATIONS 219 
 
 corporations shall so far as practicable apply to such trade or 
 business. This provision does not apply to any trade or business, 
 the net income of which for the taxable year 1921 was less than 
 20% of its invested capital for such year. Any taxpayer who 
 takes advantage of this provision must pay the capital stock tax 
 imposed by the Revenue Act of 1918 as if such taxpayer had 
 been a corporation on and after January 1, 1921.*^ 
 
 Doctrine of Corporate Entity. Nothing is more conclusively es- 
 tablished than the proposition that a corporation will be looked 
 upon as a legal entity entirely distinct from those who own and 
 control it. This general rule is one of the fundamental theories 
 of corporation law and has been firmly embedded in the common 
 law of this country ever since the celebrated opinion of Chief 
 Justice Marshall in the Dartmouth College case.** It has been 
 consistently recognized by both state and federal courts.*^ The 
 same position has been uniformly taken by the bureau of inter- 
 nal revenue except in so far as statutory provisions compel other- 
 wise.*^ The doctrine has been restated in emphatic terms by the 
 Supreme Court in a widely discussed case*''' as follows: "We have 
 no doubt of the power or duty of a court to look through the form 
 of the corporation and determine the question of the stock- 
 holder's right, in order to ascertain whether he has received 
 income taxable by Congress without apportionment. But, look- 
 ing through the form, we cannot disregard the essential truth 
 disclosed; ignore the substantial difference between corporation 
 and stockholder; treat the entire organization as unreal; look 
 upon stockholders as partners, when they are not such; treat 
 them as having in equity a right to a partition of the corporate 
 assets, when they have none; and indulge the fiction that they 
 have received and realized a share of the profits of the com- 
 pany which in truth they have neither received nor realized. We 
 must treat the corporation as a substantial entity separate from 
 
 43 Revenue Act of 1921, §229. Compare this section with §330 of the 
 revenue act of 1918, and see the discussion of that section in Chapter 43. 
 a Dartmouth College v. Woodvsrard, '4 Wheat. 518, 636. 
 
 45 Peterson v. Chicago, Roclc Island & Pac. Ry., 205 U. S. 364; Conley v. 
 Mathieson Alkali Works, 190 U. S. 406, 409; Pullman Co. v. Missouri 
 Pacific Co., 115 U. S. 587, 597; Oregon Ry. Co. v. pregonian Ry. Co., 130 
 U. S. 1; IJ. S. V. Nipissing Mines Co., 206 Fed. 431, appeal dismissed in 
 234 U. S. 765; Peo. v. Amer. Bell Tel. Co., 117 N. Y. 241, 22 N. E. 1057. 
 
 46 See L. O. 1062, T. B. 14-21-1548. For instance, the provisions for 
 consolidated returns by affiliated corporations (Revenue Act of 1918, § 240) 
 constitute a statutory exception to the common law doctrine of corporate 
 entity. 
 
 47 Eisner v. Macomber, 252 U. S. 189. 
 
220 FEDERAL INCOME TAX 
 
 the stockholder, not only because such is the practical fact, but 
 because it is that any dividend— even one paid in money or 
 property— can be regarded as income of the stockholder". The 
 same reasoning has been emphasized very recently in two of the 
 latest cases decided by the Supreme- Court.^s In spite of these 
 decisions the "povi^er or duty of a court to look through the form 
 of a corporation", clearly recognized by the Supreme Court, raises 
 some of the most serious questions presented by the income tax. 
 Many questions arising under the law turn on the recognition of 
 the separate entity of a corporation, and the extent to which the 
 courts will respect the "substantial difference between corpora- 
 tion and stockholder". In some instances the distinction between 
 corporation and stockholder has been ignored in favor of the 
 "substance" and "practical purposes".™ While it may be true 
 that cases in which this distinction has been ignored turn on their 
 "very peculiar facts", as stated by the court, substantially the 
 same peculiar facts, indeed, facts involving the same controlling 
 principle, would determine the decision in another case. It will 
 not do to dismiss the cases with a statement that they "involve 
 no departure from the doctrine that a corporation and its stock- 
 holders are to be regarded as separate and distinct for all pur- 
 poses including taxation".^! 
 
 They do not overrule the doctrine, but they define situations 
 in which the doctrine will not be applied. They establish the 
 point that the doctrine is not of universal application ; they are 
 exceptions to it. The doctrine is too well established for any 
 general disaffirmance; the important consideration is its 
 
 f^U. S. V. Phellis, 42 Sup. Ct. Rep. 63; Rockefeller v. U. S.; New York 
 Trust Co. V. Edwards, 42 Sup. Ct. Rep. 68. 
 
 *^ For instance, the deductibility of a loss has depended upon the answer 
 to this question (L. 0. 1062, T. B. 14-21-1548). Many questions of. gain 
 or loss in connection with the organization and reorganization of corpora- 
 tions turn upon the same point (See Chapter 17). Indeed, in these cases 
 the very definition of the term "income," as used in the Sixteenth Amend- 
 ment, is involved, as it was also in the stock dividend case (Eisner v. 
 Macomber, 252 U. S. 189). The residence of corporations and the distinc- 
 tion between domestic and foreign corporations often depends upon the 
 same doctrine (see paragraphs supra and Chapter 12). The point arises 
 in connection with the requirement that all corporations must file returns, 
 whether or not they receive income (See paragraph on Returns, Post). It 
 is unnecessary to enumerate the many viewpoints from which the point 
 is important; it arises in several connections throughout this volume. 
 
 50 Southern Pacific Co. v. Lowe, 247 U. S. 330; Gulf Oil Corp. v. Lewellyn, 
 248 U. S. 71; distinguished in Walker v. Gulf & Interstate Co., 269 Fed. 885, 
 See Anderson v. Morris & Essex Railroad Co., 216 Fed. 83. 
 
 51 See L. 0. 1062, T. B. 14-21-1548. 
 
CORPORATIONS 221 
 
 scope and applicability. If it is not to be applied in all cases, and 
 this must be admitted, when will it be applied and when will it 
 be disregarded? This question is of the utmost Importance in 
 connection with the income tax, and for this reason the facts of 
 the cases in which separate corporations were regarded as 
 "merged" are given somewhat at length. 
 
 Where a subsidiary company kept no bank account, but its 
 earnings were deposited in the bank account of the parent com- 
 pany, which advanced the necessary funds whenever needed by 
 the subsidiary for any operating expenses, or for additions or 
 betterments, it was held that dividends, received by the con- 
 trolling company and declared and paid during the first six 
 months of 1914 out of surplus of the subsidiary company accumu- 
 lated prior to January 1, 1913, and on such date consisting princi- 
 pally of a debit on the books of the subsidiary company, kept in 
 accordance with the lease under which the controlling company 
 operated the subsidiary company, were not taxable as income 
 received in 1914 by the controlling company. It was also held 
 that the time of the declaration or payment of the dividends was 
 immaterial; that the declaration and payment thereof was a 
 paper transaction to bring the books into accord with the ac- 
 knowledged rights of the controlling company; that such divi- 
 dends bore the appearance of accruing and in form only accrued 
 to the controlling company after January 1, 1913 ; that, prior to 
 such date, while the two companies were separate legal entities, 
 yet in fact and for all practical purposes they were merged and 
 identical, the subsidiary company being but a part of the control- 
 ling company, acting merely as its agent and subject in all things 
 to its direction and control, the funds in question being in the 
 actual possession and control of the holding company as well be- 
 fore as after the declaration.^^ 
 
 Where a holding company, owning all the stock in several 
 subsidiary companies, except the qualifying shares held by direc- 
 tors, which holding company and subsidiary companies constituted 
 and were related as parts of a single enterprise of buying, trans- 
 porting, refining and selling oil and which subsidiary companies 
 had retained their earnings although making some loans inter 
 sese and had invested in properties all their funds which were 
 not actually required to carry on the business so that the debtor 
 companies had no money to pay their debts, decided in January, 
 1913, to take over the previously accumulated earnings and sur- 
 
 52 Southern Pacific Co. v. Lowe, 247 U. S. 330, distinguished in Walker 
 V. Gulf & Interstate Co., 269 Fed. 885. 
 
222 
 
 FEDERAL INCOME TAX 
 
 plus of such subsidiaries and actually did so in 1913 by votes of 
 the subsidiaries, the court disregarded the forms gone through 
 and the distinct corporate entities, and considered only the result, 
 which was that the holding company became the holder of the 
 debts previously due from one subsidiary to another, was no 
 richer than before, but its property, formerly represented only 
 by stock in the subsidiaries, was thereafter represented by stock 
 in and debts 'due from such subsidiaries. The changes having 
 been effected by entries on the respective companies' books, the 
 transaction was held to be a bookkeeping transaction and not a 
 declaration and payment of dividends in the ordinary course by 
 the subsidiaries. Although- the holding company did not itself 
 do the business of the subsidiaries amd have possession of their 
 property, the court nevertheless followed the principle of the 
 case last discussed.^^ 
 
 The above cases, arising under previous income tax laws, 
 establish the principle that corporate form may be disregarded 
 under unusual circumstances. The courts have stated that this 
 will be done (1) when necessary to circumvent fraud and (2) 
 when a corporation is so organized and controlled as to make it 
 merely an instrumentality or adjunct of another corporation for 
 a sinister or wrongful purpose or to work injustice.^* This defini- 
 tion of the exceptions to the rule of separate corporate entity, 
 taken in connection with another statement quoted below, prob- 
 ably furnishes the best guide possible in determining the aipplica- 
 bility of the general doctrine that a corporation is separate and 
 distinct from those who own and control it. The statement re- 
 ferred to is as follows : ^5 
 
 53 Gulf Oil Corporation v. Lewellyn, 248 U. S. 71, distinguished in Wal- 
 ker V. Gulf & Interstate Co., 269 Fed. 885. 
 
 54 Pittsburg & Buffalo Co. v. Duncan, 232 Fed. 584; in re Watertown 
 Paper Co., 169 Fed. 252. 
 
 55 See U. S. V. Milwaukee Co., 142 Fed. 247. While most of the excep- 
 tions to the general rule of separate corporate existence involve the element 
 of fraud, it can not be generally asserted that the existence of fraud is 
 necessary to constitute an exception. The cases turn on their peculiar facts 
 and it is difficult to formulate any general classification of the exceptions. 
 
 A iew of the many cases are indicated below on both sides of the question, 
 viz., cases wherein corporate entity has been respected and cases wherein it 
 has been ignored: 
 
 (1) Cases wherein corporate entity has been ignored: 
 (a) Bankruptcy Cases: 
 
 In re Muncie Pulp Co., 139 Fed. 546, on the ground that the 
 corporation was a mere agent of another corporation ; 
 In re Rieger, Kapner & Altmark, 157 Fed. 609, on the ground 
 that the corporation was merely the agency of a partnership. 
 
CORPORATIONS 223 
 
 In re Morgan, 97 Fed. 319, on the ground that the corporation 
 was a mere fiction; 
 
 (b) Patent Cases: 
 
 Nat Co. V. Connecticut Co., 73 Fed. 491, on the ground (a) 
 that the corporation was a mere cover for the transaction of 
 an individual's business, (b) the relation between the cor- 
 poration and an individual was such as to impute estoppel 
 against the individual to the corporation, or (c) that the cor- 
 poration was not in a position to be heard in a court of 
 equity; 
 
 (c) Cases of vicarious liability imposed upon one corporation be- 
 cause of stock ownership in or control of corporation priTnarily 
 liable : 
 
 Chicago Mill, etc., Co. v. Boatman's Bank, 234 Fed. 41, on the 
 ground (a) that the corporation was a department of the 
 business of another corporation held liable, or (b) was its 
 alter ego; 
 
 Searchlight Co. v. American Co., 240 Fed. 745, on the ground 
 that the separate entity of the corporation was being made 
 use of for the purpose of evading responsibility, as a means 
 of distorting or hiding the truth or covering up transactions; 
 Interstate Co. v. Baltimore & O. Co., 51 Fed. 49, on the mixed 
 ground that the corporation was the agent of another corpo- 
 ration and was a mere name under which the other transacted 
 its business; 
 
 Lehigh Valley R. Co. v. Delachesa, 145 Fed. 617, on the ground 
 that the relationship of principal and agent existed; 
 O'Brien v. Champlain Co., 107 Fed. 338, on the ground that 
 the corporation was a myth ; 
 
 (d) Federal Court Jurisdiction Cases: 
 
 Miller & Lux v. East Side Co., 211 U. S. 293, on the ground 
 that the corporation was an agent of another corporation es- 
 tablished for purpose of conferring jurisdiction on federal 
 courts, through diversity of citizenship; 
 
 (e) Criminal Cases: 
 
 Southern Co. v. Interstate Corrvmerce Commission, 219 U. S. 
 497, on the ground that the corporations were directed by the 
 same paramount and continuing power and made single by it; 
 U. S. V. Lehigh Valley Co., 220 U. S. 254, on the ground that 
 the corporation was but an agency, dependency or department 
 of a carrier; 
 
 (f) Miscellaneous: 
 
 Amer. Nat. Bank v. Nat. Co., 77 Fed. 85, on the ground that 
 the corporation was being used by another corporation as a 
 scapegoat for its debts; 
 
 Colonial Trust Co. v. Montello Works, 172 Fed. 310, on the 
 ground that the corporation was especially organized agency 
 of another corporation; 
 (2) Cases wherein corporate entity has been respected: 
 
 Victor Co. V. American Co., 189 Fed. 359 (patent case) ; 
 Hall's Safe Co. v. Herring, etc., Co., 146 Fed. 37 (unfair 
 trade case) ; 
 
224 FEDERAL INCOME TAX 
 
 "A corporation, from one point of view, may be considered an 
 entity, without regard to its shareholders, yet the fact remains 
 self-evident that it is not in reality a person or thing distinct 
 from its consistent parts. The word corporation is but a collective 
 name for the members who compose the association. (Citing 
 cases.) If any general rule can be laid down, in the present state 
 of authority, it is that a corporation will be looked upon as a legal 
 entity as a general rule, and until sufficient reason to the con- 
 trary appears; but, when the notion of legal entity is used to 
 defeat public convenience, justify wrong, protect fraud, or defend 
 crime, the law will regard the corporation as an association of 
 persons. This much may be expressed without approving the 
 theory that the legal entity is a fiction, or a mere mental creation ; 
 or that the idea of invisibility or intangibility is a sophism. A 
 corporation, as expressive of legal rights and powers, is no more 
 fictitious or intangible than a man's right to his own home 
 or his own liberty." 
 
 Residence. A domestic corporation is one organized or created 
 in the United States including only the states, the territories of 
 Alaska and Hawaii and the District of Columbia. ^o With one 
 exception domestic corporations are considered to be residents of 
 this country, wherever their property or their business is located 
 and whether or not they do business within or without this coun- 
 try, and are taxable regardless of the fact that they may derive 
 all of their income from sources outside of the United States,'"''' 
 
 Richmond Co. v. Richmond Co., 68 Fed. 105 (case of vicarious 
 
 liability) ; 
 
 East St. Louis Ry. Co. v. Jarvis, 92 Fed. 735 (case of vicarious 
 
 liability) ; 
 
 Conley v. Mathieson Works, 190 U. S. 406, 205 U. S. 392 (case 
 
 of "doing business") ; 
 
 Federal Mining, Co. v. Bunker Hill Co., 187 Fed. 474 (federal 
 
 court jurisdiction case) ; 
 
 Peterson v. Chicago, etc., Co., 205 U. S. 362 (process case) ; 
 
 United Mines Co. v. Hatcher, 79 Fed. 517 (statutory lien 
 
 case) ; 
 
 Crane & Co. v. Fry, 126 Fed. 278; 
 
 U. S. V. Union Stockyard Co., 192 Fed. 330 (criminal case) ; 
 
 Jenks V. Brewster, 96 Fed. 625. 
 56 Revenue Act of 1921, § 2; Eevenue Act of 1918, § 1. A corporation re- 
 ceiving a charter from the United States Court for China and holding 
 itself out to be a corporation under the laws of the United States will, 
 under the Revenue Act of 1918, be considered a domestic corporation. (0. 
 D. 661, T. B. 38-20-1199.) 
 
 37 This definition follows the American theory that a corporation can not 
 migrate but must remain a resident of the jurisdiction in which it is created. 
 See Chapter 12. In a case under the 1909 Law payment of the tax was 
 
CORPORATIONS 225 
 
 and have no resident stockholders. They are a distinct artificial 
 entity domiciled in the state or jurisdiction pursuant to the law 
 of which they are organized or created. 
 
 The exception referred to is a new class of domestic corpora- 
 tion created by the Revenue Act of 1921, consisting of domestic 
 corporations — (a) 80% or more of the gross income of which 
 for a three-year period preceding the close of the taxable period 
 was derived from sources within a possession of the United 
 States, and (b) 50% or more of the gross income of which for 
 such three-year period was derived from the active conduct of a 
 trade or business within a possession of the United States, all as 
 is more fully indicated in another chapter. Such corporations are 
 treated as foreign corporations ; and they are taxable only on in- 
 come from sources within this country.^o Dividends paid by 
 them may not be credited for purposes of the normal tax and 
 deducted by other corporations.™ Neither are dividends paid 
 by them income from sources within the United States when 
 received by nonresident aliens and foreign corporations. ^^ 
 
 Although domestic corporations, other than those just de- 
 scribed, are taxable from whatever place their income is derived, 
 and in whatever jurisdiction their business and property is lo- 
 cated and stockholders reside, within certain limitations they 
 are entitled to credit against the tax due taxes paid to any foreign 
 country or possession of the United States.^s 
 . Other Corporations Engaged in Business in Porto Rico 
 AND THE Philippines. The 1918 law provided that in Porto 
 Rico and the Philippines the income tax should be assessed and 
 collected under the Revenue Act of 1916, as amended, but gave 
 the respective legislatures of these possessions power to amend, 
 alter, modify, or repeal the income tax laws in force therein.''^ 
 The present law reserves the same power to amend, alter, modify, 
 or repeal, and provides that the income tax shall be assessed and 
 collected in Porto Rico and the. Philippines "as provided by law 
 
 refused, the corporation claiming that because its business was transacted 
 in a foreign country and it had no assets in this country, its stockholders 
 living in the foreign country and its income being spent and invested there 
 it was not liable for the tax assessed. The treasury department proposed 
 to test the question but after the institution of suit the company abandoned 
 its position and made payment covering the tax and penalties, the action 
 being thereupon discontinued. (T. D. 1863.) 
 
 58 Revenue Act of 1921, § 238. 
 
 59 Revenue Act of 1921, § 262. 
 
 60 Revenue Act of 1921, §§ 216, 234 (a) 6. 
 
 61 Revenue Act of 1921, § 217. 
 
 62 Revenue Act of 1918, § 261. 
 
226 FEDERAL INCOME TAX 
 
 prior to the passage of this act (November 23, 1921). ""'^ The 
 legislatures of Porto Rico and the Philippines repealed the 1916 
 Law, as amended, on March 7, 1919, and July 26, 1919, respec- 
 tively, passing other acts in lieu thereof. «* 
 
 A United States corporation which derives income from 
 sources within Porto Rico, a Porto Rican corporation which de- 
 rives income from sources within the United States, and a corpo- 
 ration of a foreign country which derives income both from 
 sources within Porto Rico and from sources within the United 
 States, are all taxed in both places. In the case of the United 
 States corporation the income and excess-profits taxes in the 
 United States are credited with the amount of any income and 
 excess-profits taxes paid in Porto Rico. In the case of the Porto 
 Rican corporation there is no such credit. The corporation of the 
 foreign country deriving income from both places is subject to 
 no double taxation so far as the United States and Porto Rico are 
 concerned. The same principles apply in the case of the Philip- 
 pine Islands.*'^ 
 
 Gross Income. Corporations are subject to tax on income re- 
 ceived from all sources, including -gains, profits and income de- 
 rived from trades, businesses, commerce or sales, or dealings in 
 property, whether real or personal, growing out of ownership or 
 use of or interest in such property ; and also from interest, rent, 
 dividends, securities or the transaction of any business carried 
 on for gain or profit, or gains or profits and income from any 
 source whatever, except exempt income, which is not to be in- 
 cluded in gross income, as provided in the statute."" 
 
 fiS Revenue Act of 1921, §261. 
 
 c-t See The Income Tax Law of Porto Rico, Laws of Porto Rico, § 77 ; An 
 Act Establishing the Income Tax, Laws of the Philippines, § 20 ; Reg. 45, 
 Art 1131, as revised January 28, 1921. 
 
 •JJ But, under the 1921 law, a United States corporation which derives 
 income from sources within Porto Rico or the Philippines may be taxed in 
 the United States only with respect to income from sources in the United 
 States (See Revenue Act of 1921, Sec. 262). Reg. 45, Art. 1133, as revised 
 January 28, 1921; 0. 976, T. B. 1-20-663. A corporation organized in the 
 United States is subject to the 4 per cent, war income tax imposed by the 
 Revenue Act of 1917, even though it has its principal office, keeps its ac- 
 counts, and does all of its business in Porto Rico and derives all of its income 
 from sources therein. Such a corporation should file its return in the district 
 where its principal office in the United States is located. (L. O. 1066, T. B. 
 25-21-1694.) 
 
 66 Revenue Act of 1921, §§213 (b), 233 (a); Revenue Act of 1918, 
 §§ 213 (b), 233 (a). The income so exempted from tax is fully discussed in 
 Ch. 14, and it is deemed unnecessary to describe this income at this point. 
 Some of the classes of exempt income obviously have no application to cor- 
 
CORPORATIONS 227 
 
 Gross income includes items subject to the excess-profits tax 
 as well as income tax, but for the purpose of the latter these 
 items are credited against the net income."''' Where a corporation 
 is engaged in carrying on more than one class of business, the 
 gross income derived from the different classes is ascertained 
 according to the rules applicable thereto and the gross income 
 of all the classes of business in which the corporation is engaged 
 is taken to be the gross income of the corporation. Thus, the 
 gross income of manufacturing companies consists of the total 
 sales of manufactured goods during the year, increased or de- 
 creased by the gain or loss as shown by the inventories of fin- 
 ished and unfinished products, raw material, etc., at the begin- 
 ning and end of the year; and mercantile companies proceed 
 similarly in determining their gross income by inventory, adding 
 in each case the income from all other sources.^^ The general 
 provisions as to income applicable both to corporations and indi- 
 viduals are discussed in the succeeding chapters on income •'^ and 
 only the special provisions applicable to corporations are referred 
 to in this chapter. Not all receipts by a corporation are income, 
 as is indicated in the following paragraphs. Except where other- 
 wise indicated the rulings issued under the 1918 Law with regard 
 to income in the case of corporations are believed to be equally 
 applicable under the present law. 
 
 Sale of Capital Stock. The proceeds from the original sale 
 by a corporation of its shares of capital stock, whether such 
 proceeds are in excess of or less than the par value of the stock 
 issued, constitute the capital of the company. If the stock is 
 sold at a premium, the premium is not income. Likewise, if the 
 stock is sold at a discount, the amount of the discount is not a loss 
 deductible from gross income. If, for the purpose of enabling a 
 
 porations, but generally the exemption .of income applies equally to indi- 
 viduals and corporations. One of the classes of exempt income is gifts. 
 Prior to the enactment of the 1916 Law it was not clear that a corporation 
 was exempt from tax on the value of property acquired by gift. Under the 
 1909 Law gifts to corporations were held to be taxable as income, although 
 the law was silent in this respect. Under the 1913 Law it was held that the 
 statutory exemption of gifts did not apply to corporations, since the 1913 
 Law provided for such exemption under a provision applicable to individuals 
 only and made no mention of such exemption in the provisions applicable to 
 corporations. The 1916 Law provided for the exemption of the value of gifts 
 in a section applying with equal force to corporations and individuals. 
 (Compare Revenue Act of 1916, § 4, and Revenue Act of 1913, 1[ B.) 
 «7 Revenue Act of 1921, §236; Revenue Act of 1918, §236. 
 
 68 Reg. 33 Rev., Arts. 91 and 92. See also Reg. 33, Arts. 104 and 105. 
 
 69 See Chaps. 14 et seq. 
 
228 FEDERAL INCOME TAX 
 
 corporation to secure working capital or for any other purpose, 
 the stockholders donate or return to the corporation to be resold 
 by it certain shares of stock of the company previously issued to 
 them, or if the corporation purchases any of its stock and holds 
 it as treasury stock, the sale of such stock will be considered a 
 capital transaction and the proceeds of such sale will be treated 
 as capital and will not constitute income of the corporation. A 
 corporation realizes no gain or loss from the purchase of its own 
 stock.™ 
 
 Sale of Capital Assets. The sale by a corporation of its 
 capital assets may produce a gain or loss in the same manner as 
 the sale of property by an individual. The rules for determining 
 this gain or loss are discussed elsewhere in this book. If the 
 purchaser from a corporation takes over all the assets of a corpo- 
 ration and assumes all the liabilities, the amount of liabilities so 
 assumed is part of the purchase price.'^^ 
 
 Sale of Assets in View of Liquidation. Gains derived by 
 a corporation from the sale of its assets with a view of liquidation 
 are taxable incom^, whether or not the corporation is in process 
 of liquidation.''- 
 
 Creation of Sinking Fund. If a corporation, in order 
 solely to secure the payment of its bonds or other indebtedness, 
 places property in trust, or sets aside certain amounts in a 
 sinking fund under the control of a trustee, who may be author- 
 ized to invest and reinvest such sums from time to time, the 
 property or fund thus set aside by the corporation and held 
 by the trustee is an asset of tlie corporation, and any gain arising 
 therefrom is income of the corporation. The trustee, however, 
 is not taxable as such on account of the property or fund so held.'^^ 
 
 Income from Leased Property. Where a corporation has 
 leased its property in consideration that the lessee shall pay in 
 lieu of other rental an amount equivalent to a certain rate of divi- 
 dend on the lessor's capital stock or the interest on the lessor's 
 outstanding indebtedness, together with taxes, insurance or other 
 fixed charges, such payments are to be considered rental pay- 
 
 70 Reg. 45, Art. 542; Reg. 33 Rev., Arts. 98 and 99; T. D. 2090. 
 
 71 Reg. 45, Arts. 545, 563 as amended by T. D. 3206, T. B. 33-21-1767. 
 See Ch. 17. In the case of a bank the term "capital assets'' includes bonds 
 and other securities in which the bank has invested money received on de- 
 posit. (0. D. 832, T. B. 9-21-1485.) 
 
 72 S. 1090, Treasury Bulletin 11-19-386. The distinction between the cases 
 of Lynch v. Turrish, 247 U. S. 221, and Lynch v. Hornby, 247 U. S. 339, 
 applies only for purposes of the tax liability of the shareholders as distin- 
 guished from the corporation. 
 
 73 T. D. 3056, T. B. 35-20-1173. 
 
CORPORATIONS 229 
 
 ments and are to be returned by the lessor corporation as income, 
 notwithstanding the fact that the dividends and interest are 
 paid by the lessee directly to the stockholders and bondholders 
 of the lessor. The fact that a corporation has conveyed or let its 
 property and has parted with its management and control, or has 
 ceased to engage in the business for which it was originally or- 
 ganized, will not relieve it from liability to the tax. While the 
 payments made by the lessee directly to the bondholders or stock- 
 holders of the lessor are rentals as to both the lessee and lessor 
 (rentals paid in one case and rentals received in the other), to 
 the bondholders and the stockholders such amounts are interest 
 and dividend payments received as from the lessor and as such 
 must be accounted for in their returns.'^* 
 
 Contributions by Stockholders. Where a corporation re- 
 quires additional funds for conducting its business and obtains 
 such needed money through voluntary pro rata payments by its 
 stockholders, the amounts so received being credited to its sur- 
 plus account or to a special capital account, such amounts will 
 not be considered income, although there is no increase in the out- 
 standing shares of stock of the corporation. The payments in 
 such circumstances are in the nature of voluntary assessments 
 upon, and represent an additional price paid for, the shares of 
 stock held by the individual stockholders, and will be treated as 
 an addition to and as a part of the operating capital of the com- 
 
 74 Reg. 45, Art. 546; Reg. 33 Rev., Arts. 102, 104, 125, 208; Reg. 33, Art. 
 82; T. D. 2090. The lessee, in making these payments direct to the bond- 
 holders and the stockholders, does so as the agent of the lessor. Where , 
 under the terms of a lease a lessee agreed to pay the interest upon and 
 discharge the bonds issued by the lessor, to maintain the right of way and 
 buildings, and to pay direct to each stockholder of the lessor dividends at 
 the rate of eight per centum per annum, it was held that the amounts paid 
 to the creditors and stockholders of the lessor were rents or compensation 
 to the lessor for the use and occupation of its property and constituted net 
 income to it. It was held to be immaterial that the lessor was not possessed 
 of money or other cash revenues with which to pay the tax. The lessor 
 could not exonerate itself from liability for the tax subsequently imposed 
 under a law thereafter enacted by making a lease of its property which 
 provided for the payment of all its surplus revenues direct to its stock- 
 holders. (Rensselaer & Saratoga Railroad Co. v. Irwin, 249 Fed. 726, writ 
 of certiorari denied, 246 U. S. 671. See Northern Co. v. Lowe, 250 Fed. 856.) 
 The notion that a corporation is an artificial entity distinct from the mem- 
 bers who compose it is a fiction of the law which the courts recognize for 
 some purposes and disregard for others. Thus, the fact that a lessee cor- 
 poration pays the rent not to the lessor corporation, but to its stockholders 
 and bondholders, cannot prevent the lessor corporation from being taxable. 
 (Anderson v. Morris & Essex Railroad Co., 216 Fed. 83.) 
 
230 FEDERAL INCOME TAX 
 
 panyjs If a stockholder in a corporation which is indebted to 
 him gratuitously forgives the debt, the transaction amounts to a 
 contribution to the capital of the corporation.'^ 
 
 Proceeds of Insurance. The 1918 law provided that "the 
 proceeds of insurance policies paid upon the death of the insured 
 to individual beneficiaries or the estate of the insured shall 
 be exempt from tax".'^^ The present law repeats this exemption, 
 but omits the words in italics from the provision granting the 
 exemption. The inference is clear that the intention of Congress 
 was to exempt the proceeds of insurance policies paid upon the 
 death of the insured irrespective of the status, corporate or other- 
 wise, of the beneficiary. Under the 1918 law the proceeds of life 
 insurance policies paid upon the death of the insured to a corpora- 
 tion beneficiary, less any premiums paid by the corporation and 
 not deducted from gross income, were required to be included in 
 gross income.^s The option exercised by a corporation beneficiary 
 in allowing the proceeds of an insurance policy to be paid in in- 
 stallments was held to represent an investment of such proceeds ; 
 any interest or profits received over and above the face value 
 of each installment representing taxable income to the corpora- 
 tion for the year in which received.'^® 
 
 Where an individual took out a policy of insurance in favor of 
 his estate which was assigned to a .corporation as security for 
 money advanced without interest or other charge to pay a pre- 
 mium thereon, and upon the death of the insured the corporation 
 deducted the amount of the indebtedness from the proceeds of the 
 policy paid to it as assignee, and turned the balance over to the 
 executor of the estate, the corporation was not required to include 
 the proceeds of the policy in gross income. The function of the 
 corporation was merely that of an intermediary in the collection 
 of the proceeds of the policy.^" 
 
 Interest Upon Liberty Bonds. Income of a corporation as 
 such is taxable to the corporation and not to the stockholders. 
 The corporation, and not the stockholders, is regarded as the 
 owner of Liberty Bonds held by the corporation and is entitled 
 to exemption on account of such ownership. Thus, when bonds 
 
 '3 Reg. 45, Art. 543; letter from treasury department dated February 21, 
 1916; I. T. S., 1918, H 1291. 
 
 76 Reg. 45, Art. 51. See Oregon-Washington Co. v. U. S., 251 Fed. 211. 
 
 77 Revenue Act of 1918, §§213 (b)l, 233; Revenue Act of 1921, 
 §§213 (b) 1, 233. 
 
 78 Reg. 45, Art. 541. 
 
 79 0. D. 66, T. B. 1-19-92. 
 
 80 O. D. 804, T. B. 7-21-1445. • 
 
CORPORATIONS 231 
 
 of the Fourth Liberty Loan are subscribed for by the corporation, 
 the corporation, as distinguished from its stockholders, is the 
 original subscriber and is entitled to the collateral exemption of 
 interest provided for years prior to 1921 on bonds of previous is- 
 sues on account of such original subscription.si 
 
 Where a partnership was an original subscriber to liberty 
 bonds of the Fourth Liberty Loan and was reorganized as a cor- 
 poration prior to July 1, 1919, and elected to be taxed as a corpo- 
 ration from January 1, 1918, the corporation was considered, 
 under the 1918 law, "the original subscriber" to the bonds.^- 
 When two corporations consolidate, forming a new corporation, 
 the former corporations ceasing to exist, the new corporation 
 could not be considered the original subscriber to bonds of the 
 Fourth Liberty Loan originally subscribed for by the two corpo- 
 rations and taken over by it.^^ 
 
 Deductions in Computing Net Income. The statute specifies 
 particularly the deductions which may be made by a corporation 
 from its gross income in computing its net income. In general, 
 the deductions from gross income allowed corporations are the 
 same as allowed individuals, except that corporations may de- 
 duct dividends received from other corporations, which individ- 
 uals use as a credit for purposes of the normal tax only, and 
 may not deduct charitable contributions.^* Certain items are 
 also expressly declared by the Revenue Act of 1918 not to 
 be deductible in the case of corporations as well as individuals. 
 These items are discussed in another chapter.^s These deduc- 
 tions are discussed generally in the several chapters relating 
 respectively thereto.^" In this chapter reference is made only 
 to those provisions having special application to corporations. 
 
 Ordinary and Necessary Expenses. A corporation is al- 
 lowed to deduct all the ordinary and necessary expenses paid 
 or incurred^^ during the taxable year in carrying on any trade 
 
 81 T. D. 2742. See Ch. 18 for a discussion of the consolidated exemption 
 provided for 1921 and subsequent years. 
 
 82 0. D. 502, T. B. 20-20-932; O. D. 211, T. B. 11-19-373. 
 
 83 O. D. 577, T. B. 28-20-1052. 
 
 84 Revenue Act of 1921, § 234 (a) ; Revenue Act of 1918, § 234 (a) ; Reg. 
 45, Art. 561. 
 
 85 Revenue Act of 1921, §§215, 235; Revenue Act of 1918, §§215, 235; 
 Reg. 45, Art. 581. See Ch. 21. 
 
 86 See Chaps. 21-30. 
 
 87 The terms "paid or incurred" or "paid or accrued" are construed ac- 
 cording to the method of accounting upon which net income Is computed 
 under §212 of the statute. (Revenue Act of 1921, §200; Revenue Act of 
 1918, § 200.) 
 
232 FEDERAL INCOME TAX 
 
 or business, including a reasonable allowance for salaries or 
 other compensation for personal services actually rendered, and 
 including rentals or other payments required to be made as a 
 condition to the continued use or possession of property to 
 which the corporation has not taken or is not taking title, or in 
 which it has no equity .^^ j^ ^^jj jjg noted that the expenses per- 
 mitted by this provision of the law are only the ordinary and 
 necessary expenses. Extraordinary expenses are not deductible 
 under this head, although they may be deductions recognized in 
 accounting practice as a proper charge against the income for 
 the year. Payments to trustees by a cemetery company of a 
 percentage of the proceeds of sales of cemetery lots set aside 
 for a "maintenance fund" to be controlled solely by the trustees 
 thereof pursuant to a provision in the charter of a corporation 
 requiring such payments, are not deductible from the gross 
 income as "ordinary and necessary expenses."*^ 
 
 Organization Expenses. Organization expenses of corpora- 
 tions, such as attorneys' and accountants' fees, together with 
 fees paid to state authorities prior to or coincident with the 
 securing of a charter and the incorporation of a company, 
 constitute a capital investment, such assets being offset by the 
 asset value of the corporate franchise, an intangible asset of 
 a somewhat permanent character and in many instances of 
 substantial value. It is held that such expenses constitute in- 
 vestments of capital and afe not "ordinary and necessary ex- 
 penses," which are the only expenses authorized by the law to 
 be deducted.^" 
 
 Expenses Incurred in Sale of Capital Stock. Expenses 
 incidental to or connected with the selling of the capital stock 
 (common or preferred) of a corporation for the purpose of 
 raising capital to.be invested by it in property to be employed 
 in the business of the corporation are not an allowable deduc- 
 tion from gross income, for the reason that such expenses are 
 incurred in a capital transaction; that is, the raising of capital 
 to be invested or employed in the business. Such expense, like 
 the discount at which the shares of stock may be sold, has the 
 
 SS Revenue Act of 1921, §234 (a) 1; Revenue Act of 1918, §234 (a) 1. 
 In the case of corporations the statutory provision for this deduction con- 
 tained in the Revenue Act of 1921 is identical with the corresponding 
 provision of the 1918 Law. The rulings under the 1918 Law should therefore 
 be followed under the present law. 
 
 S9 S. 1145, T. B. 20-19-515. 
 
 90 Reg. 45, Art. 582 ; T. D. 2490. This ruling is not in accordance with 
 accounting practice, which recognizes the propriety of charging off organiza- 
 tion expenses against income over a period of four or five years. 
 
CORPORATIONS 233 
 
 effect only of reducing the available capital of the corporation 
 and cannot be used to reduce the income from operations; that 
 is to say, any expense incident to the bringing of capital into 
 the company, whether it be a new or a going concern, cannot 
 be recouped out of or charged against the operating income. 
 It is a capital loss or expense properly chargeable against the 
 proceeds of the sale of the stock and reduces the capital rather 
 than the earnings of the company .^^ 
 
 ■ Eedemption or Retirement of Capital Stock,. The expenses 
 exclusive of the purchase price, incurred by a company in pur- 
 chasing its own stock for the purpose of retirement or holding 
 as treasury stock, are not deductible from gross income as 
 "ordinary and necessary expenses." These expenses are to be 
 considered part of the purchase price of the stock retired.^^ 
 A reserve fund created out of the earnings of a corporation for 
 the purpose of redeeming its preferred stock is not an ordinary 
 and necessary expense.^^ Where a corporation issued preferred 
 stock at par, redeemable at 110, the difference appearing on the 
 books of the corporation as a reduction of undivided profits, 
 the transaction has been held to be a capital transaction with 
 the result that the difference between the selling price of the 
 stock and the price at which it was redeemed could not be 
 deducted.9* 
 
 Holding Company Financing Subsidiary. A holding com- 
 pany which guarantees dividends at a specified rate on the 
 stock of a subsidiary corporation for the purpose of securing 
 new capital for the subsidiary and increasing the value of its 
 stock holdings in the subsidiary may not deduct amounts paid 
 in carrying out this guaranty in computing its net income, but 
 such payments may be added to the cost of its stock in the 
 subsidiary .95 Moneys advanced as loans to a subsidiary to cover 
 an annual deficit have been held not to be deductible as "ordinary 
 and necessary expenses.""^ Payments by a holding company 
 under a guaranty of interest on the bonds of an insolvent sub- 
 sidiary are a legal deduction from the gross income of the corpo- 
 ration making the payment, either as an operating expense or 
 
 91 Reg. 45, Art. 563; Reg. 33 Rev., Art. 145. 
 
 92 O. D. 852, T. B. 12-21-1522. 
 
 93 O. D. 288, T. B. 22-19-537. 
 
 94 Letter from treasury department dated April 11, 1917; I. T. S. 1921, 
 111012. 
 
 95 Reg. 45, Art. 582. 
 
 96 Walker v. Gulf & Interstate Co., 269 Fed. 885; T. D. 3133, T. B. 
 13-21-1533. 
 
234 
 
 FEDERAL INCOME TAX 
 
 as interest, or as a bad debt, provided it is charged off the books 
 of account of the guarantor.^^ 
 
 Interest. Corporations, like individuals, may deduct all in- 
 terest paid within the taxable year on their indebtedness, except 
 on indebtedness incurred or continued to purchase or carry 
 obligations or securities (other than obligations of the United 
 States issued after September 24, 1917, and originally sub- 
 scribed for by the corporation) the interest upon which is wholly 
 exempt from income tax.os Interest paid by a corporation on 
 scrip dividends is an allowable deduction. So-called interest 
 on preferred stock, which is in reality a dividend thereon, 
 can not be deducted in computing net income. Interest paid 
 by a corporation on so-called debenture stock, a kind of stock 
 common in England, but more or less unfamiHar in this coun- 
 try, has been held deductible from gross income in computing 
 net income.''^ In the case of banks and loan or trust companies 
 interest paid within the year on deposits or on moneys received 
 for investment and secured by interest-bearing certificates of 
 indebtedness issued by such bank or loan or trust company may 
 be deducted from gross income.^^o 
 
 97 S. 1298, T. B. 8-20-753. It does not seem that the amount of the deduc- 
 tion need be charged off unless deducted as a worthless debt. 
 
 98 Revenue Act of 1921, §234 (a) 2; Revenue Act of 1918, §234 (a) 2. 
 The 1921 haw contains an important change from the 1918 Law in the inser- 
 tion of the words "and originally subscribed for by the taxpayer" in the 
 parenthetical clause of subd. (2) of If (a) of §234. This change is de- 
 signed to prevent the deduction of interest paid or accrued to purchase or 
 carry Victory 3i notes and is fully explained in Ch. 23. The 1916 Law con- 
 tained a substantial limitation upon the deduction of interest by corpora- 
 tions. With regard to this limitation see : Revenue Act of 1916, § 12 ; 
 T. D. 2441; T. D. 2137; T. D. 2090; T. D. 1865; T. D. 1993; T. D. 1960; 
 Reg. 33 Rev., Arts. 95, 188; Reg. 33, Art. 95, Art. 148, Art. 151. Letter 
 from treasury department dated April 29, 1918; I. T. S. 1918, 1T3344; letter 
 from treasury department dated January 13, 1916; I. T. S. 1918, 111767. 
 Anderson v. 42 Broadway Co., 239 U. S. 69; Associated Pipe Line Co. v. 
 U. S., 258 Fed. 800; Altheiiiier Investment Co. v. Allen, 246 Fed. 270, peti- 
 tion for a vsrrit of certiorari denied November 18, 1918; Middlesex Banking 
 Co. V. Eaton, 233 Fed. 87. The limitation is discussed in full in the 1920 
 edition of this book at p. 855. Since that discussion was written the fol- 
 lowing decisions have been made bearing upon the subject-matter: Boston & 
 M. R. R. V. U. S., 265 Fed. 578; U. S. v. N. Y., N. H. & H. R. R. Co., 265 
 Fed. 331; Sol. Op. 23, T. B. 39-20-1217; A. R. R. 559, T. B. 29-21-1733; Sol. 
 Op. 127, T. B. 47-21-1934. 
 
 99 A. R. R. 237, T. B. 33-20-1142. The character of the debenture stock 
 involved in this ruling is thoroughly described in the chapter herein on the 
 excess-profits tax under the heading of borrowed capital. 
 
 100 Reg. 45, Art. 564. 
 
CORPORATIONS 235 
 
 Taxes. Corporations, like individuals, may deduct taxes paid 
 or accrued, 1"^ within the taxable year, except (a) income, war- 
 profits, and excess-profits taxes imposed by the authority of 
 the United States, (b) that part of any income, war-profits and 
 excess-profits taxes imposed by the authority of any foreign 
 country or possession of the United States as is allowed as a 
 credit, and (c) taxes assessed against local benefits of a kind 
 tending to increase the value of the property assessed.^^^ Under 
 a new provision of the Revenue Act of 1921, taxes imposed upon 
 a shareholder or member of a corporation, upon his interest 
 as shareholder or member, which are paid by the corporation 
 without reimbursement, are deductible by the corporation.i"^ 
 This provision applies particularly to banks. The shareholder 
 or member is, of course, not permitted to deduct the same tax. 
 Additional taxes assessed against a corporation under the 1909 
 law and paid during subsequent years are allowable deductions 
 from the gross income of the corporation for the year when paid, 
 but income taxes assessed under the 1913 law and the 1916 law 
 are deductible only if paid prior to January 1, 1917.i°* Except 
 as stated in this and following paragraphs the same rules apply 
 to the deduction of taxes by corporations and individuals and 
 are discussed elsewhere.^o^ 
 
 Interest on Tax-Free Bonds. Where a corporation has is- 
 sued bonds or other indebtedness with a guarantee that the in- 
 terest thereon shall be paid without deduction for any tax 
 which the corporation may be called upon to pay or withhold 
 under the laws of the United States or of any state or jurisdic- 
 tion, no deduction for the payment of the income tax or any 
 other federal tax paid pursuant to the contract or provision 
 contained in such bonds is permitted to the corporation under 
 the heading of taxes or interest or on any ground. In the case, 
 however, of corporate bonds or obligations containing an appro- 
 priate "tax-free covenant" clause, the corporation paying a state 
 
 101 See note 87. 
 
 102 Revenue Act of 1921, §234 (a) 3. The taxes which are allowed as a 
 credit are set forth in § 238. In this provision for the deduction of taxes the 
 1918 Law described particularly the taxes which were deductible as well as 
 some exceptions; the present law describes particularly only the exceptions 
 — that is, the taxes not deductible. The two sections should be carefully 
 compared ; they are discussed in full in ch. 24. 
 
 103 Revenue Act of 1921, §234 (a) 3. Formerly such taxes were not de- 
 ductible by the shareholder, but only by the member. This subject is fully 
 discussed in ch. 24. 
 
 104 0. D. 240, T. B. 13-19-418. See ch. 24. 
 
 105 Reg. 45, Art. 565. See ch. 24. 
 
236 FEDERAL INCOME TAX 
 
 tax or any other than a federal tax for some one else pursuant 
 to its agreement may deduct such payment as interest paid 
 on indebtedness.106 Under the 1918 law the amount of tax so 
 paid for a bondholder by an obligor pursuant to a tax-free 
 covenant was regarded as additional interest paid to the bond- 
 holder and was required to be included in gross income.^"''' The 
 Revenue Act of 1921 expressly provides that the tax so paid shall 
 not be included in the gross income of the obligee (bond- 
 holder) .^s 
 
 Losses. Corporations are permitted to deduct all losses sus- 
 tained during the taxable year and not compensated for by in- 
 surance or otherwise, unless, in order to clearly reflect the in- 
 come, the loss should, in the opinion of the commissioner, be 
 accounted for as of a different period.i°8 
 
 Losses in Ultra Vires Transactions. Where a corpora- 
 tion suffers a loss as the result of an ultra vires act, it may 
 not deduct such loss in computing its net income. Where a 
 corporation is authorized by its certificate of incorporation to 
 purchase stocks on a margin, and where there are no laws in 
 the state where it trades in stocks making marginal stock 
 transactions by corporations illegal, if it sustains a loss as a 
 result of marginal trading in stocks, such loss may be deducted 
 in computing its net income, if sustained during the taxable 
 year and not compensated for by insurance or otherwise, unless 
 it appears afirrmatively that the transaction was merely color- 
 able and no bona, fide purchase of stock was made."" 
 
 Dividends on Stock of Other Corporations. The dividends 
 which may be deducted by corporations in computing net in- 
 come are the same as those which individuals may use as a 
 credit for purposes of the normal tax. Under the Revenue Act 
 of 1921 corporations may deduct amounts received as divider ds 
 (a) from a domestic corporation (other than a corporation 
 deriving a substantial proportion of income from sources within 
 a possession of the United States and entitled to be treated 
 as a foreign corporation) or (b) from any foreign corporation 
 
 106 Revenue Act of 1921, §234 (a) 3; Revenue Act of 1918, §234 (a) 3; 
 Reg. 45, Art. 565. 
 lOT Reg. 45, Art. 31. 
 
 108 Revenue Act of 1921, §234 (a) 3. 
 
 109 Revenue Act of 1921, §234 (a) 4; Revenue Act of 1918, §234 (a) 4. 
 The provision for "net losses" and the new "wash sale" provision of the 
 Revenue Act of 1921 apply similarly to individuals and corporations and 
 are discussed in ch. 25. The provision of the 1918 Law for the deduction of 
 losses in inventory and from rebates is also discussed in that chapter. 
 
 110 0. 968, T. B. 1-20-660. 
 
COEPORATIONS 237 
 
 when it is shown to the satisfaction of the commissioner that 
 more than 50 per centum of the gross income of such foreign 
 corporation for the three-year period ending with the close 
 of its taxable year preceding the declaration of such dividends 
 (or for such part of such period as the foreign corporation has 
 been in existence) was derived from sources within the United 
 States.iii Under the 1918 law corporations might deduct all 
 amounts received as dividends from a corporation taxable upon 
 its net income and amounts received as dividends from a per- 
 sonal service corporation out of earnings or profits upon which 
 income tax had been imposed.^^^ Dividends paid by foreign 
 corporations receiving no income from sources within the 
 United States might not be deducted. An. American corporation 
 might deduct all amounts received as dividends from a foreign 
 holding company whose income was derived entirely from divi- 
 dends on the stock of another American company.^^^ 
 
 Contributions to Charities. Under both the present and 
 the 1918 law corporations are not entitled to deduct from their 
 gross income contributions made to the United States, any 
 state, territory^ or the District of Columbia, for public pur- 
 poses, or to religious, charitable, scientific or educational cor- 
 porations or organizations, including the American Legion, or 
 to the fund for vocational rehabilitation. Contributions made 
 to the Red Cross or other war activities are not deductible by 
 corporations.!" 
 
 111 Revenue Act of 1921, § 234 (a) 6. See also §§ 216, 217, 262. 
 
 112 Revenue Act of 1918, § 234 (a) 6. Under the 1913 Law corporations 
 virere not permitted to deduct the amount received as dividends from other 
 corporations subject to the income tax. This was likewise true under the 
 1916 Law. For the purpose of the 1917 Law, dividends on the stock of such 
 other corporations as were taxable thereunder on their net income might be 
 deducted. Thus, in 1917 a corporation might not deduct dividends in com- 
 puting the 2% tax imposed by the 1916 Law, but might do so in computing 
 the 4% tax imposed by the 1917 Law. 
 
 113 0. D. 130, T. B. 3-19-201. 
 
 114 T. D. 2847, as amended May 24, 1919. This treasury decision was 
 founded on an opinion of the attorney-general dated May 19, 1919, which 
 held that Red Cross donations were not deductible as expense, and which 
 was also founded on a consideration of the legislative history of the Revenue 
 Act of 1918. (See Congressional Record for September 17, 1918, in which it 
 appears that an amendment to the effect that corporations might deduct 
 charitable and other contributions and gifts in the same manner as indi- 
 viduals was defeated.) It was not necessary to file amended returns when 
 donations had been erroneously deducted prior to the promulgation of T. D. 
 2847. It was simply necessary to file a statement showing the amount of 
 donations, the net income as reported and corrected, and the additional tax 
 which was required to be paid, together with interest from each installment 
 
238 FEDERAL INCOME TAX 
 
 Sale and Retirement of Corporate Bonds. The rules for the 
 computation and allocation of income and deductions upon a 
 sale and retirement of corporate bonds stated below as issued 
 under the 1918 law should remain substantially unchanged under 
 the present law. If bonds are issued by a corporation at their 
 face value, the corporation realizes no gain or loss. If there- 
 after the corporation purchases and retires any of such bonds 
 at a price in excess of the issuing price or face value, the excess 
 of the purchase price over the issuing price or face value is 
 a deductible expense for the taxable year. If, however,' the 
 corporation purchases and retires any of such bonds at a price 
 less than the issuing price or face value, the excess of the issuing 
 price or face value over the purchase price is gain or income for 
 the taxable year. 
 
 If bonds are issued by a corporation at a premium, the net 
 amount of such premium is gain or income which should be 
 prorated or amortized over the life of the bonds. If thereafter 
 the corporation purchases and retires any of such bonds at a 
 price in excess of the issuing price minus any amount of pre- 
 mium already returned as income, the excess of the purchase 
 price over the issuing price minus any amount of premium 
 already returned as income (or over the face value plus any 
 amount of premium not yet returned as income) is a deductible 
 expense for the taxable year. If, however, the corporation 
 purchases and retires any of such bonds at a price less than 
 the issuing price minus any amount of premium already returned 
 as income, the excess of the issuing price minus any amount 
 of premium already returned as income (or of the face value 
 plus any amount of premium not yet returned as income) over 
 the purchase price is gain or income for the taxable year. 
 
 If bonds are issued by a corporation at a discount, the net 
 amount of such discount is deductible and should be prorated 
 or amortized over the life of the bonds. If thereafter the cor- 
 poration purchases and retires any of such bonds at a price in 
 excess of the issuing price plus any amount of discount already 
 deducted, the excess of the purchase price over the issuing price 
 plus any amount of discount already deducted (or over the 
 face value minus any amount of discount not yet deducted) is 
 a deductible expense for the taxable year. If, however, the cor- 
 date. Failure to file such a statement resulted in the 5% penalty upon 
 audit of the return. (T. D. 3106, T. B. 1-21-1385; M. 2207, T. B. 14-19-438.) 
 Payment of the additional tax was required within 30 days. The statement 
 was not required when the amount of donations was disclosed upon an audit 
 of corporate books by the department (T. D. 3215). 
 
CORPORATIONS 239 
 
 poration purchases and retires any of such bonds at a price 
 less than the issuing price plus any amount of discount already 
 deducted, the excess of the issuing price plus any amount of 
 discount already deducted (or of the face value minus any 
 amount of discount not yet deducted) over the purchase price is 
 gain or income for the taxable year.^i" 
 
 It was claimed in one case that the excess of the par or face 
 value of a corporation's bonds, issued prior to March 1, 1913, 
 over the price paid upon the purchase and retirement of the 
 bonds was not income, the bonds having depreciated prior to 
 that date, by reason of the impaired capital of the corporation, 
 to a value equivalent to that paid for the bonds in 1918. This 
 claim was, in other words, that the corporation received the 
 excess in question when the bonds were sold prior to March 1, 
 1913, so that such excess was not taxable income; and that the 
 corporation received no income in 1918, merely because in that 
 year it transpired that the excess received prior to March 1, 
 1918, need not be paid, back. This claim was not allowed, how- 
 ever, the committee deciding that the excess in question was 
 properly taxable in 1918."" 
 
 A corporation which issued its bonds at a discount and im- 
 properly charged the discount to profit and loss may correct 
 its books to show the discount treated as interest paid in advance, 
 to be amortized over the life of the bonds. Amended returns 
 reflecting a correction in the books may be filed. If, however, 
 the bonds were issued prior to the incidence of the tax and, at 
 that time, the entire amount of the discount was charged to 
 profit and loss, the issuing corporation may not claim a pro rata 
 allowance for such discount for the years subsequent to the 
 incidence of the tax."''^ Charging off the discount prior to the 
 incidence of the tax constitutes a closed transaction and such 
 transaction cannot be reopened for the purpose of reducing the 
 taxable income of the corporation.^s Thus where a railroad 
 company sold bonds and equipment notes at a discount in 1906 
 and its books show that the loss was entirely charged off under 
 
 115 Reg. 45, Art. 544; Baldwin Locomotive Works v. McCoach, 221 Fed. 59. 
 This discount was formerly treated as a loss prorated over the life of the 
 bonds (Reg. 33 Rev., Art. 150). The 1909 Law which authorized the deduc- 
 tion only of "interest actually paid within the year on its bonded or other 
 indebtedness" did not permit the deduction each year of a reserve set aside 
 to pay a discount at maturity (Southern Pacific R. R. Co. v. Muenter, 260 
 Fed. 837). 
 
 116 A. R. R. 545, T. B. 27-21-1717. 
 l"0. D. Ill, T. B. 2-19-166. 
 
 118 T. D. 2161, T. D. 2137. 
 
240 FEDERAL INCOME TAX 
 
 the profit and loss account for 1906, and the company in making 
 returns for the years 1911 and 1912 failed to deduct the propor- 
 tionate amount of discount sustained, it has no right to amend 
 its returns and claim a refund of such amount.^i" 
 
 Where bonds mature serially, a proper proportion of the 
 total discount and expenses should be allocated to each series 
 and each series then treated as a separate unit. The deduc- 
 tion applicable to each series should be prorated equally over 
 the life of the bonds constituting the series, provided, however, 
 that if the corporation retires any of the bonds before maturity, 
 the deduction for that year should be increased by an amount 
 equivalent to the amount which would ordinarily be deducted 
 during the succeeding years on account of those particular bonds 
 if they had not been prematurely retired.i^o 
 
 Where a sole proprietor of an unincorporated business issued 
 mortgage bonds, some of which were traded for Liberty bonds, 
 which had a market value of less than par, but were taken 
 at their par value, there being trustee's expenses and agent's, 
 commissions incident to the selling of the bonds, it has been 
 held that when he exchanged the mortgage bonds for Liberty 
 bonds, he, in effect, disposed of the bonds at a discount, the 
 amount of which is represented by the difference between the 
 par value of his bonds and the fair market value of the Liberty 
 bonds when taken in exchange therefor. Such discount is de- 
 ductible and should be prorated or amortized over the life of 
 the bonds. The trustee's expenses and agent's commissions in- 
 cident to the floating of the bonds constitute a deductible ex- 
 pense which should be prorated over the life of the bonds.^^i 
 
 Amortization of premiums or discount on bonds is not per- 
 missible in the case of a purchaser of bonds. The purchase 
 price of the bond, even though different from par, represents 
 the investment.122 
 
 Credits Against Net Income. In addition to the deductions 
 which corporations are permitted in computing their net income, 
 corporations are allowed certain credits against net income. 
 Credits differ from deductions in the case of corporations in that 
 deductions reduce the net income for the purpose of all taxes, 
 while credits reduce the net income for the purpose of the in- 
 
 119 Chicago & Alton R. R. Co. v. U. S., 53 Ct. Cls. 41. 
 
 120 0. D. 936, T. B. 22-21-1665. 
 
 121 O. D. 959, T. B. 26-21-1704. 
 
 122 0. D. 475, T. B. 17-20-887. 
 
CORPORATIONS 241 
 
 come tax and not for the purpose of the excess-profits tax.^^s 
 The credits are discussed in the following paragraphs. 
 
 Interest Upon Obligations of the United States. The 
 amount of interest received by a corporation upon obligations 
 of the United States issued prior to September 1, 1917, is exempt 
 from all taxation, and is excluded from the gross income of the 
 corporation. The amount of interest upon obligations of the 
 United States issued after September 1, 1917, (other than 
 postal savings certificates of deposit) and upon bonds issued 
 by the War Finance Corporation is exempt from taxation only 
 if and to the extent provided in the respective acts authorizing 
 the issue thereof, as amended and supplemented, and is excluded 
 from gross income only if and to the extent it is wholly exempt 
 from income, war-profits and excess-profits taxes. Corporations 
 are allowed a credit against net income for the purpose of the 
 income»tax of any amount received as interest upon obligations 
 of the United States and bonds issued by the War Finance Cor- 
 poration which is included in gross income.^^* 
 
 Amount of War-Profits and Excess-Profits Tax. Corpora- 
 tions are also allowed a credit for purposes of the income tax, 
 of the amount of the war-profits and excess-profits tax imposed 
 for the same taxable year.^-^ jn the case of a corporation making 
 return for a fiscal year beginning in 1920 and ending in 1921, 
 or beginning in 1921 and ending in 1922, certain special rules 
 apply, which are set forth elsewhere in this book.i^s ^^ addition 
 to excess-profits tax, on a delinquent or false and fraudulent 
 return, is to be considered a penalty and not a tax, except for 
 purposes of collection, and is not an allowable credit.127 
 
 Specific Exemption. Under the 1918 law domestic corpora- 
 tions were permitted a credit for purposes of the income tax 
 of the sum of $2,000 as a specific exemption.i^s Where for 
 
 123 After December 31, 1921, when the excess-profits tax is abolished, these 
 credits (except the war-profits and excess-profits tax) would seem to be the 
 equivalent of deductions. This means that the specific exemption will 
 amount to a deduction, but with respect to interest upon obligations of the 
 United States it seems that the useless formality of including gross income 
 an exact amount later deducted from gross income must be observed. 
 
 124 Revenue Act of 1921, §§ 236 (a), 233, 213 (a) 4; Revenue Act of 1918, 
 §§236 (a), 233, 213 (a) 4; Reg. 45, Art. 591; 
 
 123 Revenue Act of 1921, § 236 (c) ; Revenue Act of 1918, § 236 (b) ; Reg. 
 45, Art. 591. 
 
 126 See ch. 24. 
 
 127 O. 926, T. B. 23-19-551. 
 
 128 Revenue Act of 1918, § 236 (c) ; Reg. 45, Art. 591. The 1916 Law and 
 the 1913 Law contained no similar provision. 
 
242 FEDERAL INCOME TAX 
 
 any cause, a corporation filed a return for a period of less than 
 12 months, the specific exemption was such proportion of $2,000 
 as the number of months in the period bore to 12 months. If 
 the period for which the first or final return was made included 
 a fraction of a month there was added to the number of com- 
 plete months as many thirtieths of a month as there were days 
 in the fractional part of the month.i^a in the case of a domes- 
 tic corporation the net income of which is $25,000 or 
 less, a specific credit of $2,000 is allowed under the present 
 law ; but if the net income is more than $25,000 the income tax 
 must not exceed the tax which would be payable if the $2,000 
 credit were allowed, plus the amount of the net income in excess 
 of $25,000,130 
 
 Credits Against Tax. Domestic corporations may credit 
 against the amount of tax which would be due on income derived 
 from all sources the amount of any income, war-profits «ind ex- 
 cess-profits taxes paid during the taxable year to any foreign 
 country or to any possession of the United States. This credit, 
 and the limitation applicable thereto is discussed in another 
 chapter.13^ 
 
 Receivers for Corporations. The Revenue Act of 1921 provides 
 that in cases where receivers, trustees in bankruptcy, or as- 
 signees are operating the property or business of corporations, 
 such receivers, trustees, or assignees shall make returns for 
 such corporations in the same manner and form as corporations 
 are required to make returns. This is true notwithstanding that 
 the powers and functions of a corporation are suspended and 
 that the property and business are for the time being in the 
 custody of the receiver, trustee, or assignee, subject to the order 
 of the court. Any tax due on the basis of such returns made 
 by receivers, trustees or assignees is collected in the same manner 
 as if collected from the corporations of whose business or 
 property they have custody or controL^^^ Receivers of corpora- 
 tions are not fiduciaries within the meaning of the law and are 
 not governed by the rules applicable to receivers for individ- 
 uals.133 The receiver of a corporation stands in the same posi- 
 
 129 O. D. 756, T. B. 51-20-1356. 
 
 130 Revenue Act of 1921, § 236 (b) . The effect of this limitation is to pre- 
 vent an increase of $1 in net income resulting in an increase of $250 in tax. 
 
 131 Revenue Act of 1921, §238; Revenue Act of 1918, §238. See ch. 32. 
 
 132 Revenue Act of 1921, § 239; Revenue Act of 1918, § 239. 
 
 133 Reg. 45, Art. 424; O. D. 821, T. B. 8-21-1468. This is true in view of 
 the express provision of § 239, notwithstanding the definition of "person" and 
 "fiduciary" contained in § 200. See ch. 6. 
 
CORPORATIONS 243 
 
 tion as the officers of a solvent corporation and upon him de- 
 volve all the duties of such officers as to the making of returns 
 and payment of tax. The fact that the business and property 
 of the corporation are temporarily in the hands of a receiver 
 does not alter the fact that the corporation is the beneficiary of 
 the income arising and accruing. If there is net income in 
 excess of credits, it is taxable, and the custodian of such income 
 is liable for the tax assessable thereon.^^* Where the property 
 of a corporation is placed in the hands of trustees to dissolve 
 the corporation, such trustees should make returns in the same 
 manner and form as corporations are required to make returns, 
 at least, unless they are merely engaged in marshalling, selling 
 and distributing the assets of the corporation.^^s gy^ where 
 trustees have taken the property of a Minnesota corporation at 
 the expiration of its charter and continue the business until 
 the property can be disposed of advantageously, it is held that 
 they are not trustees in dissolution, but are acting for them- 
 selves as trustees of a trust property. The full power and 
 control over the property being in the trustees, they are trustees 
 under a mere trust, and do not constitute an "association." i^" 
 A receiver whose duties extend through the end of the year 
 should prepare and file a corporate return for the entire taxable 
 year, including therein the gross income received by the corpora- 
 tion prior to the time of his appointment, and also the gross 
 
 134 Under the 1913 Law, as well as under the 1909 Law, there was no 
 express provision in the statute taxing corporations in the hands of re- 
 ceivers. Several cases under the 1909 Law held that that act did not impose 
 a tax on such corporations or any duties on the receivers thereof. (See 
 Pennsylvania Steel Co. v. New York City Railways Co., 193 Fed. 286; 198 
 Fed. 774, affirmed U. S. v. Whitridge, 231 U. S. 144; O. 1009, T. B. 11-20-787. 
 The 1909 Law was a tax on corporations doing business and it was held in 
 several cases that a corporation in the hands of receivers was not one doing 
 business within the meaning of those words as used in that act. Only one 
 decision seems to have been rendered under the 1913 Law, and in that casp 
 it was held that receivers were not subject to the income tax where the court 
 took possession of the property of an insolvent railroad company and oper- 
 ated the railroad. The funds in the hands of the receivers, represented by 
 the net proceeds in conducting the operation of the road, over and above the 
 authorized expenditure paid out by them, were held not to be subject to the 
 tax as "net earnings." (Equitable Trust Co. v. Western Pac. Ry. Co., 236 
 Fed. 814, affirmed Scott v. Western Pac. Ry. Co., 246 Fed. 545.) The ques- 
 tion was no longer left open under the express provisions of the 1916 Law. 
 
 135 0. D. 884, T. B. 16-21-1584. The trustees of an Ohio corporation would 
 be required to make a return in behalf of the corporation. They wholly 
 supersede the officers of the corporation. 
 
 136 O. D. 931, T. B. 22-21-1658. See paragraph, "Trusts not taxable as 
 associations," above. 
 
244 FEDERAL INCOME TAX 
 
 income received under his supervision.i^^ j^ jg not clear whether 
 a receiver is obliged to render a return for the period extending 
 from the end of a taxable year to the date when he concludes 
 his duties or is discharged, or whether such a return must be 
 made by the corporation. It would seem that the receiver is 
 responsible for a return covering that part of the year during 
 which he acted as receiver, but it has been held that a return may 
 be made by the corporation to whom the receiver returns the 
 corporate property for the full period including the part of the 
 year when the receiver was in control and the part after the 
 property is returned to the corporation.i^s 
 
 A receiver in charge of only part of the property of a corpora- 
 tion, however, as a receiver in mortgage foreclosure proceedings 
 involving merely a small portion of its property, need not make 
 a return of income.^^^ 
 
 The receiver liquidating the assets of an insolvent bank is 
 required to file a return for the bank, but in view of the fact 
 that the bank is insolvent he will have no tax to pay. The 
 return may contain a statement to that effect in lieu of the 
 data ordinarily required.i^o 
 
 Income Taxable in Hands of Trustee in Bankruptcy. It 
 has been held under the 1916 law that the only income taxable 
 in the hands of a trustee in bankruptcy is the income earned 
 by the trustee while operating the business of a bankrupt 
 corporation. Thus, funds representing the result of a com- 
 promise made by the trustee with a foreign corporation of a 
 claim for the nonpayment of salaries and commissions by the 
 foreign corporation to the bankrupt corporation as its agents 
 between the years 1910 and 1914 have been held to be exempt 
 from tax in the hands of the trustee in bankruptcy.!*^ 
 
 Income Taxable in Hands of Assignee. Income received 
 by assignees appointed by a corporation to liquidate its prop- 
 
 137 0. D. 73, T. B. 1-19-102; O. D. 884, T. B. 16-21-1584. 
 
 138 See O. D. 557, T. B. 25-20-1018; O. D. 873, T. B. 15-21-1565; O. D. 884, 
 T. B. 16-21-1584. 
 
 139 Reg. 45, Art. 622. 
 
 140 0. D. 114, T. B. 2-19-170. Such insolvent bank would have no tax to 
 pay because of § 22 of the Act of March 1, 1879, which provides that no tax 
 shall be assessed or collected or paid into the United States treasury on 
 account of a bank which has ceased to do business by reason of insolvency 
 or bankruptcy which shall diminish the assets thereof necessary for the full 
 payment of all depositors. No action will be taken against the receiver 
 until depositors' claims have been fully satisfied (O. D. 990, T. B. 
 32-21-1763). 
 
 141 In re Heller Hirsh & Co., 258 Fed. 208. 
 
CORPORATIONS 245 
 
 erty and business over a period of years, who have full power 
 of control and management thereof, is taxable. This is true 
 although the business conducted by the trustees in the process 
 of liquidation is not the business which the corporation orig- 
 inally started to conduct. This rule applies to all income 
 received by the trustees, including interest on bank deposits, 
 interest upon deferred payments, and gains upon sales of real 
 property."^ 
 
 Fiscal Year. A corporation is required to make returns and 
 pay the tax on the basis of its annual accounting period (fiscal 
 year or calendar year, as the case may be) in accordance with 
 the method of accounting regularly employed in keeping its 
 books, unless (a) no such method of accounting has been em- 
 ployed, or (b) the method employed does not clearly reflect in- 
 come. In case of (a) and (b) the computation of net income is 
 made on such basis and in such manner as in the opinion of the 
 commissioner does clearly reflect income. If the corporation's 
 annual accounting period is other than a fiscal year, or if the cor- 
 poration has no annual accounting period, or does not keep 
 books, its net income is computed on the basis of the calendar 
 year. In the event of any change of accounting period from 
 fiscal year to calendar year, or vice versa, or from one fiscal 
 year to another, net income is computed on the basis of such 
 new accounting period, subject to the rules outlined in a later 
 chapter.i*^ Reporting upon the basis of a fiscal year was for- 
 merly a privilege accorded to corporations and partnerships 
 only. It is now a requirement if the annual accounting period 
 of the corporation is a fiscal year. This subject is more fully 
 treated in another chapter.^** 
 
 Returns. The duty to make a return depends upon corporate 
 existence and not upon the receipt of income. Every corporation 
 not expressly exempt is required to make a return regardless of 
 the amount of its net income."^ Even a potential corporate 
 existence which may be called into action by the proper author- 
 ity without affecting the identity of the corporate body will be 
 sufficient to necessitate the filing of a return. Thus, where a 
 stockholder purchased the name, merchandise and business of 
 a Michigan corporation and as sole stockholder operated the 
 
 142 0; D. 853, T. B. 6-19-280; O. D. 931, T. B. 22-21-1658. See foot- 
 note 136. 
 
 1*3 Revenue Act of 1921, §§212, 232; Revenue Act of 1918, §§212, 232; 
 Reg. 45, Art. 25. 
 
 144 See ch. 34. 
 
 145 Reg. 45, Art. 621; 0. D. 882, T. B. 16-21-1582; O. D. 919, T. B. 
 20-21-1641. 
 
246 FEDERAL INCOME TAX 
 
 enterprise as an individual instead of as a corporation under 
 a "change of attitude" filed with the secretary of state, a cor- 
 porate return was required, because the corporation was not 
 dissolved, its powers being only suspended."" Copies of the 
 prescribed return forms will be furnished corporations by col- 
 lectors. Failure on the part of any corporation liable to tax 
 to receive a prescribed blank form will not, however, excuse 
 it from making the return. Corporations not supplied with the 
 proper forms should make application therefor to the collector 
 in ample time to have their returns prepared, verified and filed 
 with the collector on or before the due date. Each corporation 
 should carefully prepare its return so as fully and clearly to 
 set forth the data therein called for. Imperfect or incorrect 
 returns will not be accepted as meeting the requirements of the 
 statute. In lack of a prescribed form a statement made by a 
 corporation disclosing its gross income and the deductions there- 
 from may be accepted as a tentative return, and if filed within 
 the prescribed time a return so made will relieve the corporation 
 from liability to penalties, provided that without unnecessary 
 delay such a tentative return is replaced by a return made on 
 the proper form, or an extension of time is obtained."'^ 
 
 When Filed. Returns of income must be made by domestic 
 corporations (except those which are treated as foreign cor- 
 porations) on or before March 15th or the 15th day of the third 
 month following the close of the fiscal year for which the return 
 is required to be made."* 
 
 Extension of Time. A corporation desiring an extension of 
 time within which to file its return should submit to the col- 
 lector before the time for filing the return a tentative return 
 and estimate, accompanied by a remittance of not less than 
 one-fourth of the estimated amount of income and excess-profits 
 taxes for the taxable year. In such a case the collector may 
 grant a reasonable extension of time for filing the complete 
 
 146 0. D. 919, T. B. 20-21-1641; O. D. 1120, T. B. 48-21-1951. See para- 
 graph, "De Facto Corporations,'' above. 
 
 l« Reg. 45, Arts. 621 and 407 ; Reg. 33 Eev., Art. 203 ; Reg. 33, Art. 80. 
 Under the 1909 Law it was held that corporations of all kinds specified in 
 the act as subject to the tax were bound to file returns though their net 
 profits were not sufficient to render them liable to the tax (U. S. v. Military 
 Construction Co., 204 Fed. 153), and that the duty to make returns was not 
 limited to those the net profits of which were suflRcient to render them liable 
 to the payment of the tax. (U. S. v. Acorn Roofing Co., 204 Fed. 157.) 
 
 148 Revenue Act of 1921, §§ 227 (a), 241 (a) ; Revenue Act of 1918, §§ 227 
 (a), 241 (a). 
 
CORPORATIONS 247 
 
 return, not to exceed 30 days from the date on which the return 
 was originally due.i*^ 
 
 Where Filed. Corporate returns are filed with the collector 
 of the district in which is located the principal place of business 
 or principal oifice or agency of the corporation. If a domestic 
 corporation keeps its books of account and other data in a for- 
 eign country and has no principal place of business or principal 
 office in this country, the return should be made to the collector 
 in the district in which the corporation has its principal agency 
 in this country .150 jf j^ j^^s no such agency or branch office in 
 this country, the return should be made to the collector of the 
 district in which is located its statutory office ; that is, the office 
 required to be maintained in the state of incorporation in accord- 
 ance with the statutes of that state.i^i it js to be noted that a 
 corporate return is not ordinarily to be filed in the district in 
 which is located the statutory office, unless the corporation has 
 no principal place of business or principal office or agency from 
 which the return can be filed. The purpose of designating the 
 principal business office is for the convenience of the treasury 
 department in examining the books of the corporation and 
 verifying the return. Since the statute now expressly designates 
 the principal place of business or principal office or agency, the 
 filing of a return from another office may not be considered a 
 proper filing.^^^ 
 
 By Whom Filed. Eesponsibility for filing corporate returns 
 rests upon the principal officers of the corporation, although 
 there is no penalty on such officers personally for failure to file 
 returns. The only personal penalty on officers is for wilfully 
 refusing to make the return, pay the tax, supply information 
 required, or in any manner attempting to defeat or evade the 
 tax.153 
 
 How Signed and Sworn to. The return is required to be 
 sworn to by the president, vice president or other principal officer 
 of the corporation and by the treasurer or assistant treasurer, 
 
 149 See ch. 34. 
 
 150 Revenue Act of 1921, § 241 (b) ; Revenue Act of 1918, § 241 (b). 
 
 151 T. D. 2137. 
 
 152 The 1916 Law required corporate returns to be made "to the collector 
 of the district in which is located the principal office of the corporation, com- 
 pany or association, where are kept its books of account and other data 
 from which the return is prepared." The 1913 Law was less explicit and 
 might have been held to justify the filing of corporate returns from some 
 other office, but the present law and the 1918 Law, as well as the 1916 Law, 
 are open to no such construction. 
 
 153 Revenue Act of 1921, §253; Revenue Act of 1918, §253. 
 
248 FEDERAL INCOME TAX 
 
 and must be verified under the oath of such officers, except in the 
 cases where the return is filed by a receiver, trustee, or assignee, 
 or directors in the case of insolvency, in which cases the affidavit 
 on the return should be changed in accordance with the facts.i^* 
 When the treasurer or assistant treasurer of a corporation 
 is the only officer available to swear to the corporation return, 
 it is held to be pro tanto a sufficient compliance with the statute 
 if he signs and swears to the return as such treasurer or assist- 
 ant treasurer and signs also for the president, vice president 
 or other principal officer.i^s 
 
 Corporations Formed During the Year. A corporation or- 
 ganized during the year is required to make a return covering 
 that portion of the year during which it was in existence.i^^ 
 But the return must cover Only the period during which the 
 corporation was legally in existence.i^''^ Where a corporation 
 was organized to take over a partnership business in June and 
 the transaction is consummated as of the past January 1st, 
 the taxable period of the corporation will begin as of June.^^^ 
 The fact that a new corporation organized in the year has 
 transacted no business does not excuse it from making a re- 
 turn.158 Corporations which have applied for, but not received, 
 charters, or corporations which have received charters, but have 
 not perfected their organizations, transacted any business and 
 had any income whatever from any source, may, upon the pre- 
 sentation of these facts to the local collector be relieved from 
 the necessity of making returns so long as they remain in this 
 unorganized condition. In the absence of a proper showing 
 to the collector, such a corporation will be required to make a 
 retum.i^" When a distinct new corporation is organized to take 
 over the property of an old corporation, both corporations will 
 be required to make returns covering the periods of the year 
 during which they were each respectively in charge of the busi- 
 ness, or file a consolidated return.!®^ Where a contract provided 
 that on December 31, 1919, a new corporation should take over 
 the assets and liabilities of an old corporation as of October 4, 
 1919, it was held that the old corporation must make return for 
 
 154 Revenue Act of 1921, § 239; Revenue Act of 1918, § 239. See ch. 34. 
 
 155 O. D. 911, T. B. 19-21-1628. 
 
 156 Reg. 45, Art. 621 ; Reg. 33, Art. 84. 
 
 157 0. D. 1016, T. B. 35-21-1796. 
 
 158 O. D. 1121, T. B. 48-21-1952. 
 
 159 Reg. 46, Art. 621; O. D. 574, T. B. 27-20-1044; T. D. 2090. 
 iCOReg. 45, Art. 621; T. D. 2152; 0. D. 1120; T. B. 48-21-1951. 
 
 161 Reg. 33 Rev., Art. 206 ; T. D. 2137. But if there is a mere change in 
 domicile this will not be true (O. D. 1119, T. B. 48-21-1950). 
 
CORPORATIONS 249 
 
 the full year 1919, including the profit, if any, made from the 
 sale of its property to the new corporation. i*'^ 
 
 Change of Name or Domicile. A mere change in name 
 does not constitute a new corporation. If the business was con- 
 tinuous throughout the year, no change in management or 
 operation other than the change in name having occurred, the 
 return should be ' made covering the business transacted 
 throughout the year, such return to be made by the corporation 
 in the name which it bears at the end of the year, with a nota- 
 tion on the return to the effect that the name had been changed, 
 giving both the old and the new names.i*'^ Since in the conver- 
 sion of a state bank into a national bank there is not a dissolu- 
 tion of the corporation, but merely a change of title and the 
 extension of government supervision thereover, a bank so chang- 
 ing during the taxable year must file one return for the entire 
 year. 18* Where there is a mere change of domicile during the 
 year without change of business or in capital and surplus, only 
 
 one return is necessary for the operations of both corpora- 
 tions.185 
 
 Corporations Liquidating During the Year. A corpora- 
 tion entirely out of business, maintaining its corporate existence 
 merely for the purposes of liquidation, and still holding income- 
 producing investments not yet due, is required to file returns 
 for each year embracing the liquidating period.^^^ A corpora- 
 tion going into liquidation during any taxable year may upon 
 the completion of such liquidation prepare a "final return" 
 covering its income during the fractional part of the year dur- 
 ing which it was engaged in business and may immediately file 
 such return with the local collector.^'^^ Where a corporation is 
 
 162 0. D. 1025, T. B. 36-21-1808. 
 
 163 Reg. 33 Rev., Art. 206; T. D. 2137. 
 
 164 0. D. 476, T. B. 17-20-888; see also A. R. R. 285, T. B. 42-20-1252. 
 
 165 0. D. 1119, T. B. 48-21-1950. 
 
 166 O. D. 231, T. B. 12-19-406. 
 
 167 Reg. 45, Art. 651; Reg. 33 Rev., Art. 205; Reg. 33, Art. 85; T. D. 
 2209; T. D. 2090. This return should be filed by the directors or other 
 persons in charge of the winding up of the corporation. Under the Corpora- 
 tion Act of New Jersey (P. L. 1896, p. 295), which provides that corpora- 
 tions, however dissolved, are "continued bodies corporate for th^ purpose 
 of prosecuting and defending suits by or against them and of enabling them 
 to settle and close their affairs," and constitutes the directors trustees to 
 settle the business, the oflBcers of a corporation which had been dissolved 
 after becoming subject to the tax on its income of the preceding year, who 
 were also its directors, were held to have authority and to be under the duty 
 of making the return of such business required by the 1909 Law. (U. S. 
 v. General Inspection and Loading Co., 192 Fed. 223; 204 Fed. 657.) 
 
250 FEDERAL INCOME TAX 
 
 completely dissolved before the close of its taxable year, it has 
 the same time in which to file its final return as if it had con- 
 tinued its existence during its entire taxable year, and in case 
 it files its final return before the time provided by law it can 
 not be compelled at the time of filing such return to pay any 
 tax shown to be due thereon. The first installment of tax is due 
 on the date the return would have been due if it had covered the 
 full taxable year.i^s The treasury department will waive the 
 filing of evidence of the completion of liquidation required by 
 the Illinois statutes and will accept a final return from a cor- 
 poration, if accompanied by a certificate of the court showing 
 that all requirements of the law with regard to dissolution of 
 the corporation and distribution of its assets have been satis- 
 fied, except as to evidence of payment of federal income taxes, 
 and that actual winding up of the corporation merely awaits 
 formal court action. Upon payment of all federal income tax 
 shown to be due from the corporation, the collector will issue 
 the necessary receipt.^^^ It seems to be within the power of the 
 commissioner to declare the taxable period of a corporation 
 terminated at the time it is dissolved and to demand immediate 
 payment of the tax for such taxable period and the tax for the 
 preceding year or to require security for the payment thereof.^™ 
 This remedy is more fully discussed elsewhere in this book.^'^^ 
 Where a corporation, by aflSdavit or otherwise, has clearly estab- 
 lished the fact and satisfied the collector that it is defunct, 
 dissolved or obsolete and is no longer carrying on business and 
 has no property or income, returns will not be required after 
 such condition has been clearly established. Only one showing 
 of this character is required, unless it appears later that the 
 corporation has income."^ 
 
 Corporations in Hands of Alien Property Custodian. 
 The proper officers of a corporation that has been taken over 
 by the Alien Property Custodian should file a return for the 
 corporation up to the time the property was taken over by 
 the Alien Property Custodian. The board of directors ap- 
 pointed by the Alien Property Custodian is not required to 
 render a return for the corporation while in control of the 
 Alien Property Custodian."^ 
 
 168 0. D. 692, T. B. 42-20-1253. 
 189 0. D. 672, T. B. 39-20-1214. 
 
 170 Revenue Act of 1921, § 250 (g) ; Revenue Act of 1918, § 250 (g) ; O. 
 D. 692, T. B. 4-20-1253. 
 
 171 See Chapter 35. 
 
 172 T. D. 2137. 
 
 173 O. D. 148, T. B. 4-19-231. 
 
CORPORATIONS 251 
 
 Returns for Fractional Part of Year. In the case of a 
 corporation making its first return of income on the basis of a 
 fiscal year and in the case of a corporation changing its account- 
 ing period, whether from calendar year to fiscal year, from fiscal 
 year to calendar year, or from one fiscal year to another fiscal 
 year, a separate return for a fractional part of a year is required. 
 Such a return for a period of less than twelve months should be 
 made according to the rules discussed in another chapter.i'^* 
 
 Amended Returns Where Capital Charges Have Been 
 Made to Income. A corporation may submit amended returns 
 for previous years, when through wrong accounting prac- 
 tice, capital charges have been made to income. An affidavit 
 should be attached, explaining the changes made by such 
 amended returns and explaining why the original returns were 
 not properly prepared and the object of the company in pre- 
 paring amended returns. Such amended returns will be accepted 
 only when the erroneous charge can be specifically pointed out 
 and the facts proved. The treasury department reserves the 
 right to penalize for the making of false returns in the past.i^''' 
 
 Distribution of Earnings. There must be included in every 
 corporate return, or appended thereto, a statement of such facts 
 as will enable the commissioner to determine the portion of the 
 earnings or profits of the corporation (including gains, profits 
 and income not taxed) accumulated during the taxable year for . 
 which the return is made, which have been distributed or or- 
 dered to be distributed, respectively, to its stockholders or mem- 
 bers during such year.^'^^ 
 
 Consolidated Returns. The Revenue Act of 1921 gives affil- 
 iated corporations, for any taxable year beginning on or after 
 January 1, 1922, the option of making separate or consolidated 
 returns. If return is made on either of these bases, returns 
 made thereafter must be upon the same basis unless permission 
 to change is granted by the commissioner.^" The purpose of 
 and reason for this change may best be gathered from the report 
 of the chairman of the senate finance committee, in which the 
 following is stated :"s "Under existing law affiliated corpora- 
 tions are required to make consolidated returns. Owing to the 
 complexity of the consolidated return in certain instances, the 
 
 174 See Chapter 34; see Reg. 45, Art. 626; O. D. 352, T. B. 31-19-650. 
 
 175 O. D. 113, T. B. 4-19-231. 
 
 17<) Revenue Act of 1921, §239 (c). This is a new provision. 
 
 177 Revenue Act of 1921, § 240a. 
 
 178 See Report of Senate Finance Committee on Internal Revenue Bill of 
 1921, p. 20. 
 
252 FEDERAL INCOME TAX 
 
 corporations affected would prefer not to make such consoli- 
 dated return, although it benefits affiliated corporations when 
 one or more of them sustain a loss. The consolidated return is 
 necessary to prevent evasion under the excess-profits tax, but 
 this necessity will disappear when the excess-profits tax is 
 repealed." The Revenue Act of 1921 makes no change in its 
 definition of affiliated corporations, except that the accounts of 
 closely related trades or business may be consolidated, as is more 
 fully indicated below."" Like the 1918 law, the Revenue Act 
 of 1921 provides that "in any case in which a tax is assessed 
 upon the basis of a consolidated return, the total tax shall be 
 computed in the first instance as a unit and shall then be assessed 
 upon the respective affiliated corporations in such proportions 
 as may be agreed upon among them, or, in the absence of any 
 such agreement, then on the basis of the net income properly 
 assignable to each," and that there shall be allowed in computing 
 the income tax only one specific credit.^^" Since corporations 
 which are affiliated may file consolidated returns after January, 
 1922, and must file such returns for the years 1917, 1918, 1919, 
 1920 and 1921, it is important to consider the rulings and deci- 
 sions bearing upon the filing of consolidated returns under the 
 1918 and 1917 law.^^i The rulings discussed below were made 
 under the 1918 law, except as otherwise indicated. 
 
 Consolidated Returns Under 1918 Law. Under the 1918 
 law affiliated corporations were required to file consolidated re- 
 turns on Form 1120. The consolidated return was filed by the 
 parent or principal reporting corporation in the office of the 
 collector of the district in which it had its principal office. Each 
 of the other affiliated corporations filed in the office of the col- 
 lector of its district Form 1122, along with the several schedules 
 indicated thereon. The parent or principal corporation filing 
 a consolidated return included in such return a statement spe- 
 cifically setting forth (a) the name and address of each of the 
 subsidiary or affiliated corporations included in such return, 
 (b) the par value of the total outstanding capital stock of each 
 of such corporations at the beginning of the taxable year, (c) 
 the par value of such capital stock held by the parent corpora- 
 tion or by the same interests at the beginning of the taxable 
 
 1T9 Cf. Revenue Act of 1921, § 240 (c) ; Revenue Act of 1918, § 240 (b) . 
 See also Revenue Act of 1921, § 240 (d) and p. 258. 
 
 180 Cf. Revenue Act of 1921, § 240 (b) ; Revenue Act of 1918, § 240 (a). 
 
 181 The treasury department's practice of requiring consolidated excess- 
 profits tax returns for 1917 has now been validated (Revenue Act of 1921, 
 § 1331) . See footnote 209. 
 
CORPORATIONS 253 
 
 year, (d) in the case of affiliated corporations owned by the 
 same interests, a list of the individuals or partnerships consti- 
 tuting such interests, with the percentage of the total outstand- 
 ing stock of each affiliated corporation held by each of such in- 
 dividuals or partnerships during all of the taxable year, and 
 (e) a schedule showing the proportionate amount of the total 
 tax which it is agreed among them is to be assessed upon each 
 affiliated corporation.i^a The treasury department greatly pre- 
 ferred that the parent or principal reporting corporation take 
 up and pay the entire tax, making any desired adjustments 
 thereof by charging the affiliated corporations through their 
 own records. The amount reported by the subsidiary on Form 
 1122 as apportioned to it was used as the basis of assessment 
 and payment. If the subsidiaries reported an apportionment 
 in this manner, but the parent corporation had paid the tax 
 installments on account of such subsidiaries, an amended Form 
 1122 was required to be filed showing "none", in answer to the 
 question as to the amount of tax apportioned to it. If the last 
 condition obtained, but the taxpayer insisted upon apportion- 
 ment the collector of the subsidiary's district would request 
 abatement of such portion of the subsidiary's tax as might have 
 been previously paid by the parent corporation in another dis- 
 trict. As a basis for such advice, the latter collector secured 
 from the parent corporation a schedule showing apportionment 
 of the total tax and installments to the respective affiliated cor- 
 porations. If a subsidiary filed a tentative return and paid an 
 installment of the tax, it was assessed the amount shown on 
 Form 1122, and paid future installments as they fall due.^^s 
 Foreign corporations and personal service corporations were 
 not permitted to file consolidated returns.^^* 
 
 182 Reg. 45, Art. 632. 
 
 183 Mimeograph letter to collectors, I. T. — Mim. 2221 dated August 8, 
 1919; I. T. S. 1919, 1[3570. 
 
 184 Revenue Act of 1918, § 240. The English Finance Act of 1915 pro- 
 vided for the consolidated assessment of the excess profits duty in the case 
 of affiliated companies carrying on the same trade or business. Before the 
 regulations under the 1917 American Law were issued the American Insti- 
 tute of Accountants advocated the assessment of federal corporate taxes 
 upon the basis of consolidated returns in a brief, of which the following is 
 an extract: "If the rule which we advocate (consolidated returns) be 
 adopted the tax will be based on the real facts and determined by the rela- 
 tion between true income and the true investment of the group of com- 
 panies as a whole; and the latter course (consolidated returns) would im- 
 pose no additional burdens on anyone, since it is the course followed for all 
 practical purposes by the corporations themselves and recognized by 
 
254 FEDERAL INCOME TAX 
 
 Affiliated Corporations. The provision iss of the Revenue Act 
 of 1918 (and the Revenue Act of 1921) requiring affiliated cor- 
 porations to file consolidated returns is based upon the principle 
 of levying the tax according to the true net income and invested 
 capital of a single business enterprise, even though the business 
 is operated through more than one corporation. Where one cor- 
 poration owns the capital stock of another corporation or other 
 corporations, or where the stock of two or more corporations 
 is owned by the same interests, a situation results which is closely 
 analogous to that of a business maintaining one or more branch 
 establishments. In the latter case, because of the direct owner- 
 ship of the property, the invested capital and net income of the 
 branch form a part of the invested capital and net income of the 
 entire organization. Where such branches or units of a business 
 are owned and controlled through the medium of separate cor- 
 porations, a consolidated return is necessary in order that the 
 invested capital and net income of the entire group may be 
 accurately determined. Otherwise taxation may be evaded by 
 the shifting of income through price fixing, charges for services 
 and other means by which income could be arbitrarily assigned 
 to one or another unit of the group. In other cases without a 
 consolidated return excessive taxation may be imposed as a 
 result of purely artificial conditions existing between corpora- 
 tions within a controlled group.^^" 
 
 When Corporations Are Affiliated.^^t Corporations will 
 be deemed to be affiliated (a) when one domestic corporation 
 owns directly or controls through closely affiliated interests or 
 by a nominee or nominees substantially all the stock of the other 
 or others, or (b) when substantially all the stock of two or more 
 domestic corporations is owned or controlled by the same inter- 
 ests. The words "substantially all the stock" cannot be inter- 
 preted as meaning any particular percentage, but must be con- 
 strued according to the facts of the particular case. The owning 
 or controlling of 95% or more of the outstanding voting capital 
 stock (not including stock in the treasury) at the beginning of 
 and during the taxable year will be deemed to constitute an 
 affiliation within the meaning of the statute. Consolidated re- 
 bankers, economists and accountants as the only course which reveals the 
 true situation." (Journal of Accountancy, January, 1919.) 
 
 1S5 Revenue Act of 1921, § 240; Revenue Act of 1918, § 240. 
 
 186 Reg. 45, Art. 631. 
 
 1S7 The same corporations affiliated within the meaning of the rulings dis- 
 cussed in this paragraph will be affiliated within the meaning of the Reve- 
 nue Act of 1921. 
 
CORPORATIONS 255 
 
 turns may, however, be required even though the stock owner- 
 ship is less than 95%. When the stock ownership is less than 
 95 % , but in excess of 50 % , a full disclosure of affiliations should 
 be made, showing ail pertinent facts, including the stock owned 
 in each subsidiary or affiliated corporation and the percentage of 
 such stock owned to the total stock outstanding. Such statement 
 should preferably be made in advance of filing the return, with 
 a request for instructions as to whether a consolidated return 
 should be made. In any event such a statement should be filed 
 as a part of the retum.i^s if the stock ownership is less than 
 95%, corporations will not be deemed to be affiliated unless there 
 are revealed inter-company operating transactions or an arti- 
 ficial inter-corporate relationship. A 51% stock control will not 
 infrequently present such conditions; a 69% control will be in- 
 sufficient, without such conditions, to authorize a consolidated 
 return.189 Where practically all the stock of one corporation is 
 owned by another corporation, but the latter corporation has 
 deposited the same with an independent trust company under 
 an escrow agreement as collateral security to secure its preferred 
 stockholders in the redemption of their stock, and the independ- 
 ent trust company has legal title to the stock for the benefit of 
 such preferred stockholders with full and irrevocable right, 
 power and authority during the existence of such preferred stock 
 to vote the stock held by it, the two corporations are not affiliated. 
 The mere equity of the corporation formerly owning the stock 
 is not a direct ownership and the irrevocable voting power of 
 the trust company obviates any control.^"" 
 
 The words "the same interests" will be deemed to mean the 
 same individual or partnership or the same individuals or part- 
 nerships, but when the stock of two or more corporations is 
 owned by two or more individuals or by two or more partner- 
 ships, a consolidated return is not required unless the percentage 
 of stock held by each individual or each partnership is substan- 
 tially the same in each of the .affiliated corporations. ^^^ On ac- 
 
 188 Reg. 45, Art. 633. 
 
 189 A. R. R. 448, T. B. 14-21-1553. This was held in spite of the cumula- 
 tive voting provisions of the Ohio statutes and other provisions that a 
 majority of the board of directors which could be elected by the 69% inter- 
 est might select officers, and that a 60% interest might exercise practically 
 all important corporate powers. 
 
 190 A. R. R. 641, T. B. 43-21-1883. 
 
 191 Reg. 45, Art. 633. The ruling on this point should be the same under 
 the 1921 Law. In the case of two corporations, one owning and operating 
 property in the Hawaiian Islands, the other owning and leasing various 
 pieces of property in California, the stock of the California corporation was 
 
256 FEDERAL INCOME TAX 
 
 count of the disparity of holdings of the stockholders in the 
 corporations the treasury department would be unable in such 
 cases to compel the corporations' to pay a tax based upon a con- 
 solidated return, provided the corporations failed to pay such 
 tax voluntarily. Corporations will not be permitted to do what 
 they could not be required to do. Thus, an application to make 
 a consolidated return has been denied in the case of two com- 
 panies when 24.26% of the stock of the lirst company was owned 
 by individuals who held no stock whatever in the second com- 
 pany, and more than 6% of the stock of the second company was 
 held by individuals who held no stock whatever in the first com- 
 pany.192 Where 19 % of the stock of a corporation is owned by 
 minority interests, 13% of which is owned unconditionally by 
 one of the officers and where 39% of the stock of another cor- 
 poration is held by minority interests, 10% of which is held 
 unconditionally by a different oflScer, and in each instance the 
 oflScer has no other interest in the otherwise controlled corpo- 
 rations, there should be no consolidation.^^^ In a recent case a 
 
 held by the members of one family — four male members of the family, each 
 owning five-twenty-fourths, and a sister one-sixth of the entire stock; and 
 the stock of the Hawaiian Corporation was held by the same family prin- 
 cipally, with the exception that one-sixth of the stock was held by each of 
 the four male members aforementioned, one-sixth by the sister aforemen- 
 tioned, and one-sixth by the husband of a deceased sister to the other stock- 
 holders. Although the affairs and operations of the two corporations were 
 always actively conducted by and in the control of the male members of the 
 family, and although the two corporations were in purpose and effect only 
 one enterprise, the treasury department has ruled that the holdings of the 
 two companies were not so substantially in the same proportions as to re- 
 quire a consolidated return, and that these two corporations should file sepa- 
 rate returns. (Letter from treasury department dated April 11, 1919, I. T. 
 S. 1921, 112051.) 
 
 192 T. B. M. 32, T. B. 7-19-304; T. B. R. 521, T. B. 16-19-465. It is ques- 
 tionable whether this ruling is correct. Sec. 240 (b) provides as follows: 
 "For the purpose of this section, two or more domestic corporations shall 
 be deemed to be aflaiiated * * * (2) if substantially all the stock 
 of two or more corporations is owned or controlled by the same interests." 
 The substantial effect of the ruling is to add the following words to the 
 statute: ''provided tliat the percentage of stock held by each individual or 
 partnership is substayitially the same in each of the corporations." 
 
 193 A. R. R. 378, T. B. 5-21-1421. Neither of the two above officers were 
 related by blood or marriage, a relationship which may be an important 
 consideration. Inter-company loans upon which 6% interest was charged 
 and the fact that one of the companies sold to the other two on the basis 
 of cost plus handling charges were held not to affect the conclusion stated in 
 the text above, the other two corporations selling to the first at market 
 prices. A contract by which certain stockholders of the three companies, 
 including the officers above mentioned, agreed to assume' liability in proper- 
 
CORPORATIONS 257 
 
 corporation, the majority of whose stock was owned by its presi- 
 dent and manager, turned over a branch of its business to a 
 new company not incorporated, the president and manager of 
 the corporation retaining control of the new company. There 
 was no transfer of corporate assets. The new company simply 
 used the assets of the corporation without consideration of any 
 kind, but was operated as a separate enterprise. The treasury 
 department held the new company to be merely a branch of the 
 corporation and not a separate entity, with the result that its 
 income was required to be included in the return of the corpo- 
 ration.18* 
 
 Change in Ownership During Taxable Year. When one 
 corporation owns substantially all the stock of another corpora- 
 tion at the beginning of any taxable year, but during the taxable 
 year sells all or a majority of such stock to outside interests not 
 affiliated with it, or when one corporation during any taxable 
 years acquires substantially all the capital stock of another cor- 
 poration with which it was not previously affiliated, a full dis- 
 closure of the circumstances of such changes in ownership must 
 be submitted to the commissioner. In accordance with the pecu- 
 liar circumstances in each case the commissioner may require 
 separate or consolidated returns to be filed, to the end that the 
 tax may be equitably assessed.^^^ 
 
 Corporation Deriving Chief Income from Government 
 Contracts. In the case of any affiliated corporation organized 
 after August 1, 1914, and not a successor to a then existing busi- 
 ness, 50 per cent, or more of whose gross income consists of 
 gains, profits, commissions, or other income derived from a gov- 
 ernment contract or contracts made between April 6, 1917, and 
 November 11, 1918, both dates inclusive, the net income and 
 invested capital of such corporation will be taken out of the 
 consolidated net income and invested capital of the group of 
 aflSliated corporations and the corporation so segregated will be 
 separately assessed on the basis of its own invested capital and 
 net income, the remainder of such affiliated group being assessed 
 on the basis of the remaining consolidated invested capital and 
 net income.i^^ The income of affiliated corporations which is 
 
 tion to stockholdings to protect certain endorsements given on notes the 
 proceeds of which had been received by the corporations was also held im- 
 material, particularly in view of the fact the stockholdings had changed 
 since the making of the agreement. 
 
 194 0. D. 467, T. B. 16-20-866. 
 
 195 Reg. 45, Art. 634. 
 
 196 Reg. 45, Art. 635. 
 
258 FEDERAL INCOME TAX 
 
 derived from government contracts is taxable upon the basis of 
 the total sum received from that source by the group and not 
 upon the basis of the separate amount received by each corpo- 
 ration.197 
 
 Domestic Corporation Affiliated With Foreign Corpora- 
 tion Under 1918 Law. A domestic corporation which owns 
 a majority of the stock of a foreign corporation will not be per- 
 mitted or required, under the 1918 law, to include the net in- 
 come or invested capital of such foreign corporation in a con- 
 solidated return,i9s but a domestic corporation which owns a 
 majority of the voting stock of a foreign corporation is entitled 
 under that law to credit its income, war-profits and excess- 
 profits taxes with any income, war-profits or excess-profits taxes 
 paid (but not including taxes accrued) by such foreign corpo- 
 ration during the taxable year to any foreign country or to any 
 possession of the United States upon income derived from 
 sources without the United States in an amount equal to the 
 proportion which the ainount of any dividends received by such 
 domestic corporation from such foreign corporation during the 
 taxable year bears to the total taxable income of such foreign 
 corporation upon or with respect to which such taxes were paid. 
 But in no such case may the amount of the credit for such taxes 
 exceed the amount of such dividends received by such domestic 
 corporation during the taxable year.^^^ The rule with regard to 
 the affiliation of domestic and foreign businesses under the pres- 
 ent law is stated in the next paragraph. 
 
 Affiliation of Related Trades or Businesses. A new sub- 
 division is added to the provision for the filing of consolidated 
 returns by affiliated corporations giving the commissioner power 
 to consolidate the accounts of two or more closely related trades 
 or businesses (whether unincorporated or incorporated and 
 whether organized in the United States or not) for the purpose 
 of making an accurate distribution or apportionment of gains, 
 
 197 O. D. 415, T. B. 12-20-799. 
 
 198 Where a New Jersey corporation owned all of the outstanding stock 
 in a foreign corporation which in turn owned all of the outstanding stock 
 in a New York corporation, the treasury department required the two 
 domestic corporations to file a consolidated return, excluding the foreign 
 corporation. (Letter from treasury department dated April 23, 1919; I. T. 
 S. 1921,112056.) 
 
 199 Reg. 45, Art. 636 ; T. B. R. 36, T. B. 11-19-388. A domestic corpora- 
 tion seeking such credit must comply with those provisions of subdivision 
 (a) of Reg. 45, Art. 383, which are applicable to credits for taxes already 
 paid, except that in accordance with Article 611 the form to be used is 
 Form 1118 instead of Form 1116. 
 
CORPORATIONS 259 
 
 profits, income, deductions, or capital between or among such 
 related trades or businesses.^oo The official explanation of this 
 provision is that it "is necessary to prevent the arbitrary shift- 
 ing of profits among related businesses, particularly in the case 
 of subsidiary corporations organized as foreign trade corpora- 
 tions." 201 
 
 Consolidated Net Income of Affiliated Corporations. 
 Subject to the provisions governing the determination of taxable 
 net income of separate corporations, and subject further to the 
 elimination of intercompany transactions, the consolidated tax- 
 able net income will be the combined net income of the several 
 corporations consolidated, except that the net income of corpo- 
 rations deriving their chief income from government contracts 
 will be taken out. In respect of the statement of gross income 
 and deductions and the several schedules required under Form 
 1120, a corporation filing a consolidated return is required to 
 prepare and file such statements and schedules in columnar form 
 to the end that the details of the items of gross income and de- 
 ductions for each corporation included in the consolidation may 
 be readily audited.202 
 
 Different Fiscal Years of Affiliated Corporations. In 
 the case of all consolidated returns, consolidated invested capital 
 must be computed as of the beginning of the taxable year of the 
 
 200 Revenue Act of 1921, § 240 (d) . It is a question whether this provision 
 takes effect as of January 1, 1921 (see §263) or January 1, 1922, when 
 the remainder of the consolidated returns provision takes effect. 
 
 201 See Report of Senate Finance Committee on Internal Revenue Bill of 
 1921, p. 20. See also Report of Committee on Ways and Means, p. 14, in 
 which it is said of § 249, (240 (d) ) : "Subsidiary corporations, particularly 
 foreign subsidiaries, are sometimes employed to 'milk' the parent corpo- 
 ration, or otherwise improperly manipulate the financial accounts of the 
 parent company. To prevent this abuse, §249 (240), would give the Com- 
 missioner of Internal Revenue power to consolidate the accounts of two 
 or more related trades or businesses solely for the purposes of making 
 an accurate distribution of gains, profits, income, deductions, or capital 
 and not for the purpose of computing the tax on the basis of the con- 
 solidated return.'' 
 
 202 Reg. 45, Art. 637. A consolidated return for federal tax purposes is to 
 be distinguished from a consolidated statement for submission to stock- 
 holders. This is because, among other things, a foreign corporation will 
 not be deemed to be affiliated with a domestic corporation (Reg. 45, Art. 
 636), nor will a corporation 50% or more of whose gross income was derived 
 from government contracts made between April 6, 1917, and November 11, 
 1918, be deemed to be an affiliated corporation (Reg. 45, Art. 635). More- 
 over, in the case of two companies, one of which holds between 50% and 95% 
 of the stock of the other, a consolidated return might not be required by 
 the treasury department. 
 
260 FEDERAL INCOME TAX 
 
 parent or principal reporting company and consolidated income 
 must be computed on the basis of its taxable year.^os Whenever 
 the fiscal year of one or more subsidiary or other affiliated cor- 
 porations differs from the fiscal year of the parent or principal 
 corporation, the commissioner should be fully advised by the tax- 
 payer in order that provision may be made for assessing the tax 
 in respect of the period prior to the beginning of the fiscal year 
 of the parent or principal company.20* In any case where an 
 affiliated corporation has made its income tax return on the basis 
 of a taxable year different from that on the basis of which a 
 consolidated excess-profits tax return in which it is included has 
 been made, an amended income tax return may be made on the 
 basis of the same taxable year as the consolidated return, even 
 though notice was not given within the time prescribed.^os In 
 such case an amended income tax return should also be made for 
 any unaccounted for portion of the corporation's taxable year.^of 
 
 Liberty Bond Exemption in Case of Affiliated Corpora- 
 tions. In case of consolidated returns, affiliated corporations 
 are treated as if they were not affiliated and each corporatioh is 
 entitled to the same full benefits under the exemption provisions 
 of the several Liberty Bond Acts to which it would be entitled if 
 separate returns were made.^o^ 
 
 Claims for Credit or Refund. A claim for credit or refund 
 of excess tax paid by one of affiliated corporations can be made 
 only by the corporation entitled to receive such credit or refund. 
 With respect to refunds, credits, and additional assessments 
 each affiliated corporation occupies a status similar to that of 
 an independent and unaffiHated corporation. An additional tax 
 assessed for the year 1918, on the basis of the consolidated re- 
 turn for that year, must be apportioned among affiliated corpo- 
 
 2i'3 Letter from treasury department dated May 20, 1919; I. T. S. 1921, 
 § 2044. Under the Act of October 3, 1917, it was held that the consolidated 
 return should be made on the basis of the fiscal year of the parent company. 
 As to past periods, the income of subsidiaries was to be computed to the 
 date of the fiscal year of the parent company, and where the accounts 
 did not disclose the profits earned as of such dates, estimates were accepted 
 subject to a correct accounting at the close of the succeeding year. (Letter 
 from treasury department dated March 23, 1918; W. T. S. 1918, If 913.) 
 
 204 Reg. 45, Art. 638. 
 
 205 Reg. 33 Rev., Arts. 211-215; Reg. 45, Art. 26; See Reg. 41, Arts. 77 
 and 78; T. D. 2662. 
 
 206 T. D. 2805. 
 
 207 Letter from treasury department dated May 21, 1919; W. T. S. 1921, 
 H 736, H 1046 ; revising letter from treasury department dated April 5, 
 1919; W. T. S. .1919, 1[1038; letter from treasury department dated April 
 16, 1919, U 1039; T. B. R. 7, T. B. 2-19-171. See Chapter 18. 
 
CORPORATIONS 261 
 
 rations, and to the extent that each debtor corporation is entitled 
 to receive back a part of taxes paid in prior years, a claim for 
 credit may be filed and the amount of additional tax each sub- 
 sidiary is required to pay may be reduced thereby by the amount 
 it is entitled to receive. In case the amount payable to the sub- 
 sidiary exceeds its proportionate part of the additional tax as- 
 sessed under the consolidated return, it may file a claim for 
 refund for the diflference.^os 
 
 Preparation of Consolidated Balance Sheets. In the 
 preparation of consolidated balance sheets it is extremely im- 
 portant (1) to reconcile inter-company current accounts, allo- 
 cating any differences to the proper asset or liability account, 
 which includes the surplus or undivided profits account in case 
 of the adjustment of income or expense items, (2) to eliminate 
 inter-company holdings of capital stock, (3) to eliminate the 
 surplus of the subsidiary companies when the capital stock 
 thereof was purchased by the parent or holding company, for 
 an amount equal to, or greater than, the par value of the capital 
 stock plus the surplus of the subsidiary companies at the date 
 of such purchase. When the book value of a subsidiary company 
 in the balance sheet of the holding or parent company is greater 
 than the par value of the stock plus the surplus of the subsidiary 
 at the time of acquisition, the excess should be charged to good 
 will. When it is less, the difference should be credited to surplus, 
 unless there is good will of a greater amount either (1) on the 
 accounts of the holding or parent company or of the subsidiary 
 bompany, or (2) arising from purchases of stocks of other sub- 
 sidiary companies. If good will is not shown separately, the 
 debits and credits should be made to the account in which good 
 will is included, instead of to good will or surplus. Where one 
 company does not own the entire capital stock of a subsidiary 
 company, it is customary to show the capital stock of the subsid- 
 iary company plus the surplus attributable thereto, owned by 
 other stockholders on the consolidated balance sheet as a distinct 
 obligation to such stockholders. Inventories in consolidated ac- 
 counts should be carefully scrutinized and adjustments made 
 eliminating any inter-company profits reflected therein. 
 
 Consolidated Returns Under the 1917 Law. For the year 1917 
 affiliated corporations and partnerships were permitted or re- 
 quired to file consolidated returns for the purpose of the excess- 
 profits tax. Some doubt exists concerning the legality of this 
 procedure and in order to set all doubts at rest provision is made 
 in the Revenue Act of 1921 validating the practice of the treas- 
 
 208 O. D. 683, T. B. 41-20-1237. 
 
262 FEDERAL INCOME TAX 
 
 ury department in this respect under that law.209 The present 
 law provides that a corporation, or partnership, was affiliated 
 within the meaning of the 1917 law "with one or more corpora- 
 tions or partnerships (1) when such corporation or partnership 
 owned directly or controlled through closely affiliated interests 
 or by a nominee or nominees all or substantially all the stock 
 of the other or others, or (2) when substantially all the stock 
 of two or more corporations or the business of two or more part- 
 nerships was owned by the same interests : Provided, That such 
 corporations or partnerships were engaged in the same or a 
 closely related business, or one corporation or partnership bought 
 from or sold to another corporation or partnership products or 
 services at prices above or below the current market, thus ef- 
 fecting an artificial distribution of profits, or one corporation 
 or partnership in any way so arranged its financial relationships 
 with another corporation or partnership as to assign to it a dis- 
 proportionate share of net income or invested capital." Public 
 service corporations which (1) were operated independently, 
 02) were not physically connected or merged and (3) did not 
 receive special permission to make a consolidated return, are 
 not affiliated; but a railroad or other public utility which was 
 
 209 Revenue Act of 1921, § 1331. See Report of Committee on Ways and 
 Means on Revenue Bill of 1921, p. 16; Report of Finance Committee, p. 34. 
 The fact that one corporation held the entire capital stock of another 
 and that the two were component parts of one business unit or system did 
 not ordinarily, under the 1916 Law, destroy the separate entities of the 
 two corporations. As a general rule corporations as such were subject to 
 the tax, not the business organizations of which the corporations might be 
 a part. Every corporation was considered to be a distinct entity regard- 
 less of its relation to any other corporation. Where a parent corpora- 
 tion owned all or practically all of the stock of subsidiary companies, each 
 was required to make a return accounting in detail for their separate gross 
 incomes and deductions, and each was generally required to pay the tax on 
 the net earnings shown by such return. The parent company was not 
 permitted to report the gross income of all subsidiaries and deduct there- 
 from the gross expenses. (T. D. 2137; T. D. 2090.) The net earnings of the 
 subsidiary companies turned over to the parent company were to be 
 treated as dividends, notwithstanding the earnings out of which the 
 dividends were paid were also subject to tax, as against the subsidiary 
 companies. In U. S. v. Nipissing Mines Co., 206 Fed. 431, 234 U. S. 765, 
 decided under the 1909 Law, it was held that although the affairs of the 
 holding and operating company were closely connected and they had oflBcers 
 in common, the distinct corporate existence of each should not be ignored 
 and the holding company should not be treated as being engaged in the 
 business of the operating company. It was held in an early ruling that the 
 fact that a corporation had a number of subsidiaries only for the purpose 
 of protecting trade brands, trade marks and trade names was immate- 
 rial; that the liability to make separate returns attached to each subsi- 
 
CORPORATIONS 263 
 
 owned by an industrial corporation and was operated as a plant 
 facility or as an integral part of a group organization of affili- 
 ated corporations which were required to file a consolidated re- 
 turn, are afiiliated.^i" 
 
 Special Returns oif Corporations. In addition to the above 
 mentioned returns required to be filed by every corporation not 
 exempt from tax, several special returns are required annually 
 or at such times as the commissioner may request of every cor- 
 poration. 
 
 Report of Dividend Payments. Every corporation, including 
 a personal service corporation, when requested by the commis- 
 sioner, is required to render a correct return of its payments of 
 dividends, stating the name and address of each stockholder, 
 the number of shares owned by him, and the amount of dividends 
 
 diary company by reason of the fact that it was a separate and distinct 
 entity. If such subsidiary had no net income or -earnings and no expense 
 of operations, and if the earnings accrued direct to the parent company, 
 which also paid direct the operating expenses of the subsidiaries, those 
 facts should be set out in the return of the subsidiary, but they did 
 not operate to release the subsidiary from liability to make a return. 
 (T. D. 2161.) If subsidiary corporations existed in name only, or were 
 mere agents or integral parts of the parent corporation and as such, 
 transacted no business and had no income of and for their own account, 
 and incurred no expenses, all business being transacted, all income being 
 received and all expenses being paid directly by the parent company, no 
 separate accounts being kept by or for such subsidiaries, it was considered 
 that such subsidiary concerns had no taxable income. In such cases, how- 
 ever, such subsidiary corporations were required to make returns and 
 indorse thereon a statement to the effect that the corporation making the 
 return was a subsidiary or integral part of the parent company (naming 
 it) and that, for its own account, it had no income from any source what- 
 ever, that it made no disbursements, and that all the business done in its 
 name was done for the account of and was the business of the parent corpo- 
 ration, and would be accounted for in the return of such parent corpo- 
 ration. This ruling (Reg. 33 Rev., Art. 208) was not intended to cover 
 those subsidiary corporations which actually transacted business in their 
 own names, received income for their own account, which incurred and paid 
 expenses incident to the production of such income, which kept separate 
 books of account, and which, as separate entities, exercised all the powers 
 and functions authorized by their charters. Corporations of this character 
 were required to pay the income tax on the net income received by them 
 from all sources, regardless of the fact that such net income was paid 
 or turned over to a parent or holding company, by whom it was also re- 
 turned for the purpose of the tax. 
 
 210 Revenue Act of 1921, § 1331; T. D. 2662; Reg. 41, Arts 77, 78; Letter 
 from treasury department dated April 17, 1919; I. T. S. 1921, 112049; A. 
 R. R. 123, T. B. 22-20-976; A. R. R. 624, T. B. 38-21-1834; A. R. R. 641, 
 T. B. 43-21-1888. 
 
264 FEDERAL INCOME TAX 
 
 paid to him.211 This return is for the purpose of supplying the 
 government with information with which the returns of stock- 
 holders may be compared, and is more fully discussed in another 
 chapter. 
 
 Keport of Income Payments. All corporations, in whatever 
 capacity acting, including lessees or mortgagors of real or per- 
 sonal property, fiduciaries 212 and employers, making payment 
 to any individual, corporation or partnership of interest, rent, 
 salaries, wages, premiums, annuities, compensations, remunera- 
 tions, emoluments, or other fixed or determinable gains, profits 
 and income (other than dividends and the payments described 
 in the following paragraph) of $1,000 or more in any taxable 
 year, are required to make returns in regard thereto to the 
 commissioner, setting forth the amount of such payments and 
 the names and addresses of the recipients. In the case of pay- 
 ments of interest upon its bonds, mortgages or deeds of trust or 
 other similar obligations, such return is required from a corpo- 
 ration regardless of the amount paid.^is This return is for the 
 purpose of supplying the treasury department with information 
 to be used in auditing the returns of the taxpayers to whom the 
 income is paid, and is more fully discussed in a later chapter.^i* 
 
 Reports by Brokers. Every corporation doing business as a 
 broker^is is required, when called upon by the commissioner, to 
 make a return showing the names of its customers with such 
 details as to the profits, losses or other information which the 
 commissioner may require, as to each of such customers, as will 
 enable the commissioner to determine whether all income tax 
 due on the profits or gains of such customer has been paid.^i" 
 This report is for the purpose of information at the source and 
 is more fully discussed in a later chapter.^i'? 
 
 Payment of the Tax. Ordinarily the tax of corporations is paid 
 in the same manner and subject to the same rules as the tax of 
 
 211 Revenue Act of 1921, §254; Revenue Act of 1918, §254. See the 
 definition of the term "dividend" in § 201. 
 
 212 See Chapter 39. It will be noted in this provision the Commissioner 
 is given discretion to require or not to require such returns. 
 
 213 Revenue Act of 1921, §256; Revenue Act of 1918, §256. 
 
 214 See Chapter 39. 
 
 215 The Revenue Act of 1921 and the Revenue Act of 1918 omit the 
 clause defining brokers, "on any exchange or board of trade or other sim- 
 ilar place of business," which appeared in the 1916 Law. 
 
 216 Revenue Act of 1921, § 255 ; Revenue Act of 1918, § 255. 
 
 217 See Chapter 39. It will be noted that under this provision the Com- 
 missioner is given discretion to require or not to require such returns. 
 
CORPORATIONS 265 
 
 individuals.218 Certain special rules applicable to the payment of 
 the tax by corporations are set forth in the following paragraphs. 
 Liability for Tax After Dissolution. When a corporation 
 is dissolved its affairs are usually wound up by a receiver or 
 trustees in dissolution. The corporate existence is continued for 
 the purpose of liquidating the assets and paying the debts, and 
 such receiver or" trustees stand in the stead of the corporation 
 for such purposes. Any sales of property by them are to be 
 treated as if made by the corporation, for the purpose of ascer- 
 taining the gain or loss. Any profit or loss resulting from the 
 sale of capital assets by the trustees or receiver during the 
 process of liquidation is to be merged with the profit or loss 
 resulting from the regular business of the corporation during 
 the same taxable year prior to the taking over of the affairs of 
 the corporation by the trustees or by the receiver.^i^ No gain 
 or loss is realized by a corporation from the mere distribution 
 of its assets in kind upon dissolution, however they may have 
 appreciated or depreciated in value since their acquisition.220 
 
 218 See Chapter 35. 
 
 219 Letter from treasury department dated October 24, 1919; I. T. S. 1921, 
 H 1031. '} 
 
 220 Reg. 45, Art. 547; In re Heller Hirsh & Co., 258 Fed. 208. See also 
 Reg. 33 Rev., Art. 205; Reg. 33, Art. 85; T. D. 2209; T. D. 2090. Where 
 the officers and directors (being all the stockholders) of a manufacturing 
 company had for many years fraudulently converted to their own use as divi- 
 dends sums which should have been paid to the government as taxes, and 
 where the company had become insolvent and a sale of the company's prop- 
 erty did not satisfy the government's lien, it was held that there is jurisdic- 
 tion in equity, on the ground of inadequacy of remedy at law, for the appoint- 
 ment of a receiver and for impounding the company's tangible and intangible 
 assets, wrongfully in the hands of the stockholders, and applying them to 
 the payment of the company's obligations to the government. It was not 
 necessary that the government first obtain a judgment. (United States v. 
 Capital City Dairy Co.; 252 Fed. 900.) It was held on demurrer under the 
 Corporation Excise Tax Law of 1909 that a corporation could not evade lia- 
 bility for the tax by dissolving before the time when it was required to 
 make a return. (U. S. v. General Inspection & Loading Co., 192 Fed. 223.) 
 When the same case came before the court for trial, it was held that notice 
 addressed to the defendant at the place of its principal office at the time 
 of its dissolution, presumptively received, was sufficient to warrant the col- 
 lection of penalties (204 Fed. 657). Corporations which were dissolved in 
 1917, prior to the passage of the 1917 law, were held subject to tax under 
 the 1916 law, as amended, and also under the 1917 law. A corporation so 
 situated was required to make a return covering the period in 1917 during 
 which it was in business prior to its dissolution. If it should previously 
 have made a return covering this period and paid any excess-profits tax 
 under the act of March 3, 1917, it credited the amount of such tax against 
 any excess-profits tax assessable against it under Title II of the act of 
 
266 
 
 FEDERAL INCOME TAX 
 
 Collection of Tax From Assets. The Revised Statutes,22i 
 as amended, provide generally with reference to internal reve- 
 nue taxes that: "If any person liable to pay any tax neglects 
 or refuses to pay the same after demand, the amount shall be a 
 lien in favor of the United States from the time when the assess- 
 ment list was received by the collector, except when otherwise 
 provided, until paid, with the interest, penalties and costs that 
 may accrue in addition thereto, upon all property and rights 
 belonging to such person." The present law and the Revenue 
 Act of 1918 provide 222 that "all administrative, special, or stamp 
 provisions of law, including the law relating to the assessment 
 of taxes, so far as applicable, are hereby extended to and made 
 a part of this act." The condition to the above lien, which gives 
 the government a preference over general creditors, is a receipt 
 of an assessment list by the collector. When returns under the 
 1918 law were received at the collector's offices, they were exam- 
 ined and listed before being forwarded to the commissioner. If 
 it appeared that the tax was greater or less than shown in the 
 return, the tax was recomputed. After checking the figures the 
 commissioner assessed the tax on the basis of the collectors' lists. 
 The collectors then sent out bills for the taxes, either as com- 
 puted by the taxpayer or as recomputed.223 This procedure is 
 different from the procedure under the 1916 law. Under that 
 law it was the duty of the commissioner to send to each col- 
 lector a list of the companies liable for tax in his district, show- 
 ing the amounts for which they were liable within such time 
 that the collector might give the required notice of assessment 
 on or before June 1 and upon such lists the collections were 
 made. The present law, except with regard to a "tax or defi- 
 ciency!' discovered upon examination of a return, does not seem 
 to require any different procedure from that adopted under the 
 1918 law. 
 
 Under the provision of the Revised Statutes above quoted th^ 
 lien was fixed upon the assets of the corporation when this list 
 came into the collector's hands. It is doubtful whether the com- 
 missioner's assessment under the Revenue Act of 1918 "upon 
 the basis" of the collectors' lists constituted a technical compli- 
 
 October 3, 1917. (Reg. 33 Rev., Art. 61.) This, ruling was made on 
 authority of Brady v. Anderson, 240 Fed. 666, writ of certiorari denied, 
 244 U. S. 654. (See letter from treasury department dated November 17, 
 1917; L T. S. 1918, 1[1085). 
 
 221 R. S., §3186. 
 
 222 Revenue Act of 1921, § 1300; Revenue Act of 1918, § 1305. 
 
 223 Reg. 45, Art. 1012. 
 
CORPORATIONS 267 
 
 ance with the above provision of the Revised Statutes giving a 
 lien, unless the commissioner after his assessment forwarded 
 lists to the collectors which were "received" by them. When 
 additional taxes were assessed under the Revenue Act of 1918, 
 lists containing the names of taxpayers liable to such additional 
 taxes and the amounts thereof were forwarded to the collectors 
 from time to time. The government's lien, with respect to 
 these additional taxes, commenced when these lists were received 
 by the collectors. Under the present law this practice in regard 
 to additional taxes — "a tax or a deficiency in tax" — will probably 
 be continued. If a corporation has distributed all of its assets 
 and become dissolved prior to the time when the list carrying 
 an assessment against it is received by the collector, the tax is 
 not collectible upon notice and demand followed by distraint.22* 
 The corporation is not in existence; it has distributed its assets 
 before any lien attached to them. No personal liability for addi- 
 tional taxes will ordinarily be incurred by the officers of a cor- 
 poration or liquidating agents in charge thereof on the distri- 
 bution of the assets of the corporation, provided they have paid 
 all taxes theretofore assessed.225 
 
 Notice op Lien. The government's lien is not valid as against 
 any mortgagee, purchaser or judgment creditor unless perfected 
 as outlined in another chapter. 226 
 
 Recovery Against Stockholders. Although the statutes 
 provide for a lien, this particular remedy for collecting the tax 
 is not exclusive, and the government may resort to the common- 
 law method of collecting the same-^z^ The dissolution of a cor- 
 poration does not extinguish its liabilities and through the courts 
 of equity creditors may pursue its assets into the hands of any 
 person who is not a bona fide purchaser. The sale of the entire 
 capital stock of a corporation and the distribution of the pro- 
 ceeds of the sale among the stockholders will not defeat or im- 
 pair the remedy of creditors, if any debts remain unpaid, as the 
 creditors in that event may pursue the proceeds of the sale in 
 the hands of the respective stockholders and compel each one to 
 contribute pro rata toward the payment of the debts to the ex- 
 tent of the moneys received on the distribution.228 This remedy 
 is open to the government in the same manner as it is to any 
 
 224 0. D. 769, T. B. 1-21-1378. 
 
 225 0. D. 863, T. B. 16-21-1583. 
 
 226 See Chapter 35. 
 
 227 Dollar Savings Bank v. U. S., 19 Wall. 227. 
 22s Railroad Co. v. Howard, 7 Wall. 392. 
 
268 FEDERAL INCOME TAX 
 
 other creditor for the collection of the tax,229 but not for collec- 
 tion of the penalty for failure to file returns.^so Where a Mon- 
 tana corporation sold all its property and distributed the pro- 
 ceeds to the stockholders and became dissolved, the additional 
 tax imposed by the Revenue Act of 1916 retroactively from 
 January 1, 1916, to the date of dissolution may be collected from 
 the stockholders to whom the corporate assets have been dis- 
 tributed.231 If certain of the stockholders are without assets 
 and fail to pay their pro rata share, the remaining stockholders 
 are responsible for the payment of the tax to the extent of the 
 value of the assets of the corporation received by them regard- 
 less of their pro rata share under the principle known as the 
 "trust fund" doctrine in respect of corporations. 2^2 
 
 Reorganization Prior to Attachment of Lien. In cases 
 where corporations liable for additional taxes, not yet assessed 
 and paid, dispose of their assets as an incident of a reorganiza- 
 tion, the liability of the new corporation may depend largely on 
 the form of the transaction. Upon such a reorganization the new 
 corporation may acquire the stock of the old corporation in ex- 
 change for its own stock and then dissolve the old corporation, 
 taking over all its assets. In that case the new corporation is 
 the stockholding distributee of the corporate assets of the old 
 corporation, and is liable to the extent of the value of the assets 
 so received. On the other hand, the new corporation may pur- 
 chase the assets of the old, paying therefor in its own stock, in 
 which event it does not stand in the position of a stockholder 
 receiving a dividend in liquidation. If there is an agreement to 
 assume the liabilities of the old corporation, it may be that the 
 new corporation is liable to a greater extent than the value of 
 
 229 0. D. 769, T. B. 1-21-1378; 0. D. 883, T. B. 16-21-1583; 28 Op. Atty. 
 Gen. 241. See U. S. v. Capital City Dairy Co., 252 Fed. 900 and Note 220. 
 
 230 T. D. 1852. In the case of U. S. v. General Inspection and Loading 
 Co., 192 Fed. 223, 204 Fed. 657, judgment was entered for tax, penalty 
 for delay in the payment of the tax, and interest, under the 1909 Law, 
 notwithstanding the fact that the corporation had been previously dis- 
 solved. But in this case the assets had not been distributed. 
 
 231 U. S. V. McHatton, 266 Fed. 602; T. D. 3043, T. B. 29-20-1078; 0. D. 
 597, T. B. 29-20-1079; A. R. R. 43, T. B. 12-20-794. In the McHatton case 
 the court said: "Although taxes are not debts, and in respect to them the 
 government is not a creditor, both being of higher nature, no reason is 
 perceived why they are not within the principle that those who gratuitously 
 take all a debtor's property, to the extent thereof, may be held to respond 
 for his present debts and obligations, inchoate or vested, or for the damages 
 thereby inflicted — the sometime 'trust fund' doctrine, so far as corporations 
 are concerned.',' See also 0. D. 75, T. B. 1-19-107. 
 
 232 0. D. 707, T. B. 43-20-1269. 
 
CORPORATIONS 269 
 
 the property or assets received. But in the absence of such an 
 assumption it would seem that the liability of the new company 
 would be limited to the value of the assets received. It is doubt- 
 ful whether there can be any liability in excess of the assets re- 
 ceived, on the theory of novation. Whether or not the govern- 
 ment has a prior claim on the assets of the new corporation for 
 the satisfaction of a contractual liability arising from an agree- 
 ment to assume the liabilities of the old company or otherwise 
 is not clear, although some federal 'Cases seem to point to such 
 priority. 
 
 Abatement and Refund. The principles controlling abatement 
 and refund of taxes claimed from or paid by corporations are 
 generally the same as those applying to individuals and are 
 treated in another chapter .^ss it has been held with regard to 
 claims for credit in the case of corporations that under the 
 statutes of New Jersey providing for a merger or consolidation 
 of corporations resulting in the formation of another corpora- 
 tion, which in effect shall represent predecessor corporations in 
 the enforcement of their rights, the successor corporation is 
 entitled to file a claim for credit on account of -overpayment of 
 taxes by the predecessor corporation.^^* 
 
 Withholding the Tax at the Source. No withholding takes 
 place on payment of income to domestic corporations. Such 
 corporations are required to withhold the tax on payments of 
 fixed or determinable and annual or periodical gains, profits and 
 income to nonresident aliens, and nonresident foreign corpora- 
 tions and on payment of bond interest as indicated in another 
 chapter.235 
 
 Foreign Items. Corporations undertaking as a matter of busi- 
 ness ^and for profit the collection of foreign items are required 
 to obtain a license in the manner more particularly set forth in 
 another chapter.^^o 
 
 Examination of Corporate Records. All corporate books, pa- 
 pers, records or memoranda are subject to examination by any 
 revenue agents or inspectors designated by the commissioner for 
 the purpose of ascertaining the correctness of returns which have 
 been made, or making a, return where none has been made, in 
 
 233 See Chapter 37. 
 
 234 0. D. 950, T. B. 24-21-1690. 
 
 235 See Chapter 40. Under the 1916 Law, as amended, corporations were 
 required to withhold the tax on dividend payments to non-resident foreign 
 corporations, but this is no longer required. 
 
 236 Revenue Act of 1921, §259; Revenue Act of 1918, §259. See Chapter 
 40. 
 
270 FEDERAL INCOME TAX 
 
 accordance with and subject to certain rules which are discussed 
 at length in another chapter.^s^ 
 
 Penalties. Corporations or their officers or employees are sub- 
 ject in certain cases to penalties, both specific and ad valorem, 
 for failing or refusing to make returns, supply information, pay 
 or collect any tax or for willfully attempting in any manner to 
 defeat or evade the tax. Such penalties are more particularly 
 discussed in another chapter.^ss 
 
 Personal Service Corporations. Personal service corpora- 
 tions,239 as such, were not subject to the tax imposed by the 
 Revenue Act of 1918, and the tax imposed by the present law 
 for the year 1921, their individual stockholders being "taxed in 
 the same manner as the members of partnerships. After De- 
 cember 31, 1921, they are taxable in the same manner as other 
 corporations.240 
 
 Transportation Systems. For the purpose of the act 2*1 provid- 
 ing for the operation, of transportation systems while under 
 federal control four-fifths of the tax — or a tax of 8% — on the 
 net income of corporations in excess of credits for the calendar 
 year 1919 and each calendar year thereafter, is treated as levied 
 by an act in amendment of Title I of the Revenue Act of 1917.^*2 
 The act providing for the operation of transportation systems 
 while under federal control and for the just compensation of 
 their owners provided that every agreement entered into pur- 
 suant thereto between the President and the transportation sys- 
 tems covering the operation thereof while under federal control 
 and the just compensation of the owners thereof should provide 
 that any federal taxes "under the act of October third, nineteen 
 hundred and seventeen, or acts in addition thereto or in amend- 
 ment thereof, commonly called war taxes," assessed for the 
 period of federal control beginning January 1, 1918, or any part 
 of such period, should be paid by the carrier out of its own 
 funds or charged against or deducted from the just compensation 
 stipulated in the agreement. Other taxes assessed under federal 
 or any other governmental authority for the period of federal 
 control or any part thereof either on the property used or on 
 
 237 See Chapter 38. This chapter also discusses the new provision of the 
 Revenue Act of 1921 against unnecessary examinations or investigations. 
 
 238 See Chapter 36. 
 
 239 The subject of personal service corporations is treated in full in Chap- 
 ter 9. 
 
 240 Revenue Act of 1921, §218; Revenue Act of 1918, §218. 
 
 241 Act of March 21, 1918. 
 
 242 Revenue Act of 1918, § 230 (b) . For the calendar year 1918 five-sixths 
 of the tax — or a tax of 10% — was so treated. 
 
CORPORATIONS 271 
 
 the right to operate as a carrier or on the revenues or any part 
 thereof derived from operation (not including, however, assess- 
 ments for public improvements or taxes assessed on property 
 under construction and chargeable under the classification of the 
 interstate commerce commission to investment in road and 
 equipment) w^ere provided to be paid out of revenues derived 
 from railway operations while under federal control. All taxes 
 assessed under federal or any other governmental authority for 
 the period prior to January 1, 1918, whenever levied or payable 
 were provided to be paid by the carrier out of its own funds or 
 changed against or deducted from the just compensation. The 
 4% tax levied under the 1917 law was paid by the carrier out of 
 its own funds or charged against or deducted from the compen- 
 sation payable to the carrier, whereas the 2 % tax imposed by the 
 1916 law was paid out of revenues derived from railway opera- 
 tions while under federal control. The tax on all income pay- 
 able by the carrier on its income taxable under the Revenue Act 
 of 1918 in excess of the 2% levied under the 1916 law was ac- 
 cordingly to be paid by the carrier out of its own funds or 
 charged against or deducted from any compensation it rhay 
 receive by reason of government operation since such excess is 
 treated as levied by the act in amendment of "the act of October 
 third, nineteen hundred and seventeen or acts in addition thereto 
 or in amendment thereof, commonly called war taxes".^*^ 
 
 243 Act of March 21, 1918; Reg. 45, Art. 504. This act also provides: 
 "That moneys and other property derived from the. operation of the car- 
 riers during federal control are hereby declared to be the property of the 
 United States. Unless otherwise directed by the President, such moneys 
 shall not be covered into the treasury, but such moneys and property shall 
 remain in the custody of the same officers, and the account thereof shall 
 be in the same manner and form as before the federal control. Disburse- 
 ments therefrom shall, without further appropriation, be made in the same 
 manner as before federal control and for such purposes as under the 
 Interstate Commerce Commission classification of accounts in force on De- 
 cember 27, 1917, are chargeable to operating expenses or to railway tax 
 accruals and for such pther purposes in connection with federal control 
 as the President may direct, except that taxes under Titles I and II of the 
 act entitled 'An act to provide revenue to defray war expenses, and for 
 other purposes,' approved October 1, 1917, or any act in addition thereto 
 or in amendment thereof, shall be paid by the carrier out of its own funds. 
 If federal control begins or ends during the tax year for which any taxes 
 so chargeable to railway tax accruals are assessed, the taxes for such 
 year shall be apportioned to the date of the beginning or ending of such 
 federal control, and disbursements shall be made only for that portion 
 of such taxes as is due for the part of such tax year which falls within 
 the period of federal control." 
 
272 FEDERAL INCOME TAX 
 
 Standard Return. In the case of railroads which elected to 
 have their claims for compensation adjusted by a board of ref- 
 erees, or the court of claims, the government does not deny the 
 right to compensation, but the amount of compensation is placed 
 in dispute. In the case of such roads an accrual should be made. 
 The estimated amount that must be accrued in such cases is the 
 so-called standard return.2« 
 
 Expenses of Railroads. The following expenditures of rail- 
 roads constitute an allowable deduction from gross income: 
 
 1. Payments for labor and materials going into the actual 
 operation of the road and property. 
 
 2. Expenses of maintenance: The upkeep or preserving of 
 the condition of the property to be operated. 
 
 3. Expenditures for replacement of old rails with new and 
 heavier rails, wooden bridges and culverts with concrete and 
 steel bridges and culverts, except the excess cost, the deduction 
 being limited to the cost of renewals with like kind and quality. 
 
 The following are not deductible : 
 
 1. Expenditures for additions and betterments, such as ex- 
 penditures for sidings or spur tracks. 
 
 2. Expenditures for improving and adding to the property, 
 such as building new stations and shops, installing new ma- 
 chinery, and making additions to equipment.^^s 
 
 Under the provisions of Section 15a of the Interstate Com- 
 merce Act, as amended by the Transportation Act approved Feb- 
 ruary 29, 1920, railroad corporations are required to pay to the 
 Interstate Commerce Commission one-half of their net railway 
 operating income in excess of 6 per cent, on their invested capital. 
 It is understood that such payments are absolute, the railroad 
 company having no present or future rights therein. It has been 
 held that any sum so paid may be deducted in the taxable year 
 in which paid or accrued, dependent upon whether the books of 
 the corporation are kept upon a cash receipts and disbursements 
 or accrual basis.^*^ 
 
 Telephone Companies. Telephone companies taken over by 
 the government, whose compensation was fixed by the govern- 
 ment, were required to include such compensation in gross in- 
 come, in addition to the income accruing from other sources. 
 Companies whose compensation had not been fixed were re- 
 quired to include in gross income, in addition to other income 
 reported, operating income received, and when, later on, the 
 
 244 0. D. 642, T. B. 34-20-1151. 
 
 245 Grand Rapids Ry. Co. v. Doyle, 245 Fed. 792; T. D. 2210. 
 
 246 o. D. 989, T. B. 32-21-1762. 
 
CORPORATIONS 273 
 
 President fixed the compensation for the use of their properties 
 during the taxable year, such companies filed amended returns 
 showing the total income received and recomputed the tax on 
 that basis.24'' A telephone company was required to make a 
 1918 return for its accounting period, either calendar or fiscal 
 year, and all income applicable to such period was required to 
 be included in the corporation's return, irrespective of the por- 
 tion of the year during which it might have been operated under 
 government control.^^s 
 
 247 O. D. 229, T. B. 13-19-404. 
 
 248 0. D. 255, T. B. 15-19-449. 
 
CHAPTER 11 
 SPECIAL PROVISIONS APPLYING TO INSURANCE COMPANIES 
 
 The provisions of the Revenue Act of 1918 applicable to in- 
 surance companies (except mutual insurance companies) are 
 completely revised by the Revenue Act of 1921 which provides 
 an entirely new and distinctive scheme of taxation for such 
 companies. This revision was made because the provisions of the 
 1918 law were regarded as "imperfect and productive of constant 
 litigation", and because it was regarded that the taxes paid by 
 such companies under that law were inadequate. The plan 
 adopted is somewhat similar to theplan embodied in the Revenue 
 Act of 1918, as first adopted by the senate.^ It takes the place, 
 in the case of life insurance companies, of the income tax im- 
 posed on other corporations for the calendar year 1921, and 
 also the capital stock tax for that year, and applies for 1921 and 
 each calendar year thereafter, in lieu of such taxes. In the 
 case of insurance companies other than life and mutual insurance 
 companies, the new tax takes the place of the income tax imposed 
 on other corporations for the calendar year 1922, and also the 
 capital stock tax for that year, and applies for 1922 and each 
 calendar year thereafter. Life insurance companies are relieved 
 from the excess-profits tax for the year 1921, while other in- 
 surance companies, including life insurance companies, will share 
 with all other corporations in the repeal of the excess-profits tax 
 as of December 31, 1921. Insurance companies other than life 
 insurance companies are, therefore, liable for the excess-profits 
 tax for the year 1921.^ The effect of the new taxes upon insur- 
 ance companies with respect to the capital stock tax is discussed 
 in another chapter.^ 
 
 The taxes above referred to are so radically different from 
 the taxes formerly imposed upon such companies that it is 
 thought best to discuss them separately in this chapter. The 
 discussion of the taxes imposed upon insurance companies by 
 the Revenue Act of 1918 will still be applicable and of value for 
 years prior to 1921 in the case of life insurance companies, and 
 for years prior to 1922 in the case of other insurance companies 
 
 1 See Reports of Finance Committee and Ways and Means Committee, 
 respectively, on Revenue Bill of 1921, p. 20, p. 14. 
 
 2 See Revenue Act of 1921, §§ 243, 246 (a). 
 
 3 See Chapter 44. 
 
 274 
 
INSURANCE COMPANIES 275 
 
 (except mutual insurance companies), and for all years in the 
 case of mutual insurance companies. 
 
 Domestic Life Insurance Companies Under the 1921 Law. The 
 
 new tax imposed by the present law upon life insurance com- 
 panies applies only to an insurance company engaged in the 
 business of issuing life insurance and annuity contracts (includ- 
 ing contracts of combined life, health, and accident insurance), 
 the reserve funds of which held for the fulfillment of such con- 
 tracts comprise more than 50 per centum of its total reserve 
 funds.* 
 
 Rate of Tax. The rate of tax imposed upon life insurance 
 companies under the Revenue Act of 1921 is the same as that 
 imposed upon other corporations — 10% upon the net income 
 (as defined below) for the calendar year 1921 and 121/2% upon 
 such net income for the calendar year 1922 and subsequent 
 years.s 
 
 Gross Income. The gross income of a life insurance com- 
 pany includes only the gross amount of income received during 
 the taxable year* "from interest, dividends, and rents." ^ 
 
 Deductions in Computing Net Income. The Revenue Act of 
 1921 specifies a number of deductions which are to be applied in 
 reduction of gross income (as above defined) in the calculation 
 of the net income which is taxable in the case of a life insurance 
 company. These deductions are s'et forth in the following para- 
 graphs. Many of these deductions are the same deductions 
 which are allowed to ordinary corporations.'^ 
 
 Interest Received Upon State and Federal Obligations. 
 The following may be deducted by a life insurance company in 
 computing net income : 
 
 (1) Interest upon (a) the obligations of a state, territory, or 
 any political subdivision thereof, or the District of Columbia ; or 
 (b) securities issued under the provisions of the Federal Farm 
 Loan Act of July 17, 1916 ; or (c) the obligations of the United 
 States or its possessions ; or (d) bonds issued by the War Finance 
 Corporation; and 
 
 (2) An amount equal to the excess, if any, over the deduction 
 specified in (1) of 4% of the mean of the reserve funds required 
 by law and held at the beginning and end of the taxable year, 
 plus (in case of life insurance companies issuing policies covering 
 
 4 Revenue Act of 1921, § 242. 
 
 5 Revenue Act of 1921, § 243. 
 
 6 Revenue Act of 1921, § 244 (a). 
 
 7 See Chapter 10 for a discussion of these deductions and the several 
 chapters on the particular deductions. 
 
276 FEDERAL INCOME TAX 
 
 life, health, and accident insurance combined in one policy issued 
 on the weekly premium payment plan, continuing for life and 
 not subject to cancellation) 4% of the mean of such reserve 
 funds (not required by law) held at the beginning and end of the 
 taxable year, as the commissioner finds to be necessary for the 
 protection of the holders of such policies only.* 
 
 The term "reserve funds required by law" includes, "in the 
 case of assessment insurance, sums actually deposited by any 
 company or association with state or territorial officers pursuant 
 to law as guaranty or reserve funds, and any funds maintained 
 under the charter or articles of incorporation of the company 
 or association exclusively for the payment of claims arising under 
 certificates of membership or policies issued upon the assessment 
 plan and not subject to any other use."" 
 
 Interest Paid. A life insurance company, in computing net 
 income, may deduct from gross income all interest paid or accrued 
 within the taxable year on its indebtedness, except on indebted- 
 ness incurred or continued to purchase or carry obligations or 
 securities (other than obligations of the United States issued 
 after September 24, 1917, and originally subscribed for by the 
 company) the interest upon which is wholly exempt from income 
 taxation.io 
 
 Dividends Received. The following dividends may be de- 
 ducted by a life insurance company in computing net income: 
 
 (1) Dividends from a domestic corporation other than a cor- 
 poration entitled to the benefit of being taxable only with re- 
 spect to income from sources within the United States, and 
 
 (2) Dividends from any foreign corporation when it is shown 
 to the satisfaction of the commissioner that more than 50% of 
 the gross income of such foreign corporation for the three-year 
 period ending with the close of its taxable year preceding the 
 declaration of such dividends (or for such part of such period 
 as the foreign corporation has been in existence) was derived 
 from sources within the United States."^ 
 
 Reserve for Dividends. An amount equal to 2% of any 
 sums held at the end of the taxable year as a reserve for divi- 
 
 8 Revenue Act of 1921, §§245 (a) 12, 213 (b) 4. Interest upon obliga- 
 tions of the United States issued after September 1, 1917, is exempt from 
 the income tax, which is the only one payable after January 1, 1921, by 
 life insurance companies; therefore, such interest is a deduction (See 
 Chapter 18). 
 
 9 Revenue Act of 1921, § 244 (b) . 
 
 10 Revenue Act of 1921, § 245 (a) 8. See Chapter 23. 
 
 11 Revenue Act of 1921, § 245 (a) 3. See Chapters 10 and 32. 
 
INSURANCE COMPANIES 277 
 
 dends (other than dividends payable during the year following 
 the taxable year) the payment of which is deferred for a period 
 of not less than five years from the date of the policy contract, 
 is deductible from the gross income of a life insurance company 
 in computing net income.^^ 
 
 Investment Expenses. The investment expenses of a life 
 insurance company are deductible from gross income in com- 
 puting net income. If any general expenses are in part as- 
 signed to or included in the investment expenses, the total de- 
 duction for investment expenses can not exceed 14 of 1% of 
 the book value of the mean of the invested assets held at the 
 beginning and end of the taxable year.i^ 
 
 Taxes. In computing the net income of a life insurance 
 company there may be deducted from gross income taxes and 
 other expenses paid during the taxable year exclusively upon or 
 with respect to the real estate owned by the company, not 
 including taxes assessed against local benefits of a kind tending 
 to increase the value of the property assessed, and not including 
 any amount paid out for new buildings, or for permanent im- 
 provements or betterments made to increase the value of any 
 property. This deduction is allowed in the case of taxes imposed 
 upon a shareholder or member of a company upon his interest 
 as shareholder or member, which are paid by the company with- 
 out reimbursement from the shareholder or member, but in such 
 cases no deduction will be allowed the shareholder or member for 
 the amount of such taxes.^* 
 
 No deduction for taxes will be allowed on account of any real 
 estate owned and occupied in whole or in part by a life insurance 
 company unless there is included in the return of gross income 
 the rental value of the space so occupied. Such rental value must 
 be not less than a sum which in addition to any rents received 
 from other tenants will provide a net income (after deducting 
 taxes, depreciation, and all other expenses) at the rate of 4% per 
 annum of the book value at the end of the taxable year of the 
 real estate so owned or occupied.!^ 
 
 Depreciation. In computing the net income of a life insur- 
 ance company there may be deducted from gross income a rea- 
 sonable allowance for the exhaustion, wear and tear of property, 
 including a reasonable allowance for obsolescence. In the case 
 
 12 Revenue Act of 1921, § 245 (a) 4. 
 
 13 Revenue Act of 1921, § 245 (a) 5. 
 
 14 Revenue Act of 1921, § 245 (a) 6. See Chapters 10 and 24. 
 
 15 Revenue Act of 1921, § 245 (b). 
 
278 FEDERAL INCOME TAX 
 
 of property acquired before March 1, 1913, this deduction may 
 be computed upon the basis of its fair market price or value as of 
 March 1, 1913.16 
 
 No deduction for depreciation will be allowed on account of 
 real estate owned and occupied by a life insurance company un- 
 less the rental value (computed as indicated in the preceding 
 paragraph) of the space so occupied is included in gross in- 
 come.i'^ 
 
 Specific Exemption. In computing the net income of a 
 (domestic) life insurance company with a net income of $25,000 
 (without the benefit of this deduction) there may be deducted 
 the sum of $2,000 ; but if the net income is more than $25,000 
 the tax imposed upon the company must not exceed the tax which 
 would be payable if the $2,000 credit were allowed, plus the 
 amount of the net income in excess of $25,000.^8 
 
 Foreign Life Insurance Companies Under the 1921 Law. For- 
 eign life insurance companies are taxable under the Revenue Act 
 of 1921 in the same manner as domestic life insurance companies, 
 except that (1) the tax applies only to their net income from 
 "sources within the United States", and (2) they are entitled to 
 no deduction or exemption of $2,000 (or any exemption in lieu 
 thereof if their net income is more than $25,000) .^^ In the case 
 of a foreign life insurance company the amount of its net income 
 for any taxable year from sources within the United States will 
 be the same proportion of its net income for the taxable year 
 from sources within and without the United States, which the 
 reserve funds required by law and held by it at the end of the 
 taxable year upon business transacted within the United States 
 is of the reserve funds held by it at the end of the taxable year 
 upon all business transacted.^" 
 
 Insurance Companies (Other Than Life and Mutual Compa- 
 nies) Under the 1921 Law. The new tax imposed by the present 
 law upon insurance companies (other than life and mutual in- 
 surance companies) is at the same rate as that imposed upon 
 other corporations — 121/2 % "Pon the net income (as defined be- 
 low) for the calendar year 1922 and subsequent years. The new 
 tax does not affect the calendar year 1921.21 
 
 16 Revenue Act of 1921, § 245 (a) 7. See Chapters 10 and 26. 
 "Revenue Act of 1921, §245 (b). 
 
 18 Revenue Act of 1921, § 245 (a) 9. See Chapter 10. 
 
 19 Revenue Act of 1921, §§ 243, 245 (a) 9. See Chapters 4 and 12. 
 
 20 Revenue Act of 1921, §245 (c). 
 
 21 Revenue Act of 1921, § 246 (a). 
 
INSURANCE COMPANIES 279 
 
 Gross Income. The gross income of insurance companies 
 (other than life and mutual insurance companies) means the 
 combined gross amount, earned during the taxable year, from 
 investment income and from underwriting income as defined in 
 this paragraph, computed on the basis of the underwriting and 
 investment exhibit of the annual statement approved by the Na- 
 tional Convention of Insurance Commissioners.^^ 
 
 The "investment income" means the gross amount of income 
 earned during the taxable year from interest, dividends and 
 rents, computed as follows : 
 
 To all interest, dividends and rents received during the taxable 
 year, add interest, dividends and rents due and accrued at the 
 end of the taxable year, and deduct all interest, dividends and 
 rents due and accrued at the end of the preceding taxable year. 
 The "underwriting income" means the premiums earned on in- 
 surance contracts during the taxable year less losses incurred and 
 expenses incurred. 
 
 The term "premiums earned on insurance contracts during the 
 taxable year" means an amount computed as follows : 
 
 From the amount of gross premiums written on insurance 
 contracts during the taxable year, deduct return "premiums and 
 premiums paid for reinsurance. To the result so obtained add 
 unearned premiums on outstanding business at the end of the 
 preceding taxable year and deduct unearned premiums on out- 
 standing business at the end of the taxable year. 
 
 The term "losses incurred" means losses incurred during the 
 taxable year on insurance contracts, computed as follows: 
 
 To losses paid during the taxable year add salvage and rein- 
 surance recoverable outstanding at the end of the preceding tax- 
 able year, and deduct salvage and reinsurance recoverable out- 
 standing at the end of the taxable year. To the results so obtained 
 add all unpaid losses outstanding at the end of the taxable year 
 and deduct unpaid losses outstanding at the end of the preceding 
 taxable year. 
 
 The term "expenses incurred" means all expenses shown on 
 the annual statement approved by the National Convention of 
 Insurance Commissioners, and is computed as follows : 
 
 To all expenses paid during the taxable year add expenses un- 
 paid at the end of the. taxable year and deduct expenses unpaid 
 at the end of the preceding taxable year. For the purpose of 
 computing the net income there must be deducted from such 
 
 22 Revenue Act of 1921, § 246 (b) 1. 
 
2^0 FEDERAL INCOME TAX 
 
 expen^ies incurred all expenses incurred which are not otherwise 
 allc>-wed as deductions.23 
 
 Deductions in Computing Net Income. The Revenue Act 
 of 1921 allows insurance companies (other than life and mutual 
 insurance companies) deductions for the most part the same as 
 the deductions which are permitted to corporations in general. 
 This is true of (1) ordinary and necessary expenses paid or in- 
 curred, (2) taxes paid or accrued, (3) dividends received, and 
 (4) depreciation sustained. The law permits the deduction of 
 "losses incurred", seemingly without the limitations applicable 
 in the case of other corporations. It permits the deduction of bad 
 debts in the nature of agency balances and bills receivable, ascer- 
 tained to be worthless and charged off within the taxable year. 
 All interest received upon state and federal obligations which is 
 exempt from tax in the case of ordinary corporations, and interest 
 received which may be used as a credit for purposes of the in- 
 come tax may also be deducted, as well as the interest paid or 
 accrued which may be deducted by the ordinary corporation. 
 The specific exemption granted to ordinary corporations with a 
 net income (computed without the benefit of the deduction) of 
 $25,000, or less, as a credit, is allowed as a deduction to this 
 class of insurance companies with a net income so computed of 
 $25,000 or less ; and if the net income so computed is more than 
 $25,000, the tax on this class of insurance companies may not 
 exceed the tax which would be payable if the credit of $2,000 were 
 allowed, plus the amount of the net income in excess of $25,000. 
 As in the case of all taxpayers there can be no duplication of the 
 above deductions; that is, the same item may not be twice de- 
 ducted.2* 
 
 Foreign Insurance Companies (Other Than Life and Mutual 
 Companies) Under the 1921 Law. Foreign insurance companies 
 (other than life and mutual insurance companies) are taxable 
 under the Revenue Act of 1921 in the same manner as domestic 
 insurance companies of the same class, except that (1) the tax 
 applies only to their net income from "sources within the 
 United States", and (2) they are entitled to no deduction or 
 ekemption of $2,000 (or any exemption in lieu thereof if their 
 net income is more than $25,000) . The deductions provided are 
 allowable to such foreign companies only if and to the extent 
 that they are connected with income from "sources within the 
 
 23 Revenue Act of 1921, § 246 (b) 3. These methods are comparable to 
 the calculation of income by the method of inventories. See Chapter 16. 
 
 24 Revenue Act of 1921, §247 (a). See Chapters 10, 21, 22, 23, 24, 25, 
 26, and 31. 
 
INSURANCE COMPANIES 281 
 
 United States"; and the- proper apportionment and allocation of 
 the deductions with respect to sources within and sources without 
 the United States is to be determined as provided in the case 
 of foreign corporations and under rules and regulations pre- 
 scribed by the commissioner with the approval of the secretary.^s 
 Comparison of 1921 and 1918 Laws. Mutual insurance com- 
 panies (other than mutual life insurance companies) are, in 
 general, taxable under the law in the same manner as ordinary 
 corporations. This applies, for instance, to mutual marine in- 
 surance companies. All insurance companies not taxed as indi- 
 cated in the previous paragraphs, and so taxable as ordinary 
 corporations,^® are allowed certain deductions under the 1921 law, 
 the necessity for which arises from the peculiar nature of their 
 business.2^ These deductions are substantially the same as the 
 corresponding deductions allowed by the 1918 law. The provision 
 discussed below ^^ for a special deduction of the net addition to 
 reserve funds, and sums other than dividends paid on policy and 
 annuity contracts, is applicable only to mutual insurance com- 
 panies other than life insurance companies, after December 31, 
 1921, and is of course made inapplicable to life insurance compa- 
 nies for 1921.2^* Otherwise, it is substantially the same as the 
 corresponding provision of the 1918 law. The provision of the 
 1918 law for a special deduction, in the case of corporations issu- 
 ing policies covering life, health and accident insurance combined 
 in one policy issued on the weekly premium payment plan, of 
 such portion of the net addition to reserve funds as is. required 
 for the protection of policyholders is, of course, made inappli- 
 cable to life insurance companies (as defined above) for 1921, and 
 is not applicable at all after December 31, 1921.^" The provision 
 for a special deduction to mutual marine insurance companies 
 remains the same as under the 1918 law.^^ The provision for a 
 special deduction in the case of mutual insurance companies 
 (other than mutual life or mutual marine insurance companies) 
 of the amount of premium deposits returned to policyholders 
 or retained for the payment of losses, expenses, and reinsurance 
 
 25 Revenue Act of 1918, §§ 234 (b), 246 (a) 2, 247. See Chapters 4 and 12. 
 
 26 This includes all insurance companies except life insurance companies 
 for the year 1921. 
 
 27 See Revenue Act of 1921, §§ 234 (a) , 10, 11, 12, 13. 
 
 28 See p. 291. 
 
 28 Revenue Act of 1921, § 234 (a) 10. 
 
 30 Revenue Act of 1921, §234 (a) 11. See p. 294 for a discussion of this 
 deduction. 
 
 31 Cf. Revenue Act of 1921, § 234 (a) 12, Revenue Act of 1918, § 234 (a) 
 12. See p. 294 for a discussion of this deduction. 
 
282 FEDERAL INCOME TAX 
 
 reserves, is retained in practically the same form in the present 
 law, but is extended in its application to "interinsurers and recip- 
 rocal underwriters".32 A further provision of the 1918 law 
 that mutual marine insurance companies shall include in gross 
 income "gross premiums collected and received by them less 
 amounts paid for reinsurance" is retained in the 1921 law.s^ The 
 provision of the 1918 law that life insurance companies need not 
 include in gross income "such portion of any actual premium re- 
 ceived from any individual policyholder as is paid back or 
 credited to or treated as an abatement of premiums of such 
 policyholder within the taxable year" is necessarily omitted from 
 the Revenue Act of 1921. 
 
 Insurance Companies Under the 1918 Law. While the re- 
 maining discussion contained in this chapter is limited to the 
 1918 law, it must be remembered that the present law substan- 
 tially re-enacts the 1918 law as to mutual insurance companies 
 (other than life insurance companies). For that reason this 
 discussion will be important in connection with such companies 
 for the future as well as the past. It will also have a bearing 
 upon the taxation of all insurance companies (other than life 
 insurance companies) for the year 1921. In general, domestic 
 insurance companies were subject, under the Revenue Act of 
 1918, to the same provisions as other domestic corporations, and 
 foreign insurance companies were subject to the same provisions 
 as other foreign corporations. In the case of insurance compa- 
 nies, both domestic and foreign, certain special provisions govern 
 the calculation of gross income and the allowance of deductions.^"* 
 These special provisions are the subject of this chapter. 
 
 Definition. Insurance companies included both stock and 
 mutual companies as well as mutual benefit insurance companies. 
 A voluntary unincorporated association of employees formed for 
 the purpose of relieving sick and aged members and the depend- 
 ents of deceased members was an insurance company, whether 
 the fund for such purpose was created wholly by membership 
 dues or partly by contributions from the employer. But a corpo- 
 ration which merely set aside a fund for the insurance of its 
 employees was not required to file a separate return for such 
 
 32 Cf. Revenue Act of 1921, § 234 (a) 13, Revenue Act of 1918, § 234 (a) 
 13. This deduction is discussed on p. 294 below. 
 
 33 Cf. Revenue Act of 1921, §233 (a), Revenue Act of 1918, §233 (a) 2. 
 See p. 294. 
 
 34 Revenue Act of 1918, §§ 233 (a) 1 and 2, 234 (a) 10, 11, 12 and 13. 
 
INSURANCE COMPANIES 283 
 
 fund, if the income and disbursements therefrom were included in 
 the corporation's own retum.^° 
 
 An organization doing business on the "interindemnity" or 
 "reciprocal insurance" plan through an attorney-in-fact, subject 
 to direction by an advisory board of policyholders, which require 
 advance deposits to cover the cost of the insurance and main- 
 tained investments or deposits from which substantial income is 
 derived, was held to be a mutual insurance company .^^ 
 
 Gross Income of Insurance Companies. The gross income 
 of insurance companies was determined in the same manner as 
 in the case of other corporations except that (a) in the case of 
 life insurance companies it did not include such portion of any 
 annual premium received from any individual policyholder as 
 was paid back or credited to or treated as an abatement of pre- 
 mium of such policyholder within the taxable year^'^ and (b) in 
 the case of mutual marine insurance companies it included the 
 gross premiums collected and received by such companies less 
 amounts paid for reinsurance. The gross income of insurance 
 companies consisted of their total revenue from the operation of 
 the business and of their income from all other sources within the 
 taxable year, except as otherwise provided by the statute. Gross 
 income included net premiums (that is, gross premiums less re- 
 turned premiums on policies cancelled and premiums on policies 
 not taken), investment income,^^ profits from the sale of assets, 
 
 35 Reg. 45, Art. 1508. 
 
 36 L. O. 1063, T. B. 19-21-1626. This decision was made under the Capital 
 Stock Tax imposed by § 1000 of the Revenue Act of 1918 and the tax im- 
 posed by § 503 of the Revenue Act of 1918. It seems equally applicable for 
 purposes of the income tax. The cases chiefly relied upon by the solicitor 
 were State v. Alley, 96 Miss. 720, 51 So. 467; and Imperial Fire Ins. Co. v. 
 Coos Co., 151 U. S. 452, 462. The solicitor appears to have regarded these 
 cases as superior in authority to Blanchard v. Hamblin, 162 Mo. App. 242, 
 144 S. W. 880. It was held that no individual legal title remained in the 
 sums deposited under the arrangement indicated in the text. (See Young 
 y. Teutonia Bank, 134 La. 879, 64 So. 806; Commercial Bank v. Armstrong, 
 148 U. S. 50; Sergeant v. Goldsmith Co., 110 Tex. 482; 159 S. W. 1036; 221 
 S. W. 259.) The amounts deposited were held to be premiums. North- 
 western Life Assn. v. Stout, 32 111. App. 31, 38; Union Ins. Co. v. Hoge, 
 21 How. 35; U. S. Life Ins. Co. v. Spinks (Ky.), 96 S. W. 889. (See, how- 
 ever, Jewelers Safety Fund Society v. Lowe, 274 Fed. 93, note 38 below.) 
 In holding that the association involved constituted a mutual insurance 
 company, the solicitor relied upon Mutual Ins. Co. v. Herold, 198 Fed. 199, 
 209. 
 
 37 This provision has no application after December 31, 1920. See p. 285. 
 
 38 It was held, however, under the 1913 Law in the case of Jewelers 
 Safety Fund Society v. Lowe, same v. Anderson, 274 Fed. 93 (reversing a 
 lower court whose decision will be found in T. D. 3078, T.'B. 44-20-1279) 
 
284 FEDERAL INCOME TAX 
 
 and all gains, profits and income reported to the state insurance 
 departments, except income specifically exempt from tax. Pre- 
 miums received by mutual marine insurance companies paid out 
 for reinsurance were required to be eliminated from gross income 
 and the payments for reinsurance from disbursements. Deposit 
 premiums on perpetual risks received and returned by fire insur- 
 ance companies were required to be treated in the same manner, 
 as no reserve was recognized covering liability for such de- 
 posits. The earnings on such deposits should be included in the 
 investment income. A net decrease in reserve funds required by 
 law within the taxable year should be included in the gross in- 
 come.39 But a decrease in reserve funds was only taxable if it re- 
 sulted in the release to the general uses of the company of the 
 reserves set up with the result that the company's "free assets" 
 were increased. Although the reserves of an insurance company, 
 other than a life insurance company, are generally speaking only 
 a percentage of its surplus which may not be distributed in divi- 
 dends, the effect is the same as if they were separate and distinct 
 funds. The "unearned premium reserve" is not only a guarantee 
 of payment of the policies against which it is held but also a fund 
 to which resort may, in case of necessity, be made for payment of 
 losses thereunder. If a loss occurs during the life of any policy 
 the reserve established for the protection of such policy is re- 
 leased, and to that extent the reserve fund is reduced. If the 
 reserve exceeds the amount of the loss and the policy is not con- 
 tinued in force, the excess becomes part of the general surplus 
 
 where the so-called premiums received by the company were simply de- 
 posited with it for convenience and could not be used by it or drawn upon 
 until a loss was ascertained, that in such case the full amount of such 
 deposits is not to be included in gross income, but only the sums actually 
 taken by the society from these deposits for the purpose of paying operating 
 expenses and losses. It was the practice of the society to deposit these 
 premiums in a bank which paid interest thereon. The court held that this 
 interest was not to be included in gross income because it belonged to the 
 depositors and not the society. The society was incorporated in New York 
 state by special act, without capital stock, for mutual protection of its 
 members from loss by fire, burglary, etc., with power only to levy assess- 
 ments after a loss occurred. 
 
 39 Revenue Act of 1918, § 233 (a) 1 and 2; Reg. 45, Art. 548; Reg. 33 Rev., 
 Art. 239. A decrease in reserve funds is commonly called released reserve, 
 and was to be treated as income for the year in which the reserve is 
 released. (Reg. 33 Rev., Art. 240). Released reserves though not men- 
 tioned in express terms in the law have been held to be taxable income for 
 the year in which released. (Maryland Casualty Co. v. U. S., 251 U. S. 342; 
 T. D. 2451). Under the 1909 Law premiums were income of the yeaT of the 
 receipt (Lumber Mut. Fire Ins. Co. v. Malley, 256 Fed. 380). 
 
INSURANCE COMPANIES 285 
 
 of the company; it is "released to the general uses of the 
 company." If, on the other hand, no loss is incurred by the 
 policyholder, upon the expiration of the policy, the whole amount 
 of the reserve held against it is released to the "general uses 
 of the company" and increases its "free assets." In any case, 
 therefore, in which there was a net decrease in the reserve funds 
 of an insurance company it was necessary first to determine to 
 what extent the reserves thus released had been applied in the 
 payment of the losses against which they were held, and to what 
 extent they exceeded the actual losses paid, and were, therefore, 
 released to the "general uses of the company." So much of the 
 released reserve as was applied to the payment of losses never 
 became "free assets" of the company, and was not income of the 
 company ; but any excess which was released to general surplus 
 thus becoming "free assets" available for any purposes of the 
 company was income to the company in the year in which re- 
 leased.40 
 
 Gross Income of Life Insurance Companies. A life insur- 
 ance company was not required, under the 1918 Law, to include 
 in gross income such portion of any actual premium received 
 from any individual policyholder as was paid back or credited to 
 or treated as an abatement of premium of such policyholder 
 within the taxable year. 
 
 "Paid back" meant paid in cash. . 
 
 "Credited to" meant applied by the way of credit so as to re- 
 duce the premium received on the policy for the taxable year. It 
 included dividends applied (a) directly to the payment of the 
 premium for the taxable year ; (b) to purchase additional paid-up 
 insurance or annuities ; or (c) to shorten the endowment or pre- 
 lum paying period ; or (d) left with the company to accumulate 
 at interest. It did not include the amount of divisible surplus 
 annually ascertained and apportioned to deferred dividend pol- 
 icies.*! : j 
 
 40 L. O. 1032, T. B. 23-20-991; Maryland Casualty Co. v. U. S., 251 U. S. 
 342. 
 
 « Revenue Act of 1918, § 233 (a) 1; Reg. 45, Art. 549, as amended by T. D. 
 3153, T. B. 17-21-1600, in part reversing T. D. 3053, T. B. 34-20-1153 and 
 Sol. Op. 40, T. B. 37-20-1195. T. D. 3153 was approved April 11, 1921. It 
 was held under the 1916 Law that insofar as "deferred dividends" payable 
 at a stated period represented "a portion of any actual premium received," 
 they might be omitted from gross income for the year in which they were 
 actually paid back, except that so much of any deferred dividends paid 
 during the tax year to the individual policyholder as exceeded the amount 
 of premiums paid during the same year might not be omitted; that only 
 the actual amount of dividends actually credited or apportioned to a policy- 
 
286 FEDERAL INCOME TAX 
 
 "Treated as an abatement of premium" meant of the premium 
 for the taxable year. 
 
 Where the dividend paid back or credited to a policyholder was 
 in excess of the premium received from such policyholder within 
 the taxable year there might be excluded from gross income only 
 the amount of the premium received, and where no premium was 
 received from the policyholder within the taxable year the com- 
 pany was not entitled to exclude from its premiums received 
 from other policyholders any amount on account of such divi- 
 dend payment.*^ 
 
 It was proper for a life insurance company to exclude from 
 gross income of the current year so much of the premiums paid 
 during that year as did not exceed dividends applied by policy- 
 holders during the year ,to purchase additional paid-up insur- 
 ance.*^ 
 
 The exact language of the Revenue Act of 1918 in regard to the 
 gross income of life insurance companies was as follows : "In the 
 case of life insurance companies there shall not be included in 
 gross income such portion of any actual premium received from 
 any individual policyholder as is paid back or credited to or 
 treated as an abatement of premium of such policyholder within 
 the taxable year."** This language is substantially equivalent 
 to the provision contained in the 1913 law with regard to the 
 gross income of life insurance companies.*^ It has been held 
 
 holder during the premium-paying period, and not any accretions thereto, 
 could be excluded from gross income. In the case of whole life or five-year 
 distribution policies, deferred dividends could be excluded from gross 
 Income to the extent that they were paid back or credited to the insured 
 or used as an abatement of annual premiums. (Reg. 33, Art. 100.) 
 
 42 Revenue Act of 1918, §233 (a) 1; Reg. 45, Art. 549, as amended by 
 T. D. 3153, T. B. 17-21-1600, in part reversing T. D. 3053, T. B. 34-20-1153 
 and Sol. Op. 40, T. B. 37-20-1195. T. B. 3153 was approved April 11, 1921. 
 Reg. 33 Rev., Art. 241. This provision has been dropped from the 1921 
 Law (See p. 275). Under the 1909 Law there was much litigation as to 
 whether so-called dividends paid by insurance companies to policyholders 
 as a return of a part of the premium were properly deductible. The courts 
 held that the so-called dividends awarded annually to policyholders did not 
 constitute income (Herold v. Mutual Benefit Insurance Co., 201 Fed. 918, 
 affirming 198 Fed. 199) and at the time of the enactment of the 1913 and 
 1916 Laws the point was expressly covered by substantially the same lan- 
 guage as in the present law. 
 
 43 O. D. 994, T. B. 33-21-1770. 
 
 44 Revenue Act of 1918, § 233 (a) 1. 
 
 45 The provision of the 1913 Law was that life insurance companies — both 
 stock and strictly mutual— "shall not include as income in any year such 
 portion of any actual premium received from any individual policyholder 
 as shall have been paid back or credited to such individual policyholder, or 
 
INSURANCE COMPANIES 287 
 
 by the United States Supreme Courtis that such provision of the 
 1913 law requires that purely mutual legal reserve companies 
 issuing level-premium insurance shall include in gross income 
 dividends paid by such companies to any policyholder and not 
 applied in payment of a premium. The insurance company in 
 this case contended that the non-inclusion clause of the 1913 
 law excluded from gross income the aggregate of all dividends 
 paid to any policyholder by credit upon a premium or by abate- 
 ment of a premium, and also all dividends whatsoever paid to 
 any policyholder in cash, whether applied in payment of a pre- 
 mium or not. This contention was overruled by the Supreme 
 Court for the following reasons : 
 
 1. Consulting the history of the Act of October 3, 1913, the 
 Supreme Court found that the non-inclusion clause in question 
 was framed to define what amounts involved in dividends should 
 be "non-included" or deductible and thus prevent controversies 
 over questions which had been raised by the Act of August 5, 
 1909.*^ 
 
 2. The contention was made by the insurance company that 
 the nature of all life insurance dividends is the same, whatever 
 the disposition made of them; that Congress could not have in- 
 tended to relieve life insurance companies from taxation to the 
 extent that dividends are applied in payment of premiums and 
 to tax them to the extent that dividends are not so applied ; that 
 Congress must be assumed to have intended, in obedience to the 
 demands of consistency, that all dividends should be treated 
 alike. Disposing of this contention, the Supreme Court held 
 that the differentiation between dividends applied in payment 
 of a premium and those not so applied was entirely consistent, 
 the principle being that of imposing taxation upon net premiums 
 instead of gross premiums. The Supreme Court held that "there 
 is a striking difference between an aggregate of individual pre- 
 miums, each reduced by means of dividends, and an aggregate of 
 full premiums from which it is sought to deduct amounts paid 
 out by the company which have no relation whatever to premiums 
 
 treated as an abatement of premium of such individual policyholder, within 
 such year." (Act of October 3, 1913, § II G (b).) 
 
 46Penn Mutual Life Insurance Co. v. Lederer, 252 U. S. 523; T. D. 3046, 
 T. B. 33-20-1138. See Sol. Op. 70, T. B. 44-20-1280. 
 
 47 See Mutual Benefit Life Insurance Co. v. Herold, 198 Fed. 199, in 
 which the court stated that dividends applied as a reduction on renewal 
 premium.s "should not be confused with dividends declared in the case of 
 a full-paid participating holder wherein the policyholder has no further 
 premium payments to make. Such payments havingt been duly made, the 
 policy has becom,e at once a contract of insurance and an investment." 
 
288 FEDERAL INCOME TAX 
 
 received within the tax year, but which relate to some other 
 premium which may have been received many years earlier." 
 This second contention of the insurance company was also 
 answered by the argument that the motive for taking level-pre- 
 mium life insurance may be mainly protection, but the motive 
 of such insurance is largely that of "savings investment." When 
 the dividend is applied in reduction of the renewal premium, 
 Congress might well regard the element of protection as pre- 
 dominant, and treat the reduction of the premium paid by means 
 of the dividend as merely a lessening of the expense of protection, 
 but after the policy is paid up the* element of investment pre- 
 dominates and Congress might reasonably regard dividends not 
 applied in reduction of the renewal premium as profit on the in- 
 vestment. 
 
 3. The contention was made by the insurance company that 
 the juxtaposition of the clauses covering the income of mutual 
 fire and mutual life insurance companies and the provision cover- 
 ing mutual life insurance companies required the application 
 of the same rule to all in regard to returned premiums. The 
 Supreme Court answered this contention with the argument that 
 the three different rules prescribed in three separate clauses 
 for three classes of insurance was conclusive evidence that Con- 
 gress deliberately intended to differentiate. The purpose of 
 this differentiation was then explained by a consideration of the 
 distinction between mutual fire and mutual marine insurance 
 companies on the one hand, and mutual life insurance companies 
 on the other. The thing for which a fire or marine insurance 
 premium is paid is protection, which ceases at the end of the 
 term. If after the end of the term part of the premium is re- 
 turned, it is not returned as something purchased with the pre- 
 mium, but as a part of the premium which was not required to 
 pay for the protection, that is, the expense was less than esti- 
 mated. On the other hand, the service performed in level-pre- 
 mium life insurance is both protection and investment. Premiums 
 paid have earned so much for the co-operators that the company 
 is able to pay to each not only the agreed amount but also addi- 
 tional sums called dividends, which additional sums have been 
 earned in part, at least, by transactions not among the members 
 but with others, as by lending the money of the co-operators to 
 third persons. The fact that the investment resulting in the 
 accumulation or dividend is made by a co-operative, as distin- 
 guished from a capitalistic, concern does not prevent the amount 
 thereof from being deemed a profit on the investment or from 
 being taxable. The failure to differentiate between stock and 
 
INSURANCE COMPANIES • 289 
 
 mutual life insurance companies was not inadvertent. There is 
 a legal difference between stock fire and marine companies and 
 mutual fire and marine companies, but the participating policy 
 commonly issued by a stock life insurance company is both in 
 rights conferred and in financial results substantially the same 
 as a policy issued by a purely mutual life insurance company. 
 The real difference between the two classes of life companies as 
 now conducted lies in the legal right of electing the directors and 
 officers. 
 
 4. Answering the contention of the company that the decision 
 of the court below required the interpolation of the words 
 "within such year" in the statute after the words "any indi- 
 vidual policyholder," the Supreme Court held that what the 
 insurance company was seeking was not to have "non-included" 
 a part of the premiums which were actually received within the 
 year or which appeared as a matter of bookkeeping to have been 
 received, but actually were not, but that the company was seek- 
 ing to have the aggregate of premiums actually received in a 
 year reduced "by an amount which the company paid out within 
 the year, mainly on account of premiums received long before 
 the tax year" ; that what the company really sought was "not a 
 non-inclusion of amounts paid in — ^but the deduction of amounts 
 paid out". The Supreme Court then referred to another pro- 
 vision of the statute prescribing that there might be deducted 
 "the sums other than dividends paid within the year on policy 
 and annuity contracts". This clause was held to be tairtamount 
 to a direction that dividends should not be deducted. 
 
 In support of the company's contention it was urged that the 
 court should consider the history of the Revenue Act of 1918 and 
 specifically that in that bill, as introduced and passed by the 
 House, the corresponding section^s contained the words "within 
 the taxable year", and that these words were stricken out by 
 the conference committee.*^ The court held that no aid could be 
 derived from the legislative history of an act passed nearly six 
 years after the one in question. It may be argued that this 
 legislative history of the present statute indicates an intention 
 on the part of Congress to permit dividends of a mutual life in- 
 surance company not applied in payment of premiums to be 
 "non-included" in gross income. This contention would seem, 
 however, to be unsound in view of the fact that the Revenue Act 
 of 1918 contains a provision substantially the same as that con- 
 
 48 Revenue Act of 1918, § 233 (a). 
 49 Report No. 1037, 65th Congress. 
 
290 FEDERAL INCOME TAX 
 
 tained in the 1913 law referred to by the Supreme Court; that 
 is, it provides that insurance companies may deduct "the sums 
 other than dividends paid within the taxable year on policy and 
 annuity contracts"."" This is apparently the view of the treas- 
 ury department, and it has been held that a life insurance com- 
 pany is not entitled to exclude from its total income during the 
 taxable year, for the purpose of ascertaining its gross income, 
 any dividends paid or credited to policyholders from whom it 
 did not receive any premium during that year ; and as to policy- 
 holders from whom as it did receive premiums that year it is 
 entitled to exclude only such part of the dividends paid to those 
 policyholders as did not exceed the amounts received from them, 
 respectively, by way of premiums during that year.^^ 
 
 Deductions Allowed Insurance Companies. Insurance 
 companies were entitled, under the Revenue Act of 1918, to the 
 same deductions from gross income as other corporations, and 
 also to the deduction of the net addition required by law to be 
 made within the taxable year to reserve funds and of the sums 
 other than dividends paid within the taxable year on policy and 
 annuity contracts.^^ 
 
 "Paid" included "accrued" or "incurred" (construed according 
 to the method of accounting upon the basis of which the net in- 
 come was computed during the taxable year) , but did not include 
 any estimate for losses incurred but not reported during the 
 taxable year. As payments on policies there were required to 
 be reported all death, disability and other policy claims (other 
 than dividends as above specified) paid within the year, including 
 fire, accident and liability losses, matured endowments, annui- 
 ties, payments on installment policies and surrender values 
 actually paid.^^ 
 
 so Revenue Act of 1918, § 234 (a) 10. 
 
 51 T. D. 2899, T. B. 20-19-514. For the rule under the 1909 Law see Fink 
 V. Northwestern Mutual Life Ins. Co., 267 Fed. 968; T. D. 3057, T. B. 36- 
 20-1187. 
 
 52 So-called cash bonuses and other sums paid as a gratuity by an insur- 
 ance company to nonparticipating policyholders or beneficiaries have been 
 held under the 1909 Law which permitted the deduction of "'sums other 
 than dividends paid within the year on policy and annuity contracts" (§ 38, 
 Second) not to be deductible from gross income in corporation excise tax 
 returns as sums other than dividends paid within the year on policy and an- 
 nuity contracts. (Sol. Op. 100, T. B. 18-21-1612). 
 
 53 Revenue Act of 1918, § 234 (a) 10; Reg. 45, Art. 568. Surrender values 
 applied in any manner, consideration for supplementary contracts, involving 
 and not involving life contingencies, should be included in the gross income 
 of life insurance companies. Applied surrender values and consideration for 
 supplementary contracts not involving life contingencies included in income 
 
insurance companies 291 
 
 Deduction of Required Addition to Reserve Funds by In- 
 surance Companies. Insurance companies were permitted 
 under the 1918 law, to deduct from gross income the net addi- 
 tion required by law to be made within the taxable year to re- 
 serve funds, including in the case of assessment insurance com- 
 panies the actual deposit of sums with state or territorial officers 
 pursuant to law as additions to guarantee or reserve funds.^* 
 This was first considered to mean the net addition required by 
 the specific statutes of the states within which the taxpayer 
 transacted business. It was later held that a requirement by a 
 state insurance commissioner that a net addition shall be made 
 to certain amounts retained to meet specified liabilities was a 
 net addition required by law to be made to reserve funds within 
 the meaning of the statute, if required by rules and regulations 
 promulgated in the exercise of an appropriate power conferred 
 by statute.s^ Only reserves commonly recognized as reserve 
 funds in insurance accounting were to be taken into considera- 
 tion in computing the net addition to reserve funds required by 
 law. Assets required to be held for the ordinary running expenses 
 of the business, such as taxes, salaries, reinsurance and unpaid 
 brokerage were not reserves the additions to" which might be . de- 
 ducted.^*' 
 
 are deductible as payments under policy contracts, but for convenience in 
 verifying the returns these items should appear in the return in gross 
 income and deductions. (Reg. 33 Rev., Art. 241.) 
 
 54 Reg. 45, Art. 569. 
 
 55 Maryland Casualty Co. v. U. S., 251 U. S. 342, modifying 52 St. Cls. 201, 
 T. D. 2451. In McCoach v. Insurance Co. of North America, 244 U. S. 585, 37 
 Sup. Ct. 709, it was held that a reserve required in Pennsylvania to be 
 maintained by a fire and marine insurance company against unpaid losses 
 ■was not a reserve required by law since it was not required by express 
 statutory provision. There is nothing in this case inconsistent with the 
 rule recently laid down in Maryland Casualty Co. v. U. S., 251 U. S. 342. 
 There was no question in the McCoach case but that under an administrative 
 interpretation of the Pennsylvania statute the reserve was required to be 
 set up; the case turned upon the question whether the reserve was the 
 kind of reserve referred to in the 1909 Law. In other words, the case 
 involved a definition of the word "reserve". Under the 1909 Law it has 
 been held that reserve funds, the net addition to which is to be deducted 
 from the gross income of a life insurance company in computing its net 
 income, are those funds which are built up to mature the policy, and do not 
 include funds reserved because of. liabilities on supplem^entary contracts 
 not involving life contingencies and canceled policies upon which a cash- 
 surrender value may be demanded. (Fink v. Northwestern Mutual Life 
 Ins. Co., 267 Fed. 968; T. D. 3057, T. B. 36-20-1187.) 
 
 56 Reg. 45, Art. 569; Maryland Casualty Co. v. U. S., 251 U. S. 342. A re- 
 serve for the expense of investigating loss claims of an insurance company 
 
292 FEDERAL INCOME TAX 
 
 In the case of a casualty, liability, fidelity, guaranty and 
 surety insurance company recently decided by the United States 
 Supreme Court^^ the term "reserve" has been defined as follows : 
 "* * * A sum of money, variously computed or estimated, 
 v/hich, -with accretions from interest, is set aside, 'reserved', as 
 a fund with which to mature or liquidate, either by payment or 
 reinsurance with other companies future unaccrued and con- 
 tingent claims, and claims accrued, but contingent and indefinite 
 as to amount or time of payment." In the case of the company 
 under consideration a "reserve for unearned premiums", a 
 "special reserve for unpaid liability losses" and a "loss claims 
 reserve" were held to fall within this definition. On the other 
 hand, a reserve maintained by the insurance company for "un- 
 paid taxes, salaries, brokerage and reinsurance due other com- 
 panies" was held not to fall within such definition. The require- 
 ments of various states referring to such reserves use the term 
 "reserve!' in a nontechnical sense and not necessarily in the 
 sense of the 1909 law. It has been held by the treasury de- 
 partment that the amount deductible as an addition to reserve 
 funds is the excess of the total reserve fund as required by law 
 at the end of the. taxable year over the total of such reserve 
 funds at the beginning of the year, regardless of the fact that 
 during the year the reserve funds are increased on account of 
 new biisiness, and decreases in such funds are inevitable when 
 policies mature, lapse, or are surrendered.^^ 
 
 In the case of a fire insurance company the only reserve fund 
 commonly recognized is the "unearned premium" fund. A re- 
 serve set up by a fire insurance company against unpaid losses 
 has been held not to be deductible.^^ 
 
 Casualty companies might deduct losses incurred within the 
 taxable year; but unless the net addition to the unpaid loss re- 
 serve required by law exceeded such losses incurred, no deduc- 
 tion for the net addition to the unpaid loss' reserve might be 
 taken. In any event only the excess of such net addition over 
 such losses might be deducted.^" 
 
 has been held not to be a "reserve" within the meaning of the 1913 Law and 
 any net addition thereto may not be deducted in determining net income. 
 (Sol. Op. 76, T. B. 47-20-1315.) 
 
 57 Maryland Casualty Co. v. U. S., 251 U. S. 342. See the definitions of 
 "reserve" in Fink v. Northwestern Mutual Life Ins. Co., 267 Fed. 968; T. D. 
 8057, T. B. 36-20-1187. 
 
 58 0. D. 427, T. B. 13-20-876. 
 
 59 L. 0. 1056, T. B. 2-21-1391. This ruling applies under the 1916 Law, 
 the 1913 Law, and the 1909 Law (O. D. 1094, T. B. 45-21-1912). 
 
 60 Reg. 45, Art. 569. 
 
INSURANCE COMPANIES 293 
 
 In the case of life insurance companies the net addition to the 
 "reinsurance reserve" and the "reserve for supplementary con- 
 tracts ^i not involving life contingencies," and the net addition 
 to any other reserve funds necessarily maintained for the pur- 
 pose of liquidating policies at maturity, were legally deductible. 
 An increase in the reserve maintained by a life insurance com- 
 pany to pay dividends on deferred dividend policies was not per- 
 mitted to be deducted from gross income.^^ 
 
 A life insurance company which maintained a reserve to 
 liquidate coupons left with the company to accumulate at in- 
 terest and accrued interest thereon was held entitled to deduct 
 from gross income the net addition made each year to such 
 fund.''^ The reserves annually set aside by life insurance com- 
 panies in the state of Nebraska for the protection of deferred 
 dividend policies have been held to be reserves required by law 
 in ascertaining whether there has been a net addition to reserve 
 funds deductible in computing the net income.^* 
 
 Mutual hail and mutual cyclone insurance companies were en- 
 titled to deduct from gross income the net addition which they 
 
 were required to make to the "guaranty surplus" fund or similar 
 fund.^5 
 
 61 Where a life insurance company's policies contain an option to have 
 proceeds paid in annual installments for a given term of years, or during 
 the lifetime of the beneficiary, instead of in one sum, such policies, if the 
 option is exercised, are styled "supplementary policy contracts." These 
 obligations are protected by reserves, the net additions to which are deduct- 
 ible if such reserves are "required by law." The Commissioners of Insurance 
 of all the states require the establishment of a reserve to cover the obliga- 
 tions of the company on such supplementary policy contracts. This fact of 
 itself tends strongly to show that they are required by law (Mutual Benefit 
 Ins. Co. V. Herold, 198 Fed. 199, affirmed 201 Fed. 918). 
 
 62 Reg. 45, Art. 569. 
 
 63 O. D. 799, T. B. 1-19-96. 
 
 64 Sol. Op. 40, T. B. 37-20-1195. 
 
 65 Revenue Act of 1918, § 234 (a) 10; Reg. 45, Art. 569. Under the laws 
 of Pennsylvania reserves against unpaid losses are required by law of 
 casualty companies, but not of fire and marine insurance companies. Hence, 
 the latter can not deduct reserves against losses, although the Insurance 
 Commissioner of Pennsylvania may require such reserves under a practice 
 of his office established for many years and relied upon as an administra- 
 tive interpretation of the law of that state. (See Insurance Company of 
 North America v. McCoach, 218 Fed. 905, reversed 224 Fed. 657, 661, writ of 
 certiorari granted, 241 U. S. 694, reversed 244 U. S. 585; T. D. 2501.) It 
 has been held that the act addition may be based upon the highest authorized 
 reserve required by the statutes of any state in which the company does 
 business, but that, having adopted the requirements of one state, a company 
 can not base its reserve upon the requirements of another state for subse- 
 quent years (T. D. 1727; Reg. 33 Rev., Art. 240). 
 
294 federal income tax 
 
 Special Deductions Allowed in the Case of Combined 
 Life, Health and Accident Policies. Corporations issuing 
 combination policies of life, health and accident insurance on the 
 weekly premium payment plan, continuing for life and not sub- 
 ject to cancellation, were permitted, under the 1918 law, to de- 
 duct from gross income only such portion of the net addition 
 not required by law made within the taxable year to reserve 
 funds as was needed for the protection of the holders of such 
 combination policies. In general, the net addition to any fund 
 especially maintained for the protection of such policyholders 
 might be deducted. The determination by the company of the 
 need for such addition was subject to review by the commis- 
 sioner, and the return of income was required to be accom- 
 panied by a full explanation of the basis upon which such fund 
 and the additions to it were determined.^'' 
 
 Special Deductions Allowed Mutual Marine Insurance 
 Companies. Mutual marine insurance companies should in- 
 clude in gross income the gross premiums collected and received 
 by them less amounts paid for reinsurance. They may deduct 
 from gross income amounts repaid to policyholders on ac- 
 count of premiums previously paid by them, together with the. 
 interest actually paid upon such amounts between the date of 
 ascertainment and the date of payment thereof. The remainder 
 of the premiums accordingly forms part of the net income of the 
 company, except to the extent that they are subject to the de- 
 ductions allowed insurance companies in general and other cor- 
 porations.^'^ 
 
 Special Deductions Allowed Mutual Insurance Compa- 
 nies. Mutual insurance companies (other than mutual life and 
 mutual marine insurance companies), which require their mem- 
 bers to make premium deposits to provide for losses and ex- 
 penses, are allowed to deduct from gross income the aggregate 
 amount of premium deposits returned to their policyholders or 
 retained for the payment of losses, expenses and reinsurance re- 
 serves.68 in determining the amount of premium deposits re- 
 tained by a mutual fire or mutual casualty insurance company 
 
 66 Reg. 45, Art. 570; Sol. Op. 83, T. B. 3-21-1402. This provision is not 
 applicable to life insurance companies after December 31, 1920, nor to 
 any companies after December 31, 1921. See p. 281. 
 
 67 Reg. 45, Art. 571; Revenue Act of 1918, §§233 (a) 2i, 234 (a) 12. This 
 provision is substantially the same in the Revenue Act of 1921. 
 
 68 Revenue Act of 1918, §234 (a) 13; Reg. 45, Art. 372. This provision 
 is extended in the 1921 Law to interinsurers and reciprocal underwriters; 
 otherwise it is substantially the same. 
 
INSURANCE COMPANIES 295 
 
 for the payment of losses, expenses and reinsurance reserves, it 
 is to be presumed that losses and expenses have been paid out of 
 earnings and profits, other than premiums, to the extent of such 
 earnings and profits.^s If, however, any portion of such amount 
 is applied during the taxable year to the payment of losses, ex- 
 penses or reinsurance reserves, for which a separate allowance 
 is taken, then such portion is not deductible, and if any portion 
 of such amount for which an allowance is taken is subsequently 
 applied to the payment of expenses, losses or reinsurance re- 
 serves, then such payment can not be separately deducted. An 
 amount of premium deposits retained for the payment of ex- 
 penses and losses, and the amount of such expenses and losses, 
 may not both be deducted. A cojnpany which invests part of 
 the premium deposits so retained by it in interest-bearing se- 
 curities may nevertheless deduct such part, but not the interest 
 received on such securities. A mutual fire insurance company 
 which has a guaranty capital is taxed like other mutual fire in- 
 surance companies. A stock fire insurance company, operated 
 on the mutual plan to the extent of paying dividends to certain 
 classes of policyholders, may make a return on the same basis 
 as a mutual fire insurance company with respect to its business 
 conducted on the mutual plan.™ 
 
 Returns of Insurance Companies. Insurance companies trans- 
 acting business in the United States or deriving income from 
 sources therein are required to file returns of income. As an aid 
 in auditing the returns it was suggested under the 1918 law that 
 wherever possible a copy of the report to the state insurance 
 department be submitted with the return. Otherwise it was 
 suggested that a copy of Schedule D, parts 1, 3 and 4, of the 
 report be attached to the return, showing the federal, state and 
 
 69 L. O. 1050, T. B. 40-20-1226, overruling O. D. 403, T. B. 7-20-744. 
 
 70 Revenue Act of 1918, § 234 (a) 13; Reg. 45, Art. 572. Under the 1916 
 Law it was provided that "mutual fire and mutual employers' liability and 
 mutual workmen's compensation and mutual casualty insurance companies 
 requiring their members to make premium deposits to provide for losses and 
 expenses shall not return as income any portion of the premium deposits 
 returned to their policyholders, but shall return as taxable income all income 
 received by them from all other sources plus portions of their premium de- 
 posits as are retained by the companies for purposes other than the payment 
 of losses and expenses and reinsurance reserves." (Revenue Act of 1916, 
 §12 (a).) It will thus be noted that in the case of such companies the 
 amount of premium deposits returned to policyholders was excluded from 
 gross income, under the 1916 Law, but under the present law the amount 
 of such deposits will be included therein, and taken as a deduction; and 
 this will ■ also be true of such portions of their premium deposits as are 
 retained foi* the payment of losses, expenses and reinsurance reserves. 
 
296 
 
 FEDERAL INCOME TAX 
 
 municipal obligations from which the interest omitted from 
 gross income was derived, and a copy of the complete report 
 was required to be furnished as soon as ready for filing. ^i 
 
 Foreign Insurance Companies. Foreign insurance companies 
 were required, under the 1918 law, to report as gross income 
 only the gross income from sources within the United States. 
 Income from business transacted by a United States branch or 
 agency of a foreign insurance company which related to a for- 
 eign country was required to be returned as gross income.^^ 
 Foreign insurance companies with agents or brokers in this 
 country soliciting insurance and collecting premiums for them 
 were held to be doing business in the United States, so that any 
 income received from such sources was income from "sources 
 within the United States".'^^ 
 
 Expenses Under the 1916 Law. The same allowance for ex- 
 penses was permitted to insurance companies as in the case of 
 other corporations. Insurance companies were permitted to add 
 to expenses, in lieu of depreciation of furniture and fixtures, the 
 actual cost of repairs, replacements and renewals of such furni- 
 ture, as reported to the state insurance department, provided 
 that in the case of an original investment, the cost thereof was 
 charged to capital account.'^* 
 
 71 Reg. 45, Art. 623. 
 
 72 Revenue Act of 1918, § 233 (b) ; Reg. 33 Rev., Art. 244. 
 
 73 O. D. 586, T. B. 28-20-1062. 
 
 74 Reg. 33 Rev., Art. 240. 
 
CHAPTER 12 
 FOREIGN CORPORATIONS 
 
 Foreign corporations, like domestic corporations, are taxed as 
 separate entities apart from their stockholders. They were 
 subject, under the Revenue Act of 1918, to a tax of 10% upon 
 their net income from "sources within the United States" for 
 the years 1919 and 1920.^ Under the present law, in lieu of 
 that tax, they are subject to a tax of 10% upon their net income 
 from "sources within the United States" for the year 1921, and 
 121/2% for the year 1922 and subsequent years. This increase 
 of rate is in lieu of the excess-profits tax which is repealed as 
 of December 31, 1921. The most important changes made by 
 the Revenue Act of 1921, bearing upon the taxation of foreign 
 corporations relate to the definition of the term "sources within 
 the United States." The definition of this term has been con- 
 siderably amplified and in some respects modified, as is more 
 fully indicated in a preceding chapter .2 Another important new 
 provision of the Revenue Act of 1921, treated in this chapter, 
 is the provision that domestic corporations fulfilling certain 
 qualifications shall be taxable only with respect to income from 
 "sources within the United States."^ 
 
 Definitian. As used in this chapter, the term "foreign corpo- 
 ration" means a corporation, association, joint-stock company 
 or insurance company created or organized outside the United 
 States* including only the states, the territories of Alaska and 
 
 1 Revenue Act of 1918, §230. This rate was 12% for the year 1918. 
 
 2 See Chapter 4. 
 
 3 Revenue Act of 1921, § 262. See p. 308. 
 
 4 See Revenue Act of 1921, §2; Revenue Act of 1918, § 1; Reg. 45, Art. 
 1508. It IS interesting to note in this connection the difference between the 
 American and British theories of residence in regard to corporations. The 
 definition given in" the text and the definition of the term "domestic"' when 
 applied to corporations is founded upon the American conception that a 
 corporation cannot migrate but must be and remain always a resident of 
 the state or jurisdiction in which it is created. (See Paul v. Virginia, 8 
 Wall. 168.) This theory contemplates strictly the artificial entity of the 
 corporation. The British statute provides: "For and in respect of the 
 annual profits or gains arising or accruing to any person residing in the 
 United Kingdom from any kind of property whatever, whether situated in 
 the United Kingdom or elsewhere, and for and in respect of the annual 
 profits or gains arising or accruing to any person residing in the United 
 Kingdom from any profession, trade, employment, or vocation, whether 
 the same shall be respectively carried on in the United Kingdom or else- 
 
 297 
 
298 FEDERAL INCOME TAX 
 
 Hawaii, and the District of Columbia. Foreign corporations are 
 in fact divisible into four classes, as follows : (1) "nonresident 
 foreign corporations," which have no office or place of business 
 in the United States; (2) "nonresident foreign corporations 
 with a branch in the United States," which have their principal 
 or head business office in a foreign country, but incidentally have 
 branch offices or places of business in the United States; (3) 
 "resident foreign corporations" which have their principal or 
 head business office in the United States and do business solely 
 in this country, and (4) "resident foreign corporations having 
 branches outside the United States" which have their principal 
 or head business office in the United States, but incidentally 
 have branch offices or places of business outside the United 
 
 where, and to be charged for every twenty shillings of the annual amount 
 of such profits and gains: And for and in respect of the annual profits or 
 gains arising or accruing to any person whatever, whether a subject of her 
 Majesty, or not, although not resident within the United Kingdom, from 
 any property whatever in the United Kingdom, or any profession, trade, 
 employment, or vocation exercised within the United Kingdom, and to be 
 charged for every twenty shillings of the annual amount of such profits 
 and gains." While the cases decided under this statute upon this point are 
 in some confusion, coming to different conclusions upon substantially the 
 same facts and the same conclusions upon diflferent theories, and while in 
 many of them the appellate court was constrained to its conclusions by 
 cases stated unfavorably to the taxpayer and the rule that the judgment of 
 the Commissioners on questions of fact could not be disturbed, the courts 
 definitely renounce the place of incorporation, as a test of residence. In 
 De Beers Consolidated Mines v. Howe (1906) App. Cas. 455, 95 L. T. 221; 
 22 T. L. R. 756, 5 Tax Cas. 198, Lord Loreburn, L. C, said: "In apply- 
 ing the conception of residence to a company, we ought, I think, to pro- 
 ceed as nearly as we can upon the analogy of an individual. A company 
 cannot eat or sleep, but it can keep house and do business. We ought, there- 
 fore, to see where it really keeps house and does business. An individual 
 may be of foreign nationality, and yet reside in the United Kingdom. So 
 may a company. Otherwise it might have its chief seat of management 
 and its centre of trading in England under the protection of English law, 
 and yet escape the appropriate taxation by the simple expedient of being 
 registered abroad and distributing its dividends abroad." Again in San 
 Paulo Ry. Co. v. Carter (1896) App. Cas. 31, 73 L. T. 538; Lord Hals- 
 bury said: "It seems to me that, as was said by Cockburn, C. J. in the case 
 of SuUey v. Attorney-General (1), 'it is probably a question of fact where 
 the trade is carried on,' and it is probably true to say that that phrase 
 may be understood in two different senses. It may mean where the goods 
 in respect of which trading is carried on are conveyed, made, bought, or 
 sold; or, speaking of land, where it is cultivated or used for any other 
 purpose of profit. That makes the locality of the goods or the land which 
 are the subjects of the trade to be in a .certain sense the place where the 
 trade is carried on, because it is the place where the things corporeally 
 exist, or are dealt vrith. But there is another sense, in which the conduct 
 
FOREIGN CORPORATIONS -299 
 
 and management, the head and brain of the trading adventure, are sit- 
 uated in a place different from that in which the corporeal subjects of 
 trading are to be found. It becomes, therefore, a question of fact, and 
 according to the answer to be given to the question where is the trade in a 
 strict sense carried on, will the assessment be." (See also New Zealand Co. 
 V. Stephens, 24 T. L. R. 172; American Thread Co. v. Joyce, 104 L. T. R. 
 217, affirmed 106 L. T. R. 171, 28 T. L. R. 233, 6 Tax Cas. 1; approved by 
 House of Lords, 108 L. T. R. 363, 6 Tax Cas. 163, 29 L. T. R. 266.) In 
 addition, the British courts have taxed many foreign corporations on the 
 theory that they were a mere sham, fiction, or dummy, having no real exist- 
 ence apart from some English corporation which ovimed and controlled them, 
 and also on the theory that they stood in the relationship of principal 
 and agent toward an English company, so that their profits were in con- 
 templation of law the profits of the principal. (See Colquhoun v. Brooks, 
 L. R. 14 App. Cas. 493, 61 L. T. 518; Frank Jones Brewing Co. v. Apthorpe, 
 15 T. L. R. 113, 4 Tax Cas. 6; United States Brewing Co. v. Apthorpe, 
 4 Tax Cas. 17; St. Louis Breweries v. Apthorpe, 79 L. T. R. 551, 15 T. L. R. 
 112; 4 Tax Cas. Ill; Apthorpe v. Peter Schoenhofen Brewing Co., 80 L. T. 
 R. 395, 15 T. L. R. 245, 4 Tax Cas. 41.) It has not been held invariably under 
 the British statute that foreign corporations were taxable when their stock 
 was owned by British corporations. (Bartholomay Brewing Co. v. Wyatt 
 (1893) 2 Q. B. 499, 69 L. T. 561; Kodak Ltd. v. Clark (1902) 2 K. B. 450, 
 affirmed (1903) 1 K. B. 505, 88 L. T. R. 155; Gramophone & Typewriter, 
 Ltd. V. Stanley (1906) 2 K. B. 856, affirmed (1908) 2 K. B. 89, 99 L. T. 
 R. 39). In the last mentioned case the court said: "The fact that an individu- 
 al by himself or by his nominee holds practically all the shares in a com- 
 pany may give him the control of the company in the sense that it may 
 enable him by exercising his voting powers to turn out the directors and 
 to enforce his own views as to policy, but it does not in any way diminish 
 the rights or powers of the directors, or make the property or assets of the 
 company his as distinct from the corporation's. Nor does it make any dif- 
 ference if he acquires not practically the whole, but absolutely the whole 
 of the shares. The business of the company does not thereby become his 
 business. He is still entitled to receive dividends on his shares, but no more 
 * * *. The profits of a corporation are not profits of any business 
 carried on by him in a foreign country, because the individual corporator 
 does not carry on the business of the corporation. He is only entitled to the 
 profits of that business to a certain extent freed and ascertained in a certain 
 way depending on the constitution of the corporation and his holding in it. 
 This legal proposition that the legal corporator cannot be held to be wholly 
 or partly carrying on the business of the corporation is not weakened by 
 the fact that the extent of his interest in it entitles him to exercise a 
 greater or less control over the manner in which that business is carried 
 on. Such control is inseparable from his position as a corporator and is 
 a wholly different thing both in fact and in law from carrying on the 
 business himself. The directors and employees are not his agents, and 
 he has no power of giving directions to them which they must obey. This 
 shows that the control of individual corporators is something wholly dif- 
 ferent from the management of the business itself. * * * ju order 
 to succeed the Attorney-General must, I think, make out either first, that 
 the German company is a fiction, a sham, a simulacrum, and that in 
 reality the English company and not the German company is carrying on the 
 business; or secondly, that the German company, if it is a real thing, is 
 
300 FEDERAL INCOME TAX 
 
 States.3 In this chapter, however, a foreign corporation engaged 
 in trade or business within the United States or having an 
 office or place of business therein will be referred to as a "resi- 
 dent foreign corporation" and a foreign corporation not having 
 any office or place of business therein will be referred to as a 
 "nonresident foreign corporation." « The Revenue Act of 1921 
 contains a new provision substantially classifying certain 
 domestic corporations as foreign corporations, which provision 
 is discussed belowJ 
 
 Corporations Exempt from the Tax. The corporations enumer- 
 ated in the law as exempt include foreign corporations as well 
 as domestic corporations, except as stated in the chapter on 
 exempt organizations.^ 
 
 Corporations Subject to the Tax. All foreign corporations re- 
 ceiving income from sources within this country and not specific- 
 ally exempt are subject to the tax. It is not necessary that 
 foreign corporations should be engaged in business in this coun- 
 try or that they have an office, branch or agency in the United 
 States. Liability to the income tax attaches with respect to 
 any income, the "source" of which is in the United States.^ 
 
 the agent of the English company. In Kodak Limited v. Clark (ubi sup.) by 
 way of contrast the English company owned 98 per cent, of the shares. It 
 is true that they did not own them all, but that was not the ground of the 
 decision. The ground was that, while the English company as holding 98 
 per cent, of the shares no doubt had the control, they had it only as share- 
 holders, and it was the corporation and not the shareholders who were 
 carrying on the business." The 1918 ruling of the treasury department 
 that dividends on stock and interest on notes of corporations organized 
 in the United States (viz., "domestic" corporations, Revenue Act of 1918, 
 § 1) but doing no business and owning no property therein paid to non- 
 resident alien individuals and corporations are not subject to tax (Reg. 45, 
 Art. 92) is more consistent with the British than the American theory. 
 The doctrine of corporate entity, as applied by the American courts, is 
 discussed in Chapter 10. 
 
 5 See T. D. 2401 ; Reg. 33 Rev., Art. 200. 
 
 6 See Reg. 45, Art. 1508. See 0. D. 517, T. B. 21-20-955. 
 
 7 See p. 308. 
 
 8 Revenue Act of 1921, §231; Revenue Act of 1918, §231. See Chapter 
 13. 
 
 9 Reg. 33 Rev., Art. 66. See p. 301 on which the word "source" is dis- 
 cussed and where it is shown that the receipt of income from "sources within 
 the United States," rather than the doing of business within the United 
 States, is the- test as to the taxability of foreign corporations; in other 
 words, that the Revenue Act of 1921 and the Revenue Act of 1918 as to 
 foreign as well as domestic corporations impose an income, not an excise tax. 
 The act of August 5, 1909, was an excise tax law, both with respect to 
 domestic and foreign corporations, measured with reference to net income. 
 
FOREIGN CORPORATIONS 301 
 
 Income Subject to Tax. The gross income of a foreign corpo- 
 ration includes only the gross income from ."sources within the 
 United States." i" From the amount of such gross income may- 
 be subtracted the sum of the deductions and credits enumerated 
 in the law, with the exceptions and subject to the limitations 
 indicated in a preceding chapter.^ 
 
 Rate of Tax. The rate of tax imposed upon foreign corpo- 
 rations by the preserjt law is the same as that imposed upon 
 domestic corporations — 10% for the calendar year 1921, and 
 1214 % for the calendar year 1922, and subsequent years.^^ 
 
 Income from Sources Within the United States. While the 
 United States has power to tax a foreign corporation for the 
 privilege of doing business in the United States, ^^ the Revenue 
 Act of 1921 and the 1918 law both levy a tax not upon such 
 privilege, but upon income "from sources within the United 
 States. "1* The subject of what constitutes income from such 
 sources is thoroughly discussed in another chapter, as that term 
 is to be defined in the case of nonresident alien individuals and 
 foreign corporations.^^ It is sufficient to note at this point that 
 the term "sources within the United States" is more definitely 
 defined in the Revenue Act of 1921 than in the Revenue Act 
 Of 1918, or any preceding income tax law.^^ A few rulings and 
 regulations, having special application to foreign corporations, 
 rather than nonresident alien individuals, are discussed in the 
 following paragraphs, as well as an important exemption pro- 
 vision which applies in the case of a certain class of foreign 
 corporation — ^foreign steamship companies. 
 
 Domestic Corporation Owning Stock of Foreign Corpo- 
 ration. A foreign corporation, 99% of whose stock was owned 
 by a domestic corporation, the balance being held by foreign 
 oflScers as qualifying shares, entered, in 1918, into certain agree- 
 ments with the domestic corporation under which the latter 
 agreed to give the former the benefit of its experience and 
 special knowledge and the use of equipment for the manu- 
 facture of the particular products, to loan to the former plans, 
 
 (Flint V. Stone-Tracy Co., 220 U. S. 107; Bryant & May, Ltd. v. Scott, 
 226 Fed. 875.) 
 
 10 Revenue Act of 1921, § 233 (b) ; Revenue Act of 1918, § 233 (b) . 
 
 11 See Chapter 4. 
 
 12 Revenue Act of 1921, § 230. 
 
 13 See Footnote 9. 
 
 14 Revenue Act of 1921, §§ 230 (a), 233 (b) ; Revenue Act of 1918, §§ 230 
 (a), 233 (b). 
 
 15 See Chapter 4. 
 
 16 See Revenue Act of 1921, §217. 
 
302 FEDERAL INCOME TAX 
 
 specifications, drawings, patterns, etc., and to furnish the 
 services of experienced engineers, draughtsmen and experts, in 
 consideration of which assistance the domestic corporation was 
 to receive a fixed percentage of the net profits of the foreign 
 corporation. It was held that the ownership by the American 
 corporation of stock in the foreign corporation and the con- 
 tractual relationship between the two corporations had no bear- 
 ing on the determination of whether the income of the foreign 
 corporation from the sale of its products to the United States 
 government was income from "sources within the United 
 States." The two corporations were separate and distinct tax- 
 able entities. They were not required under the 1918 law and 
 would not be permitted, to file a consolidated return and the 
 contractual relationship did not constitute t)ie American corpora- 
 tion the agent of the foreign company. The American corpora- 
 tion merely received compensation for assistance rendered and 
 dividends on its stock holdings. The foreign corporation main- 
 tained no office or place of business in the United States during 
 the period in question and the sole question was held to be 
 where the goods contracted for were purchased and sold. As 
 it appeared that the foreign corporation executed the contract 
 for sale outside the United States, manufactured and made 
 delivery of the goods to the United States government, f. o. b. 
 at a point outside the United States, and received payment there- 
 for outside the United States, it was held that the profits from 
 such sales were not derived from "sources within the United 
 States."" 
 
 Foreign Corporations Having No Office or Agent in This 
 Country, Collecting Commissions. It was ruled under the 
 1916 law that a foreign corporation located at Singapore, having 
 no office or agent in the United States, which was engaged in 
 the commission business, and which during the year 1917 sold 
 at Singapore and in i\earby countries certain products of manu- 
 facturing establishments in the United States — the purchase 
 price of the goods being transmitted by the purchasers to the 
 manufacturers and American houses direct, and when the money 
 was received in the United States a commission being paid out 
 of the proceeds of sale to the Singapore corporation — was not 
 in receipt of income derived from sources within the United 
 States; also that should an American corporation receive these 
 commissions from the manufacturer and transmit them to the 
 Singapore corporation, where it simply acted as agent for the 
 Singapore corporation in receiving and transmitting such com- 
 
 17 A. R. M. 133, T. B. 26-21-1703. 
 
FOREIGN CORPORATIONS 303 
 
 missions and retained no part thereof for its own use, it need 
 not report them as its own income.i^ Amounts paid to a non- 
 resident foreign corporation as compensation for orders secured 
 by it from foreign customers for exports booked through such 
 nonresident foreign corporation are held not to be income from 
 sources within the United States.i^ 
 
 Foreign Steamship Companies. The present law specifically 
 exempts the income of a nonresident alien or foreign corpora- 
 tion, consisting exclusively of earnings derived from the opera- 
 tion of a ship or ships documented under the laws of a foreign 
 country, which, grants an equivalent exemption to citizens of 
 the United States and domestic corporations.^" This is a new 
 exemption created by the Revenue Act of 1921, designed to 
 "encourage the international adoption of uniform tax laws affect- 
 ing shipping companies, for the purpose of eliminating double 
 taxation." 21 Under the 1918 law the tax did not apply to charter 
 money or freight payments received by a foreign owner in re- 
 gard to a vessel operated between the United States and for- 
 eign ports, if the person receiving the income maintained no 
 regular agency in the United States and was not doing busi- 
 ness in the United States. ^^ Foreign steamship companies en- 
 gaged in the business of transporting passengers, goods and 
 merchandise between ports in this country and foreign ports 
 and maintaining passenger and freight agencies in this country, 
 were subject to the income tax imposed by the 1918 and previous 
 laws and will be subject to the tax imposed by the present law if 
 the laws of the country under which their ships are documented 
 do not grant the "equivalent exemption" referred to above. There 
 seems to be no constitutional objection involved in such tax 
 being a tax on exports.^^ Foreign steamship companies were 
 
 18 Letter from treasury department dated April 20, 1918; I. T. S. 1921 
 H 1087. 
 
 19 0. D. 112, T. B. 2-19-167. 
 
 20 Revenue Act of 1921, § 213 (b) 8. 
 
 21 See Report of Finance Committee on Revenue Bill of 1921, p. 14. 
 
 22 Reg. 45, Art. 92. 
 
 23 28 Op. Atty. Gen. 211; Aguirre v. Maxwell, 3 Blatch. 140; Peck v. 
 Lowe, 247 U. S. 165. For the method of computing the income of such 
 companies from sources within the United States see letter from treasury 
 department dated July 18, 1916; I. T. S. 1921, Tf 1082. But this is a highly 
 unsatisfactory method and its legality is extremely doubtful. In effect, it 
 holds that receipts from outgoing freight and passenger traffic is income 
 from sources within the United States. It would seem that the going and 
 coming voyage of a steamship should be treated as a unit, and not more 
 than 50% at most of the ship's gross receipts treated as coming from 
 United States sources. In general the factors producing the income are (1) 
 
^504 FEDERAL INCOME TAX 
 
 held not to derive income from "sources within the United 
 States" by reason of the fact that they received, at a port within 
 the United States, freight originating in a foreign country to 
 be shipped to another foreign country. Income from "sources 
 within the United States" was held to be that derived from 
 freight charges paid to the companies within the United States 
 in respect of shipments originating therein .2* When freight 
 shipments, originating in Canada, were brought to a United 
 States port by railroad and received at that port by a foreign 
 steamship company (which did business and maintained a regu- 
 lar agency in the United States) for transportation abroad, and 
 the freight charges of the steamship company were prepaid 
 by the railroad company, and the company's vessels, upon their 
 return voyage to the United States, used coal purchased abroad 
 as ballast, which was sold upon arrival in the United States, the 
 freight charges on the goods transported abroad were held, 
 under the 1918 law, to represent income from "sources in the 
 United States." The amount received for the ballast coal dis- 
 posed of in the United States was held to be gross income from 
 sources within the United States, and the cost of such coal a 
 deduction.25 
 
 Deductions in Computing Net Income from Sources Within the 
 United States. The deductions of a foreign corporation, like 
 those of a nonresident alien individual, are in general the same 
 as those allowed to domestic corporations, except that such de- 
 ductions will be allowed "only if and to the extent that they 
 are connected with income from sources within the United 
 States"; and the proper apportionment and allocation of such 
 deductions with respect to income from sources within and 
 sources without the United States is to be determined as out- 
 lined in another chapter.^s 
 
 Items Not Deductible. No deduction will be allowed to foreign 
 corporations in respect of certain items which are expressly 
 specified by the statute not to be deductible. These items are the 
 
 the loading (or discharging) in this country, (2) the navigation, and (3) 
 the discharging (or loading) in a foreign country. It is difficult to measure 
 the navigation factor vyhich occurs chiefly without the jurisdiction of this 
 country, but the other tviro factors are certainly equally important, and 
 neglecting navigation entirely as a factor, there would seem to be no greater 
 gross income from sources within the United States than 50% of the gross 
 receipts on both sides of the ocean. In the case of trades other than trans- 
 Atlantic trades, the problem is even more complicated. ' 
 
 24 0. D. 1024, T. B. 36-21-1806. 
 
 25 0. D. 596, T. B. 29-20-1077. 
 
 26 See Revenue Act of 1921, §§234 (b), 217. See Chapter 4. 
 
FOREIGN CORPORATIONS 305 
 
 same in the case of individuals, resident or nonresident, and 
 corporations, domestic or foreign, and are enumerated and dis- 
 cussed in another chapter.^^ 
 
 Credits Allowed to Foreign Corporations. In addition to the 
 above mentioned deductions foreign corporations are allowed 
 the same credits as are allowed to domestic corporations, except 
 the specific exemption which is allowed only to domestic corpo- 
 rations. These credits are more fully discussed in another 
 chapter.28 
 
 Collection of the Tax at the Source. The withholding pro- 
 visions of the Revenue Act of 1921 applying to foreign corpora- 
 tions are similar to the corresponding provisions of the 1918 
 law, except that withholding is no longer required on interest 
 on deposits with persons carrying on the banking business paid 
 to nonresident foreign corporations. In the case of nonresident 
 foreign corporations, a tax equal to 10% in 1921, and 121/^% 
 in 1922 and subsequent years, is withheld at the source on pay- 
 ment of interest, rent, salaries, wages, premiums, annuities, 
 compensations, remunerations, emoluments, or other fixed or 
 determinable annual or periodical gains, profits and income, 
 except that the law requires a tax equal only to 2% to be 
 withheld at the source on all interest on bonds, mortgages, or 
 deeds of trust or other similar obligations of a corporation con- 
 taining a so-called "tax-free covenant." ^9 A nonresident foreign 
 corporation cannot, by filing any certificate or claim for exemp- 
 tion, prevent the withholding of such tax, but if there is in- 
 cluded in such corporation's return of all income received from 
 sources within the United States, any income upon which tax 
 has been withheld at the source, the corporation may take credit 
 against the amount of tax due for the amount of the tax so 
 withheld at the source, provided a statement is attached to the 
 return setting forth the source and the amount of the income 
 upon which the tax was so withheld. If a return discloses the 
 
 27 See Revenue Act of 1921, §§ 235, 214; Revenue Act of 1918, §§ 235, 215. 
 
 28 Revenue Act of 1921, §236; Revenue Act of 1918, §236. See Chapter 
 
 31. 
 
 29 Revenue Act of 1921, §§221, 237; Revenue Act of 1918, §§221, 237. 
 
 The tax on corporation bonds containing "tax-free covenants" is required 
 by law to be withheld only at the rate of 2% in order to limit the obliga- 
 tion of debtor corporations under those covenants. It seems, therefore, on 
 such bonds the remainder of the income may be paid over without with- 
 holding by the debtor corporation. The collection of the remaining tax on 
 the interest paid has no doubt been considered by the treasury department, 
 but it is difficult to find a method by which this can be done without in- 
 creasing the liability of the debtor corporations under their covenants, 
 which liability the law expressly limits. 
 
306 FEDERAL INCOME TAX 
 
 i. 
 
 fact that the tax withheld exceeds the liability of the corporation, 
 the treasury department then orders a refund of the excess 
 amount withheld. For this purpose the return of the foreign 
 corporation should have attached thereto a statement giving 
 the names of the withholding agents and the amounts withheld 
 respectively .30 There is no collection of the tax at the source 
 on payments of any kind to resident foreign corporations. ^^ 
 
 Procedure in Collecting Income Subject to Withholding. 
 To enable debtors in the United States to distinguish between 
 resident and nonresident foreign corporations (foreign corpora- 
 tions which have, and those which have not any. office or place of 
 business in the United States) and also to enable resident for- 
 eign corporations to claim exemption from withholding on bond 
 interest or other income, a certificate stating that any such 
 corporation has an office or place of business in the United 
 States should be filed by it with the debtor.32 
 
 Resident Agents for Foreign Corporations. In addition 
 to the provisions prescribed by law for the collection of the 
 tax at the source on income paid to nonresident foreign corpo- 
 rations the treasury department has evolved a method of col- 
 lecting the tax by impressing upon residents of this country 
 under certain circumstances the duty of filing returns and ac- 
 counting for any taxes which may be due from nonresident 
 foreign corporations on the income which passes through the 
 hands of such residents. This duty is discussed fully in another 
 chapter.33 
 
 Returns of Foreign Corporatians. Every foreign corporation 
 receiving income from sources within this country is required 
 to make a return of income, stating specifically the items of its 
 gross income and the deductions and credits to which it may 
 be entitled.^* It is not necessary, however, in order to be re- 
 quired to make a return, that a foreign corporation shall be 
 engaged in business in this country or that it have any office, 
 branch or agency in the United States.^^ 
 
 When Filed. The return of a nonresident foreign corpora- 
 tion is filed on or before June 15th, or the 15th day of the 6th 
 
 -30 Revenue Act of 1921, §§221 (d), 237; Revenue Act of 1918, §221 (d); 
 Reg. 45, Art. 376; Reg. 33 Rev., Art. 2.01. (See also Reg. 33 Rev., Art. 
 43; Reg. 33, Art. 46, and Chapter 40.) 
 
 31 Revenue Act of 1921, § 237; Reg. 45, Art. 361. 
 
 32 Reg. 45, Art. 601. 
 
 33 Reg. 45, Art. 404. See Revenue Act of 1916, § 9 (g) and Chapter 5 
 
 34 Revenue Act of 1918, § 239; Reg. 45, Art. 625. 
 
 35 Reg. 45, Art. 625. 
 
FOREIGN CORPORATIONS 307 
 
 month following the close of the fiscal year of the corporation, 
 accordingly as the corporation reports on the basis of the calen- 
 dar or a fiscal year. The return of a resident foreign corpo- 
 ration is filed on or before March 15th, or the 15th day of the 
 3rd month following the close of the fiscal year of the corpo- 
 ration. ^"5 
 
 Where Filed. The return of a foreign corporation should be 
 made to the collector of the district in which is located the 
 principal place of business or principal office or agency of the 
 corporation, or if it has no principal place of business or prin- 
 cipal office or agency in the United States, then to the collector 
 at Baltimore, Maryland.^'' 
 
 By Whom Filed. The responsibility for filing the return of • 
 a foreign corporation rests in some cases on the agent of the 
 foreign corporation in the United States, as indicated in another 
 chapter.38 When the return is filed by the officers of the foreign 
 corporation, the agent of the corporation in this country is 
 relieved of the responsibility. 
 
 How Prepared. The return of a foreign corporation is pre- 
 pared in the same manner as the return of a domestic corpora- 
 tion, except that the statements contained therein should relate 
 to income from "sources" within this country and the deduc- 
 tions should be limited as above indicated.^a 
 
 How Signed and Sworn To. If the return of a foreign corpo- 
 ration is filed by the home office, it should be sworn to by 
 the president, vice president or other principal officer of the 
 corporation and by the treasurer or assistant treasurer, and 
 be verified in the same manner as is required in the case of 
 domestic corporations.*" In case the return is signed by the 
 agent for the corporatipn resident in this country, the affidavit 
 on the form should be changed to show that report is made by 
 such agent, and covers all the income coming into his hands, or all 
 the income of the corporation from "sources within the United 
 States," as the case may be. 
 
 36 Revenue Act of 1921, §§241 (a), 227 (a). Under the 1918 Law, such 
 corporations filed returns at the same time as other corporations. See 
 Chapter 34. 
 
 37 Revenue Act of 1921, § 241 (b) ; Revenue Act of 1918, § 241 (b) ; Reg. 
 45, Art. 651. 
 
 38 Reg. 45, Art. 625. See Chapter 5. A foreign corporation having 
 several branch offices in the United States was required, under the 1916 
 Law, to designate one of such branches as the principal office and to desig- 
 nate the proper officer to make the required return. (Reg. 33, Art. 83.) 
 
 3» See p. 304. 
 
 40 Revenue Act of 1921, § 239; Revenue Act of 1918, § 239. 
 
308 FEDERAL INCOME TAX 
 
 Consolidated Returns. The Revenue Act of 1921 modifies the 
 former provision for the filing of consolidated returns by affiliated 
 corporations, but this provision does not apply to foreign corpo- 
 rations, except that the Commissioner may, as indicated in an- 
 other chapter, consolidate the accounts of related trades or busi- 
 nesses, including foreign trades or businesses, whether incorpo- 
 rated or not.*i 
 
 Special Returns. Resident foreign corporations are required to 
 make the same special returns for the purpose of information 
 at the source as are required of domestic corporations.*- Non- 
 resident alien corporations are not required to make special 
 returns by any express provision of the law, but may be called 
 upon under general provisions of the law for information re- 
 specting their income from sources in this country. 
 
 Duty of Foreign Corporations in Paying Out Income. In pay- 
 ing out income to others subject to the tax, a resident foreign 
 corporation is subject to all the duties and responsibilities im- 
 posed upon domestic corporations as to withholding the tax at 
 the source or reporting the names of the persons to whom such 
 income is paid.*^ Nonresident foreign corporations are under 
 no duty in paying 'out income to others, whether or not such 
 payees are citizens or residents of this country. 
 
 Collection of Foreign Items. Resident foreign corporations 
 undertaking as a matter of business or for profit the collection 
 of foreign items are required to obtain a license in the same 
 manner as domestic corporations.** 
 
 Penalties. Foreign corporations, or their officers or employees, 
 are subject in certain cases to penalties, both specific and qd 
 valorem, for failing or refusing to make returns, supply inf ornia- 
 tion, pay or collect any tax or for wilfully attempting in any 
 manner to defeat or evade the tax. Such penalties are more 
 particularly discussed in another chapter.*-'' 
 
 Domestic Corporations Which Are Taxable Only on Income 
 From Sources Within the United States. Domestic corporations 
 which satisfy the two conditions stated below are taxable only 
 with respect to income from "sources within the United States." 
 This constitutes an exception to the general rule which has been 
 invariably applied hitherto in taxing domestic corporations that 
 
 *i See Chapter 10. 
 
 42 Revenue Acts of 1918 and 1921, §§ 254, 255 and 256. 
 
 43 Revenue Acts of 1918 and 1921, §§221, 237 and 256. For a further 
 discussion of this subject see Chapters 40 and 39. 
 
 44 Revenue Acts of 1918 and 1921, § 259. See Chapter 10. 
 
 45 See Chapter 36. 
 
FOREIGN CORPORATIONS 309 
 
 they are resident^ of this country if organized under the laws 
 of any state, or political subdivision of the United States and 
 as such residents are taxable upon their income from all sources', 
 even though their business may be done or their property 
 located entirely abroad. The conditions referred to are: 
 
 (1) 80% or more of the gross income of such domestic 
 corporation (computed without the benefit of this provision) for 
 the three-year period immediately preceding the close of the 
 taxable year (or for such part of such period immediately pre- 
 ceding the close of such taxable year as may be applicable) 
 must have been derived from sources within a possession of the 
 United States; and (2) 50% or more of its gross income (com- 
 puted without the benefit of this provision) for such period or 
 such part thereof must have been derived from the active con- 
 duct of a trade or business within a possession of the United 
 States. Notwithstanding the rule stated above there must be 
 included in the gross income of such domestic corporations all 
 amounts received within the United States, whether derived 
 from sources within or without the United States.*^ 
 
 Foreign Governments. Any income received by foreign gov- 
 ernments from investments in the United States in stocks, bonds, 
 or other domestic securities owned by such foreign governments, 
 or from interest or deposits in banks in the United States of 
 moneys belonging to such foreign governments, or from any 
 other source within the United States, is exempt from the in- 
 come tax. The regulations and rulings issued under the 1918 
 law, which contained precisely the same exemption, should 
 control under the present law. But this exemption does not 
 apply to income from investments in the United States in stocks, 
 bonds, or other domestic securities which are not actually owned, 
 but are loaned to such foreign governments.*''' Income derived 
 by a foreign corporation from sources within the United States 
 is subject to federal tax, regardless of the fact that 51% of its 
 
 46 Revenue Act of 1921, § 262. It was first intended to make this sec- 
 tion retroactive, but this intention was abandoned. It now operates as of 
 January 1, 1921. 
 
 *T Revenue Act of 1921, §213 (b) 5; Revenue Act of 1918, §213 (b) 5; 
 Reg. 45, Art. 83; 0. D. 710, T. B. 24-20-1275. Under the 1916 Law, prior 
 to the amendment pi lOctober 3, 1917, it was held by the treasury depart- 
 ment that the income accruing to a foreign government from sources with- 
 in the United States arising from interest on bonds or dividends on stock 
 of domestic corporations was subject to tax. The 1917 Law provided that 
 the income of foreign governments received from investments in the United 
 States in stocks, bonds, or other domestic securities owned by them, or 
 from interest on deposits in banks in the United States of money belonging 
 
310 
 
 FEDERAL INCOME TAX 
 
 stock is owned by a foreign government.*^ Interest credited 
 by a domestic bank to the account of a foreign bank, part of 
 whose stock is owned by a foreign government, is not exempt 
 from income tax.*" A foreign government is not subject to tax 
 on income derived from the operation of vessels owned by such 
 government through its agents in the United States. Neither 
 is the foreign government liable to tax upon the income arising 
 from the operation for its benefit of vessels chartered by it.^" 
 
 Political Subdivisions of Foreign Governments. The 
 exemption discussed in the previous paragraph applies to the 
 political subdivisions of foreign governments.^! The Common- 
 wealth Bank of Australia was established by an act of the legis- 
 lature of Australia, which provided that the appointment of 
 the governor of the bank and the control of its affairs should 
 be vested in officials of the government; that the capital neces- 
 sary for its operations should be supplied solely by the sale of 
 interest-bearing obligations, not entitling the purchaser thereof 
 to any interest in the bank or to any share in its profits, the 
 issuance and sale of which are to be controlled by the governor- 
 general of the commonwealth; that the securities so issued are 
 guaranteed by the commonwealth; that the commonwealth is 
 exclusively entitled to any profits of the bank and is the guar- 
 antor of its debts. The bank is, therefore, a governmental 
 agency of the commonwealth of Australia and as such is exempt 
 from income tax.^^ 
 
 Foreign Ambassadors and Ministers. The income of foreign 
 ambassadors and ministers from investments in bonds and 
 stocks and from interest on bank balances, and the fees of for- 
 
 to such foreign governments was exempt. This did not, however, exempt 
 from the tax any income collected by foreign governments from investments 
 in the United States in stocks, bonds or other domestic securities, which 
 were not bona fide owned by but were loaned to such foreign governments. 
 The exemption was and still is predicated upon the fact that the securities 
 or moneys from which income was derived were actually owned by such 
 foreign governments. (Reg. 33 Rev., Art. 87; T. D. 2425; Revenue Act of 
 1916, as amended by Revenue Act of 1917, § 30; 0. D. 483, T. B. 18-20-895; 
 0. D. 20, T. B. 1-19-32.) 
 
 48 0. D. 958, T. B. 26-21-1702. 
 
 *9 O. D. 448, T. B. 15-20-844. Such interest is not income from "Sources 
 within the United States" under the present law, if paid to a nonresident 
 foreign corporation not engaged in" business in the United States (Revenue 
 Act of 1921, §217 (a) 1). 
 
 50 O. D. 515, T. B. 21-20-951. 
 
 51 Reg. 45, Art. 83. 
 
 52 0. D. 628, T. B. 33-20-1129. 
 
FOREIGN CORPORATIONS 311 
 
 eign consuls, are exempt from, tax, but income of such foreign 
 officials from any business carried on by them in the United 
 States would be taxable.^^ Only foreign diplomats, ambassadors, 
 and other diplomatic representatives in charge who are ac- 
 credited to the United States to represent their sovereign or 
 country and who reside in the United States, and the members 
 of their staff, are entitled to this exemption. Foreign consuls 
 resident in the United States are not entitled to the exemption, 
 except as to fees.^* Delegates to the United States representing 
 a foreign country in connection with an agreement with the 
 United States food administration, whereby flour is furnished 
 to that country, and raw materials are brought to this country 
 and sold, are not subject to tax with respect to any profits derived 
 from the sale of such products.^^ The compensation of citizens 
 of the United States who are officers or employees of a foreign 
 government is not exempt from tax.^s A subject of a foreign 
 country, who at the time of his appointment to a legation in 
 the United States is a resident of the United States, would be 
 subject to tax on the same basis as a citizen of the United 
 States.s''^ The provision which exempts income of foreign am- 
 bassadors, ministers, and their subordinates who were non- 
 resident aliens at the time of appointment extends to income 
 received by their wives from sources within the United States.^s 
 
 53 Reg. 45, Art. 83. 
 
 5*0. D. 336, T. B. 29-19-624. 
 
 55 0. D. 182, T. B. 8-19-315. 
 
 56 Reg. 45, Art. 83. 
 
 57 O. D. 196, T. B. 9-19-339. 
 
 58 0. D. 1115, T. B. 48-21-1945, overruling O. D. 153, T.-B. 5-19-248. 
 
CHAPTER 13 
 
 EXEMPT ORGANIZATIONS 
 
 The Revenue Act of 1918, with the exceptions noted below, 
 exempted the same classes of corporations as the 1916 Law. The 
 Revenue Act of 1921 continues the exemption to the same classes 
 of corporations, in certain cases limiting or describing such 
 corporations in somewhat greater detail than the 1918 Law. 
 These additional limitations will be discussed in the paragraphs 
 in this chapter dealing with the classes of corporations affected. 
 There are fourteen classes of exempt organizations.^ Exempt 
 corporations are required to withhold the tax at the source, 
 and to report payments of income to others, in the same manner 
 as is required of taxable corporations.^ 
 
 Foreign Corporations. The exemptions of the law apply to 
 foreign corporations as well as to domestic corporations, except 
 in the case of building and loan associations and co-operative 
 banks.2 In case a foreign corporation desires to be held exempt 
 from' the law and doubt exists as to whether or not it comes 
 within the classes of organizations enumerated in the law, it 
 is required to file a copy of its charter or articles of incorpora- 
 tion and by-laws and an affidavit executed by its principal officer 
 showing the sources of its income and its disposition, whether 
 or not any of its income is credited to surplus or may inure 
 to the benefit of any private stockholder, or individual, and in 
 general all facts relating to its operations which relate to its 
 
 1 Revenue Act of 1921, § 231; Revenue Act of 1918, § 231. The first eight 
 of these classes were exempt under the 1913 Law; the next five classes were 
 added by the 1916 Law. The 1918 Law and the 1921 Law discontinue the 
 exemption granted by the 1916 Law to joint-stock land banks and add an 
 exemption in favor of personal service corporations. Corporations exempt 
 under the 1916 Law were also exempt to the same extent under the 1917 
 Law. (Reg. 33 Rev., Art. 68.) 
 
 2 T. D. 2693; T. D. 2407; Reg. 33 Rev., Art. 81. Exempt corporations under 
 the 1913 Law were exempt from all provisions of the law, and it was held 
 that this included exemption from the duty of acting as withholding agent, 
 but under the 1916 Law and the present law the rule is as stated in the text. 
 The 1913 Law provided that "nothing in this section" should apply to the 
 corporations enumerated as exempt; the 1916 Law: "there shall not be taxed 
 under this title any income received by" such exempt corporations; the 1918 
 "and the 1921 Laws: "the following organizations shall be exempt from 
 taxation under this title." 
 
 3 The provisions of §11 of the 1916 Law were so held. (Letter from treas- 
 ury department dated December 6, 1916; I. T. S. 1921, Tf 1073.) 
 
 312 
 
EXEMPT ORGANIZATIONS 313 
 
 rights to exemption. The question whether or not the organiza- 
 tion will be held exempt is determined by the treasury depart- 
 ment upon the facts so shown.* 
 
 Exemption Limited to Classes Specifically Enumerated. Any 
 corporation, no matter how created or organized, or what the 
 purpose of its organization may be, is taxable unless it comes 
 within the' classes of organizations specifically enumerated as 
 exempt. A corporation is not exempt simply and only because 
 it is primarily not organized and operated for profit. If income 
 within the meaning of the law arises and accrues to a corpora- 
 tion, such income will be subject to the tax unless the corpora- 
 tion is one of the exempt organizations expressly enumerated 
 in the law. Thus, commercial men's associations, and like or- 
 ganizations are not exempt, as they are not expressly enumer- 
 ated, although they may be corporations not organized for 
 profit.^ Where a corporation is organized for the purpose of 
 owning and operating an apartment house, its income being 
 derived from co-operatively collecting the expense of operating 
 the apartments each month from its members, each of whom 
 is entitled to occupy an apartment in the building, it has been 
 held that inasmuch as there is no provision in the law expressly 
 exempting co-operative home-owning corporations from taxa- 
 tion such a corporation is precluded from exemption.^ An or- 
 ganization which would otherwise be exempt, but which operates 
 in a nonexempt manner is not entitled to exemption; and an 
 organization which is ordinarily exempt, but which owns prop- 
 erty in excess of its needs and carries on industrial pursuits 
 distinct from its exempt activities is not exempt.''^ 
 
 Where Question as to Right of Exemption Exists. In order to 
 establish exemption, and thus be relieved from the duty of filing 
 returns of income and paying the tax, it is necessary that every 
 organization claiming exemption, except personal service corpo- 
 rations, file an affidavit with the collector of the district in which 
 it is located, showing (1) the character and purpose of the or- 
 ganization; (2) the source from which all its income is derived; 
 (3) what disposition is made of such income; and (4) whether 
 
 4 Reg. 45, Art. 511; Letter from treasury department dated December 5, 
 1916; I. T. S. 1919,112284. 
 
 5 T. D. 2152. See Commercial Travelers etc. Ass'n v. Rodway, 235 Fed. 
 370. T. D. 2152 also held farmers' mutual fire insurance companies to be 
 taxable, but the 1916 Law subsequently expressly exempted such organiza- 
 tions. The 19i8 Law and the 1921 Law expressly exempt them. 
 
 e O. D. 1042, T. B. 38-21-1832. 
 7 O. D. 953, T. B. 25-21-1695. 
 
314 FEDERAL INCOME TAX 
 
 or not any of it is credited to surplus or inures or may inure 
 to the benefit of any private stockholder or individual.^ To 
 such affidavit should be attached a copy of the charter or articles 
 of incorporation and by-laws of the organization. Upon receipt 
 by the collector of the affidavit accompanied by the copy of the 
 charter, or articles of incorporation and copy of the by-laws, he 
 will inform the organization whether or not it is exempt. If, 
 however, the collector is in doubt as to the taxable status of 
 the organization, he will refer the affidavit and accompanying 
 papers to the commissioner for decision.^ The character of a 
 corporation must be judged by its articles of incorporation, 
 constitution, and by-laws rather than by the declarations of its 
 officers or the method by which it conducts or has conducted 
 its business.i" Where there is any doubt as to the status of a 
 corporation under the provisions of the law, and its exempt 
 status has not been established by the treasury department, the 
 annual return should be filed (in blank if desired) and an 
 affidavit attached thereto setting out fully the same information. 
 If the collector is in doubt, he will refer the statement and 
 return to the commissioner for decision and withhold listing for 
 assessment until a decision is reached.^^ 
 
 Right of Exemption Must Be Proved on Request. In the ab- 
 sence of the showing indicated in the preceding paragraph, or- 
 ganizations enumerated as exempt may at any time be required 
 to make returns of income or disclose their books of account to 
 a revenue officer for examination in order that the status of 
 the company may be determined.^^ Having once satisfied the 
 collector as to its right to exemption, a corporation is not re- 
 quired to make a return of income or any further showing with 
 respect to its status under the law unless it changes the character 
 of its organization or operations or the purpose for which it 
 was originally created.!^ Collectors keep a list of all exempt 
 corporations to the end that they may occasionally inquire into 
 
 8 Reg. 45, Art. 511; Reg. 33 Rev., Art. 78. 
 
 9 Reg. 45, Art. 511; T. D. 2693. 
 
 10 0. D. 190, T. B. 8-19-328. But see A. R. R. 218, T. B. 32-20-1121. A 
 distinction is made as to religious, charitable, scientific and educational 
 corporations. See A. R. R. 219, T. B. 32-20-1121, as to such corporations. 
 
 11 Reg. 33 Rev., Art. 79. Letter from treasury department dated November 
 1, 1916; I. T. S. 1919, 112282. 
 
 12 Reg. 33, Art. 88. 
 
 13 Reg. 45, Art. 511; Mimeograph letter to collectors No. 1148; I. T. S. 
 1918, H 1201. T. D. 2137. 
 
EXEMPT ORGANIZATIONS 315 
 
 their status and ascertain whether or not they are observing the 
 conditions upon which their exemption is predicated.^* 
 
 Labor, Agricultural and Horticultural Organizations (first 
 class). The exemption of this class is unconditional. Although 
 the language of the statute is very broad, the law undoubtedly 
 refers only to such organizations as are not organized for profit, 
 have no income inuring to the benefit of their members, and 
 are educational or instructive in character, having for their 
 purpose the betterment of the condition of their members, the 
 improvement of the grade of their products, and the encourage- 
 ment and promotion of the industries named to a higher degree 
 of efficiency.15 The following kinds of organization have been 
 held not to fall within this class of exempt organizations : 
 
 1. An activity organized for the purpose of affording em- 
 ployment to members of a labor union, which, although owned 
 and controlled by the union, is not a part of the union as such, 
 wages being paid to members employed and profits after pay- 
 ing expenses being turned into the treasury of the union.^^ 
 
 2. Organizations for the publication of a breed register the 
 purpose of which is to render a service to the breeders of pure 
 bred live stock.^''^ 
 
 3. A corporation engaged in the business of raising stock 
 or poultry, or growing grain, fruits, or other products of this 
 character as a means of livelihood and for the purpose of gain.^^ 
 
 4. Agricultural corporations owning sugar plantations and 
 disposing of the product thereof. ^^ 
 
 5. Societies or associations which have for their purpose the 
 holding of annual or periodical race meets and from which 
 profits inure, or may inure, to the benefit of the members or 
 stockholders.^" 
 
 County fairs or like organizations of a quasi-public char- 
 acter, not themselves engaged in agricultural or horticultural 
 
 14 Reg. 45, Art. 511; Reg. 33 Rev., Art. 80. 
 
 15 Reg. 45, Art. 512; Reg. 33 Rev., Art. 73. 
 
 16 O. D. 523, T. B. 21-20-961. 
 
 17 A. R. M. 79, T. B. 33-20-1137. Many of these organizations are very 
 profitable, and while they utilize a portion of their profits for the advance- 
 ment of the breeds which they register, through prizes and premiums offered 
 for such breeds at the various agricultural fairs, thereby advancing their 
 own interests as well as those of the breeders, they do pay dividends out of 
 what remains. Such organizations might be so organized and operated as 
 to fall under the sixth or seventh class described below. 
 
 18 Reg. 45, Art. 512; Reg. 33 Rev., Art. 74. 
 
 18 T. D. 2090. 
 
 20 Reg. 45, Art. 512; Reg. 33 Rev., Art. 73. 
 
316 FEDERAL INCOME TAX 
 
 pursuits, and which, by means of awards, prizes or premiums, 
 etc., are designed to encourage better production, and no part 
 of whose income, derived from gate receipts, entry fees, dona- 
 tions, etc., inures to the benefit of any private stockholder or 
 individual, but is used exclusively to meet the necessary ex- 
 penses of upkeep and operation, are held to be exempt.^^ 
 
 Mutual Savings Banks (second class). The mutuaPz savings 
 banks which are exempt are those not having a capital stock 
 represented by shares.^s A savings bank within the accepted 
 meaning of the term contemplates the ordinary institution of 
 that kind as organized and conducted in accordance with the 
 statutes of the various states. Its manner of investing the 
 savings of depositors is restricted. Furthermore, the funds are 
 received by deposits ordinarily made, rather than by a contract 
 under which there arises a binding duty to make future deposits. 
 Therefore, an organization which receives deposits from its 
 members by contract under which there arises a binding duty 
 to make future deposits, and which is operated for the purpose 
 of speculation rather than for savings, is not a mutual savings 
 bank.2* A savings fund association having no capital stock rep- 
 resented by shares and deriving its entire income from invest- 
 ments of deposits, such income being divided pro rata among 
 all members after deducting operating expenses, the members 
 (who are required to be depositors) electing the board of 
 trustees from their number and these trustees electing officers, 
 is exempt.-^ An association of employees of a company formed 
 for the purpose of enabling its members to save and borrow 
 money, the members of which are limited to the employees of the 
 company who elect annually a board of trustees, has been held 
 exempt under this heading. Each member of this association 
 might subscribe to from 1 to 25 shares of stock which is rep- 
 resented by certificates of deposit, and at the end of the year 
 the money paid in, together with the earnings thereon, was 
 returnable to the members proportionately, but each member 
 had the option of allowing the money to remain on deposit to 
 accumulate further earnings. Any member might borrow 
 from the association on his promissory note, but in no greater 
 amount than remained to his credit, plus a sum equal to one 
 
 21 Reg. 45, Art. 512. 
 
 22 As to what constitutes a mutual purpose see notes 41 and 95 below. 
 
 23 Revenue Act of 1921, 231 (2) ; Revenue Act of 1918, 231 (2). 
 
 24 O. D. 780, T. B. 4-21-1410. 
 
 25 0. D. 528, T. B. 22-20-974. 
 
 26 0. D. 703, T. B. 43-20-1265. 
 
EXEMPT ORGANIZATIONS 317 
 
 month's salary, unless the note was secured by satisfactory 
 collateral.26 A Massachusetts savings bank, otherwise exempt, 
 which establishes an insurance department under the statutes of 
 that state, does not thereby become subject to tax upon the in- 
 come received by such department.^'' 
 
 Fraternal Beneficiary Societies (third class). Fraternal bene- 
 ficiary societies, orders or associations are exempt (a) if they 
 operate under the lodge system, or if they are for the exclusive 
 benefit of the members of a fraternity itself operating under 
 the lodge system, and (b) if they provide for the payment of 
 life, sick, accident, or other benefits to the members of such 
 society, order or association or their dependents. One important 
 characteristic of this class of exempt corporations is that they 
 must operate under the lodge system, or be for the exclusive 
 benefit of a society operating under such system. "Operating 
 under the lodge system" means carrying on its activities under 
 a form of organization that comprises local branches, chartered 
 by a parent organization and largely self-governing, called 
 lodges, chapters, or the like.^s Mutual protective associations 
 not operating under a lodge system are not exempt under this 
 provision since they lack one of the characteristics of this class.^^- 
 A fraternal beneficiary society is a society whose members have 
 adopted the same or a very similar calling, avocation, or profes- 
 sion, or who are working in unison to accomplish some worthy 
 object, and who for that reason have bound themselves together 
 as an association or society to aid and assist one another and to 
 promote the common cause. The term "fraternal" can prop- 
 erly be applied to such an association for the reason that the 
 pursuit of a common object usually has a tendency to create a 
 brotherly feeling among those who are thus engaged. The 
 absence of profit in the operation of such an association is not 
 the criterion as to whether it is within the exemption as a fra- 
 ternal beneficiary society, but the want of a fraternal side or 
 object which it is in some manner organized to promote. A 
 fraternal beneficiary association may be a mutual insurance 
 company, but must be something more. It must be primarily 
 fraternal and must be operated under the lodge system or for 
 the exclusive benefit of the members of a fraternity itself 
 operating under the lodge system. A society whose single 
 purpose was to write insurance only for members of a certain 
 religious sect who might pass a satisfactory medical examina- 
 
 27 Reg. 45, Art. 513. 
 
 28 Reg. 45, Art. 514; Reg. 33 Rev., Arts. 77 and 239. 
 
 29 Commercial Travelers etc. Ass'n v. Rodway, 235 Fed. 370. This case 
 
318 FEDERAL INCOME TAX 
 
 tion, and which extended the privilege of insurance to mem- 
 bers living apart from their fellows, has been held not to be a 
 fraternity of communicants of a certain sect, but a mutual 
 insurance company writing only such communicants.^" An in- 
 corporated society operating under the lodge system throughout 
 the United States, its charter providing for the union of eligi- 
 ble members into a grand fraternal, beneficiary, educational and 
 patriotic society, assessments being levied upon its members to 
 provide for the payment of sick and death benefits, for dis- 
 ability relief in case of accident and for promoting their social, 
 moral, educational and patriotic advancement, the society deriv- 
 ing income from subscriptions to a daily and a weekly newspaper 
 as well as from job printing and other sources, none of the 
 income inuring to the benefit of any private stockholder or 
 individual, has fraternal and benevolent features, but it is 
 chiefly a patriotic organization interested in the general welfare 
 of its members and its powers are so extensive as to preclude 
 its classification as a fraternal beneficiary society.^! A travelers' 
 association providing for fixed death benefits to the beneficiaries 
 of the. members is held to be a mutual life insurance association 
 rather than a fraternal beneficial society. The law provides no 
 exemption for mutual associations of this character.^^ 
 
 Domestic Building and Loan Associations and Co-operative 
 Banks (fourth class). The Revenue Act of 1918 exempted 
 "domestic building and loan associations and co-operative banks 
 without capital stock, organized and operated for mutual pur- 
 poses and without profit." The 1921 law exempts "domestic 
 building and loan associations substantially all the business of 
 which is confined to making loans to members ; and co-operative 
 banks without capital stock organized and operated for mutual 
 purposes and without profit." The Revenue Bill of 1921, as 
 introduced into the House, required, in the case of building and 
 loan associations, that they should be operated exclusively for 
 the purpose of making loans to members. As finally passed the 
 bill requires that substantially all the business be confined to 
 making loans to members. The purpose of the change in the 
 language of the House bill was stated in the report of the com- 
 mittee on ways and means as follows : "Under the present law 
 some mortgage and investment companies- have been able to 
 
 contains an extended discussion on the distinction between a mutual asso- 
 ciation and a fraternal association. 
 
 30 0. D. 690, T. B. 42-20-1250. 
 
 31 0. D. 508, T. B. 20-20-940. 
 
 32 0. D. 63, T. B. 1-19-88. 
 
EXEMPT ORGANIZATIONS 319 
 
 obtain this exemption by operating in the guise of building and 
 loan associations. By limiting the exemption to 'domestic build- 
 ing and loan associations, operated exclusively for the purpose 
 of making loans to members,' this abuse will be prevented." 
 The regulations issued under the 1918 Law required that to be 
 exempt, building and loan associations should accumulate their 
 funds for the primary business of making loans to its members 
 for the purpose of building or acquiring homes. It will be seen 
 that the present law is, in effect, largely an enactment of such 
 regulations. Under the 1918 Law the following rulings and 
 regulations were made: 
 
 In general, a building and loan association entitled to exemp- 
 tion is one organized pursuant to the laws of the United States, 
 of gome state or territory thereof, which accumulates funds for 
 the primary business of making loans to its members for the 
 purpose of building or acquiring homes, and in which the 
 members of the association share in the profits on substantially 
 the same footing. It is essential that the association should be 
 (a) mutual; (b) organized and operated for the accumulation 
 of funds to be loaned primarily to members for home building.^^ 
 When a building and loan association has no other features 
 which render it liable to income tax, it will ordinarily not be 
 subject to tax merely because: (1) It has paid-up shares which 
 are (a) preferred as to earnings and (b) have a definite rate 
 of interest which may be higher than the rates of dividends paid 
 on other ^tock.^* (2) It borrows large sums of money (accept- 
 ing deposits is considered as borrowing), which it uses pri- 
 marily for loans to members, the dues paid by members being 
 entirely inadequate for this purpose.^^ (3) In times of small 
 demand it loans considerable sums to nonmembers from or 
 invests association funds which would otherwise lie idle and un- 
 productive .^'^ (4) The amount of prepaid or full-paid stock is 
 
 33 Reg'. 45, Art. 515, as amended by T. D. 3179, T. B. 27-21-1716. The 
 essential features of a building and loan association are stated in Folk v. 
 State Capital Ass'n, 214 Pa. 529, 63 Atl. 1013. Conducting an insurance 
 agency by a building and loan association will defeat its exemption. (0. D. 
 1129, T. B. 49-21-1965.) 
 
 34 Reg. 45, Art. 515, as amended by T. D. 3179, T. B. 27-21-1716, Park 
 View Building & Loan Ass'n v. Herold, 203 Fed. 876, 210 Fed. 577; T. D. 
 1941. This was not true under the 1909 Law. (See footnote 41.) 
 
 33 Reg. 45, Art. 515, as amended by T. D. 3179, T. B. 27-21-1716; Belle- 
 fontaine Building & Loan Co. v. McMaken, 216 Fed. 526. 
 
 36 Reg. 45, Art. 515, as amended by T. D. 3179, T. B. 27-21-1716; Central 
 Building, Loan & Savings Co. v. Bowland and Bellefontaine Building & 
 Loan Co. v. McMaken, 216 Fed. 526. This also was not true under the 1909 
 Law (see footnote 41). A building and loan association which loans its 
 
320 FEDERAL INCOME TAX 
 
 disproportionate to running or installment stock, provided the 
 issuance of such prepaid or full-paid stock is incidental to the 
 furtherance of the main business of the association; that is, 
 that it is intended to provide a fund from vs^hich loans may be 
 made primarily to persons subscribing to the running or install- 
 ment stock to enable them to acquire or build homes.^^ Where, 
 how^ever, the facts show that a building and loan association is 
 borrowing large sums of money from nonmembers, with no 
 reference to the borrowing needs of its members, and is in turn 
 loaning these sums to nonmembers, the number of depositors be- 
 ing disproportionate to the number of members, and the amounts 
 loaned to nonmembers being disproportionate to the amount 
 loaned to members, such association will be deemed to be tax- 
 able and will be granted exemption only upon a satisfactory 
 showing to the commissioner that it is, in fact, a bona fide 
 building and loan association within the meaning of this article.^® 
 When a building and loan association charges a commission on 
 all money loaned, in lieu of a membership fee, and does not 
 charge a membership fee to nonborrowing members, such com- 
 mission or membership fee is held to be in the nature of addi- 
 tional interest for the use of the money loaned and is insufficient 
 to deny the association the exemption to which it is otherwise 
 entitled.^^ Where a large proportion of the loans of an associa- 
 tion are made upon such securities as stocks, automobile notes 
 and personal endorsements and only a small proportion upon 
 real estate, it is held that such an association is not a domestic 
 building and loan association within the meaning of the law 
 and must file returns of annual net income and pay any tax 
 shown to be due thereon.*" If a corporation by any other name 
 is carrying on an exclusive building and loan business, before 
 it is entitled to exemption it will be incumbent upon it to show 
 to the satisfaction of the commissioner that it is in fact a 
 
 funds to nonmembers, on indorsed notes, a very small amount only being 
 secured by real estate, and divides the profits among the holders of the 
 paid-up certificates, these being the only members of the association partici- 
 pating in the management and in the profits, is held to be engaged in 
 business in the nature of a banking business, and does not come vsrithin this 
 exemption. (0. D. 768, T. B. 1-21-1375.) 
 
 3TReg. 45, Art. 515, as amended by T. D. 3179, T. B. 27-21-1716; see S. 
 1140, T. B. 19-19-449, O. D. 573, T. B. 27-20-1043; Sol. Op. 78, T. B. 48-20- 
 1325. 
 
 38 Reg. 45, Art. 515, as amended by T. D. 3179, T. B. 27-21-1716. 
 
 39 0. D. 744, T. B. 49-20-1336. 
 
 40 0. D. 1088, T. B. 44-21-1900. 
 
EXEMPT ORGANIZATIONS 321 
 
 building and loan association.*^ Co-operative banks without 
 capital stock organized and operated for mutual purposes and 
 without profit are exempt. Credit unions, such as those or- 
 ganized under the laws of Massachusetts, are in substance the 
 
 « Reg. 33 Rev., Art. 70. The 1909 and 1913 Laws provided that "domestic 
 building and loan associations, organized and operated exclusively for the 
 mutual benefit of their members" should be exempt. The 1916 Law contained 
 the following exemption : "Domestic building and loan associations and co- 
 operative banks without capital stock organized and operated for mutual 
 purposes and without profit." Under the 1916 Law it was ruled that mu- 
 tuality in operation and in the distribution of profits and benefits was essen- 
 tial to exemption; that in order to come within the exempted class such 
 associations must not only be domestic, but they must be organized and op- 
 erated exclusively for mutual purposes and without profit, that is, all profits 
 and benefits provided for in the articles of association and by-laws must be 
 ratably distributed among all the members regardless of the kind of 
 stock held, according to the amount of money they had on deposit; 
 and that an association issuing different classes of stock upon which 
 different rates of interest or dividends were guaranteed or paid, was 
 not in the exempt class. (Reg. 33, Art. 87.) Under the 1909 Law 
 it was ruled that building and loan associations were not exempt if 
 they loaned money to others than their members, thus doing a business 
 similar to that engaged in by banks or trust companies; and that 
 building and loan associations which received sums of money on deposit not 
 in payment of stock, and on which the depositor received a fixed rate of in- 
 terest, regardless of the earnings of the association, were conducting a bus- 
 iness similar to a banking business and were therefore subject to tax unless 
 they fell within the class of co-operative banks. (T. D. 1655.) Under the 
 1909 Law it was decided that a building and loan association was exempt 
 although it issued both prepaid and installment stock, but that one issuing 
 preferred stock was not exempt. (Pacific Bldg. & Loan Ass'n v. Hartson, 
 201 Fed. 1011.) In Herold v. Parkview Bldg. & Loan Ass'n, 203 Fed. 876, 
 the association issued two varieties of stock, one known as prepaid stock on 
 which the full par value of $200 per share was paid by the holder at the 
 time of the issuance of the stock, and upon which the company paid to the 
 holder out of the profits of the association the sum of 5% per annum in lieu 
 of participation by said stockholder in the general profits of the association, 
 and a second stock known as installment stock whereon the holder paid one 
 dollar per share per month and to which was added the proportionate share 
 of the profits of the association after deducting expenses until the aggregate 
 of payments and profits equaled the sum of $200, when the said sum was 
 paid to the holder and the shares retired. The prepaid stock could be can- 
 celled by the corporation at any time upon thirty days' notice and payment 
 of the value thereof together with interest at the rate of 5% from the date 
 of last payment of interest, and each holder of such stock could likewise 
 upon thirty days' notice tender his certificate and require payment from 
 the association. The association borrowed no money from individuals 
 whether members or nonmembers, loaned no money to persons other than 
 members of the association, but borrowed according to its business demands 
 from a local bank. The association was organized under the Act of April 
 
322 FEDERAL INCOME TAX 
 
 same as co-operative banks, and when organized and operated 
 without capital stock, for mutual purposes, and without profit 
 are likewise exempt.*^ 
 
 Cemetery Companies (fifth class). Under the 1918 Law "ceme- 
 tery companies owned and operated exclusively for the benefit 
 of their members" were exempt. The present law adds the 
 words : "or which are not operated for profit ; and any corpora- 
 tion chartered solely for burial purposes as a cemetery corpora- 
 tion and not permitted by its charter to engage in any busi- 
 ness not necessarily incident to that purpose, no part of the 
 net earnings of which inures to the benefit of any private stock- 
 holder or individual.-'^ Under the 1918 Law the following rulings 
 were made: A cemetery company having a capital stock rep- 
 resented by shares, or which is operated for profit or for the 
 benefit of others than its members, does not come within the 
 exempted class. A cemetery company of which all lot owners 
 are members, issuing preferred stock entitling the holder to a 
 semi-annual dividend of 4 per cent., and whose articles of incor- 
 poration provide that the preferred stock shall be retired at par 
 as soon as sufficient funds are realized from sales and that all 
 funds realized in addition thereto shall be used by the company 
 for the care and improvement of the cemetery property, is within 
 the exemption.** The word "members" as used by the law, 
 means "lot owners".*^ 
 
 Religious, Charitable, Scientific, Literary, and Educational 
 Corporations (sixth class). This exemption applies under the 
 1918 Law only to a corporation or association. Under the present 
 law it applies, as well, to "any community chest, fund, or founda- 
 tion" subject to the same limitations applying to corporations. 
 The Revenue Act of 1921 adds the term "literary" to the pur- 
 poses for which such organizations must be organized and oper- 
 ated. It does not include the case of a trust, under which the 
 trustee is authorized to use the trust property for religious pur- 
 poses. In order to be exempt the corporation or association 
 
 8, 1903 (Public Laws, p. 457), of New Jersey. It was held that mutual 
 benefit does not necessarily mean equal benefit; that a building and loan 
 association is organized and operated for the mutual benefit of its members 
 when they share in the profits on substantially the same footing; and that 
 exact equality is probably not possible where part of the stock is prepaid 
 and part is installment, but an approximate equality sufficiently close for all 
 purposes is certainly not beyond the reach of calculation. 
 
 42 Reg. 45, Art. 515, as amended by T. D. 3179, T. B. 27-21-1716. 
 
 43 Revenue Act of 1918, § 231 (5); Revenue Act of 1921, §231 (5). 
 
 44 Reg. 45, Art. 516; Reg. 33 Rev., Art. 71. 
 
 45 Sol. Op. 120, T. B. 39-21-1846. 
 
EXEMPT ORGANIZATIONS 323 
 
 must meet three tests: (a) it must be organized and operated 
 for one or more of the specified purposes; (b) it must be or- 
 ganized and operated exclusively for such purposes; and (c) 
 no part of its income must inure to the benefit of private stock- 
 holders or individuals.*" The courts favor tax exemptions vs^hich 
 pertain to charitable, religious, or educational institutions upon 
 the theory 'that such institutions relieve burdens of the gov- 
 ernment.*''' The term "organized," as used in the provision 
 granting exemption to this class of corporations, refers to the 
 real substance and intent of the organization, and not to its 
 mere form, the charter and by-lavs^s merely giving rise to pre- 
 sumptions which may be affirmed or rebutted by extraneous 
 evidence.*^ The word "private" refers to a stockholder or indi- 
 vidual in his private capacity as distinguished from a public 
 capacity. Dividends inure to a stockholder in his private ca- 
 pacity when they inure to him separate from the public and 
 not as an official or representative of the public.*^ The term 
 "charitable" has been given a very broad meaning by the 
 courts, but it is noticeable that the decisions applying the 
 broadest meaning are in cases involving "charitable uses," that 
 is, where there is a trust for a charitable purpose. It is, of 
 course, expedient to uphold such trusts where a construction 
 of the law will possibly admit it.^° Education, in a broad sense 
 and with reference to man, comprehends all that disciplines 
 and enlightens the understanding, corrects the temper, cultivates 
 the taste, and forms the manners and habits.^^ It is the process 
 of developing and training the powers and capabilities of human 
 individuals.52 The prime purpose of education is to benefit the 
 individual.53 On the other hand, the primary purpose of propa- 
 ganda is much more narrow. Propaganda is that which 
 propagates the tenets or principles of a particular doctrine by 
 zealous dissemination.^* It is a matter of common knowledge 
 that propaganda in the popular sense is disseminated not pri- 
 marily to benefit the individual at whom it is directed, but to ac- 
 complish the purpose or purposes of the person instigating it. 
 
 46 Reg. 45, Art. 517; Reg. 33 Rev., Art. 67. 
 
 47 0. D. 510, T. B. 20-20-942; Congregational Church Society v. Board, 290 
 111. 108, 125 N. E. 7. 
 
 4S A. R. R. 219, T. B. 32-20-1121. 
 
 49 T. B. R. 33, T. B. 8-19-329. 
 
 50 S. 1246, T. B. 8-20-755. 
 
 51 Century Dictionary, p. 1845. 
 
 52 Mt. Herman Boys' School v. Gill, 145 Mass. 139, 13 N. E. 354, 357. 
 
 53 Century Dictionary, p. 1845. 
 
 54 Century Dictionary, p. 4774. 
 
i»24 FEDERAL INCOME TAX 
 
 This is a very material difference. The solicitor of the treasury 
 department is of the opinion that it was Congress' intention, 
 when providing for the deduction of contributions to educational 
 corporations, not to benefit and assist the aims of one class 
 against another, not to encourage the dissemination of ideas in 
 support of one doctrine as opposed to another, to the profit of one 
 class and to the detriment perhaps of another, but td foster edu- 
 cation in its true and broadest sense, thereby advancing the in- 
 terest of all, over the objection of none.^^ 
 
 The following types of organization are exempt under this 
 class : 
 
 1. A branch of the Y. W. C. A., established for the purpose 
 of marketing the needlework of self-supporting women, which 
 pays to the producers the full selling price of the goods sold, less 
 a certain commission which only partially defrays the running 
 expenses of the enterprise, the deficit being derived from income 
 of the Y. W. C. A. and from voluntary contributions.^^ 
 
 2. An organization incorporated for the purpose of estab- 
 lishing and maintaining a day nursery for young children whose 
 parents are obliged to work and have no means to provide care 
 for their children during the day, and deriving its income from 
 subscriptions and donations, and a small amount from securities, 
 all of which is used in promoting the activities of the nursery.^'^ 
 
 3. An incorporated publishing house, without capital stock, 
 owned and controlled by a religious denomination, its business 
 consisting strictly of printing religious publications in the form 
 of books, tracts, Sunday school lessons, catalogues, periodicals, 
 etc., and distributing them to the various branches of the church 
 and members of congregations, no business being done for the 
 general public.^s 
 
 4. An organization such as the Teachers' Insurance and 
 Annuity Association of America, which though in .form a busi- 
 ness insurance company was required to adopt this form in order 
 to issue non-participating policies under the laws of New York.5» 
 
 55 S. 1362, T. B. 22-20-971. 
 
 56 0. D. 509, T. B. 20-20-941. 
 5T O. D. 340, T. B. 29-19-630. 
 
 58 O. D. 510, T. B. 20-20-942. It was clear that the predominant purpose 
 of the publishing house involved in this decision was to advance the cause 
 of Christianity. It was conducted at a profit, none of the income inured to 
 the benefit of any private individual, being paid over in its entirety to the 
 treasurer of the church for the exclusive benefit of the church. 
 
 59 A. R. R. 218, T. B. 32-20-1121. 
 
EXEMPT ORGANIZATIONS 325 
 
 5. A corporation organized and operated for the purpose of 
 preventing the employment of children in injurious occupa- 
 tions.™ 
 
 6. An association for the relief of the families of clergymen, 
 even though the latter make a contribution to the fund estab- 
 lished for this purpose ; or for furnishing the services of trained 
 nurses to persons unable to pay for them ; or for aiding the gen- 
 eral body of litigants by improving the efficient administration 
 of justice.^i 
 
 7. An association to promote acquaintance with the Spanish 
 language and literature, although it has incidental amusement 
 features ; an association to increase knowledge of the civilization 
 of another country ; and a chautauqua association whose primary 
 purpose is to give lectures on subjects use&l to the individual 
 and beneficial to the community and whose amusement features 
 are incidental to this purpose.^^ 
 
 8. An association for the scientific study of law, to the end 
 of improvement in its administration.^^ 
 
 9. A private corporation without capital stock organized and 
 operated under state laws and managed by a board of trustees 
 for the purpose of conducting a school to educate and train men 
 and women in those subjects that will prepare them for practical 
 business and commercial and industrial occupations, deriving its 
 income from tuition fees paid by students attending its courses, 
 the balance remaining after payment of expenses being placed 
 in an operating fund to meet operating expenses in the future, 
 any amount in excess of 25 per cent, of the current year's in- 
 come being placed in a students' loan fund from which deserving 
 students may borrow money for the purpose of pursuing a course 
 of study in the school, and no part of the earnings of the school 
 inuring to the benefit of any individual or individuals connected 
 with the corporation in any manner whatever, the by-laws pro- 
 viding that no remuneration of any kind shall be paid to the 
 board of trustees for their services as such.^* 
 
 The following types of organizations are not exempt under 
 this class: 
 
 1. An actively operating railroad which turns over all of its 
 income to a charitable institution as a dividend.^s 
 
 60 0. D. 705, T. B. 43-20-1267. 
 
 61 Reg. 45, Art. 517. 
 
 62 Reg. 45, Art. 517. 
 
 63 Reg. 45, Art. 517. 
 
 64 0. D. 1102, T. B.' 46-21-1923. 
 
 65 0. D. 60, T. B. 1-19-85. 
 
326 FEDERAL INCOME TAX 
 
 2. A corporation conducting an educational institution all of 
 whose stockholders are directors in the company, and which 
 pays dividends to its stockholders, the surplus earnings over a 
 fixed rate paid as dividends being invested as they accrue in 
 grounds, buildings, and equipment needed in the business."*" 
 
 3. An incorporated educational institution whose only source 
 of income is from tuition and sale of uniforms and supplies to its 
 students, and no part of the net income of which is distributed 
 as dividends, but is expended in acquiring additional buildings 
 and equipment, is not entitled to exemption, the corporation 
 being considered as capitalizing its earnings by acquiring new 
 buildings and equipment."^ 
 
 4. A corporation, organized for the purpose of acquiring and 
 holding title to land and erecting thereon suitable buildings for 
 conducting an assembly or chautauqua, religious, educational, 
 and recreational in character, deriving income from ground 
 rentals, sales of tickets, advertising space, hotel accommoda- 
 tions, etc., all expenditures being made in connection with hiring 
 talent and entertainment and the upkeep of buildings and 
 grounds, none of the income of which is paid to any stockholder 
 or individual, although the charter and by-laws do not prohibit 
 such payment.^8 
 
 5. A corporation organized and operated exclusively fo.r the 
 purpose of erecting and maintaining monuments or other like 
 memorials no part of the earnings of which inures to the benefit 
 of any private stockholder or individual.*'^ 
 
 6. An association organized and operated for the purpose of 
 furthering the enactment of prohibition laws, the selection of 
 prohibition officials, and the nomination and election of political 
 candidates favorable to its work.™ 
 
 7. The pension fund organization of a corporation the object 
 of which is the payment of annuities to member employes in the 
 event that they are incapacitated by infirmity from performing 
 their duties to the corporation, or in the event of their death, 
 and the payment of annuities to the widows or dependents of 
 
 66 T. B. R. 33, T. B. 8-19-329. 
 
 67 O. D. 293, T. B. 23-19-548. 
 
 6S A. R. M. 36, T. B. 11-20-786. If the corporation involved in this de- 
 cision should have gone out of existence, the stockholders would have bene- 
 fited directly through the distribution of the assets, as well as through any 
 appreciation of such assets. 
 
 69 S. 1246, T. B. 8-20-755. The status of such corporations as have addi- 
 tional purposes involving a positive dissemination of knowledge will be 
 determined on proper facts submitted in each case. 
 
 70 O. D. 703, T. B. 43-20-1266. 
 
EXEMPT ORGANIZATIONS 327 
 
 members who had been in the uninterrupted service of the cor- 
 poration for ten years or more and have attained the age of sixty- 
 four years ; the funds out of which annuities are paid consisting 
 of the contributions of members J^ 
 
 8. A society designed to encourage the performance of first 
 class orchestral music, the purpose of which is to encourage a 
 high grade of entertainment.'''^ 
 
 9. A school which, though devoted solely to educational pur- 
 poses, is operated for the pecuniary profit of certain stock- 
 holders, even though all such stockholders are officers, directors 
 and teachers in the institution.''^^ 
 
 10. An ordinary common-law trust created by a will for the 
 purpose of erecting schools which does not amount to an "asso- 
 ciation".''* 
 
 11. A lyceum and Chautauqua association organized to take 
 over the assets of a partnership for the purpose of promoting 
 the intellectual, social, physical, moral and nonsectarian religious 
 welfare of the people in the places where it operates and espe- 
 cially in the United States, its income being received from admis- 
 sion charges to its entertainments and being used first to defray 
 expenses of operating; second to the payment of the members 
 of the partnership for assets purchased, and, third, to build up 
 a surplus, the members of the partnership whose assets were 
 taken having been made life members of the board of trustees.''^ 
 
 12. A hospital association incorporated under the laws of 
 a state to build, own, lease, acquire, and operate a hospital to 
 furnish and provide medical, surgical and hospital services and 
 care to all employes of other corporations, persons, or partner- 
 ships with whom contracts may be made; said services being 
 intended to take care of the needs of sick and injured employes 
 requiring and entitled to such care by virtue of membership in 
 said corporations and in conformity to the provisions of the by- 
 
 Tl A. R. R. 477, T. B. 18-21-1610. The solicitor founded this decision upon 
 the consideration that the pension fund was not for the benefit of an in- 
 definite number of persons. (See St. Clement v. L'Institut Jacques Cartier, 
 95 Maine 493, 50 Atl. 376 ; Young Men's Society v. City of Fall River, 160 
 Mass. 409, 36 N. E. 57; Pranta v. Bohemian Union, 164 Mo, 304, 63 S. W. 
 1100). 
 
 72 Reg. 45, Art. 517. 
 
 T-3 Kemper Military School v. Crutchley, 274 Fed. 125. 
 
 74 A. R. M. 104, T. B. 1-21-1376. Neither were the expenses of operating 
 the schools permitted to be deducted from the gross income of the trust aa 
 ordinary and necessary expenses; they constituted the expenditure of the 
 trust moneys for the very purpose for which the trust was created. 
 
 75 O. D. 1077, T. B. 43-21-1886. 
 
328 FEDERAL INCOME TAX 
 
 laws of the corporation and the care of injured employes as con- 
 templated and provided for in the laws of the state and the rules, 
 regulations, and practices now or hereafter promulgated by the 
 state medical aid board; the corporation also contemplating 
 hospital services and care for the families of employees and for 
 other persons ; the income of the association being received from 
 the corporations with which it has contractual relations, from 
 the medical aid department of the state for services to injured 
 employees who do not have contract arrangements, and from 
 direct payments by patients and no patients being treated free, 
 but where destitute patients have been admitted as objects of 
 public charge the services being rendered at cost to the municipal 
 corporation paying for such servicesJ" 
 
 13. A religious corporation owning a large quantity of farm 
 land and working it, and also manufacturing and selling clothing 
 and other articles for profit, even though its property is held in 
 common and its profits do not inure to the benefit of individual 
 members of the society. It does not prevent exemption that pri- 
 vate individuals, for whose benefit a charity is organized, receive 
 the income of the corporation or association. The statute refers 
 to individuals having a personal and private interest in the activi- 
 ties of the corporation, such as stockholders. If, however, a cor- 
 poration issues "voting shares," which entitle the holders upon 
 the dissolution of the corporation to receive the proceeds of its 
 property, including accumulated income, the right to exemption 
 does not exist, even though the by-laws provide that the share- 
 . holders shall not receive any dividend or other return upon their 
 shares.'''^ 
 
 Business Associations (seventh class). Business leagues, 
 chambers of commerce and boards of trade are conditionally ex- 
 empt ; that is, those not organized for profit and no part of the 
 net income of which inures to the benefit of any private stock- 
 holder or individual are exempt. A business league is an asso- 
 ciation of persons having some common business interest, which 
 limits its activities to work for such common interest and does 
 not engage in a regular business of a kind ordinarily carried on 
 for profit. Its work need not be similar to that of a chamber of 
 commerce or board of trade.'^^ 
 
 The following types of organizations are business leagues 
 within the purview of the statute: 
 
 76 0. D. 993, T. B. 33-21-1769. 
 
 77 Reg. 45, Art 517; Reg. 33 Rev., Art. 67. 
 
 78 Reg. 45, Art. 518. 
 
EXEMPT ORGANIZATIONS 329 
 
 1. A clearing house association not organized for profit, no 
 part of the net income of which inures to any private stock- 
 holder or individual, provided its activities are limited to the 
 exchange of checks and similar work for the common benefit of 
 its members.'^^ 
 
 2. An association of persons engaged in the business of 
 
 carrying freight and passengers by boats propelled by steam, 
 
 which is designed to promote the legitimate objects of such 
 
 business, all the income of which is derived from membership 
 
 dues and is expended for office expenses and the salary of the 
 secretary-treasurer.80 
 
 3. A corporation organized for the purpose of fostering, de- 
 veloping and promoting scientifically a certain industry, with 
 no capital stock represented by shares and not authorized to in- 
 vest funds for profit or to make any distribution thereof by way 
 of dividends, the funds for maintaining the association being 
 derived solely from assessments against individual member 
 firms and dues with the exception of interest on bank deposits 
 and Liberty bonds purchased from excess surplus funds, which 
 in accordance with the by-laws are required to be refunded pro- 
 portionately to those contributing the funds, no other securities 
 being owned by the association, and the interest on the Liberty 
 bonds not being credited or distributed to any member.^i 
 
 4. An unincorporated association formed for the purpose of 
 ascertaining the causes of losses sustained through navigation 
 of vessels belonging to its members, thereby reducing such 
 losses, any excess of fees, assessments, and interest received over 
 current expenses and losses sustained by members being returned 
 to members on a wo rata basis.^^ 
 
 The following types of organizations are not entitled to ex- 
 emption under this heading : 
 
 1. An association engaged in furnishing information to pros- 
 pective investors to enable them to make sound investments, 
 since its members have no common business interest.^^ 
 
 2. An incorporated cotton exchange whose shares carry the 
 right to dividends.^* 
 
 8. An association of credit men acting through its credit in- 
 terchange bureau and its adjustment bureau as receiver and 
 
 70 Reg. 45, Art. 518. 
 
 80 Reg. 45, Art. 518. 
 
 81 0. D. 522, T. B. 21-20-960. 
 
 82 0. D. 61, T. B. 1-19-86. 
 
 83 Reg. 45, Art. 518. 
 S4 Reg. 45, Art. 518. 
 
330 FEDERAL INCOME TAX 
 
 trustee for insolvent or embarrassed businesses and otherwise 
 protecting the interests of its members in excess of insolvency 
 and producing for its members larger dividends from bankrupt 
 or embarrassed estates than they would otherwise receive; for 
 these services charging a fee covering the cost thereof, the asso- 
 ciation's fees and disbursements in connection with these ac- 
 tivities amounting to about 45 per cent, of its total budget.^s 
 
 Civic Organizations (eighth class). Civic leagues or organi- 
 zations not organized for profit but operated exclusively for the 
 promotion of social welfare are exempt.ss A corporation having 
 capital stock and possessing a charter which authorizes it to buy, 
 improve and sell real estate is organized for profit within the 
 meaning of the statute' and is not exempt from tax as a civic 
 league or organization, even though it no longer exercises such 
 powers for profit and is operated exclusively for the promotion 
 of social welf are.s^ 
 
 Clubs (ninth class). Clubs organized and operated exclusively 
 for pleasure, recreation and other non-profitable purposes are 
 exempt if no part of the net income inures to the benefit of any 
 private stockholder or member.^s This exemption applies to 
 practically all social and recreation clubs which are supported by 
 membership fees, dues and assessments. If a club, by reason of 
 the comprehensive powers granted in its charter, engages in 
 traffic, in agriculture, or horticulture, in the sale of real estate, 
 timber, etc., for profit, such club is not organized and operated 
 exclusively for pleasure, recreation, or social purposes. It thus 
 becomes a business or commercial enterprise, and any profit re- 
 alized from such activities is subject to the tax, and the club so 
 operated must make returns of income.^B A provision in the by- 
 laws of a country club, that, in the event of dissolution, the 
 holder of a life membership shall participate in the distribution 
 of the assets of the club after its other debts are paid and be- 
 fore any sums are paid to either regular members or share- 
 holders, is not alone sufficient to make the club liable to tax.®" 
 
 S5 0. D. 786, T. B. 5-21-1419. 
 
 86 Reg. 33 Rev., Art. 67. 
 
 87 Reg. 45, Art. 519. 
 
 88 Reg. 33 Rev., Arts. 67 and 72. T. D. 2090. Letter from treasury de- 
 partment dated February 12, 1916; I. T. S. 1918, 111194. Such clubs were 
 held to be exempt under the 1913 Law, although that law did not contain 
 the express exemption which appears in the 1916 and 1918 Laws. (Letter 
 from treasury department dated May 4, 1914; I. T. S. 1918, H 1192.) 
 
 89 Reg. 33 Rev., Art. 72; Reg. 45, Art. 520. 
 
 90 S. 958, T. B. 1-19-81. 
 
EXEMPT ORGANIZATIONS 331 
 
 The following clubs are exempt: 
 
 1. A club formed for the purpose of providing for the mem- 
 bers thereof a suitable meeting place, a library, and a dining 
 room where meals will be furnished to the members, the income 
 being derived from membership dues and the receipts for food, 
 wine and cigars purchased by members, and no part of the net 
 earnings inuring to the private benefit of any member .^^ 
 
 2. A club organized for the purpose of promoting the princi- 
 ples and interests of a certain political party, deriving its in- 
 come from membership dues and donations which are used for 
 the purpose of defraying expenses necessary to the operation 
 and upkeep of its rooms, no part of which inures to the benefit 
 of any of its member s.^^ 
 
 3. An automobile club organized for the purpose of promot- 
 ing the improvement of roads and boulevards, and other matters 
 of benefit to automobile owners and drivers, such as signposting 
 roads and securing legislation of benefit to automobile owners 
 and drivers, its income being derived from membership fees and 
 subscriptions, no part of which inures to the benefit of any pri- 
 vate stockholder or individual.^^ 
 
 4. An incorporated club, composed of employees of a corpora- 
 tion, organized for social purposes, its only source of income 
 being the initiation fee and this being expended solely for en- 
 tertainments ; in which certain members, called participating 
 members, made contributions to a Christmas fund which was 
 invested by the executive committee and distributed just before 
 Christmas each year. 
 
 Mutual or Co-operative Organizations of a Local Character 
 (tenth class). Farmers' or other mutual hail, cyclone or fire in- 
 surance companies, mutual ditch or irrigation companies, mutual 
 or co-operative telephone companies, -and like organizations of a 
 purely local character, the income of which consists solely of as- 
 sessments, dues and fees collected from members for the sole 
 purpose of meeting expenses incurred in pursuance of the purpose 
 for which the company is organized, are specifically exempt. It 
 should be noted that the essential features of this class are as 
 follows: (a) They must be mutual or co-operative; (b) they 
 must be of a purely local character; (c) the income must be 
 solely from assessments, dues and fees collected from members, 
 and such assessments, dues and fees must be used for the sole 
 
 91 O. D. 108, T. B. 2-19-162. 
 
 92 O. D. 280, T. B. 20-19-513. 
 
 93 0. D. 643, T. B. 34-20-1152. 
 
332 FEDERAL INCOME TAX 
 
 purpose of meeting expenses,"^ incurred in pursuance of the pur- 
 poses for which the companies are organized. It is necessary 
 to exemption that the income of the company be derived solely 
 from assessments, dues and fees collected from members. If 
 income is received from other sources, the corporation is not 
 exempt, even though its additional income is tax exempt. In- 
 come, however, from sources other than those specified does not 
 prevent exemption where its receipt is a mere incident of the busi- 
 ness of the company. Thus the receipt of interest upon a work- 
 ing bank balance, or of the proceeds of a sale of badges, office 
 supplies or equipment, will not defeat the exemption. The same 
 is true of the receipt of interest upon Liberty bonds, where they 
 were purchased as a patriotic duty and were afterwards sold. 
 Where, however, such bonds are bought as a permanent invest- 
 ment, the receipt of the interest destroys the exemption. The 
 receipt of what is in substance an entrance fee, charged by a 
 mutual fire insurance company as a condition of membership, 
 does not render the company taxable, although this fee is called 
 a "premium." But the issuance of policies for stipulated cash 
 premiums prevents exemption.^^ The phrase "of a purely local 
 
 94 Reg. 33 Rev., Arts. 69 and 239. 
 
 95 Reg. 45, Art. 521. In connection with this class of exempt corporations 
 the decision in the case of Niles v. Central etc. Ins. Co., 252 Fed. 564, is inter- 
 esting. The case arose under the Act of Oct. 22, 1914 (38 Stat. 762, c. 331) 
 imposing a stamp tax on insurance policies, and contained an exemption 
 reading, "provided that purely co-operative or mutual Are insurance com- 
 panies or associations carried on by the members thereof for the protection 
 of their own property and not for profit, shall be exempted from the tax 
 herein provided." A mutual fire insurance company was organized under 
 the laws of Ohio, which required the company to (1) charge a cash premium 
 payable at the time of delivery of policies, and (2) maintain an un- 
 earned premium reserve of a definite percentage of the cash premiums on 
 unexpired risks, and which permitted the company to (1) maintain a surplus 
 in excess of the above reserve, as an additional security to policyholders, 
 and (2) earn interest on both the above reserve and surplus by investing 
 them; the cash premium in excess of the amount estimated as sufficient for 
 the protection and payment of losses at the expiration of each policy being 
 returnable to the policyholder. The company was held to fall within the 
 exemption above quoted, because its primary purpose was not to derive inci- 
 dental profit from interest on its reserve and surplus, or to undertake in- 
 vestments on behalf of its members, but solely to protect more effectively 
 the property of its members. The court said: "The distinction drawn in the 
 act is between those mixed mutuals, which, though commonly called mutuals, 
 are in fact also doing a non-mutual business for profit, and the strictly 
 mutual companies; not between the mutuals which carry a reserve and 
 surplus, and those which levy assessments only after each loss. A mere 
 incidental profit earned by way of interest on its invested safety funds, or 
 
EXEMPT ORGANIZATIONS 333 
 
 character" qualifies only "like organizations". An association 
 is not "of a purely local character" when its business activities 
 are not confined to a particular community, place, or district. The 
 business operations of such a "like organization" might be con- 
 fined to a particular community, place, or district, thus bringing 
 it within the meaning of the words "purely local character," and 
 yet cover portions of more than one state. The words "purely 
 local character" imply a single locality, irrespective of political 
 subdivisions. But when its activities cover half the counties of 
 two states, and part of two other states, such districts being two 
 or three hundred miles apart ; or when its activities cover a whole 
 state and part of another state, they are of "general" rather 
 than of "local" character and the associations are not exempt 
 from taxation.Bs 
 
 The following kinds of organization fall within this class of 
 exemption : 
 
 1. An incorporated insurance association for the purpose of 
 permitting automobile owners to exchange contracts of insur- 
 ance and indemnity without becoming jointly liable as sub- 
 scribers on any risks, confining its activities within the state of 
 incorporation and its only source of income being from assess- 
 ments, dues and fees collected from members for the sole pur- 
 pose of meeting expenses.^''^ 
 
 2. A reciprocal indemnity exchange incorporated by a num- 
 ber of manufacturers to insure their businesses against fire loss 
 on the reciprocal and inter-insurance plan through an attorney 
 in fact, having the power to issue policies, collect premiums, 
 and adjust losses, the business of which is not conducted for 
 profit, and the contract of insurance or power of attorney signed 
 by each member providing that there shall be no capital stock 
 or joint funds, but that each subscriber shall act individually 
 and shall deposit a fixed amount to meet losses, any balance 
 being returnable at the end of the period of insurance.^^ 
 
 3. A farmers' mutual fire and lightning insurance company 
 making assessments on its members for the sole purpose of 
 meeting estimated future losses and expenses, and which has 
 an unexpended balance of the assessment or assessments so 
 
 on its bank balances, does not change the purely mutual character of the 
 company, or indicate that its business, though thus earning a profit, is 
 'carried on for profit.' " 
 
 96 0. 792, T. B. 1-19-82. 
 
 97 0. D. 312, T. B. 25-19-586. 
 
 98 O. D. 538, T. B. 23-20-989. 
 
334 FEDERAL INCOME TAX 
 
 made on hand at the end of the year, which balance is retained 
 by the company to meet losses and expenses in the ensuing 
 year.s" 
 
 4. A local exchange or association to insure the owners of 
 automobiles against fire, theft, collision, public liability and 
 property damage, is exempt, since it performs functions of the 
 same character as a mutual fire insurance company.^^o 
 
 5. A local reservoir and ditch company.^"! 
 
 The following kinds of organization do not fall within this 
 class : 
 
 1. A casualty insurance association organized for the purpose 
 of insuring its members throughout the state, and not within a 
 geographical subdivision thereof, and issuing policies of insur- 
 ance for stipulated cash premiums instead of depending upon 
 assessments solely for the payment of its insurance liabilities, 
 and its annual surplus over all expenditures, losses, etc., being 
 returnable to the members in the shape of annual dividends, and 
 the fund for the payment of salaries and other operating expenses 
 being a large percentage of cash received by it, and which makes 
 permanent investments of large amounts in Liberty bonds of the 
 United States.102 
 
 2. A mutual irrigating ditch company providing for its ex- 
 penses by assessment against its stockholders and receiving no 
 other income except certain rents derived from the use of its 
 surplus water, since its income does not consist solely of assess- 
 ments, dues, and fees collected from members.^"^ 
 
 3. A mutual liability insurance company deriving its income 
 from premiums and assessments of its members which are used 
 to defray operating expenses and to indemnify its policyholders 
 against amounts which they are required to pay under a work- 
 men's compensation law.i"* 
 
 4. An association of manufacturers incorporated as a recip- 
 rocal indemnity exchange to insure their business against fire 
 loss on the reciprocal and inter-insurance plan through an at- 
 torney in fact having the power to issue policies, collect pre- 
 miums, and adjust losses; the subscriber's contract providing 
 that there shall be no joint funds but this provision not being 
 carried out in letter or spirit; advance payments being made 
 
 99 Sol. Op. 99, T. B. 15-21-1564. 
 
 100 Reg. 45, Art. 521. 
 
 101 Reg. 45, Art. 521. 
 
 102 0. 790, T. B. 1-19-83. 
 
 103 0. D. 318, T. B. 26-19-594. 
 
 104 0. D. 252, T. B. 14-19-437. 
 
EXEMPT ORGANIZATIONS 335 
 
 direct to the exchange and charged in the nature of advance 
 premium deposits; policies being subject to cancellation on a 
 short rate basis.^o^ 
 
 5. A telephone clearing association, whose business is to ap- 
 portion toll rates between independent telephone companies 
 handling the same calls and whose income consists of compen- 
 sation paid by such companies and receipts from the sale of 
 form blanks."'' 
 
 Associations for Marketing Produce and Purchasing Supplies 
 (eleventh class). Farmers', fruit growers', or like associations, 
 organized and operated as sales agents for the purpose of mar- 
 keting the products of members and turning back to them the 
 proceeds of sales, less the necessary selling expense, on the basis 
 of quantity of produce furnished by them, are exempt.'^"''' 
 
 The 1921 law adds a new provision exempting such associa- 
 tions organized and operated as purchasing agents for the 
 purpose of purchasing supplies and equipment for the use of 
 members and turning over such supplies and equipment to such 
 members at actual cost, less necessary expenses.^o^ The following 
 rulings were made under the 1918 law. Co-operative associa- 
 tions, in order to come within this exemption, must establish to 
 the satisfaction of the collector or commissioner the fact that, 
 for their own account, they have no net income, their business 
 being to market the products of their members, and that the 
 entire proceeds of such marketing, less necessary selling ex- 
 penses, are turned back or paid to the- members on the basis of 
 the quantity of produce furnished by them — quality and grade 
 being considered — as the purchase price of such produce. If in 
 the course of their business such associations purchase for cash 
 at a stipulated price articles or produce with a view to selling 
 them for gain, it will be held that such associations are organ- 
 ized for profit and such associations will be required to make 
 returns of annual income and include therein, for the purpose 
 of the tax, all income derived from such transactions. If 
 amounts paid to members are based solely upon the quantity of 
 produce furnished, such amounts may be deducted from the gross 
 proceeds of sales, and the taxable net income will be the amount 
 of earnings passed to surplus, or distributed or distributable 
 among members on the basis of their stock holdings."" 
 
 105 0. D. 866, T. B. 14-21-1551; see also L. O. 1063, T. B. 19-21-1626. 
 
 106 Reg. 45, Art. 521. 
 
 107 Revenue Act of 1921, § 231 (11); Revenue Act of 1918, § 231 (11). 
 
 108 Revenue Act of 1921, §231 (11). 
 
 100 Reg. 33 Rev., Art. 75; S. 952, T. B. 1-19-84. 
 
336 FEDERAL INCOME TAX 
 
 The following types of organization have been held exempt 
 under this class : 
 
 1. A co-operative dairy company engaged in collecting milk 
 and disposing of it or the products thereof and distributing 
 the proceeds, less necessary operating expenses, among mem- 
 bers, upon the basis of the quantity of milk or butter fat fur- 
 nished by members ; but not if the proceeds of the business are 
 distributed in any other way than on such a proportionate 
 basis."" 
 
 2. A corporation organized to act as sales agent for farmers 
 and having a capital stock on which it pays a fixed dividend 
 amounting to legal rate of interest and all of the capital stock 
 of which is owned by such farmers."^ 
 
 The following types of organization are not exempt : 
 
 1. A farmers' association which in accounting to farmers 
 furnishing products for the proceeds of sales deducts more than 
 the necessary selling expenses incurred."^ 
 
 2. A co-operative association acting as purchasing agent, but 
 such an association may exclude from gross income rebates made 
 to purchasers whether or not members of the association; any 
 profits made from nonmembers and distributed to members in 
 the guise of rebates being, of course, subject to tax.i^^ 
 
 3. An incorporated fruit growers' association conducting its 
 business at a profit, thereby accumulating a fund out of which 
 dividends are paid which allows persons who are not fruit 
 growers to acquire stock and thus share in the proceeds; but 
 such a union may deduct from gross income amounts periodically 
 returned to members as a refund of profits on business trans- 
 acted with them and proportionate to the amount of such busi- 
 ness .^i* 
 
 Corporations Owned by Exempt Corporations (twelfth class). 
 Corporations organized for the exclusive purpose of holding title 
 
 110 Reg. 45, Art. 522; 0. D. 191, T. B. 8-19-330. Under the 1913 Law, 
 which did not contain the foregoing exemption, it was held that co-operative 
 dairy associations, whether issuing capital stock or not, were not exempt 
 as agricultural organizations. In the preparation of their returns such 
 associations were permitted to deduct from gross income the amount actually 
 paid to members and patrons for milk, but any amount retained at the end 
 of the year over and above expenditures was taxable as income. (T. D. 
 1996; see also Reg. 33 Rev., Art. 76.) 
 
 111 Sol. Op. 57, T. B. 35-20-1172. 
 
 112 Reg. 45, Art. 522. 
 
 113 Reg. 45, Art. 522. Purchasing associations are exempt under the 
 present law. 
 
 114 0. D. 64, T. B. 1-19-89. 
 
EXEMPT ORGANIZATIONS 337 
 
 to property, collecting income therefrom, and turning over the 
 entire amount thereof, less expenses, to organizations which are 
 themselves exempt from the income tax are also exempt.i^^ ^ 
 corporation managed by five trustees, operating a theater build- 
 ing erected as a memorial, the net income from which is to be 
 turned over to a city, for its use and benefit, is not one organ- 
 ized for the "exclusive purpose of holding title to property, col- 
 lecting income therefrom, and turning over the entire amount 
 thereof less expenses to an organization which itself is exempt 
 from income tax/'ii'^ A co-operative store managed by a uni- 
 versity for the purpose of selling to its students supplies of 
 every kind, and in case of dissolution its property reverting to 
 the trustees of the school, does not come within the class of 
 corporations organized for the exclusive purpose of holding title 
 of property, collecting income therefrom, and turning over the 
 entire amount thereof. It is actively engaged in the operation 
 of a business in which profits are realized.^!''' 
 
 Federal Land Banks and National Farm-Loan Associations 
 (thirteenth class). Federal land banks and National Farm-Loan 
 Associations as provided in § 26 of the act of July 17, 1916, 
 entitled "An act to provide capital for agricultural development, 
 to create standard forms of investment based upon farm mort- 
 gage, to equalize rates of interest upon farm loans, to furnish a 
 market for United States bonds, to create government deposi- 
 taries and financial agents for the United States, and for other 
 purposes," are exempt.i^s 
 
 Personal Service Corporations (fourteenth class). Since the 
 stockholders of personal service corporations are taxable in the 
 same manner as the members of a partnership,!!^ personal service 
 corporations as such are exempt from tax.i^o Since personal 
 service corporations are taxed as other corporations after De- 
 cember 31, 1921, this exemption is not effective after that date.^^i 
 
 Joint-Stock Land Banks. Joint-stock land banks were uncon- 
 ditionally exempt under the 1916 law, as amended, as to income 
 derived from bonds or debentures of other joint-stock land banks 
 or any federal land bank belonging to such joint-stock land bank. 
 
 115 Such corporations were held to be taxable under the 1913 Law in the 
 absence of express provisions in that law for their exemption. (T. D. 2137.) 
 
 116 0. D. 177, T. B. 7-19-300. 
 
 117 O. D. 65, T. B. 1-19-90-. 
 
 118 Revenue Act of 1921, §231 (13); Revenue Act of 1918, §231 (13); 
 Reg. 45, Art., 74; Reg. 33 Rev., Art. 68. 
 
 119 Revenue Act of 1921, §218 (d); Revenue Act of 1918, §218 (e). 
 
 120 Revenue Act of 1921, § 231 (14); Revenue Act of 1918, § 231 (14). 
 
 121 Revenue Act of 1921, §231 (14). 
 
338 FEDERAL INCOME TAX 
 
 They were taxable, however, as to income from other sources and 
 consequently it would seem they were not exempt from the re- 
 quirement of making a return of annual income, since the ex- 
 emption from making returns applied only to corporations not 
 subject to the tax. Neither the 1918 law nor the present law 
 includes joint-stock land banks in the list of exempt organiza- 
 tions.^22 
 
 122 Cf. Revenue Act of 1916, §11; Revenue Act of 1918, §231, and Re- 
 venue Act of 1921, § 231. See Sol. Op. 68, T. B. 41-20-1235. 
 
CHAPTER 14 
 INCOME — IN GENERAL 
 
 The term "gross income" is defined by the law to include 
 "gains, profits, and income derived from salaries, wages, or com- 
 pensation for personal service (including in the case of the 
 President of the United States, the judges of the Supreme and 
 inferior courts of the United States, and all other officers and 
 employees, whether elected or appointed, of the United States, 
 Alaska, Hawaii, or any political subdivision thereof, or the Dis- 
 trict of Columbia, the compensation received as such) , of what- 
 ever kind and in whatever form paid, or from professions, 
 vocations, trades, businesses, commerce, or sales, or dealings in 
 property, whether real or personal, growing out of the owner- 
 ship or use of or interest in such property; also from interest, 
 rent, dividends, securities, or the transaction of any business 
 carried on for gain or profit, or gains or profits and income 
 derived from any source whatever." This definition of the term 
 "gross income" contained in the 1918 law has not been changed 
 in any respect by the Revenue Act of 1921.^ The general rules 
 (.and principles applicable to income from all sources will be dis- 
 cussed in this chapter, and thereafter the special rules applicable 
 to income from (1) personal services, (2) business, trade or 
 commerce, (3) sales or dealings in property, (4) interest, reht, 
 and royalties, (5) dividends, (6) miscellaneous sources. The 
 special rules relating to income from partnerships and fiduciaries 
 are treated in the chapters on those respective subjects.^ 
 
 What Constitutes Income. A discussion of the various con- 
 ceptions of "income" would be interesting but out of place in 
 a work of this character. "Income," like most other words, has 
 different meanings, dependent upon the connection in which 
 it is used and the result intended to be accomplished by its use.^ 
 
 1 Revenue Act of 1921, § 213 (a); Revenue Act of 1918, §213 (a). The 
 clause "all other gains and profits derived from any source whatever" 
 contained in the Virginia Income Tax (Acts 1902-04, Chapter 148, as 
 amended by Acts 1912, Chapter 279) has been held not to be limited by the 
 rule of ejusdem generis to the specific kinds of income enumerated there- 
 tofore (Commonvirealth v. Werth, 116 Va. 604, 82 S. E. 695.) 
 
 2 See Chapters 8 and 6. 
 
 3 Trefry v. Putnam, 227 Mass. 522, 116 N. E. 904, L. R. A. 1917, F. 806. 
 One interesting definition is that contained in Waring v. The Mayor, 60 
 Ga. 93, which is as follows: "The fact is, property is a tree; income is the 
 fruit: labor is a tree; income the fruit: capital the tree; income, the fruit. 
 
 339 
 
340 FEDERAL INCOME TAX 
 
 The subject of what constitutes income in the technical or true 
 economic sense is one upon which few economists and courts 
 agree. As used, however, in the Sixteenth Amendment and in 
 the statutes enacted in pursuance thereof, the word must be 
 held to have been used in its common, ordinary meaning, and 
 not in its technical or true economic sense, for it is a familiar 
 rule of construction that ordinary words used in constitutions 
 and statutes must be given their usual and common significance, 
 if such meaning harmonizes with the evident intent of the lan- 
 guage employed and with the purpose to be accomplished.'' In 
 its ordinary and popular meaning "income" is the amount of 
 actual wealth which comes' to a person during a given period of 
 time. At any single moment a person scarcely can be said to 
 have income. The word in most, if not all, connections, involves 
 time as an essential element in its measurement or definition. 
 It thus is differentiated from capital or investment, which com- 
 monly means the amount of wealth which a person has on a fixed 
 date. Income may be derived from capital invested or in use, 
 from labor, from the exercise of skill, ingenuity, or sound judg- 
 ment, or from a combination of any or all of these factors.'^ One 
 of the most recent of its definitions and the one most commonly 
 accepted by the courts, is "the gain derived from capital, from * 
 labor, or from both combined."'^ It would be difficult to give 
 a comprehensive definition which can be treated as universal and 
 final but the word's usual synonyms are "gain," "profit," "reve- 
 nue." It is used in this sense also by writers upon taxation and 
 economips.^ An able English jurist has held in effect that 
 annual income is either a conventional figure or a mere approxi- 
 mation. Income must be a thing sufficiently real to be capable 
 of being taken out of a business by its owners without impair- 
 ment of capital. The exact point at which an impairment of 
 capital begins is one that cannot easily be determined with pre- 
 
 The fruit, if not consumed as fast as it ripens, will germinate from the seed 
 which it encloses, and will produce other trees and grow into more property ; 
 but so long as it is fruit merely, and plucked to eat and consumed in the 
 eating, it is no tree, and will produce itself no fruit." 
 
 4 Van Dyke v. City of Milwaukee, 159 Wis. 460, 146 N. W. 812, 150 N. 
 W. 509. 
 
 5 Trefry v. Putnam, 227 Mass. 522, 116 N. E. 904, L. R. A. 1917, F. 806. 
 
 6 Stratton's Independence v. Howbert, 231 U. S. 399 ; Doyle v. Mitchell 
 Brothers, 247 U. S. 179; Eisner v. Macomber, 252 U. S. 189. In U. S. v. 
 Oregon, Washington, etc. Co., 251 Fed. 211, the court held that the term 
 is not limited to earnings from economic capital, i. e., wealth industrially 
 employed in permanent form. See Eliasberg Bros. Mercantile Co. v. Grimes, 
 204 Ala. 492, 86 So. 56. 
 
 ^ Trefry v. Putnam, 227 Mass. 522, 116 N. E. 904, L. R. A. 1917, F. 806. 
 
INCOME — IN GENERAL 341 
 
 cision, and questions of doubt as between income and capital 
 must be resolved in favor of capital. In a very real sense losses 
 may be admitted, while profits must be proved. Capital once 
 impaired is gone, but the admission of a loss not fully realized 
 by a complete transaction results in nothing more serious than 
 a postponement of profit to a subsequent period. The imposition 
 of an income tax in effect compels a withdrawal of a portion of 
 the income from the business, and the tax is imposed ratably 
 upon all net income, so that if through an error in computation 
 a stated figure of income includes* any amount of capital the tax 
 is imposed not upon income but upon capital.^ One conception 
 of income excludes gains or increment in the value of capital 
 assets, but this conception was not that of Congress in enacting 
 the recent income tax laws, since the tax is not only upon income 
 conceived as production of capital but also upon gains and profits 
 derived from sales or dealings in capital itself .^ Property held 
 by the taxpayer on March 1, 1913, the date of incidence of the 
 first income tax law passed pursuant to authority given to Con- 
 gress by the Sixteenth Amendment, is capital. Any liquidated 
 claim existing unconditionally on March 1, 1913, and then assign- 
 able, whether presently payable or not and held by a taxpayer 
 prior to March 1, 1913, whether evidenced by writing or not; 
 and all interest which had accrued thereon before that date, do 
 not constitute taxable income although actually recovered or 
 received subsequent to such date.^" 
 
 Bookkeeping Entries. Real facts and not bookkeeping en- 
 tries constitute income. Books of account are no more than evi- 
 dential ; they are neither indispensable nor conclusive.^^ A book 
 value increase in the value of capital assets due to a reappraisal 
 of property is not income within the meaning of the law.^^ A 
 book entry reflecting only an enhanced value of assets during the 
 year evidences an increase in the net worth of the corporation 
 or individual for that year, an increase which, under adverse 
 conditions, may disappear the next year. An increase in value 
 thus evidenced is intangible, unstable and is not such income as 
 the law contemplates shall be taxed.i^ Taxable income is that 
 
 8T. B.'R. 48, T. B. 16-19-457. 
 
 9 The constitutionality of taxing such gains and profits has recently 
 been upheld by the Supreme Court of the United States. See Chapter 42. 
 lOEeg. 45, Art. 87, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 11 Doyle V. Mitchell, 247 U. S. 179; Southern Pacific R. R. Co. v. Muenter, 
 260 Fed. 837. 
 
 12 T. D. 2005; Baldwin Locomotive Works v. McCoach, 221 Fed. 59. 
 
 13 Industrial Trust Co. v. Walsh, 222 Fed. 437; Letter from treasury 
 department dated August 14, 1914; I. T. S. 1917, H 260. See Reg. 45, Art. 23. 
 
342 FEDERAL INCOME TAX 
 
 actually realized during the year, evidenced by the receipt of cash 
 or its equivalent. Hence mere book entries of an appreciation in 
 the value of capital assets will be disregarded." Neither the 
 government nor the taxpayer is bound by valuations entered on 
 the books of the taxpayer.is This does not mean that the return 
 of income should not be made in accordance with the taxpayer's 
 books, for ordinarily the books reflect the real or actual facts. 
 It means, for instance, that the government is not precluded 
 from going behind the taxpayer's books and assessing the tax 
 on the basis of the actual facte. Where property is carried at 
 a nominal value on the books of the taxpayer, and the govern- 
 ment seeks to assess a tax on the basis of that value, the tax- 
 payer may prove, by other evidence, the true value of such prop- 
 erty.16 As a general rule, the method of accounting employed 
 by a taxpayer determines his income. No system of bookkeep- 
 ing or accounting is prescribed for all taxpayers, but the business 
 transacted by the taxpayer should be so recorded that he may 
 make a return of his true income and that each and every item 
 set forth in the return of income may be readily verified by an 
 examination of the books of account.^''' The books of a corpora- 
 tion are assumed to reflect facts as to its earnings, etc., hence 
 they will be taken as the best guide in determining the net in- 
 come, and, except as the same may be modified by provisions of 
 the law wherein certain deductions are limited, the net income 
 disclosed by the books and verified by the annual balance sheet, 
 or the annual report to stockholders, should be the same as that 
 returned for taxation.^^ It has been held that no taxable income 
 
 i*Reg. 45, Art. 23; Fink v. N. W. Mutual Life Ins. Co., 267 Fed. 968; 
 T. D. 3057, T. B. 36-23-1187; Letter from treasury department dated 
 August 14, 1914; I. T. S. 1917, 11260. 
 
 IS Doyle v. Mitchell Brothers, 235 Fed. 686, affirmed 247 U. S. 179. In 
 some instances the law places a further determining importance on the 
 bookkeeping entries, as in the case of worthless debts. The latter seems to 
 be the only deduction expressly required by the law to be evidenced by 
 book entries in the case of individuals. Under the 1916 Law this was 
 true also of cases of losses, which were required to be sustained and 
 "charged off" in order to be deducted by corporations. (Revenue Act 
 of 1916, §12 (a).) 
 
 IB U. S. v. Guggenheim Exploration Co.', 238 Fed. 231. In this case the 
 value at which the property was acquired, the declaration of the board of 
 directors as to such value, at the time of acquisition, and statements in the 
 annual reports, were held to overcome in weight the alleged admission 
 against interest in placing the valuation of the property on the books at a 
 nominal amount. 
 
 17 Reg. 45, Art. 24; Reg. 33, Art. 182; T. D. 2161. 
 
 18 Reg. 33, Art. 183. 
 
INCOME — IN GENERAL 343 
 
 accrues to a public utility corporation from a mere book entry 
 charging construction account and crediting income account due 
 to charging interest on the company's own funds used tempo- 
 rarily for construction purposes, as permitted under the classi- 
 fication of the interstate commerce commission.i^ 
 
 Income Actually Received. The courts have uniformly con- 
 strued the word "income" to include only the receipt of actual 
 cash as opposed to contemplated revenue due but unpaid, unless 
 a contrary purpose is manifest from the language of the statute ; 
 that is, the courts in the absence of a clear direction to the con- 
 trary construe a revenue law in accord with an intention to reach 
 actual and not potential income.^o One cannot be said to reach 
 
 19 O. D. 246, T. B. 13-19-425; 0. D. 811, T. B. 7-21-1453. Neither will the 
 company be allowed to include in its assets such amount of interest charged 
 to capital account for the purpose of determining invested capital. The 
 principles contained in the above ruling are applicable under the Revenue 
 Acts of 1916 and 1917 (0. I>. 1061, T. B. 41-21-1862). 
 
 20 U. S. V. Schillinger, 14 Blatch. 71, 27 Fed. Cas. No. 16,228. The language 
 of the 1909 Law, Act of August 5, 1909, § 38 (36 Stats. 112), was held to 
 
 * indicate that the net income, which was the measure of taxation, meant 
 what had actually been received and not that which, although due, had not 
 been received, its payment for any reason having been deferred or post- 
 poned. (Mutual Benefit Life Ins. Co. v. Harold, 198 Fed. 199, affirmed 
 201 Fed. 918; Connecticut Mutual Life Ins. Co. v. Eaton, 218 Fed. 206; Fink 
 V. N. W. Mutual Life Ins. Co., 267 Fed. 968. See also Lumber Mut. Fire 
 Ins. Co. V. Malley, 256 Fed. 380.) In Connecticut General Life Ins. Co. v. 
 Eaton, 218 Fed. 188, it was held under that law that items of "non-ledger 
 assets" shown in the annual report of a life insurance company, made in 
 pursuance to a state statute as "uncollected and deferred premiums" and 
 "interest due and accrued," but no part of which had been received, were 
 not a part of the company's "income received during such year." Speaking 
 of the 1909 Law, Justice Pitney said in Hays v. Gauley Mountain Coal Co., 
 247 U. S. 189: "The expression 'income received during such year' employed 
 in the Act of 1909, looks to the time of realization rather than to the period 
 of accruement." Accrued but unpaid interest on investments has been held 
 not to be income. (Ins. Co. of North America v. McCoach, 218 Fed. 905.) 
 In the 1913 Law the phrase "arising and accruing" was used. Doubtless it 
 was the intention of Congress to employ terms of sufficient comprehension 
 to reach actual income by foreclosing any possible avenue of escape, but 
 it can hardly be said that in so doing an intention prevailed to tax that 
 which did not actually exist, except on paper, as income accrued during the 
 taxing period. (Maryland Casualty Co. v. U. S., 52 Ct. Cls. 201, modified by 
 the Supreme Court (251 U. S. 342) on another point.) An early ruling of 
 the treasury department, under the 1913 Law, holding that a person re- 
 ceiving fees or emoluments for professional services must report all actual 
 receipts for services rendered in the year for which the return was made, 
 together with all unpaid accounts, charges for services or contingent in- 
 come due for that year, was discussed in Edwards v. Keith, 231 Fed. 110, 
 in which the court said: "No such construction of the treasury department 
 
344 FEDERAL INCOME TAX 
 
 an income of defined proportions until he balances receipts and 
 disbursements at the end of a stated period and ascertains, not 
 what is due, but what has been actually received. The assets 
 and liabilities may be measured by a different rule of account- 
 ing, but as said in one case,2i "in the absence of any special 
 law to the contrary, income must be taken to mean money, and 
 not the expectation of receiving it or the right to receive it at a 
 future time." Under the Revenue Act of 1918 all items of gross 
 income were required to be reported in the year in which re- 
 ceived by the taxpayer, unless in order clearly to reflect income 
 such amounts were to be accounted for as of a different period.22 
 The same is true under the 1921 Law.-'s The law intends, there- 
 fore, primarily to tax income received, and not income which 
 has arisen or accrued, but has not been received.^* This basis 
 of actual receipts is not exclusively prescribed; for the statute 
 recognizes as income-determining factors other items, among 
 which are inventories, accounts receivable, property exhaustion, 
 and accounts payable for expenses incurred. Net income is com- 
 puted in accordance with the method of accounting regularly 
 employed in keeping the books of the taxpayer unless no such 
 method of accounting has been employed or the method em- 
 ployed does not clearly reflect the income, in which case the com- 
 putation is made on such basis and in such manner as in the 
 
 can enlarge the scope of the statute so as to impose the tax upon unpaid 
 charges for professional services rendered, which for aught any one can tell 
 may never be paid. The statute alone determines what is income to be 
 taxed. It taxes only income derived from many specified sources, and 
 one does not derive income by rendering services and charging for them." 
 In State ex rel. Moon Company v. Wisconsin Tax Commission, 166 Wis. 287, 
 163 N. W. 639, the court distinguishes between the case at bar and the case 
 of Lynch v. Turrish, 247 U. S. 221, on the ground that the 1913 Federal Law 
 taxed net income "arising or accruing" from all sources in the preceding 
 calendar year, while the Wisconsin Law (§1087 (M) 1, Stat. 1911) taxed 
 income received. The court said: "Unlike the federal act there is no need 
 (under the Wisconsin Act) to ascertain whether the income arose or ac- 
 crued in order to determine when it is taxable. The fact that it was re- 
 ceived during 1911 makes it taxable irrespective of when it arose or ac- 
 crued." In the 1916 Law the phrase "income received" was used with re- 
 spect to both individuals and corporations. (Revenue Act of 1916, §§ 1 (a) 
 and 10 (a).) 
 
 21 Maryland Casualty Co. v. U. S., 52 Ct. Cls. 201, 251 U. S. 342; T. D. 
 2451. 
 
 22 Revenue Act of 1918, §213 (a). Reg. 45, Art. 23. Stock dividends 
 were an exception to this rule, but they have been held exempt (Eisner v. 
 Macomber, 252 U. S. 189). 
 
 23 Revenue Act of 1921, § 213 (a). 
 
 24 Revenue Act of 1921, §§213 (a) and 233 (a); Revenue Act of 1918, 
 §§ 213 (a) and 233 (a). 
 
INCOME — IN GENERAL 345 
 
 opinion of the commissioner does clearly reflect the income.^^ 
 Thus, individuals and corporations may report their income upon 
 the basis of accruals instead of actual receipts. In other words, 
 under the Revenue Acts of 1918 and 1921, the time as of which 
 any item of income is to be accounted for is to be determined 
 in the light of the fundamental rule that the computation of net 
 income shall clearly reflect the taxpayer's income.^^ Unless the 
 taxpayer keeps his books on a basis other than that of actual 
 receipts, and reports accordingly, he should report as income all 
 amounts received in the year in which payment is actually 
 made.2''^ The rules under the preceding laws are applicable under 
 the 1918 and 1921 Laws if the taypayer keeps his books on the 
 basis of actual receipts.^s Thus, dividends and interest, pro- 
 fessional fees of lawyers, physicians, and the like, need not be 
 returned as income in the year in which they become due or are 
 earned, but should be returned as income in the year in which 
 the payments are received or made available.^s Where the serv- 
 ice and payment period is divided by the end of the taxable year, 
 the compensation for the period so divided at the end of the year 
 will be accounted for as income for the year in which payment 
 is actually received. Where the service is compensated by fee, 
 or is of such nature that no part of the fee or compensation be- 
 comes due until the completion of the service, the entire amount 
 received should be income to be accounted for as of the year of 
 receipt.^" It is immaterial that the services for which payment 
 may be made have been performed for a period extending over 
 several years, the entire payment is taxable in the year in which 
 received, and may not be pro-rated.^^ A more extended discus- 
 
 25 Revenue Act of 1921, §§212 (b) and 232; Revenue Act of 1918, 
 §§212 (b) and 232. ' 
 
 26 Reg. 45, Art. 22. 
 
 27 Reg. 45, Art. 23. 
 
 28 See one exception to this rule (Reg. 45, Art. 52). 
 
 29 Letters from treasury department dated February 18, 1915, and March 
 1, 1915; L T. S. 1919, 1111855 and 853. 
 
 30 Reg. 33 Rev., Art. 4. 
 
 31 Jackson v. Smietanlca, 267 Fed. 932, affirmed. 272 Fed. 970. T. D. 
 2135. In Edwards v. Keith, 231 Fed. 110, it was argued on behalf of an 
 agent of a foreign insurance company, under a contract by the terms of 
 which he should receive compensation on premiums of policies to the extent 
 of certain specified percentages for a term aggregating twenty years from 
 the date of each policy, that all of the labor creating such income had 
 been performed prior to the incidence of the tax, but the court held that 
 fact to be immaterial and sustained an assessment on the entire income for 
 the year in which it was received. See also Holbrook y. Moore, U. S. Dist. 
 Ct., E. Dist. Mo., decided February 8, 1921; Ct. D. 10, T. B. 17-21-1592. 
 
346 FEDERAL INCOME TAX 
 
 sion of the subject of when items of income should be included 
 in gross income will be found elsewhere in this book.^^ 
 
 Income Constructively Received. The rule that the law ordi- 
 narily taxes income "received" and not that which has "arisen 
 or accrued" is subject to the qualification that income may be 
 constructively as well as actually received. This is not in truth 
 a qualification; it is a matter of defining the term "received." 
 Income which is credited to the account of, or set apart for, a 
 taxpayer and which may be drawn upon by him at any time is 
 subject to tax for the year during which so credited or set apart, 
 although not then actually reduced to possession.^^ To consti- 
 tute receipt in such a case the income must be credited to the 
 taxpayer without any substantial limitation or restriction as to 
 the time or manner of payment or condition upon which pay- 
 ment is to be made. A book entry, if made, should indicate an 
 absolute transfer from one account to another. If the income is 
 not credited, but is set apart, such income must be unqualifiedly 
 subject to the demand of the taxpayer. Where a corporation 
 contingently credits its employees with bonus stock, but the stock 
 is not available to such employees until the termination of five 
 years of employment, the mere crediting on the books of the 
 corporation does not constitute receipt. The distinction between 
 receipt and accrual must be kept in mind. Income may accrue 
 to the taxpayer and yet not be subject to his demand or capable 
 of being drawn on or against by him.^* Appreciation in the value 
 of property is not even an accrual of income to the taxpayer 
 prior to the realization of such appreciation through conversion 
 of the property. 
 
 A corporation owning stock in four other companies decided 
 to distribute its assets as a liquidating dividend, an option being 
 given to the stockholders in the case of the stock of one of the 
 companies, to take either stock or cash. The board of directors 
 in December, 1915, authorized the distribution and at the same 
 time authorized the mailing of a circular letter to the stock- 
 holders giving them until January, 1916, to elect whether to 
 take stock or cash. This circular letter advised the stockholders 
 that the distribution was "to be made as of December — , 1915." 
 
 32 See Chapter 33. 
 
 33 The 1921 Law is specific in this respect with regard to taxable dis- 
 tributions of corporations. (Revenue Act of 1921, §213 (a).) 
 
 34 Reg. 45, Art. 53, Reg. 33 Rev., Art 4; letter from treasury depart- 
 ment dated May 31, 1919; I. T. S. 1921, 11696. See Chapter 33 for a fur- 
 ther discussion of this subject. 
 
INCOME — IN GENERAL 347 
 
 In the case of a stockholder making no election, it was assumed 
 that he desired cash. The resolution provided that for the pur- 
 pose of this distribution the transfer books of the company 
 were to be closed December — , 1915, and reopened January — , 
 1916. The circular letter stated that the stock or cash would 
 be distributed "as soon after January — , 1916, as practicable." 
 The distribution was actually made in January, 1916. One of 
 the stockholders participating in the distribution claimed that 
 the amount distributed should be treated as constructively re- 
 ceived in 1915. This claim was denied, it being held that while 
 rights vested in the stockholders in 1915, they constituted a mere 
 chose in action, a right to receive property at a future date. 
 The theory of constructive receipt by its very nature does not 
 apply to the receipt of an indefinite thing. There can be no 
 receipt, constructive or otherwise, when the thing to> be received 
 is not yet determined. Until the exercise of their option by the 
 stockholders and communication thereof to the corporation, no 
 payment could be made under the terms of the resolution de- 
 claring the distribution. Election was a condition precedent to 
 the right to demand payment.^^ 
 
 Examples of Constructive Receipt. Where interest cou- 
 pons have matured, but have not been cashed, such interest pay- 
 ment, though not collected when due and payable, is nevertheless 
 available to the taxpayer and should therefore be included in his 
 gross income for the year during which the coupons matured. 
 This is so if the coupons are exchanged for other property in- 
 stead of eventually being cashed. Dividends on corporate stock 
 are subject to tax when set apart for the stockholder and made 
 unqualifiedly subject to his demand, although not yet collected 
 by him.^^ The distributive share of the profits of a partner in 
 a partnership or of a stockholder in a personal service corpora- 
 tion is regarded as received. Interest credited on savings bank 
 deposits, even though the bank nominally have a rule, seldom 
 or never enforced, that it may require so many days' notice in 
 advance of cashing depositors' checks, is income to the depositor 
 when credited.^''^ Where under the by-laws of a co-operative 
 bank the profits credited to a shareholder may not be withdrawn 
 in their entirety until five years have elapsed, but three-fourths 
 of such profits may be withdrawn at any time upon thirty days' 
 notice, in which case the other fourth is forfeited it has been 
 held that three-fourths of the profits credited to the shareholder 
 
 35 A. R. R. 375, T. B. 15-21-1560. 
 
 36 Reg. 45, Art. 54; Revenue Act of 1921, §213 (a). 
 
 37 Reg. 45, Art. 54. 
 
348 FEDERAL INCOME TAX 
 
 are credited to or set apart for him without restriction, and as 
 suc|i should be included in gross income for the year in which 
 so credited or set apart. The remaining one-fourth becomes 
 income, constructively received, at the end of the five-year 
 period, provided he has not previously withdrawn his shares.^s 
 
 In 1891 A purchased an interest in a corporation and was 
 elected treasurer. At the time of this purchase the company 
 had large indebtedness, a small and inadequate plant, and com- 
 paratively little business. A placed behind the company all his 
 personal credit, endorsing its notes and contracts freely, and 
 after some years of effort on his part the business became one 
 of the leading businesses of its kind and regularly paid divi- 
 dends. In 1906 it was agreed that A should receive as his an- 
 nual compensation, in lieu of salary, a commission upon the 
 increase of business of the company under his management. 
 It was arranged that he should be paid a weekly allowance and 
 that any excess of his commission beyond such allowance should 
 be credited to him monthly upon the books of the company, but 
 not actually paid except at the convenience of the company. 
 In 1916 his weekly drawings were in excess of his commissions 
 for that year, while in 1917 and 1918 his commissions exceeded 
 the amount of his actual drawings. In his return he included 
 as income for those years the amounts actually withdrawn. It 
 was held that the amounts credited during these years as dis- 
 tinguished from the amounts actually withdrawn constituted 
 taxable income to A.^^ 
 
 Receipt by Agent Is Receipt by Principal. A system of 
 accounting adopted by an insurance company, which allowed a 
 period of two months to local agencies in which to report their 
 cash premium receipts to the home office, has been held, in view 
 of the rules and regulations of the commissioner, not to "clearly 
 reflect" the company's income. A payment to the agent was held 
 to be payment to the principal, and the company was required to 
 include such payments in the return for the year in which they 
 were received by the agent. The provision of the 1916 law, per- 
 mitting a corporation to report according to its books, was held 
 not to justify the system followed by the corporation in this 
 case, as the system adopted was required to be such as to "clearly 
 reflect its income,"*" and the provision*^ of the law that if the 
 method of accounting regularly employed does not clearly re- 
 
 38 0. D. 1081, T. B. 44-21-1892. 
 
 39 A. R. R. 366, T. B. 4-21-1404. 
 
 40 Maryland Casualty Co. v. U. S., 52 Ct. Cls. 201, modified by the Su- 
 preme Court on another point (251 U. S. 342) . 
 
 41 Revenue Act of 1921, §212 (b) ; Revenue Act of 1918, §212 (b). 
 
INCOME — IN GENERAL 349 
 
 fleet the income, the computation of net income shall be made 
 upon such basis and in such manner as in the opinion of the 
 commissioner does "clearly reflect" income would seem to justify 
 the same conclusion under the present law. The basis of this 
 decision is undoubtedly that the cash premium receipts of the 
 local agencies were constructively received by the home office 
 when they were received by the local agencies. When the offi- 
 cers of a corporation upon the sale of their capital stock in the 
 corporation to another corporation agree not to engage in a 
 similar business for a certain period within the United States, 
 any part of such consideration in fact payable to the other em- 
 ployees of the corporation for the purpose of securing their good 
 will is not income to the officers even though the agreement of 
 sale of the stock makes no mention of this collateral arrange- 
 ment. It must, however, be satisfactorily established that by 
 written or oral understanding such part of the consideration 
 was not for the benefit of the oflacers.*^ Since an unrecorded 
 assignment of an oil and gas lease under the laws of Oklahoma, 
 executed in good faith and actually delivered, passes title, funds 
 coming into the hands of the assignor thereafter are held by 
 him in trust for the benefit of the assignee.*^ 
 
 Income Accrued. The Revenue Act of 1918 changed the privi- 
 lege of reporting income upon the basis of book entries to a 
 requirement that income be so reported. It is expressly pro- 
 vided that net income shall be computed in accordance with the 
 method of accounting regularly employed in keeping the books 
 of a taxpayer; if no such method of accounting has been so 
 employed or if the method employed does not clearly reflect 
 income the computation is to be made upon such basis and in 
 such manner as in the opinion of the commissioner does clearly 
 reflect the income.^* Approved standard methods of accounting 
 will ordinarily be regarded as clearly reflecting income. The 
 rfiethod of accounting will not, however, be regarded as clearly 
 reflecting income, unless all items of gross income and all de- 
 ductions are treated with reasonable consistency. The two sys- 
 tems can not overlap ; a taxpayer may not report in part on the 
 accrual and in part on the basis of actual receipts. ^^ 
 
 42 A. R. M. 56, T. B. 23-20-984. 
 
 43 Sol. Op. 59, T. B. 38-20-1201. 
 
 44 Revenue Act of 1918, § 212 (b) ; Revenue Act of 1921, § 212 (b) ; Reg. 
 45, Art. 22. See Chapter 33 for a full discussion of this subject. 
 
 45 Reg. 45, Art. 23; Maryland Casualty Co. v. U. S., 52 Ct. Cls. 201. This 
 case was modified by the Supreme Court (251 U. S. 342) but the principle 
 here involved was upheld. 
 
350 FEDERAL INCOME TAX 
 
 Income Received in Kind. When income is received in kind, 
 as for instance, in produce, crops, or other property having no 
 definite market value, no tax is assessable until the produce, 
 crops or other property is disposed of, in which year such income 
 is first reduced to money or a money equivalent.*^ 
 
 Income Received in the Equivalent of Cash. Items of income, 
 as well as expenditures, need not be in the form of cash. It 
 is sufficient that such items, if otherwise properly included in 
 the computation of net income, can be readily valued in terms of 
 money.*''^ The Revenue Act of 1918 expressly provided that 
 
 48 Revenue Act of 1921, § 202 (c) ; Revenue Act of 1918, § 202 (b) ; T. D. 
 2153. ' 
 
 4T Id. Reg. 45, Art. 22. It is held by the treasury department in a variety 
 of cases that income (other than from dividends and from personal services) 
 may be received in a form other than cash. Thus, where farm produce is 
 exchanged for merchandise, groceries or mill products, the market value of 
 the article or product received in exchange is to be returned as income. 
 (Reg. 45, Art. 38). Rents received in crop shares should be returned as 
 income of the year in vi^hich the crop shares are reduced to money or a 
 money equivalent. (Reg. 45, Art. 38). When improvements made by a 
 lessee become part of the real estate, the value of such improvements to the 
 extent of their fair market value is income to the lessor at the time such 
 Improvements are made (Reg. 45, Art. 48, as amended by T. D. 3206, T. B. 
 33-21-1767). Warrants received by contractors pursuant to state con- 
 tracts are considered income. (Reg. 45, Art. 37). Promissory notes are 
 held to be income to the extent of their discount or fair market value. (Reg. 
 45, Art. 34; letter from treasury department dated March 1, 1915). As 
 stated broadly in Article 21 of Regulations 45, the term income "is not 
 limited to cash alone, for the statute recognizes as income-determining 
 factors other items, among which are inventories, accounts receivable, prop- 
 erty exhaustion and accounts payable for expenses incurred." Again in 
 Regulations 45, Art. 31, it is stated that "income may be received in the 
 form of cash or of property." The case of Peabody v. Eisner, 247 U. S. 
 347, which recognized the doctrine that dividends received in the form of 
 •property (stock of corporations other than the distributing corporation) 
 were taxable under the 1913 Law, which did not contain any express pro- 
 vision that "property" dividends should be taxable, settles the point that 
 taxable income may be received in the form of property. (See also U. S. v. 
 Phellis, 42 Sup. Ct. Rep. 63; Rockefeller v. U. S., N. Y. Trust Co. v. Edwards, 
 42 Sup. Ct. Rep. 68. The question still remains, however, how far the statute 
 reaches out to tax "property" income; in other words, what is to be con- 
 sidered the "equivalent of cash." For purposes of "property" income, a 
 line must be dravra somewhere between such readily convertible property 
 as Liberty bonds and such extremely unconvertible property, as, for ex- 
 ample, works of art. The question occurs in each case: Can the property 
 received be turned to pecuniary account ? The provision of the Revenue Act 
 of 1921 (§ 202 (c) ) that when property is exchanged for other property no 
 gain or loss shall be recognized unless the property received in exchange 
 has a readily realisable market value is an indication that Congress had in 
 mind the difficulties inherent in such transactions and marks a step in ad- 
 
INCOME — IN GENERAL 351 
 
 amounts distributed in the liquidation of a corporation shall be 
 treated as payments in exchange for stock or shares, and any 
 gain or profit realized thereby shall be taxed to the distributee 
 as other gains or profits.*^ It also expressly provided that "prop- 
 erty" dividends should be taxable.*" The Revenue Act of 1921 
 provides that any distribution (whether in cash or other prop- 
 erty) made by a corporation to its shareholders or members 
 otherwise than out of (1) earnings or profits accumulated since 
 February 28, 1913, or (2) earnings or profits accumulated or 
 increase in value of property accrued prior to March 1, 1913, 
 shall be applied against and reduce the cost for the purpose of 
 ascertaining the gain derived or the loss sustained from the sale 
 or other disposition of the stock or shares by the distributee.™ 
 Inventories and accounts receivable may also be income-produc- 
 ing f actors.s^ Salaries, wages or compensation for personal serv- 
 ices of whatever kind "and in whatever form paid" are taxable 
 income.'^2 Under the 1918 Law any property having a market 
 value was the equivalent of cash when received in exchange for 
 other property .53 Under the present law, on an exchange of 
 property, no gain or loss is recognized unless the property re- 
 ceived in exchange has a readily realizable market value.^* A 
 dealer in automobiles who takes used machines as part payment 
 on sales of new cars is required to report the entire profits real- 
 
 vance of all past legislation on this subject. Even now, each case will have 
 to be decided upon its peculiar facts and the character of the property 
 received. It is not easy to determine whether property has a readily re- 
 alizable market value; the definition of this term involves much of the 
 same difficulty which was involved in the term "fair market value, if any", 
 and it is well to guard against the impression that the present law has 
 finally solved the problem of what is and what is not property income. 
 (Tennant v. Smith, (1892) A. C. 150, 66 L. T. 327, 3 Tax Cas. 158; U. S. 
 V. Schillinger, 14 Blatch. 71, 27 Fed. Cas. No. 16,228; U. S. v. Smith, 27 
 Fed. Cas. No. 16,341; State v. Frear, 148 Wis. 456, 134 N. W. 673, 135 N. 
 W. 164.) This subject is more fully discussed in Chapter 17. 
 
 48 Revenue Act of 1918, §201 (c). This section also provided that stock 
 dividends should be considered income to the amount of earnings or profits 
 distributed but stock dividends were held not to be taxable. See Chapter 19. 
 
 49 Revenue Act of 1918, §201 (a). 
 
 50 Revenue Act of 1921, §201 (c). ' 
 
 51 Revenue Act of 1921, §§202 (a) and 203; Revenue Act of 1918, §§202 
 (a) and 203; Reg. 45, Art. 21. 
 
 52 Revenue Act of 1921, § 213 (a) ; Revenue Act of 1918, § 213 (a). 
 
 53 Revenue Act of 1918, § 202. 
 
 54 Revenue Act of 1921, § 202 (c). Even where the property received has 
 a readily realizable market value no gain or loss is recognized in certain 
 cases specified by the statute. (Revenue Act of 1921, §202 (c).) This 
 subject is fully treated in Chapter 17. 
 
352 FEDERAL INCOME TAX 
 
 ized on the new cars for the year in which received regardless of 
 the fact that part of the payments received are in the form of 
 used machines. The fair market value of the used cars taken 
 as part payment is deemed to be the value at which they were 
 taken in on the sales.^s 
 
 Income Received in the Form of Notes. Payments received in 
 the form of promissory notes, not merely security for such pay- 
 ments, constitute income to the amount of their readily realizable 
 market value. A taxpayer receiving as compensation a note 
 regarded as good for its face value at maturity, but not bearing 
 interest, may properly treat as income as of the time of receipt 
 the fair discounted value of the note at such time. Thus, if it 
 appears that such a note is or could be discounted on a six or 
 seven per cent, basis, the recipient may include such note in his 
 gross income to the amount of its face value less discount com- 
 puted at the prevailing rate of such transactions. If the pay- 
 ments due on a note so accounted for are met as they become 
 due, there should be included as income in respect of each such 
 payment so much thereof as represents recovery for the discount 
 originally deducted.^o If notes can not be so discounted or are 
 not readily marketable, they need not be reported as income 
 until paid. Thus, when a corporation keeping its accounts on 
 the basis of actual receipts and disbursements, loans money 
 secured by first mortgage bonds and receives as commission 
 second mortgages on the property of the borrower payable with- 
 out interest in 5 or 10 annual installments, such second mort- 
 gage notes were held under the 1918 Law to be income at their 
 fair discounted value as of the date of receipt. They had a dis- 
 ss O. D. 782, T. B. 5-21-1413. 
 
 56 Reg. 45, Art. 34. This regulation used the term "fair market value", 
 as required by the 1918 Law. With the substitution of the words "readily 
 realizable" for the word "fair" it would seem to state the present law. In 
 U. S. V. Schillinger, 14 Blatch. 71, 27 Fed. Cas. No. 16, 228, arising under 
 the Civil War Income Tax Laws, it was held that promissory notes taken 
 in payment of a patent right were not income until the notes became due. 
 The court said: "In this case the defendant changes his patent rights for 
 promissory notes payable in the future. Their value Was uncertain; they 
 might or might not be paid ; but, until they were paid, they were not income, 
 but only the ground of expecting income. The notes were no more taxable 
 as income than would have been other patent rights, if the defendant had 
 received them in payment of those he sold." On the other hand, in U. S. 
 V. Smith, 27 Fed. Cas. No. 16,341, also arising under the Civil War Income 
 Tax Laws, it was held that a transfer of stocks for a promissory note, 
 which is collectible, or an exchange thereof for land, followed by a sale of 
 such land within the year, for collectible promissory notes, is to be considered 
 a sale of such stock for so much cash. 
 
INCOME — IN GENERAL 353 
 
 count or market value at that time. If the notes were not mar- 
 ketable at a fair discount, each installment payment was held 
 to be gross income in its entirety in the year in which received.^'' 
 A taxpayer in computing his net income will not be obliged or 
 allowed to value his notes receivable at their fair market value 
 in cases where the time for the payment of such notes has been 
 extended by the taxpayer and the notes can not be discounted 
 or sold without material loss. If this were not the case, a mer- 
 chant who had notes receivable for goods sold and who granted 
 the purchaser an extension of time within which to pay the 
 notes would be permitted to treat the fair market value of the 
 notes as the price for which the goods were sold or to deduct 
 from gross income as a loss the difference between the face 
 value of the notes and their fair market value at the time they 
 originally became due. The effect of such a procedure would be 
 to allow taxpayers to take a deduction for bad debts prior to 
 the year in which they were determined worthless and charged 
 off contrary to the plain wording of the statute.^^ 
 
 Gross Receipts and Gross Income. It is important to note 
 that the term "gross receipts" as ordinarily used is not synony- 
 mous with the term "gross income" for tax purposes. A tax- 
 payer's gross income consists of his gross receipts less (a) 
 receipts fundamentally free from tax, such as receipts constitut- 
 ing a return of capital, and (b) receipts representing the kind 
 of income specifically exempted by the law.^^ The Revenue Act 
 of 1918 was the first income tax law to use the term "gross 
 income," defining what is and what is not included therein, the 
 latter being exempt income.^" 
 
 Exempt Income. In addition to receipts fundamentally free 
 from tax (such as a return of capital) the present law, as well 
 as the Revenue Act of 1918, specifically prescribe that certain 
 receipts shall not be included in gross income and shall be 
 
 57 O. D. 728, T. B. 46-20-1302. 
 
 58 0. D. 979, T. B. 30-21-1742. But see the new provision in the 1921 
 Law for the deduction of a proportionate amount of worthless debts, dis- 
 cussed in Chapter 25. 
 
 59 Reg. 45, Arts. 21, 71. 
 
 60 Revenue Act of 1918, §§213 and 235; Revenue Act of 1921, §§213 
 and 235. Prior to the enactment of the Revenue Act of 1918 the treasury 
 regulations and rulings referred to "gross income" generally as the income 
 of the taxpayer before making the deductions and allowances permitted 
 by law. The 1916 Law did not use the phrase "gross income," but in pre- 
 scribing the deductions allowed to corporations made use of the phrase 
 "gross amount" of its income. (Revenue Act of 1916, § 12 (a).) 
 
354 
 
 FEDERAL INCOME TAX 
 
 exempt from the tax.si The exemption of these receipts de- 
 pends in certain instances on the status or character of the 
 recipient, and in other instances there is no such limitation, 
 the exemption being applicable whether the recipient is an in- 
 dividual or a corporation. The classes so exempted by the 
 present law are given below; unless otherwise stated the same 
 exemption was allowed under the 1918 Law: 
 
 (1) The proceeds of life insurance policies paid upon the 
 death of the insured ;62 
 
 (2) The amount received by the insured as a return of pre- 
 mium or premiums paid by him under life insurance, endow- 
 ment, or annuity contracts, either during the term or at the 
 maturity of the term mentioned in the contract or upon sur- 
 render of the contract; 
 
 (3) The value of property acquired by gift, bequest, devise, 
 or descent (but the income from such property must be included 
 in gross income) ; 
 
 (4) Interest upon (a) the obligations of a state, territory, 
 or any political subdivision thereof, or the District of Columbia ; 
 or (b) securities issued under the provisions of the Federal 
 Farm Loan Act of July 17, 1916; or (c) the obligations of the 
 United States or its possessions; or (d) bonds issued by the War 
 Finance Corporation. In the case of obligations of the United 
 States issued after September 1, 1917 (other than postal savings 
 certificates of deposit) ,. and in the case of bonds issued by the 
 War Finance Corporation, the interest is exempt only if and 
 to the extent provided in the respective acts authorizing the 
 issue thereof, as amended and supplemented, and may be ex- 
 cluded from gross income only if and to the extent it is wholly 
 exempt to the taxpayer from income, war-profits and excess- 
 profits taxes ;^^ 
 
 (5) The income of foreign governments received from invest- 
 ments in the United States in stocks, bonds, or other domestic 
 securities, owned by such foreign governments, or from interest 
 
 61 Revenue Act of 1921, §§ 213 (b), 233 (a) ; Revenue Act of 1918, §§ 213 
 (b),233 (a). 
 
 62 Under the 1918 Law only the proceeds of such policies paid to individual 
 beneficiaries or to the estate of the insured were exempt. The treasury 
 department ruled that the term "industrial beneficiaries" includes partner- 
 ships (T. B. R. 32, T. B. 16-19-270; letter from treasury department dated 
 November 18, 1919; L T. S. 1921, If 1208). 
 
 63 Under the 1918 Law interest credited to postal savings accounts upon 
 money deposited subsequent to September 1, 1917, was taxable. (Reg. 45, 
 Art. 77). 
 
INCOME — IN GENERAL 355 
 
 on deposits in banks in the United States of moneys belonging 
 to such foreign governments, or from any other sources within 
 the United States ; 
 
 (6) Amounts received through accident or health insurance 
 or under workmen's compensation acts, as compensation for 
 personal injuries or sickness, plus the amount of any damages 
 received whether by suit or agreement on account of such in- 
 juries or sickness ; 
 
 (7) Income derived from any public utility or the exercise of 
 any essential governmental function and accruing to any state, 
 territory, or the District of Columbia, or any political subdivision 
 of a state or territory, or income accruing to the government of 
 any possession of the United States, or any political subdivision 
 thereof, as is more fully indicated elsewhere in this book.®* 
 
 (8) The income of a nonresident alien or foreign corporation 
 which consists exclusively of earnings derived from the opera- 
 tion of a ship or ships, documented under the laws of a foreign 
 country which grants an equivalent exemption to citizens of the 
 United States and to corporations organized in the United 
 States; 65 
 
 (9) Amounts received as compensation, family allotments and 
 allowances under the provisions of the War Risk Insurance and 
 the Vocational Rehabilitation Acts, or as pensions from the 
 United States for service of the beneficiary or another in the 
 military or naval forces of the United States in time of war ; ^ 
 
 (10) So much of the amount received by an individual after 
 December 31, 1921, and before January 1, 1927, as dividends or 
 interest from domestic building and loan associations, operated 
 exclusively for the purpose of making loans to members, as 
 does not exceed $300;'57 
 
 (11) The rental value of a dwelling house and appurtenances 
 thereof furnished to a minister of the gospel as part of his com- 
 pensation ;®8 
 
 (12) The receipts of shipowners' mutual protection and in- 
 demnity associations, not organized for profit, and no part of 
 the net earnings of which inures to the benefit of any private 
 
 64 See p. 357., 
 
 '>5 This exemption was not contained in the 1918 Law. 
 
 S6 This exemption was not contained in the 1918 Law. See Chapter 12 
 for a discussion of the purpose of this exemption. It takes the place of the 
 exemption granted by the 1918 Law of so much of the amount received 
 during the recent war by a person in the military or naval forces of the 
 United States for active service in such forces, as did not exceed $3,500. 
 
 6'? This exemption was not granted by the 1918 Law. 
 
 68 This exemption was not granted by the 1918 Law. 
 
356 FEDERAL INCOME TAX 
 
 stockholder or member, but such corporations shall be subject as 
 other persons to the tax upon their net income, from interest, 
 dividends, and rents-^^^ 
 
 Federal Reserve Banks. The income of federal reserve 
 banks is exempt from income tax™ by express provision in the 
 Federal Reserve Act.'^i The dividends on the stock of such banks 
 are exempt from tax in the hands of member banks.'^^ Divi- 
 dends paid by member banks are treated like dividends of ordi- 
 nary corporations and are not exempt from taxJ^ 
 
 Net Income. "Net income" is defined by the Revenue Acts 
 of 1918 and 1921 to be gross income as defined by the law less 
 the statutory deductions.''* Thus, taxable net income is wholly 
 a statutory conception, although it follows, subject to certain 
 modifications as to exemptions and as to some of the deductions, 
 the lines of commercial usage. Statutory net income is, subject 
 to these modifications, commercial "net income." This appears 
 from the fact that ordinarily it is to be computed in accordance 
 with the method regularly employed in keeping the books of a 
 taxpayer.''^ jq-gt income must be computed with respect to a 
 fixed period. Usually that period is twelve months and is known 
 as the taxable year.''® 
 
 Net Income Subject to Normal Tax. The entire net income, 
 as defined in the preceding paragraph, is subject to the surtax 
 in the case of individuals and the excess-profits tax in the case 
 of corporations. For the purpose of the normal tax in the case 
 of individuals and the income tax in the case of corporations, 
 certain, additional deductions called "credits" are allowed.'''' 
 These credits in the case of individuals are, (a) amounts re- 
 ceived as dividends from domestic corporations (with certain 
 exceptions specified by the statute) and from certain foreign 
 corporations; (b) the amount received as interest upon obliga- 
 tions of the United States and bonds issued by the war finance 
 corporation, which is included in gross income; (c) the personal 
 
 69 This exemption was not granted by the 1918 Law. 
 
 70 Also from the excess-profits tax. 
 
 71 Federal Reserve Act, 38 Stat. 251, Ch. 6, § 7. 
 
 72 Reg. 45, Art. 75. Federal Reserve Bulletin, April 1, 1916. 
 
 73 Reg. 45, Art. 75, Reg. 33 Rev., Art. 86. 
 
 74 Revenue Act of 1921, §§212 (a) and 232; Revenue Act of 1918, §§212 
 (a) and 232; Reg. 45, Art. 21. 
 
 75 Reg. 45, Art. 21. 
 
 76 Reg. 45, Art. 22. 
 
 77 Reg. 45, Art. 21. 
 
INCOME — IN GENERAL 357 
 
 exemption; (d) the credit for depen dents J^ In the case of cor- 
 porations the credits allowed are, (a) the amount received as in- 
 terest upon obligations of the United States and bonds issued by 
 the war finance corporation, which is included in gross income ; 
 (b) the amount of any war-profits and excess-profits taxes im- 
 posed for the same taxable year; (c) in the case of a domestic 
 corporation, $2,000.™ This specific credit of $2,000 is allowed 
 under the present law only to corporations with net incomes of 
 less than $25,000.80 
 
 Income of States and Political Subdivisions Thereof. In gen- 
 eral, income accruing to any state, territory or possession of the 
 United States, or to any political subdivision thereof, is exempt 
 from tax.81 Both the Revenue Act of 1918 and the Revenue Act 
 of 1921 exempt the income derived from any public utility, or 
 the exercise of any essential governmental function and accru- 
 ing to any state, territory or the District of Columbia, or any 
 political subdivision of a state or territory or income accruing to 
 the government of any possession of the United States, or any 
 political subdivision thereof. In addition to the above, both 
 acts provide that whenever any state, territory, or the District 
 of Columbia, or any political subdivision of a state or territory, 
 prior to September 8, 1916, entered in good faith into a contract 
 with any person, the object and purpose of which is to acquire, 
 construct, operate, or maintain a public utility, no income tax 
 shall be levied upon the income derived from the operation of 
 such public utility, so far as the payment thereof will impose 
 a loss or burden upon such state, territory. District of Columbia, 
 or political subdivision; but this provision is not intended and 
 will not be construed to confer upon such person any financial 
 gain or exemption or to relieve such person from the payment of 
 a tax as provided for in the law upon the part or portion of 
 such income to which such person is entitled under such con- 
 tract.82 Rentals derived from the leasing of a railroad con- 
 re Revenue Act of 1921, §216; Revenue Act of 1918, §216. Such divi- 
 dends are a deduction in the case of corporations. (Revenue Act of 1921, 
 §234 (a) (6); Revenue Act of 1918, §234 (a) (6). 
 
 79 Revenue Act of 1921, § 236 ; Revenue Act of 1918, § 236. 
 
 80 Revenue Act of 1921^ § 236 (b). See Chapter 10. 
 
 81 Reg. 45, Art. 84; Cooley on Taxation, Vol. I., p. 153; Ward v. Maryland, 
 12 Wall. 418; Collector v. Day, 11 Wall. 113; U. S. v. Railroad Co., 17 Wall 
 322; S. 1374, T. B. 18-20-896. See the discussion of this subject in the para- 
 graph "Interest on the Obligations of States" in Chapter 18. See also the 
 discussion of this subject in Chapter 16. 
 
 82 Revenue Act of 1921, §213 (b) ; Revenue Act of 1918, §213 (b). 
 
358 FEDERAL INCOME TAX 
 
 structed and owned in common by certain townships and a 
 county are income derived from a public utility and are exempt 
 from income tax. The leased railroad must, however, file a 
 return of income.^s When a corporation is organized to furnish 
 water, light, power and heat to a town, the town owning prac- 
 tically all the common stock, which is not dividend bearing, the 
 preferred stock to be redeemed as soon as possible out of earn- 
 ings, after which the plant becomes the property of the town, 
 the income of the corporation from the operation of its plant is 
 exempt from income tax, since the imposition of a tax would 
 delay the redemption of the preferred stock, thereby imposing 
 "a loss or burden" on the town. The corporation must, however, 
 file a return of income.^* The income of state workmen's com- 
 pensation insurance funds established by state statutes is not 
 taxable.85 The funds contemplated are only those managed and 
 controlled directly by the state through state officers, that is to 
 say, those funds the management and control of which con- 
 stitute an activity of the state. A mutual liability insurance 
 company created by an act of the state legislature to provide 
 insurance for employers to cover their liability under the state 
 employers' liability act and workmen's compensation law, which 
 is not so managed and controlled, is not exempt.^^ Where 
 property is willed to a municipality in trust that the income 
 of the property shall be used for a public charity the income 
 is not liable to tax and the trustees of the fund are not required 
 to file annual returns.^'^ This is true even where the income is 
 to be paid to an individual during his life.^^ 
 
 Income from Foreign Countries. Where income has accrued 
 in a foreign country on foreign investments, but has not been 
 remitted to the owner in this country, being placed to his credit 
 in the foreign country, it has nevertheless been constructively 
 received by the owner and he should report the same as income 
 for the year in which it is placed to his credit, computing the 
 amount in United States money by using the rate of exchange 
 prevailing at the time the amounts were credited to him abroad.*^ 
 Where a citizen of the United States purchases German securi- 
 ties in Germany, the interest being collected by a German bank, 
 
 83 O. D. 250, T. B. 14-19-434. 
 
 84 0. D. 328, T. B. 28-19-612. 
 
 85 Reg. 45, Art. 84. 
 
 86 0. D. 1074, T. B. 43-21-1883. 
 
 87 0. D. 895, T. B. 14-19-433. 
 
 88 O. D. 972, T. B. 28-21-1724. 
 
 89 O. D. 419, T. B. 13-20-805. Letter from treasury department dated 
 
INCOME — IN GENERAL 
 
 359 
 
 January 11, 1916; I. T. S. 1921, Tf 792. The following rates have been 
 accepted as the current or market rates, of exchange prevailing as of 
 December 31, 1920: 
 
 London 3.535 
 
 Australia 3.55 
 
 New Zealand 3.55 
 
 Paris 0595 
 
 Belgium 0622 
 
 Milan 0347 
 
 Zurich 1528 
 
 Madrid 1355 
 
 Stockholm 20 
 
 Christiania 1535 
 
 Copenhagen 1535 
 
 Amsterdam 3145 
 
 Buenos Aires 7510 
 
 Montevideo 7462 
 
 Colombia : 
 
 Bogota 8620 
 
 Barranquilla 8474 
 
 Cartagena 8474 
 
 Medellin 8474 
 
 Lima 4.42 
 
 Bolivia 277 
 
 Mexico City 4925 
 
 Yokohama 48 
 
 Calcutta 265 
 
 Singapore 42 
 
 Dutch E. Indies 3145 
 
 Germany 01365 
 
 Poland 0016 
 
 Austria 0024 
 
 Czecho-Slovakia 0115 
 
 Jugo-Slavia 007 
 
 Greece 074 
 
 Eoumania 0126 
 
 Bulgaria 0115 
 
 Serbia 0274 
 
 Finland 032 
 
 Canada 86 
 
 Shanghai, China 7725 
 
 Rio de Janeiro, Brazil 1333 
 
 Manila, P. 1 46 
 
 dollars to £ sterling) . 
 
 dollars to £ sterling) . 
 
 dollars to £ sterling) . 
 
 cents to franc) . 
 
 cents to franc). 
 
 cents to lira) . 
 
 cents to franc) . 
 
 cents to peseta). 
 
 cents to krone) . 
 
 cents to krone . 
 
 cents to krone) . 
 
 cents to guilder) . 
 
 cents to peso); .33375=1 paper 
 
 peso), 
 cents to centavo) . 
 
 Colombian cents to dollars) . 
 
 Colombian cents to dollars). 
 
 Colombian cents to dollars) . 
 
 Colombian cents to dollars) . 
 
 dollars to Peruvian £) . 
 
 cents to bolivianos) . 
 
 cents to pesa). 
 
 cents to yen). 
 
 cents to rupee) . 
 
 cents to Singapore dollars). 
 
 cents to florin) . 
 
 cents to mark) . 
 
 cents to mark) . 
 
 cents to krone) . 
 
 cents to krone) . 
 
 cents to krone) . 
 
 cents to drachma) . 
 
 cents to leu) . 
 
 cents to lev) . 
 
 cents to dinar). 
 
 cents to markka) . 
 
 cents to Canadian dollar) . 
 
 cents to tael) . 
 
 cents to government paper 
 
 milreis). 
 (cents to peso) . 
 
 (0. D. 803, T. B. 7-21-1444; 0. D. 898, T. B. 18-21-1605; O. D. 876, T. B. 
 16-21-1575; O. D. 913, T. B. 20-21-1632; 0. D. 1027, T. B. 37-21-1811. For 
 the rates prevailing as of December 31, 1919, see O. D. 551, T. B. 25-20- 
 1010; O. D. 772, T. B. 2-21-1386; O. D. 1027, T. B. 37-21-1811, and 0. D. 
 1036, T. B. 38-21-1826. For rates as of December 31, 1916, December 31, 
 1917, and December 31, 1918, see O. D. 1065, T. B. 42-21-1869; 0. D. 1027, 
 T. B. 37-21-1811 ; 0. D. 1036, T. B. 38-21-1826. 
 
360 FEDERAL INCOME TAX 
 
 and, after tax at the rate of 10% has been paid to the German 
 government, the balance of the interest is credited to the account 
 of the citizen, the income in question is taxable in the hands of 
 the citizen. The interest should be converted into United States 
 money values at the rate of exchange prevailing at the time the 
 interest is credited to the citizen's account by the German bank. 
 In the event the interest is not deposited, but is paid by check 
 or draft drawn by the German bank in German marks, the inter- 
 est should be converted into United States money values at the 
 rate of exchange prevailing at the time the check or draft is 
 received.^" 
 
 Gains or Losses Relating to Foreign Dealings. If the 
 owner mentioned in the previous paragraph receives a greater 
 or less amount when the income is actually transmitted to him, 
 owing to a fluctuation in exchange rates between the time when 
 the income has been constructively received and the time when it 
 is actually transmitted, it would seem that he should report the 
 difference as inconie or claim it as a loss, as the case may be. 
 Where in 1917 a domestic corporation purchased tangible 
 property in a foreign country for a stated sum in the currency of 
 that country at an exchange rate of $0.20, and later in the same 
 year the property was transferred to a newly organized corpo- 
 ration of the same foreign country in exchange for its capital 
 stock of a total par value equal to the same amount as the cost 
 of the tangible property, the rate of exchange at the time of 
 the transfer being $0.30, it was held that gain or loss was 
 realized by the domestic corporation through the exchange of 
 the property for stock of the new foreign corporation in the 
 amount that the fair market value of such stock in American 
 money at the time of such exchange was greater or less than 
 the cost of the property in American money .''i It has been held 
 that no deductible loss was sustained where a corporation at 
 the time of closing its books for the taxable year had an asset 
 of pounds sterling represented by advances made in cash to its 
 London representative for the purchase of raw material in the 
 London market, the purchases not having been made at the time 
 of the closing of the books by reason of the fact that the rate 
 of exchange at the time of closing the books was lower than at 
 the date the exchange was purchased.^^ Where shares of German 
 securities were bought in Germany at 300,000 marks, or $9,000, 
 
 90 O. D. 809, T. B. 7-21-1450. 
 
 91 0. D. 938, T. B. 23-21-1670. 
 
 92 0. D. 940, T. B. 23-21-1672. 
 
INCOME — IN GENERAL 361 
 
 and sold for 500,000 marks, or $5,000, the taxpayer may deduct 
 a loss of $4,000.93 
 
 ■ Taxpayers Manufacturing or Trading in Foreign Coun- 
 tries. The rulings on the subject of computing the income of 
 taxpayers trading or manufacturing in foreign countries are 
 in some confusion. In the case of such taxpayers the committee 
 has held that under the abnormal conditions characterizing for- 
 eign exchange during the European war, current assets less 
 current liabilities payable in the foreign currency may be con- 
 verted at the current rate of exchange or at any rate less favor- 
 able to the taxpayer. The commissioner will consider applica- 
 tions to adopt a rate more favorable to the taxpayer or may on 
 his own motion apply such a rate where the facts in the par- 
 ticular case warrant such departure. This ruling has no reference 
 to isolated or collateral investments in foreign credits or securi- 
 ties."* A domestic corporation which bought its raw material 
 from foreign stockholders, making credit and debit entries first 
 in francs and then in dollars at the rate of exchange prevailing 
 at the date of each transaction, which corporation on closing its 
 books converted the entire balance due into dollars at the rate as 
 of the closing of the taxable year, has been held to have incor- 
 rectly reported income, since, the method used resulted in the 
 returning of unrealized gain or loss due to changes in the rate of 
 exchange — a gain or loss which could never be realized (except 
 upon liquidation) until the debit due the foreign interests was 
 repaid. It was held that in order to reflect true net income, all 
 amounts either debited or credited to the account of the foreign 
 interests should be entered on the books in dollars at the rate of 
 exchange prevailing at the date of the transaction; 
 that any net debit at the end of a taxable year should 
 be applied to the portion of the debt to the foreign interest 
 longest outstanding; that any gain or loss arising from the 
 difference in the rate of exchange prevailing at the time the 
 obligation was incurred and the rate prevailing at the time the 
 obligation is retired should be accounted for, the rate prevail- 
 ing at the time the obligation is retired to be the average rate 
 of exchange per dollar as ascertained by applying to each debit 
 item against the foreign interests during such succeeding year 
 the rate of exchange prevailing at the time each such debit 
 item was created. The franc value might thereafter be 
 
 93 O. D. 809, T. B. 7-21-1450. 
 M A. R. R. 15, T. B. 3-20-682. 
 
362 FEDERAL INCOME TAX 
 
 disregarded.95 The net profits of a foreign branch of a 
 domestic corporation, which keeps a separate set of books in 
 foreign currency and renders a report at the end of the year as 
 to the profits, and which remits amounts to the home office from 
 time to time when it has more money on hand than it needs, 
 should be computed in foreign currency. From the total profits 
 for the year should be subtracted the total amount remitted to 
 the home office during the year, all expressed in foreign cur- 
 rency. To determine the equivalent of the profits in terms of 
 United States money, the amounts remitted should be converted 
 at the rate of exchange in effect at the date such remittances 
 were made. The balance of the net profits, expressed in foreign 
 currency, should be converted at the rate as of the end of the 
 taxable year, regardless of the fact that the profits may not have 
 been remitted to the home oflice.^^ A taxpayer purchasing 
 goods from a foreign country, the value of such goods being 
 quoted in terms of the foreign currency, should enter the cost 
 thereof at the current or market rate of exchange prevailing 
 at the time payment for the goods is actually made.^'^ 
 
 Dealer in Foreign Exchange. A dealer in foreign exchange 
 — that is, one who regularly engages in the purchase and resale 
 to customers of foreign money with a view to the gains and 
 profits that may be derived therefrom — who, in his books of 
 account regularly inventories unconverted foreign money on 
 hand either (a) at cost or (b) at cost or market value whichever 
 is lower, may make his return upon the basis upon which his 
 accounts are kept. A taxpayer who is not a dealer in foreign 
 exchange, but merely purchases foreign money on his own ac- 
 
 95 0. D. 590, T. B. 29-20-1069. This ruling criticises the method em- 
 ployed by the company as productive of artificial and unrealized gain or loss 
 arising from changes in the rate of exchange, yet the method proposed seems 
 open to the same criticism. The ruling ignores the well established accounting 
 practice that current assets and liabilities should be converted at the rate 
 of exchange current on the date of the balance sheet. (See Kester — "Ac- 
 counting Theory and Practice" — 1918, Vol. II, page 547; Dickinson — "Ac- 
 counting Practice and Procedure," pages 125-6 ; Dawson — "The Accountant's 
 'Compendium' ", pages 529-530 ; Cutworth — "Treatment of Fluctuating Cur- 
 rency in Accounts", page 10). 
 
 96 0. D. 550, T. B. 25-20-1009; 0. D. 489, T. B. 19-20.909; O. D. 618, T. B. 
 31-20-1109. This ruling leaves unsettled the question of gain or loss arising 
 from a difference, if any, between the rate of exchange at the end of the 
 year and the date or dates when the balance at the end of the year is re- 
 mitted. 
 
 97 0. D. 489, T. B. 19-20-909. 
 
INCOME — IN GENERAL 363 
 
 count or as an incident of his principal business, may not inven- 
 tory such unconverted foreign money at the close of his taxable 
 year. The realization of the gain or loss is postponed until the 
 foreign money is disposed of or converted.^^ 
 
 98 0. D. 834, T. B. 10-21-1491. 
 
CHAPTER 15 
 INCOME FROM PERSONAL SERVICES 
 
 The law expressly provides that the gross income of a tax- 
 able person shall include gains, profits, and income derived from 
 salaries, wages, or compensation for personal services of what- 
 ever kind and in whatever form paid, or from professions or 
 vocations. The provisions of the 1921 Law and the 1918 Law are 
 identical in this connection.^ It is to be noted that salaries, 
 wages, or compensation for personal services are taxable income 
 "in whatever form paid." Where services are paid for in some- 
 thing other than money, the fair market value of the thing taken 
 in payment is income.^ This is one of the three cases in which 
 the law expressly specifies that the tax shall be based upon pay- 
 ments other than in cash, the others being the provision relating 
 to dividends^ and the provision relating to exchanges of prop- 
 erty.* 
 
 Salaries. Salaries and compensation for services are ordinarily 
 income of the year in which they are actually received rather 
 than the year in which earned.^ They will be income 
 of the year in which actually earned, if the recipient keeps 
 his accounts upon an accrued basis and reports accordingly. 
 A salary paid by a corporation which is itself exempt is 
 nevertheless subject to tax in the hands of the employee.^ 
 In the case of corporations, so-called "salaries" of stock- 
 holders, if they are unreasonable in amount and if they bear 
 a close relationship to the amount of stock held, are treated as a 
 distribution of the net profits of the corporation, are not deduct- 
 
 1 Revenue Act of 1921, § 213 (a) ; Revenue Act of 1918, § 213 (a). It is 
 to be noted that the Revenue Act of 1921, in the provision relating to ex- 
 changes of property, treats as the equivalent of cash only property with 
 a readily realizable market value (§202 (c)). While the provision, stated 
 in the text above, that amounts received as compensation for personal 
 services shall be included as income in "whatever form paid" (§213 (a)) 
 § 202 (c) is indicative of the more liberal intent of Congress in this respect 
 in enacting the 1921 Law. 
 
 2 Reg. 45, Art 33. 
 
 3 Revenue A.ct of 1921, § 201; Revenue Act of 1918, § 201. 
 
 4 Revenue Act of 1921, §202 (c) ; Revenue Act of 1918, §202 (b). 
 
 5T. D. 2135; T. D. 2090; A. R. R. 182, T. B. 29-20-1070; O. D. 717, T. B. 
 45-20-1289; 0. D. 432, T. B. 14-20-824; 0. D. 19, T. B. 1-19-31; 0. D. 512, 
 T. B. 21-20-948; O. D. 997, T. B. 34-21-1776. See Chapter 33. 
 
 6T. D. 2135; T. D. 2090. 
 
 364 
 
INCOME FROM PERSONAL SERVICE 365 
 
 ible as a business expense of the corporation, and are, therefore, 
 not subject to the normal tax in the hands of the recipient.''^ So- 
 called salaries representing an appropriation of assets of the cor- 
 poration by officers who control it and fix their compensation in 
 violatibn of the rights of the corporation are not deductible by 
 the corporation insofar as they exceed a reasonable amount; 
 such excessive payments are to be treated by their recipients, 
 however, as compensation subject to the normal tax, since com- 
 pensation illegally secured is none the less subject to tax in all 
 respects.** So-called salaries constituting in part payment for 
 property, should, insofar as they exceed a reasonable amount, be 
 treated by the corporation as a capital expenditure and by the 
 recipient as part of the purchase price. In the case of excessive 
 payments by individuals or partnerships, the. amounts of osten- 
 sible salaries disallowed as deductions should ordinarily be treated 
 as shares of the profits of a partnership, except that salaries 
 constituting in part payment for property should be treated by 
 the paying individual or partnership as a capital expenditure 
 and by the recipient as part of the purchase price.^ 
 
 Bonuses and Profit Sharing. Where employees receive bonuses, 
 or are entitled to a share of the profits of the employer the 
 amount so received should be included as income, provided (a) 
 it is clearly made as compensation for services rendered and 
 (b) it is paid under a contract, express or implied, or a long-time 
 practice (practically an implied contract) regularly employed, 
 which constitutes a condition, if not a contract, under which the 
 employees may reasonably expect additional pay for the greater 
 or better services which they render, or (c) the total amount 
 of salary and bonus is not greater than a reasonable compensa- 
 tion for the services rendered by the employee.^" Such payments 
 are income to the employee if they are of such character that 
 the employer is entitled to deduct them as an expense of doing 
 business. If a bonus is a mere gift, the employee should not 
 treat it as income, since gifts or gratuities are not taxable, and 
 the employer is not entitled to deduct it from his income as an 
 expense of doing business. The rules governing the deduction 
 of bonuses and profit sharing payments are more fully treated 
 
 7 Except in the case of certain corporations specified in § 216 (a) of the 
 Revenue Act of 1921, the dividends of which are not allowed as a credit 
 against the normal tax. 
 
 8 See, however, Rau v. U. S., 260 Fed. 131, 136, wherein it is stated that 
 embezzled moneys are not income. 
 
 9 Reg. 45, Art. 106; T. D. 2696. See Chapter 22. 
 
 10 Reg. 45, Art. 107; T. B. 2696. See Chapter 22. 
 
366 FEDERAL INCOME TAX 
 
 elsewhere in this book.ii The rule to be followed by the em- 
 ployee is that if the employer is entitled to deduct the payments 
 in question as an expense of doing business, the employee should 
 return them as income; while if the employer is not entitled 
 to deduct the payments in question as an expense, the employee 
 should not return them as income, otherwise the same item of 
 income would be taxed twice. If so-called bonuses or shares of 
 profits paid to officers or stockholders of corporations, are in 
 fact distributions of net profits bearing a close relationship 
 to stock holding, or a waste or appropriation of the corporation's 
 assets, or in part payment for property, they will be treated as 
 indicated in the preceding paragraph. The same considerations 
 apply when excessive bonuses are paid by individuals or part- 
 nerships.i2 When extra compensation in the form of bonuses, or 
 otherwise, is paid to employees by affording them an opportunity 
 to purchase stock of a corporation and title to the stock remains 
 in the corporation until it is fully paid for, any so-called dividends 
 credited to the employee purchasing the stock as part payment 
 are not in fact dividends, since dividends cannot legally be de- 
 clared on unissued or treasury stock. Such dividends constitute 
 additional compensation to the employees. Where special allow- 
 ances are credited to the account of such employee as part 
 payment upon the fulfillment of certain conditions, provision 
 being made for the payment of a certain amount if the employee 
 does not default, such special allowances are held to constitute 
 additional compensation. But neither the so-called dividends 
 or such special allowances constitute income until the terms of 
 the agreement have been completed.^^ 
 
 Any lump sum received by an employee from a former employer 
 upon the termination of his employment has in it a large element 
 of compensation for services previously rendered and must be 
 returned as income for the year in which it was received.^* 
 
 Commissions. Commissions paid salesmen, compensation for 
 
 11 See Chapter 22. 
 
 12 Reg. 45, Art. 106; T. D. 2696. 
 
 13 See Chapter 33 for the reason for this rule. O. D. 763, T. B. 1-21-1370. 
 The same rule was applied in a case with similar facts and where, in ad- 
 dition, in case of resignation or discharge of an employee prior to the time 
 of receiving title to the stock, he was to receive the dividends paid to the 
 trustee on account of the stock issued in his name, and in case of his death 
 they were to be paid to his next of kin. (0. D. 791, T. B. 6-21-1426) . 
 
 14 O. D. 1029, T. B. 37-21-1814. 
 
INCOMP FROM PERSONAL SERVICE 367 
 
 services on the basis of a percentage of profits, and commissions 
 on insurance premiums are income to the recipients.i^ 
 
 Traveling Expenses. The Revenue Act of 1921 provides that 
 "traveling expenses (including the entire amount expended for 
 meals and lodging) while away from home in the pursuit of a 
 trade or business" i« may be deducted. This provision was not con- 
 tained in the 1918 Law and under that law the department made 
 many and conflicting regulations and rulings as to the deductibili- 
 ty of, or. income from, traveling expenses. The latest rulings 
 under the 1918 Law (which seem to be too complicated to be 
 practicable) insofar as they relate to income are as follows: If 
 an individual receives a salary and is also repaid his actual travel- 
 ing expenses, he is required to include in gross income an amount 
 thereof equal to the ordinary expenditures required for meals 
 and lodging when at home, as such amount is held to be addition- 
 al compensation to the taxpayer. If he receives a salary and also 
 an allowance for meals and lodging, as, for example, a per diem 
 allowance in lieu of subsistence, any excess of the cost of such 
 meals and lodging over the sum of the allowance and the ordinary 
 expenditures required for such purposes when at home, is de- 
 ductible, but any excess of the allowance over the difference be- 
 tween such expenses and such ordinary expenditures is taxable 
 income. Congressmen and others who receive a mileage allow- 
 ance for railroad fares should return as income any excess of 
 such allowance over their actual expenses for such fares.^^ 
 
 Insurance Premiums Paid for Employees. Premiums paid by 
 an employer on life, accident or health policies in favor of his 
 employees as additional compensation of such employees have 
 been held to be income to the employees.i^ Premiums paid by an 
 employer on policies of group life insurance covering the lives of 
 employees, the beneficiaries of which are not designated by the 
 employees, are not income to such employees. The financial 
 benefits under such policies do not move to the employees per- 
 sonally but only to their heirs or dependents after their deaths, 
 and the payment of the policies is in any case contingent upon the 
 employee's continuance until death in the employment of his 
 present employeK, which employment may be terminated at any 
 time by himself or his employer. The payment is also contin- 
 
 15 Reg. 45, Art. 32; S. 1312, T. B. 7-20-738; T. D. 2090; letter from treas- 
 ury department dated April 30, 1918; I. T. S. 1919, T| 858. 
 
 16 Revenue Act of 1921, §214 (a) (1). 
 
 17 Reg. 45, Art. 292. See Chapter 21 for a discussion of the deductibility 
 of traveling expenses. 
 
 18 0. D. 627, T. B. 33-20-1039. 
 
368 FEDERAL INCOME TAX 
 
 gent upon continued payment of premiums by the employer. 
 The employee has no option to take the amount of the premiums 
 paid for the policy covering his life instead of the insurance. The 
 policies have no paid-up value either to the employer or to the 
 employee. Such insurance creates no debt on the part of the 
 employer, pays no debt to the employee, and discharges no legal 
 obligations resting upon the employee. The only benefit obtained 
 by the employee himself is a feeling of contentment that provi- 
 sion has been made for his dependents, and the payment consti- 
 tutes an investment on the part of the employer in increased 
 efficiency. The same considerations apply to cases in which a 
 portion of the premiums for group life insurance is paid by asso- 
 ciations of employees, provided no contract covering such pay- 
 ment exists between the employer and the employees.i^ 
 
 Services in Cancellation of Indebtedness. If an individual per- 
 forms services for a creditor, who in consideration thereof can- 
 cels the debt, income to that amount is realized by the debtor as 
 compensation for his services. If, however, a creditor merelj- 
 desires to benefit a debtor and without any consideration there- 
 for cancels the debt, the amount of the debt is a gift from the 
 creditor to the debtor and need not be included in the latter's 
 gross income.2" 
 
 Voluntary Offerings Received by Clergymen. Although as a 
 general rule gifts and gratuities are not income, yet Easter offer- 
 ings, and fees received by clergymen for funerals, masses, mar- 
 riages, baptisms, and sums paid for saying masses for the dead, 
 are considered income, because, though in the form of gifts, they 
 are in fact payment to the clergymen, evangelists, and religious 
 workers for services rendered.^i Christmas gifts to clergymen 
 do not come within this category.22 The question is whether o\ 
 not the money is actually a gift or merely in the form of a gift. A 
 clergyman is not liable to tax on amounts received by him during 
 the year from his parish, if he turns over to the religious order 
 of which he is a member all moneys received in excess of his 
 actual living expenses on account of the vow of poverty which 
 he has taken.^^ 
 
 Rental Value of Dwelling House Furnished to Clergy- 
 man. Under the 1918 Law it was held that where in addition to 
 
 19 T. D. 2992, amending Reg. 45, Art. 33; T. B. 13-28-19; 0. 1014, T. B. 
 12-20-793. 
 
 20 Reg. 45, Art. 51. 
 
 21 Reg. 45, Art. 32. 
 
 22 T. D. 2090. 
 
 23 0. D. 119, T. B. 3-19-180. 
 
INCOME FROM PERSONAL SERVICE 369 
 
 the salary paid a clergyman he was permitted to use the parson- 
 age for living quarters free of charge the fair rental value of the 
 parsonage was considered a part of his compensation for services 
 rendered and as such was required to be reported as income.^* 
 The Revenue Act of 1921 expressly provides that the rental value 
 of a dwelling house and appurtenances thereof furnished to a 
 minister of the gospel as part of his compensation shall be ex- 
 empt.23 
 
 Rewards. A reward for the performance of a special service, 
 such as prevention of a bank robbery, constitutes taxable in- 
 come.26 
 
 Tips. Tips, though in the form of gifts, are in fact payment 
 for services rendered and constitute income to the recipient.^^ 
 
 Supper Money. "Supper money" paid to an employee for vol- 
 untary performance of extra labor after regular business hours, 
 such payment not being regarded as additional compensation nor 
 charged to the salary account, is paid for the convenience of the 
 employer and is not taxable income to the employee.^s 
 
 Compensation Paid Other Than in Cash. Salaries, wages, or 
 compensation for personal services are income "in whatever form 
 paid." Where services are paid for with something other than 
 money, the fair market value of the thing taken in payment 
 is the amount to be included as income. If the services were 
 rendered at a stipulated price, in the absence of evidence to 
 the contrary such price will be presumed to be the fair value of 
 the compensation received.^^ Where there is no stipulation as 
 to the value of service, and payment for service is made with 
 something other than money, the market or reasonable value of 
 the thing taken in payment Is the amount to be included as in- 
 come.30 
 
 Use OF Property of Employer. Where an employee uses his 
 employer's property, horses, automobile, etc., by permission, and 
 not by legal right as a part of his compensation for services, 
 such use is in the nature of a gift from which no taxable income 
 arises to the employee. 
 
 Living Quarters, Board or Lodging. When living quarters, 
 such as camps, are furnished to employees for the convenience 
 
 24 O. D. 862, T. B. 14-21-1544. 
 
 25 Revenue Act of 1921, § 213 (b) 11. 
 
 26 O. D. 602, T. B. 30-20-1088. 
 
 27 Reg. 45, Art. 32. 
 
 28 O. D. 514, T. B. 21-20-950. 
 
 29 Reg. 45, Art. 33. See footnote 1. 
 
 30 Reg. 38 Rev., Art. 4. 
 
370 FEDERAL INCOME TAX 
 
 of the employer, the value need not be added to the cash com- 
 pensation of the employee, but where a person receives as 
 compensation for services rendered a salary and in addition there- 
 to living quarters, the value to such person of t^e quarters fur- 
 nished constitutes income subject to tax.^i Where, from the 
 location and nature of the work, it is necessary that employees 
 engaged in fishing and canning be furnished with lodging and 
 sustenance, the value of such lodging and sustenance may be 
 considered as being furnished for the convenience of the em- 
 ployer and.need not be included in the income of the employees.32 
 Where the employees of a hospital are subject to immediate 
 service on demand at any time during the day and night and on 
 that account are required to accept quarters and meals at the 
 hospital, the value of such quarters and meals may be considered 
 as being furnished for the convenience of the hospital and does 
 not represent additional compensation. On the other hand, where 
 the employees are on duty a certain specified number of hours 
 each day and could, if they so desired, obtain meals and lodging 
 
 31 Reg. 33 Rev., Art. 34; Reg. 45, Arts. 33, 292; T. D. 2090. In this con- 
 nection the case of Tennant v. Smith (1892) A. C. 150, 66 L. T. 327, 3 Tax 
 Cas. 158, is interesting. It appeared in this case that the appellant Ten- 
 nant was agent for a bank, and was bound as part of his duty to occupy 
 the bank house as custodier of the whole premises belonging to the bank, 
 and also for the transaction of any special bank business after bank hours. 
 He was not entitled to sublet the bank house or use it for other than bank 
 business, and in the event of his ceasing to hold his office he was under 
 obligation to quit the premises forthwith. In holding that Tennant was not 
 in receipt of any taxable income by reason of the use as living quarters of 
 the bank house, the various lords writing opinions freely conceded that 
 such use might be a substantial benefit to Tennant. Lord Watson said: 
 * * * "I do not think it comes within the category of profits, because that 
 word, in its ordinary acceptation, appears to me to denote something ac- 
 quired which the acquirer becomes possessed of and can dispose of to his 
 advantage — in other words, money — or that which can he turned to pecuni- 
 ary account." Lord Macnaghten said: * * * "it is a tax on what 
 'comes in' — on actual receipts." * * * "No doubt if the appellant had 
 to find lodgings for himself he might have to pay for them. His income 
 goes further because he is relieved from that expense. But a person is 
 chargeable for income tax under Schedule D, as well as under Schedule E, 
 not on what saves his pocket, but on what goes into his pocket. And the 
 benefit which the appellant derives from having a rent-free house provided 
 for him by the bank, brings in nothing which can be reckoned up as a re- 
 ceipt or properly described as income." This case might, of course, be decided 
 differently under the American law because compensation for personal 
 services was involved and such compensation is taxable under the Revenue 
 Acts of 1918 and 1921 "in whatever form paid." (§ 213 (a).) 
 
 32 0. D. 814, T. B. 8-21-1459. 
 
■INCOME FROM PERSONAL SERVICE 371 
 
 elsewhere, the value of the board and lodging furnished is addi- 
 tional compensation/^^ 
 
 Stock Received in Exchange for Services. Compensation 
 paid an employee of a corporation in its stock is, if the stock 
 has a market value, to be treated as if the corporation sold the 
 stock for its market value and paid the employee in cash.^* 
 
 Promissory Notes Received in Exchange for Services. 
 Promissory notes received in payment for services, and not 
 merely as security for such payment, constitute income to the 
 amount of their fair market value.^^ 
 
 Services Rendered Prior to March 1, 1913. Where services 
 were rendered prior to March 1, 1913, but paid for thereafter, 
 the amount received is taxable income to the extent of the excess 
 of such amount over the fair market value on March 1, 1913, of 
 the principal of the claim for compensation for such services and 
 any interest which had then accrued. A claim for this purpose 
 is a right existing unconditionally oij March 1, 1913, and then as- 
 signable, whether presently payable or not. Interest does not, 
 of course, include dividends on corporate stock.^^ In a recent 
 case an individual was president and active manager of a corpo- 
 ration for a number of years prior to March 1, 1913. It was 
 deemed that his services for the years 1909, 1910, 1911, and 
 1912, were such as reasonably to entitle him to additional com- 
 pensation. No agreement as to the amount of the additional 
 compensation was ever arrived at until December, 1913. The 
 president, relying upon the promise of the two directors, became 
 indebted to the company, this indebtedness being carried on the 
 company's books as overdrafts. These overdrafts amounted in 
 December, 1913, to $70,000. In that month, with the concurrence 
 of himself and two of the other four directors he was given a 
 credit on the corporate books for $50,000, leaving a balance of 
 $20,000 owing to the company on his overdrafts. The court held 
 that the president of the company was taxable in 1913 on the 
 $50,000 allowed to him in that year as additional compensation 
 
 33 0. D. 915, T. B. 20-21-1634. 
 
 34 Reg. 45, Art. 33 as amended by T. D. 2992, Treasury Bulletin 13-20-819; 
 O. D. 570, T. B. 27-20-1039. Conversely, in an early ruling of the treasury 
 department under the 1913 Law it was held that commissions allowed sales- 
 men paid in stock might be deducted as expense if so charged on the books 
 of the corporation, at the actual value of such stock. (Reg. 33, Art. 117) . 
 
 35 Reg. 45, Art. 34. See Chapter 14 for discussion of the manner of com- 
 puting the value of income received in the form of promissory notes. 
 
 36 Reg. 45, Art. 87 as amended by T. D. 3206, T. B. 33-21-1767. See 0. D. 
 956, T. B. 26-21-1700; O. D. 1116, T. B. 48-21-1946. See also Chapter 33 for 
 a full discussion of this subject. 
 
372 FEDERAL INCOME TAX 
 
 for the four prior years.^" An executor is entitled, under the 
 laws of New York, to one-half of his commission for receiving 
 the estate of the deceased, and one-half for paying it out. In 
 the case of commissions received subsequent to March 1, 1913, 
 in an estate received prior to that date, one-half is in satisfaction 
 of a claim which vested prior to March 1, 1913, and is a return 
 of capital to the extent of its market value on that date.^^ 
 
 Compensation for Services Extending Over a Year. Where no 
 determination of compensation is had until the completion of 
 services, the amount received is income for the calendar year of 
 its determination, if the return is rendered on the accrual basis ; 
 or for the taxable year in which received, if the return is rendered 
 on the basis of receipts and disbursements.^^ A taxpayer who 
 keeps no books of account, and to whom is paid upon the termina- 
 tion of services extending over a period of years, a lump sum 
 in amount not previously agreed upon, as compensation for such 
 services, must return as income in the year in which received the 
 entire amount so paid him, even when such payment is accom- 
 panied by a statement proportioning the compensation over the 
 years in which the services were rendered.*" Where the com- 
 pensation of a receiver, trustee, or similar fiduciary is awarded 
 or paid at the conclusion of the trust, it is presumed, in the ab- 
 sence of satisfactory evidence to the contrary, that it did not 
 accrue during the course of the trust, and it is accordingly tax- 
 able as income of the year when awarded or paid. Where it is 
 understood at the beginning of the trust that the amount of the 
 compensation is not to be determined until its conclusion, and 
 this understanding is adhered to during the course of the trust 
 and no payments are made on account of such compensation, this 
 presumption becomes conclusive.*^ 
 
 37Holbrook v. Moore, U. S. Dist. Ct., East. Dist. of Missouri, Ct. 10, 
 T. B. 17-21-1592. This was held even though the taxpayer had received and 
 spent the money before March 1, 1913. But it was not certain that he 
 would become entitled to any of the compensation in question until after 
 that date. 
 
 38 A. R. R. 321, T. B. 47-20-1311. 
 
 39 Reg. 45, Art. 32 ; T. D. 2090 ; Jackson v. Smietanka, 272 Fed. 970 ; 
 letter from treasury department, dated April 30, 1918; I. T. S. 1919, 11858. 
 This point is more fully discussed in Chapters 14 and 33. The latter chap- 
 ter contains a full discussion of when items of income should be reported. 
 
 40 Jackson v. Smietanka, 272 Fed. 970; T. D. 2960, T. B. 3-20-683; State 
 ex rel. Houghton v. Phelps, (Wis.) 176 N. W. 217. See also O. D. 956, T. B. 
 26-21-1700. 
 
 *l T. B. R. 12, T. B. 3-19-178. This was also the rule under the 1916 Law 
 (T. D. 2135). 
 
INCOME FROM PERSONAL SERVICE 373 
 
 Compensation to Federal Government Officers and Employees. 
 
 Compensation received as such by officers and employees, whether 
 elected or appointed, of the United States, or of Alaska, Hawaii, 
 or any political subdivision thereof, or the District of Columbia 
 is subject to tax whether paid in cash or in other forms.*^ Com- 
 pensation received by federal reserve agents and their assistants, 
 as well as other employees of federal reserve banks, is subject 
 to tax.*3 The entire sum received by federal officers and em- 
 ployees, however, is not necessarily taxable as will be indicated 
 in the following paragraphs.** 
 
 Amounts Withheld to Provide Annuities. The amounts de- 
 ducted and withheld from the basic salary, pay or compensation 
 of employees in the civil service of the United States in accord- 
 ance with the provisions of the act approved May 22, 1920, is 
 taxable income. The total compensation of the employees should 
 be reported in gross income and no corresponding deduction may 
 be taken for the amounts withheld, as such amounts are pay- 
 ments made toward the purchase of annuities provided for in the 
 act. The annuities paid to retired employees are subject to tax 
 to the extent that the aggregate amount of the payments exceeds 
 the amounts withheld from the compensation of the employees.*' 
 If an employee leaves the civil service before he is eligible to 
 retirement and receives the amount of salary withheld, together 
 with interest, he should report only the amount of interest re- 
 ceived by him as income for the year in which received.*^ 
 
 Living Quarters. Commutation of quarters and the money 
 equivalent of quarters furnished in kind should be returned as 
 income. When quarters are furnished in kind of a less number 
 of rooms than the number allowed by law, the money equivalent 
 only of the number of rooms actually assigned should be returned 
 as income. When quarters are furnished of a greater number of 
 rooms than the number allowed by law, it is to be assumed that 
 the excess number is assigned for the convenience of the govern- 
 ment, and the money equivalent only of the number of rooms 
 allowed by law should be returned as income.*''^ The value of 
 living quarters, subsistence, laundry, heat and light furnished to 
 officers and employees of the public health service is taxable 
 income.*^ 
 
 42 Revenue Act of 1921, § 213 (a) ; Revenue Act of 1918, § 213 (a). 
 « 0. D. 15, T. B. 1-19-27. 
 « T. D. 2079. 
 
 45 T. D. 3112, T. B. 3-21-1403. 
 
 46 O. D. 823, T. B. 9-21-1475. 
 
 47 T. D. 2079; O. D. 921, T. B. 21-21-1647. 
 
 48 O. D. 1098, T. B. 46-21-1917. 
 
374 FEDERAL INCOME TAX 
 
 Heat and Light. Amounts received by, or paid for, an officer 
 for heat and light should be returned as income. This includes 
 the money equivalent, as fixed by the government, of heat and 
 hght furnished to an officer occupying public quarters.*^ Amounts 
 expended for heat and light are in the nature of personal living 
 expenses and differ in this respect from amounts furnished for 
 mileage, the latter being in the nature of a business expense or 
 an expense of the employer rather than that of the employee. 
 
 Mileage. Officers and employees of the government were re- 
 quired under the 1918 Law to return as income any excess of the 
 mileage allowance received by them over their actual expenses 
 for railroad fares.^o The Revenue Act of 1921 permits the de- 
 duction of traveling expenses (including the entire amount ex- 
 pended for meals an'd lodging) while away from home in the 
 pursuit of a trade or business.^i No reason appears why this 
 provision should not be applicable to federal officers and em- 
 ployees. 
 
 Reimbursement for Actual Expenses. Amounts paid by the 
 government in the nature of reimbursement for subsistence and 
 other items of actual expense incurred while absent on business 
 for the government are not required to be returned as income.^^ 
 If expended solely in connection with their official duties and if no 
 part of the same is diverted for personal use, any expense money 
 received by naval attaches to be expended for entertaining and 
 exceptional purposes in connection with their duties, is not sub- 
 ject to tax.53 
 
 Per Diem Allowances. The total per diem allowance is in- 
 come and it has been ruled that there may be taken as a deduc- 
 tion for expense, the amount actually expended from such allow- 
 ance for actual necessary traveling expenses.^* 
 
 Compensation of Soldiers and Sailors. Under the 1918 Law a 
 person of either sex in active service in the military or naval 
 forces might exclude from gross income his or her compensation 
 received during the recent war from the United States up tci the 
 amount of $3,500 in any taxable year.^s A bonus paid by a 
 
 49 T. D. 2079. 
 
 50 Reg. 45, Art. 292. See the paragraph "Traveling Expenses", supra. 
 See T. D. 2079 and O. D. 921, T. B. 21-21-1647; Galm v. U. S., 39 Ct. Cls. 55. 
 
 51 Revenue Act of 1921, §214 (a) (1). 
 
 52 T. D. 2079. 
 
 53 0. D. 36, T. B. 1-19-48. 
 
 S4Reg. 33 Rev., Art. 8; T. D. 2079; T. D. 2124. Se'e, however, the para- 
 graph "Traveling Expenses", supra. 
 
 55 Revenue Act of 1918, § 213 (b). See Chapter 3, footnote 11. 
 
INCOME FROM PERSONAL SERVICE 375 
 
 state to its residents who served in the military or naval forces 
 during the war with Germany does not constitute taxable income 
 to the recipient.58 By joint resolution of Congress approved by 
 the President, March 3, 1921, that date was fixed as the date of 
 the termination of the war for certain purposes. In order to 
 entitle a person in the military or naval forces of the United 
 States to the $3,500 exemption, the salary or compensation must 
 have been received during the period January 1, 1918, to and in- 
 cluding March 3, 1921.5'^ A person is in active service if he is 
 actually serving in such forces, not necessarily in the field or in 
 the theatre of war, and is not merely on the retired or reserve 
 list. Accordingly, if such a person received compensation from 
 the United States of $3,500 or less and had no other income of 
 an amount sufficient in itself to require him to render a return of 
 income, he was not required to make a return.^s The following 
 compensation was held not to be within the exemption of $3,500: 
 
 1. Compensation received by persons serving in the American 
 Merchant Marine Sea Training Bureau ; ^ 
 
 2. Retainer pay received by naval reservists while on inactive 
 duty;^'' 
 
 3. Compensation received by persons in the army transport 
 service ;^i 
 
 4. Compensation received by persons in the military service 
 from the Spruce division ;*'2 
 
 5. Compensation received from the war department by a 
 civilian flying instructor ;''3 
 
 6. Compensation of the employees of the commission on train- 
 ing camp activities; 8* 
 
 7. Compensation received by an officer of the national guard 
 detailed to the general staff college ;^5 
 
 8. Compensation received by employees of the Knights of 
 Columbus war activities ; *^^ 
 
 56 O. D. 286, T. B. 22-19-533. 
 
 57 O. D. 900, T. B. 18-21-1608. 
 
 58 Reg. 45, Art 86. 
 
 59 O. D. 329, T. B. 28-19-613. 
 
 60 O. D. 463, T. B. 16-20-860. 
 
 61 0. D. 462, T. B. 16-28-59. 
 
 62 O. D. 214, T. B. 11-19-376; (Op. A. G. 3) ; T. D. 3242, T. B. 47-21-1932. 
 
 63 O. D. 122, T. B. 3-19-183. 
 
 64 0. D. 27, T. B. 1-19-39. 
 
 65 0. D. 435; T. B. 14-20-828. 
 
 66 0. D. 485, T. B. 18-20-898. 
 
376 FEDERAL INCOME TAX 
 
 9. Compensation received by persons in the military or naval 
 forces for services between April 6, 1917, and December 31, 
 1917; 67 
 
 10. Compensation received by the personnel of the United 
 States Merchant Marine enrolled in accordance with rules and 
 regulations of the shipping board ;68 
 
 11. Compensation received by members of draft boards ; ^^ 
 
 12. Compensation of employees of the public health service 
 whether officers or civilians;'™ 
 
 13. Compensation of teachers on duty in the medical depart- 
 ment at large.'''! 
 
 The following compensation was held to be within the exemp- 
 tion of $3,500 according to persons in active service in the mili- 
 tary or naval forces of the United States by the 1918 Law: 
 
 1. Compensation of army contract surgeons ;'^2 ^nd 
 
 2. Compensation of army field clerks.^^ 
 
 The following items were to be included in the $3,500 exemp- 
 tion: 
 
 (a) Bonus payable upon discharge ; 
 
 (b) Mileage from point of discharge to point of enlistment, 
 and 
 
 (c) Ration money covering the periods of absence from camp 
 on furlough. ''* 
 
 The personal exemption allowed married men and the exemp- 
 tion for dependents were not included in the $3,500 exemption.'''^ 
 
 Under the 1918 Law it was held that compensation paid to or in 
 behalf of discharged soldiers, sailors, or members of the army 
 and navy nurse corps, provided for in the Vocational Rehabilita- 
 tion Act and amendments thereto, is income subject to tax. Such 
 income included, besides money payments, the value of courses 
 
 07 0. D. 337, T. B. 29-19-625. 
 
 68 O. D. 663, T. B. 38-20-1202. 
 
 69 Reg. 45, Art. 86. 
 
 70 O. D. 904, T. B. 19-21-1618, reversing O. D. 495, T. B. 19-20-915. 
 
 71 0. D. 752, T. B. 51-20-1351. 
 
 72 Reg. 45, Art. 86. 
 
 73 0. D. 435, T. B. 14-20-827. The right to the $3,500 exemption in the 
 case of "'reconstruction aids" in the army is dependent upon their status, 
 whether military or civil, while engaged in such work. The exemption 
 would not be allowed in the case of a civilian so engaged, whereas it would 
 be allowed in the case of a member of the military forces under similar as- 
 signment without change of status. (O. D. 435, T. B. 14-20-827). 
 
 74 O. D. 370, T. B. 3-20-686. 
 
 75 O. D. 123, T. B. 3-19-184. 
 
INCOME FROM PERSONAL SERVICE 377 
 
 pursued, also books, material, etc., which were furnished without 
 charge to and became the property of the recipients, and were 
 not included in the cost of such courses.™ 
 
 The Revenue Act of 1921 exempts amounts received as com- 
 pensation, family allotments and allowances under the provisions, 
 of the War Risk Insurance and the Vocational Rehabilitation 
 Acts, or as pensions from the United States for service of the 
 beneficiary or another in the military or naval forces of the 
 United States in time of war.'^''^ 
 
 Compensation of Federal Judges. The salaries of judges of the 
 Supreme Court and inferior courts of the United States, in office 
 at the time the law was passed, were exempt from the tax, under 
 the 1916 Law, but this did not include the salaries of such judges 
 as were appointed subsequent to the passage of the law, or to 
 retired judges. The Revenue Acts of 1918 and 1921 expressly 
 tax the compensation of all federal judges,'^^ but in a recent case 
 it has been held that this provision is unconstitutional.™ It has 
 been held by the treasury department that the compensation 
 of federal judges appointed after the passage of the Revenue 
 Act of 1918 is subject to tax.s" Judges of territorial courts are 
 held not to be exempt.^i Members of the Board of United States 
 
 76 Sol. Op. 97, T. B. 14-21-1543. 
 
 77 Revenue Act of 1921, § 213 (b) (9) . 
 
 78 Revenue Act of 1921, §213 (a) ; Revenue Act of 1918, § 213 (a). 
 Revenue Act of 1916, § 4 ; T. D. 2090. This exemption was inserted in 
 
 view of the provision of the Federal Constitution, Art. 3, § 1, which guaran- 
 tees that the compensation of federal judges shall not be diminished during 
 their continuance in office. See opinion of Justice Field in Pollock v. Farm- 
 ers Loan and Trust Company, 157 U. S. 429, and 13 Op. Atty. Gen. 161.' On 
 February 16, 1863, Chief Justice Taney of the United States Supreme Court 
 wrote a letter to Hon. S. P. Chase, then secretary of the treasury, vigor- 
 ously protesting against the constitutionality of any construction of the 
 income tax then in force as embracing a tax on salaries of the judges of 
 th6 Supreme Court. The secretary of the treasury, having ignored this 
 letter, Chief Justice Taney procured its entry on the records of the Supreme 
 Court on March 10, 1863 (Tyler's Life of Taney, pp. 432, 435). It was 
 deemed unpatriotic to resist the collection of the tax, at least during the war, 
 and it was collected until toward the end of 1869, when the opinion of the 
 attorney-general referred to above was rendered, advising against the con- 
 stitutionality of any tax upon the salary of the President of the United 
 States and upon the judges of the Supreme Court. 
 
 79 Evans v. Gore, 253 U. S. 245. The treasury department has ruled that 
 this case is not applicable to referees in bankruptcy and that the fees re- 
 ceived by such referees are subject to tax. (O. D. 678, T. B. 41-20-1229.) 
 
 80 T. D. 3049, T. B. 33-20-1127. 
 
 81 O. D. 899, T. B. 18-21-1606. 
 
378 FEDERAL INCOME TAX 
 
 General Appraisers are not exempt, since the board is not a court 
 nor are its members federal judges.s^ 
 
 Compensation of the President of the United States. Under 
 the 1916 Law, the compensation of the President of the United 
 States in office at the time the law was passed was exempt from 
 the tax during the term for which he was elected.83 Compensa- 
 tion received as such by the President of the United States is 
 expressly taxable under the 1918 and 1921 Laws.s* In a recent 
 decision of the United States Supreme Court, which in reality 
 presented the question whether the provision of the Revenue Act 
 of 1918 taxing the salaries of federal judges was constitutional 
 it has been clearly indicated that the provision taxing the salary 
 of the President of the United States is unconstitutional.^s The 
 salaries of Presidents elected after the passage of the Revenue 
 Act of 1918 will be held taxable.se 
 
 Compensation of Officers and Employees of a State or Political 
 Subdivision Thereof. Neither the Revenue Act of 1918 nor the 
 Revenue Act of 1921 expressly exempt "the compensation of all 
 officers and employees of a state, or any political subdivision 
 thereof, except when such compensation is paid by the United 
 States government," as did the 1916 Law.^'^ It would seem, there- 
 fore, that such compensation is intended to be made taxable,^ 
 but the treasury department has ruled that compensation paid its 
 officers and employees by a state or political subdivision thereof, 
 including fees received by notaries public commissioned by states 
 and the commissions of receivers appointed by state courts, are 
 
 82 0. D. 902, T. B. 19-21-1616. 
 
 83 Revenue Act of 1916, § 4. In an opinion of the attorney-general in 
 1869 it was held that a specific tax by the United States upon the salary of 
 the President in office at the time the act was passed, to be deducted from the 
 salary which otherwise would be paid to him, would be a diminution of his 
 compensation in contravention of Article 2, § 1, Clause 7, of the Federal 
 Constitution, which provides that the compensation of the President shall 
 neither be increased nor diminished during the period for which he shall 
 have been elected. 13 Op. Atty. Gen. 162. This consideration no doubt moved 
 Congress to grant the exemption in the 1916 Law. 
 
 84 Revenue Act of 1921, §213 (b) ; Revenue Act of 1918, §213 (a). 
 
 85 Evans v. Gore, 253 U. S. 245. 
 
 86 T. D. 3049, T. B. 33-20-1127. 
 
 8T Revenue Act of 1916, § 4. For the exemption provided by the 1916 Law, 
 see Revenue Act of 1916, § 23; Reg. 33 Rev., Art. 4; Reg. 33, Art. 5; T. D. 
 2152. 
 
 88 The general opinion that a federal tax on the salaries of officers or em- 
 ployees of a state is unconstitutional, is based on the cases, among others, of 
 Collector v. Day, 11 Wall. 113; Freedman v. Sigel, 9 Fed. Cas. No. 5,080; 
 U. S. V. Ritchie, 27 Fed. Cas. No. 16,168. In the Day case. Day, who was 
 
INCOME FROM PERSONAL SERVICE 379 
 
 not taxable. Employees of universities receiving salaries paid in 
 part or in whole from funds available under the Smith-Lever Act 
 of May 8, 1914, who are officers or employees of a state, are not 
 required to return as taxable income the salaries so received. This 
 is also true with respect to the Act of August 30, 1890, relating 
 to colleges for the benefit of agriculture and the mechanic arts, 
 and to the act of March 2, 1887, relating to agricultural experi- 
 ment stations in such colleges.s'* An industrial commission was 
 established by a state and certain amounts were paid into the 
 commission's fund by manufacturers and others, based on their 
 pay rolls. Such funds are under the supervision and sole control 
 of the state and are deposited in the state treasury. The law 
 
 Judge of the Court of Probate and Insolvency for a county in Massachusetts, 
 was taxed on his salary in 1866 and 1867 as such officer. The question was 
 presented "whether or not it is competent for Congress, under the Constitu- 
 tion of the United States, to impose a tax upon the salary of a judicial officer 
 of a state." The court considers at some length the case of Dobbins v. Erie 
 Co., 16 Pet. 435, in which it was decided that a state could not levy a tax 
 on the salary of an officer of the United States, because (1) such officer was 
 a means or instrumentality employed for carrying into effect some of the 
 legitimate powers of the federal government which could not be interfered 
 with by the states, (2) the salary or compensation for the service of the 
 officer was inseparably connected with the office, and (3) if the officer was 
 exempt, his salary was equally exempt. The court also considered at some 
 length the leading case of McCullough v. Maryland, 4 Wheat. 316, and dis- 
 cussed the relationship between the federal government and the separate 
 states. Conceding that the exemption of the salaries in question from income 
 tax rested upon "necessary implication," the court placed its decision on the 
 grounds that (1) in respect to the powers reserved to them, one of which 
 was the power to maintain a judicial department, the separate states are as 
 sovereign and independent as the federal government, (2) that the unim- 
 paired existence of such reserved powers is as essential in one case as in the 
 other, and (3) the means and instrumentalities employed by the states for 
 carrying on the operations of their governments, for preserving their ex- 
 istence and for fulfilling the duties assigned to them by the Constitution, 
 must be left free and unimpaired and must not be crippled or defeated by 
 another taxing power. Opinion to the contrary is founded largely upon 
 the recent cases of Peck v. Lowe, 247 U. S. 165, and U. S. Glue Co. v. Oak 
 Creek, 247 U. S. 321. The 1918 Revenue Bill as introduced into Congress 
 expressly taxed such salaries, but the provision was stricken out in the 
 senate, and not restored by the conference committee, although that com- 
 mittee restored the provision taxing the salary of the President and salaries 
 of federal judges. Under the Canadian form of government, it has been 
 held that a provincial legislature has power to tax the official income of an 
 officer of the Dominion government. (Abbott v. St. John, 40 Can. Sup. Ct. 
 597; Webb v. Outrin, (1907) App. Cas. 81, 95 L. T. 850; 23 T. L. R. 147; 
 contra the discredited case of Leprohon v. Ottawa, 2 Ont. App. 522). 
 
 89 Reg. 45, Art. 85. Letter from treasury department dated May 17, 
 1919; L T. S. 1919, TI3335; 31 Op. Atty. Gen. 441. 
 
380 FEDERAL INCOME TAX 
 
 provides for the payment out of such fund of the compensation 
 of a secretary, physicians and other persons performing services 
 for the commission. It has been held that a surgeon who per- 
 forms surgical operations on individuals sustaining injuries while 
 in the employ of the manufacturers, such surgeon not being 
 under contract with the state but being paid out of the com- 
 mission fund on a fee basis and devoting only a portion of his 
 time to the treatment of such employees, is not an employee of 
 the state. Compensation, therefore, received for the above serv- 
 ices, is income subject to tax.^o In order to be exempt, the re- 
 cipient of income from a state or political subdivision thereof 
 must be an officer or employee of such state or political sub- 
 division. 
 
 Who Are Officers and Employees of a State or Politi- 
 cal Subdivision Thereof. An officer is a person who occupies 
 a position in the service of the government, the tenure of which 
 is continuous and not temporary and the duties of which are 
 established by law or regulations and not by agreement. An 
 employee is one whose duties consist in the rendition of pre- 
 scribed services and not the accomplishment of specific objects, 
 and whose services are continuous, not occasional, temporary or 
 specific in character or object.^^ Compensation paid by a state or 
 political subdivision thereof to its officers and employees is ex- 
 empt even though the recipient be a nonresident alien.^^ 
 
 In addition to the above, the following are officers or employees 
 of a state or political subdivision thereof within the meaning of 
 exemption granted to the compensation of such officers and em- 
 ployees by the treasury department (but not by the Revenue Acts 
 of 1918 or 1921) : 
 
 1. Persons serving on the jury of a state, county, or munici- 
 pal court ; ^3 
 
 2. A chief engineer appointed by a sewerage commission 
 created by the common council of a state under authority of a 
 state statute;^* 
 
 3. A referee in drainage appointed by the district judge of a 
 state judicial district in which the drainage project is located, 
 such judge being vested with authority to provide for the pay- 
 so O. B. 1038, T. B. 38-21-1828. 
 
 91 A. R. R. 664 (Sol. Op. 122), T. B. 45-21-1906. 
 
 92 O. D. 274, T. B. 19-19-497. 
 
 93 O. D. 434, T. B. 14-20-826. 
 
 94 O. D. 309, T. B. 25-19-582. 
 
INCOME FROM PERSONAL SERVICE 381 
 
 ment of the referee's salary, to regulate his duties, and to dis- 
 charge him at pleasure ;^^ 
 
 4. A county s,urveyor who is paid from county funds even 
 though on a per diem basis ;^8 
 
 5. Members of the Virginia Debt Commission ; ^^ 
 
 6. The attorney for the state comptroller appointed under the 
 New York Transfer (Inheritance) Tax Law to look after the 
 state's interests in the collection of inheritance taxes; such at- 
 torney receiving as compensation a commission on the transfer of 
 most of the estates and in some cases such fees and allowances as 
 the state comptroller deems reasonable and proper ;^s 
 
 7. Officers of the national guard ; 
 
 8. A deputy sheriff of New Hampshire ;®9 and 
 
 9. An attorney-at-law, employed by the collector of revenues 
 in a county, under an agreement to render personal services as 
 directed by the collector.!"" 
 
 The following are not officers or employees of a state or politi- 
 cal subdivision thereof within the meaning of exemption granted 
 to the compensation of such officers and employees: 
 
 1. Trustees of a corporation who have filed an application 
 for winding up the affairs of the corporation in accordance 
 with the laws of Connecticut, such trustees not being receivers 
 in fact and not exercising a public function under an appoint- 
 ment of the court ; ^^^ 
 
 2. Administrators and executors ; i"- 
 
 3. An individual who exercises a public function under an 
 appointment issued by a court officer for a particular transaction 
 or purpose for a limited time and who in the exercise of such 
 function is not vested with the character of either an officer or 
 employee of the state or political subdivision thereof ; "^ 
 
 4. Witnesses summoned by a state attorney (as to fees) ;!"* 
 
 95 0. D. 525, T. B. 22-20-968. 
 
 96 O. D. 33, T. B. 1-19-45. 
 
 97 O. D. 257, T. B. 16-19-460. 
 
 98 0. D. 494, T. B. 19-20-14. 
 
 99 O. D. 1053, T. B. 40-21-1853. 
 
 100 0. D. 1099, T. B. 46-21-1919. 
 
 101 o; D. 369, T. B. 3-20-685. The compensation of such trustees is fixed 
 by the court. 
 
 102 O. D. 256, T. B. 16-19-459. 
 
 103 O. D. 256, T. B. 16-19-459. 
 
 104 O. D. 195, T. B. 9-19-338. 
 
382 FEDERAL INCOME TAX 
 
 5. Clerical assistants employed by the clerks of state courts 
 in connection with the administration of the federal naturaliza- 
 tion laws and paid out of fees collected by the state court 
 clerks ; ^"^ 
 
 6. Individuals employed in constructing a causeway and paid 
 from the funds of three railway companies and a county which is 
 part owner of the project ;i''^ 
 
 7. A "special counsel" of a municipality ; "'^ 
 
 8. Individuals holding the positions of "State Agent of Nor- 
 mal Schools for Whites," "State Agent of Normal Schools for 
 Negroes," and "High School Inspector," which positions are 
 created by the Superintendent of Public Instruction of a state 
 without statutory authority ; ^os and 
 
 9. A partnership of civil engineers employed by a state irri- 
 gation district to serve as consulting and supervisory engineers 
 in connection with the development of the irrigation district 
 under a contract prescribing a stipulated payment per annum 
 in addition to expenses and for all time in excess of 60 days in 
 any one year, a certain sum per day in addition to expenses, and 
 under which contract the engineering work in connection with 
 the irrigation district is to be performed under the general direc- 
 tion of the partnership ; ^^^ 
 
 10. A bank, designated a depositary for state and county 
 funds and receiving for its services a fixed sum of money per 
 year;"" 
 
 11. Building and real estate experts employed by the board 
 of local improvements of a city, not appointed to any position, 
 the tenure and duties of which were established by law and re- 
 ceiving a percentage of the value of the buildings and real estate 
 appraised.^ 
 
 When a receiver is appointed by a state court for the assets 
 of a corporation, part of which are located in the state appointing 
 
 105 0. D. 484, T. B. 18-20-897. 
 
 106 0. D. 553, T. B. 25-20-1013. 
 
 107 Letter from treasury department dated April 15, 1919; I. T. S. 1919, 
 1| 3313. 
 
 108 O. D. 449, T. B. 15-20-845. 
 
 109 0. D. 545, T. B. 24-20-1001. The partnership in this case had similar 
 contracts with other districts and counties and accepted business from the 
 public in general. The work was not subject to the direction and control 
 of the directors of the irrigation district, but its relation to the directors 
 was similar to the relation between an attorney and a client who pays an 
 annual retainer for any legal services the client may require. 
 
 110 O. D. 1090, T. B. 45-21-1907. 
 
 111 0. D. 1075, T. B. 43-21-1884. 
 
INCOME FROM PERSONAL SERVICE 383 
 
 the receiver and the remainder in another state, the federal 
 district court for the latter state appointing the same person as 
 receiver for the assets located in that state, and the fees from 
 the receivership are allowed in a lump sum, the exemption ac- 
 corded to compensation received by an officer of a state or political 
 subdivision thereof applies only to that portion of the fee of such 
 receiver attributable to his appointment by the state court.^^^ 
 
 Salaries Paid to Teachers. Salaries paid to teachers are 
 exempt only where the educational institution is maintained 
 wholly by the state and the relation of employer and employee 
 exists between the state and the teacher. They are not exempt 
 merely because the teachers are engaged in educational work, nor 
 because they are pensioned by the state."^ Where the 
 laws of a certain state require that all children under 
 16 years of age, who are employed, shall attend a regular school 
 for eight hours a week and a certain corporation, instead of send- 
 ing its employees to an outside school, conducts one in its place 
 of business, placing it in charge of a teacher who is certified by 
 the supervisor of schools of another state but subject to the 
 authority of a city in the former state, the salary of the teacher 
 being paid and the school maintained not by the state or political 
 subdivision thereof, but by and for the convenience of the corpo- 
 ration, it has been held that the teacher is not exempt as an 
 officer or employee of a state or political subdivision thereof.^!* 
 The compensation of teachers of the territory of Hawaii is sub- 
 ject to tax.iis 
 
 Pensions. Pensions received from a state or political sub- 
 division thereof by retired employees are exemp't,ii^ but pensions 
 paid by the state of Kentucky to Confederate Civil War veterans 
 are not exempt.^i'' 
 
 Pilot Fees. It has been held that the compensation of a 
 pilot for a port in Florida, where such pilot was appointed by the 
 board of pilot commissioners appointed by the governor of the 
 state, is not exempt because the pilot receives his compensation 
 from fees paid by the steamship companies to the board of pilot 
 commissioners, rather than from funds of the state.^^^ 
 
 112 O. D. 503, T. B. 20-20-933. 
 ll»0. D. 826, T. B. 4-19-214. 
 
 114 O. D. 963, T. B. 27-21-1711. 
 
 115 0. D. 12, T. B. 1-19-24. 
 
 116 0. D. 434, T. B. 14-20-826. 
 
 117 0. D. 903, T. B. 19-21-1617. 
 
 118 O. D. 916, T. B. 20-21-1636. 
 
384 FEDERAL INCOME TAX 
 
 Compensation of Public Library Employees. The em- 
 ployees of a public library incorporated by special act of the legis- 
 lature of a state are not exempt from tax where the control and 
 management of the corporation and of all moneys appropriated 
 by the city for the care and maintenance of the library are vested 
 in the board of directors consisting of the president, vice presi- 
 dent, the three managers of the corporation, two citizens of the 
 city appointed by the mayor, and three officials of the city, the 
 expenses of the corporation being chiefly provided for by an ap- 
 propriation by the state and the city, and the power of appoint- 
 ment and removal of employees being exercised by the board of 
 directors. In such case the relationship of employer and em- 
 ployees does not exist between the state or the city and the em- 
 ployees of the library. The moneys appropriated by the state 
 and city are turned over to the corporation to be used as the 
 board of directors may direct. The fact that the compensation 
 of employees may be paid out of moneys appropriated by the 
 state or the city does not change their status as employees of the 
 corporation.118 
 
 119 o. D. 973, T. B. 28-21-1725. 
 
CHAPTER 16 
 INCOME FROM BUSINESS, TRADE OR COMMERCE 
 
 The Revenue Act of 1921, like the Revenue Act of 1918, pro- 
 vides that gains, profits and income derived from trades, busi- 
 nesses or commerce, or the transaction of any business carried 
 on for gain or profit, ^ shall be taxable. The general rules re- 
 specting income from such sources are discussed in this chapter, 
 and the reflection of income by means of inventories.^ The 
 subjects of income derived from sales or dealings in property, 
 and income from interest, rent and royalties are discussed in 
 other chapters.^ 
 
 Gross Income from Business. In the case of a manufacturing, 
 merchandising or mining business "gross income" means the 
 total sales, less the cost of goods sold, plus any income from 
 investments and from incidental or outside operations or sources. 
 In determining the gross income subtractions should not be made 
 for depreciation, depletion, selling expenses or losses, or for 
 items not ordinarily used in computing the cost of goods sold. 
 Gross income includes all amounts received by the taxpayer as 
 allowances for amortization, from whatever source and by what- 
 ever name called. The allowance for amortization authorized 
 by the statute must be taken by way of explicit deduction from 
 gross income.* It is not permissible for an individual, whose 
 business is that of a sole proprietor, to compute his income from 
 his business on one basis and his income from other sources on 
 another basis, either with respect to the method of accounting 
 or the taxable period.^ A taxpayer engaged as a sole proprietor 
 of a business selling provisions must subtract from his total 
 purchases for the year, or add to his total sales for the year, the 
 cost of provisions withdrawn for personal or family use.^ 
 
 Income of Contractors. Persons engaged in contracting opera- 
 tions, who have uncoinpleted contracts, in some cases perhaps 
 running for periods of several years, will be allowed to prepare 
 their returns so that the gross income will be arrived at on the 
 basis of completed work; that is, on jobs which have been finally 
 
 1 Revenue Act of 1921, § 213 (a) ; Revenue Act of 1918, § 213 (a). 
 
 2 See Chapter 25 for discussion of the subject of losses in inventories. 
 
 3 See Chapters 17 and 18. 
 
 4 Reg. 45, Art. 35; Reg. 33 Rev., Art. 93; Reg. 33, Arts. 106 and 107. 
 
 5 0. D. 941, T. B. 23-21-1673. See Chapter 33. 
 
 6 O. D. 998, T. B. 34-21-1777. 
 
 385 
 
386 FEDERAL INCOME TAX 
 
 completed any and all moneys received in payment will be re- 
 turned as income for the year in which the work was completed. 
 If the gross income is arrived at by this method, the deduction 
 from such gross income should include and be limited to the ex- 
 penditures made on account of such completed contracts. Or the 
 percentage of profit from the contract may be estimated on the 
 basis of percentage of completion, in which case the income to 
 be returned each year during the performance of the contract 
 will be computed upon the basis of the expenses incurred on 
 such contract during the year; that is to say, if one-half of the 
 estimated expenses necessary to the full performance of the 
 contract are incurred during one year, one-half of the gross 
 contract price should be returned as income for that year. Upon 
 the completion of a contract if it is found that as a result of 
 such estimate or apportionment the income of any year or years 
 has been overstated or understated, the taxpayer should file 
 amended returns for such year or years.'' A taxpayer, having 
 once made his election to prepare his return so that the gross 
 income will be arrived at on the basis of completed work, will 
 not later be permitted to file amended returns for the purpose 
 ' of reporting income computed upon the basis of the expenses 
 incurred on such contract each year during the performance of ' 
 the contract. However, he may, without permission, report his 
 income from contracts thereafter entered into by him computed 
 upon the basis of expenses incurred on such contracts during 
 the year.** 
 
 Income from Export Business. Under the 1916 Law income 
 from the business of exporting goods was held by the treasury 
 department to be taxable. It has also been held that a tax on 
 such income is not a tax on the articles exported, and therefore 
 not unconstitutional in that regard, since if Congress has power 
 to lay a tax up to the time when articles are put in course of ^ 
 exportation, the conclusion is unavoidable that the net income 
 arising from exportation when it has been completed or after 
 the exportation and sale are fully consummated, is likewise sub- 
 ject to taxation under general laws.^ 
 
 Discounts. The discount allowed to a corporation purchasing 
 new equipment need not be reported as income, but the cost of 
 the equipment as charged to capital must represent only the net 
 cost after making allowance for the discount in question." 
 
 7 Reg. 45, Art. 36; Keg. 33 Rev., Art. 121; T. D. 2161. 
 
 8 0. D. 933, T. B. 22-21-1661. 
 
 9 Peck V. Lowe, 247 U. S. 165. 
 
 10 Letter from Treasury Department dated November 26, 1918; I. T. S., 
 1921, U 951. 
 
INCOME FROM BUSINESS, TRADE OR COMMERCE 387 
 
 Bank Discounts. In cases wherein banks or other corporations 
 loan money by discounting bills or notes, one of two methods is 
 used in determining the amount of discount to be reported as 
 income, namely : ( 1 ) if the bank or corporation makes a prac- 
 tice of crediting such discount directly to a "discount account" 
 or to profit and loss, the total amount thus credited during the 
 year should be considered income and should be so reported, re- 
 gardless of the fact that a portion of this amount may represent 
 discount paid in advance and not then earned; (2) if the bank 
 or corporation follows the practice of crediting such discount 
 to an "unearned discount account," and later, as the discount 
 becomes earned, debits the unearned account and credits an 
 "earned discount account" with the amount so earned, the total 
 amount credited to the "earned discount account" during the 
 j'ear should be considered income and should be so reported. The 
 corporation reporting income of this character should state in 
 a memorandum attached to its return which of the two methods 
 was used in determining the amount of discount returned.ii^ The 
 latter of the two above methods has been generally recognized 
 as the correct method of computing such income and the comp- 
 troller of the currency has suggested the adoption of this method 
 by all national banks. Banks which in the past have treated 
 discount as income before it was actually earned and during 
 the taxable year 1918 have placed the discount account upon an 
 accrual basis will be required to submit all necessary informa- 
 tion and an amended return for the taxable year 1917, and will 
 be permitted to submit (or the Commissioner may require) 
 amended returns for all prior years during which the taxpayer 
 was subject to tax. Additional taxes for prior years found to 
 be due upon such re-examinations will be paid upon the basis of 
 the amended returns in the ordinary way. Where it appears that 
 prior taxes have been paid in excess of the amount properly 
 due such excess will to the extent possible be credited against 
 future income and profits taxes.^^ 
 
 Manufacturers Selling on the Coupon System. Where a manu- 
 facturing corporation sells a large part of its product on the 
 coupon system, this system being a mutually advantageous ar- 
 rangement between purchaser and manufacturer whereby the 
 purchaser orders and pays for a quantity of the product in 
 excess of his immediate needs, thereby securing quantity dis- 
 count, the balance of the order to be delivered as needed upon 
 
 11 Reg. 33 Rev., Art. 114. 
 
 12 Reg. 45, Art. 23. Letter from Treasury Department dated February 11, 
 1919; I. T. S. 1919,113248. 
 
388 FEDERAL INCOME TAX 
 
 presentation of coupons issued by the manufacturer at the time 
 of the sale, the full purchase price of the coupon being refunded 
 to the purchaser if any coupons are not used or if the company 
 is unable to make delivery of goods upon demand, may treat 
 the sales value of the coupons issued and outstanding at the close 
 of the taxable year as a liability and base the amount of gross 
 profits from sales upon the coupons redeemed in merchandise 
 during the year.^s 
 
 Inventories. The Revenue Act of 1921 is identical with the 
 Revenue Act of 1918 in regard to the use of inventories. Tax- 
 payers engaged in manufacturing or mercantile business usually 
 determine their net income by inventory, purchases during the 
 year plus the stock on hand at the beginning of the year being 
 subtracted from sales during the year plus stock on hand at the 
 close of the year, or vice versa, to ascertain the gain or loss. 
 The treasury department's first recognition of this system re- 
 quired that in every case where the annual gain or loss was 
 determined by inventory, the merchandise must be inventoried 
 at cost price, as any loss in salable value would ultimately 
 be reflected in the sales during the year when the goods were 
 disposed of. This rule permitting inventories on the basis of 
 cost only was later altered and new rules established for the 
 purpose of income and excess-profits tax returns, permitting 
 inventories at cost or market value, whichever is lower.^* 
 Except where inventories are allowed at cost or market, gain 
 or loss must in all cases be determined on the basis of cost.^^ 
 In no cases should overhead charges be included in inventory .^^ 
 It is provided by the Revenue Acts of 1921 and 1918 that when- 
 ever, in the opinion of the Commissioner, the use of inventories 
 is necessary in order clearly to determine the income of any 
 taxpayer, inventories shall be taken by such taxpayer upon such 
 basis as the Commissioner with the approval of the secretary may 
 prescribe as conforming as nearly as may be to the best account- 
 ing practice in the trade or business and as most clearly refiecting 
 the income, 1^ and gain or loss is determined in the case of prop- 
 is O. D. 827, T. B. 9-21-1479. 
 
 1* T. D. 2609. The attorney-general has advised on the authority of Doyle 
 V. Mitchell Brothers, 247 U. S. 179, that the methods of taking inventories 
 authorized by T. D. 2609 are permissible. (T. D. 2744; T. D. 2649.) See 
 Chapter 14 as to "Inventories of Foreign Exchange." 
 
 15 T. D. 2609. For the rule where goods were purchased prior to March 1, 
 1913, see Chapter 17. 
 
 16 See instructions on back of Form 1031 for 1916. 
 
 "Revenue Act of 1921, §203. The Revenue Act of 1918 contained the 
 same provision (Revenue Act of 1918, §203). 
 
INCOME FROM BUSINESS, TRADE OR COMMERCE 389 
 
 erty acquired on or after March 1, 1913, on the basis of the cost 
 thereof or inventory value, if the inventory is made in accordance 
 with the above provision.^* where a taxpayer manufactures 
 property and keeps it on hand for a number of years, until it 
 is sold in the taxable year 1918, the gain derived is the difference 
 between the selling price and the cost; or the difference be- 
 tween the selling price and the inventory value of the goods at 
 the beginning of the taxable year, on the inventory basis regu- 
 larly followed by the taxpayer ; that is, either an inventory basis 
 of cost or an inventory basis of cost or market value, whichever 
 is lower. It is not permissible to use market value except when 
 it becomes material in taking inventory on the basis of cost or 
 market value, whichever is lower. i^ Where a taxpayer takes 
 inventories on the basis of cost or market price, whichever 
 is lower, goods which were acquired before March 1, 1913, will 
 be inventoried at the- market value on March 1, 1913, or at the 
 market price at the time of the inventory, whichever is lower.^o 
 Where a taxpayer in rendering his returns for years prior to 
 1918 exercised his option to include excise taxes in the cost of 
 merchandise in calculating inventories it has been ruled that he 
 is not entitled to change his method and treat such taxes paid 
 during 1918 as business expenses.^i 
 
 Need of Inventories. In order to reflect the net income cor- 
 rectly, inventories at the beginning and ending of each year are 
 necessary in every case in which the production, purchase or sale 
 of merchandise is an income-producing factor. The inventory 
 should include raw materials and supplies on hand that have been 
 acquired for sale, consumption or use in productive processes, to- 
 
 18 Revenue Act of 1921, §202 (a) 1; Revenue Act of 1918, §202 (a) 2. 
 Copies of inventory need not be filed with the return, but it is recommended 
 that the taxpayer attach to his return a summarized analysis of his inven- 
 tories. (I. T. S. 1919, 113958.) 
 
 19 S. 926, T. B. 1-19-10. In this case the taxpayer was taxed in 1918 on an 
 appreciation in value occurring gradually over several years merely because 
 the sale occurred in 1918. The case illustrates the effect of the limitation of 
 inventories to (a) cost, or (b) cost or market, whichever is lower, to be as 
 follows: 1 A gradual appreciation in value may not be prorated over the 
 years of appreciation because inventories may not be taken at market if 
 market is higher than cost; 2 A gradual depreciation in value may be pro- 
 rated over the years of depreciation because inventories may be taken at 
 market if market is lower than cost. See Chapter 17 as to property acquired 
 before March 1, 1913. 
 
 20 S. 1003, T. B. 5-19-245. This ruling was made before the decisions in 
 Goodrich v. Edwards, 65 L. Ed. 450, and Walsh v. Brewster, 65 L. Ed. 451 
 U. S. Sup. Ct. For the effect of these decisions, see Chapter 17. 
 
 21 A. R. M. 121, T. B. 16-21-1574. 
 
390 FEDERAL INCOME TAX 
 
 gether with all finished or partly finished goods. Title to the mer- 
 chandise included in the inventory should be vested in the tax- 
 payer and goods merely ordered for future delivery ana for 
 which no transfer of title has been effected should be excluded. 
 The inventory should include merchandise sold but not shipped 
 to the customer at the date of the inventory, together with any 
 merchandise out upon consignment, but if such goods have been 
 included in the sales of the taxable year they should not be taken 
 in the inventory. It should also include merchandise purchased, 
 although not actually received, title to which has passed to the 
 purchaser. In this regard care should be exercised to take into 
 the accounts all invoices or other charges in respect of mer- 
 chandise properly included in the inventory, but which is in 
 transit or for other reasons has not been reduced to physical 
 possession.22 
 
 The delivery of copper bullion to a smelting and refining com- 
 pany where it is mixed with other bullion and concentrates of 
 different metallic contents under a contract by which the smelt- 
 ing and refining company is to return the equivalent of the 
 metallic contents of such ore previously determined by assay, 
 less commissions and other allowable charges, constitutes a 
 sale and not a bailment. Only so much of the metals as had 
 been redelivered by the refining company at the close of the 
 taxable year belonged to and should have been included in the 
 inventory of the taxpayer as of that date.^^ 
 
 Where in 1919 an American corporation advanced a sum of 
 money to an English corporation for the purpose of enabling 
 the English corporation to purchase raw material to manu- 
 facture certain articles which the American corporation had 
 contracted to sell for the English corporation and at the time 
 the American corporation took its inventory, December 1, 1919, 
 the articles had not been received by it, such advance to the 
 English corporation was considered a loan, and the value of the 
 
 22 Reg. 45, Arts. 24, 1581; T. D. 2609. 
 
 23 S. 1373, T. B. 20-20-930. The general rule is that when by the terms of 
 the contract under which property is delivered by an owner to another, the 
 latter is under no obligation to return the specific property either in Its 
 identical form or in some other form in which its identity may be traced, but 
 is authorized to substitute something else in its place, either money or some 
 other equivalent, the transaction is not a bailment, but is a sale or exchange. 
 (Austin V. Seligman, 18 Fed. 519; Powder Co. v. Burkhardt, 97 U. S. 110; 
 Woodward v. Semans, 125 Ind. 330, 25 N. E. 444; Buffum v. Merry, 4 Fed. 
 Cas. 2112.) 
 
INCOME FROM BUSINESS, TRADE OR COMMERCE 391 
 
 claim could not be -inventoried at its depreciated value ov^^ing to 
 the decline in exchange.^'' 
 
 The net income of a person engaged in the business of propa- 
 gation and culture of oysters can not be properly computed upon 
 the basis of inventories.^^ 
 
 A taxpayer, engaged in the real estate business, is not per- 
 mitted to inventory real estate which is held for sale for the 
 purpose of calculating net income subject to income tax.^^ 
 
 In 1918 the United States army commandeered certain quanti- 
 ties of canned goods subject to price fixing and allotment by the 
 United States food administration. In one of these cases a tenta- 
 tive price (subsequently increased) was fixed by the food ad- 
 ministration, shipments were to be made subject to am initial 
 inspection and the government had until July 1, 1919, to make 
 final inspection as to quantity. The taxpayer guaranteed the 
 goods against "spoils" and "swells" until July 1, 1919. Spoiled or 
 swelled goods were to be held subject to the seller's order. The 
 taxpayer made all the shipments in 1918 and the goods were 
 paid for subject to the above guarantee. In May, 1919, a certain 
 portion of the goods, on inspection, was found to be spoiled, 
 and in order to finally dispose of the matter without great ex- 
 pense and loss, it was agreed in a bill of re-sale, executed by 
 the representatives of the army and the taxpayer, that the tax- 
 payer should take back the goods which it had delivered and pay 
 to the United States the provisional price for each case, less 
 certain deductions by way of allowance to cover the cost of new 
 cases, recasing, relabeling, etc. The taxpayer claimed an ad- 
 justment of 1918 taxes based upon the rejection of canned goods 
 sold to the army in 1918, by reducing the rejected goods to a 
 valuation of cost as at December 31, 1918. It was held, however, 
 that the resale to the taxpayer at the original price, less certain 
 definite concessions, was in substance a compromise sale and 
 a new transaction. As of December 31, 1918, the goods in ques- 
 tion were not the property of the taxpayer, they had been shipped 
 out by him and he was eventually paid in accordance with the 
 terms of the purchase. This stock, therefore, could not be con- 
 sidered as a part of the inventory of the taxpayer as of December 
 31, 1918, particularly since it was shown that all of the goods 
 purchased by the governmemt under these contracts had not been 
 returned to the taxpayer or accounted for. The taxpayer had 
 an opportunity in the taxable year 1919 to determine his loss by 
 
 24 0. D. 541, T. B. 24-20-994. 
 
 25 O. D. 684, T. B. 42-20-1240. 
 
 26 O. D. 848, T. B. 12-21-1517. 
 
392 FEDERAL INCOME TAX 
 
 a subsequent sale or other disposition of the goods so bought 
 back from the government.^'^ 
 
 Cotton Merchants and Dealers in Grain. Cotton mer- 
 chants and dealers in grains and its products have contended 
 for such a modification in the regulations with regard to in- 
 ventories as vs^ill permit them to include in, or make a part of, 
 their inventories "hedges", or transactions in "futures" which 
 are recognized practices in their businesses and which transac- 
 tions are entered into, it is claimed, for the purpose of stabiliz- 
 ing the cost of the commodities in which they deal and to remove 
 their operations from the realm of speculation. These "hedges" 
 are transactions in which contracts are made for the purchase 
 or sale t)f these commodities for delivery at some time in the 
 future, a profit or loss being realized at the time the delivery is 
 made, either actually or constructively, but not before then. In 
 the case of cotton merchants, these "hedges" are always sales 
 contracts for the future delivery of cotton made at the time and 
 to the same extent that "spot cotton" is actually purchased. But 
 in the case of merchants dealing in grain and its products, these 
 "hedges" consist of contracts for purchases to be received at 
 some future time as well as for sales for future delivery. 
 
 The modifications of the existing regulations for which the 
 various taxpayers have contended are reducible to the following 
 general propositions: 
 
 1. To add to the value of the physical inventory : 
 
 (a) The value, at "cost" or "cost or market, whichever is 
 lower," of all commodities purchased to be received at some 
 future date, the title to which does not pass to the taxpayer until 
 the commodities have been reduced to physical possession ; 
 
 (b) Potential losses, not realized within the taxable year, on 
 transactions in futures. 
 
 2. To deduct from the value of the physical inventory: 
 
 (c) The value, at "cost" or "cost or market, whichever is 
 lower," of all commodities sold to be delivered at some future 
 date, the title to which does not pass to the purchaser until 
 the date of delivery, irrespective of whether or not such com- 
 modities are in the possession of the taxpayer at the date of the 
 contract for sale; 
 
 (d) Potential gains, not realized within the taxable year, on 
 transactions in futures. 
 
 In the case of (a) above, the department holds that since the 
 taxpayers do not own the commodities in question, but have 
 only a contract for their purchase, they cannot properly include 
 
 27 A. R. M. 129, T. B. 24-21-1683. 
 
INCOME FROM BUSINESS, TRADE OR COMMERCE 393 
 
 such property in an inventory as of that date. This also dis- 
 poses by analogy of (c) , for if commodities purchased, but not 
 received, cannot be included in an inventory where title has not 
 passed, it is clear that under the same circumstances and condi- 
 tions, commodities sold but not delivered cannot be deducted 
 therefrom. With regard to (b) and (d) above, potential gains 
 or losses on transactions in "futures" cannot form an integral 
 part of the cost of the commodity in which the taxpayer deals. 
 The actual purchase of a commodity, and the simultaneous sale 
 of the same quantity of the commodity for future delivery, do 
 not constitute one transaction. They are two entirely separate 
 and distinct transactions, neither one of which can have any 
 effect upon the other. If the commodity purchased is on hand 
 at the end of the taxable year it forms a part of the physical in- 
 ventory in which it should be included at "cost" or "cost or mar- 
 ket, whichever is lower," and whatever potential loss or gain may 
 be shown at the time of the inventory in the "futures" transac- 
 tion does not affect that cost in the slightest degree. The fact 
 that these transactions may be simultaneous does not make 
 them identical, since the commodity may be retained and the 
 "future" contract "covered" or closed out or the commodity 
 may be disposed of and the "future" contract still remain open 
 without any effect whatever upon the other transaction of each 
 pair. There is, in fact, no profit or loss in the purchase of a com- 
 modity until the transaction has been completed by the sale of 
 that particular commodity, nor is there any profit or loss in a 
 transaction in "futures" until the transaction has actually been 
 closed. 
 
 The department, therefore, holds: 
 
 (1) That transactions in "futures" unclosed at the end of the 
 taxable year form no integral part of the cost of the com- 
 modity included in the taxpayer's physical inventory ; and 
 
 (2) That the basis of (a) cost, or (b) cost or market, which- 
 ever is lower, is the only admissible basis for the valuation of 
 a physical inventory in the computation of statutory net income 
 for income tax purposes.^^ 
 
 28 A. R. M. 100, T. B. 49-20-1331. It has been held, however, that dealers 
 in cotton and grain and in such other commodities as are dealt in in similar 
 manner may, for the purpose of determining taxable income, incorporate in 
 their balance sheets at the close of any taxable year such open "future'' con- 
 tracts to which they are parties as are "hedges" against actual "spot" or 
 cash transactions, provided that no particularly speculative transactions in 
 "futures" not offset by actual "spot" or cash transactions may be so included 
 or taken into the taxpayer's account in any manner until such transactions 
 are actually closed by liquidation (A. R. M. 135, T. B. 31-21-1750). 
 
394 FEDERAL INCOME TAX 
 
 Valuation of Inventories. Inventories must be valued at 
 (a) cost or (b) cost or market, whichever is lower. Whichever 
 basis is adopted must be applied consistently to the entire in- 
 ventory. A taxpayer may, regardless of his past practice, adopt 
 the basis of cost or market, whichever is lower, for his 1920 
 inventory, provided a disclosure of the fact and that it rep- 
 resents a change is made in the return. Thereafter changes can 
 be made only after permission is secured from the commissioner. 
 Inventories should be recorded in a legible manner, properly 
 computed and summarized, and should be preserved as a part of 
 the accounting records of the taxpayer. Goods taken in the in- 
 ventory which have been so intermingled that they can not be 
 identified with specific invoices will be deemed to be the goods 
 most recently purchased.^^ 
 
 The rule applicable to all industries is that inventories should 
 be taken on the basis "(a) cost, or (b) cost or market, which- 
 ever is lower." It is recognized that in some industries the' 
 actual cost of production can not be ascertained accurately, and 
 it is therefore necessary to approximate a cost value by using 
 selling market prices as a starting point and reducing such 
 selling market prices in each case by an amount sufficient to 
 eliminate the element of profit. This rule is applicable to the 
 inventories of farmers and stockmen, and is widely used in many 
 lines of industry, notably in those types of mining and manu- 
 facturing in which a product of more than one grade or more 
 than one kind is obtained by a common operation.^" 
 
 If the actual accrued charges which must eventually be paid 
 by a taxpayer, either directly or indirectly through credits to 
 customers, can be accurately determined and applied to the 
 goods actually in stock at any specified date, such charges if 
 set on the books as an existing liability, form proper additions 
 to the cost price of the goods then on hand ; but this additional 
 value must be determined by charges actually paid or to be paid 
 and cannot be arrived at by the application of any empirical 
 formula and cannot include interest, except on money actually 
 borrowed for the purpose of carrying the goods, nor any ap- 
 preciation in value of the goods.^^ 
 
 A taxpayer who for many years has elected to take inventory 
 only every two years, and used an estimated inventory in the 
 return for the intermediate year, making any necessary adjust- 
 
 29 Reg. 46, Art. 1582, as amended by T. D. 3108, T. B. 1-21-1382; A. R. R. 
 517, T. B. 22-21-1667. 
 
 30 O. 844, T. B. 6-19-268. 
 
 31 A. R. R. 140, T. B. 23-20-982. 
 
INCOME FROM BUSINESS, TRADE OR COMMERCE 395 
 
 ments in the return for the following year when an actual 
 inventory was taken, may not apportion his total earnings for 
 the two years 1917 and 1918 equally between such years for 
 income tax purposes.^^ After the year 1918 taxpayers will not 
 be permitted to adopt one period for inventorying and closing 
 their books applicable to one part of their business and a differ- 
 ent period applicable to another part thereof .^^ 
 
 Liquor dealers were not permitted to omit from inventory as 
 at December 31, 1919, Stocks of liquor then on hand with the 
 understanding that if the liquor was subsequently disposed of 
 for value the total value received would be returned as income 
 of the year in which the disposition was made.^* 
 
 A dealer may value used or secondhand automobiles included in 
 a closing inventory on the basis of cost or market, whichever is 
 lower, if he can furnish satisfactory evidence of the market 
 value of such secondhand automobiles at the date of the in- 
 ventory ; otherwise they must be valued at cost.^^ 
 
 Change from Cost or Market to Cost. When request is 
 made for permission to change from cost or market, whichever 
 is lower, to cost for pricing inventories at the close of 1919, the 
 permission will be granted since it will have no effect on the tax 
 if market was above cost at the close of 1918, and will increase 
 the tax if market was lower than cost at that date. The permis- 
 sion will, of course, be upon the condition that the new method be 
 followed consistently thereafter. Under the tax laws prior to the 
 Revenue Act of 1918, no specific reference was made to inven- 
 tories, but under the regulations inventories were required to be 
 taken at cost for every year until December 19, 1917.^^ As 
 this date was only a few days prior to the end of the calendar 
 year 1917, probably few taxpayers took advantage of the option 
 to inventory at cost or market, whichever was lower, in making 
 their 1917 return. The Revenue Act of 1918 specifically granted 
 authority to provide for the taking of inventories on any basis 
 consistent with sound commercial practices and which would 
 reflect true income, and the regulations issued under that law 
 authorized a change to cost or market, whichever was lower. 
 In many lines of industry, however, market was above cost and 
 inventories were consequently priced at cost. Where it can be 
 shown that the market at'the close of 1918 or 1919 was above 
 
 32 0. D. 133, T. B. 4-19-211. 
 
 33 O. D. 289, T. B. 23-19-541. 
 
 34 A. R. M. 33, T. B. 9-20-765. 
 
 35 O. D. 888, T. B. 17-21-1590. 
 
 36 See T. D. 2609. 
 
396 FEDERAL INCOME TAX 
 
 cost the taxpayer may, for the succeeding year, elect to take 
 his inventory upon a cost or market basis, whichever is lower, 
 provided that such practice is consistently adhered to in the 
 future. But where market at the close of 1918 or 1919 was 
 below cost and the taxpayer thus had an opportunity to take 
 inventories at a figure lower than cost, he will not be permitted 
 to change from cost to cost or market, whichever is lower, where 
 it appears that the principal reason for the change is the re- 
 duced tax payable. If, however, permission is granted in any 
 of the above cases to change the method of pricing inventory, 
 it is unnecessary to file any amended returns for the past years 
 or make any change in the inventory by reason of the changed 
 method of pricing. Where a change is necessitated because in 
 the past a basis has been used not permitted by the regulations 
 now nor then, amended returns on one or the other of the two 
 bases now authorized from 1915 to date should be filed. If 
 the adjustments due to the amendment of returns so affect the 
 taxpayer as to occasion an inequality in the tax prior to the 
 year 1915, such inequality may be remedied in the 1915 return 
 by the deduction from or addition to the tax accruing in that 
 year of an amount equal to the net amount overpaid or under- 
 paid in prior years, such amount to be determined by filing 
 with the return for 1915 a composite return for all prior years 
 accompanied by a statement showing the total adjustment for 
 each of the years and the net for the entire period.^'' 
 
 Valuation of Inventories on Basis of Average Cost or 
 Average of Market Prices. The valuation of inventories on 
 the basis of average cost^*' or average of market prices extending 
 over a period of years ^^ is not permitted by statute. The aver- 
 age cost method may be briefly described as follows : Materials 
 purchased during the month are added both as to quantity and 
 cost to the quantity and cost balance brought forward from the 
 previous month, and an average cost at the close of the month 
 is computed by dividing the total quantity into the total money 
 figures. This average is then applied to the quantity of material 
 used for manufacture during the month, and the amount so 
 computed is credited to the material account. 
 
 The starting point in the computation of annual income must 
 be the sales made during the year. ' It is the profits or losses 
 upon these sales that are to be computed if any actuality is to 
 
 37 A. R. M. 38, T. B. 13-20-804, as modified by A. R. M. 85, T. B. 43-20- 
 1273; A. R. R. 506, T. B. 20-21-1631. 
 
 38 T. B. R. 48, T. B. 16-19-457. 
 
 39 T. B. M. 31, T. B. 6-19-269. 
 
INCOME FROM BUSINESS, TRADE OR COMMERCE 397 
 
 be attained. To do otherwise is to invite speculation and con- 
 fusion. To give annual profits and losses meaning and integrity 
 they must be arrived at by a logical computation which rec- 
 ognizes that each year acquires from its predecessor certain 
 potentialities and turns over to the successor the property as it 
 exists at the end of the year, and the basis of valuation at the 
 beginning and end of the year must be reasonably uniform. 
 If the starting point in the computation of annual profit or loss 
 is the sales made during the period, the next step is the computa- 
 tion of the amount that is to be charged against such sales in 
 respect of the cost of the goods that have gone into the sales. 
 This must include (1) the cost of the goods included in the 
 sales, less any portion of such cost which may have in effect, 
 through a previous inventory based upon a market lower than 
 cost, been charged against the sales of a previous year, and (2) 
 where as a consistent policy inventories are taken upon the basis 
 of market when it is less than cost, such further amount, if 
 any, as may be required to reduce the goods in the inventory to 
 the level of a lower present market. To charge against the sales 
 of a year a sum less than the total found under (1) and (2) 
 above will show as profits an amount larger than the profits 
 actually realized upon the sales of the period. In a business 
 requiring goods to be carried for lengthy periods and where an 
 average method of inventory valuation is used, this overstate- 
 ment of profits will occur whenever the current market is declin- 
 ing, while on an advancing market the profits on the actual sales 
 of the year will be understated. When the market is stable the 
 average method will reflect with approximate accuracy the true 
 profits, and in a business in which the turnover is rapid, the 
 effect of such a method upon the computation of annual income 
 is small as compared with a business in which it is necessary 
 to carry goods, such as raw materials, for long periods. In such 
 cases, so long as the annual profits are stated with substantial 
 accuracy, taxpayers should not be required to make inventory 
 changes which are annoying to them and which are without 
 commensurate importance to the government. The average cost 
 method of inventorying may, however, have an important effect 
 upon taxation. The computation of net income upon such a basis 
 results in an assignment of income to a year, not upon the basis of 
 the transactions of the year, but upon the basis of transactions 
 part of which spread over more than a year. To be strictly logi- 
 cal, such a method should, moreover, include a similar averaging 
 of sales. This would tend toward uniformity of annual profits 
 and might, in fact, reflect the profits as accurately as the partial 
 
398 FEDERAL INCOME TAX 
 
 average method, but it would be a far departure from an actual 
 computation. An annual accounting period is a fundamental re- 
 quirement, and every computation of taxable net income must be 
 made in conformity therewith. This the average cost inventory 
 method fails to do, and its use cannot be approved as meeting the 
 statutory requirement.*" 
 
 Base Stock, Minimum and Cushion Methods. The "base 
 stock," "minimum" or "cushion" methods of taking inventory 
 are not permitted by the statute. According to the base stock 
 method of taking inventories a manufacturer or dealer values at 
 the same price year after year the minimum quantity of goods 
 which he must have on hand at all times. This base stock method 
 has not been sanctioned as an established accounting practice by 
 the test of general acceptation or the test of time. The present in- 
 come tax system is based upon an annual accounting period. The 
 object of an inventory is to assign to an annual accounting period 
 its profits and losses. The effect of the base stock inventory 
 method is to assign all profits and losses in respect of the mini- 
 mum inventory to the year in which such inventory is liquidated. 
 This result is accomplished through ignoring sales and exchanges 
 of individual items of the inventory and treating the minimum 
 inventory as a unit. Each sale or exchange of property for other 
 property having a market value is, however, in fact a realization 
 of taxable profit or deductible loss in the year in which it occurs 
 and a method of accounting which disregards such realization 
 does not truly reflect income. 
 
 The usual practice and general object of the basic method is to 
 get the base or constant stock at a figure below cost and hold it 
 there. It arises not from a desire to measure capital and net 
 income accurately, but to play safe, stabilize profits, and provide 
 reserves against possible future losses. It is a result of essential- 
 ly the same policy and theory which leads bankers to write down 
 their buildings to a nominal figure and to accumulate hidden re- 
 serves. 
 
 In substance, the base stock inventory results in offsetting an 
 inventory gain of one year against an inventory loss of another 
 rather than in assigning to each year its true gain or loss. The 
 fact that the Revenue Acts of 1918 and 1921 in their provisions 
 with respect to inventory loss and net loss authorize in some 
 cases the carrying of a loss realized in one year into accounts 
 
 40 T. B. R. 48, T. B. 16-19-457. A monthly average cost method has been 
 permitted in the case of tobacco companies taking inventories by that 
 method, no other method approaching theoretical accuracy being practicably 
 possible. (A. R. R. 18, T. B. 3-20-680.) 
 
INCOME FEOM BUSINESS, TRADE OR COMMERCE 399 
 
 of another year is some indication that Congress did not intend 
 that the ordinary inventory provisions should be construed to 
 authorize such a transfer. Furthermore, the argument that the 
 application of the ordinary rules as to inventories results in hard- 
 ship is met by the fact that Congress has authorized relief against 
 hardship through the medium of these inventory and net loss 
 provisions in cases which are within the terms thereof.*^ 
 
 The general conclusion that the base stock method does not 
 conform to the requirements of the law, applies to "goods taken in 
 the inventory which have been so intermingled that they can not 
 be identified with specific invoices." Such goods will be deemed to 
 be the goods most recently purchased. This presumption or in- 
 ference is warranted because in the absence of evidence as to the 
 actual fact it is more nearly true than any other. Goods taken 
 in the inventory which have been so intermingled that they can- 
 not be identified with specific invoices will not be deemed to be 
 the goods included in the minimum inventory. 
 
 In lieu of the base stock method, it was suggested that inven- 
 tories be valued on a moving average basis for a period of five 
 years, more or less. According to this method one-fifth, for ex- 
 ample, of the inventory would be deemed to be the goods most 
 recently purchased and the balance the goods on hand at the 
 beginning of the year. Another method proposed was that the 
 goods in the inventory be deemed to be the earliest rather than 
 the latest purchases. These methods have been held open to the 
 same objections as the base stock method.*^ 
 
 Inventories at Cost. Cost means : (1) In the case of mer- 
 chandise purchased, the invoice price less trade or other discounts 
 except strictly cash discounts approximating a fair interest rate, 
 which may be deducted or not at the option of the taxpayer pro- 
 vided a consistent course is followed. To this net invoice price 
 should be added transportation or other necessary charges in- 
 curred in acquiring possession of the goods; (2) in the case of 
 merchandise produced by the taxpayer, (a) the cost of raw ma- 
 terials and supplies entering into or consumed in connection with 
 the product, (b) expenditures for direct labor, (c) indirect ex- 
 penses incident to and necessary for the production of the par- 
 ticular article, including in such indirect expenses a reasonable 
 proportion of management expenses, but not including any cost 
 
 *l T. B. R. 65, T. B. 22-19-531. The British Committee on Financial Risks 
 attaching to the holding of trading stocks, after an investigation and analy- 
 sis of this subject, decided against the base stock method, in a report submit- 
 ted December 5, 1918. 
 
 42 T. B. R. 65, T. B. 22-19-531. 
 
400 FEDERAL INCOME TAX 
 
 of selling or return on capital whether by way of interest or 
 profit. In any industry in which the usual rules for computation 
 of cost of production are inapplicable, costs may be approximated 
 upon such basis as may be reasonable and in conformity with es- 
 tablished trade practice in the particular industry.*^ 
 
 Taxpayers who as a matter of settled practice do not deduct 
 cash discounts from purchases, but who take the merchandise 
 purchased into their inventories at invoice price (less trade or 
 other discounts other than strictly cash discounts) , carrying the 
 discounts in a discount account, may not, in valuing their closing 
 inventories, deduct from the invoice price of the merchandise 
 on hand at the close of the taxg,ble year the average amount of 
 cash discount received on such merchandise; neither may the 
 amount of cash discount earned, to be reported as income, be 
 decreased by an amount representing the estimated cash dis- 
 count received on merchandise on hand at the close of the year.** 
 
 Inventories at Market. Under ordinary circumstances, 
 "market" means the current bid price prevailing at the date of 
 the inventory for the particular merchandise in the volume in 
 which ordinarily purchased by the taxpayer. This method of 
 valuation is applicable in the cases (a) of goods purchased and 
 on hand, (b) of basic elements of cost (materials, labor, and bur- 
 den) in goods in process of manufacture, and (c) of finished 
 goods on hand ; exclusive, however, of goods on hand or in process 
 of manufacture for delivery upon firm sales contracts at fixed 
 prices entered into before the date of the inventory, which 
 goods must be inventoried at cost. Where no open market quo- 
 tations are available, the taxpayer must use such evidence of a 
 fair market price at the date or dates nearest the inventory as 
 may be available, such as specific transactions in reasonable vol- 
 ume entered into in good faith, or compensation paid for can- 
 cellation of contracts for purchase commitments. Where, owing 
 to abnormal conditions, the taxpayer has regularly sold such 
 merchandise at prices lower than the current bid price as above 
 defined, the inventory may be valued at such prices, and the 
 correctness of such prices will be determined by reference to the 
 actual sales of the taxpayer for a reasonable period before and 
 after the date of the inventory. Prices which vary materially 
 from the actual prices so ascertained will not be accepted as 
 reflecting the market and the penalties prescribed for filmg 
 false and fraudulent returns may be asserted. Goods in process 
 
 43 Reg. 45, Art. 1583. 
 
 44 0. D. 326, T. B. 28-19-610. 
 
INCOME FROM BUSINESS, TRADE OR COMMERCE 401 
 
 of manufacture may be valued for purposes of the inventory 
 on the lowest of the following bases: (1) The replacement or 
 reproduction cost prevailing at the date of the inventory ; or (2) 
 the proper proportionate part of the actual finished cost; or, 
 under abnormal conditions, (3) the proper proportionate part 
 of the sales price of the finished product, account being taken 
 in all cases of the proportionate part of the total cost of basic 
 elements (materials, labor, and burden) represented in such 
 goods in process of manufacture at the stages at which they 
 are found on the date of the inventory. The inventories of tax- 
 payers on whatever basis taken will be subject to investigation 
 by the Commissioner, and the taxpayer must satisfy the Com- 
 missioner of the correctness of the prices adopted. He must 
 be prepared to show both the cost and the market price of each 
 article included in the inventory. It is recognized that in the 
 latter part of 1918, by reason among other things of govern- 
 mental control not having been relinquished, conditions were ab- 
 normal and ih many commodities there was no such scale of trad- 
 ing as to establish a free market. In such a case, when a market 
 was established during the succeeding year, a claim may be filed 
 for any loss sustained.*^ 
 
 Where a corporation, in taking its inventory on December 31, 
 1918, on the basis of cost or market, whichever was lower, used 
 as the basis for such inventory the "asking prices" as of the 
 date of the inventory, the department has held that the com- 
 pany may amend its inventory by using instead of "asking 
 prices", the "fair bid prices." If at the end of 1918 abnormal 
 conditions existed and there was, in fact, no market for such 
 goods, the taxpayer may use as the basis for his inventory his 
 actual sales for a reasonable period before and after the date 
 of the inventory. It is not permissible, where no actual market 
 exists, to value the inventory by prices fixed subsequent to the 
 close of the taxable year.*^ 
 
 Inventories by Dealers in Securities. A dealer in secu- 
 rities, who in his books of account regularly inventories unsold 
 securities on hand either (a) at cost or (b) at cost or market, 
 whichever is lower, may make his return upon the basis upon 
 which his accounts are kept; provided that a description of the 
 method employed shall be included in or attached to the return, 
 that all the securities must be inventoried by the same method, 
 and that such method must be adhered to in subsequent years, 
 
 15 T. D. 3109, T. B. 1-21-1383, amending Reg. 45, Art. 1584, previously 
 amended by T. D. 3047, T. B. 32-20-1114. 
 46 A. R. R. 487, T. B. 18-21-1609. 
 
402 FEDERAL INCOME TAX 
 
 unless another be authorized by the Commissioner.*^ For the 
 purpose of this rule, a dealer in securities is a merchant of securi- 
 ties, whether an individual, partnership or corporation, with an 
 established place of business, regxilarly engaged in the purchase 
 of securities and their resale to customers, that is, one who as 
 a merchant buys securities and sells them to customers with a 
 view to the gains and profits that may be derived therefrom. 
 If such business is simply a branch of the activities carried 
 on by such person, the securities inventoried as here provided 
 may include only those held for purposes of resale and not for 
 investment.^8 a bank or other institution having a regularly 
 established department for the merchandising of securities, even 
 though that department is subordinate in importance to other 
 departments, is entitled to the same benefit of using the basis 
 above provided of inventorying securities acquired and held for 
 resale, as one who is solely a dealer in securities. Insofar as 
 the bank or other institution carries on, with an established 
 place of business, a department for the merchandising of securi- 
 ties, it is in respect of such department treated in the same 
 way as any other security merchant.*^ Taxpayers who buy and 
 sell or hold securities for investment or speculation, and not in 
 the course of an established business, and officers of corporations 
 and members of partnerships, who in their individual capacities 
 buy and sell securities, are not dealers in securities within the 
 meaning of this rule.^" 
 
 An inventory method of atcounts may be availed of by a 
 dealer in securities only as to stocks owned by the dealer at the 
 end of the year. In the process of a "short" sale legal title to 
 stock is transferred from the lender to the borrower and from 
 the borrower to the buyer, and then later from the borrower 
 to the lender. The "short" sale dealer having no stock in his 
 possession to which he has title, consequently has no stock 
 which he can inventory at the end of the year; as soon as title 
 was secured from the lender, it was passed on to the buyer. 
 Since the statute does not authorize the inventorying of liabili- 
 ties even though the liability is one to return specific property 
 in kind on demand and inasmuch as the word "inventory" in its 
 commonly accepted commercial meaning refers to the inventory- 
 
 *7 The rules as to valuation of inventories stated in an earlier paragraph, 
 are applicable to dealers in securities. (M. 2703, T. B. 7-21-1442). 
 *S Reg. 45, Art. 1585. 
 
 49 Letter from treasury department dated June 28, 1919; I. T. S. 1921, 
 H 2717. 
 
 50 Reg. 45, Art. 1585. 
 
INCOME FROM BUSINESS, TRADE OR COMMERCE 403 
 
 ing of assets only, a dealer in securities may not inventory 
 stock sold "short" as of the end of the taxable year. Conse- 
 quently, where a taxpayer has "borrowed" stock in order to 
 make a "short" sale the gain or loss arising from the transaction 
 cannot be accrued upon the books of the taxpayer at the close 
 of his taxable year by treating as an offsetting obligation the 
 market value of the stock sold "short" as of that date; the gain 
 or loss is determined when the amount of stock sold "short" is 
 repurchased for return to the lender and the transacti^on closed.^^ 
 
 Inventories of Lumber Manufacturers. Because of the 
 impracticability of determining accurately the costs properly 
 assignable to each species, grade, and dimension of lumber 
 making up the product of the mill, lumber manufacturers may 
 use as a basis for pricing inventories the average cost to the 
 manufacturer of producing the inventoried products during 
 the taxable year for which the return of net income is made. 
 If the quantity of lumber on hand at the time of inventory is 
 greater than the total quantity of lumber produced during the 
 current taxable year, it is evident that the excess stock has 
 been carried over from the previous year's production, and 
 such excess shall be valued at the average cost of production 
 for the preceding taxable year. A taxpayer who regularly 
 allocates in his books of account such average cost to the 
 different kinds and grades of lumber in proportion to the sell- 
 ing value of such kinds and grades may, subject in each case 
 to the approval of the Commissioner upon audit of the returii, 
 make his returns of net income on that basis. The term lum- 
 ber manufacturer, as thus used, means a person who manufac- 
 tures lumber from logs, as distinguished from a remanufac- 
 turer of lumber.52 
 
 Inventories of Retail Dry Goods Merchants. Retail dry 
 goods dealers who employ the "retail method," will be permitted 
 to make their returns upon that basis, provided (a) that the use 
 of such method is designated upon the return, (b) that accurate 
 accounts are kept, and (c) that such method be adhered to in 
 subsequent years, unless a change is authorized by the Com- 
 missioner.53 Other organizations and individual stores who con- 
 duct retail establishments and follow essentially the retail method 
 of dry goods stores, may be allowed this method upon applica- 
 tion to the Commissioner. While in its original ruling on this 
 
 51 S. 1179, T. B. 24-19-558. 
 
 52 T. D. 3024, T. B. 24-20-995. 
 
 53 T. D. 3058, T. B. 35-20-1162. 
 
404 FEDERAL INCOME TAX 
 
 subjects* the treasury department designated the "retail 
 method" a "cost" method of valuing inventories, it is recognized 
 that while on a constant or rising market such method is approxi- 
 mately a "cost" basis, on a falling market it results in a reduc- 
 tion to "cost or market, v^hichever is lov7er."S5 The "retail 
 method" consists in computing the "cost" of goods on hand from 
 the "percentage of purchase mark-up" and the "retail value" 
 of goods on hand. A taxpayer employing the "retail method" 
 of valuing inventories should maintain and preserve in perma- 
 nent form, for the inspection of internal revenue officers, the 
 accounts and records of each year, together with a schedule of 
 all mark-downs in each department, and such mark-downs should 
 not be included in the computation of the retail value of goods 
 on hand unless the goods so marked down have been actually 
 sold.s^ There must be a permanent form of recording by de- 
 partments, purchases showing the firm name, date of invoice, 
 invoice cost and retail sales, stock, etc. It must be borne in mind 
 that under no circumstances will arbitrary standard percentages 
 of purchase mark-up be allowed in the determination of the 
 "cost" or "cost or market" value of retail inventories, but that 
 such percentages must be the purchase mark-up percentage dis- 
 closed by the department records of the fiscal period for which 
 the return is made.^' The following general plan of taking an 
 inventory by the "retail method" will, it is believed, be found 
 readily adaptable to the requirements of most retail dry goods 
 dealers : 
 
 (A) The percentage of purchase mark-up is computed as 
 follows : The value of all merchandise, as received, is recorded 
 by departments at two prices, (a) invoice cost plus transpor- 
 tation, and (b) original retail sale price. These cost and retail 
 values are accumulated as recorded during the year. The total 
 retail value .minus the total cost value equals the total purchase 
 mark-up, which divided by the total retail value gives the per- 
 centage of purchase mark-up.^^ The words, "the value of all 
 merchandise as received," is inclusive of inventory at the be- 
 ginning of the period. The purchase mark-up must be computed 
 as follows: 
 
 54 Id. 
 
 55 Letter from treasury department dated January 21, 1921; I. T. S. 1921, 
 
 1|2681. 
 
 56 T. D. 3058, T. B. 35-20-1162. 
 
 5T Letter from the treasury department dated January 21, 1921; I. T. S., 
 1921, 112681. 
 
 58 T. D. 3058, T. B. 35-20-1162. 
 
INCOME FROM BUSINESS, TRADE OR COMMERCE 405 
 
 Cost: Inventory at cost at beginning: purchases at cost; 
 transportation. Retail: Inventory at sales price: purchases at 
 sales price. Within the meaning of this ruling, it is proper to 
 include as a part of "original retail sales price" the actual in- 
 crease in the original sales price which has been brought about 
 by market conditions or by incorrect pricing when the goods were 
 put into stock. For the convenience of the examining officer, 
 a special form should be provided ; complete information by items 
 of the increase from the original retail must be shown; refer- 
 ence, if possible, must be made to the original invoice ; entry and 
 the reason for the increase freely explained. All such amended 
 retail increases must be approved by the buyer of the depart- 
 ment and merchandise manager or other responsible official and 
 they should be so ffied that quick reference to them may be made. 
 Entry of such increased retail properly belongs in department 
 purchase books, although it may be set up as a separate item 
 in the accumulated records of the department. The same forms 
 that are used to record such price increases should not be used 
 for mark-downs and in no instances will a store be allowed to 
 include as retail increases a mark-up which has been taken as a 
 correction or cancellation of a mark-down; such mark-up must 
 be regarded and treated in all cases as opposite to mark-down. ^^ 
 
 (B) The retail value of goods oh hand is computed as fol- 
 lows: A record is kept of (a) the amounts of all sales at 
 retail, (b) any variations from the inventory prices of the 
 preceding year of goods carried over from that year, and (c) any 
 variations from the original sale prices, such as subsequent 
 mark-ups or mark-downs. The retail value of the opening in- 
 ventories plus the retail value of the purchases (plus or minus 
 the algebraic sum of all subsequent mark-ups, and mark-downs 
 in the case of goods actually sold) minus the retail value of the 
 sales equals the retail value of the book inventory of goods on 
 hand. Physical inventories by departments are taken of goods 
 on hand at retail at the close of the taxable year, and the retail 
 value of the book inventory of goods on hand is adjusted accord- 
 ingly. 
 
 (C) The cost of goods on hand is computed by subtracting 
 from 100% the percentage of purchase mark-up, which gives 
 the percentage of cost, and multiplying the retail value of 
 goods on hand by such percentage of cost.®" The above deci- 
 
 59 Letter from treasury department dated January 21, 1921; I. T. S. 1921, 
 1j 2681. 
 
 60 T. D. 3058, T. B. 35-20-1162. 
 
^06 FEDERAL INCOME TAX 
 
 sion is not intended to disturb the procedure in stores which 
 have properly handled mark-downs, but instances where arbitary 
 reductions from retail values have been made because of the 
 desire to provide for depreciation and obsolescence with no actual 
 offering to the public of the goods on which the mark-downs 
 were claimed, cannot be recognized. Under no circumstances 
 will a store be allowed to depreciate its stock in any way except 
 by the offering of it to its customers at such reduced prices. 
 The procedure of stores in regard to mark-downs will be deemed 
 proper if in any fiscal year or period of that year the goods so 
 marked down are in proportion to current sales, stock on hand, 
 to mark-downs of preceding months of preceding year, or if 
 evidence can be submitted as to market changes which have 
 forced a reduction in retail prices necessary to bring about a 
 parity with the selling price of the same goods which have been 
 purchased or could be purchased at a reduced cost. A store 
 which has employed this retail method in the past, may now 
 specify in the return that such method is used, as a basis of 
 valuing inventories, regardless of the fact that in past years it 
 reported on a "cost" or "cost or market, whichever is lower" 
 basis. However, the use of the retail method will not be recog- 
 nized unless it has been correctly followed throughout the entire 
 fiscal or calendar year period for which the return is made.^^ 
 
 61 Letter from treasury department dated January 21, 1921; I. T. S. 1921, 
 IT 2681. 
 
CHAPTER 17 
 
 INCOME FROM SALES OR DEALINGS IN PROPERTY; QUASI CAPITAL 
 
 TRANSACTIONS 
 
 Both the present law and the Revenue Act of 1918 expressly 
 provide that gains, profits and income derived from sales or deal- 
 ings in property, whether real or personal, growing out of the 
 ownership or use of or interest in such property shall be tax- 
 able.i For some time after the enactment of the Sixteenth 
 Amendment there were many who argued that gains resulting 
 from an increase in capital or appreciation of capital assets 
 could not be taxed, at least where the owner was not engaged in 
 the business of dealing in such property, basing this contention 
 on a leading case construing the Income Tax Act of 1864.^ This 
 argument has been definitely set at rest by several recent deci- 
 sions of the United States Supreme Court, which held that such 
 gains were intended to be taxed by the Revenue Act of 1916 
 and could constitutionally be taxed.^ It was conceded by the 
 solicitor-general in these cases that gain or loss upon any 
 exchange of property was to be determined upon the basis 
 of cost or acquisition value and not value on March 1, 1913, the 
 gain or loss accruing before that date being excluded, however, 
 for the purpose of computing net income. This concession, 
 which became in effect a part of the decision of the Supreme 
 Court, necessitated the modification of all the regulations there- 
 tofore issued involving the consideration that gains, profits and 
 income accruing prior to March 1, 1913, were capital and so 
 exempt.* The regulations, as so modified under the 1918 Law, 
 establishing the basis for determining gain or loss upon an 
 exchange of property for property are discussed later in this 
 
 1 Revenue Act of 1921, § 213 (a) ; Revenue Act of 1918, § 213 (a) . 
 
 2 Gray v. Darlington, 15 Wall. 63. 
 
 3 Walsh V. Brewster, 41 Sup. Ct. Rep. 392, T. B. 16-21-1573; Goodrich v. 
 Edwards, 41 Sup. Ct. Rep. 390, T. B. 16-21-1572; Eldorado Coal Co. v. 
 Mager, 65 L. Ed. 449, T. B. 16-21-1571; Merchants Loan & Trust Co. v. 
 Smietanka, 41 Sup. Ct. Rep. 386, T. B. 16-21-1570; Darlington v. Mayer, 
 U. S. Dist. Ct., N. Dist. 111., affirmed by U. S. Supreme Court April 18, 1921, 
 see I T. S. 1921, % 2988. Taxpayers who omitted from gross income for 1920 
 or failed to make a disclosure of gains from the sale of capital assets have 
 been held guilty of negligence or fraud, but if a full disclosure was made no 
 negligence was imputed to the taxpayers. (M. 2791, T. B. 23-21-1674; 
 M. 2739, T. B. 14-21-1542.) 
 
 * This amendment was accomplished in large part by T. D. 3206, T. B. 
 33-21-1767. 
 
 407 
 
408 FEDERAL INCOME TAX 
 
 chapter. The basis so established by the treasury department 
 has now been written into the Revenue Act of 1921 as the gen- 
 eral rule for determining gain or loss upon an exchange of 
 property for property. The special rules embodied in the 1918 
 Law, with respect to property included in inventory and property 
 acquired by bequest, devise, or inheritance are in substance 
 preserved in the present law. One important change made by 
 the present law relates to the basis for determining gain or loss 
 when the property exchanged was acquired by gift. This change 
 is discussed below.^ 
 
 While the general basis for determining gain or loss upon 
 an exchange of property for property thus remains largely the 
 same under the present law as it was under the Revenue Act of 
 1918, the present law, in many important respects, modifies the 
 provisions of the 1918 Law upon this point. The general rule 
 under the 1918 Law as to when a gain or loss could be said to 
 occur indicates the first congressional recognition of the in- 
 congruities, hardships and absurdities involved in the taxation 
 of gains said to be realized and the deduction of losses claimed 
 to be sustained upon exchanges of property for property.^ The 
 most general of the modifications contained in the present law 
 is the provision that no gain or loss shall be recognized upon an 
 exchange of property for property unless the property received 
 in exchange has a "readily realizable market value." '^ Other 
 provisions involving substantial departures from the previous 
 law are : ( 1 ) The provision with regard to the exchange of prop- 
 erty held for investment, or productive use in trade or busi- 
 ness, for property of a like kind or use; and (2) the provisions 
 practically eliminating, the element of taxable profit or deduct- 
 ible loss upon the organization, reorganization, merger, and con- 
 solidation of corporations. The new statute also provides for 
 cases in which property of readily realizable market value and 
 property without such value are received upon an exchange, 
 and cases in which property of such value is received upon the 
 organization or reorganization, in addition to stock or securi- 
 ties, of a corporation. The method adopted by the treasurj/ 
 
 5 See p. 458. 
 
 6 It is stated by the Senate Finance Committee (see Report of that Com- 
 mittee on Internal Revenue Bill of 1921, p. 11) : "Probably no part of the 
 present income tax law has been productive of so much uncertainty or has 
 more seriously interfered with necessary business adjustments." (See also 
 Report of Ways and Means Committee on Internal Revenue Bill of 1921, 
 p. 10.) 
 
 7 Revenue Act of 1921, § 202 (c) . 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 409 
 
 department under the 1918 Law for taxing gains or profits upon 
 installment transactions, discussed in the latter part of this 
 chapter, is expressly sanctioned by the present law.* A further 
 distinctive feature of the Revenue Act of 1921 is the so-called 
 "capital gain" provision the effect of which is to limit the tax on 
 gains derived from, the sale or disposition of capital assets to 
 
 121/2%. 9 
 
 Taxation of Capital Gains. Many sales of farms, mineral 
 properties and other capital assets have been prevented in the 
 last years by the prohibitive taxes which would have been pre- 
 cipitated thereby. Under the Revenue Act of 1918 and previous 
 laws, the profits derived on such sales were taxed at high surtax 
 rates, like other income, and were taxed in the year of disposi- 
 tion though the profits represented the realization of a gradual 
 appreciation extending over several years. Thus, income was 
 unduly concentrated and higher surtax rates made to apply. 
 Corporations were perhaps more fortunate than individuals in 
 this respect because such undue concentration of income in one 
 taxable year might be held to be an abnormality of income which 
 would permit the excess-profits tax of the corporation to be 
 calculated by reference to representative corporations, but this 
 was an uncertain and inadequate remedy .i" 
 
 The "capital gain" provision of the Revenue Act of 1921 is 
 a recognition of these considerations.^! The provision applies 
 after December 31, 1921. Since the excess-profits tax is repealed 
 as of that date there is no need for the provision to apply to 
 corporations the income tax of which then is at the same rate 
 (121/^%) as the capital gain rate, and it is expressly made 
 inapplicable to corporations. Any taxpayer (not a corporation) 
 who for any taxable year (after 1921) derives a capital net gain, 
 as defined below, may at his election, in lieu of the ordinary 
 normal tax and surtax, pay thereon a tax computed as follows : 
 
 A partial tax is first computed upon the basis of the ordinary 
 net income at the rates and in the ordinary manner (that is, 
 the normal tax and the surtaxes are computed oh such ordinary 
 net income) and the total tax will be this amount plus 121/^ % 
 of the capital net gain ; but if the taxpayer elects to be taxed 
 under this provision the total tax must in no such case be less 
 than 12V^% of the total net income. The total tax thus de- 
 
 8 See Revenue Act of 1921, § 202. 
 
 9 See Revenue Act of 1921, § 206. 
 
 10 See Chapter 43. 
 
 11 In Great Britain capital gain or loss is ignored in computing net in- 
 come. The 1921 Law takes an intermediate position between the extreme 
 views embodied in the 1918 Law and the British law. 
 
410 FEDERAL INCOME TAX 
 
 termined is to be computed, collected and paid in the same 
 manner, at the same time and subject to the same provisions 
 of law, including penalties, as other taxes under Title II of the 
 Revenue Act of 1921 (the income tax title) .12 
 
 Definition. For the purpose of the provision indicated in 
 the previous paragraph, the Revenue Act of 1921 has adopted 
 the following definitions : 
 
 (1) The term "capital gain" means taxable gain from the 
 sale oi- exchange of capital assets consummated after December 
 31, 1921 ; 
 
 (2) The term "capital loss" means deductible loss resulting 
 from the sale or exchange of capital assets consummated after 
 December 31, 1921 ; 
 
 (3) The term "capital deductions" means such deductions as 
 are allowed for the purpose of computing net income and are 
 properly allocable to or chargeable against items of capital gain ; 
 
 (4) The term "capital net gain" means the excess of the total 
 amount of capital gain over the sum of the capital deductions 
 and capital losses ; 
 
 (5) The term "ordinary net income" means the net income, 
 computed in accordance with the provisions of Title II, after 
 excluding all items of capital gain, capital loss, and capital de- 
 ductions; and 
 
 (6) The term "capital assets" means property acquired and 
 held by the taxpayer for profit or investment for more than 
 two years (whether or not connected with his trade or business) , 
 but does not include property held for the personal use or 
 consumption of the taxpayer or his family, or stock in trade of 
 the taxpayer or other property of a kind which would properly 
 be included in the inventory of the taxpayer if on hand at the 
 close of the taxable year.i^ 
 
 Partnerships and Estates and Trusts. In the case of a 
 partnership or of an estate or trust, the proper part of each 
 share of the net income which consists, respectively, of ordinary 
 net income and capital net gain, will be determined under rules 
 and regulations to be prescribed by the Commissioner with the 
 approval of the secretary, and will be separately shown in the 
 return of the partnership or estate or trust, and will be taxed 
 to the member or beneficiary or to the estate or trust, but at 
 the rates and in the manner indicated above.^* 
 
 12 Revenue Act of 1921, § 206 (b) . 
 
 13 Revenue Act of 1921, § 206 (a). 
 
 14 Revenue Act of 1921, § 206 (c). 
 
income from sales or dealings in property 411 
 
 Illustration of Computation of Tax of Taxpayer Elect- 
 ing TO Be Taxed at 121/2% Upon Capital Net Gains. The 
 computation of tax by a taxpayer electing in 1922 to be taxed 
 under the capital gain provision may be illustrated as follows; 
 
 Capital gains $100,000 
 
 Capital losses $20,000 
 
 Capital deductions 10,000 30,000 
 
 Capital net gain $ 70,000 
 
 Gross income (excluding capital gains) $150,000 
 Deductions (excluding capital losses- 
 and deductions) 70,000 
 
 Ordinary net income $ 80,000 
 
 Partial Tax on Ordinary Net Income 
 
 Normal Tax 
 
 $80,000 minus $2,000 (personal 
 
 exemption) equals $78,000 
 
 First $4,000 @ 4% $ 160 
 
 Remaining $74,000 @ 8% 5,920 
 
 Surtax 13,660 
 
 Partial tax on ordinary net income $19,740 
 
 Tax on capital net gain ($70,000) @12l/2% 8,750 
 
 Total tax $28,490 
 
 The tax of this taxpayer, without the benefit of the "capital 
 , gain" provision, would be $57,840 ; the provision will save him 
 $29,350. 
 
 Exchange of Property Held for Investment or for Productive 
 Use. One of the most essential changes made by the Revenue 
 Act of 1921 is the provision that "when any such property (viz., 
 real, personal or mixed property) held for investment, or for 
 productive use in trade or business (not including stock-in-trade 
 or other property held primarily for sale), is exchanged for 
 property of a like kind or use," no gain or loss will be recognized 
 even if the property received in exchange has a "readily realiz- 
 able market value." Upon such an exchange the property re- 
 ceived is to be treated as taking the place of the property ex- 
 
412 FEDERAL INCOME TAX 
 
 changed. If money, or other property of a "readily realizable 
 market value" is received upon such an exchange, in addition 
 to the property of "like kind or use," such money or the fair 
 market value of such other property received in exchange is to 
 be applied against and reduce the basis (for ascertaining gain or 
 loss) of the property exchanged, and if such money or the fair 
 market value of such other property is in excess of such basis, 
 the excess is taxable.i^ These provisions have no counterpart in 
 the Revenue Act of 1918. Their effect is apt to be far-reaching. 
 The language used is broad. The provision may be separated 
 into two parts: (1) where property held for investment is ex- 
 changed for property of a like kind or use ;i6 and (2) when prop- 
 erty held for productive use in trade or business (not including 
 stock in trade or other property held primarily for sale) is 
 exchanged for property of a like kind or use. There is no limita- 
 tion upon the phrase "property held for investment." The 
 statute does not even say property held "only" or "primarily" 
 for investment. In a degree the element of investment enters 
 into the holding of almost all property. Apparently the phrase 
 includes all forms of property. An individual will apparently 
 incur no tax upon the exchange of real estate held for investment 
 for other similar real estate. Nor would an individual seem to 
 be taxable upon an exchange of stocks held for investment for 
 other stocks, or of bonds for bonds in like manner. These con- 
 siderations are apt to have a revolutionary effect upon the real 
 estate and brokerage business, and indeed on all sales and deal- 
 ings in property. A change of investments produces no taxable 
 income ; and the selling of securities and other property for cash 
 followed by a repurchase of other securities with the proceeds 
 will be largely abandoned in favor of a trading or exchanging of 
 the old securities directly for new securities, any discrepancy in 
 value being adjusted by a cash payment which will be less than 
 the basis provided for ascertaining gain or loss. It seems that 
 the stock of one company is property of a "like kind" to the 
 stock of another company ; it may be held that common stock and 
 preferred stock are not property of a "like kind." Again the 
 parenthetical expression "stock-in-trade or other property held 
 primarily for sale" is apt to raise administrative difficulties. 
 It will not be easy to determine when property held for pro- 
 ductive use in a trade or business is held "primarily for sale" ; 
 
 15 Revenue Act of 1921, § 202 (c) 1, (d) 1, (e) . 
 
 16 The words "investment, or" were inserted in the bill by the conferees 
 at the last moment. They were originally introduced, however, in the 
 House (see Conference Report of Revenue Bill of 1921, p. 17). 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 413 
 
 and it will be no easier to determine when property is held for 
 "productive use in a trade or business." This is illustrated, for 
 instance, by the difficulties and litigation which arose in con- 
 nection with the words "business or trade" as used in the loss 
 provision of the 1916 Law.^'^ Although permitting the tax-free 
 exchange of much property the exchange of which for other 
 property produced taxable profit, the provision will also prohibit 
 the deduction of many losses of a character which have hitherto 
 been deductible. 
 
 Basis for Determining Gain or Loss From Sale. For the pur- 
 pose of ascertaining the gain derived or the loss sustained from 
 the sale or exchange of property, the basis provided by the 
 Revenue Act of 1918 was (a) its "fair market price or value" 
 as of March 1, 1913, if acquired prior thereto, or (b) if acquired 
 on or after that date its cost, or its approved inventory value, 
 the gain, profit or income derived from sales or dealings in 
 property being the amount by which the selling price of the 
 property exceeds such "fair market price or value," cost, or ap- 
 proved inventory value.i^ In the recent cases in the Supreme 
 Court involving the taxation of profits derived from the sale 
 of capital assets,!^ the government admitted that the Commis- 
 sioner had hitherto been construing the statute erroneously and 
 that (a) no tax could be imposed when the selling price of 
 property was less than the purchase price, even though a gain 
 might be reflected in a difference between the selling price and 
 the value of the property on March 1, 1913, and (b) that no 
 deductible loss occurred unless the selling price was less than 
 the purchase price, even though a loss might be reflected in a 
 difference between the selling price and the value of the prop- 
 erty on March 1, 1913. In other words, it was admitted that 
 the statute contemplated the taxation and deduction only of 
 real or actual gains or losses, represented by a difference between 
 selling price and cost. Prior to the enactment of the Revenue 
 Act of 1921 the treasury department (acting under the authority 
 of the 1918 Law) summarized the general rule bearing upon 
 the determination of gain or loss resulting from the sale or 
 
 17 See Revenue Act of 1916, § 6 (a) fifth. 
 
 18 Revenue Act of 1918, § 202 (a) ; Reg. 45, Art. 1561, as amended by 
 T. D. 3206, T. B. 33-21-1767. The above provision establishing fair market 
 price or value as of March 1, 1913, as a basis in the case of property ac- 
 quired prior to that date appeared first in the 1916 Law, no reference being 
 made in the 1909 Law or the 1913 Law to any basis when assets disposed 
 of were acquired prior to the incidence of the tax. 
 
 19 See cases cited in footnote 3. 
 
414 FEDERAL INCOME TAX 
 
 other disposition of property acquired before March 1, 1913, as 
 this general rule was affected by the above admission and sus- 
 tained by the Supreme Court.^o This departmental summary 
 has now been adopted by the Revenue Act of 1921 as the general 
 basis for determining gain or loss in the case of property acquired 
 before March 1, 1913, and has been enacted in detail in that 
 statute. The statute also changes the basis provided by the 
 1918 Law for the ascertainment of gain derived or loss sustained 
 in the case of the disposition of property acquired by gift. Other- 
 wise it will be noted that the present statute adopts substantially 
 the basis set forth in the Revenue Act of 1918. The basis so 
 provided^i by the present law is as follows : 
 
 "(a) That the basis for ascertaining the gain derived or loss 
 sustained from a sale or other disposition of property, real, 
 personal, or mixed, acquired after February 28, 1913, shall be 
 the cost of such property ; except that — 
 
 "(1) In the case of such property, which should be included 
 in the inventory, the basis shall be the last inventory value 
 thereof; 
 
 "(2) In the case of such property, acquired by gift after De- 
 cember 31, 1920, the basis shall be the same as that which it 
 would have in the hands of the donor or the last preceding 
 owner by whom it was not acquired by gift. * * * 
 
 20 See Reg. 45, Art. 1561. It is to be regretted that the Supreme Court 
 did not pass expressly upon the subject matter of the above admission made 
 by the solicitor-general. With regard to gains represented by a difference 
 between selling price and value on March 1, 1913, in cases in vj'hich the 
 selling price was less than purchase price, the admission of the solicitor was 
 undoubtedly necessary, under the sixteenth amendment, because such a gain 
 could not constitutionally be taxed. But the allowance of any deduction for 
 loss is a matter in which Congress is not inhibited by any constitutional 
 limitation, and to deny the deduction of losses represented by a difference 
 between selling price and value on March 1, 1913, where the selling price 
 was less than purchase price, is, in effect, to neutralize a loss occurring after 
 the incidence of the tax by an admittedly nontaxable gain accruing prior to 
 the incidence of the tax. The 1918 law plainly stated that such a loss should 
 be an allowable deduction and the plain terms of the statute, where no con- 
 stitutional limitations intervene, should be respected, whatever the result. 
 (See Chapter 47.) Under the 1921 law the intention of Congress to follow 
 the solicitor's admission is clear, but a provision of this law may not be 
 used in interpreting a previous statute. 
 
 21 Revenue Act of 1921, § 202 (a) (b). The basis in regard to property 
 acquired by gift is not quoted in full at this point. It will be found in full 
 in a special discussion of gains derived upon the sale of such property 
 (see p. 458). In regard to property acquired before- March 1, 1913, the 
 statute is an enactment in detail of the basis set forth in Article 1561 of 
 Regulations 45, as amended by T. D. 3206, T. B. 33-21-1767. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 
 
 415 
 
 "(3) In the case of such property, acquired by bequest, de- 
 vise, or inheritance, the basis shall be the fair market price or 
 value of such property at the time of such acquisition. * * * 
 
 "(b) The basis for ascertaining the gain derived or loss sus- 
 tained from the sale or other disposition of property, real, per- 
 sonal, or mixed, acquired before March 1, 1913, shall be the same 
 as that provided by subdivision (a) ; but — 
 
 "(1) If its fair market price or value as of March 1, 1913, is 
 in excess of such basis, the gain to be included in the gross 
 income shall be the excess of the amount realized therefor over 
 such fair market price or value ; 
 
 "(2) If its fair market price or value as of March 1, 1913, is 
 lower than such basis, the deductible loss is the excess of the 
 fair market price or value as of March 1, 1913, over the amount 
 realized therefor; and 
 
 " (3) If the amount realized therefor is more than such basis, 
 but not more than its fair market price or value as of March 
 1, 1913, or less than such basis, but not less than such fair 
 market price or value, no gain shall be included in and no loss 
 deducted from the gross income." 
 
 Basis in Case op Property Acquired Before March 1, 
 1913. The statutory basis provided for determining the gain 
 derived or loss sustained upon the disposition of property 
 acquired before March 1, 1913, has been indicated in the preced- 
 ing paragraph. This basis is the same as that most recently 
 adopted by the treasury department under the 1918 Law and the 
 following tabular summary 22 made by the department under 
 that law will, therefore, be helpful under the present law: 
 
 In the case of property acquired before March 1, 1913, when 
 its fair market value as of that date is in excess of its cost, the 
 taxable gain is the excess of the amount realized therefor over 
 such fair market value. 
 
 Cost. 
 
 Pair mar- 
 ket value 
 March 1, 
 1913. 
 
 Sale price. 
 
 Taxable gain. 
 
 $10,000 
 
 $15,000 
 
 $20,000 
 
 $5,000. 
 
 Excess of amount realized over fair market 
 value as at March 1, 1913. Gain accruing 
 prior to March 1, 1913, not taxable. 
 
 22 Reg. 45, Art 1561, as amended by T. D. 3206, T. B. 33-21-1767; O. D. 
 1035, T. B. 38-21-1825, overruling such decisions as T. B. M. 73, T. B. 19- 
 19-493; A. R. 667, T. B. 45-21-1903. 
 
416 
 
 FEDERAL INCOME TAX 
 
 In the case of property acquired before March 1, 1913, when 
 its fair market value as of that date is lower than its cost, the 
 deductible loss is the excess of such fair market value over the 
 amount realized therefor. 
 
 Cost. 
 
 Fair mar- 
 ket value 
 March 1, 
 1913. 
 
 Sale price. 
 
 Deductible loss. 
 
 $10,000 
 
 $5,000 
 
 $3,000 
 
 $2,000. 
 
 Excess of fair market value over amount 
 realized. Lo.ss accruing prior to March 1, 
 1913, not deductible. 
 
 No gain or loss is recognized in the case of property acquired 
 before March 1, 1913, and sold or disposed of at more than 
 cost, but at less than its fair market value as of that date. 
 
 Cost. 
 
 $10,000 
 
 Fair mar- 
 ket value 
 March 1, 
 1913. 
 
 $30,000 
 
 Sale price. 
 
 $20,000 
 
 No taxable gain or deductible loss. Reason ; 
 A gain on whole transaction, which gain is 
 attributable to period prior to March 1, 1913. 
 
 No gain or loss is recognized in the case of property acquired 
 before March 1, 1913, and sold or disposed of at less than cost 
 but at more than its fair market value as of that date. 
 
 Cost. 
 
 Fair mar- 
 ket value 
 March 1, 
 1913. 
 
 Sale price. 
 
 
 $10,000 
 
 $3,000 
 
 $5,000 
 
 No taxable gain or deductible loss. Reason : 
 A loss on whole transaction, which loss is 
 attributable to period prior to March 1, 1913. 
 
 Where the cost is equal to or greater than the fair market 
 value as at March 1, 1913, and the selling price exceeds the 
 cost, the taxable gain is the excess of the selling price over the 
 cost. 
 
 Cost. 
 
 Fair mar- 
 ket value 
 March 1, 
 1913. 
 
 Sale price. 
 
 Taxable gain. 
 
 $10,000 
 
 $5,000 
 
 $20,000 
 
 $10,000. 
 
 Reason: Gain on whole transaction, all of 
 
 which is attributable to period subsequent 
 
 to March 1, 1913. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 
 
 417 
 
 Where the fair market value as at March 1, 1913, is greater 
 than the cost and the selling price is less than the cost, the de- 
 ductible loss is the amount by which the cost exceeds the selling 
 price. 
 
 Cost. 
 
 Ifair mar- 
 ket value 
 March 1, 
 1913. 
 
 Sale price. 
 
 Deductible loss. 
 
 $10,000 
 
 $15,000 
 
 $5,000 
 
 $5,000. 
 
 Reason : Loss on whole transaction, all of 
 which is attributable to period subsequent 
 to March 1, 1913. Only actual loss sustained 
 deductible. 
 
 Subsequent Sale. The amount of income derived from a 
 subsequent sale for cash of property received in exchange for 
 other property on or after March 1, 1913, is the excess of the 
 amount so received over the "readily realizable" market value 
 ("fair" market value, under the 1918 Law) of the property 
 acquired at the date of the acquisition. If the property received 
 in exchange is substantially the same property or has no such 
 value, then no gain or loss is realized, but the new property is to 
 be regarded as substituted for the old property and upon the 
 sale of the new property the amount of income derived is the 
 excess of the amount so received over the cost of the old property. 
 However, if the old property was acquired prior to March 1, 
 1913, and its fair market price or value as of that date is in 
 excess of its cost but less than the amount received, the taxable 
 gain is the excess over such value as of March 1, 1913, of the 
 amount received. No gain is recognized if the property is sold 
 at more than the cost of the old property, but at less than its 
 fair market value as of March 1, 1913.^3 
 
 Cost of Property. The cost of property is the actual price 
 paid for it when acquired, together with (a) the expense of 
 acquiring it, (b) the expense of selling it, (c) the cost of any 
 improvements or betterments which have been made with respect 
 to the property, 24 and (d) carrying charges, provided they have 
 been capitalized and have not been deducted in any annual return 
 of the owner filed subsequent to the incidence of the income 
 tax.25 Interest should not be added to the purchase price in 
 order to ascertain costj^s and cost must be reduced by the amount 
 
 23 Reg. 45, Art. 1564, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 24 T. D. 2090. 
 
 25 T. D. 2137. This rule should be retained under the present law. 
 
 26 Walsh V. Brewster, 41 Sup. Ct. Rep. 392 ; Hays v. Gauley Mountain Coal 
 Co., 247 U. S. 189. In this case the court said: "That the sale resulted in a 
 
418 FEDERAL INCOME TAX 
 
 of any depreciation or depletion sustained and deducted since 
 February 28, 1913.27 Cost is sometimes composed of elements 
 difficult to reduce to dollars and cents. In a case in which a tax- 
 payer purchased land from his mother the consideration was (a) 
 an amount of cash, (b) a promise to support the mother for 
 life, and (c) taking out an insurance policy payable to the 
 mother if the taxpayer should predecease her. Upon a sale of 
 the land the cost was determined by adding to (a) the cost of 
 a year's maintenance of the mother multiplied by her life ex- 
 pectancy and the premiums paid or to be paid during such life 
 expectancy of the mother.^s 
 
 Cost of Lease. Where a lease providing that repairs or im- 
 provements made by the lessee reverted to, the lessor upon ter- 
 mination, the lessee in computing his profit upon an assignment 
 of the lease is entitled to deduct from the sale price the cost 
 of improvements less so much of such cost as had previously 
 been returned through depreciation deductions.29 
 
 Stock Received As Bonus. It was held under the 1918 Law 
 that where common stock is received as a bonus with the pur- 
 chase of preferred stock or bonds, the total purchase price must 
 be fairly apportioned between the stock and securities purchased 
 for the purpose of determining the portion of the consideration 
 attributable to each class of stock or securities and so represent- 
 ing its cost, but if that should be impracticable in any case, no 
 
 gain or profit to the extent of $210,000, the difference between the buying 
 and selling prices, is not to be doubted, for there is no merit in the conten- 
 tion that interest should be added to the purchase price in order to ascer- 
 tain its cost. The money that went into the purchase was not loaned at 
 interest; on the contrary, by the very fact of the purchase it was placed 
 where it could not earn interest for the respondent in the ordinary sense, 
 and the gain represented by the increase of selling price over cost price 
 must be regarded as a substitute for whatever return some other form of 
 investment might have yielded." The court refused to pass on this ques- 
 tion in State ex rel. Bundy v. Nygaard (Wis.); 158 N. W. 87. 
 
 27 Reg. 45, Art. 1561, as amended by T. D. 3206, T. B. 33-21-1767. It is, of 
 course, immaterial whether such depreciation or depletion is subtracted from 
 cost or added to selling price; in either event it increases the profit. Where 
 a flat occupied in part by the owner is sold, cost must be reduced only 
 by depreciation sustained on the portion used for rental purposes (O. D. 
 1026, T. B. 37-21-1810). Inasmuch as no deduction for depreciation of a 
 personal residence is allowable, a taxpayer in determining the gain or loss 
 arising from the sale of his personal residence, continuously occupied by 
 him as such, is not required to reduce the cost of the property or its fair 
 market value as at March 1, 1913, by the depreciation sustained. (O. D. 
 600, T. B. 30-20-1085, A. R. R. 249, T. B. 34-20-1168.) 
 
 28 0. D. 945, T. B. 24-21-1682. 
 
 29 O. D. 746, T. B. 50-20-1339. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 419 
 
 profit on any subsequent sale of any part of the stock or securi- 
 ties will be realized until out of the proceeds of sales shall have 
 been recovered the total cost.^o 
 
 Selling Price. A sale of property usually involves the payment 
 of cash in whole or in part therefor. The statute, however, taxes 
 income from dealings in property as well as sales thereof, and 
 reaches transactions such as exchanges of property, which, in 
 eifect, may be sales for a consideration in the equivalent of 
 cash. In a sense, property received in exchange for other prop- 
 erty constitutes a selling price other than cash, and in such 
 cases the determination of the amount thereof and the gains, 
 profits or income of the vendor, if any, presents the difficulties 
 discussed in the following paragraphs. 
 
 Market Value. It has been indicated that in many instances 
 when property acquired prior to March 1, 1913, is disposed of, 
 its "fair market price or value" on that date is to be taken in 
 lieu of cost in determining the gain derived, or the loss sustained, 
 from the transaction. Again, when property is disposed of, the 
 owner may not receive cash ; the consideration may be, in whole 
 or in part, other property. In other words, the transaction may 
 constitute, in whole or in part, an exchange of property for 
 property. Particularly is this true in regard to the organi- 
 zation and reorganization of corporations. In such cases the 
 selling price of the property sold was, under the 1918 Law, 
 the "fair market value, if any," of the property received.^! 
 In transactions involving the sale or disposition of property, 
 sometimes referred to as capital transactions, the determination 
 of the gain derived or the loss sustained may, then, require the 
 determination of the "fair market price or value" on March 1, 
 1913, of the property sold. Under the 1918 Law it might require 
 the determination of the "fair market value, if any" of the 
 property received as of the date of the transaction. Under the 
 present law it may require the determination of the "readily 
 realizable" market value of the property received as of the date 
 of the transaction.82 
 
 so Reg. 45, Art. 39, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 31 Revenue Act of 1921, §202 (c) ; Revenue Act of 1918, §202 (b). 
 
 32 The market price or value of property on given dates is material in 
 other connections. In the case of property acquired before March 1, 1913, 
 the market value of the property on that date is the basis or capital sum 
 for purposes of depreciation or depletion. (Revenue Act of 1921, §§ 214 (a) 
 8, 10, 234 (a) 7, 9; Reg. 45, Arts. 161 and 20,1.) Likewise, where the 
 property is purchased for stock, the market value of the stock paid for it at 
 the time of the purchase constitutes its cost for purposes of depreciation 
 and depletion (Reg. 45, Art. 167). Services may be paid for with stock, 
 
420 FEDERAL INCOME TAX 
 
 These considerations indicate the importance of a careful 
 analysis of the term "fair market price or value" and "fair 
 market value, if any," and the kind of evidence by vt^hich such 
 market values may be established. 
 
 It vs^ill be noted that when establishing a basis for calculating 
 the selling price equivalent of property sold or disposed of, the 
 Revenue Act of 1918 used the expression "fair market value, 
 if any." 3-'' When referring to the basis for computing the profit 
 derived or loss sustained on property acquired prior to March 1, 
 1913, both that statute and the present law use the expression 
 "fair market price or value."^* The treasury department contends 
 that the word "price" is narrower in its scope than the word 
 "value".35 n has nowhere, however, given emphasis to the ex- 
 pression "if any", the force of which will be discussed below. 
 Irrespective of these differences of phraseology, there is a funda- 
 mental distinction between the purposes underlying the deter- 
 mination of fair market value in the two instances. When prop- 
 erty is exchanged for other property, the property received may 
 or may not be such as to give rise to income within the meaning 
 of the statute and Constitution. It is admitted even by the 
 treasury department that cases may exist in which property 
 may have no fair market value so as to constitute taxable in- 
 come.3^ On the other hand, it is admitted by the treasury de- 
 partment and well settled by the decisions that in ascertaining 
 the gain or loss resulting from a sale or other disposition of 
 property, the purpose of valuing such property on March 1, 
 1913, is to determine the amount which ,must be withdrawn 
 from the selling price in order to keep the capital intact and 
 that it would be necessary so to withdraw the value of the 
 property on March 1, 1913, even if there were no statutory 
 
 which raises question of the market value of the stock (which constitutes 
 income to the recipient) at the time of receipt. (See Chapter 15.) Under 
 the Excess-Profits Tax Law, where tangible property is acquired from a 
 stockholder as a gift or at a value in excess of the consideration paid there- 
 for, the amount of the excess is deemed to be paid-in surplus; and when 
 the actual cash value of tangible property exceeds the par value of the 
 stock issued therefor, the excess over such par value may be treated as 
 paid-in surplus. (Revenue Acts of 1918 and 1921, §326 (a) (2), Reg. 45, 
 Art. 837.) The calculation of this paid-in surplus necessitates the valu- 
 ation of such tangible property at the date of acquisition. For cases illus- 
 trating these several connections in which the market value of property 
 becomes important see: O. D. 1008, T. B. 35-21-1788; O. D. 1064, T. B. 
 42-21-1868. 
 
 33 Revenue Act of 1918, §202 (b). 
 
 34 Revenue Act of 1918, § 202 (a) . 
 
 35 T. B. R. 57, T. B. 19-19-494. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 421 
 
 provision tiierefor.^^ This would argue greater necessity for 
 determining some market value as of March 1, 1913, for the 
 property disposed of than for determining market value as of 
 the date of the transaction for the property received. In other 
 words, it may well be that for purposes of a valuation as of 
 March 1, 1913, Congress intended that the phrase "fair market 
 price or value" be given a much broader meaning than the 
 phrase "fair market value, if any," which was used with refer- 
 ence to property received in an exchange of property for 
 property. 
 
 "Fair Market Value, If Any." Passing first to a definition 
 of the phrase "fair market value, if any," it will be noted that 
 the 1918 Law provided: "When property is exchanged for 
 other property, the property received in exchange shall, for the 
 purpose of determining gain or loss, be treated as the equivalent 
 of cash to the amount of its fair market value, if any * * * ."38 
 
 Interpreting this provision the treasury department ruled as 
 follows : "Gain or loss arising from the acquisition and sub- 
 sequent disposition of property is realized when as the result of 
 a transaction between the owner and another person the prop- 
 erty is converted into cash or into property (a) that is essentially 
 different from the property disposed of, and (b) that has a 
 market value. In other words, both (a) a change in substance 
 and not merely in form, and (b) a change into the equivalent 
 of cash, are required to complete or close a transaction from 
 which income may be realized."^^ 
 
 This regulation was an admission in general terms of the 
 principle which should control in determining whether an ex- 
 change of property for property was a "closed transaction" and 
 resulted in taxable income or deductible loss under the 1918 
 
 38 T. B. R. 57, T. B. 19-19-494; Reg. 45, Art. 1563, and Art. 1564, as 
 amended by T. D. 3206, T. B. 33-21-1767. 
 
 37 T. B. R. 57, T. B. 19-19-494; Doyle v. Mitchell, 247 U. S. 179; Lynch 
 V. Turrish, 247 TJ. S. 221 ; Southern Pacific Co. v. Lowe, 247 U. S. 330. This 
 is important. It means that the term "fair market price or value" as used 
 in subdivision (a) 1 of § 202 adds nothing to the common law rule founded 
 on the Constitution. If this is true, the meaning of the term as used in 
 the statute is of little moment. 
 
 38 The statements contained in the text above are illustrated by the 
 distinction in phraseology contained in the present law between a reference 
 to the value on March 1, 1913, of property exchanged and the value on the 
 date of acquisition of property received. In the former case the 1921 Law 
 uses the same expression as the 1918 Law ("fair market price or value") ; 
 in the latter case it uses the expression "readily realizable market value." 
 Revenue Act of 1918, §202 (b). 
 
 39 Reg. 45, Art. 1563. 
 
422 FEDERAL INCOME TAX 
 
 Law. For the present the discussion will ignore the question 
 whether there has been "a change in substance and not merely 
 in form"« and will refer to the question whether there has 
 been a change "into the equivalent of cash," which underlies 
 the discussion of the term "fair market value, if any." In other 
 words, in providing that the property received shall be treated 
 as the equivalent of cash to the extent of the amount of its 
 "fair market value, if any," the 1918 Law clearly contemplated 
 that the term "fair market value" should be used as a test to 
 determine whether property was the "equivalent of cash." It 
 is just as true to say that property has no fair market value if 
 it is not the "equivalent of cash" as to put the statement in 
 converse form. 
 
 Following the interpretation by the treasury department just 
 quoted, in its most general statement regarding the meaning of 
 the term "market value", the department made no distinction 
 between the meaning of the tertn as used or contemplated in 
 the various parts of the Revenue Act of 1918.*^ The statement 
 was as follows : " * * * the fair value of the property in money 
 as between one who wishes to purchase and one who wishes to 
 sell. It is not, however, what can be obtained for the property 
 when the owner is under peculiar compulsion to sell or the 
 purchaser to buy; nor is it a purely speculative value which an 
 owner could not reasonably expect to obtain for the property 
 although he might possibly be fortunate enough to do so. 
 'Market value' is the price at which a seller willing to sell at 
 a fair price and a buyer willing to buy at a fair price, both hav- 
 ing reasonable knowledge of the facts, will trade. It implies the 
 existence of a public of possible buyers at a fair price." ^^ These 
 definitions and interpretations were so general, however, that 
 they help very little in a determination of any specific question. 
 Was "fair market value" intended to be equivalent to "intrinsic 
 value" which attaches to all property, or did it mean value as 
 established upon an exchange, or something between these two 
 extremes? The treasury department admitted the general 
 proposition that property may be received upon an exchange 
 which has no "fair market value" and is not equivalent to cash. 
 
 40 For instance, an exchange of a stock certificate for a voting trust cer- 
 tificate does not produce income because the conversion is merely in form. 
 Questions as to whether a conversion has been more than formal are usually 
 raised in connection with the organization and reorganization of corpo- 
 rations and the subject will be discussed below under that heading. 
 
 41 There is obviously such a distinction under the present statute. 
 
 42 T. B. R. 57, T. B. 19-19-494. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 423 
 
 For instance, it was ruled that stock in a "small, closely held 
 corporation" was not the equivalent of cash if the stock has no 
 market value, which, of course, implies that the stock of small, 
 closely held corporations may have no market value.*^ On the 
 other hand, in another ruling, although reiterating the rule that 
 property received upon an exchange may have no "fair market 
 value," the department held that in determining whether prop- 
 erty has a "fair market value" all available evidence must be 
 considered; that a case in which property has no "fair market 
 value" should be regarded as "unusual" and a determination that 
 the property has no "fair market value" should not be made 
 "lightly"; that property is not without "fair market value" 
 merely because there is a considerable divergence of opinion as 
 to its value. The department took the view that property had 
 no "fair ..market value when market conditions were such that 
 there would he no trading in the property in question at a 
 fair price."*'' The force of the words "would be" is to be noted. 
 They required the taxpayer to prove not that there was or 
 had been no trading or other evidence of value, but that there 
 would he none if the property were put up for sale. The de- 
 partment refused to admit that property has no fair market 
 value when there was "no price therefor established by public 
 sales or sales in the way of ordinary business" ; it held that the 
 fact that there is no market price or current price ,so established 
 did not indicate that the property might not be readily sold 
 at a fair price.*^ Again, although the department admitted that 
 stock in a small, closely held corporation might have no "fair 
 market value," it held that stock in such a corporation "does not 
 ipso facto lack 'a fair market value' " because "evidence as to the 
 assets and liabilities of such a corporation and as to its earnings 
 may furnish very definite indications as to its 'fair market 
 value'."46 
 
 When the assets and liabilities and earnings of a corporation 
 are resorted to in order to obtain the value of the stock of such 
 corporation, the result reached constitutes the "intrinsic" value 
 
 43 See Reg. 46, Art. 1563. 
 
 44 T. B. R. 57, T. B. 19-19-494. 
 
 45 T. B. R. 57, T. B. 19-19-494. 
 
 40 T. B. R. 57, T. B. 19-19-494. This ruling went on to state: "Even if a 
 corporation is newly organized and has never done business as such, but 
 has succeeded to the business of an individual or partnership, its stock 
 will ordinarily have a 'fair market value' ascertainable by reference to 
 it assets and liabilities, the history of the specific business, and the history 
 and conditions of the industry in general." 
 
424 FEDERAL INCOME TAX 
 
 of such stock.^' Although professing the general principle that 
 property might have no "fair market value," the treasury de- 
 partment ruled, under the 1918 Law, that intrinsic value might 
 be resorted to, if not as equivalent to market value, at least as 
 indicative of market value.*** And intrinsic value is so taken 
 not as evidence of a market value which has existed or which 
 is proved by past or present transactions ; it is taken to indicate 
 an hypothetical or potential market value — that is, what the 
 property exchanged would bring if it were put up for sale. 
 While there are numerous authorities defining market value in 
 such a way as to include intrinsic value when there is no evi- 
 dence of actual sales or dealings in the property involved, it is 
 to be noted that these authorities deal with cases in which by 
 reason of some accomplished fact or peculiar circumstances it is 
 essential to make a fair valuation. In other words, the court was 
 required to value the property involved in order to do equity in 
 the situation at bar.*^ There are authorities, however, making 
 it clear that there is a popular distinction between "market" and 
 "intrinsic" value.''" In using the expression "fair market value, 
 
 47 The Standard Dictionary defines the word "intrinsic" as follows : 
 "Pertaining to the nature of a thing or person; not simply apparent or ac- 
 cidental; inherent; real; true; as, the intrinsic value of a bronze medal is 
 small." The meaning of the word "intrinsic"' is illustrated by the following 
 quotation from Virginia v. West Virginia, 238 U. S. 202: "The fact, how- 
 ever, that there was no sufficient proof of market value, was not an insuper- 
 able obstacle to the making of a fair valuation. It was clearly proper to in- 
 troduce evidence tending to show the intrinsic value of the shares * * * 
 For this purpose, resort was had to corporate accounts and reports of the 
 company's affairs." See 0. D. 955, T. B. 26-21-1699. 
 
 4S The department admits the distinction between the capital assets of a 
 corporation and the valuation of shares owned by the shareholders in A. R. 
 R. 33, T. B. 9-20-764 (see also T. D. 2979, amending Reg. 45, Art. 102), 
 a distinction which indicates the danger of resorting to intrinsic value. The 
 distinction between resorting to intrinsic value as indicative of, as dis- 
 tinguished from equivalent to, market value is more apparent than real. 
 If it is to be resorted to as indicative of market value when no other evi- 
 dence as to market value exists, it is in practical effect taken as the equiva- 
 lent of market value. 
 
 49 Thus in a condemnation case the complainant's property has been 
 taken from him by virtue of the power of eminent domain. Justice re- 
 quires that he be compensated and this necessarily involves the determina- 
 tion of the market value of the property condemned. Obviously, in such 
 a case, the court is required to determine a value even if it is unable to do 
 so by reference to actual sales or dealings in the same kind of property. 
 (See North Amer. Tel. Co. v. Northern Pac. Ry. Co., 254 Fed. 417.) 
 
 50 This is proved by the quotation in footnote 47 above, from Virginia 
 V. West Virginia, 238 U. S. 202. See Henry v. North American Ry. Const. 
 Co., 158 Fed. 79; Crichfield v. Julian, 147 Fed. 65; Industrial & General 
 
INCOME FROM SALES OK DEALINGS IN PROPERTY 425 
 
 if any," did Congress intend to include a value not established 
 by any sales or dealings in the property subject to valuation and 
 which could only be proved by speculation as to what the public 
 might pay for the property in question ? In answering this ques- 
 tion it is necessary to keep constantly in mind the purpose of 
 obtaining "fair market value, if any," when there has been an 
 
 Trust V. Tod, 180 N. Y, 215, 73 N. E. 7. See also O. D. 955, T. B. 26-21-1699 
 and 0. D. 1064, T. B. 42-21-1868, in which the treasury department itself 
 contrasts ''market" and "intrinsic" value. It is expressed again, from a 
 slightly different viewpoint in North Amer. Tel. Co. v. Northern Pac. Ry. 
 Co., 254 Fed. 417, as follows: "The term 'market value', as the words 
 fairly import, indicates price established in a market where the article 
 is dealt in by such a multitude of persons, and such a large number of 
 transactions, as to standardize the price. Proof of such a market value 
 can only be made by one of the recognized methods of proving the price 
 current in a market. Individual dealings are not competent to prove it. The 
 term is, however, frequently used in a figurative sense, as meaning the 
 fair or reasonable value of the property — that is, such value as the prop- 
 erty would have if it were dealt in according to the practices of a market 
 overt. This is the meaning which the term usually has when applied to real 
 property. To prove market value when it is used in this secondary or 
 figurative sense, it is proper to receive evidence of individual transac- 
 tions, even offers made in good faith for property of like character, the 
 nature of the property, its location, its rental value, the uses to which it 
 can be put, and all the manifold elements which are admissible to show the 
 fair and reasonable value of property which is not so traded in as to give 
 it a market value in the primary sense of the term." It is argued by 
 economists that there is no such thing as intrinsic value; that value is 
 market value since nothing has any value except as related to other things 
 in the mind of a buying public. This may be true economically, but it does 
 not touch the question under discussion. We are dealing not with theories 
 but a question of fact — what people mean by the words they use, however 
 inaccurately they may use them from the economic standpoint. It is to be 
 regretted that the Supreme Court did not pass expressly upon the sub- 
 ject matter of the above admission made by the solicitor-general. With 
 regard to gains represented by a difference between selling price and value 
 on March 1, 1913, in cases in which the selling price was less than pur- 
 chase price, the admission of the solicitor was undoubtedly necessary, 
 under the sixteenth amendment, because such a gain could not . con- 
 stitutionally be taxed. But the allowance of any deduction for loss is a 
 matter in which Congress is not inhibited by any constitutional limitation, 
 and to deny the deduction of losses represented by a difference between 
 selling price and value on March 1, 1913, where the selling price was less 
 than purchase price, is in effect, to neutralize a loss occurring after the 
 incidence pi the tax by an admittedly non-taxable gain accruing prior to 
 the incidence of the tax. The 1918 law plainly stated that such a loss 
 should be an allowable deduction and the plain terms of the statute, where 
 no constitutional limitations intervene, should be respected, whatever the 
 result. (See Chapter 47.) Under the 1921 Law the intention of Congress 
 to follow the solicitor's admission is clear, but a provision of this law may 
 not be used in interpreting a previous statute. 
 
426 FEDERAL INCOME TAX 
 
 exchange of property for property. If the fair market value of 
 the property exchanged is not obtained, the tax on the apprecia- 
 tion in value of the property to the date of the transaction is not 
 evaded; it is only postponed. Eventually it must be paid.-''^ 
 As a general proposition the only question involved is when 
 the tax shall be paid. The determination of fair market value 
 refers merely to the time when the taxpayer shall pay tax upon 
 the appreciation in value of his property. He is required to 
 pay when he receives the "equivalent of cash." In the light of 
 this purpose it may be doubted, particularly in view of the use 
 of the words "if any", whether in the Revenue Act of 1918 
 Congress intended to ignore the popular distinction which has 
 just been indicated between "market" or primary and "intrinsic" 
 or secondary value. Under the broad definition of market value 
 contained in some authorities there will be much property having 
 a market value which is not the equivalent of cash. It would 
 seem rather that when the question is a definition of the "equiva- 
 lent of cash," the term "fair market value" must be construed 
 in such a way as not to include a value which cannot be converted 
 into cash.s2 
 
 Even if this doubt be resolved in favor of the government, ^^ 
 it is apparent that the rulings referred to above render it prac- 
 tically impossible for the taxpayer to prove that property re- 
 ceived upon an exchange has no "fair market value." Evidence 
 of no sales or dealings in property does not prove absence of 
 such value. The taxpayer has the burden of proving a negative, 
 that there would be no fair market value, if he offered the prop- 
 erty in question for sale. There are cases in which it might 
 seem that although property has never been dealt in so that 
 no market actually existed, the existence of a market in the 
 potential sense was clear. In such cases the property received 
 by the taxpayer upon an exchange is the "equivalent of cash," 
 whether or not it has, technically, a "fair market value." But 
 there are also cases in which it might be inconvenient at least 
 
 ■ii Under the 1918 Law, the one exception to this rule is that if the tax- 
 payer gives the property away or dies and the property is sold by his donees, 
 heirs or legatees, such donees, heirs or legatees will escape tax upon the 
 appreciation to the date when they receive the property. Under the present 
 law a gift would not avoid the tax on property appreciation. 
 
 52 There is nothing in the case of U. S. v. Phellis, 42 Sup. Ct. Rep. 63, con- 
 flicting with this suggestion. The stock distributed in this case was 
 ■'marketable." 
 
 53 It is a rule of statutory construction that taxing statutes are to be 
 construed most strictly against the government and in favor of the tax- 
 payer. (Gould V. Gould, 245 U. S. 151.) 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 427 
 
 for the taxpayer to offer the property involved for sale in order 
 to prove that it had no market value. It would seem that in 
 the ordinary case, property which has not been dealt in cannot 
 be dealt in upon any reasonable basis. Business men are con- 
 stantly trading in all sorts of property. The fact that they are 
 not dealing in a particular kind of property is certainly an 
 indication that the property has no "fair market value." The 
 very necessity of resorting to evidence other than sales and 
 dealings in the same kind of property to prove the value of 
 property goes to indicate that the property is not the "equivalent 
 of cash." In other words, the rulings issued under the 1918 
 law practically closed the door on the possibility of proving 
 absence of "fair market value," by holding that the absence of 
 sales or dealings in the property did not prove that there was no 
 "fair market value." The fact that there were a;nd had been 
 no such sales or dealings should at least have been held to create 
 a presumption that no "fair market value" existed.^* 
 
 "Readily Realizable Market Value." The 1921 Law pro- 
 vides that on an exchange of property, real, personal or mixed, 
 for any other such property, no gain or loss shall be recognized 
 unless the property received in exchange has a "readily realiz- 
 able market value." ^s The term "readily realizable market value" 
 should be construed in the light of the definition given by the 
 treasury department under the 1918 Law to the term "fair 
 market value, if any." The general purpose of this new pro- 
 vision is to modify the "presumption in favor of taxation," 
 which had existed under the 1918 Law (as interpreted by the 
 Treasury Department) .°^ In many cases arising under that law 
 the taxpayer realized no funds with which to pay substantial 
 taxes imposed upon a transaction by virtue of a technical con- 
 struction of the statute. Obviously, the desire is to avoid this 
 evil of taxing profits which, if they existed, have not in any true 
 sense been realized. In other words, the present law recognizes 
 the hardship and injustice of taxing profits not yet converted into 
 any real cash equivalent. It should be noted, however, that the 
 term "readily realizable market value" is somewhat vague, and 
 the application of the term to each particular exchange of prop- 
 si The Finance Committee of the senate has expressed this most aptly 
 in a few words, as follows: "The existing law makes a presumption in favor 
 of taxation. The proposed act modifies that presumption * * * >> 
 
 It may have been a more accurate statement, if the committee had said: 
 "The existing law (as enforced by the department * * * )." It is 
 a question whether the "existing" law was properly interpreted by the de- 
 partment. 
 
 55 Revenue Act of 1921, §202 (c). 
 
428 FEDERAL INCOME TAX 
 
 erty will not be easy. The problem of taxing gains derived upon 
 an exchange of property for property has by no means been 
 solved. The present statute merely indicates a general intent 
 to restrict taxable income upon such exchanges to income which 
 has a real cash equivalent. 
 
 Fair Market Price or Value as of March 1, 1913.5^ The object 
 of valuing property as of March 1, 1913, whether for purposes 
 of determining the gain derived or the loss sustained upon a 
 sale or disposal thereof, or for purposes of ascertaining a de- 
 preciation or depletion capital sum, is to determine the amount 
 which must be regarded as capital to be withdrawn from the 
 selling price or from gross income. It is necessary to value the 
 property as of March 1, 1913, in order to segregate capital and 
 income and to insure the exemption of the former from tax. 
 This is a compelling reason for a valuation as of March 1, 1913, 
 upon the basis of whatever evidence is available, whether it be 
 of sales or actual dealings in the property involved or something 
 less tangible and conclusive. However the rule may be with re- 
 gard to the "fair market value, if any," of the selling price or 
 consideration received upon disposal of property, where the 
 underlying issue is merely whether the tax shall be paid at one 
 time or another, it is clear that the "fair market price or value" 
 of property as of March 1, 1913, contemplates a valuation upon 
 the best evidence obtainable. It may be that there is nothing to 
 show that market value as of March 1, 1913, is greater than 
 previous cost; this does not alter the fact that if any evidence 
 exists, even though it be of a less conclusive character than 
 actual sales and dealings in the property, as to the "fair market 
 price or value" of property as of March 1, 1913, that evidence 
 should be employed in determining such value. In other words, 
 income must be a thing sufficiently real to be capable of being 
 taken out of a business without the impairment of capital. The 
 exact point at which an impairment of capital begins is one that 
 cannot easily be determined with precision and questions of doubt 
 as between income and capital must be resolved in favor of capi- 
 tal.58 If the impairment of capital is to be avoided, whether 
 the question be one of determining the taxpayer's capital at the 
 incidence of the tax with regard to the property disposed of or 
 one of depletion or depreciation, all evidence of value as of 
 March 1, 1913, must be resorted to and the term "fair market 
 
 56 See footnote 54. 
 
 57 This term is used in both the Revenue Act of 1921 and the Revenue 
 Act of 1918. 
 
 58 T. B. R. 48, T. B. 16-19-457. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 429 
 
 price or value" as of that date cannot be so limited that it may 
 be proved only by evidence of actual dealings in the property 
 under consideration in a more or less active market. 
 
 Proof of Market Value, There are various methods of proving 
 "market value" in the broad sense of that term. They are dis- 
 cussed below without reference to the distinction which may exist 
 between the terms "fair market value, if any," as used in the 
 Revenue Act of 1918, and "fair market price or value," as used 
 in the Revenue Act of 1921 and the 1918 Law, and regulations 
 issued thereunder. It should be observed at the outset that the 
 fair market price or value of property on March 1, 1913, or 
 any other date, is a question of fact to be established by any 
 evidence which will reasonably and adequately make it appear.^^ 
 None of the methods discussed below is to be regarded as ex- 
 clusive ; one or more of them may be used accordingly as evidence 
 is available. 
 
 Sales or Actual Dealings in Similar Property. Probably 
 the most reliable method of ascertaining the value of property 
 is by reference to sales or actual dealings in similar property. 
 This method is recognized by the Treasury Department, and 
 wherever such evidence is available, it should be used to establish 
 market value.^" The use of market quotations, as established 
 upon an exchange, is essentially a resort to sales or actual deal- 
 ings in property as proof of value. Price current lists and trade 
 journal quotations are also, within certain limitations, acceptable 
 evidence of value.^^ Where this method is adopted, the sales 
 
 59 Reg. 45, Art. 1561, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 60 See 0. D. 7, T. B. 1-19-12; 0. D. 995, T. B. 26-21-1699; A. R. R. 403, 
 T. B. 10-21-1492; A. R. R. 33, T. B. 9-20-764; See forms A, N, and T, 
 in which the value of mines, oil and gas wells, and timber lands is to be 
 established by reference, among other things, to sales of similar property; 
 see also Reg. 45, Art. 1584, in which market value for purposes of in- 
 ventories is to be established by current bid prices. 
 
 61 Virginia v. West Virginia, 238 U. S. 202, 212; Cliquot's Champagne, 
 3 Wall. 114, 141; Fennerstein's Champagne (Fennerstein v. United States), 
 3 Wall. 145; Chaffee v. United States, 16 Wall. 516, 542; Sisson v. Cleve- 
 land & T. R. Co., 14 Mich. 489; Cleveland & T. R. Co. v. Perkins, 17 Mich. 
 296; Whitney v. Thatcher, 117 Mass. 523; Fairley v. Smith, 87 N. C. 367; 
 State ex rel. Mosely v. Johnson, 144 N. C. 257, 56 S. E. 922, 929; Nash v. 
 Classen, 163 111. 409, 45 N. E. 276; Washington Ice Co. v. Webster, 68 
 Me. 449; Harrison v. Glover, 72 N. Y. 451. As a preliminary to their ad- 
 mission as evidence in the courts, such quotations must be accepted as 
 trustworthy by the trade. Indeed, there are authorities which hold they 
 are not acceptable without reference to the sources from which the quoted 
 information is derived and some jproof that the quotations are founded upon 
 actual sales. (See Whalen v. Lynch, 60 N. Y. 468, at p. 474; Bunte v. 
 Schuman, 46 Misc. 593; Fairley v. Smith, 87 N. C. 271; Norfolk & W. R. 
 
430 FEDERAL INCOME TAX 
 
 or dealings in similar property offered as proof should bear some 
 reasonable relation in volume to the amount of property being 
 valued. It is well settled that when the market value of a 
 commodity is in question, proof of such value must cover the 
 range of the entire market and must not contemplate any sudden 
 or transient inflation or depression of price resulting from in- 
 dependent sources.82 xhus, the selling price of a few shares of 
 stock is of little value in determining the actual worth of all the 
 stock of a corporation.63 it is also essential that the sales of 
 similar property chosen as proof of market value on any given 
 date should not be too remote in point of time from the date of 
 valuation.^ 
 
 Appraisal. The value of property as of a given date may 
 be proved by an appraisal made by a disinterested person 
 familiar with values of the kind of property in question and with 
 conditions affecting such values at the time involved.®^ 
 
 Assessment for State Tax Purposes. The assessed value 
 of property for purposes of state taxation constitutes evidence 
 of the value of the property and may be used where the value 
 of property is at issue for federal tax purposes.^® 
 
 Cost or Cost of Reproduction. Cost or cost of reproduction 
 may be taken as evidence of value as of a given date.®'^ If cost 
 is taken, proper allowance must be made not only for deprecia- 
 tion, but also for appreciation, between the dates of acquisition 
 
 Co. V. Reeves, 97 Va. 284, 33 S. E. 606; Vogt v. Cope (Cal.), 4 Pac. 915; 
 Fountain v. Wabash, 114 Mo. App. 676; Mt. Vernon Co. v. Teschner, 108 
 Md. 158; Doherty v. Harris, 230 Mass. 341.) 
 
 62 Sutherland on Damages, Vol. 9, §233; Todd v. Gamble, 148 N. Y. 382, 
 42 N. E. 982; Virginia v. West Virginia, 238 U. S. 202; Stein v. Hart- 
 shore, 123 App. Div. (N. Y.) 467. The phrase "in the volume in which 
 ordinarily purchased" contained in Art. 1584 of Reg. 45 is an illustration 
 of this rule. The implication contained in this phrase is clearly that a 
 few isolated transactions in the commodity -being inventoried would be 
 inadequate proof of market value. 
 
 63 Matter of Curtice, 111 App. Div. (N. Y.) 230, 97 N. Y. Supp. 444, 
 affirmed 185 N. Y. 542, 77 N. E. 1184. 
 
 64 Matter of Valentine, 147 N. Y. Supp. 231. 
 
 65 0. D. 955, T. B. 26-21-1699. See also Forms A, N, O and T, in which the 
 value of mines, oil and gas wells, and timber lands is to be established by 
 reference, among other things, to sales of similar property. 
 
 66 See Forms A, N, and T, in which the value of mines, oil and gas 
 wells, and timber lands is to be established by reference, among other things, 
 to sales of similar property. This rule is applied when the fair market 
 value of property as of the date of death of the owner is in question, and 
 the property has been valued for purposes of a state inheritance tax. (Reg. 
 45, Art. 562.) 
 
 67 T. B. R. 57, T. B. 19-19-494. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 431 
 
 and valuation. The amount of appreciation is frequently the 
 contested issue, however, and in such cases cost furnishes no 
 guide in obtaining the desired result. Cost of reproduction may 
 be largely a question of expert testimony. 
 
 Capitalization of Income. Another test of the value of 
 property is furnished by its capacity for producing income. 
 Where the value of property is in doubt, the income produced 
 by the property may be capitalized to obtain its value as of any 
 given date. This method is most frequently used in valuing in- 
 tangible property. There is no reason, however, why tangible 
 property may not be valued similarly. For instance, real estate 
 may be valued by capitalizing its rent producing capacity.®^ 
 
 Prorating on Time Basis. Under prior laws it has been 
 the practice of the Treasury Department to require taxable profit 
 to be determined by first ascertaining the difference between cost 
 and selling price and then prorating the result according to the 
 number of months the property was held before and after the in- 
 cidence of the tax. The Supreme Court has referred to this 
 method as a matter of detail to be settled according to the best 
 evidence obtainable and in accordance with valid departmental 
 regulations, and permitted the method to stand as applied in the 
 case at bar.^s while this method should be used only as a last 
 resort, no reason appears why it is not acceptable in principle. 
 Where the value of property is definitely known on two dates it 
 is fair to assume that the appreciation or depreciation occurring 
 between the two dates occurred evenly over the intervening pe- 
 riod unless there is some direct evidence to the contrary, and 
 if the difference is prorated on a time basis the value on the 
 desired date is readily established. 
 
 Book Value. The value at which property is carried on the 
 books of the owner is not conclusive evidence of its actual value. 
 Where the government attempts to impose a tax upon the differ- 
 ence between book value and selling price, the taxpayer may 
 show by other evidence the actual cost of the property or the 
 actual value thereof at the incidence of the tax. Neither is the 
 government bound by the value at which property is carried on 
 the books of the owner.™ 
 
 68 A. R. M. 34, T. B. 10-20-777; 0. D. 937, T. B. 23-21-1669. See Peo. 
 ex rel. Ogdensburg Co. v. Pond, 13 Abb. N. C. (N. Y.) 1, appeal dis- 
 missed 92 N. Y. 643. 
 
 69 Hays V. Gauley Mountain Coal Co., 247 U. S. 189. See also Great 
 Northern Ry. Co. v. Lynch, T. D. 3147, T. B. 13-21-1532. 
 
 70 Doyle V. Mitchell, 247 U. S. 179; U. S. v. Guggenheim Exploration Co., 
 238 Fed. 231; Forty Fort Coal Co. v. Kirkendall, 233 Fed. 704; State v. 
 Lee (Wis.) 178 N. W. 471. For the practice under the 1909 Law in re- 
 
432 FEDERAL INCOME TAX 
 
 Miscellaneous Evidence of Value. In addition to the 
 methods set forth in the preceding paragraphs there may be 
 other evidence in any particular case of a more or less general 
 character indicating or throwing light upon market value. The 
 value of property may be indicated in the course of litigation 
 affecting the property, such as a partnership accounting or a 
 partition action or the administration of an estate. It may be 
 indicated in reports to stockholders of a corporation. The his- 
 tory surrounding any property under valuation, in the case of 
 real property or oil lands, its geographical situation and the 
 availability of a market, the question of transportation facilities, 
 the security of the owner's title, may all affect the property's 
 value. It is impossible to enumerate or classify finally the evi- 
 dence which may be used to establish market value. In each 
 particular case the taxpayer should exhaust the evidence obtain- 
 able and his conclusion should be based on a thorough considera- 
 tion of all factors that may be evidential of the value in ques- 
 tion. 
 
 Proof of the Market Value of Stock. It has been held that the 
 value of shares of stock on March 1, 1913, should be determined 
 upon the basis of market quotations as of that date and not upon 
 the basis of book values.'^^ Where the market quotations vary 
 on the date of valuation the average price for the day should be 
 taken.''2 j^ valuing securities as of March 1, 1913, the item of 
 good-will indicated by a sale of all the stock of the corporation 
 in 1916 should be valued as of March 1, 1913, by the application 
 of the capitalization percentage based on earnings attributable 
 to good-will.'''^ 
 
 Shares of Same Stock Bought at Different Prices. When 
 various parcels of stock of the same issue are bought and sold 
 on different dates and at different prices, the shares sold should 
 be identified, if possible, by the numbers of the certificates cover- 
 ing them, and the cost of the identical shares should be deducted 
 in order to determine the profit. Where it is impossible to 
 
 gard to book entries, see T. D. 2130, and Great Northern Ry. Co. v. 
 Lynch, U. S. Dist. Ct., Dist. of Minn., T. D. 3147, T. B. 13-21-1532. 
 
 71 A. R. R. 33, T. B. 9-20-764. For the distinction between the value 
 of the capital assets of a company and the valuation of the shares owned 
 by the shareholders, see People v. Coleman, 126 N. T. 433, 27 N. E. 818. 
 
 72 Letter from treasury department dated November 2, 1916; I. T. S. 
 1919, 111857. 
 
 73 A. R. R. 252, T. B. 34-20-1143. In this case the treasury department 
 rejected the contention that the amount received for good will in 1916 
 should be treated as having ratably accrued over the entire period of 
 existence of a corporation from its organization to the date of sale. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 433 
 
 identify the shares in this manner, the shares should be con- 
 sidered to be sold in the order in which they were purchased, 
 that is, the cost of the first shares purchased should be deducted 
 from the selling price of the first shares soLdJ* 
 
 Proof of Value of Intangible Property. Intangible property is 
 frequently sold and its value on a given date then becomes the 
 subject of valuation. The intangible property referred to in- 
 cludes patents, copyrights, secret processes and formulae, good- 
 will, trade-marks, trade-brands, franchises and other like prop- 
 erty.'i's Good-will has been defined by the Treasury Department 
 as having "not merely the narrow and technical meaning which 
 has attached to it in numerous court decisions," but as including 
 that intangible value "which always attaches to a more than 
 usually profitable enterprise by reason of its proven earning 
 capacity." ^"^ Any profit or loss resulting from a sale of good- 
 will can be taken only when the business, or a part of it, to 
 which the good-will attaches is sold, in which case the profit or 
 loss will be determined upon the basis of the cost of the assets, 
 including good-will. If the good-will was acquired prior to 
 March 1, 1913, the taxable gain or deductible loss should be as- 
 certained in accordance with the rule stated above.'''' If nothing 
 was paid for good-will acquired after February 28, 1913, no 
 deductible loss with respect thereto is possible, although on the 
 other hand, upon the sale of the business there may be a profit. 
 It is immaterial that good-will may never have been carried 
 on the books as an asset. The burden of proof is on the tax- 
 payer to establish the cost or fair market value on March 1, 
 1913, of the good-will sold.''^ No depreciation can be deducted 
 from gross income with respect to good-will, but amounts de- 
 ducted on account of depreciation of patents or copyrights since 
 February 28, 1913, or since the date of acquisition if subsequent 
 thereto, must be added to profit or deducted from loss, as the 
 case may be, in determining the gain or loss on a sale of patents 
 or copyrights.''^ 
 
 No specific rule can be laid down for determining the value 
 of intangible property which would be applicable in all cases 
 and under all circumstances. The committee on appeals and re- 
 
 '^i Reg. 45, Art. 39, as amended by T. D. 3206, T. B. 33-21-1767. Letter 
 from treasury department dated February 26, 1916; I. T. S. 1918, Hf 413 
 and 1343; Reg. 45, Art. 36. 
 
 75 See Revenue Act of 1918, § 325 (a). 
 
 76 A. R. R. 252, T. B. 34-20-1143. 
 
 77 See p. 428. 
 
 78 Reg. 45, Art. 41, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 79 Reg. 45, Art. 40, as amended by T. D. 3206, T. B. 33-21-1767. 
 
434 FEDERAL INCOME TAX 
 
 view, however, has suggested several methods of valuing good- 
 will which, while not to be regarded as controlling, may serve 
 to guide the taxpayer in valuing intangibles. It has been the 
 practice of distillers and wholesale liquor dealers to put out 
 under popular brands only so much goods as could be marketed 
 without affecting the established market price therefor and to 
 sell other goods of the same manufacture, age and character 
 under other brands or no brand at all at figures below those 
 which the well-known brands commanded. In such cases the 
 difference between the price at which whiskey was sold under a 
 given brand name and also under another brand name, or under 
 no brand, multiplied by the number of units sold during a given 
 year gives an accurate determination of the amount of profit 
 attributable to that brand during that year, and where this prac- 
 tice is continued for a period long enough to show that this 
 amount was fairly constant and regular and might be expected 
 to yield annually that average profit, by capitalizing this earning 
 at the rate, say, of 20 per cent., the value of the brand is fairly 
 well established. 
 
 Another method is to compare the volume of business done 
 under the trade-mark or brand under consideration and profits 
 made, or by the business whose good-will is under considera- 
 tion, with the similar volume of business and profit made in 
 other cases where good-will or trade-marks have been actually 
 sold for cash, recognizing as the value of the first the same pro- 
 portion of the selling price of the second, as the profits of the 
 first attributable to brands or good-will, is of the similar profits 
 of the second. 
 
 The third method is to allow out of average earnings over a 
 period of years prior to March 1, 1913, preferably not less than 
 five years, a return of 10% upon the average tangible assets for 
 the period.80 The surplus earnings will then be the average 
 amount available for return upon the value of the intangible 
 assets, and it is the opinion of the committee that this return 
 should be capitalized upon the basis of not more than five years' 
 purchase — that is to say, five times the amount available as re- 
 turn from intangibles should be the value of the intangibles. 
 In applying this method, individuals or partnerships in deter- 
 mining net earnings should deduct a reasonable amount on ac- 
 count of the salaries of owners actively engaged in the busi- 
 ness.81 
 
 80 The 10% should be applied only to the tangible assets entering into net 
 worth including accounts and bills receivable in excess of accounts and 
 bills payable (A. R. M. 68, T. B. 28-20-1048). 
 
 81 O. B. 937, T. B. 23-21-1669. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 435 
 
 The foregoing is intended to apply particularly to businesses 
 put out of existence by the prohibition law, but will be equally 
 applicable so far as the third formula is concerned, to other 
 businesses of a more or less hazardous nature. In the case of 
 valuation of good- will of a business, which consists of the manu- 
 facture or sale of standard articles of everyday necessity not 
 subject to violent fluctuations and where the hazard is not so 
 great, the Committee is of the opinion that the figure for deter- 
 mination of the return on tangible assets might be reduced from 
 10 to 8 or 9% and that the percentage for capitalization of the 
 return upon intangibles might be reduced from 20 to 15%. 
 
 In any or all of the cases the effort should be to determine 
 what net earnings a purchaser of a business on March 1, 1913, 
 might reasonably have expected to receive from it, and there- 
 fore a representative period should be used for averaging actual 
 earnings, eliminating any year in which there were extraordinary 
 factors affecting earnings either way. Also, in the case of the 
 sale of good-will of a going business the percentage rate of 
 capitalization of earnings applicable to good-will shown by the 
 amount actually paid for the business should be used as a check 
 against the determination of good-will value as of March 1, 1913, 
 and if the good-will is sold upon the basis of capitalization of 
 earnings less than the figures above indicated as the figures 
 ordinarily to be adopted, the same percentage should be used in 
 figuring value as of March 1, 1913.^^ 
 
 A contemporary sale of stock will be considered as having 
 greater weight in determining the value of a corporation's 
 assets, including good-will, as of March 1, 1913, than values 
 based on appraisal."^ 
 
 Exchange for Diflferent Kinds of Property. Where property is 
 exchanged for other property which has no "readily realizable 
 market value," together with money or other property which has 
 a "readily realizable market value," the money or the fair market 
 value of the property having such "readily realizable market 
 value" received in exchange should be applied against and re- 
 duce the basis for determining gain or loss provided in the Reve- 
 nue Act of 1921 of the property exchanged. If such money or 
 the fair market value of other property having a "readily realiz- 
 able market value" is in excess of such basis, such excess is 
 taxable income. The basis so reduced will then be used in deter- 
 mining the gain derived or loss sustained upon a subsequent dis- 
 position of the property received which has no "readily realiz- 
 
 82 A. R. M. 34, T. B. 10-20-777; A. R. R. 252, T. B. 34-20-1143. 
 
 83 O. 791, T. B. 1-19-22. 
 
436 FEDERAL INCOME TAX 
 
 able market value." If the property having a "readily realiz- 
 able market value" is in excess of such basis, then the entire 
 proceeds realized upon a subsequent disposition of the property 
 having no "readily realizable market value" will be taxable in- 
 come.8* 
 
 Rule Under 1918 Law. If property vs^as exchanged for two 
 different kinds of property, such as bonds and stocks, the bonds 
 having a market value and the stock none, the value of the bonds 
 was to be compared with the cost. If the market value of the 
 bonds was less than such cost the difference represented the cost 
 of the stock. If the market value of the bonds was greater than 
 such cost, the difference represented gain and was taxable at the 
 time of the exchange unless the original property was acquired 
 prior to March 1, 1913, in which case the amount of gain taxable 
 was computed in accordance with the rule stated above.®^ In 
 either case the entire proceeds of such stock was taxable. If 
 property was exchanged for two different kinds of property, 
 such as bonds and stocks, neither having a fair market value, 
 the cost of the original property was required to be apportioned, 
 if possible, between the bonds and stock for the purpose of deter- 
 mining gain or loss on subsequent sales. If no fair apportion- 
 ment was practicable, no profit on any subsequent sale of any 
 part of the bonds or stock was realized until out of the proceeds 
 of sales the entire cost of the original property had been re- 
 covered.88 
 
 Organization, Reorganization, Merger and Consolidation of 
 Corporations. The present law in practical effect eliminates the 
 element of taxable profit and deductible loss upon the reorganiza- 
 tion merger and consolidation of corporations, and also upon the 
 organization of a corporation where the stock of the corporation 
 received by the former owners is distributed in substantially the 
 same proportion as the former interests of such owners and the 
 former owner or owners control the corporation. The purpose of 
 these provisions was to "permit business to go forward with the , 
 readjustments required by existing conditions." ^^ This purpose 
 and the urgent necessity for amendment of the Revenue Act of 
 1918 in these respects will clearly appear from the discussion 
 contained in succeeding paragraphs on the provisions of that 
 statute bearing upon the organization and reorganization of cor- 
 
 84 Revenue Act of 1921, §202 (e). 
 
 85 See p. 428. 
 
 86 Reg. 45, Art. 1565, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 87 See Report of Finance Committee on Internal Revenue Bill of 1921, 
 p. 11; Report of Ways and Means Committee, p. 10. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 437 
 
 porations. The general rule under the Revenue Act of 1921 is 
 that on an exchange of property for other property having a 
 "^readily realizable market value" a gain may be derived or a loss 
 sustained. But even if the property received in exchange has a 
 "readily realizable market value" no gain or loss will be recog- 
 nized when in the reorganization of one or more corporations a 
 person receives in place of any stock or securities owned by him, 
 stock or securities in a corporation a party to or resulting from 
 stich reorganization. The word "reorganization," as thus used, 
 includes a merger or consolidation (including the acquisition by 
 one corporation of at least a majority of the voting stock and at 
 least a majority of the total number of shares of all other classes 
 of stock of another corporation, or of substantially all the prop- 
 erties of another corporation), recapitalization, or mere change 
 in identity, form, or place of organization of a corporation, (how- 
 ever effected) . 
 
 Neither will any gain or loss be recognized under the Revenue 
 Act of 1921 when (a) a person transfers any property, real, per- 
 sonal or mixed, to a corporation, and immediately after the trans- 
 fer is in control of such corporation, or (b) two or more persons 
 transfer any such property to a corporation, and immediately 
 after the transfer are in control of such corporation, and the 
 amounts of stock, securities, or both received by such persons are 
 in substantially the same proportion as their interests in the 
 property before such transfer. A person is, or two or miore per- 
 sons are, "in control" of a corporation when owning at least 80 % 
 of the voting stock and at least 80% of the total number of shares 
 of all other classes of stock of the corporation. Where property 
 is exchanged for other property and no gain or loss is recognized, 
 the property received will be treated as taking the place of the 
 property exchanged therefor. 
 
 When money or other property of "readily realizable market 
 value" is received upon the organization or reorganization (as 
 above defined) of a corporation, other than stock or securities in 
 a corporation a party to or resulting from such reorganization 
 or the corporation organized as indicated above, the money or 
 the fair market value of such other property received in exchange 
 will be applied against and reduce the basis for determining gain 
 or loss, provided by the Revenue Act of 1921, of the property 
 exchanged, and if in excess of such basis, will be taxable to the 
 extent of the excess.^^ 
 
 88 Revenue Act of 1921, § 202. 
 
438 FEDERAL INCOME TAX 
 
 Reorganization, Merger, Consolidation of Corporations Under 
 the 1918 Law.89 When property was exchanged for other prop- 
 erty, the property received in exchange was treated, for the 
 purpose of determining gain or loss, under the 1918 Law, as the 
 equivalent of cash to the amount of its "fair market value, if 
 any" ; but when in connection with the reorganization, merger, or 
 consolidation of a corporation a person received in place of stock 
 or securities owned by him new stock or securities of no greater 
 aggregate par or face value, no gain or loss was deemed to occUr 
 from the exchange, and the new stock or securities received were 
 treated as taking the place of the stock, securities, or property 
 exchanged. When in the case of any such reorganization, mer- 
 ger or consolidation the aggregate par or face value of the new 
 stock or securities received was in excess of the aggregate par 
 
 89 The provision discussed in this paragraph was perhaps the most ar- 
 tificial and illogical provision contained in the Revenue Act of 1918. It made 
 the par value of stock a test of taxability. Par value has no relation 
 whatever to actual value, as is well stated by the Supreme Court in Virginia 
 V. West Virginia, 238 U. S. 202, as follows: "Statements may be found to 
 the effect that par value is prima facie actual value (citing cases), but if 
 such statements can be deemed to announce a comprehensive rule, to be 
 applied in the absence of evidence as to the property and business of the 
 corporation, we cannot regard it as well founded. There is no such pre- 
 sumption of law, and common experience negatives rather than raises such 
 an inference of fact. We took this view in Fogg v. Blair, 139 U. S. 118, 
 127, 35 L. Ed. 104, 107, 11 Sup. Ct. Rep. 476, when we criticized the sup- 
 position 'that the court, in the absence of averment or proof to the con- 
 trary, would assume that it (stock) was worth par, or had substantial 
 value.' (Citing cases). Shares represent the proportionate interest of the 
 shareholders in the corporate enterprise, and a rule that this interest, in the 
 absence of all supporting evidence, should be taken as actually worth 
 the par of the shares, would be wholly artificial. There is no exigency 
 in the administration of justice which requires or justifies such an ex- 
 treme assumption." Insofar, however, as the provision served to permit 
 reorganizations, mergers and consolidations to be effected without pre- 
 cipitating tax liability, it served a useful purpose. The hardship of impos- 
 ing a heavy tax in connection with reorganizations, mergers and consolida- 
 tions is now recognized in the Revenue Act of 1921. Such proceedings fre- 
 quently leave the taxpayer with pieces of paper representing precisely the 
 same property, or interest in property, he had before. Only in a highly 
 technical sense — that is, by virtue of the doctrine of separate corporate 
 entity — can it be said that he has anything different. There has been mere- 
 ly a formal exchange ; substantially he has the same property. The doctrine 
 of separate corporate entity is discussed in Chapter 10 footnote 55 as applied 
 to the organization of corporations and what is said there is equally ap- 
 plicable here. It should also be observed in this connection that the 1918 
 Law implied as a condition to taxability that the new stock or securities 
 should have a "fair market value.'' This introduces the question discussed 
 above as to the definition of the term "fair market value." (See p. 419.) 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 439 
 
 or face value of the stock or securities exchanged, a like amount 
 in par or face value of the new stock or securities received was 
 treated as taking the place of the stock or securities exchanged, 
 and the amount of the excess in par or face value was treated as 
 a gain to the extent that "the fair market value" of the new 
 stock or securities was greater than the cost (or if acquired prior 
 to March 1, 1913, the fair market value as of that date) of the 
 stock or securities exchanged."" 
 
 90 Revenue Act of 1918, §202 (b). The provisions of this section apply 
 only to the determination of gain or loss from exchanges of stock in con- 
 nection with reorganizations, consolidations or mergers occurring in 1918, 
 1919 and 1920. (O. D. 783, T. B. 5-21-1414; A. R. R. 156, T. B. 26-20-1024.) 
 The original rulings of the treasury department were to the effect that upon 
 a reorganization, where a new corporation was formed with a larger par 
 value, the transfer of the assets from the old to the new and the exchange of 
 stock by the stockholders of the old for a greater par value of stock of 
 the new, did not create taxable income. (Letter from treasury department 
 dated May 3, 1915; I. T. S. 1918, T11292; Letter from treasury department 
 dated April 1, 1915; I. T. S. 1918, 11398.) In the latter ruling it was said: 
 "In this transaction there is nothing to indicate that the two shares of 
 stock in the B Company of a par value of $100 each, had a value in cash or 
 its equivalent in excess of the value of the stock in the A Company. There is 
 no evidence other than the difference in the quantitative par value of the 
 shares of stock, that any gain, profit or income was realized from the ex- 
 change of the shares of stock. It is, therefore, the opinion of this office 
 that no accounting of income will be required until such time as the in- 
 dividual in question sells the stock of the B Company at a price in excess 
 of the capital which he originally invested in the stock of the A Company." 
 Where, upon a reorganization, new stock was acquired by a stockholder in 
 exchange for old stock, and both were of the same pa/r value, no income 
 arose at the time of the exchange, but when the new stock was sold, the 
 gain was required to be based upon the cost of the old stock, or its value 
 as of March 1, 1913. (Letter from treasury department dated March 8, 
 1917; I. T. S. 1918, 1| 1302.) Where upon a reorganization stock of the 
 new company was issued in exchange for shares of the old, the new com- 
 pany taking over the property of the old, no income accrued if the ex- 
 change of stock was share for share of like par value, even though the 
 property of the first corporation had increased in value over a period of 
 years since its stock was first issued. Where the stock of both corpora- 
 tions was of like par value and predicated upon exactly the same assets 
 the transaction resulted in no gains, profits, or income to either the first 
 corporation or its stockholders. If the stock of the first company at the time 
 of the transaction was worth "double par," the stock of the second com- 
 pany, being supported by identically the same assets, was presumably of 
 the same value, and the exchange of the new stock for the old resulted in 
 no income. It was simply an exchange of assets of like character and like 
 value. (Letter from treasury department dated March 8, 1917; I. T. S. 
 1918, 1[1302.) Where the assets of one corporation were transferred to 
 another, the stockholders of the first receiving in exchange for their 
 stock a greater amount of stock, par value, in the new corporation, the 
 
440 FEDERAL INCOME TAX 
 
 Definition. The phrase "aggregate par value" meant the 
 aggregate par value of stock of each individual stockholder, ex- 
 changed for new stock and the aggregate par value of such stock 
 
 par value of the new stock was considered as the equivalent of cash and 
 taxable to the extent that it exceeded the cost of the old. Where the 
 stockholders of a corporation surrendered their stock for stock of less par 
 value, they were permitted to claim a loss on the difference between the 
 cost of the old and the par of the new. (Letter from treasury department 
 dated March 9, 1917; I. T. S. 1918, 113222.) In later rulings, however, 
 it was held that, upon a reorganization, where a new corporation was 
 formed with a stock of larger par value, the transfer of assets of the old 
 to the new and the exchange of stock by the stockholders of the old for 
 stock of a greater par value of the new created income to the old corpora- 
 tion and its stockholders; but that in determining the amount of such 
 income, or the "amount received" by the old corporation and the "amount 
 distributed" to its stockholders, the par value of the stock of the new 
 corporation would only be taken as the actual value, or an equivalent of 
 cash, "in the absence of any proof to the contrary." In other words, al- 
 though the transaction was still held to be a closed and completed one, 
 the conclusive presumption, that the par value of the stock of the new 
 corporation represented actual value and was the equivalent of cash, was 
 reduced to a rebuttable presumption; and the value of such stock became a 
 matter of proof, or question of fact. (Letter from treasury department 
 dated November 10, 1917; I. T. S. 1918, 111309; letter from treasury de- 
 partment dated December 8, 1917; I. T. S. 1918, 111313; letter from treas- 
 ury department dated March 19, 1918; I. T. S. 1918, 113222; Reg. 33 Rev., 
 Art. 101. The Supreme Court has definitely held that par value is not 
 even prima facie evidence of actual value (Virginia v. West Virginia, 238 
 U. S. 202, 219). The treasury department next drew a distinction be- 
 tween reorganizations involving the. purchase of the stock and those in- 
 volving the purchase of the assets of the old company. It was held that 
 where a corporation acquired from stockholders the stock of another corpo- 
 ration, giving in exchange therefor its own stock, the transaction was one 
 by which the corporation acquiring the stock became the sole stockholder of 
 the other corporation and that no income accrued to the corporation whose 
 stock was thus acquired. This was true even though later the holding 
 corporation caused the assets of the underlying company to be transferred 
 to it for mere nominal consideration. (Reg. 33 Rev., Art. 124.) It was 
 held that if a corporation sold its assets in whole or in part and the pur- 
 chase price was paid with stock issued by the purchasing company, the 
 purchase price would be the actual value at the time of the stock issued in 
 payment for such assets. (Reg. 33 Rev., Art. 101; letter from treasury 
 department dated September 9, 1916; I. T. S. 1918, 111297.) If the shares 
 of stock received by the selling corporation were distributed to its stock- 
 holders, the fair market value of the stock so distributed in excess of the 
 cost (or fair market value as of March 1, 1913) of the stock held by 
 them in the selling corporation would be considered income to the stock- 
 holders. (Letter from treasury department dated September 9, 1916; I. 
 T. S. 1918, 111297; Reg. 33 Rev., Art. 101.) If the excess over value as 
 of March 1, 1913, or over cost, as the case might be, included any surplus 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 441 
 
 received by each individual stockholder.^^ The word "or" as 
 used in the phrase "stock or securities" vi^as held to be synony- 
 mous with the word "and" and a person might, in connection 
 with the reorganization, merger or consolidation of a corpora- 
 tion, turn in either stock or securities, or both, and accept 
 either new stock or securities, or both, of no greater par or 
 face value, without being liable for tax.^^ The term "reorgani- 
 zation" was held to mean a business arrangement whereby the 
 stock and bonds of a corporation were readjusted as to amount, 
 income or priority, or the issue of one kind of stock was substi- 
 tuted for the issue of another kind, or the property was sold to a 
 new corporation for new stock and bonds, or was sold by fore- 
 closure of a mortgage upon it to a purchaser who bought for 
 himself and his associates, and included the various proceedings 
 and transactions by which succession of corporations was brought 
 about, and also the proceedings by which existing corporations 
 were continued under a different organization without the crea- 
 tion of a new corporation.^^ 
 
 The term "reorganization" included cases of corporate adjust- 
 ment where stockholders exchange their stock for the stock of 
 a holding corporation, provided the holding corporation and the 
 original corporation, in which it held stock, were so closely re- 
 lated that the two corporations were affiliated.''* A merger of 
 two or more corporations was defined as taking place when one 
 of such corporations retained its corporate existence and ab- 
 sorbed the other or others, which thereby lost their corporate 
 existence; a consolidation was defined as taking place when a 
 new corporation was created to take the place of the constituent 
 corporations which were themselves dissolved in the process.^^ 
 "Par value" in foreign currency was required to be converted 
 into United States currency at the rate of exchange prevailing 
 on the date of a reorganization, consolidation or merger."" 
 
 Exchange of Stock for Other Stock of No Greater Par 
 Value. In general, where two (or more) corporations unite 
 
 earned since March 1, 1913, by the selling company, upon which the in- 
 come tax had, been paid, the excess or profits resulting from the sale 
 might be reduced by the amount of such tax-paid surplus. 
 
 91 O. D. 204, T. B. 10-19-353. 
 
 92 0. D. 335, T. B. 29-19-623. 
 
 93 Reg. 40 Rev., Art. 33. See Cook on Corporations, 7th Edition, 1| 883. 
 This definition was made for stamp tax purposes. See U. S. v. Phellis, 
 42 Sup. Ct. Rep. 63. 
 
 94 Reg. 45, Art. 1567. See U. S. v. Phellis, 42 Sup. Ct. Rep. 63. 
 
 95 Sol. Op. 4, T. B. 22-20-981. 
 
 96 0. D. 1058, T. B. 41-21-1589. 
 
442 FEDERAL INCOME TAX 
 
 their properties, by either (a) the dissolution of corporation 
 B and the sale of its assets to corporation A, or (b) the sale 
 of its property by B to A and the dissolution of B, or (c) the 
 sale of the stock of B to A and the dissolution of B, or (d) 
 •the merger of B into A, or (e) the consolidation of the corpora- 
 tions, no taxable income within the meaning of the 1918 Law 
 was received from the transaction by A or B or the stockholders 
 of either, provided the sole consideration received by B and its 
 stockholders in (a), (b), (c), and (d) was stock or securities of 
 A, and by A and B and their stockholders in (e) was stock or 
 securities of the consolidated corporation, in any case of no 
 greater aggregate par or face value than the old stock and 
 securities surrendered. So-called "no-par-value stock" issued 
 under a statute or statutes which require the corporation to fix 
 in a certificate or on its books of account or otherwise an amount 
 of capital or an amount of stock issued which may not be im- 
 paired by the distribution of dividends, was deemed to have a 
 par value representing an aliquot part of such amount, proper 
 account being taken of any preferred stock issued with a prefer- 
 ence as to principal. In the case (if any) in which no such 
 amount of capital or issued stock is so required, "no-par-value 
 stock" received in exchange was regarded as having in fact no 
 par or face value, and consequently as having "no greater aggre- 
 gate par or face value" than the stock or securities exchanged 
 therefor.^'^ 
 
 A number of cases have arisen under the 1918 Law in con- 
 nection with the reorganization, merger and consolidation of 
 corporations in which the stockholders of the old corporation 
 or corporations have been held free from tax on the ground that 
 the aggregate par or face value of the stock or securities re- 
 ceived was less than the aggregate par or face value of those 
 exchanged. Each of these decisions is based upon its peculiar 
 circumstances and should be used with caution in connection 
 with any other case. In view of the importance of the subject 
 the more important of these decisions are reviewed below : 
 
 1. The only requirement of the Eevenue Act of 1918 was 
 that the new securities received upon the reorganization, merger 
 or consolidation of a corporation or corporations should have no 
 greater face value than the old. The actual value of the respec- 
 tive securities was immaterial. The nature of the respective 
 securities was also immaterial; either the old or new securities 
 might be bonds or stock, or both.^^ 
 
 97 Reg. 45, Art. 1567. 
 
 98 T. B. R. 25, T. B. 6-19-267. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 443 
 
 2. Where the stockholders of one of several banks which 
 were consolidated received in exchange for their shares stock 
 of the consolidated bank of no greater aggregate par or face 
 value than their shares in the old bank, bonds purchased by 
 the old bank subsequent to March 1, 1913, at 80 being taken 
 over by the consolidated bank at 70 and later sold by the con- 
 solidated bank at 80, the department held that there was no 
 realization of gain or loss at the time of consolidation by either 
 the old bank or its stockholders, and also that the consolidated 
 bank did not receive any profit on the sale of the bonds since it 
 should have placed them on its books at the same figure at which 
 they were carried by the old bank.'^^ 
 
 3. Mere multiplication of the number of shares of a corpora- 
 tion (resulting from the exchange of four new shares, each 
 having a par value of $25, for each old share of $100 par value) 
 when not accompanied by conversion of surplus into capital 
 stock or revaluation of assets, did not give rise to taxable gain 
 or income to stockholders making the exchange. Where a cor- 
 poration amended its charter so that instead of having 10,000 
 shares of no-par value, the same stockholders held 100,000 shares 
 without par value, neither the original charter nor the amend- 
 ment having any stated capital in dollars, this multiplication of 
 shares being not accompanied by conversion of assets into capi- 
 tal stock or any revaluation of assets, such a transaction did not 
 give rise to taxable income to stockholders making the ex- 
 change.i°° Likewise where a charter of a corporation is 
 amended, and each stockholder receives no-par stock for par 
 stock, share for share, no deductible loss is sustained even though 
 the no-par stock is worth less, as proved by actual sales, than 
 the cost or par value of the old stock.^o^ 
 
 4. Where a corporation was insolvent and the bondholders 
 bid in the property at foreclosure sale and for the purpose of 
 reorganization conveyed it to a new corporation, receiving in 
 exchange for their: bonds stock of the new corporation of the 
 same par value, the department held that a bondholder might 
 deduct as a loss under the 1913 Law the amount by which the 
 cost of the bonds, or their fair market value as of March 1, 
 1913, if acquired prior thereto, exceeded the fair market value 
 at the time of the exchange of the stock received by him.io^ 
 
 99 0. D. 418, T. B. 13-20-803. 
 
 100 T. B. R. 39, T. B. 12-19-396. 
 
 101 O. D. 1080, T. B. 44-21-1891. 
 
 102 S. 1294, T. B. 4-20-698. In this case neither of the old insolvent com- 
 panies had paid interest on their bonds for some years prior to the fore- 
 closure and the bonds seemed to have depreciated in value by March 1, 
 
444 FEDERAL INCOME TAX 
 
 5. In a case in which two existing corporations were consoli- 
 dated under the act of General Assembly of the State of Ohio, 
 by the exchange of no-par value shares of the new corporation 
 for the entire assets and obligations of each of the existing cor- 
 porations, which in turn were liquidated, it was held that the 
 no-par value stock of the consolidated corporation would be 
 deemed to have a par value represented by the aliquot part of 
 the total book value of the properties of the corporations which 
 were consolidated and exchanged for the no-par value shares. 
 This decision was based upon the Ohio statute limiting the 
 declaration of dividends to surplus profits arising from the 
 business of a new corporation. Under this provision the net 
 value of the assets of the corporations which were consolidated 
 might not be less than the amount of capital stated in the arti- 
 cles of incorporation as that with which the new corporation was 
 to carry on business. It was not required to be in excess of that 
 amount. If in fact the net value of the assets of the corpora- 
 tions which were consolidated exceeded the amount of capital 
 specified in the articles of incorporation, the excess was deemed 
 paid-in surplus out of which dividends might be paid.^"^ 
 
 Determination of Gain or Loss from Subsequent Sale. 
 The new stock and securities received, when they are of no 
 greater aggregate par or face value than the stock or securities 
 exchanged, took the place, under the 1918 Law, of the old stock 
 and securities. For the purpose, therefore, of ascertaining the 
 gain derived or loss sustained from the subsequent sale of any 
 stock of A or of the consolidated corporation, so received, the 
 original cost to the taxpayer of the stock of B or A in respect 
 of which the new stock was issued, less any untaxed distribution 
 made to the taxpayer by A out of the former capital or surplus 
 of B, or by the consolidated corporation out of the former capi- 
 tal or surplus of A or B, was the basis for determining the 
 amount of such gain or loss. However, the gain which was tax- 
 able or the loss which was deductible in the case of the subse- 
 quent sale of any stock of A or of the consohdated corporation, 
 
 1913, practically to the extent of the value of the stock received by the 
 bond-holders in the new corporation. The department consequently held 
 that the taxpayer sustained no deductible loss in 1914 when the reor- 
 ganization was effected. It will be noted that this case was decided under 
 the 1913 Law which contained no provision that where upon the reorgani- 
 zation, merger or consolidation of a corporation a person receives in place 
 of stock or securities owned by him new stock or securities of no greater 
 aggregate par or face value, no gain or loss is deemed to occur from the 
 exchange. (Revenue Act of 1918, §202 (b).) 
 103 Sol. Op. 72, T. B. 45-20-1286. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 445 
 
 SO received, when the stock of B or A in respect of which new 
 stock was issued was acquired prior to March 1, 1913, was re- 
 quired to be determined in accordance with the rule stated 
 above.i"* When securities of a single class were exchanged for 
 new securities of the same total par value but of different classes, 
 for the purpose of determining profit or loss on the subsequent 
 sale of any of the new securities, the proportion of the original 
 cost to be allocated to each class of new securities was that pro- 
 portion which the market value of the particular class bore to 
 the market value of all securities received on the date of the 
 exchange. If the securities exchanged were acquired prior to 
 March 1, 1913, the proportion of their value as of such date to 
 be allocated to each class of new securities was that proportion 
 which the market value of the particular class bore to the mar- 
 ket value of all securities received on the date of the exchange 
 and the gain or loss was required to be determined in accord- 
 ance with the rule stated above.^'^^ For example, if 100 shares 
 of common stock, par value $100, were exchanged for 50 shares 
 of preferred and 50 shares of common each of $100 par value, 
 and the cost of the old stock was $250 per share, or $2,500, but 
 the market value of the preferred on the date of the exchange 
 was $110 per share, or $5,500 for the 50 shares, and the market 
 value of the common was $440 per share or $22,000 for the 50 
 shares of common, one-fifth of the original cost, or $5,000, would 
 be regarded as the cost of the preferred and four-fifths, or 
 $20,000, as the cost of common. The same method of computa- 
 tion was required to be used in the case of stock acquired prior 
 to March 1, 1913, in order to ascertain the proportion of such 
 value to be allocated to each class of new securities on that date 
 and the taxable gain or deductible loss was required to be there- 
 after computed in accordance with rule stated above.^o^ Simi- 
 larly, the cost after reorganization, merger, or consolidation of 
 the assets of A, or of the consolidated corporation, was the sum 
 of the cost of the assets of A and B for the purpose of ascertain- 
 ing the gain or loss from a subsequent sale. However, in case 
 the assets were acquired prior to March 1, 1913, in order to 
 compute the taxable gain or deductible loss, the fair market value 
 as of such date was also required to be ascertained by taking the 
 sum of the fair market value of the assets of A and B.^"'^ 
 
 104 See p. 413. 
 
 105 See p. 413. 
 
 106 See p. 413. 
 
 107 Reg. 45, Art. 1568, as amended by T. D. 3206, T. B. 33-21-1767. 
 
446 federal income tax 
 
 Exchange of Stock for Other Stock of Greater Par 
 Value. If in the case of any reorganization, merger, or con- 
 solidation, the aggregate par or face value of the new stock or 
 securities received was in excess of the aggregate par or face 
 value of the stock or securities exchanged, income within the 
 meaning of the 1918 Law would be realized from the transaction 
 by the recipients of the new stock or securities to an amount 
 limited by (a) the excess of the par or face value of the new 
 stock or securities over the par or face value of the old, and 
 (b) the excess of the fair market value of the new stock or 
 securities over the cost of the old, unless the old stock or securi- 
 ties were acquired prior to March 1, 1913, and their fair market 
 price or value as of that date was greater than their cost, in 
 which case, the fair market value of the new stock or securities 
 must be in excess of the fair market value as of March 1, 1913, 
 of the old. The taxable profit was (a) or (b), whichever was 
 Iess.108 There was no election whether (a) or (b) applied. The 
 fair market value of each stockholder's interest was required to 
 be determined as of the date the reorganization, merger or con- 
 solidation was consummated, not the date on which the exchange 
 of stock took place.i°3 
 
 In a number of cases involving the reorganization, merger or 
 consolidation of corporations in which the aggregate par or face 
 value of the stock or securities received exceeded the aggregate 
 par or face value of the stock or securities exchanged, the stock- 
 holders of the old corporation or corporations were held liable 
 to tax. Each of these decisions is based upon its peculiar cir- 
 cumstances and should be used with caution in connection with 
 any other case. In view of the importance of the subject the 
 more important of these decisions are reviewed below : 
 
 1. A company whose operations had proved very profitable 
 was reorganized, two new corporations being formed, one to 
 take over its production business and the other its pipe-line busi- 
 ness. By the reorganization the stockholders of the old company 
 came into the possession of stock of a holding company and the 
 two reorganized companies and bonds of the two reorganized 
 companies of a greater aggregate par or face value than their 
 old stock. The beneficial interests in the enterprise remained 
 the same. This transaction was held to produce taxable income 
 to the stockholders of the old company .11° 
 
 108 Reg. 45, Art. 1569, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 109 O. D. 1071, T. B. 43-21-1880. 
 
 110 A. R. M. 67, T. B. 28-20-1049. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 447 
 
 2. Where in connection with a reorganization of a company 
 a stockholder had the right to make an exchange in one year, 
 but did not actually make the exchange until the following year, 
 the profit accruing was deemed income in the year in which the 
 exchange was actually made.^ 
 
 3. In a case decided under the Massachusetts statute the 
 complainant was the owner of 2,300 shares of common and pre- 
 ferred stock of an ascertained value on January 1, 1916 (the 
 date of incidence of the Massachusetts tax) . In the following 
 July she used this stock as consideration with which to sub- 
 scribe for and acquire 4,125 shares of common stock in a new 
 and different corporation formed to take over the assets of the 
 old, the new stock having a greater total par value than the old. 
 The new corporation became the owner of substantially all of 
 the stock of the old company and caused to be transferred to 
 itself all the assets of the old company and carried on the busi- 
 ness of the latter through the same officers without interrup- 
 tion and without outward indication c^f change. The court held 
 that the complainant was subject to tax on the difference be- 
 tween the value on January 1, 1916, of the stock of the old 
 company and the market value of the stock of the new company 
 at the time of transfer.^^^ 
 
 4. Where in the case of a consolidation effected in 1920 the 
 new stock received exceeded the old stock in par value, but its 
 market value was less than the cost in 1918 of the stock ex- 
 changed, it was held that no deductible loss was sustained.^^^ 
 Where the market value of the stock received, taken together 
 with certain cash received, was less than the cost of the old 
 stock, it has been held that a deductible loss was sustained, even 
 though the par value of the new stock exceeded the par value 
 of the old stock."* 
 
 5. The members of a joint-stock company were held taxable 
 when it reorganized into a corporation and the par value of the 
 
 111 A. E. R. 289, T. B. 44-20-1274. 
 
 112 Osgood V. Tax Commissioner, 235 Mass. 88, 126 N. E. 371. The 
 court said: "Although the property owned by the new corporation was 
 identical with that owned by the old corporation, it nevertheless plainly 
 was a different legal entity * * * rpj^g stock obtained by the com- 
 plainant through exchange was different in kind and not merely in degree 
 from that which she owned before. It was not the same corporation and 
 the stock itself was different in nature, a change of investment had been 
 made both in name and essence." (See also Stone v. Tax Commissioner, 
 235 Mass. 93, 126 N. E. 373.) 
 
 113 0. D. 932, T. B. 22-21-1660. 
 
 114 0. D. 970, T. B. 28-21-1722. 
 
448 FEDERAL INCOME TAX 
 
 stock received was greater than the par value of their respective 
 interests in the joint-stock company.iis 
 
 6. A case of great importance involving the reorganization 
 of a corporation and arising under the 1913 Law has been re- 
 cently decided by the Supreme Court.^i" The facts were briefly 
 as follows: ' 
 
 A New Jersey corporation, having a large surplus sufficient 
 to cover the distribution indicated below, transferred all its 
 assets and good-will to a Delaware corporation which assumed 
 all the obligations of the New Jersey corporation except capital 
 stock and funded debt. The New Jersey company retained some 
 cash to redeem one issue of mortgage bonds and with some of 
 the debenture stock received from the Delaware company re- 
 deemed its preferred stock and another issue of bonds, the 
 balance of debenture stock received being just equal to the out- 
 standing common capital stock of the New Jersey company and 
 being retained in the treasury of the New Jersey company. In 
 addition to this debenture stock the New Jersey company also 
 received an amount of common capital stock of the Delaware 
 company with a par value of twice the outstanding common 
 stock of the New Jersey company. Each common stockholder 
 of the New Jersey company retained his common stock and 
 received two shares of common stock of the Delaware company 
 for each share held by him in the New Jersey company. Imme- 
 diately after the reorganization the personnel of stockholders 
 and officers of the two corporations was identical, and the com- 
 mon stockholders of each corporation had the same proportion- 
 ate stockholding. The New Jersey company did not liquidate, 
 but continued as a going concern, although it ceased doing busi- 
 ness with the exception of the redemptions above indicated, the 
 holding of the above debenture stock, and the collection and 
 disposition of dividends thereon. The Commissioner held that 
 the common stock of the Delaware company received by the 
 common stockholders of the New Jersey company constituted 
 income to such stockholders to the extent of its fair market value, 
 which value was apparently not in dispute. The Supreme Court, 
 reversing the court of claims, and sustaining the Commissioner, 
 held: (a) The true inquiry must be whether the stock of the 
 Delaware company received as a dividend by the stockholders 
 of the New Jersey company constituted "a gain derived from 
 capital, not a gain accruing to capital, nor a growth or incre- 
 
 115 0. D. 1051, T. B. 40-21-1851. 
 
 116 U. S. V. Phellis, 42 Sup. Ct. Rep. 63. See also Rockefeller v. U. S.; 
 N. Y. Trust Co. v. Edwards, 42 Sup. Ct. Rep. 68. 
 
INCOME PROM SALES OR DEALINGS IN PROPERTY 449 
 
 ment of value in the investment, but a gain, a profit, something 
 of exchangeable value proceeding from the property, severed 
 from the capital invested, and coming in, that is, received or 
 drawn by the claimant for his separate use, benefit and dis- 
 posal," (b) The transfer of the New Jersey company's assets 
 in exchange for stock of the Delaware company and the distri- 
 bution of such stock among the stockholders of the New Jersey 
 company changed the former situation materially ; the stockhold- 
 ers of the New Jersey company received assets of exchangeable 
 and actual value "severed from their capital interest" in the New 
 Jersey company. Prior to the distribution the common stock- 
 holders of the New Jersey company had merely a contingent 
 right to participate eventually in the accumulated surplus of 
 that company; after the distribution they had new individual 
 property rights which they severally were entitled to retain 
 and enjoy or sell and transfer. In the language of the court, 
 "whether he (the stockholder) sold the new stock for money or 
 retained it in preference, in either case when he received it he 
 received as his separate property a part of the accumulated profits 
 of the old company in which previously he had only a potential 
 and contingent interest", (c) A comparison of the market value 
 of the stockholders' shares in the New Jersey corporation imme- 
 diately before with the aggregate market value of the shares 
 plus the dividend shares immediately after the transaction, as 
 demonstrating that there was neither a pecuniary gain nor loss in 
 the transaction, is immaterial. Any dividend or distribution, 
 whether paid in money or assets, reduces the intrinsic value of 
 the shares of stock to which the distribution or dividend apper- 
 tains, (d) Looking through the substance of the entire transac- 
 tion the Delaware company can not be regarded as identical with 
 the New Jersey company, but must be treated as a substantial 
 corporate body with separate entity. The new corporation was 
 incorporated in a different state ; it had a greater authorized capi- 
 tal stock ; the identity of officers in the two corporations depended 
 on the continued and unanimous consent or concurrent action of 
 a multitude of individual stockholders actuated by motives and 
 influences necessarily to some extent divergent; the identity of 
 the stockholders was but a temporary condition subject to change 
 at any moment at the option of any individual, and the very fact 
 of the transfer of the assets by the one company to the other 
 evidenced the actual separateness of the two companies. 
 
 7. In a case arising under the 1909 Law the defendant pur- 
 chased in 1909 certain properties, the legal title to which was 
 taken in the name of its president, as trustee. Later in the 
 
450 FEDERAL INCOME TAX 
 
 same year, pursuant to a plan for increasing the capital stock 
 of the defendant, these properties were conveyed by the trus- 
 tee to a corporation which had been formed for the express 
 purpose of thus acquiring and using them in carrying out the 
 recapitalization scheme. The consideration of the conveyance 
 was the issuance by the latter company to the trustee of prac- 
 tically its entire capital stock. The stock thus issued to the 
 trustee was immediately transferred by him to the defendant, 
 which, in turn, distributed it among its stockholders, share for 
 share. Thereupon, in furtherance of the recapitalization plan, 
 a merger was effected between the defendant and the new 
 company. For purposes of the merger, the value of properties 
 so conveyed to the new company (which constituted all of its 
 assets) was fixed at the same figure as that at which the trus- 
 tee had conveyed them to that company; also, before the stock 
 was distributed among the defendant's stockholders, it was 
 formally valued by its directors at par. The par value of such 
 stock greatly exceeded the price at which the property had 
 originally been purchased by the defendant. The defendant 
 did not include as income in its return the apparent profit result- 
 ing from the difference between the price which it had originally 
 paid for the properties and the price at which it had ostensibly 
 sold them to the new company. The government took the posi- 
 tion that the illegal profit — ^both the purchase and sale having 
 taken place within the year 1909 — was taxable income of that 
 year under the 1909 Law, but the court held to the contrary.^" 
 Determination of Gain or Loss from Subsequent Sale. 
 
 117 Alpha Portland Cement Co. v. U. S., 261 Fed. 339. The court said: 
 " * * * it is apparent that while, as a matter of form and of book- 
 keeping, the defendant did realize a very considerable profit during the 
 tax year in question on the purchase and transfer of these properties, 
 yet in reality it made no profit whatever. The ultimate and real result 
 of the various transactions was that the defendant purchased some prop- 
 erties at one figure, and in working out a plan of recapitalization valued 
 them at a higher figure. The intermediary corporation, to which the legal 
 title of the properties was conveyed by the trustee, was brought into be- 
 ing by the defendant for the express purpose of working out the re- 
 capitalization plan, and ceased to exist as a separate entity after that 
 plan had been carried out. The defendant was no richer after the alleged 
 sale than it was before, notwithstanding the book entries, resolutions of 
 directors, transfers of title, etc. Viewed in this light, we think that it needs 
 no argument to demonstrate that the case falls within the principle of the 
 decisions of the Supreme Court in Southern Pacific v. Lowe, 247 U. S. 330, 38 
 Sup. Ct. 540, 62 L. ed. 1142, and Gulf Oil Corp. v. Lewellyn, 248 U. S. 
 71, 39 Sup. Ct. 35, 63 L. ed. 133. Indeed, it cannot be distinguished on 
 principle from the decision of this court in Baldwin Locomotive Works 
 v. McCoach, 221 Fed. 59, 136 C. C. A. 660." 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 451 
 
 On a subsequent sale of the new stock or securities received 
 when they were of greater aggregate par or face value than the 
 stock or securities exchanged, the cost to the taxpayer of the 
 new stock or securities was held to be the cost of the old stock 
 or securities plus the profit taxed on the exchange.^^^ 
 
 Exchange of Property for Stock. Where property was trans- 
 ferred to a corporation in exchange for its stock the Treasury 
 Department held, under the 1918 Law, that the exchange con- 
 stituted a closed transaction, that the former owner of the 
 property realized a gain or loss if the stock had a market value 
 and such market value was greater or less than the cost of the 
 property given in exchange, but that if the property was acquired 
 prior to March 1, 1913, the amount of taxable gain or deductible 
 loss was to be determined in accordance with the rules stated 
 above.119 The definition of the term "market value," as used 
 in this regulation, has been discussed above. The organization 
 of a corporation furnishes one of the leading examples of ex- 
 
 118 Reg. 45, Art. 1569, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 119 See p. 413; Reg. 45, Art. 1566, as amended by T. D. 3206, T. B. 
 33-21-1767. The provision of the 1921 Law upon this point has been dis- 
 cussed above. (See p. 446.) The conference committee struck out a 
 provision of the senate report on the Revenue Act of 1918 to the effect 
 that when a person or persons cvsming property received in exchange 
 for such property stock of a corporation formed to take over such property, 
 no gain or loss was to be deemed to accrue from the exchange and the new 
 stock or securities received were to be treated as taking the place of the 
 stock, securities, or properties exchanged. The treasury department first 
 ruled that where property was transferred to a corporation in exchange 
 for its stock, if the previous owner of the property received 50% or more 
 of the stock of the corporation, so that an interest of 50% or more in such 
 property remained in him, then no gain or loss was realized by such 
 owner from the transaction. For the purpose of ascertaining the gain or 
 loss from the subsequent sale by the stockholder of any stock so received for 
 such property, the stock was to be considered as substituted for the property, 
 and the cost of the property or (if acquired prior thereto) its fair market 
 value as of March 1, 1913, was the basis for determining the amount of such 
 gain or loss. For the purpose of ascertaining gain or loss from the subse- 
 quent sale by the corporation of any such property; the cost of the property 
 to the former owner or (if acquired prior thereto by him) its fair market 
 value as of March 1, 1913, was the basis for determining the amount of 
 such gain or loss. If, however, the exchange of property and stock in- 
 volved less than 50% of the stock of the corporation, such exchange con- 
 stituted a closed transaction, and the former owner of the property was held 
 to have realized a gain or loss if the stock had a market value and such 
 market value was greater or less than the cost or (if acquired prior there- 
 to) the fair market value as of March 1, 1913, of the property given in 
 exchange. This ruling was later considered by the treasury department not 
 to be warranted in law, and was modified to conform with the text above. 
 (See T. D. 2924.) 
 
452 FEDERAL INCOME TAX 
 
 change of property presenting the question as to what constitutes 
 "fair market value, if any." Two questions are presented upon 
 the organization of a corporation: (1) Has the property trans- 
 ferred to the corporation been converted into property essentially 
 different from the property disposed of, and (2) has it been 
 converted into property having "a fair market value." Has 
 there been a change in substance as well as form, and a change 
 into the "equivalent of cash"? 120 Unless the answer to both 
 these questions is in the affirmative, the transaction was not 
 "closed" within the meaning of the 1918 Law, and there was no 
 taxable gain or deductible loss. If property was transferred to 
 a going, established corporation having an active market for its 
 stock and a small fraction of that stock was taken in payment 
 thereof, the consideration undoubtedly should have been treated, 
 under the 1918 Law, as the "equivalent of cash." It was con- 
 vertible into money.121 There was also a change in substance 
 as well as form. On the other hand, where an individual trans- 
 ferred assets to a newly formed corporation in exchange for all 
 its stock, it is equally apparent that he has not received the 
 equivalent of cash. His stock was not convertible into money .122 
 The department admitted that if a taxpayer exchanged property 
 for stock in "a small, closely held corporation," no income was 
 realized if the stock had no market value, but its deiinition 
 (under the 1918 Law) of market value was so broad as to render 
 it difficult to conceive of a stock which would not have market 
 value.^23 In considering this question, it seems, moreover, that 
 there has been some confusion between the two tests just indi- 
 cated. In a case of the transfer of assets to a newly formed 
 corporation in exchange for all of its stock, has there been a 
 change in substance? The department's example of a change 
 in form only was the case of a man owning 10 shares of listed 
 stock exchanging his stock certificate for a voting trust cer- 
 tificate.i^i This was, of course, a conversion merely in form, 
 but was it anything more than a formal conversion when an 
 
 120 See Reg. 45, Art. 1563. 
 
 121 See Tennant v. Smith, (1893) A. C. 150. 
 
 122 The stock received might be valued on the basis of sales made soon 
 after its receipt by the taxpayer, according to A. R. R. 156, T. B. 26-20- 
 1024. The market value of the stock received should theoretically, at least, 
 have been taken on the precise date when it is received. Certainly, the 
 value should not be taken as of a later date if new factors have intervened 
 between the date of receipt and the date of the dealings therein which 
 affect such value. 
 
 123 See p. 419. 
 
 124 Reg. 45, Art. 1563. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 453 
 
 individual transferred assets to a newly formed corporation in 
 exchange for all of its stock? After the exchange he has pieces 
 of paper representing exactly the same property he had before 
 the exchange. The pieces of paper stand in the place of the 
 property exchanged. Were these pieces of paper "other prop- 
 erty," to use the words of the Revenue Act of 1918? In one 
 sense, he was the corporation, in spite of the legal fictiop of 
 separate corporate entity. There was certainly no more than 
 a formal change except insofar as the separate entity of the 
 corporation was respected. It seems doubtful if the. courts will 
 allow a tax to be imposed upon an individual in such a case. While 
 the precise point has never been decided, frequent decisions in 
 the United States courts, including the Supreme Court, dis- 
 regard paper transactions for income tax purposes, and even 
 disregard the doctrine of corporate entity for many purposes.^^^ 
 In several cases in which property was turned over to a corpo- 
 ration formed for the purpose, the Treasury Department held 
 the owner of the property taxable to the extent of the differ- 
 ence between the market value (as defined by the department) 
 of the stock received and the value of the property on March 
 1, 1913, or its cost, if acquired subsequently to that date even 
 though the beneficial interest in the property was not sub- 
 stantially changed by the transaction.i^e The facts in these 
 
 125 So. Pac. Co. V. Lowe, 247 U. S. 330; Gulf Oil Corp. v. Lewellyn, 248 
 U. S. 71. In the dictum in U. S. v. Alpha Portland Cement Co., 257 Fed. 
 432, 242 Fed. 978, 261 Fed. 339, Judge Dickinson, speaking on the income 
 tax alleged to be due by reason of the receipt of certain stock upon the 
 reorganization, said "If the law is construed with these grounds, indicating 
 this policy in mind, we must construe the words 'income received' as meaning 
 actually received, and not to include something which exists merely as a 
 figment of the imagination." The modern tendency of the courts is to 
 disregard paper or bookkeeping transactions for purposes of determining 
 income tax liability. (See Doyle v. Mitchell, 247 U. S. 279; Forty Fort 
 Coal Co. V. Kirkendall, 233 Fed. 704; U. S. v. Guggenheim Exploration Co., 
 238 Fed. 231), to look beyond the corporate form to the purpose of it, and to 
 ignore the corporate entity in favor of the substance of things (See Mc- 
 Caskill V. U. S., 216 U. S. 504; U. S. v. Lehigh Valley Co., 220 U. S. 254; 
 U. S. V. Milwaukee Co., 142 Fed. 247, 253; In re Watertown Paper Co., 169 
 Fed. 252.) But see U. S. v. Phellis, 42 Sup. Ct. Rep. 63; Eisner v. Macomber, 
 254 U. S. 189. The doctrine of corporate entity is discussed more fully 
 in Chapter 10.. 
 
 126 The department bases its attitude in this respect in large part upon 
 the refusal of Congress in drafting the Revenue Act of 1918 to permit to 
 go into the law as enacted a provision proposed in a senate amendment to the 
 effect that when a person or persons owning property received in exchange 
 for such property stock in a corporation formed to take over such property, 
 no gain or loss was to be deemed to accrue from the exchange. (See A. R. 
 R. 173, T. B. 28-20-1050; A. R. M. 67, T. B. 28-20-1049.) 
 
454 FEDKRAL INCOME TAX 
 
 cases and the decisions of the department are bi-iefly reviewed 
 below: 127 
 
 1. Several individuals secured leases on certain land. Sub- 
 sequently and prior to March 1, 1913, they entered into a con- 
 tract with another individual whereby 3,000 acres of the land 
 were assigned to the latter individual under the so-called 
 checkerboard plan and under which the assignee obligated him- 
 self to develop the field. If oil or gas was not found in the field 
 by a well drilled to the depth of 1,200 feet, the assignee had 
 the option of abandoning the contract. The assignee went upon 
 the property and drilled a well after March 1, 1913, which 
 struck oil. Subsequently in August, 1913, the leases in ques- 
 tion were transferred to a corporation in exchange for the 
 stock thereof, the major portion of which was sold by the stock- 
 holders in 1916. Under these circumstances the department held 
 the stockholders of the corporation taxable in the year 1913 on 
 the difference between the value of the stock received by them 
 in August, 1913, and the value of their stock as of March 1, 
 1913. In determining such value as of March 1, 1913, it was 
 recommended that the original cost of the leases transferred to 
 the corporation plus the approximate cost of the wells sufficient 
 to determine whether or not oil was present should be accepted : 
 that upon the sale of the stock in 1916 the profit should be 
 computed on the basis of the value of the stock in August, 
 
 1913.128 
 
 2. A taxpayer individually built and owned a railroad con- 
 structed for the sole purpose of carrying the product of his 
 mills to stations on other roads for distribution. In 1914 the 
 state railroad commission required the incorporation of this 
 road. The commission permitted the issuance of stock by the 
 corporation in an amount somewhat exceeding the net assets 
 of the road upon the basis of an appraisal on March 1, 1913, 
 and the cost of additions between that date and the date of 
 incorporation, making due allowance for bond issue. The tax- 
 payer contended that the property was worth at the time of 
 incorporation the amount for which it was incorporated and 
 that (a) a profit was made in 1914 at the time of incorpora- 
 tion, and (b) a loss was suffered upon the sale of the stock in 
 1917. The department held that while in the ordinary case 
 of an exchange of property for stock, the latter would be deemed 
 to be worth its par value in the absence of evidence to the con- 
 trary, the above appraisal indicated a value of less than par. 
 
 12T See in addition to cases below, A. R. M. 94, T. B. 47-20-1310. 
 128 A. R. R. 173, T. B. 28-20-1050. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 455 
 
 Consequently the loss claimed upon the sale m 1917 was con- 
 verted into a profit by the use of the appraised value of the 
 railroad property in lieu of the par value of the capital stock 
 issued by the company. The department agreed with the tax- 
 payer's general contention indicated under (a) above, but the 
 use of such appraised value precluded any profit upon the organi- 
 zation of the corporation in 1914.129 
 
 3. In a case in which an inventor formed a company and 
 issued stock based upon his invention, the market value of which 
 when issued was unknown, but for which stock the inventor sub- 
 sequently proceeded to establish a market, receiving as com- 
 pensation shares of the company's stock which he sold after- 
 wards in the open market at more than par value, the depart- 
 ment held that the amount received for the stock when sold in 
 excess of its par value might reasonably be attributed to the 
 inventor's efforts at publicity and the market value of the stock 
 when received considered equal to its par value.^^o 
 
 Evasion of Tax on Sale of Corporate Assets by Conveyance to 
 Trustees. A change of form from that of a corporation or asso- 
 ciation to that of a trust or partnership accompanied by a 
 transfer of capital assets to trustees for the benefit of share- 
 holders followed by a sale of such assets at a price in excess of 
 the cost thereof to the corporation or association, and the dis- 
 tribution of proceeds to the beneficiaries (shareholders), such 
 change being made for the main purpose of avoiding the tax 
 which would, under the 1918 Law, have accrued to the corpora- 
 tion if the sale had been made by it, has been disregarded by the 
 Treasury Department as a mere sham to avoid assessment of 
 tax against the corporation or association upon the profit derived 
 from such sale, and the corporation or association has been re- 
 quired to return as income any profit derived as though the 
 sale had been made by it directly.^^^ 
 
 129 A. R. E. 126, T. B. 22-20-967. 
 
 130 0. 962, T. B. 1-20-656. 
 
 131 S. 1385, T. B. 19-20-928. See, however, L. O. 1062, T. B. 14-21-1548. 
 For cases on the general principle that where the effect of a transaction is to 
 evade the payment of a tax, the courts will look beyond the surface facts 
 and sham devices and inquire into the real nature of the transaction. See 
 Sisler v. Foster, 72 Ohio 437, 74 N. E. 649; People v. Albany Ins. Co., 92 
 N. Y. 468; People v. Sawyer, 27 N. Y. Supp. 202; Pollard v. First Natl. 
 Bank, 47 Kans. 406, 28 Pac. 202; Ransom v. Burlington, 111 Iowa 77, 
 82 N. W. 427; Stefel v. Brown, 24 Mo. App. 102; Holly Springs, etc. v. 
 Supervisors, 52 Miss. 281 ; Jones v. Seward Co., 10 Nebr. 154, 4 N. W. 946 ; 
 Mitchell V. Commissioners, 9 Kans. 344, 91 U. S. 206 ; Albany City National 
 Bank v. Maher, 6 Fed. 417, 19 Blatch. 175; Shotwell v. Moore, 45 Ohio 632, 
 16 N. E. 470, 129 U. S. 590; Durham v. State, 6 Ind. App. 23, 32 N. E. 
 
456 FEDERAL INCOME TAX 
 
 Property Acquired by Bequest, Devise or Inheritance. The 
 
 Revenue Act of 1921 prescribes an explicit basis for determining 
 gain or loss upon the disposition of property acquired by bequest, 
 devise or inheritance. The basis prescribed is "the fair market 
 price or value of such property at the time of such acquisi- 
 tion." 1^2 This is a statutory enactment of the basis provided 
 by regulations under the 1918 Law. The taxable gain derived or 
 loss sustained upon the sale or other disposition of such prop- 
 erty will be the difference between the price received and such 
 fair market value, making proper allowance for depreciation or 
 depletion deducted with respect to the property. If the prop- 
 erty was so acquired by bequest, devise, or inheritance prior 
 to March 1, 1913, the fair market price or value on that date 
 will be used in calculating the gain or loss in the manner indi- 
 cated above.i^^ For the purpose of determining the profit or 
 loss from the sale of property acquired by bequest, devise or 
 inheritance since February 28, 1913, its value as appraised for 
 the purpose of the federal estate tax, or in the case of estates 
 not subject to that tax, its value as appraised in the state court 
 for the purpose of state inheritance taxes, should be deemed 
 to be its fair market value when acquired.!^* This provision 
 applies to the acquisition of property or property interests which 
 a decedent has created in contemplation of or intended to take 
 effect in possession or enjoyment at or after his death (whether 
 such transfer or trust is made or created before or after the 
 passage of the 1921 Law) . Any transfer of a material part of his 
 property in the nature of a final disposition or distribution 
 thereof, made by the decedent within two years prior to his 
 death without a fair consideration, will be deemed to have been 
 made in contemplation of death unless the contrary is shown. 
 The provision also applies to the acquisition of property or 
 property interests passing under a general power of appoint- 
 ment exercised by a decedent (1) by will, or (2). by deed 
 
 104; Peppleton v. Yamhill, 8 Ore. 337. See also Southern Pacific Co. v. 
 Lowe, 247 U. S. 330; Gulf Oil Corporation v. Lewellyn, 248 U. S. 71. The 
 distinction between a legal avoidance and an improper evasion must be kept 
 in mind. (Bullen v. Wisconsin, 240 U. S. 625; U. S. v. Isham, 17 Wall. 
 476.) 
 
 132 Revenue Act of 1921, §202 (a) 3. 
 
 133 See p. 413. 
 
 134 Reg. 45, Art. 1562, as amended by T. D. 3206, T. B. 33-21-1767; O. 
 D. 667, T. B. 39-20-1209. This is only a presumption which may be re- 
 butted by competent evidence (A. R. M. 7, T. B. 30-19-637). 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 457 
 
 executed in contemplation of, or intended to take effect in pos- 
 session or enjoyment at or after, his death.^^^ 
 
 Where real estate was devised by a testator to his widow for 
 hfer life with the direction that upon her death the property 
 should be sold and the proceeds divided among their children, 
 the basis for ascertaining the gain or loss on a sale of such 
 real estate and the distribution of the proceeds to the children 
 has been held to be the value of the children's rights at the time 
 such rights vested or on March 1, 1913, if they vested prior 
 thereto. Under the doctrine of equitable conversion the interest 
 of the children was regarded as personalty instead of realty, yet 
 the estate acquired by the children was a remainder and vested 
 at the death of the testator.^^" In spite of the provision that 
 the land should be sold the children could have taken the actual 
 land itself after the death of the life tenant instead of the 
 proceeds from its sale.^^''' The only difference between the sub- 
 ject matter disposed or by sale in behalf of the children after 
 the death of the life tenant and that acquired by them on the 
 death of the testator was that the former carried with it the 
 actual possession of the property and the latter did not. Not- 
 withstanding that fact, the right to the possession vested in 
 the children at the death of the testator; the enjoyment alone 
 was postponed to the death of the life tenant. Likewise, all 
 the rights which the children acquired with respect to the land 
 vested at the death of the testator and were as perfect then 
 as at the death of the life tenant.i^s The remainder acquired 
 by the children on the death of the testator was essentially the 
 same property as the fee simple sold in their behalf after the 
 death of the life tenant. It has also been held by the Treasury 
 Department that the exemption in the statute given to property 
 acquired by gift, bequest, devise or descent, refers merely to 
 the value of the property at the time acquired and not to any 
 value subsequently attaching to the property because of the 
 actual or anticipated arrival of the period of enjoyment. Thus, 
 in the above case, while the possession of the property devised 
 did not vest in the children until the death of the widow, the 
 property was acquired by the children in right on the death 
 of the testator, and the measure of gain or loss on the sale of 
 
 issSee Revenue Act of 1921, §402 (e), (e). 
 
 iseCropley v. Cooper, 19 Wall. (U. S.) 167, 22 L. ed. 109; Kelly v. 
 Gonce, 49 111. App. 82 ; DeVaughn v. McLeroy, 82 Ga. 687, 10 S. E. 211. 
 
 i"''' Jarmar on Wills, p. 562. 
 
 "SScofield et al. v. Olcott et al., 120 111. 362, 11 N. E. 351, 352; Nichols 
 V. Levy, 5 Wall, (U. S.) 433, 442-3. 
 
458 FEDERAL INCOME TAX 
 
 the property was held to be the difference between the selling 
 price and the fair market price or value of the remainder 
 interest of the children on March 1, 1913, the testator having 
 died prior to that date. Had the testator died subsequently 
 to March 1, 1913, the measure would have been the difference 
 between the selling price and the fair market price or value 
 on the date of the testator's death.i^s The basis for the deter- 
 mination of gain or loss upon the sale of a vested remainder 
 interest has been held to be the value of the interest at the date 
 of the death of the testator, or March 1, 1913, if the testator 
 died prior to that date. This has been held to be true even in 
 the case of an interest subject to being divested in the event of 
 the death of the remaindermen without issue prior to the death 
 of the life tenant, or by the disposition of the property devised 
 during the life tenant's lifetime."" Where in the bequest of 
 property the remaindermen have only a contingent interest 
 prior to the death of the life tenant, the basis of determining 
 gain or loss from a sale of the property by the remaindermen 
 is its value as of the date of death of the life tenant.i^i 
 
 Property Acquired by Gift. An essential change is made by 
 the Revenue Act of 1921 in prescribing the basis for ascertain- 
 ing the gain derived or loss sustained from a sale or other dis- 
 position of property acquired by gift after December 31, 1920. 
 It is provided^^2 t^^t in the case of such property "the basis 
 shall be the same as that which it would have in the hands of the 
 donor or the last preceding owner by whom it was not acquired 
 by gift. If the facts necessary to determine such basis are 
 unknown to the donee, the Commissioner shall, if possible, obtain 
 such facts from such donor or last preceding owner, or any 
 other person cognizant thereof. If the Commissioner finds it 
 impossible to obtain such facts, the basis shall be the value of 
 such property as found by the Commissioner as of the date or 
 approximate date at which, according to J;he best information 
 the Commissioner is able to obtain, such property was acquired 
 by such donor or last preceding owner." In the case of such 
 property acquired by gift on or before December 31, 1920, the 
 basis for ascertaining gain or loss from a sale or other disposi- 
 tion thereof is the fair market pride or value of such property 
 at the time of such acquisition. This provision does not apply 
 to gifts made in contemplation of death, nor to gifts made 
 
 139 Sol. Op. 35, T. B. 33-20-1126. 
 
 140 O. D. 694, T. B. 43-20-1255. 
 1410. D. 727, T. B. 46-20-1301. 
 
 142 Revenue Act of 1921, § 202 (a) 2. 
 
INCOME PROM SALES OR DEALINGS IN PROPERTY 459 
 
 to take effeet in possession or enjoyment at or after death. 
 Such testamentary gifts are treated as bequests or devises.^*^ 
 
 The purpose of this provision may be gathered from the fol- 
 lowing statement : 1** "No expUcit rule is found in the present 
 statute for determining gain or loss resulting from the sale of 
 such property, but the treasury department has held that the 
 proper basis for such determination is the fair market price 
 or value of such property at the time of its acquisition by the 
 donee. This rule has been the source of serious abuse. Tax- 
 payers who have property the value of which has increased, 
 give such property to wives or relatives, by whom it may be 
 sold without taxation of the increase in value which took place 
 while the property was owned by the donor." 
 
 Gifts Under 1918 Law. As indicated in the quotation in 
 the preceding paragraph, under the 1918 Law, the basis for 
 ascertaining gain or loss in the case of property acquired by 
 gift was the fair market price or value of the property at the 
 time of acquisition by gift."^ The following opinion was issued 
 under the 1918 Law in definition of gifts: 
 
 (a) Where it appears that the owner of property has pur- 
 ported to transfer it without consideration to a member of his 
 own family, or to any other person with whom he is in con- 
 fidential relations, and that shortly thereafter a profitable sale 
 of the security or property so transferred has occurred, such 
 facts constitute prima facie evidence that the purported gift 
 was not an actual gift and that the transfer was, in fact, merely 
 colorable. In such case the so-called gift should be ignored in 
 calculating tax, and the case should be investigated for evidence 
 on which a charge of fraud could be supported in a contest. 
 
 (b) The prima facie case made out by the facts mentioned 
 in the preceding paragraph may be rebutted by proof which 
 establishes that it was not a transaction primarily for the ad- 
 vantage of the donor, and that there was no agreement or 
 understanding, tacit or otherwise, that the donor was to receive 
 back the proceeds or at any time control their disposition. Mere 
 statements by the parties to the effect that the gift was genuine 
 are regarded as of little weight; the best proof that a gift was 
 a real gift would consist of facts showing that the position or 
 
 143 See Report of Finapce Committee on Internal Revenue Bill of 1921, 
 p. 11. See p. 456. 
 
 144 See Report of Finance Committee on Internal Revenue Bill of 1921, 
 p. 10; Report of Ways and Means Committee, p. 9. 
 
 145 Reg. 45, Art. 1562, as amended by T. D. 3206, T. B. 33-21-1767. See 
 O. D. 1112, T. B. 48-21-1940. 
 
460 FEDERAL INCOME TAX 
 
 relationship of the parties is such as to show a reasonable occa- 
 sion for such a gift being made, and such as to explain the sale 
 by the donee. Inquiry should be made as to the disposition of 
 the proceeds. 
 
 (c) Where a taxpayer purports to make a gift to a member 
 of his family or to a person in a confidential relation to him- 
 self, but no sale occurs, the question whether such gift was 
 real or merely colorable is one to be decided on all of the facts. 
 The mere fact that such conveyance is made may not lawfully 
 be regarded as proof of fraud; but if the effect of the gift is 
 to diminish tax liability, and it appears, either at the time of 
 the gift or at any time thereafter, that the donor is deriving 
 advantage from the property which he purported to give away, 
 such facts constitute prima facie evidence that the gift was 
 only colorable and the transaction should be treated as a nullity 
 unless other facts are developed which show that it was a true 
 gift. If such a gift is colorable only and made for the purpose 
 of escaping tax, the donor is guilty of fraud and subject to 
 penalty and punishment therefor.i+''' 
 
 An individual in 1893 purchased a tract of land and deeded it 
 to his wife. Shortly thereafter a part of the land was sold, 
 the purchaser subsequently defaulting under a purchase money 
 mortgage and the husband some time before March 1, 1913, 
 bought in the property at a foreclosure sale placing the title 
 again in his wife's name, the wife from 1913 to 1917, inclusive, 
 including the income from the property in her income-tax re- 
 turns. In 1917 the property was transferred to the husband, 
 but the deed was never recorded. For 1918 the income from 
 the property was reported by the husband. In 1919 the prop- 
 erty was again sold, the wife giving the deed. The treasury 
 department held that the wife was at all times, during the 
 period in question, the real owner of the property, and any gain 
 or loss upon the sale thereof in 1919 should be included in her 
 return for that year, since the land was deeded to the wife as 
 a bona fide gift in 1893, and since the husband who loaned the 
 money to the purchaser and of right held the mortgage upon 
 the property allowed the deed to remain in his wife's nam^ 
 when he bought the property in at the foreclosure sale, and 
 since all the income for the years 1913 to 1917, inclusive, was 
 reported in the wife's returns, indicating the husband's ac- 
 knowledgment of her right to it. There were other circum- 
 stances indicating that the unrecorded deed of 1917 was not 
 considered by the parties as a valid and binding transfer. The 
 
 i^fi S. 1022, T. B. 7-19-290. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 461 
 
 deed of transfer in 1919 when the property was sold was exe- 
 cuted in the wife's name and the mortgage to secure a portion 
 of the purchase price was taken in her name and later assigned 
 to the huband, the wife continuing to be the record owner until 
 the deed of sale.i" 
 
 Sale of Homestead. The basis for determining gain or loss 
 from the sale of a homestead acquired from the government 
 will be the fair market value of the homestead at the date of 
 its acquisition. The date of acquisition of a homestead acquired 
 by public grant is the date of entry upon the land. The taxpayer 
 will not be entitled to add to the value of the homestead the 
 amount expended for relinquishment in order to clear the land 
 office records, nor any fees, paid to the government, but the cost 
 of improvements may be added to the value as of the date of 
 acquisition. i*s The above rule is limited to the oi-iginal entry- 
 man, and has no application to the case of those acquiring gov- 
 ernment lands in any other way than under the homestead 
 laws."9 
 
 Sales and Dealings in Bonds. It has been held under the 1918 
 Law that the property received on exchange of a so-called con- 
 vertible bond for stock pursuant to such a privilege granted in 
 the bond may produce income if the stock received in exchange 
 has a fair market value in excess of the cost of the bond.^^o 
 The exchange of old bonds of a corporation for bonds of a new 
 issue having an extended maturity date and bearing a higher 
 rate of interest has also been held to be an exchange of property 
 which may result in gain or loss.^^i No taxable income accrued 
 under the 1918 Law on an exchange of bonds purchased prior to 
 March 1, 1913, for 57% of the face value of the old bonds in 
 new bonds of the same company and 43 % in cash. The cash was 
 regarded as a return of part of the March 1, 1913, value of the 
 old bonds, and the cost of the new bonds for the purpose of 
 computing gain or loss in case of sale or other disposition of 
 such bonds was deemed to be the difference between the cash 
 received at the time of exchange and the value of the old bonds 
 on March 1, 1913.i-^2 where a corporation reduced its capital 
 
 1« O. D. 543, T. B. 24-20-999. 
 
 148 0. D. 386, T. B. 5-20-712; 0. 880, T. B. 17-19-470. If the date of ac- 
 quisition was prior to March 1, 1913, see p. 413 for the method of com- 
 puting taxable gain or deductible loss in case of sale. 
 
 149 O. D. 601, T. B. 30-20-1086. 
 
 150 Reg. 45, Art. 1563. 
 
 151 O. D. 308, T. B. 25-19-580. 
 
 152 O. D. 98, T. B. 2-19-143. 
 
462 FEDERAL INCOME TAX 
 
 stock by one-half and a stockholder therein surrendered his cer- 
 tificate for 10 shares acquired prior to March 1, 1913, and 
 received in exchange a new certificate for 5 shares and an 
 amount of cash, it was held under the 1918 Law that the amount 
 by which the cash exceeded the value as of March 1, 1913, of the 
 5 shares surrendered represented taxable income to the stock- 
 holder for the year in which the exchange took place. The 5 
 new shares were held to have taken the place of the 5 old shares 
 for which no payment in cash was received.^^^ 
 
 Municipal Bonds Purchased at a Premium or Discount. When 
 municipal bonds are purchased at a premium and held to ma- 
 turity, their purchase price, including the premium, determines 
 whether there is a gain or loss on the bonds, the gain or loss 
 to be measured according to whether the bonds were purchased 
 before or after March 1, 1913.i^* Profit derived from state and 
 municipal securities purchased at a discount is not taxable in 
 the hands of the person holding such obligations at maturity 
 except that in no case may such exemption exceed the total 
 discount at which the securities were originally sold by the state 
 or municipality. Inasmuch as no person other than the mu- 
 nicipality can pay the interest borne by the obligations of the 
 municipality (whether such interest is paid at a specified rate 
 or in the form of realized discount) , any person selling munic- 
 ipal bonds for an amount in excess of the cost of the bonds to 
 him may realize a taxable profit, even though the bonds were 
 issued at a discount.i^^ 
 
 Surrender, Exchange and Sale of Insurance Policies. An in- 
 surance policy is property.^ss In determining the question of 
 the taxable gain arising upon exchanges of insurance policies, 
 such exchanges are to be divided into classes as follows : 
 
 (1) Cases in which the second policy at the time of issu- 
 ance has no readily determinable cash value, and 
 
 (2) Cases in which the second policy at the time of issu- 
 ance has a readily determinable cash value, and 
 
 (a) The value of the surrendered policy as of March 1, 
 1913, is greater than the gross premiums charged prior to that 
 date, less amounts returned, deducted or abated therefrom, or 
 
 (b) The value of the surrendered policy as of March 1, 
 1913, is not greater than the gross premiums charged prior to 
 that date, less amounts returned, deducted, or abated therefrom. 
 
 153 0. D. 693, T. B. 43-20-1254. 
 
 154 See 0. D. 726, T. B. 46-20-1300. 
 
 155 See 0. D. 737, T. B. 48-20-1321. 
 
 156 Ionia Co. Savings Bank v. McLean, 84 Mich. 629, 48 N. W. 159. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 463 
 
 In cases falling in Class 1 no taxable gain arises from the 
 exchange. 
 
 In cases falling in Class 2(a) the taxable gain, if any, aris- 
 ing from the exchange is the amount whereby (1) the sum of 
 the value of the policy surrendered as of March 1, 1913, plus 
 the gross premiums subsequently charged, less amounts re- 
 turned, deducted, or abated therefrom, is exceeded by (2) the 
 cash, if any, received upon surrender of the first policy, plus 
 the cash value of the second policy. 
 
 In cases falling in Class 2(b) the taxable gain, if any, aris- 
 ing from the exchange is the amount whereby (1) the gross 
 premiums charged at any time, either before or on or after 
 March 1, 1913, less sums returned, deducted, or abated there- 
 from, are exceeded by (2) the cash, if any, received upon sur- 
 render of the first policy plus the cash value of the second 
 policy.157 
 
 The surrender value of an insurance policy as of March 1, 
 1913, may be used as a basis for the purpose of ascertaining the 
 gain derived from the sale or other disposition thereof.^^^ "phe 
 distinction has been made between the surrender of a policy 
 and the sale thereof to some one other than the company which 
 wrote the policy, and the ruling made that upon such a sale 
 the cash surrender value on March 1, 1913, is the basis.^^^ But 
 it would seem that upon any disposition of an insurance policy, 
 whether to the insurer or a third party, the insured is entitled 
 to use the aggregate premiums paid as a basis for ascertain- 
 ing any taxable gain, if the amount thereof is greater than sur- 
 render value on March 1, 1913, plus net premiums subsequently 
 charged. In other words, the ruling at the beginning of this 
 paragraph would seem to express the correct basis for deter- 
 mining gain upon a sale as well as a surrender or exchange.^®" 
 Where a corporation which carried insurance policies on the 
 lives of its officers under which it was named as the beneficiary 
 sells the policies for a sum less than the total premiums paid 
 
 157 Sol. Op. 55, T. B. 36-20-1181; Reg. 45, Art. 87, as amended by T. D. 
 3206, T. B. 33-21-1767; O. D. 379, T. B. 4-20-701. This ruling was made 
 under the 1918 Law. Under the present law, if an insurance policy is held 
 "for investment" and is exchanged for property of a "like kind or use", 
 (another policy) there would seem to be no taxable profit. On the point that 
 insurance policies are held for investment to some extent see Penn Mutual 
 Life Insurance Co. v. Lederer, 252 U. S. 523. 
 
 158 Reg. 45, Art. 87, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 159 0. D. 379, T. B. 4-20-701. 
 
464 FEDERAL INCOME TAX 
 
 (and not deducted from gross income), no part of the amount 
 received for the policies is taxable."'^ 
 
 Sale of Mines, Oil and Gas Wells. In computing the gain or 
 loss from the sale of mines, oil and gas wells discovered on or 
 after March 1, 1913, a taxpayer is not entitled to set up the 
 value as of the date of discovery, or within 30 days thereafter, 
 as the basis of the computation. The provision fixing the basis 
 for determining gain or loss from the sale of property or its 
 cost, as the case may be, contains no exception except that fair 
 market value on March 1, 1913, may be used in certain in- 
 stances. The provision relating to value at the date of dis- 
 covery, or within 30 days thereafter, relates to the depletion 
 allowance and not to a sale of mines, oil and gas wells.i*'^ 
 
 Sales of Property Involving Installment and Deferred Pay- 
 ments. While the Revenue Act of 1918 contained no provision re- 
 specting the taxation of profits from sales of property involving 
 installment and deferred payments, the treasury department per- 
 mitted taxpayers to report as income that proportion of each 
 installment payment which the gross profit when the property 
 is paid for bears to the gross contract price.i^^ The Revenue 
 Act of 1921 refers to such transactions in its provisions re- 
 specting exchanges of property and provides that nothing in 
 such provisions shall be construed to prevent (in the case of 
 property sold under contract providing for payment in install- 
 ments) the taxation of that portion of any installment payment 
 representing gain or profit in the year in which such payment 
 is received.!"* The remaining paragraphs of this chapter deal 
 with the taxation af profits from such transactions and from 
 the sale of real estate in lots. 
 
 It is to be noted that the above provision of the Revenue 
 Act of 1921 refers only to the method of computing the tax and 
 
 i«o See 0. D. 1037, T. B. 38-21-1827. 
 
 i«l O. D. 724, T. B. 45-20-1297. 
 
 182 Sol. Op. 26, T. B. 29-20-1068. iTiis ruling, though made under the 
 Revenue Act of 1918, is equally applicable under the present law. The 
 fact that this construction of the statute vnvolves a discrimination in favor 
 of a discoverer who operates and against a discoverer who sells, does not 
 affect this conclusion, since the statute is free from ambiguity. Moreover, 
 a construction of the statute permitting a taxpayer to set up a value as of 
 the date of discovery, or within 30 days thereafter, for the purpose of de- 
 termining gain or loss upon a sale would negative the provisions of the 
 statute limiting the surtax and the war-profits and excess-profits tax upon 
 a sale of mines, oil and gas wells. 
 
 103 Reg. 45, Art. 42, as amended by T. D. 3082. 
 
 I'M Revenue Act of 1921, § 202 (f ) . 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 465 
 
 allocating income upon sales involving installment payments. It 
 would seem that the rules established by the Revenue Act of 
 1921 for the determination of the existence of a gain or loss, that 
 is, whether a gain or loss may be said to occur, will apply to 
 transactions involving installment and deferred payments. There 
 is certainly no reason why such transactions should be classed 
 differently for this purpose from transactions which do not in- 
 volve installment payments. It is also to be noted that the capi- 
 tal gain provision may apply to transactions involving install- 
 ment and deferred payments and that the provision that no gain 
 or loss shall be recognized when property held for investment or 
 for productive use in trade or business is exchanged for property 
 of a like kind or use may apply to some of the transactions dis- 
 cussed in the following paragraphs. 
 
 Sale of Personal Property on Installment Plan. Dealers in 
 personal property ordinarily sell either for cash, or on the 
 personal credit of the buyer, or on the installment plan. Occa- 
 sionally a fourth type of sale is met with, in which the buyer 
 makes an initial payment of such a substantial nature (for 
 example, a payment of more than 25%) that the sale, though 
 involving deferred payments, is not one on the installment 
 plan. In sales on personal credit, and of the substantial pay- 
 ment type just mentioned, obligations of purchasers are to be 
 regarded as the equivalent of cash,!^^ j,yt ^ different rule applies 
 to sales on the installment plan. Dealers in personal property 
 who sell on the installment plan usually adopt one of four 
 ways of protecting themselves in case of default: (a) through 
 an agreement that title is to remain in the seller until the 
 buyer has completely performed his part of the transaction; 
 (b) by a form of contract in which title is conveyed to the pur- 
 chaser immediately, but subject to a lien for the unpaid portion 
 of the purchase price; (c) by a present transfer of title to the 
 purchaser, who at the same time executes a reconveyance in 
 the form of a chattel mortgage to the seller; or (d) by convey- 
 
 105 The treasury department recognizes that in many sales of that type 
 the obligations of purchasers, even though represented by notes or other 
 paper in negotiable form, can not be discounted or otherwise converted into 
 cash without material loss because of lack of credit on the part of the buyer 
 and the nature of the property covered by such contract. In such cases the 
 profits from such sales may be computed in accordance with the rules pre- 
 scribed for sales or contracts for sale of personal property on the install- 
 ment plan, provided the taxpayer chooses to do so as a matter of consistent 
 practice and attaches to his return a statement disclosing that fact and 
 showing conclusively that the obligations of the purchasers are not the 
 equivalent of cash. (0. D. 715, T. B. 45-20-1287.) 
 
466 FEDERAL INCOME TAX 
 
 ance to a trustee pending performance of the contract and 
 subject to its provisions. The general purpose and effect being 
 the same in all of these plans, it is desirable that a uniformly 
 applicable rule be established. The rule prescribed is that in 
 the sale or contract for sale of personal property on the install- 
 ment plan, whether or not title remains in the vendor until the 
 property is fully paid for, the income to be returned by the 
 vendor will be that proportion of each installment payment 
 which the gross profit to be realized when the property is paid 
 for bears to the gross contract price. Such income may be 
 ascertained by taking as profit that proportion of the total cash 
 collections received in the taxable year from installment sales 
 (such collections being allocated to the year against the sales 
 of which they apply) which the annual gross profit to be 
 realized on the total installment sales made during each year 
 bears to the gross contract price of all such sales made during 
 that respective year. In any case where the gross profit to be 
 realized on a sale or contract for sale of personal property has 
 Deen reported as income for the year in which the transaction 
 occurred, and a change is made to the installment plan of com- 
 puting net income, no part of any installment payment received 
 subsequently to the change, representing income previously 
 reported on account of such transaction, should be reported as 
 income for the year in which the installment payment is re- 
 ceived; the intent and purpose of this provision is that where 
 the entire profit from installment sales has been included in 
 gross income for the year in which the sale was made, no part 
 of the installment payments received subsequently on account 
 of such previous sales shall again be subject to tax for the 
 year or years in which received. Where the taxpayer makes 
 a change to this method of computing net income his balance 
 sheet should be adjusted conformably. If for any reason the 
 vendee defaults in any of his installment payments and the 
 vendor repossesses the property, the entire amount received on 
 installment payments, less the profit already returned, will be 
 income of the vendor for the year in which the property was 
 repossessed, and the property repossessed must be included in 
 the inventory at its original cost to himself, less proper allow- 
 ance for damage and use, if any. If the vendor chooses as a 
 matter of consistent practice to treat the obligations of pur- 
 chasers as the equivalent of cash, such a course is permissible.^'^^ 
 
 166 Reg. 45, Art. 42, as amended by T. D. 3082. In England it has been 
 held that the phrase, "annuities or other annual profits or gains," as used 
 in 5 & 6 Vict., Chapter 35, § 102, which imposes an income tax on same, does 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 467 
 
 Scope of Method. The treatment outlined above for sales 
 of personal property on the installment plan is not limited to 
 dealers alone, or to sellers of chattels as distinguished from sell- 
 ers of other forms of personal property, such as corporate stock. 
 The retention of a lien upon the property sold as security for the 
 purchaser's agreement to pay, does not alter this conclusion.^^'^ If 
 the principal stockholder of a corporation sells stock to employees 
 of a company for consideration of 10 per cent, cash and the bal- 
 ance in installment payments secured by notes covering a period 
 of 10 years, that proportion of each installment payment received 
 during the taxable year which the gross profit to be realized bears 
 to the gross contract price should be reported as income for the 
 year during which installment payments were received.^^^ 
 
 Computation of Income from Installment Sales of Per- 
 sonal Property. Income from installment sales to be returned 
 in each taxable year will consist of: (1) Such part of the install- 
 ments received during the year (excluding those installments 
 received on account of property repossessed during the year) as 
 represents realized profit. Installments received during the year 
 are to be included whether the sales were effected in an earlier 
 or in the current taxable year. The profit on such installments 
 should be computed by taking the same percentage of the in- 
 stallment receipts as the gross profit to be realized on the total 
 installment sales made during the taxable year bears to the 
 
 not apply to installments of the purchase price of an estate, although such 
 payments are due yearly and extend over a long period of years, the in- 
 stallments being regarded as parts of a debt or capital, and not profits and 
 gains to which the act applies, and this even though a part of the install- 
 ments consists of profits. (Foley v. Fletcher (1858), 3 Hurst. & N. 769, 
 157 Eng. Reprint, 678, 28 L. J. Exch. N. S. 100, 5 Jur. N. S. 342, 7 Week. 
 Rep. 141, 4 Mor. Min. Rep. 130.) In regard to sales, both of real and per- 
 sonal property, where title passes immediately to the vendee, the treasury 
 department's early rulings required the return of the profits from the sale 
 as income for the year in which the sale was made. If the buyer forfeited 
 his contract and failed to meet any of the payments contracted to be made, 
 the vendor was permitted to deduct from his gross income as a loss such 
 proportion of the defaulted payments as was previously returned as income. 
 The early rulings, where title did not pass absolutely to the vendee, are con- 
 tained in a letter from the treasury department dated March 14, 1917; In- 
 come Tax Primer, December 17, 1917, Question 32. On April 25, 1918, in 
 T. D. 2707 the treasury department modified Reg. 33 Rev., Arts. 117 and 
 120 and established the ruling that until personal property sold on the in- 
 stallment plan is fully paid for, the income to be returned by the vendor 
 will be that proportion of each installment payment which the gross profit 
 to be realized when the property is paid for bears to the gross contract prica 
 
 167 S. 1353, T. B. 13-20-806; 0. D. 482, T. B. 18-20-894. 
 
 168 0. D. 134, T. B. 4-19-212. 
 
468 FEDERAL INCOME TAX 
 
 gross contract price of all such sales. Any necessary corrections 
 to produce a more accurate result can be made as at the end of 
 the taxable year. (2) The profits, if any, on contracts which 
 during the year have been canceled, the goods being repossessed 
 by the vendor. In such cases the entire profit realized on the 
 canceled contract, less so much thereof as has been returned in 
 previous years, should be returned as profit of the taxable year 
 in which the goods are repossessed. In estimating such profit 
 the value of the repossessed article (taken at its cost to vendor, 
 less proper allowance for damage and use) should be taken into 
 account, as well as all installments received on account of the 
 contract. Where an installment house makes sales which are 
 not on the installment plan, the profit on such completed sales will 
 be determined in the regular manner.i"^ 
 
 The following is an illustration of the computation of income 
 from sales of personal property on the installment plan : In 1917 
 goods which cost $10,000 are sold on installment plan for $20,000. 
 Collections on account: 1917, $10,000; 1918, $9,800. One con- 
 tract, originally for $500, is defaulted in 1918 and the goods 
 which cost the vendor $250 are repossessed, being then worth 
 $50. Installments on this defaulted contract had been paid as 
 follows: 1917, $100; in 1918, $200. The profits to be returned in 
 1918 are: 
 
 Under (1) 50% of $9,600 ($9,800— $200) $4,800 
 
 Under (2) total installments received $300 
 
 Less-Profit returned in 1917 $ 50 
 
 Shrinkage in goods repossessed 
 
 ($250— $50) 200 
 
 — 250 
 
 — — 50 
 
 Total profit returnable in 1918 $4,850 
 
 For simplicity, the above illustration omits sales in 1918. If sales 
 in 1918 contain a different percentage of profit than those in 
 1917, some adjustment may be necessary. Where the adoption 
 of the method outlined above involves a change in the method 
 of computing net income, the taxpayer's balance sheet should be 
 adjusted conformably as of the date when the change is effected. 
 If the vendor chooses as a matter of consistent practice to treat 
 
 Ififl Letter from treasury department dated April 26, 1919; I. T. S. 1921, 
 11 969. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 469 
 
 the obligations of purchasers as the equivalent of cash, such 
 a course is permissible.^'^" 
 
 Method of Accounting to Be Employed. The following 
 has been adopted where a taxpayer engaged in merchandising 
 upon the installment plan has heretofore made returns upon the 
 basis of treating the profit upon installment sales as realized as 
 at the date of sale and now wishes to change to the basis of 
 reporting the profit as being realized as at the date of collection 
 of the outstanding accounts. In accordance with the rule above 
 stated the balance sheet as at the beginning of the taxable year, 
 which should be filed as a part of the return, will carry the install- 
 ment sales contracts unliquidated and remaining in force as at the 
 date that this system of accounting is adopted and made effective 
 by the taxpayer, as accounts receivable, such unliquidated in- 
 stallment sales contracts having been inventoried and determined 
 as at that date. Cash collections on account of such contracts 
 will be credited directly to such accounts receivable and no part 
 of such collections will be included in computing realized profits 
 for the taxable year. As from the beginning of the taxable year, 
 the following accounts should be set up : 
 
 (a) Goods purchased, which will be charged with the 
 amount of inventory of the goods on hand at the beginning of the 
 taxable year and with the expenditures for goods purchased 
 during the year. 
 
 (b) Goods sold (cost values), which will be credited with the 
 cost value of all goods sold during the year. 
 
 (c) Installment sales contracts (year date), which will be 
 charged only with the amount of installment sales contracts 
 made during the year specified. This account for each year 
 will be credited with all cash collected during that ye^, or in 
 subsequent years, upon installment sales contracts for that 
 year only, and with the unpaid installments of defaulted or 
 canceled contracts for that year. 
 
 (d) Unrealized gross profits on installment sales contracts 
 (year date), which will be credited only with the amount of 
 unrealized gross profits upon installment sales contracts made 
 during the year specified. This amount will be the total of the 
 installment sales contracts for that year reduced by the cost 
 or inventory value, (as carried in account (a) goods purchased) , 
 of the actual goods' sold and covered by the contracts ; the balance 
 
 170 Letter from treasury department dated July 10, 1919; I. T. S. 1919, 
 H 3486, T. D. 3082. 
 
470 FEDERAL INCOME TAX 
 
 remaining being the amount of the unrealized gross profits. The 
 proforma monthly (or annual) journal entry would be: 
 
 Dr. Cr. 
 
 Installment sales contracts (year date,) $. . . . 
 
 To goods sold (cost value) $. . . . 
 
 Unrealized gross profits on installment sales 
 
 contracts (year date) $ . . . . 
 
 (e) Realized profits on installment sales contracts, which 
 will be credited from month to month (or at the end of the 
 year), with the profits realized by cash collections upon all 
 installment sales contracts of any year. Such profits should 
 be computed by taking the same percentage of the cash col- 
 lections made during the taxable year on account of installment 
 sales contracts of either that or prior years, as the total un- 
 realized profits on installment sales contracts for the year against 
 which the collection applies, bear to the total installment sales 
 made during that respective year. Corresponding debits should 
 be made to unrealized gross profits on installment sales contracts 
 for the year affected by such collections. If adjustments to any 
 or all of these various accounts become necessary in order that 
 it or they may accurately reflect the facts, such adjustments 
 may be made either monthly or as at the end of the taxable 
 year.^^i 
 
 C. 0. D. and "will call" sales should be included in the inventory 
 at the close of the year, if the merchandise has not been actually 
 shipped to the customers, unless such merchandise has been in- 
 cluded in sales of the taxable year, in which case it should be 
 excluded from inventory.^''^ 
 
 It will be noted that the foregoing plan which will be per- 
 mitted upon an explicit statement of facts made to the Com- 
 missioner by a taxpayer engaged in merchandising upon the 
 installment plan is not a change from an accrual basis to a cash 
 received and paid basis. In the opinion of the Commissioner, 
 the income of a merchandising concern can not be correctly 
 reflected upon the latter basis, as the use of inventories is abso- 
 lutely essential. The plan" herein outlined is, therefore, merely 
 such a modification or adaptation of the ordinary accrual method 
 of accounting as in the opinion of the Commissioner will en- 
 able the accounts of the taxpayer clearly to reflect his net in- 
 come. Where in the past another method has been used that 
 
 171 O. D. 623, T. B. 32-20-1118, modifying T. B. R. 24, T. B. 8-19-36. 
 
 172 O. D. 24, T. B. 1-19-36. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 471 
 
 has failed to reflect the taxpayer's net income an amended re- 
 turn or returns for such year may be made.^'^^ 
 
 If books have been so kept that the cost of each article sold 
 was not shown, gross profit may be determined by taking the 
 average percentage of gross profit on gross sales. If several 
 different lines of merchandise are handled on which the average 
 percentages of profit differ, the gross profit on total sales of each 
 different class of merchandise should be computed separately.^''* 
 
 In cases of continuous accounts covering sales of personal 
 property, the income from which is reported on the installment 
 plan, the cash payments received should be allocated in accord- 
 ance with the generally recognized principle of law governing 
 such cases, that is, that failing application by the vendee, the 
 cash payments should be applied to the earliest items of the 
 account.^''^^ 
 
 It has been ruled that a taxpayer who sells merchandise on 
 the installment plan may not allocate the expenses incident to 
 producing the income to the year in which the profits on the sale 
 of the goods are realized, but should deduct such expenses in 
 the year in which incurred and paid or accrued.^'^s 
 
 Treatment of Bad Debts. The amount to be deducted from 
 gross income as a bad debt in cases of sales of personal property 
 on the installment plan in which the unpaid installment obliga- 
 tions of the purchaser become worthless and are charged off and 
 the property is not recovered by the vendor is such proportion 
 of the defaulted payments as represents the capital investment, 
 that is, the cost of the goods sold, and this amount must be de- 
 ducted for the year in which the default occurred. This rule 
 may be made clear if the accounting procedure suggested above is 
 followed under the conditions given in the following example : 
 
 Let it be assumed that the taxpayer's installment sales (con- 
 tracts) for the year 1919 were $300,000 and that the cost of the 
 goods sold and covered by such contracts was $100,000 ; then the 
 unrealized gross profits would be $200,000 and the rate of profit 
 for that year would be established at 66% per cent. 
 
 Let it be assumed, further, that during the years 1919 and 1920 
 the cash collections on account of such contracts were $266,700; 
 then the entries covering these transactions would be as follows : 
 
 Installment sales contracts, 1919 $300,000 
 
 To goods sold (cost value) $100,000 
 
 173 O. D. 623, T. B. 33-20-1118, modifying T. B. R. 24, T. B. 8-19-313. 
 
 174 0. D. 25, T. B. 1-19-37. 
 
 "5 0. D. 815, T. B. 8-21-1460; O. D. 1045, T. B. 39-21-1838. 
 176 0. D. 844, T. B. 11-21-1508. 
 
472 FEDERAL INCOME TAX 
 
 To unrealized gross profits on installment 
 
 sales contracts, 1919 200,000 
 
 Rate of gross profit — % or 66% per cent. 
 Unrealized gross profits on install- 
 ment sales contracts, 1919 177,800 
 
 To realized profits on install- 
 ment sales contracts 177,800 
 
 Cash collections during 1919 and 
 
 1920 for account of 1919 $266,700 
 
 % thereof 177,800 
 
 At the close of 1920 the accounts, as affected by the above 
 transactions, would stand as below: 
 
 Debits. Credits. 
 
 Cash $286,700 Goods sold (cost 
 
 Installment sales con- value) $100,000 
 
 tracts, 1919 33,300 Unrealized gross 
 
 profits, etc 22,200 
 
 300,000 Realized profits, etc. 177,800 
 
 300,000 
 
 Of the above balance of $33,300 to the debit of installment sales 
 contracts, two-thirds, or $22,200 (shown as a balance to the 
 credit of unrealized gross profits), is to be accounted for and 
 taxed as profits as, when, and if collected. The remaining one- 
 third is the capital investment representing the cost of goods 
 sold. 
 
 But let it be assumed that the whole or any part of the bal- 
 ance of the installment sales contracts, amounting to $33,300, 
 was defaulted in 1919 or at any later time; then the question 
 arises: How should the loss occasioned by such defaults be 
 treated for purposes of determining the income and excess profits 
 tax? 
 
 The answer is that the proper portion (two-thirds in this case) 
 of the amount of the defaulted payments should be charged 
 against the unrealized profits and the balance (in this case one- 
 third) , representing the cost of the goods sold, should be allowed 
 to the taxpayer as a deduction for losses actually sustained during 
 the taxable year. 
 
 This method of treatment should be followed whether the 
 goods are or are not recovered. If the goods are not recovered, 
 it correctly reflects the facts without further entries upon the 
 books. If the goods are recovered, their fair market value at the 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 473 
 
 time of recovery should be credited as realized profits for that 
 year, with a corresponding debit to the account of goods pur- 
 chased. The difference (debit balance) between the two accounts' 
 of goods purchased and goods sold should reflect the value of the 
 physical inventory at any given date."''^ 
 
 Combination of Cash, Charge and Installment Sales. A 
 corporation doing business on both a cash and installment basis 
 should report profits on the installment sales on the basis out- 
 lined above. The cash sales, each of which represents a com- 
 pleted and closed transaction, should be reported separately, that 
 is, the entire profits derived from every cash sale must be re- 
 ported as income in the return for the year in which the sale 
 was made.i'^^ 
 
 In the case of a combination of cash, charge, and installment 
 sales, the cost of the goods sold is obtained in the usual manner 
 which is the sum of the opening inventory and purchases for 
 the year less the closing inventory. The percentage of gross 
 profit on sales for the year is the percentage which the gross 
 profit from all sales is of the total sales for the year, regardless 
 of whether cash, charge, or installment sales. The percentage of 
 gross profit for a particular year applied to the total collections 
 for that year gives the gross income from sales for such year. 
 This percentage remains the same for collections on installment 
 sales contracts for a particular year regardless of whether such 
 collections are made in the year in which the sale was made or 
 in a later year. Collections made in subsequent years on prior 
 installment sales contracts must, of course, be allocated and 
 credited to the year in which the sale was made. In addition 
 to the special accounts enumerated above the other accounts 
 which would normally be maintained are the same as those of an 
 ordinary business adapted if necessary to furnish the informa- 
 tion desired at the close of the accounting period."*^ 
 
 Change in Method of Reporting. In cases where the tax- 
 payer has in the past exercised the option of reporting the profit 
 as realized as at the date of sale and now wishes to change to. a 
 basis of reporting the profit as realized as at the date of collec- 
 tion of the outstanding installments, either of which method is 
 allowable, amended returns for years prior to the date that the 
 above outlined system of accounting is adopted and made effective 
 by the taxpayer, will not be required or allowed unless in the 
 opinion of the Commissioner such former method has failed to 
 
 177 O. D. 792, T. B. 6-21-1427. 
 
 178 0. D. 23, T. B. 1-19-35. 
 
474 FEDERAL INCOME TAX 
 
 reflect the net income.iso The Commissioner will not approve 
 such a change merely because the taxpayer will derive an advan- 
 tage from decreased tax liability. When a change is approved 
 the taxpayer will be required to adhere to it in his returns for 
 subsequent years and the first return made under the changed 
 method should be accompanied by a letter of explanation.isi 
 
 Sale of Real Estate Involving Deferred Payments. Deferred 
 payment sales of real estate ordinarily fall into two classes when 
 considered with respect to the terms of sale, as follows: (1) In- 
 stallment transactions, in which the initial payment is relatively 
 small (generally less than one-fourth of the purchase price) and 
 the deferred payments usually numerous and of small amount.is^ 
 They include (a) sales where there is immediate transfer of title 
 when a small initial payment is made, the seller being protected 
 by a mortgage or other lien as to deferred payments, and (b) 
 agreements of purchase and sale which contemplate that a con- 
 veyance is not to be made at the outset, but only after all or a 
 substantial portion of the agreed installments have been paid. 
 (2) Deferred payment sales not on the installment plan, in which 
 there is a substantial initial payment (ordinarily not less than 
 one-fourth of the purchase price), deferred payments being se- 
 cured by a mortgage or other lien. Such sales are distinguished 
 from sales on the installment plan by the substantial character of 
 the initial payment and also usually by a relatively small number 
 of deferred payments. In determining how these classes shall be 
 treated in levying the income tax, the question in each case is 
 whether the .income to be reported for taxation shall be based 
 only on amounts actually received in a taxing year, or on the 
 entire consideration made up in part of agreements to pay in the 
 future.183 jvjo realization of gain or loss arises from a mere 
 contract to sell real estate in the future. The sale is held to oc- 
 cur at the time a deed passes or at the time possession and the 
 burdens and benefits of ownership are from a practical stand- 
 point transferred to the buyer, whichever occurs first. Pay- 
 ments made prior to the sale are to be applied in reduction of 
 cost so far as they do not exceed cost; being treated as income 
 to the extent, if any, to which cost is exceeded.!^* 
 
 179 O. D. 1107, T. B. 47-21-1930. 
 
 180 0. D. 623, T. B. 32-20-1118, modifying T. B. R. 24, T. B. 8-19-313. 
 
 181 O. D. 24, T. B. 1-19-36. 
 
 182 See A. R. M. 140, T. B. 46-21-1918. 
 
 183 Reg. 45, Art. 44. 
 
 184 O. 988, T. B. 8-20-751. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 475 
 
 Sale op Real Estate on Installment Plan. In the two 
 kinds of transactions included in class (1) in the foregoing para- 
 graph, installment obligations assumed by the buyer are not 
 ordinarily to be regarded as the equivalent of cash, and the vendor 
 may report as his income from such transactions in any year 
 that proportion of each payment actually received in that year 
 which the gross profit to be realized when the property is paid 
 for bears to the gross contract price. If the return is made 
 on this basis and the vendor repossesses the property after de- 
 fault by the buyer, retaining the previous payments, the entire 
 amount of such payments, less the profit previously returned, 
 will be income to the vendor, and will be so returned for the year 
 in which the property was repossessed, and the property repos- 
 sessed must be included in the inventory less any depreciation. 
 If the taxpayer chooses, as a matter of settled practice con- 
 sistently followed, to treat the obligations of the purchaser as 
 equivalent to cash and to report the profit derived from the en- 
 tire consideration, cash and deferred payments, as income for the 
 year when the sale is made, this is permissible. If so treated the 
 rule prescribed in the following paragraph will apply .^^^ 
 
 Deferred Payment Sales of Real Estate Not on the In- 
 stallment Plan. In class (2) in the next to the last paragraph 
 above the obligations assumed by the buyer are much better se- 
 cured because of the margin afforded by the substantial first pay- 
 ment, and experience shows that the greater number of such 
 sales are eventually carried out according to their terms. These 
 obligations for deferred payments are therefore to be regarded as 
 equivalent to cash, and the profit indicated by the entire consider- 
 ation is taxable income for the year in which the initial payment 
 was made and the obligations assumed. If the buyer defaults 
 and the seller regains title to the land by agreement or process of 
 law, retaining payments previously made, he may deduct from his 
 gross income as a loss in the year of repossession any excess 
 of the amount previously reported as income over the amount 
 actually received, and must include such real estate in his inven- 
 tbry at its original cost to himself less any depreciation.^^e 
 
 In the case of real estate sales involving deferred payments, 
 even though substantial first payment is made, if the notes 
 given by buyers of real estate can not be discounted nor sold 
 on account of lack of credit of the buyers, such notes need not 
 be regarded as the equivalent of cash, and the vendors may 
 
 185 Reg. 45, Art. 45. 
 1S6 Reg. 45, Art 46. 
 
476 FEDERAL INCOME TAX 
 
 report as their income from the proposed transaction for each 
 year only the proportion of each payment actually received 
 in that year which the gross profit to be realized when the 
 property is paid for bears to the gross contract price.^*^' 
 
 Where pursuant to a contract to sell real estate executed in 
 one year at which time a small cash consideration was paid, 
 delivery of the deed and transfer of possession taking place in 
 the next year, in which latter year a substantial payment was 
 made and notes secured by mortgage for the unpaid balance 
 were given, it has been held that the vendor should report the 
 profit realized from the transaction as gross income for the 
 latter year and that the small advance payment made in the 
 earlier year should be treated as a return of capital since it 
 was less than the cost of the property to the vendor and did 
 not, therefore, constitute taxable income for the earlier year.^**'^ 
 
 Where a tract of land was sold on November 1, 1919, 1/10 
 of the purchase price accompanying the bid, 4/10 being paid 
 in December, 1919, and the balance in January, 1920, at which 
 time a proper conveyance of title was delivered to the purchaser, 
 the sale should be treated as a cash transaction for 1919 and the 
 entire profit reahzed be returned as income for that year.i'''' 
 
 Where an individual sold real estate receiving in the year 
 of sale over 14 of the total selling price, the contract providing 
 that the balance should be paid in four annual installments 
 thereafter, such deferred payments being secured by crop mort- 
 gages and additional collateral security, it has been held that 
 the payments received in the year of sale were sufficiently sub- 
 stantial in amount to require the vendor to report in that year 
 the entire profit realized on the sale.i'^o 
 
 Where an individual sold real estate which was mortgaged to 
 secure a loan made by a state, the vendor agreeing to make 
 payment partly in cash, assumed payment of the morgtgage 
 held by the state and gave the vendor a mortgage to cover the 
 balance of the sale price, it has been held that the vendor has 
 received the full amount of the sale price in cash or its equivalent 
 and should report the entire profit realized as income for the 
 year in which the sale was consummated, notwithstanding that 
 
 i'^' 0. D. 181, T. B. 8-19-314. 
 
 iss A. R. R. 13, T. B. 2-20-671. See also O. D. 751, T. B. 51-20-1350; O. D. 
 842, T. B. 11-21-1506 and letter from treasury department dated April 27, 
 1921; I. T. S. 1921,112991. 
 
 is« O. D. 568, T. B. 27-20-1037. 
 
 190 0. D. 569, T. B. 27-20-1038. 
 
INCOME FROM SALES OR DEALINGS IN PROPERTY 477 
 
 the state refused to accept the vendee's promise to pay in lieu 
 of the vendor's original liability for payment of the note in case 
 of default by the vendee.^^^ 
 
 In 1920, a partnership owning a sawmill business entered into 
 a contract for the sale of its property to a corporation. In accord- 
 ance with the contract, the corporation made a cash payment of 
 $200,000 down and obtained possession of the mill plant and 
 equipment, a large tract of timber, together with certain leases 
 and other rights, and all the timber owned by the partnership 
 on certain other sections of land. The contract also required the 
 corporation to make large cash payments in one, two, three and 
 four years, respectively, from the date of the contract, and it 
 was provided that as each of the stipulated payments was made, 
 there should be released to the corporation all the timber owned 
 by the partnership on certain other specified sections of land. 
 Upon making the last payment stipulated in the contract a 
 warranty deed to the property covered by the contract was to be 
 executed and delivered to the corporation. A bond was given 
 by the vendors for the execution and delivery of such warranty 
 deed upon the fulfillment of the conditions by the vendee. The 
 entire transaction was covered by the contract and the bond, the 
 obligations of the vendee not being represented by notes or other 
 negotiable paper in any form. It was held that the sale of the 
 property covered by the contract should be considered as having 
 taken place only when and as the stipulated payments were made 
 and the property released to the corporation. The sale of each 
 parcel of the property should, therefore, be treated as a separate 
 transaction.182 
 
 Where, under the terms of a contract of sale of land near de- 
 veloped oil territory, one-half of the consideration was to be 
 paid in cash and one-half in oil at the market price after the 
 land is developed, the vendor having no recourse if oil is not 
 found, it was held that the part of the consideration represented 
 by the right to receive oil, in case oil is found, has not a definitely 
 ascertainable value, and hence is not to be considered the equiva- 
 lent of cash. No taxable income will be realized by reason of the 
 sale until the amount received by the vendor in cash, plus the 
 cash value of oil received, exceeds the cost of the property .^^^ 
 
 Sale of Real Estate in Lots. Where a tract of land is pur- 
 chased with a view to dividing it into lots or parcels of ground 
 
 191 O. D. 409, T. B. 11-20-784. 
 
 192 0. D. 835, T. B. 10-21-1493. 
 
 193 O. D. 889, T. B. 17-21-1591. 
 
478 FEDERAL INCOME TAX 
 
 to be sold as such, the cost must be equitably apportioned to the 
 several lots or parcels and made a matter of record on the books 
 of the taxpayer, to the end that any gain derived from the sale 
 of any such lots or parcels which constitutes taxable income may 
 be returned as income for the year in which the sale was made. 
 This rule contemplates that there will be a measure of gain or 
 loss on every lot or parcel sold, and not that the capital invested 
 in the entire tract shall be extinguished before any taxable in- 
 come shall be returned. The sale of each lot or parcel will be 
 treated as a separate transaction and the gain or loss will be ac- 
 counted for in accordance with the rules for determining gain 
 or loss from sales.i^* Profit realized on the ^ sale of lots, the 
 selling price of which includes the cost of certain development 
 work already made or to be made in accordance with the con- 
 tract of sale, should be based on the cost of the land to the 
 vendor making the sale, plus the actual and estimated future 
 expenditures for development. If the estimated future ex- 
 penditures should be subsequently ascertained to be incorrect, 
 amended returns should be filed as the basis for an adjustment 
 of the tax for the years affected. The cost of such develop- 
 ment having been taken into consideration in determining 
 profit, expenditures for this purpose can not be deducted 
 from gross income in subsequent retumB.^''^ The purchase of 
 real estate with the intention of reselling it as a whole will not 
 avoid the above method of treatment, if, in fact, the land is sold 
 in several parts. ' The sale of a perpetual easement on a specified 
 number of acres of land to a railroad company is to be treated as 
 though it were an outright sale of land where legal title passes 
 at the time of sale, unless for some reason the fee of the owner 
 has more than a merely nominal value, as for example, where the 
 land is underlaid by a mine.^^^ 
 
 194 Reg. 45, Art. 43, as amended by T. D. 3206, T. B. 33-21-1767. See 
 Chapter 17. 
 
 195 0. D. 567, T. B. 27-20-1036; 0. D. 226, T. B. 12-19-399. 
 
 196 0. D. 1072, T. B. 43-21-1881. 
 
CHAPTER 18 
 INCOME FROM INTEREST, RENT AND ROYALTIES 
 
 Both the Revenue Act of 1921 and the Revenue Act of 1918 
 expressly provide that gross income shall include gains, profits, 
 and income derived from "interest" and from "rent." The law 
 does not expressly cover income from royalties, which falls, 
 however, under the broad expression "income derived from sales, 
 or dealings in property, whether real or personal, growing out 
 of the ownership or use of or interest in such property; also 
 gains or profits and income derived from any source whatever." 
 Interest is ordinarily taxable in the hands of citizens and resi- 
 dents and domestic corporations, whether received from debtors 
 in this country or debtors in foreign countries. It is taxable in 
 the hands of non-resident aliens and foreign corporations when 
 it is paid on bonds, notes or other interest-bearing obligations 
 of residents, corporate or otherwise.^ 
 
 Interest Exempt from Tax. The law expressly provides that 
 interest upon the obligations of a state, territory or political 
 subdivision thereof, or the District of Columbia or any posses- 
 sion of the United States, or securities issued under provisions 
 of the Federal Farm Loan Act of July 17, 1916, or interest upon 
 the obligations of the United States issued prior to September 1, 
 1917, (and to a limited extent the interest on obligations issued 
 after that date) and bonds issued by the War Finance Corpora- 
 tion (to a limited extent) shall not be included in gross income, 
 and shall be exempt from income tax.^ 
 
 Interest upon United States Obligations. Although interest 
 upon the obligations of the United States is in general exempt 
 from tax, in the case of such obligations issued after September 
 1, 1917, which include treasury certificates of indebtedness, war 
 savings certificates and the Liberty bond issues (except the First 
 
 1 Revenue Act of 1921, §§213 "(a) and 233; Revenue Act of 1918, §§213 
 (a) and 223. See Chapters 4 and 12 as to interest taxable in the hands of 
 nonresident aliens and foreign corporations. As to interest, see Reg. 33, 
 Art. 67; Letter from treasury department dated February 18, 1915; I. T. S. 
 1919, 1[ 923 ; Reg. 45, Art. 54. As to rent, see letters from Treasury Depart- 
 ment dated February 9 and February 26, 1915. I. T. S. 1919, If 920. Unless 
 the taxpayer keeps his books on a basis other than that of actual receipts, he 
 should report interest, rent and royalties as income of the year in which pay- 
 ment thereof is actually or constructively received by him. 
 
 2 Revenue Act of 1921, § 213 (b) 4; Revenue Act of 1918, § 213 (b) 4. 
 
 479 
 
480 FEDERAL INCOME TAX 
 
 Liberty Loan 31/2 per cent, bonds), the interest is exempt from 
 tax only if and to the extent provided in the acts authorizing the 
 issue thereof, as amended and supplemented." There are five is- 
 sues of so-called Liberty Loan bonds comprising ten different 
 classes of bonds and notes. These ten classes are as follows: (1) 
 First Liberty Loan 31/2% Bonds; (2) First Liberty Loan Con- 
 verted 4% Bonds; (3) First Liberty Loan Converted 414"'/; 
 Bonds (dated May 9, 1918) ; (4) First Liberty Loan 414% Bonds 
 (dated October 24, 1918) ; (5) Second Liberty Loan 4% Bonds; 
 (6) Second Liberty Loan Converted 4%% Bonds; (7) Third Lib- 
 erty Loan 414% Bonds; (8) Fourth Liberty Loan 4l^% Bonds; 
 (9) Victory (Fifth) Liberty Loan 33/^% Notes; (10) Victory 
 (Fifth) Liberty Loan 4%% Notes. The respective acts^ author- 
 izing the issue of these obligations grant exemption in every 
 case from any normal ^ tax upon the interest therefrom. Some 
 of the obligations are wholly exempt from the surtax or the 
 excess-profits tax (in the case of corporations), while others 
 carry no exemption from such taxes. In addition, many of the 
 obligations carry limited or partial exemptions as appear in the 
 following paragraphs. The Revenue Act of 1921 has further 
 amended and supplemented the various Acts authorizing the 
 issue of Liberty bonds and has consolidated the Liberty bond 
 tax exemptions." As a result the exemptions under the 1921 
 law diflfer considerably from those previously granted. 
 
 Tax Exemptions of Liberty Bonds and Victory Notes Under 
 the 1918 Law. L Under the 1918 Law, the following bonds and 
 notes were exempt from all federal, state, and local taxation, 
 except (a) estate or inheritance ' taxes and (b) federal income 
 surtaxes and profits taxes, as follows : 
 
 3 Reg. 45, Art. 77. Under earlier income tax laws, interest upon the obli- 
 gations of the United States was expressly included as taxable income (see 
 Act of March 2, 1867). Under the 1909 Law the attorney-general held that 
 interest on national bonds should be included as income of corporations, since 
 the tax was not on property, but a tax on the privilege of carrying on busi- 
 ness (28 Op. Atty. Gen. 138). 
 
 i Act of April 24, 1917; Act of September 24, 1917; Act of April 4, 1918; 
 Act of July 9, 1918; Act of March 3, 1919; Revenue Act of 1921, §1328. 
 
 5 This word applies to the income tax on corporations as well as the 
 normal tax on individuals. ( Official announcement by treasury department, 
 dated April 23, 1919; L T. S. 1921, H 1238. 
 
 6 Revenue Act of 1921, § 1328. 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 
 
 481 
 
 1. First Liberty loan convert- 
 
 ed 4 per cent bonds of 
 1932-1947 (first 4s). 
 
 2. First Liberty loan con- 
 
 verted 414 per cent 
 ' bonds of 1932-1947 (first 
 4iAs, issue of May 9, 
 1918). • 
 
 3. First Liberty loan second 
 
 converted 41/4 per cent, 
 bonds of 1932-1947 (first 
 414s, issue of October 
 24, 1918). 
 
 4. Second Liberty loan 4 per 
 
 cent bonds of 1927-1942 
 (second 4s). 
 
 5. Second Liberty loan con- 
 
 verted 414 per cent 
 bonds of 1927-1942 (sec- 
 ond 414s). 
 
 6. Third Liberty loan 4l^ per 
 
 cent bonds of 1928 
 (third 4l^s). 
 
 7. Fourth Liberty loan 4l^ 
 
 per cent bonds of 1933- 
 1938 (fourth 414s). 
 
 8. Victory Liberty loan 4% 
 
 per cent convertible gold 
 notes of 1922-1923 (434 
 per cent Victory notes). 
 
 Were exempt, under the 1918 
 law, both as to principal 
 and interest, from all taxa- 
 tion then or thereafter im- 
 posed by the United States, 
 any state, or any of the 
 possessions of the United 
 States, or by any local tax- 
 ing authority except (a) 
 estate or inheritance taxes, 
 and (b) graduated addi- 
 tional income taxes, com- 
 monly known as surtaxes, 
 and excess-profits and war- 
 profits taxes, then or there- 
 after imposed by the Uni- 
 ted States, upon the income 
 or profits of individuals, 
 partnerships, associations, 
 or corporations. 
 
 II. 4 per cent and 4l^ per cent bonds were entitled to limited 
 exemptions from federal income surtaxes and excess- 
 profits taxes, as follows: 
 per cent and 414 per cent Liberty bonds (but not 4% pfir cent 
 Victory notes) were entitled to certain limited exemptions 
 from graduated additional income taxes, commonly known as 
 surtaxes, and excess-profits and war-profits taxes, then or 
 thereafter imposed by the United States, upon the income or 
 profits of individuals, partnerships, associations, or corpora- 
 tions, in respect to the interest on principal amounts thereof, 
 as follows: 
 
482 FEDERAL INCOME TAX 
 
 $5,000 in the aggregate of first 4s, first 414s (issues of May 9 
 and October 24, 1918) second 4s and 41^8, third 4%s, 
 fourth 414s, treasury certificates, and war-savings certifi- 
 cates." 
 
 30,000 of first 4l^s (issue of October 24, 1918, only), until the 
 expiration of two years after the termination of the war. 
 
 30,000 of fourth 4i^s, until the expiration of two years after 
 the termination of the war. 
 
 30,000 in the aggregate of first 4s, first 4l^s (issues of May 
 9 and October 24, 1918), second 4s and 4i/4s, third 414s, 
 and fourth 414s, as to the interest received on and after 
 January 1, 1919, until the expiration of five years after 
 the termination of the war. 
 
 45,000 in the aggregate of first 4s, first 414s (issue of May 9, 
 1918, only), second 4s and 4l^s, and third 414s, as to the 
 interest received after January 1, 1918, until the expira- 
 tion of two years after the termination of the war; this 
 exemption conditional on original subscription to, and con- 
 tinued holding at the date of the tax return of two-thirds 
 as many bonds of the fourth Liberty loan.s 
 
 20,000 in the aggregate of first 4s, first 414s (issues of May 9 
 and October 24, 1918), second 4s and 4]^s, third 414s, and 
 fourth 4i/4s, as to the interest received on and after Jan- 
 uary 1, 1919; this exemption conditional upon original sub- 
 scription to, and continued holding at the date of the tax 
 return of one-third as many notes of the Victory Liberty 
 loan, and extending through the life of such notes of the 
 Victory Liberty loan." 
 
 7 Where a husband and wife each own in his own or her own right bonds 
 of these issues not exceeding $5,000, each is entitled to exclude the income 
 therefrom in computing the tax on their joint incomes, and minor children 
 having separate estates are also entitled to the exemption. (Letter from 
 treasury department dated October 8, 1917, L T. S. 1921, H 1244.) A taxpayer 
 is entitled to the exemption of $5,000 of his aggregate holdings, not on 
 $5,000 of each class of obligations (T. D. 2585). 
 
 8 It has been held that an individual who originally subscribed to bonds 
 of the Fourth Liberty Loan to an amount not exceeding $30,000 in accord- 
 ance with the government plan and who made payments in accordance with 
 such plan was not required to pay for such bonds in full on or before De- 
 cember 31, 1918, in order to obtain this exemption. Likewise, if an individual 
 subscribed for bonds of the Fourth Liberty Loan through a bank by agreeing 
 to pay the subscription price in installments acceptable to the bank, and make 
 payments in accordance with this plan, it was not necessary for such indi- 
 vidual to pay for the bonds in full on or before December 31, 1918, in order 
 to obtain this exemption. Letter from treasury department dated January 3, 
 1919, L T. S. 1919, T[990.) 
 
 9 For the purpose of this exemption Victory notes of either series issued 
 upon conversion of Victory notes of the other series which were originally 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 483 
 
 III. 3I/2 per cent bonds and 3% ver cent notes were exempt 
 from all federal, state, and local taxation, except estate or 
 inheritance taxes, as follows : 
 
 1. First Liberty loan 3i/^ Were exempt, under the 1918 Law, 
 
 per cent bonds of both as to principal and interest, 
 
 1932-1947. from all taxation (except estate or 
 
 inheritance taxes) then or there- 
 
 -2. Victory Liberty loan after imposed by the United States, 
 
 3% per cent con- any state, or any of the posses- 
 
 vertible gold notes sions of the United States, or by 
 
 of 1922-1923.10 any local taxing authority. 
 
 Bonds Originally Subscribed for and Held at the Date 
 OF the Tax Return. The amount of interest upon Liberty 
 bonds of any particular loan exempt from surtax and war-profits 
 and excess-profits tax was in no case based on the amount of 
 bonds of that loan subscribed for and still held at the time of 
 filing the return. However, the conditional exemption of inter- 
 est upon Liberty bonds of other loans by reason of original sub- 
 scription and. continued holding of Liberty bonds of the fourth 
 loan, or Victory notes, was based upon the amount of Liberty 
 bonds of the fourth loan and Victory notes originally sub- 
 scribed for and still held by the taxpayer at the time of filing 
 his return.ii The words "the date of the tax return" as used 
 in the supplement to the Second Liberty Loan Act were held to 
 mean the date on w.hich the return is filed with the collector. 
 Consequently a taxpayer holding the prescribed amount of 
 fourth Liberty loan bonds on December 31, 1918, but who dis- 
 posed of them on January 1, 1919, before his return had been 
 filed, was not allowed the exemption referred to.^^ An indi- 
 vidual who inherited fourth Liberty Loan bonds or Victory Loan 
 notes which were originally subscribed for by the decedent was 
 not entitled to the collateral exemption of interest on bonds of 
 previous issues to which the decedent as the original subscriber 
 
 subscribed for by any taxpayer will be deemed to have been originally sub- 
 scribed for by such taxpayer. (T. D. 2857.) The total possible exemptions 
 from federal income surtaxes and profits taxes, subject to conditions above 
 summarized, v>ras $160,000. 
 
 10 T. D. 2836; Official statement by the Secretary of the Treasury, dated 
 April 14, 1919; L T. S. 1921, T[1238; Reg.-45, Art. 80 (a); Reg. 45, Arts. 
 78-80; Letter from treasury department dated March 20, 1919; I. T. S. 1919, 
 If 3278. 
 
 11 0. D. 493, T. B. 19-20-913. 
 
 12 0. D. 213, T. B. 11-19-375. 
 
484 FEDERAL INCOME TAX 
 
 would have been entitled.^^ Where, under a will, the income of 
 an estate was to be paid to the widow for life, and upon her 
 death to be divided equally among the surviving children, it was 
 held that upon distribution of the estate on the death of the 
 widow, the surviving children should not be considered original 
 subscribers to Liberty bonds originally subscribed to by the 
 estate. The estate and the ultimate beneficiaries are distinct 
 entities.!* Where a taxpayer has held at any time or times, 
 within the taxable year Liberty Loan bonds (any issues except' 
 the first unconverted), United States certificates of indebted- 
 ness, or war savings stamps, the total interest received being 
 equal to or in excess of the interest for one year on an aggre- 
 gate principal of $5,000, credit might be taken to an amount not 
 exceeding such amount of interest for one year on the aggre- 
 gate principal of $5,000.1^ In case a taxpayer converted his 
 Liberty bonds or Victory notes originally subscribed for from 
 one denomination into another, or from registered bonds into 
 coupon bonds or vice versa, he would be considered the original 
 subscriber to the new bonds or notes for the purpose of the 
 collateral exemptions, if the new bonds or notes were of the 
 same issue as the ones originally subscribed for.i^ 
 
 Exemption Determined by Bonds Held at End of Year. 
 Where a taxpayer converted bonds in the course of a year, he 
 was deemed, for purposes of the income tax, to have held for the 
 entire year the bonds into which his earlier bonds were con- 
 verted. All amounts paid at the time of conversion of bonds for 
 adjustment of interest were to be subtracted from amounts re- 
 ceived at the first interest payment after conversion and only 
 the difference between amounts received and amounts paid was 
 required to be included in the return of taxpayer.^'' All interest 
 accrued on 4% per cent Victory notes at the date of any con- 
 version by the taxpayer into BY4, per cent Victory notes were, 
 for the purposes pf computing net income, deemed to be interest 
 upon 434 per ,cent Victory notes, and were entitled only to the 
 exemptions from taxation to which interest on 434 per cent 
 Victory notes were entitled. Any and all amounts received by 
 any taxpayer from the United States by way of adjustment of 
 
 13 O. D. 405, T. B. 8-20-752. 
 1* O. D. 1000, T. B. 34-21-1779. 
 
 15 O. D. 227, T. B. 13-20-807. 
 
 16 O. D. 718, T. B. 45-20-1290. 
 
 17 Letter from treasury department dated March 25, 1919 ; I. T. S. 1921, 
 H 1243. 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 485 
 
 accrued interest upon conversion of 4% per cent Victory notes 
 into 3% per cent Victory notes were deemed to be interest upon 
 4% per cent Victory notes. All interest accrued on 3% per 
 cent Victory notes at the date of any conversion by the tax- 
 payer into 4% per cent Victory notes was for the purposes of 
 computing net income, deemed to be interest upon 3% per cent 
 Victory notes, and was entitled to the exemptions from taxation 
 to which interest on 3% per cent Victory notes was entitled.^^ 
 
 Liberty Bonds Held by Banks. The excess of the amount 
 of bonds purchased by a bank from the government over the 
 amount of such bonds subscribed for by the customers through 
 the bank during the respective periods designated by the gov- 
 ernment for receiving subscriptions was regarded as being the 
 amount of principal of bonds originally subscribed for by the 
 bank for its own investment. Such bonds were to be listed 
 in the return of the bank as property of the bank and the 
 interest on such bonds was taxable income to the bank except 
 to the extent provided in the Liberty Loan Acts and the supple- 
 ments thereto. The bonds subscribed for by the customers 
 during the subscription periods on which no default had oc- 
 curred were deemed the property of the customers and were 
 not to be listed in the return of the bank, and the interest re- 
 ceived from the government on account of such bonds was not 
 to be returned by the bank as income, but was to be reported in 
 the returns of the customers.^^ A bank which takes over Lib- 
 erty bonds after default by individual subscribers can not be 
 considered an original subscriber to such bonds.^o 
 
 Tax Exemptions of Liberty Bonds and Victory Notes Under 
 the 1921 Law. The Revenue Act of 1921 has amended and sup- 
 plemented the various Acts authorizing the issues of Liberty 
 bonds and Victory notes and has now consolidated the exemp- 
 tions appertaining to such bonds and notes. It is now provided 
 that on and after January 1, 1921, 4% and 41/^ % Liberty bonds 
 shall be exempt from graduated additional income taxes, com- 
 monly known as surtaxes, and excess-profits and war-profits 
 taxes, now or hereafter imposed by the United States upon the 
 income or profits of individuals, partnerships, corporations, or 
 associations, in respect to the interest on aggregate principal 
 amounts thereof as follows: Until the expiration of two years 
 after the date of the termination of the war between the United 
 
 18 T. D. 2865. 
 
 19 0. D. 192, T. B. 8-19-331; O. D. 16, T. B. 1-19-28. 
 
 20 T. B. R. 28, T. B. 6-19-271. 
 
486 FEDERAL INCOME TAX 
 
 States and the German government, as fixed by proclamation 
 of the President on $125,000 aggregate principal amount; and 
 for three years more on $50,000 aggregate principal amount.^i 
 The date of the termination of the war has been fixed by the 
 President's proclamation as July 2, 1921.22 fhe exemptions 
 provided above are stated to be in addition to the exemptions 
 provided in Section 7 of the Second Liberty Bond Act,23 viz., 
 interest on the principal amount of $5,000 in the aggregate of 
 first 4's, first 4i^'s (issues of May 9 and October 24, 1918), 
 second 4's and 4l/4's, third 4i/4's, fourth 4i4's, treasury certifi- 
 cates and war savings certificates,2* and also in addition to the 
 exemption contained in § 1 (3) of the Supplement to the Second 
 Liberty Bond Act, viz.: The interest on an amount of bonds, 
 the principal of which does not exceed $30,000, issued upon 
 conversion of 31/2% bonds of the First Liberty Loan in the exer- 
 cise of any privilege arising as a consequence of the issue of bonds 
 of the Fourth Liberty Loan. The exemptions provided by the 
 Revenue Act of 1921, however, are in lieu of the exemptions 
 provided, and free from the conditions and limitations imposed 
 by § 1 (1) and (2) if the Supplement to the Second Liberty 
 Bond Act and § 2 of the Victory Liberty Loan Act.23 
 
 As a result, then, under the 1921 law, interest on all issues of 
 Liberty bonds and victory notes are exempt from the normal 
 tax and from the income tax on corporations. 
 
 The surtax and excess-profits tax exemptions permitted under 
 the 1921 law (all other surtax and excess-profits tax exemptions 
 formerly permitted being repealed as of January 1, 1921, except 
 in the case of the 31/2% Liberty bonds and the 3%% Victory 
 notes which carry total exemption through their respective lives) 
 are as follows : 
 
 (1) Interest on an aggregate principal amount not exceeding 
 $5,000 of Liberty bond issues (4's and 414's) after the first, in- 
 cluding in such later issues bonds of the First Liberty Loan 
 converted, treasury certificates and war savings certificates (no 
 time limit) $5,000. 
 
 (2) Interest on an aggregate principal amount of bonds (4's 
 and 414's) not exceeding $30,000 issued upon conversion of 
 31/^% bonds of the First Liberty Loan in the exercise of any 
 
 21 Revenue Act of 1921, § 1328. 
 
 22 Proclamation by the President of the United States, dated November 14, 
 1921. See I. T. S. 1921, 113213. 
 
 23 Act of September 24, 1917. 
 
 24 See footnote 6. 
 
 25 Revenue Act of 1921, § 1328 (b). 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 487 
 
 privilege arising as a consequence of the issue of bonds of the 
 Fourth Liberty Loan (until July 2, 1923) $30,000. 
 
 (3) Interest on a principal amount of 4's and 4i4's (until 
 July 2, 1923) * $125,000. 
 
 Providing exemption on a total principal amount until July 
 2, 1923 (as before in amount, but in no wise contingent on orig- 
 inal subscription to and continued holding of bonds of the Fourth 
 Liberty Loan, or Victory notes, and not limited to the life of the 
 latter) $160,000. 
 
 (4) An additional exemption for three years after July 2, 
 1923, of the interest on a principal amount of 4's and 4l^'s 
 
 $50,000. 
 Providing exemption during and until the expiration of the 
 last three years of the five-year period after the termination of 
 the war (July 2, 1921) ($20,000 more than under the 1918 law 
 and in no wise contingent on original subscription to, and con- 
 tinued holding of, and not limited to life of the Victory notes, 
 which will have matured before the three-year period begins) 
 of the interest on a principal amount of $55,000. 
 
 (5) After the above three-year period until all Liberty bonds 
 have matured an exemption of the interest on a principal amount 
 of $5,000. 
 
 Liberty Bonds Carried by Banks. The amount of interest re- 
 ceived by the bank from its customers on account of bonds car- 
 ried for them (including the amount represented by any coupons 
 retained by the bank by way of adjustment of accrued interest) 
 constitutes taxable income to the bank, and no part of such 
 interest is exempt from tax inasmuch as it is not interest on 
 obligations of the United States but is interest on money ad- 
 vanced to the customers.-" In cases where there have been a 
 great many changes in the amount of Liberty bonds of the vari- 
 ous classes, or other securities of the United States, held by a 
 bank during the year, it will be permissible to determine the 
 amount of interest derived from each class, in excess of the 
 maximum exemption applicable from the books or other records 
 of the bank. The correct amount of interest, subject to tax, 
 received or accrued, must be shown and a statement attached 
 to the return showing how the interest was determined.^'^ 
 
 Certificates of Indebtedness Issued by Director-General of Rail- 
 roads. Certificates of indebtedness issued by the director-gen- 
 eral of railroads are held to be obligations of the United States 
 
 26 0. D. 192, T. B. 8-19-331; 0. D. 16, T. B. 1-19-28. 
 
 27 0. D. 31, T. B. 1-19-43. 
 
488 FEDERAL INCOME TAX 
 
 but not such obligations as are exempt from income, war-profits, 
 and excess-profits taxesi^ 
 
 War Finance Corporation Bonds. The War Finance Corpora- 
 tion Act makes the same provision for the exemption of interest 
 upon bonds issued by the War Finance Corporation as is pro- 
 vided in the case of Second Liberty Loan Bonds ; that is, interest 
 on an amount of such bonds, the principal of which does not 
 exceed in the aggregate $5,000 owned by any individual, part- 
 nership, corporation or association is exempt.^s Under the 1918 
 Law this exemption of $5,000 was in addition to the $5,000 
 exemption allowed under the Liberty Loan Act of April 24, 1917, 
 which amount includes Liberty bonds of any issue (excluding 
 first) , war savings certificates and certificates of indebtedness.^" 
 
 Postal Savings Accounts. Interest credited to postal savings 
 accounts upon moneys deposited in postal savings banks on or 
 before September 1, 1917, was exempt from income tax, while 
 interest credited upon deposits made subsequently to September 
 1, 1917, was liable to tax under the 1918 law.^^ The Revenue 
 Act of 1921 exempts all interest on postal savings certificates 
 of deposit.32 
 
 Food Administration Grain Corporation Notes. Interest on 
 Food Administration Grain Corporation notes is not exempt 
 from income tax.''*^ 
 
 Interest from Federal Land Bank and National Farm Loan 
 Association. As the Federal Farm Loan Act^* provides that 
 every federal land bank and every national farm loan association, 
 including the capital and reserve or surplus therein and the in- 
 come derived therefrom, shall be exempt from taxation, except 
 taxes upon real estate, and that farm loan bonds, with the income 
 therefrom, shall be exempt from taxation, the income derived 
 from dividends on stock of federal land banks and national farm 
 loan associations and from interest on such farm loan bonds is 
 not subject to the income tax.^^ 
 
 Obligations of the Possessions of the United States. Interest 
 paid on the obligations of possessions of the United States is 
 
 2S 0. D. 206, T. B. 10-19-356'. 
 
 29 Act of April 5, 1918 (Public No. 121), § 16; O. 781, T. B. 1-19-116. See 
 Note 6. 
 
 30 0. D. 212, T. B. 11-19-374. 
 
 31 Reg. 45, Art. 77. 
 
 32 Revenue Act of 1921, § 213 (b) 4. 
 
 33 Telegram from treasury department dated April 13, 1919 ; I. T. S. 1921, 
 l! 1248. 
 
 34 Act of July 17, 1916, § 26. 
 
 35 Reg. 45, Art. 75. 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 489 
 
 exempt.^^ The interest from bonds issued by the people of Porto 
 Rico' is exempt.^'^ Interest on bonds and certificates of indebted- 
 ness issued by the Philippine government is exempt.^^ Bonds 
 issued by the military government of Santo Domingo in behalf 
 of and payable from the revenues of the Dominican Republic 
 while that country was under temporary military occupation by 
 the United States are not obligations of the United States or of 
 a possession of the United States.^^ 
 
 Obligations of Territories. Interest on the obligations of the 
 territories, or political subdivisions thereof, is exempt.*" 
 
 Obligations of the District of Columbia. Interest upon obliga- 
 tions of the District of Columbia is now exempt.*^ 
 
 Interest on the Obligations of States. The same principle 
 which denies to a state power to raise revenue by taxation on 
 federal property, or sources of revenue, or means of carrying 
 on its duties, forbids taxation of state revenue for federal pur- 
 poses.*2 Therefore the United States has no power under the 
 Constitution to tax either the instrumentalities or the property 
 of a state.*^ A municipal corporation is a portion of the sover- 
 eign power of a state and is not subject to taxation by Congress 
 upon its municipal revenue.** But the exemption of state agen- 
 cies does not extend to those used by the state in carrying on 
 an ordinary private business. *5 Interest on the obligations of 
 a state is, therefore, expressly exempt. The 1909 Law, however, 
 being an excise tax and not an income tax, was valid although 
 measured by income which included interest from state secu- 
 rities.*^ Interest received on certificates of indebtedness known 
 as fire relief certificates, issued in the State of Minnesota, is 
 considered interest upon the obligations of a state and not tax- 
 
 38 Revenue Act of 1921, §213 (b) 4; Revenue Act of 1918, §213 (b) 4. 
 
 37 O. D. 368, T. B. 3-20-684. 
 
 38 0. D. 34, T. B. 1-19-46; 0. D. 922, T. B. 21-21-1648. 
 
 39 O. D. 420, T. B. 13-20-807. 
 
 40 Revenue Act of 1921, § 213 (b) (4) ; Revenue Act of 1918, § 213 (b) 
 (4). Such interest was not exempt under the 1916 Law, since the law did 
 not expressly include territories in the exemption provision. (Revenue Act 
 of 1916, § 4.) 
 
 41 Such interest was not expressly included in the exemption provision of 
 the 1916 Law. Compare Revenue Act of 1918, §213 (b) 4; Revenue Act of 
 1921, § 213 (b) 4 and Revenue Act of 1916, § 4. 
 
 42 Collector v. Day, 11 Wall. 113; Dobbins v. Erie Co., 16 Pet. 444; Am- 
 brosini v. U. S., 187 U. S. 1. 
 
 43 Pollock V. Farmers' Loan and Trust Company, 157 U. S. 429, 584. 
 
 44 U. S. V. B. & 0. Railroad Company, 17 Wall. 322. 
 
 45 South Carolina v. U. S., 199 U. S. 437. 
 *6 Flint V. Stone-Tracy Co., 220 U. S. 107. 
 
490 FEDERAL INCOME TAX 
 
 able.*'^ It has been held that bonds issued by Michigan agricul- 
 tural or horticultural societies which are authorized under the 
 laws of that state, if duly organized as corporations, to issue 
 interest-bearing bonds, the payment of the principal and interest 
 of which is secured by mortgage or mortgages upon the real 
 estate of the societies, are not obligations of a state or political 
 subdivision thereof since neither the State of Michigan nor any 
 political subdivision thereof obligates itself to pay either the 
 principal or interest of these bonds.*^ 
 
 Political Subdivision of a State. A political subdivision 
 denotes any division of a state or territory made by the proper 
 authorities thereof acting within their constitutional powers for 
 the purpose of carrying out a portion of those functions of the 
 state or territory which by long usage and the inherent neces- 
 sities of government have always been regarded as public.*^ The 
 attorney-general has held that special assessment districts 
 created for a public purpose, such as the improvement of streets 
 and public highways, the provision of sewage, gas and light and 
 the reclamation, drainage, or irrigation of land are districts for 
 public use, and consequently political subdivisions of the state, 
 within the meaning of the law.^" Political subdivisions of a state 
 or territory, within the meaning of the exemption, include special 
 assessment districts so created, such as road, water, sewer, gas, 
 light, reclamation, drainage, irrigation, levee, school, harbor, 
 port improvement, and similar districts and divisions of a state 
 or territory .°i However, a district without power to exercise 
 
 47 0. D. 30, T. B. 1-19-42. 
 
 48 O. D. 983, T. B. 31-21-1751. 
 
 49 A political subdivision, according to the court in the case of Smith v. 
 Howell, 60 N. J. L. 384, is "A division of the state, with its inhabitants 
 organized for the public advantage and not in the interest of particular in- 
 dividuals or classes, the chief design of which is the exercise of governmental 
 functions, and to the electors residing within which is, to some extent, com- 
 mitted the power of local government." 
 
 50 Opinion of Atty. Gen. dated January 30, 1914. In the course of his 
 opinion the Atty. Gen. said: "* * * where the power to levy a tax is 
 given a district by the state, presumptively that district is created for a pub- 
 lic use, and is exercising a public function. * * * Nor does it make any 
 difference that the tax is measured by the beneiit conferred." But he re- 
 frained from expressing any opinion whether assessment districts might not 
 be created for a purely private purpose so as to bring them within the prin- 
 ciples laid dovra in the South Carolina Dispensary case, 199 U. S. 437, rather 
 than within those which governed U. S. v. B. & 0. Railroad Company, 17 
 Wall. 322. 
 
 51 Reg. 45, Art. 74; T. D. 1946. 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 491 
 
 any governmental function, created for the purpose of making 
 some improvement, primarily beneficialto the property located 
 in and comprising the district, is not, within the meaning of 
 these acts, a political subdivision of the state. Obligations issued 
 in payment for such improvement, although guaranteed by a 
 county, municipality, or other political subdivision of the state, 
 are not the obligations of the state or of any political subdi- 
 vision thereof; but are rather the obligations of the benefited 
 property upon which they constitute a lien. Hence, the income 
 derived from obligations which are a direct charge against or 
 lien upon benefited property is not exempt and must be re- 
 turned as income of the recipient.^^ where in some of the 
 western states irrigation districts are created by an election duly 
 called for the purpose, the county assessor assessing all property 
 benefited on the assessment rolls of the county and collecting- a 
 tax thereon in the same manner as other taxes are collected, it 
 is held that such districts are political subdivisions of a state 
 and interest on their bonds is exempt.^^ Bonds issued by a 
 municipality for public purposes in accordance with the general 
 city charter law of the state to cover deferred installments of 
 assessments against real estate for the cost of certain public 
 improvements, the bonds being a lien upon all the property ben- 
 efited to the extent of unpaid assessments and interest thereon 
 and containing recitals that they are chargeable only to the 
 particular property described therein, are held to be obliga- 
 tions of a political subdivision of a state, notwithstanding they 
 were not a general liability of the city.^* Certificates of sale 
 issued by a county or other political subdivision of a state in 
 connection with the sale of property for non-payment of taxes 
 are not obligations of a state or political subdivision thereof.^ 
 
 Interest on- a claim against a city, recovered by a judgment 
 several years after the claim accrued, is held to be interest on 
 the obligation of a political subdivision of a state and, there- 
 fore, exempt.^^ 
 
 Where a municipality issues promissory notes, it is held that 
 such promissory notes are the obligations of a political subdi- 
 vision of a state or territory.^'^ 
 
 52 Reg. 33 Rev., Art. 84. 
 
 53 O. D. 544, T. B. 24-20-1000. 
 
 54 O. D. 447, T. B. 15-20-843. 
 
 55 0. D. 327, T. B. 28-19-611; 0. D. 1114, T. B. 48-21-1944. 
 
 56 0. D. 591, T. B. 29-20-1071. 
 
 57 O. D. 817, T. B. 8-21-1462. 
 
492 FEDERAL INCOME TAX 
 
 Where a noninterest-bearing warrant is issued by a county in 
 payment for services or supplies and in order that the person 
 furnishing the services or supplies may secure from a bank the 
 face value of such warrant the county executes an additional 
 warrant to the bank for an amount representing interest on 
 the warrant, it is held that the full amount of the warrant rep- 
 resenting interest is exempt from tax inasmuch as it is interest 
 paid by the county for the use of money paid by the bank on 
 the warrant issued for services and supplies.ss 
 
 A corporation is engaged in paving work for various munici- 
 palities in a state. The statutes of that state provide that 
 municipal improvements, including pavements, shall be paid for 
 by assessments issued to the contractor. These assessments bear 
 interest from the date of acceptance of the work by the city en- 
 gineer. The contractor receives interest from this source from 
 the date of acceptance of the work to the date of delivery of the 
 evidences of indebtedness. Under an agreement with a bank 
 for advancing to it money to pay operating expenses the certifi- 
 cates of indebtedness were assigned to the bank. Accordingly, 
 the corporation did not receive the certificates of indebtedness. 
 The company did, however, receive interest which accrued from 
 the date of acceptance of the work by the city engineer to the 
 date of delivery of the certificates to the bank. It has been held 
 that the interest received by the contractor for the period be^ 
 tween the date of acceptance of the work and the date of de- 
 livery of the certificates is exempt from taxation, as the debt was 
 an obligation exempt within the meaning of the statute. The 
 contract of assignment to the bank did not take effect until de- 
 livery of the certificates. Consequently, the interest which ac- 
 crued during the interim between acceptance and delivery was 
 the property of the contractor.^^ 
 
 When a city acquires property for park purposes by con- 
 demnation proceedings and pays for it by special assessments 
 upon the districts considered to be specially benefited by the 
 proposed improvement, assessments being payable in install- 
 ments over a period of 10 years, and in order to obtain funds 
 with which immediately to compensate the owners of the prop- 
 erty condemned, the city issues "park fund certificates" in the 
 nature of 10-year bonds, payable out of the assessments col- 
 lected, such park fund certificates are obligations of the munici- 
 
 58 0. D. 870, T. B. 15-21-1561. 
 
 59 O. D. 999, T. B. 34-21-1778. 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 493 
 
 pality, a political subdivision of the state, and the interest paid 
 thereon by the city in behalf of the legally authorized assess- 
 ment districts under its control is not subject to tax.^" 
 
 Mortgages Assumed by State or Municipality. Although 
 interest on state or municipal bonds is exempt from the tax, yet 
 where a state or municipality has purchased a public utility 
 subject to a mortgage, and the mortgage retains its original 
 character, even though the state or municipality assumes the 
 mortgage indebtedness and pays the interest thereon, the mort- 
 gage does not become an obligation of the state or municipality 
 within the meaning of the law and the interest thereon is not 
 exempt.81 
 
 Interest on Bonds of Exempt Organizations. Although a cor- 
 poration may be exempt ^^ from tax on its income, yet interest 
 on the bonds of such an organization is taxable income to the 
 bondholder.63 
 
 Reporting Exempt Income. Income from United States obli- 
 gations issued prior to September 1, 1917, interest on bonds of 
 states, territories (and political subdivisions thereof), posses- 
 sions of the United States and the District of Columbia, need not 
 be included in gross incoriie, but the amount of such securities 
 owned by the taxpayer and the income therefrom was, under the 
 1918 Law, required to be stated in his return.^* This require- 
 ment is not continued in the Revenue Act of 1921. 
 
 Accrued Interest on Obligations at Time of Purchase. Where 
 a purchaser pays the price of the security purchased and an ad- 
 ditional sum representing accrued interest, the amount of in- 
 terest received on the next interest date should not be reported 
 in full. The amount of accrued interest at the time of purchase 
 represents the return of capital to the purchaser and he should 
 deduct such amount from the interest received, and report the 
 remainder only. The seller of the security should account in his 
 return for the accrued interest received at the time of sale, since 
 to him that amount is income.^^ The rule stated above does not 
 
 60 O. D. 491, T. B. 19-20-911. 
 
 61 Reg-. 45, Art. 74; T. D. 2090. 
 
 62 Revenue Act of 1921, § 231; Revenue Act of 1918, § 231. 
 
 63 Letter from treasury department dated July 30, 1914; I. T. S. 1918, 
 II 1319. 
 
 64 Revenue Act of 1918, § 213 (b) 4. See Chapter 42. 
 
 65 Reg. 33 Rev., Art. 4 ; Letter from treasury department dated February 
 5, 1915 ; I. T. S. 1918, Tf 360. In a later ruling the treasury department de- 
 clined to permit the taxpayer in such a case to report all of the interest 
 received as income and to deduct the amount of accrued interest paid at the 
 time of purchase as an expense or as interest paid by the purchaser. (Letter 
 dated March 8, 1915, I. T. S. 1917, H 237.) 
 
494 FEDERAL INCOME TAX 
 
 apply to coupons detached from bonds and negotiated, which 
 themselves, after being detached, become noninterest-bearing 
 negotiable securities. If such coupons are detached and sold, 
 and resold, they lose their character as interest and become capi- 
 tal. Dealings in them are to be treated as dealings in other 
 capital assets, and profit and loss computed accordingly. The 
 burden is on the taxpayer to show what part of moneys paid or 
 received by him on account of a transaction involving the sale 
 or purchase between interest dates of interest-bearing obliga- 
 tions should be allocated to capital investment and what part 
 to accrued interest. In the absence of such showing, the con- 
 struction most favorable to the government should be adopted.^" 
 In the case of treasury certificates of indebtedness which are 
 offered by the government at par and accrued interest and not 
 at a discount, only the coupon interest can be considered exempt 
 from normal tax, and from surtax to the extent provided by the 
 act approved September 24, 1917.''^ 
 
 Interest on Bank Deposits. Interest on bank deposits or on 
 certificates of deposit, credited to the account of the depositor by 
 the bank, is income for the year in which the credit is made. 
 This is true even though the bank nominally has a rule, seldom or 
 never enforced, that it may require a certain number of days' 
 notice in advance of cashing depositors' checks.^^ 
 
 Interest Received and Paid by Brokers. Where the customers 
 of a brokerage house buy securities, paying only a part of the 
 purchase price and paying interest on the balance, and the bro- 
 kerage house buys such securities from others, paying only a 
 part of the purchase price and paying interest on the balance, 
 the brokerage house must include in its return as gross income 
 the interest received from the customers and may deduct as 
 interest the amount of interest it pays on such purchases.^^ 
 
 Bond Interest Paid in Scrip. Where a corporation which de- 
 faulted in the payment of its bond interest was reorganized, 
 
 60 Sol. Op. 46, T. B. 37-20-1191. 
 
 67 O. D. 729, T. B. 46-20-1303. 
 
 68 Reg. 33, Art. 67 ; Letter from treasury department dated February 18, 
 1915 ; I. T. S. 1919, f 855. Reg. 45, Art. 54. See Chapter 4, as to the case 
 of such interest accruing to nonresident aliens. 
 
 69 Altheimer Rawlings Investment Co. v. Allen, 248 Fed. 688, petition for 
 writ of certiorari to United States Supreme Court denied November 11, 
 1918; see T. D. 2686 and T. D. 2441. This case was decided under the 1909 
 Law, but the principle seems to apply under the language of the present law. 
 Interest would be deducted in full if paid on collateral the subject of sale .in 
 the ordinary course of business. The amount of such interest deductible in 
 the case of corporations was limited under the 1916 Law. See appendix to 
 the 1920 edition of this book. 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 495 
 
 and the new corporation issued scrip, payable at certain fixed 
 dates, and bearing interest at 6%, in exchange for the coupons 
 representing the defaulted interest, such scrip is held to be 
 the equivalent of cash and taxable as interest in the hands of 
 the recipient.™ 
 
 Interest on Bonds Purchased at a Premium. Interest received 
 or accrued on bonds purchased at a premium, according to the 
 method employed in keeping books, represents income for the 
 year in which received or accrued at the rate carried by the bonds 
 and not at the rate which would be realized after amortizing 
 the premium.'^i 
 
 Interest Accruing Prior to March 1, 1913. Interest due prior 
 to March 1, 1913, could have been reduced to possession on de- 
 mand prior to the incidence of the income tax. It is, therefore, 
 capital. Interest accruing on or after that date is taxable in- 
 come. Where an interest-bearing claim held on February 28, 
 1913, is paid in whole or in part after that date, any gain de- 
 rived from the payment of the claim is taxable. The amount 
 of such gain is the excess of the proceeds of the claim (both 
 principal and interest) exclusive of any interest accrued since 
 February 28, 1913, already returned as income, over the cost 
 thereof (both principal and interest then accrued). However, 
 the gain which is taxable where the fair market value of the 
 claim as of March 1, 1913, is greater than the cost thereof, is 
 the excess of the amount received over such value. No gain re- 
 sults where the amount received from the claim is more than 
 the cost thereof but less than its fair market value as of March 
 1, 1913.'^2 Where a farm was sold in 1910 under a contract calling 
 for annual payments of principal and interest for 10 years, a 
 deed being given in 1919, and the unpaid purchase price being 
 secured by notes, it has been held that payments of principal 
 received subsequent to 1910 are not subject to tax, but that for 
 the years in which income tax laws have been in force, the vendor 
 should have included as income any interest received which 
 
 70 O. D. 563, T. B. 26-20-1032. 
 
 71 0. D. 622, T. B. 32-20-1117. 
 
 72 Reg. 45, Art. 87, as amended by T. D. 3206, T. B. 33-21-1767. Even 
 where interest has been in default since a time prior to March 1, 1913, and 
 funds to pay the same have accrued since that date, it has been held that the 
 interest represents income accrued to the owners of the bonds prior to the 
 incident of the tax, and hence does not constitute taxable income when re- 
 ceived thereafter. (Letter from Collector at Cincinnati dated March 16, 
 1915, embodying decision of the treasury department; I. T. S. 1919, T[ 1010.) 
 The same principle was applied by the court under the 1909 Law. (North- 
 ern Pacific Railway Co. v. Lynch, U. S. Dist. Ct., Dist. of Minnesota, T. D. 
 3048, T. B. 33-20-1122. 
 
496 FEDERAL INCOME TAX 
 
 accrued subsequent to February 28, 1913, on deferred payments. 
 Likewise he should report the interest received on the notes 
 given for the balance of the purchase price in 1919J3 
 
 Discount. The excess of the face value of a so-called bank 
 acceptance as collected at its maturity, over the amount paid 
 therefor by a person collecting the acceptance at maturity, is 
 not interest, but is taxable income when the face value of the 
 acceptance is collected^* Profit derived from noninterest- 
 bearing state and municipal securities purchased at a discount 
 and held until maturity is not taxable where it clearly appears 
 that the return from the investment in the hands of the tax- 
 payer is due solely to the compensation received from the state 
 or municipality in lieu of interest for the use of the taxpayer's 
 money. In no case may such exemption exceed the total discount 
 at which the securities were originally sold by the state or mu- 
 nicipality.''^ The realized discount on a sale of municipal secu- 
 rities prior to maturity can not be treated as compensation "in 
 lieu of interest" paid by a municipality, but is profit subject to 
 tax. Only the holder of the note at maturity is entitled to treat 
 the realized discount as income exempt from tax.'^^ Inasmuch 
 as no person other than the municipality can pay the interest 
 borne by the obligations of the municipality (whether such in- 
 terest is paid at a specified rate or in the form of realized dis- 
 count) any person selling municipal bonds for an amount in 
 excess of the cost of the bonds to him realizes a taxable profit to 
 the extent of such excess amount even though the bonds were 
 issued at a discount. If, therefore, a bank sells at $98 municipal 
 bonds issued at $94.50 and purchased by it at $96.10 it will de- 
 rive a taxable profit of $1.90 on each bond sold. If, however, 
 it holds the bonds to maturity and receives $100, the difference 
 between the purchase price of the bonds and the amount received 
 or $3.90 will represent exempt income to it.'^'^ 
 
 Where a municipality borrows money from a bank with which 
 to pay its bills covering expenses, the promissory notes given 
 for the money borrowed being issued at a discount, and it being 
 also provided that if the notes are not paid when due they will 
 also draw interest from maturity until paid, it has been held 
 
 73 O. D. 646, T. B. 35-20-1165. The English courts have followed the same 
 rule in dealing with such contracts; see Hudson's Bay Co. v. Thew, Gt. 
 Br. Tax Cases, Vol. VII, Pt. II, p. 206. 
 
 74 0. 1024, T. B. 16-20-865. 
 
 75 0. D. 647, T. B. 35-20-1166, reversing 0. D. 238, T. B. 13-20-416; O. D. 
 774, T. B. 2-21-1396. 
 
 76 O. D. 774, T. B. 3-21-1396. 
 
 77 O. D. 762, T. B. 1-21-1369. 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 497 
 
 that both the discount and the interest on the principal of the 
 note after maturity are exempt from income and profits taxes 
 in the hatids of the bank as interest upon the obHgations of a 
 political subdivision of a state.'^s "vvhere a noninterest-bearing 
 warrant is issued by a county in payment for services or sup- 
 plies for an amount which represents the purchase price of the 
 services or supplies plus interest on such amount until the date 
 of maturity of the warrant and the person to whom such war- 
 rant is issued discounts it at a bank in order to secure money 
 thereon, the matter of the discount is a transaction wholly be- 
 tween the party to whom the warrant is issued and the bank, and 
 the discount is not free from tax. This ruling applies whether 
 negotiations for discounting such warrant are made by the 
 county, or by the owner of the warrant.™ 
 
 Rent. Rent, like all other income, may be received in cash, in 
 kind, or in the equivalent of cash. The questions arising under 
 the income tax law with regard to rent usually relate to the tax- 
 able period for which rent income is to be reported or to situa- 
 tions involving the payment of rent in some form other than 
 cash. The following paragraphs deal with the latter kind of 
 question : 
 
 Value of Improvements Made by Tenant. Where, under 
 the terms of a lease a tenant agrees to erect a building or to 
 expend during the period of the lease a certain fixed sum in 
 making improvements upon the freehold of the lessor, the build- 
 ing or permanent improvement becomes a part of the realty 
 unless otherwise agreed upon between the contracting parties. 
 The treasury department has modified its previous ruling that 
 improvements made by a tenant are income to the lessor at the 
 expiration or termination of the lease and has now ruled that 
 when buildings are erected or improvements are made by a 
 lessee in pursuance of an agreement with the lessor, and such 
 buildings or improvements are not subject to removal by the 
 lessee, the lessor receives income at the time when such buildings 
 or improvements are completed, to the extent of the fair market 
 value of such buildings or improvements subject to the lease. 
 This amount would ordinarily be the difference between the 
 value of the land free from the lease without such improvements 
 and the value of the land subject to the lease with such improve- 
 ments. If, for any other reason than a bona fide purchase from 
 the lessee by the lessor, the lease is terminated, so that the lessor 
 comes into possession and control of the property prior to the 
 
 78 0. D. 856, T. B. 13-21-1530. 
 
 79 0. D. 870, T. B. 15-21-1561. 
 
498 FEDERAL INCOME TAX 
 
 time originally fixed for the termination of the lease, the lessor 
 receives additional income for the year in which the lease is so 
 terminated to the extent that the value of such buildings or im- 
 provements when he became entitled to such possession exceeds 
 the fair market price or value thereof to him as determined 
 when the same completed became part of the realty. No appre- 
 ciation in value due to causes other than the premature termina- 
 tion of the lease shall be included. Conversely, if the buildings 
 or improvements are destroyed prior to the expiration of the 
 lease the lessor is entitled to deduct as a loss of the year when 
 such destruction takes place the fair market price or value of 
 such buildings or improvements subject to the lease as deter- 
 mined when the same completed became a part of the realty, 
 less any salvage value subject to the lease, to the extent that 
 such loss was not compensated by insurance. If the buildings 
 or improvements destroyed were acquired prior to March 1, 
 1913, the deduction will be based on the cost or the value subject 
 to the lease, as of that date, whichever is lower, less any salvage 
 value subject to the lease, to the extent that such loss was not 
 compensated by insurance.^" The following example has been 
 given by the treasury department to illustrate the proper con- 
 struction of the above ruling : 
 
 A, in 1915, leases certain land to B for 20 years. B agrees, 
 in part consideration for the lease, to erect on the leased ground 
 a building, specifications agreed upon, of an estimated life of 
 25 years and to cost $50,000, which building is not to be subject 
 to removal by B. The building is completed in 1920. 
 
 A realizes income in 1920, the year in which title to the build- 
 ing passes. The measure of the income is the present value to 
 A of the building, of an estimated life of 25 years and cost of 
 $50,000, the use and enjoyment of which is postponed for 15 
 years. The depreciated value of the building at the termination 
 of the period of the lease will be approximately $20,000 — that is, 
 cost less depreciation sustained. The income of A, then, is the 
 discounted value of $20,000 receivable at the end of 15 years. 
 If market value reflects intrinsic value, this amount should equal 
 the difference between the value of the land free from the lease 
 without the buildings and the value of the land subject to the 
 lease with the building. However, any other evidence available 
 should be considered in determining this present worth to the 
 
 80 Reg. 45, Art. 48, as amended by T. D. 3206, T. B. 33-21-1767. See also 
 Cryan v. Wardell, 263 Fed. 248; Miller v. Gearin, 258 Fed. 225. "A ground 
 rent" under a Virginia lease, should be returned as rent (O. D. 1089, T. B. 
 45-21-1905) . 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 499 
 
 taxpayer of the legal title to the encumbered building. Since 
 A has included in income only the depreciated value of the build- 
 ing, he is entitled to a depreciation deduction with respect to 
 such building only for the years after the termination of the 
 period of the lease when A has come into possession. This 
 depreciation deduction to which A is entitled for 1935 and sub- 
 sequent years should be computed on a basis of the estimated 
 remaining life of the building and a "cost" value equal to the 
 market value placed on the encumbered building by A in the 
 year of its erection, i. e., the annual depreciation deduction for 
 1935 and subsequent years will be the quotient obtained by 
 dividing (a) the value of the improvements to A as determined 
 by him when the same completed became part of the realty, by 
 (b) the number of years in the estimated remaining life of the 
 improvements from the termination of the lease. 
 
 In any case in which the term of the lease is greater than the 
 estimated life of the improvement no income should be ac- 
 counted for by the lessor at the time of the passage of title. 
 Also if the improvements will have no value at the termination 
 of the lease, as is often the case in mining leases, no income is 
 realized by the lessor.^i 
 
 Payments by Tenant on Behalf of Landlord. In general, 
 sums paid by a tenant for the use of property, although to an- 
 other than the landlord, are properly to be regarded as rent and 
 constitute income of the landlord.s^ Where under the terms of 
 a lease a tenant pays or incurs liability for taxes, repairs or 
 interest for and on behalf of the landlord, such payments con- 
 stitute income to the landlord. The theory covering these trans- 
 actions is that the tenant is acting merely as agent for the land- 
 lord in making the payments. The expenses are deductible by 
 the landlord, and the amounts used to defray such expenses must 
 be reported by the landlord as his income.^^ Such payments 
 may be deducted by the tenant as rent in the year in which they 
 are paid.^ 
 
 Receipt of Rent in Kind. Where rent is received in the 
 form of produce, as for instance, a share of the crops of a farm, 
 and such produce or crops have no definite market value, the 
 amount realized on the sale of such share must be included as in- 
 come in the year in which the share is disposed of or reduced to 
 
 81 M. 2714, T. B. 8-21-1474. 
 
 82 Reg. 45, Art. 48. 
 
 83 Reg. 33 Rev., Art. 4; T. D. 3062, T. B. 37-20-1198, amending Reg. 45, 
 Arts. 48, 109 and 164. 
 
 84 Reg. 33 Rev., Art. 8. 
 
500 FEDERAL INCOME TAX 
 
 money or its equivalent. Where board or lodging is given as the 
 equivalent of rent, the value of such board or lodging is required 
 to be included. 
 
 Constructive Receipt of Rent. In a case decided under 
 the 1909 Law, four railroad companies formed a corporation for 
 the purpose of securing for themselves terminal services. All 
 the stock of the terminal company was held by the four railroad 
 companies in equal parts and all its operating expenses were 
 paid by the railroad companies pro rata. In order to finance 
 the terminal company, a large sum of money was necessary and 
 the railroad companies agreed to pay the annual interest and 
 sinking fund requirements of a loan from a trust company to 
 the terminal company in equal parts, the loan being secured by 
 a mortgage on the property of the terminal company. The 
 property was to become the unencumbered property of the 
 terminal company on final payment of the mortgage indebted- 
 ness ; the payments by the railroad companies could not be said 
 to be voluntary, but were in accordance with certain formal 
 agreements with both the terminal company and the trust com- 
 pany. The court held that the amount of interest paid by the 
 railroad companies direct to the trust company was income to 
 the terminal company. The railroad companies made use of the 
 facilities and services of the terminal company in two ways: 
 First, by the use of its property ; and second, through the services 
 of its employees. The second was paid for by the pro rata 
 contribution to operating expenses. The consideration for the 
 use of the property was the payment of the interest into the 
 sinking fund. Such payments were in lieu of compensation for 
 the enjoyment of the property used and were in the nature of 
 rent received by the terminal company and to be accounted for 
 in its returns as such.^^ 
 
 In another case, a corporation leased all of its property to 
 another corporation for a term of years in consideration of ap 
 annual rental, payments to be made semi-annually in each year 
 during the term of the lease. The lessee company was the owner 
 of a large part of the capital stock of the lessor company and 
 it was the practice of the former company to pay the annual 
 rental, not directly to the lessor company, but to remit to the 
 latter company's stockholders on the days when the rental was 
 due their proportion of such rental based on the amount of 
 each stockholder's stockholding in the lessor corporation. Had 
 the lessee corporation paid the entire rental to the lessor corpo- 
 
 85 Houston Belt & Terminal Co. v. U. S., 250 Fed. 1. 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 501 
 
 ration, it would have received back as dividends the difference 
 between the total rental and the amount remitted to the other 
 stockholders of the lessor corporation. The treasury department 
 held that, in effect, the lessee corporation paid out the entire 
 rental each year and as a stockholder had returned to it a portion 
 of such amount as a dividend on its holdings of stock in the 
 lessor corporation, and the mere fact that it did not actually 
 pay to the lessor corporation the full amount of such rental 
 and then have formally paid to it by the latter company a 
 dividend did not change the substance of the transaction. The 
 lessor corporation was in constructive receipt of the entire 
 rental, notwithstanding the fact that the form of receiving it 
 and paying it out again as dividends was not gone through.^^ 
 
 Royalties. Amounts received as royalties are income in the 
 taxable year of receipt, actual or constructive, or in the taxable 
 year in which they accrue, accordingly as the taxpayer reports 
 his income on the basis of receipts or accruals. Royalties fall 
 under the broad expression "income derived frqm sales, or deal- 
 ings in property, whether real or personal, growing out of the 
 ownership or use of or interest in such property; also gains or 
 profits and income derived from any source whatever." In 
 the provisions of the Revenue Act of 1921 imposing the tax on 
 nonresident aliens, "royalties from property located in the 
 United States" are expressly included in the gross income of 
 such taxpayers.s^ 
 
 ROYALTIES FROM MINES. It has been contended that royalties 
 received under leases of oil, gas, and solid minerals are in fact 
 not income but payments of installments on the purchase price 
 of the natural deposit. The nature and effect of such leases has 
 been the subject of some difference of opinion in the courts. It 
 has been held that the leases are leases in name only ; that they 
 are in fact conveyances of the ore body or oil and gas in place 
 as a part of the realty ; that the so-called royalties merely repre- 
 
 86 A. R. E. 589, T. B. 30-21-1747. See also Renselaer & Saratoga R. R. Co. 
 V. Irwin, 249 Fed. 726, writ of certiorari denied, 246 U. S. 671; Northern 
 Co. V. Lowe, 250 Fed. 856; Anderson v. Morris & Essex R. R. Co., 216 Fed. 
 83. 
 
 8T Revenue Act of 1921, § 217 (a) 4. Revenue Act of 1921, § 213 (a). It 
 has been held that royalties received by a corporation in accordance with a 
 contract by which it has assigned the patent rights to manufacture machines, 
 etc., are income and should be so accounted for (Reg. 33 Rev., Art. 113; letter 
 from treasury department dated January 24, 1916; I. T. S. 1918, H 1262) 
 and that royalties paid to a proprietor by those who are allowed to develop 
 or use property or operate under some right belonging to such proprietor are 
 also to be accounted for as income. (Reg. 33 Rev., Art. 4.) 
 
502 FEDERAL INCOME TAX 
 
 sent payments for so much land and are in no just sense income, 
 but mere conversions of the capital.ss On the other hand, it has 
 been held that leases of solid mineral rights do not constitute a 
 sale of any part of the land or a sale of ore in place, and that the 
 royalties payable constitute the rents and profits of the land.s" 
 
 88 See Hook v. Garfield Coal Co., 112 la. 210, 83 N. W. 963; Wilson v. 
 Youst, 43 W. Va. 826, 28 S. E. 781; Manning v. Frazier, 96 111. 279; Spooner 
 V. Phillips, 62 Conn. 62, 24 Atl. 524; Wilcox v. Middlesex County, 103 Mass. 
 544 ; Plummer v. Hillsdale Coal etc. Co., 163 Pa. 483, 28 Atl. 853 ; Barnsdall 
 V. Bradford Gas Co., 225 Pa. 338, 74 Atl. 207. 
 
 89T. D. 2152; Von Baumbach v. Sargent Land Co., 242 U. S. 503; U. S. 
 V. Biwabik Mining Co., 247 U. S. 116; Stratton's Independence v. Howbert, 
 231 U. S. 399, 34 Sup. Ct. 136; Chemung Iron Co. v. Lynch, 269 Fed. 368; 
 State V. Evans, 99 Minn. 220, 108 N. W. 958; Boeing v. Owsley, 122 Minn. 
 190, 142 N. W. 129; State v. Royal Mineral Association, 132 Minn. 232, 156 
 N. W. 128; Reg. v. Westbrook, 10 Q. B. 178, 205, 22 Eng. Rul. Cas. 623. For 
 a thorough discussion of the first three cases cited above see the discussion 
 of the subject of depletion by lessees under prior laws in Chapter 27. This 
 discussion will throw light upon the subject of royalties from mines. The 
 leases involved In the Sargent case were leases of iron ore lands and they 
 contained substantially the following provisions: (1) that the owners leased 
 to the lessees exclusively all the lands described for the purpose of explor- 
 ing for, mining, and removing the ore which might be found therein for the 
 period of fifty years; (2) the lessees were given the exclusive right to oc- 
 cupy and control the leased premises and to erect all necessary buildings, 
 etc., thereon, (3) right was reserved to the lessors to enter for the purpose 
 of ascertaining the amount of ore mined and removed and of making obser- 
 vations, etc.; (4) the lessees agreed to pay in most cases a certain price 
 per ton for all ore mined and removed; (5) the lessees agreed to mine and 
 ship a specified quantity of ore each year in default of which they agreed to 
 pay the lessors for a minimum amount; (6) the lessees agreed to pay taxes 
 and to keep the property free from encumbrances; (7) the lessors reserved 
 the right to terminate the lease upon default of the lessees; (8) the lessees 
 had the right to terminate the leases upon sixty days notice. The Supreme 
 Court held that moneys received under these leases did not represent, In 
 whole or In part, conversion of the investment of the lessors from ore Into 
 money, but on the contrary they represented the rents and profits of the land 
 to be accounted for as income by the recipient lessors. In the Biwabik case 
 the leases Involved contained substantially similar provisions and the lands 
 leased contained deposits of iron ore. The court expressly stated in this case 
 that its findings in the Sargent case left "little room to suppose that this 
 court made its decision concerning the rights of the lessor Influenced by 
 the fact that the land Itself was the chief thing, and the ownership of it 
 after the exhaustion of the minerals one of the controlling reasons In reach- 
 ing the conclusion announced in that case." The court repeated its decision 
 in the Sargent case that the lessee was in no legal sense the purchaser of 
 ore In place. Owing to the migratory, fugitive, and volatile character of oil 
 and gas the rights and ownership therein are to be determined according to 
 special rules and not according to the rules which prevail in the case of ore. 
 coal and other solid minerals. (Ohio Oil Co. v. Indiana, 177 U. S. 190; 
 
INCOME FROM INTEREST, RENT AND ROYALTIES 503 
 
 It has been held under the 1913 and 1916 Laws that a Pennsyl- 
 vania mining lease containing the provisions indicated in the 
 footnote below does not constitute a sale of the coal in place 
 and that royalties received thereunder are income to the lessors.^" 
 Income from oil royalties must be returned in the taxable year 
 received, even though the title to the producing land is in litiga- 
 tion.81 When land purchased in 1914 and having no mineral 
 rights value at the time of purchase, is subsequently leased on 
 a royalty basis for oil and gas development, amounts received 
 from the sale of interests in such royalty have been held to be 
 income for the year of receipt, subject to proper adjustment 
 on account of depletion sustained.92 
 
 ROYALTIES FROM PATENTS AND COPYRIGHTS. Royalties on 
 
 patents are income.^^ Taxpayers receiving royalties from pat- 
 ents, copyrights, or other similar forms of property, may deduct 
 from each payment a proportionate part of the cost thereof as 
 representing a return of capital. This is more fully discussed 
 in a subsequent chapter .»* 
 
 Brown v. Spilman, 155 U. S. 665.) It may be that royalties upon oil and 
 gas leases are for this reason distinguishable from royalties upon solid 
 mineral leases, but the point has never been expressly determined with 
 reference to the income tax. 
 
 90 S. 1365, T. B. 18-20-900. The provisions of the lease under consideration 
 were as follows: (1) To demise, lease and let to the lessee all coal in, upon 
 and under certain lands owned by the lessor. (2) The lessee was given the 
 right to mine, remove, and dispose of the coal. (3) The lessor retained the 
 privilege at any time after the expiration of the first 10 years of the lease 
 to sell the leased property upon giving 6 months' notice to the lessee and 
 affording the lessee an opportunity to purchase the property. 
 (4) The lease was not to be assigned by the lessee withoiit the consent of 
 the lessor. (5) The lessor retained absolutely the right to sell the property 
 subject to the terms of lease. Upon termination of this lease, a 
 new lease agreement was made containing, among other provisions, the fol- 
 lowing: (1) Term of lease, 10 years. (2) Lessee to mine and remove as 
 much coal as possible by reasonably diligent mining operations. (3) The 
 lessee agreed not to assign the lease without consent of the lessor, but had 
 the right to sublet portions of the surface without consent of the lessor. 
 (4) Upon failure of the lessee to comply with all conditions of the agree- 
 ment, the lessor had the right to declare a forfeiture of the unexpired 
 portion of the lease. 
 
 91 0. D. 825, T. B. 9-21-1477. If any part of the royalty income is ordered 
 by the court to be paid over to another, any tax previously paid thereon will 
 be credited or refunded upon presentation of the proper claim. This ruling 
 is criticised in Chapter 33. See also 0. D. 971, T. B. 28-21-1723. 
 
 92 O. D. 644, T. B. 35-20-1163. 
 
 93 Reg. 45, Art. 48. 
 
 94 See Chapter 26. * 
 
CHAPTER 19 
 INCOME FROM DIVIDENDS 
 
 The law expressly states that the gross income of a taxpayer 
 shall include gains, profits and income derived from dividends.^ 
 Important amendments made by the Revenue Act of 1921 upon 
 the subject of dividends are (1) the recognition that stock divi- 
 dends are not constitutionally taxable, (2) the statement con- 
 clusively of certain provisions formerly stated as presumptions, 
 and (3) the statutory enactment of the rule that a taxable cor- 
 porate distribution shall be taxable as of the date when the 
 cash or other property distributed is made unqualifiedly sub- 
 ject to the demand of the distributee, and (4) the two amend- 
 ments indicated in the next paragraph. A change is made 
 necessary in the definition of dividends by the abolition of per- 
 sonal service corporations as of December 31, 1921, and the 
 presumption contained in the 1918 Law as to dividends dis- 
 tributed during the first 60 days of a taxable year is made in- 
 applicable after December 31, 1921, as of which date the excess- 
 profits tax, to which this presumption related, is repealed. 
 
 Definitions. A notable change made by the 1921 Law is the 
 provision permitting accretions in the value of property 
 accrued prior to March 1, 1918, as well as earnings and profits 
 accumulated prior to that date, to be distributed free from 
 tax after earnings and profits accumulated since February 28, 
 1913, have been distributed.^ In accordance with the decision 
 of the Supreme Court^ stock dividends are expressely stated not 
 to be taxable dividends.* As defined in the Revenue Act of 
 1921, the term "dividend" (with one exception where it is used 
 in connection with dividends paid on policies by insurance com- 
 panies) means any distribution made by a corporation to its 
 shareholders or members, whether in cash or in other property, 
 out of its earnings or profits accumulated since February 28, 
 1913, except a distribution made by a personal service corpora- 
 
 1 Revenue Act of 1921, §§213 (a) and 233; Revenue Act of 1918, §§213 
 (a) and 233. The Revenue Act of 1916 provided that subject only to such 
 exemptions and deductions as were thereinafter allowed, the net income 
 of a taxpayer should include gains, profits and income derived from divi- 
 dends (Revenue Act of 1916, § 2 (a) ). 
 
 2 Revenue Act of 1921, §201 (b). 
 
 3 Eisner v. Macomber, 252 U. S. 189. 
 
 4 Revenue Act of 1921, §201 (d). 
 
 504 
 
INCOME FROM DIVIDENDS 505 
 
 tion out of earnings or profits accumulated since December 31, 
 1917, and prior to January 1, 1922.^ The term "dividend", 
 as used in the Revenue Act of 1918 (with the same exception 
 noted above) was defined therein to mean (1) any distribution 
 made by a corporation, other than a personal service corpora- 
 tion, to its shareholders or members, whether in cash or in 
 other property or in stock of the corporation, out of its earnings 
 or profits accumulated since February 28, 1913, or (2) any 
 such distribution made by a personal-service corporation out of 
 its earnings or profits accumulated since February 28, 1913, and 
 prior to January 1, 1918." Under the 1918 Law amounts dis- 
 tributed in the liquidation of a corporation were expressly re- 
 quired to be treated as payments in exchange for stock or 
 shares, and any gain or profits realized thereby were taxed to 
 the distributee as other gains or profits^ 
 
 It is to be noted that under these definitions any distribution 
 in the ordinary course of business, though extraordinary in 
 amount, which is made by a corporation of earnings or profits 
 accumulated since February 28, 1913, is a dividend; it need not 
 necessarily be called a dividend. There need be no formal 
 declaration.^ On the other hand, if the distribution is not out 
 of earnings or pi-ofits accumulated since February 28, 1913 
 (and prior to January 1, 1918, or subsequent to December 31, 
 1921, in the case of personal service corporations), it does not 
 become a dividend within the meaning of the law by reason of 
 the fact that it is called a dividend by the corporation making 
 the distribution .9 
 
 Dividends from Associations. Since associations, joint- 
 stock companies and insurance companies (whether incorpo- 
 rated or not) are treated as corporations and limited partner- 
 ships may be so treated, i° the net earnings of such organiza- 
 
 5 Revenue Act Of 1918, § 201 (a) . After January 1, 1922, personal service 
 corporations are taxed as other corporations. 
 
 6 Revenue Act of 1918, § 201 (a) ; Reg. 45, Arts. 1541 and 1543. It will 
 be noted that this definition, as compared with the 1916 Law, aside from 
 its provisions for personal service corporation distributions omitted the 
 words, "or ordered to be made"; substituted the word "accumulated" for 
 "accrued"; and also expressly included distributions made "in other prop- 
 erty." See Revenue Act of 1916, § 31 (a) , Reg. 33 Rev. Art. 106. 
 
 7 Revenue Act of 1918, § 201 (c) ; Reg. 45, Art. 1548. 
 
 8 See O. 932, T. B. 25-19-579, 
 
 9 Reg. 45, Art. 1543. 
 
 10 The definition of "corporations" includes "associations, joint-stock com- 
 panies, and insurance companies" (Revenue Act of 1921, §2; Revenue Act 
 of 1918, § 1; see also T. D. 2152; T. D. 2137). 
 
506 FEDERAL INCOME TAX 
 
 tions when distributed should be considered dividends.i^ The 
 recipient of profits or associations or limited partnerships 
 should, therefore, ascertain whether the asociation or partner- 
 ship is paying the tax as a corporation and in such event should 
 treat any part of the net profits of the association received by 
 him as dividends. 
 
 Excessive Compensation. Payments of compensation to the 
 stockholding officers or employees of a corporation, to the extent 
 that such payments' are in excess of a reasonable return for 
 services rendered, may be regarded as dividends, as indicated 
 in another chapter.^^ 
 
 Dividends in the Form of Royalties. A royalty paid by 
 a corporation to one of its oflScers, who is also majority stock- 
 holder, for the use of a patent upon an article manufactured 
 and sold by the corporation, if in excess of a reasonable 
 amount, taking into consideration all the facts in the particu- 
 lar case will represent a distribution of profits and will be 
 taxable to the recipient as dividends.^^ 
 
 Compromise of Preferred Dividends. Preferred stock- 
 holders whose dividends are in arrears have no enforceable 
 claim against the corporation unless and until a dividend be de- 
 clared by the directors and consequently are not "creditors". 
 A payment or settlement pursuant to the compromise by corpo- 
 rate directors of accumulated dividends on preferred stock, the 
 payment or settlement consisting partly of cash, partly of 
 shares of preferred stock, and partly shares of common stock, 
 has been held to be a dividend within the meaning of the Mass- 
 achusetts Income Tax Law, since the money and stock are paid 
 from or based upon earnings.^* 
 
 Taxes Paid for Shareholders to Be Considered as Divi- 
 dends. Where a corporation, such as a bank, pays taxes 
 assessed upon the respective interests of its shareholders, under 
 laws which require the corporation to pay such taxes on behalf 
 of its shareholders, the pro rata amount so paid on his shares 
 was required under the 1918 Law to be reported by the stock- 
 holder as a dividend. The same amount might also be deducted 
 as a tax of the stockholder paid for him by the corporation 
 as his agent. The net result of reporting such amount as a 
 dividend, and claiming the same amount as a deduction, was 
 
 11 See Chapter 8. 
 
 12 See Chapter 22. See also Chapter 15. 
 
 13 O. D. 440, T. B. 14-20-835. 
 
 1* Wilder v. Trefry (Mass.), 125 N. E. 689. See, however, p. 531 as to 
 dividends paid in stock. 
 
INCOME FROM .DIVIDENDS 507 
 
 that the amount of tax is offset against the stockholder's income 
 from other sources in assessing the normal tax.^^ Under the 
 present law such taxes are deductible by the corporation and the 
 stockholder may not deduct them.^^ 
 
 Distributions Which Are Not Dividends. A distribution by a 
 corporation out of earnings or profits accumulated, or increase 
 in value of property accrued, prior to March 1, 1913, or out of 
 any assets except earnings or profits accumulated since Feb- 
 ruary 28, 1913, is not a dividend within the meaning of the 
 statute. A distribution by a personal service corporation out 
 of earnings or profits accumulated since December 31, 1917, 
 and prior to January 1, 1922, is not a dividend. A distribution 
 out of earnings or profits accumulated, or increase in the value 
 of property accrued, before March 1, 1913, is free from tax as 
 a dividend ; out of assets other than earnings or profits accumu- 
 lated since February 28, 1913, may or may not be free from tax, 
 according as each stockholder receives more or less than he paid 
 for his stock. However, if such stock was acquired prior to 
 March 1, 1913, and the fair market value as of such date v\ras 
 greater than the cost thereof and less than the sum received 
 in distribution, the amount which is taxable is the excess over 
 such market value as of March 1, 1913, of the sum received in 
 the distribution, but no gain is recognized if the amount re- 
 ceived in distribution is more than the cost, but less than the 
 fair market value of the stock on March 1, 1913. In the case 
 of a personal service corporation a distribution out of earnings 
 or profits accumulated since December 31, 1917, and prior to 
 January 1, 1922, is taxed to the stockholders as though they 
 were partners." Where a corporation offers its employees the 
 opportunity to purchase shares of its stock, and the title to the 
 stock remains in the corporation until it is fully paid for, it 
 is held that the so-called dividends accredited to the account 
 of the employees purchasing the stock as part payment for the 
 stock are not in fact dividends, as dividends cannot legally be 
 declared on unissued or treasury stock. The amounts so 
 credited, which are measured by the dividends declared on the 
 outstanding stock, constitute additional compensation to the em- 
 ployees and are taxable as such.^^ 
 
 15 See Chapter 24. 
 
 16 Revenue Act of 1921, §§ 234 (a) 3, 214, (a) 3. 
 
 17 Revenue Act of 1921, § 201 ; Reg. 45 Art. 1543, as amended by T. D. 
 3206, T. B. 33-21-1767. ' 
 
 18 0. D. 763, T. B. 1-21-1370; O. D. 791, T. B. 6-21-1426. 
 
508 FEDERAL INCOME TAX 
 
 Dividends on Life Insurance Policies. It is a custom of in- 
 surance companies to return each year a portion of the premium 
 paid by the insured. The amount so returned is usually desig- 
 nated as a "dividend" and is either received in cash by the in- 
 sured or applied by him to the reduction of the next annual pre- 
 mium. The law expressly provides that amounts received as a re- 
 turn of premiums paid by the taxpayer is not income.^" Where, 
 however, dividends are received on a paid-up policy their amount 
 should be considered the same as dividends from corporations,^" 
 unless, of course, the dividend was not paid by the insurance com- 
 pany out of earnings or profits accumulated since the incidence 
 of the tax. 
 
 Dividends from Co-operative Associations. Dividends paid 
 by co-operative associations, acting as sales agents for farmers 
 or others, in the nature of a periodical refund or rebate to mem- 
 bers or prospective members or patrons generally, are wholly dif- 
 ferent from ordinary distributions based upon stockholdings and 
 may be excluded from gross income by their recipients. Any 
 profits of such associations made from nonmembers and distrib- 
 uted to members in the guise of rebates, are, of course, subject to 
 tax.^1 - 11 .\i-r\ 
 
 Dividends from Federal Reserve Bank. The Federal Re- 
 serve Act of December 23, 1913, provides that Federal Reserve 
 banks, including the capital stock and surplus therein and the 
 income derived therefrom, shall be exempt from taxation, ex- 
 cept taxes upon real estate. Such exemption attaches to and 
 follows the income derived from dividends on stock of Federal 
 Reserve banks in the hands of the stockholders, so that the 
 dividends received on the stock of Federal Reserve banks are not 
 subject to the income tax. Dividends paid by member banks, 
 however, are treated like dividends of ordinary corporations. 22 
 
 Dividends and Interest from Federal Land Bank and 
 National Farm Loan Association. As the Federal Farm Loan 
 Act of July 17, 1916, provides that every Federal Land bank and 
 every National Farm Loan association, including the capital and 
 reserve or surplus therein and the income derived therefrom, 
 shall be exempt from taxation, except taxes upon real estate, and 
 that Farm Loan bonds, with the income therefrom, shall be 
 exempt from taxation, the income derived from dividends on 
 
 19 Revenue Act of 1921, § 213 (b) 2; Revenue Act of 1918, §213 (b) 2. 
 
 20 T. D. 2137. 
 
 21 Reg. 45, Art. 522; T. D. 2737. See Chapter 18. 
 
 22 Reg. 45, Art. 76 ; Federal Reserve Bulletin, April 1, 1916. 
 
INCOME FROM DIVIDENDS 509 
 
 stock 'of Federal Land banks and National Farm Loan associa- 
 tions and from interest on such Farm Loan bonds is not subject 
 to the income tax.^^ 
 
 Extent to Which Dividends are Taxable, The extent to which 
 dividends are taxable depends upon the status of the paying 
 corporation and upon the status of the recipient .of the dividends. 
 As a general rule the income from dividends is subject only to 
 the surtax. However, dividends from (1) domestic corporations 
 taxable only with reference to income from sources within the 
 United States and (2) foreign corporations 50% or less of whose 
 incottie for the three-year period ending with the close of the 
 taxable year preceding the declaration of dividends was from 
 sources within the United States are liable to the normal tax as 
 well as the surtax.^* 
 
 Dividends Paid By Domestic Corporations.^s Under the 
 present law, dividends paid by domestic corporations (except 
 domestic corporations taxable only with reference to income from 
 sources within the United States and personal service corpora- 
 tions, as indicated in a paragraph following) if received by an 
 indivictwal, are subject only to the surtax, the amount thereof 
 being allowed as a credit for purposes of the normal tax.^^ If the 
 recipient is a nonresident alien, the credit of such dividends for 
 purposes of the normal tax will be allowed only if such recipient 
 files a return of his total income received from all sources within 
 the United States in the manner prescribed by the statute.^'' 
 Such dividends are deductible by a corporation, domestic or 
 foreign.^ 
 
 23 Reg. 45, Art. 75; Reg. 33 Rev., Art. 86. Revenue Act of 1918, § 231 (13). 
 
 24 Revenue Act of 1921, § 216 (a) . 
 
 25 Under the 1918 Law dividends paid by a domestic corporation liable to 
 income tax or by a personal service corporation out of earnings or profits 
 upon vsrhich income tax had been imposed were not subject to the normal tax 
 if received by an individual (Revenue Act of 1918, § 216 (a)). If the recip- 
 ient was a non-resident alien, the credit of such dividends for normal tax pur- 
 poses was allowed only if he filed a return of total income from all sources 
 within the United States (Revenue Act of 1918, §217). If such dividends 
 were received by a corporation, domestic or foreign, the amount thereof was 
 allowed as a deduction (Revenue Act of 1918, §234 (a) 6, (b).) Dividends 
 paid to non-resident alien individuals or to non-resident foreign corpora- 
 tions by domestic corporations doing no business and owning no property 
 in the United States were not taxable at all (Reg. 45, Art. 92). 
 
 -*6 See Revenue Act of 1921, §§ 216 (a), 262. 
 
 ^7 Revenue Act of 1921, §§ 216 (a) , 217 (g) . 
 
 2S Revenue Act of 1921, § 234 (a) 6. Under the 1913 Law corporations 
 were not permitted to deduct amounts received as dividends from corpora- 
 tions subject to the income tax. This was likewise true of the 2% tax im- 
 
510 federal income tax 
 
 Dividends Paid By Personal Service Corporations.29 
 Under the 1921 Law dividends paid by personal service corpora- 
 tions out of earnings or profits upon which income tax has been 
 imposed are taxable as stated in the preceding paragraph. The 
 special class of corporations known as personal service corpora- 
 tions is abolished by the 1921 Law as of December 31, 1921. 
 Therefore, dividends paid by a personal service corporation are 
 now taxable as stated in the preceding paragraph, unless they 
 are paid out of earnings or profits accumulated between De- 
 cember 31, 1917, and January 1, 1922.30 
 
 Dividends Paid By Foreign Corporations. The present law 
 contains a substantial departure from the 1918 Law in its treat- 
 ment of dividends paid by foreign corporations. Foreign corpora- 
 tions are now divisible in this respect into (1) those which derive 
 more than 50% of their gross income for the three-year period 
 ending with the close of the taxable year preceding the declara- 
 tion of dividends (or for such part of such period as the corpora- 
 tion has been in existence) from sources within the United 
 States and (2) those which derive 50% or less of such gross 
 income from sources within the United States. Dividends paid 
 by foreign corporations included in (1) above are subject only to 
 the surtax if received by an individual, the amout thereof being 
 allowed as a credit for purposes of the normal tax. If the recipi- 
 ent is a nonresident alien, the credit of such dividends for normal 
 tax purposes will be allowed only if the nonresident alien files a 
 return of total income received from all sources within the United 
 States in the manner prescribed by the statute. If such dividends 
 are received by a corporation, domestic or foreign, the amount 
 thereof is allowed as a deduction. A foreign corporation, how- 
 ever, in order to be entitled to the deduction, must file a return in 
 the manner indicated in the case of non-resident alien indi- 
 viduals.31 Dividends paid by foreign corporations included in (2) 
 above are subject to the normal tax, as well as the surtax, in 
 the hands of citizens and residents, since they may not be cred- 
 ited for purposes of the normal tax of citizens and residents. 
 
 posed by the 1916 Law, but for the purpose of the 4% tax imposed by the 
 1917 Law the amount of such dividends was permitted as a credit. (Reve- 
 nue Act of 1917, § 3 ; Reg. 33 Rev., Art. 105.) 
 
 29 Under the 1918 Law, dividends paid by personal service corporations 
 out of earnings or profits upon which income tax had been imposed, that is, 
 earnings or profits accumulated between February 28, 1913, and January 1, 
 1918, were liable to tax as stated in footnote 25. (Revenue Act of 1918, 
 §§ 216 (a), 234 (a) 6, and 217.) 
 
 30 Revenue Act of 1921, §§201 (a), 218 (d). 
 
 31 Revenue Act of 1921, §§ 216 (a) , 234 (a) 6, (b) 217. 
 
INCOME FROM DIVIDENDS 511 
 
 In the case of nonresident aliens or foreign corporations they 
 do not constitute income from sources within the United 
 States.32 When received by a domestic corporation dividends 
 paid by foreign corporations, included in (2) above, are not 
 deductible.33 
 
 Legal and Beneficial Owners of Stock on Which Divi- 
 dends Are Paid. The fact that an individual may not have legal 
 title to the stock on which dividends are declared does not alter 
 the rules stated in the preceding paragraphs. If he is the actual 
 beneficial owner, the amount which is received by a trustee in 
 the form of dividends may be treated as dividends by a bene- 
 ficiary in making his return, and, similarly, dividends received 
 by a partnership may be treated as dividends received by the 
 individual partners.^* When dividends are received by one who 
 is not the actual owner of the stock, but is the owner of record, 
 he is not required to include the amount thereof in his own 
 return 35 but proceeds in accordance with the rules stated else- 
 where in this book.38 
 
 Distribution in Liquidation Under the 1918 Law. The Revenue 
 Act of 1918 provided that "amounts distributed in the liquida- 
 tion of a corporation shall be treated as payments in exchange 
 for stock or shares, and any gain or profit realized thereby shall 
 be taxed to the distributee as other gains or profits." ^^ Under 
 
 32 Revenue Act of 1921, §§217 (a) 2, 216 (a). 
 
 33 Revenue Act of 1921, § 234 (a) 6. The rule stated in the paragraph 
 above classifies foreign corporations upon a different theory from that 
 which underlay the classification under the 1918 Law. Under that law, for- 
 eign corporations were divisible into (1) those deriving no income from 
 sources within the United States and (2) those deriving income from sources 
 within the United States, however small the amount thereof. Dividends 
 paid by corporations included in (1) were treated in the same manner as 
 dividends paid by foreign corporations included in class (2) in the text 
 above; dividends paid by foreign corporations included in class (2) were 
 treated in the same manner as dividends paid by corporations within class 
 (1) in the text above (Revenue Act of 1918, §§ 216 (a), 234 (a) 6, 217; Reg. 
 45, Art. 92; Letter from treasury department dated June 9, 1919; I. T. S. 
 1921, T[1661). This classification superseded the rule laid down for pur- 
 poses of the excess-profits tax in 1917 to the effect that if a foreign cor- 
 poration paid income tax on a part of its net income its dividends should be 
 treated to that extent as dividends paid by domestic corporations (Reg. 41, 
 Art. 27) . 
 
 34 Revenue Act of 1921, §§218, 219; Revenue Act of 1918, §§218', 219; 
 see U. S. v. Colby, 251 Fed. 982, affirmed, 258 Fed. 27. See Chapters 6 
 and 8. 
 
 35 Letter from treasury department dated November 21, 1916; I. T. S. 
 1918, If 272. 
 
 36 See Chapter 5. 
 
 37 Revenue Act of 1918, § 201 (c) . 
 
512 FEDERAL INCOME TAX 
 
 this provision of law the treasury department ruled that so-called 
 liquidation or dissolution dividends were not "dividends," and 
 amounts so distributed, whether or not including any surplus 
 earned since February 28, 1913, were regarded as payments 
 for the stock of the dissolved corporation. Any excess so re- 
 ceived over the cost of his stock to the stockholder constituted 
 income to such stockholder. However, if such stock was ac- 
 quired prior to March 1, 1913, and the fair market value as of 
 such date was greater than the cost but less than the amount 
 so distributed, the taxable income was the excess over such fair 
 market value of the amount received, but no gain was recog- 
 nized if the amount received, although more than cost, was less 
 than the fair market value of the stock on March 1, 1913. A 
 distribution in liquidation of the assets and business of a cor- 
 poration, which was a return to the stockholder of the value of 
 his stock upon a surrender of his interest in the corporation, 
 was distinguished from a dividend paid by a going corporation 
 out of current earnings or accumulated surplus when declared 
 by the directors in their discretion, which was held to be in the 
 nature of a recurrent return upon the stock.^^ It was held under 
 
 38 Reg. 45, Art. 1548, as amended by T. D. 3206, T. B. 33-21-1767. See 
 also Reg. 45, Arts. 1541 and 1543; A. R. R. 67, T. B. 17-20-877. The treasury 
 department has held to the same effect under the 1916 Law. (See S. 971, 
 T. B. 2-19-141; T. B. R. 71, T. B. 22-19-530. This ruling was founded 
 largely upon the distinction drawn by the United States Supreme Court in 
 the cases of Lynch v. Turrish, 247 U. S. 221, and Lynch v. Hornby, 247 
 U. S. 339. It is to be noted that the question in both these cases was whether 
 earnings or profits accumulated prior to March 1, 1913, should be consid- 
 ered as dividends. The question was not: Shall earnings or profits accu- 
 mulated subsequent to March 1, 1913, be considered as dividends? In de- 
 termining the former question the Supreme Court drew a distinction accord- 
 ing to whether or not the distribution was a dividend in ordinary course or 
 a final dividend in liquidation. This distinction does not affect the answer 
 to the second question. The issue in the Turrish and Hornby cases was 
 whether certain earnings or profits were essentially capital or income for 
 tax purposes, whether they were taxable as income or exempt as capital. 
 On the other hand, the question arising in the interpretation of § 201 of 
 the Revenue Act of 1918 pertains to the character of the taxability of cer- 
 tain earnings and profits. The Supreme Court did not hold in the Turrish 
 case that corporate gains and profits accumulated prior to March 1, 1913, 
 are not "dividends" if paid to a stockholder upon a winding up of the affairs 
 'of a corporation; it declared that such earnings or profits had become capital 
 and were exempt therefore from tax when distributed. It did not hold in 
 the Hornby case that corporate gains and profits accumulated prior to 
 March 1, 1913, are dividends because they were paid to a stockholder by a 
 corporation continuing in business or a going concern ; it declared that such 
 earnings or profits did not come into fruition as income to the stockholder 
 until by virtue of an exercise of affirmative discretion on the part of the 
 
INCOME FROM DIVIDENDS 513 
 
 the 1918 Law, however, that a distribution of earnings or profits 
 prior to any vote or resolution providing for liquidation was 
 an ordinary, not a liquidating, dividend, even though the stock- 
 holders subsequently voted to go into liquidation and to distribute 
 
 directors they were declared, that is, until they were separated from the 
 corporation's general assets and the stockholder's interest was transformed 
 from an inchoate and contingent interest in them to a definite and fixed 
 share. It will be argued that a distribution which would have been a 
 "dividend" under the Hornby case was held not to be a "dividend" in the 
 Turrish case, solely because it was made upon the liquidation of the paying 
 corporation and that therefore the essence of what would ordinarily be a 
 "dividend" under the 1918 Law is changed by the same token. This argu- 
 ment is based upon the fallacy that the taxability of earnings or profits ac- 
 cumulated since the incidence of the tax is to be determined according to 
 the same differentiation applying in the case of earnings or profits accu- 
 mulated prior thereto. But, as stated above, the Turrish and Hornby cases 
 divided on the question when, with reference to the incidence of the tax, a 
 distribution became income. They did not settle the question: What kinds 
 of income are certain concededly taxable earnings or profits? The court 
 was not attempting in the Turrish and Hornby cases to distinguish between 
 "dividends'' and other distributions. It was drawing a line between capital 
 and income, income received prior to March 1, 1913, having the status of 
 capital. Although the Commissioner ruled in the Turrish case that the 
 $79,975 representing the excess of the amount received by Turrish over the 
 par value of his shares upon their surrender was income for the year 1914, 
 this ruling was reversed by the district court, the circuit court of appeals 
 (236 Fed. 653) and the Supreme Court. The reversal was not upon the ex- 
 press ground that the Commissioner had erred in taxing "dividends" as gains 
 and profits, resulting from the sale of property, but such a decision was un- 
 necessary in view of the court's more fundamental and sweeping conclu- 
 sion that the dividends in question were not taxable at all, because they 
 were capital. The Supreme Court did not decide that they were taxable 
 as ordinary gains or profits. Such a decision would have been academic, if 
 not inconsistent with its main conclusion. There is absolutely nothing in 
 the Turrish case requiring the taxation of corporate earnings or profits 
 accuniulated subsequent to March 1, 1913, as gains and profits from the 
 sale and exchange of property, except a ruling of the Commissioner which 
 was completely set aside by the courts upon the most fundamental ground 
 possible. Effect should be given, if possible, to the entire Revenue Act of 
 1918, and no part should be permitted to perish by construction. One part 
 should not be allowed to defeat another part if by any reasonable construc- 
 tion the two can stand together (U. S. v. Ninety-Nine Diamonds, 139 Fed, 
 961). The treasury department's construction of subdivision (c) of §201 
 seems to be a violation of this cardinal rule of statutory construction. The 
 theory underlying the exemption of dividends from the normal tax is that 
 the normal tax upon them had already been paid by the corporation de- 
 claring them. So far as the subject of any corporate distribution may rep- 
 resent earnings or profits accumulated subsequent to February 28, 1913, it 
 has been subjected to the normal tax in the hands of the paying corpora- 
 tion. So far as the normal tax is concerned, it is capital, like the undis- 
 tributed income of estates or trusts upon which the fiduciary has paid the 
 
514 FEDERAL INCOME TAX 
 
 remaining capital/^^ Where a corporation surrendered its char- 
 ter on January 31, 1920, its business being thereafter continued 
 as a partnership by the stockholders, and distributed its sur- 
 plus and undivided profits as of December 31, 1919, as a liqui- 
 dating dividend, the net income of the company for the one 
 
 tax. § 201 (c) seems clearly to be directed at another profitable element 
 involved in a liquidation^ — the excess of the amount received upon a liqui- 
 dation over the value of the stock on March 1, 1913 (or its cost if acquired 
 subsequently thereto), phis the earnings and profits accumulated subse- 
 quently to February 28, 1913. This is a very different gain or profit from 
 the taxable earnings or profits distributed. Moreover, it will be noted that 
 the Revenue Act of 1918 uses the word "any" in § 201 (a) 1. The word has 
 just been carefully qualified by a parenthetical clause — "(except in H (10) 
 of subdivision (a) of § 284)". In view of the familiar meaning of the word 
 "any" and the careful qualification immediately prior to it (which dis- 
 misses the possibility that congress intended any further qualifications) in 
 § 201 (a) 1, it becomes essential that § 201 (c) be read not as an exception, 
 but as supplementary to §201 (a), intended to reach another kind of pos- 
 sible profit than that contemplated in §201 (a). Again, §201 (c), as it 
 stands, need not be construed as a qualification of §201 (a). The phrase 
 "other gains or profits" includes "dividends." (§ 213 (a) ). In so far, then, 
 as the gain or profit realized is a dividend it should be taxed as a dividend, 
 that is, it should be subjected only to the surtaxes. Both the Turrish and 
 Hornby cases were decided under the Act of October 3, 1913, which did not 
 contain the definition of the term "dividend" to be found in the Revenue Act 
 of 1916 and the 1918 Law. The Supreme Court admitted that its decision in 
 the Hornby case would have been different had the 1913 Law contained any 
 such definition. Two further rules of statutory interpretation should re- 
 solve any doubt remaining on this question. (1) The courts will avoid, if 
 possible, any interpretation resulting in absurdity, inconsistency, glaring 
 inequality or palpable injustice, giving effect to the spirit rather than the 
 letter. (See Ch. 47.) (2) In the interpretation of statutes levying taxes 
 it is also the established rule not to extend their provisions, by implication, 
 beyond the clear import of the language used, or to enlarge their opera- 
 tions so as to embrace matters not specifically pointed out. (See Ch. 47.) 
 If the mere fact that a distribution out of a corporation's earnings or profits 
 accumulated since February 28, 1913, is made upon the liquidation of the 
 corporation renders such earnings or profits liable a second time to the 
 normal tax, the manner of distribution supplants the character of income 
 as the decisive test of taxability. If a distribution made by a corporation 
 out of its earnings or profits accumulated sihce February 28, 1913, is held 
 under the 1918 Law to be a dividend only when made by a going corpora- 
 tion, the burden of the taxpayer is increased, — the taxpayer is subjected to 
 an additional tax of 4 or 8% upon dividends received as a part of a liquida- 
 tion. The clear import of the language used in § 201 does not require this — 
 to say the least — and any remaining doubt should be resolved against the 
 government and in favor of the citizen. As will be seen by the next para- 
 graph, congress has recognized the injustice of the interpretation of the 
 treasury department of § 201 (c) and provided against its continuance in 
 the 1921 Law. 
 
 38 A. R. M. 93, T. B. 47-20-1309. 
 
INCOME FROM DIVIDENDS 515 
 
 month of its existence in 1920 being distributed by crediting 
 the amount to the profit and loss account of the partnership, 
 it was held that such a liquidating dividend credited to the part- 
 nership was taxable to the former stockholders as if actually 
 distributed to them.*" 
 
 Retirement op Capital Stock. Payments by a corporation 
 to its stockholders in retiring its own stock have been held not 
 to be dividends within the meaning of the 1918 Law if the 
 liquidation was in pursuance of an obligation arising out of the 
 stock contract, unless it appeared that the corporation had an 
 option of distributing its assets with a debit to capital stock 
 account or to surplus account. Any excess received by the stock- 
 holders upon such retirement over the cost of the stock was held 
 to be a taxable profit.*^ In a case in which a corporation retired 
 twice the amount of additional stock previously issued in con- 
 nection with the performance of government contracts during 
 the war, the amount representing the par value of the stock 
 being charged to capital account and an excess over par value 
 paid by the corporation to retire the stock being charged to sur- 
 plus accumulated prior to March 1, 1913, it was held that the 
 distribution was not a dividend within the meaning of the 1918 
 Law but was a distribution in part liquidation. Any excess over 
 t^e cost of the stock was held to be subject to the normal ixix 
 and the surtax in the hands of the stockholders .^^ 
 
 Proceeds of Liquidation Received in Installments. 
 Where the assets of a corporation in process of liquidation are 
 being disposed of, the proceeds being distributed to the stock- 
 holders in installments, and it is not known what the total pro- 
 ceeds will be, and consequently the amount of profit to the stock- 
 holders can not be definitely determined, it was held under the 
 1918 Law that a stockholder should return no portion of the 
 installment payments as income until the amount actually re- 
 ceived exceeded the cost of the stock to him, or its fair market 
 value as at March 1, 1913, if acquired prior to that date. How- 
 ever, if the corporation entered into a contract for the sale of 
 its assets at a stipulated price, the purchaser making payment 
 in installments, the portion of each liquidating payment to the 
 stockholder representing profit was held to be returnable as in- 
 
 40 O. D. 912, T. B. 20-21-1630. 
 
 41 O. D. 360, T. B. 2-20-667. Such profit would probably be held liable to 
 the normal tax as well as the surtax. See Chapter 17 as to the rule if the 
 stock was acquired prior to March 1, 1913. 
 
 42 O. D. 479, T. B. 18-20-891. See also O. D. 488, T. B. 19-20-908. 
 
516 FEDERAL INCOME TAX 
 
 come for the year during which received.^^ jn a case in which 
 a corporation assigned its principal asset (a mortgage payable 
 in annual installments with interest) to trustees in trust for its 
 stockholders and then instituted liquidation proceedings, the 
 beneficiaries under the trust receiving proportionate shares of 
 principal and interest as paid to the trustees, it was held under 
 the 1918 Law that the profit of the stockholders from the sur- 
 render of their stock was not definitely ascertainable and that 
 no amount was required to be reported as income until the total 
 sum received in liquidation exceeded the cost of the stock to the 
 stockholders.** 
 
 Partial Liquidation of Corporations. It has been held that 
 where two or more national banks were consolidated,*^ each 
 constituent bank contributing capital, surplus and undivided 
 profits in an aggregate amount less than its existing capital, 
 surplus and undivided profits, the remaining capital, surplus and 
 undivided profits of each constituent bank being liquidated by 
 trustees and the proceeds thereof distributed Tpro rata among 
 the stockholders thereof, so that each stockholder of a con- 
 stituent corporation received from the consolidated corporation 
 new shares of stock therein upon surrender of his old shares 
 and also received from his trustees his V'''o rata share of the 
 proceeds of the noncontributed assets when liquidated, such 
 stockholder, if he acquired the stock on or after March 1, 1913, 
 was required under the 1918 Law to pay both normal tax and 
 surtax on (1) his share of the proceeds of the liquidated assets 
 in excess of the cost of that portion of his old stock representing 
 the capital assets so liquidated; and (2) any profit derived from 
 the sale of his new stock, such profit to be computed by deducting 
 from the selling price of the new stock the cost of that part of 
 the old stock represented by the new stock which he sold. Any 
 gain accrued prior to March 1, 1913, was held exempt if the old 
 stock was acquired prior to that date.*** 
 
 13 0. D. 343, T. B. 30-19-635. The first part of this ruling is covered by 
 the provisions of §202 (c), and the proceeds distributed would go to re- 
 duce the basis for ascertaining gain or loss. It is a question whether this 
 would be true of the second part of the ruling — if the price were stipulated — 
 in view of subdivision (f ) of § 202. However, it would seem that even if 
 the amount of gain should be calculated with respect to each installment, 
 the taxpayer would not be obliged to report any gain under the present law 
 until the proceeds exceeded the basis. 
 
 4* O. D. 461, T. B. 16-20-874. The same conclusion would seem necessary 
 under the present law. 
 
 45 Under the Act of November 7, 1918 (40 Stat. 1043). 
 
 iSSol. Op. 115, T. B. 36-21-1797. 
 
INCOME FROM DIVIDENDS 517 
 
 Distribution in Liquidation Under 1921 Law. The Revenue 
 Act of 1921 omits the provision as to distributions in liqui- 
 dation contained in the 1918 Law*'^ and provides*^ that any 
 distribution (w^hether in cash or other property) made by 
 a corporation to its shareholders or members otherwise than 
 out of (1) earnings or profits accumulated since February 28, 
 1913, or (2) earnings or profits accumulated or increase in value 
 of property accrued prior to March 1, 1913, shall be applied 
 against and reduce the cost, or value as of March 1, 1913, for 
 the purpose of ascertaining the gain derived or the loss sustained 
 from the sale or other disposition of the stock or shares by the 
 distributee. Under the present law, then, earnings or profits 
 accumulated since February 28, 1913, whether distributed in 
 liquidation or as ordinary dividends, will be taxed as dividends 
 and subject only to the surtaxes and will no longer be taxed as 
 other gains and profits in the case of liquidation as under the 
 1918 Law. Congress has now definitely provided against the 
 unfair and unwarranted practice of the treasury department 
 under the 1918 Law of subjecting such earnings or profits to 
 both the normal tax and the surtax in case of the mere accident 
 of their distribution 'in the liquidation of a corporation. 
 
 Presumption as to Source of Distribution. In the case of a cor- 
 poration any distribution (which in the case of a personal serv- 
 ice corporation does not include distributions out of earnings or 
 profits accumulated between December 31, 1917, and January 1, 
 1922) .to stockholders is made so far as possible (a) from earn- 
 ings or profits; (b) during the year 1918 or thereafter from 
 earnings or profits accumulated since February 28, 1913; (c) 
 if during the first 60 days of a taxable year, from earnings or 
 profits accumulated. during preceding taxable years; and (d) if 
 during the remainder of a taxable year after the first 60 days, 
 from earnings or profits accumulated during the taxable year 
 up to the date of distribution. The presumption contained in 
 clauses (c) and (d) affects the determination of invested capital 
 for the purpose of the excess-profits tax, which is repealed by 
 the Revenue Act of 1921 as of December 31, 1921, and the provi- 
 sion creating the presumption is expressly made inapplicable after 
 that date. In ascertaining whether or not a distribution was 
 made out of earnings or profits of the taxable year there should 
 first be set aside a proper reserve for the payment of accrued 
 income and war-profits and excess-profits taxes. In the case of 
 
 • 
 
 47 §201 (c). 
 
 48 Revenue Act of 1921, § 201 (c) . See .footnote 38. 
 
518 FEDERAL INCOME TAX 
 
 a personal service corporation any distl-ibution is deemed to have 
 been made so far as possible (a) from earnings or profits; (b) 
 during the year 1918 or thereafter from earnings or profits ac- 
 cumulated since February 28, 1913; (c) if during the first 60 
 days of a taxable year, from the most recently accumulated earn- 
 ings or profits of preceding taxable years; and (d) if during 
 the remainder of the taxable year after the first 60 days, from 
 earnings or profits accumulated during the taxable year up to 
 the date of distribution. The first 60 days of any taxable year 
 includes March 1, except during a leap year.*^ 
 
 Dividends From Earnings or Profits Accumulated Prior to 
 March 1, 1913. Under the 1918 Law any distribution was deemed 
 to have been made from earnings or profits unless all earnings 
 and profits had first been distributed. Any distribution made 
 in the year 1918 or any year thereafter was deemed to have been 
 made from earnings or profits accumulated since February 28, 
 1913, but any earnings or profits accumulated prior to March 1, 
 1913, might be distributed in stock dividends or otherwise, ex- 
 empt from the tax, after the earnings and profits accumulated 
 since February 28, 1913, had been distributed.^" With an ex- 
 
 4» Revenue Act of 1921, §201; Revenue Act of 1918, §201; Reg. 45, Art 
 1542. See A. R. R. 577, T. B. 38-21-1824; A. R. R. 127, T. B. 23-20-992; 
 O. p. 5, T. B. 1-19-9; 0. D. 4, T. B. 1-19-8. In A. R. R. 127 it is held that 
 the 60-day presumption applies to the determination of invested capital 
 alone, but it would seem to affect the determination of the source of dis- 
 tributions of personal service corporations made between January 1, 1918, 
 and March 1, 1918, and for that reason the text above retains the reference 
 to this presumption in the case of personal service corporations. It will 
 have no effect in the case of distributions by personal service corporations 
 during the first 60 days of 1922, since it is repealed as of December 31, 
 1921. It is stated in the Finance Committee Report on the Internal Revnue 
 Bill of 1921 (p. 10) in regard to §201: "Minor obscurities in the present 
 law have been clarified by stating conclusively certain provisions which 
 heretofore have been stated as presumptions." The reference is apparently 
 to the substitution of the word "is" for the words "shall be deemed to have 
 been." 
 
 50 Revenue Act of 1918, §201 (b). Compare with Revenue Act of 1916, 
 §31, added by Revenue Act of 1917. (See Reg. 45, Arts. 1542 and 1543.) 
 The conflict in the cases in the lower federal courts under the 1913 Law, as 
 to the taxability of dividends distributed subsequent to the incidence of the 
 tax from earnings which accrued prior tliereto (the law itself being silent 
 on that point) was settled by the 1917 provision. In Lynch v. Turrish, 
 247 U. S. 221, it was held that a sum received by a stockholder in excess of 
 the par value of his stock, exclusively from the increase in value of his 
 stock prior to March 1, 1913, on account of the gradual advance of the 
 value of the property of the corporation prior to that date, was not income 
 when distributed by the corporation after the incidence of the tax. In 
 Lynch v. Hornby, 236 Fed. 661, decided at the same time, the lower court 
 
INCOME FROM DIVIDENDS 519 
 
 held that dividends received by a stockholder by the conversion of prop- 
 erty into money and the distribution after the incidence of the tax, was 
 not taxable w^here the dividend represented the value of property owned by 
 the corporation on March 1, 1913, including the increase of the value of its 
 timber lands and surplus from its business operations, the court announcing 
 that, in its opinion, no property held by the corporation or the stockholder 
 whether original capital or previously earned surplus income, gains or 
 profits, was intended to be made, or was made taxable as income by the 1913 
 Law, so far as it represented the value of such property on March 1, 1913. 
 The Supreme Court reversed this decision, 247 U. S. 339, distinguishing the 
 case from the situation in Lynch v. Turrish on the ground that the dividends 
 to Hornby were not single and final, and did not represent the winding up 
 or liquidation of the entire assets and business of the company, and a return 
 to him of the value of his stock upon his surrender of his entire interest, 
 and on the ground that congress drew a distinction between a stockholder's 
 undivided share or interest in the gains and profits of the corporation prior 
 to the declaration of a dividend, and his participation in the dividends de- 
 clared and paid; the court proceeding on the theory that the stockholder is 
 in the ordinary case a different entity from a corporation and that congress 
 was at liberty to treat dividends coming to him as constituting a part of his 
 income when they came to. hand, even though they might appear upon an- 
 alysis to be a mere realization in possession of an inchoate and contingent 
 interest that the stockholder had in a surplus of corporate assets previously 
 existing. The court distinctly held that under the 1913 Law dividends de- 
 clared and paid in the ordinary course by a corporation to its stockholders 
 after March 1, 1913, whether from current earnings or from a surplus ac- 
 cumulated prior to that date, were taxable as income to the stockholder. 
 (See Skinner v. Union Pacific Coal Co., 249 Fed. 152.) The case of Pea- 
 body V. Eisner, 247 U. S. 347, followed Lynch v. Hornby in principle. In 
 Southern Pacific Co. v. Lowe, 238 Fed. 847, the district court held that divi- 
 dends from surplus accumulated prior to March 1, 1913, were not taxable 
 if the surplus represented an increase in the value of the assets of the cor- 
 poration, but were taxable if the surplus was accumulated from earnings or 
 profits of the corporation prior to the incidence of the tax. This decision 
 was reversed by the Supreme Court (247 U. S. 330), but only on the ground 
 that the corporation which paid the dividend and the corporation which 
 received it were in substance identical corporations, the stockholder, there- 
 fore, not being the ordinary stockholder contemplated in Lynch v. Hornby. 
 (See also Hays v. Gauley Mountain Coal Co., 247 U. S. 189; U. S. v. Cleve- 
 land, etc., Ry. Co., 247 U. S. 195; Doyle v. Mitchell Bros., 247 U. S. 179; 
 Gulf Oil Corporation v. Lewellyh, 248 U. S. 71 and T. D. 2740; Trefry v. 
 Putnam, 227 Mass. 522, 116 N. E. 904; State ex rel. Moon Co. v. Wisconsin 
 Tax Commission, 166 Wis. 287, 163 N. W. 639, 165 N. W. 470, appeal dis- 
 missed by U. S. Supreme Court, 249 U. S. 621; Van Dyke v. Milwaukee, 
 (Wis.) 146 N. W. 812, 150 N. W. 509; State ex rel. Pflster v. Widule, (Wis.) 
 163 N. W. 641; State v. Franklin Bank, 10 Ohio 91; Bailey v. Railroad Co., 
 22 Wall. 603, 106 U. S. 109; Collector v. Hubbard, 12 Wall. 1.) 
 
520 FEDERAL INCOME TAX 
 
 ception discussed in a subsequent paragraph ^^ the Revenue Act 
 of 1921 carries substantially the same provision with respect to 
 earnings and profits accumulated prior to March 1, 1913. For 
 the purposes of the Revenue Act of 1921 every distribution is 
 made out of earnings or profits, and from the most recently 
 accumulated earnings or profits, to the extent of such earnings 
 or profits accumulated since February 28, 1913; but any earn- 
 ings or profits accumulated or increase in value of property ac- 
 crued prior to March 1, 1913, may be distributed exempt from 
 the tax, after the earnings and profits accumulated since Feb- 
 ruary 28, 1918, have been distributed. If any such tax-free 
 distribution has been made the distributee will not be allowed 
 as a deduction from gross income any loss sustained from the 
 sale or other disposition of his stock or shares unless, and then 
 only to the extent that, the basis provided for ascertaining gain 
 or loss exceeds the sum of (1) the amount realized from the 
 sale or other disposition of such stock or shares, and (2) the ag- 
 gregate amount of such distributions received by him thereon.^^ 
 
 Rulings Under 1917 and 1918 Laws. Several important rul- 
 ings were made under the 1918 and previous laws in regard to 
 the exemption of distributions consisting of earnings or profits 
 accumulated prior to March 1, 1913, as indicated below: 
 
 1. Stock dividends do not constitute a distribution of earn- 
 ings and the presumptive allocation as to earnings does not 
 apply to them; hence a dividend paid in cash by a company 
 was deemed to represent a distribution of its earnings or sur- 
 plus accumulated since February 28, 1913, and remaining un- 
 distributed at the date of payment, regardless of the issuance 
 by the corporation of any stock dividends since February 28, 
 1918, and prior to the date of payment of the cash dividend. 
 Where a corporation, having a surplus accumulated in part prior 
 to March 1, 1913, transferred to its capital account a portion 
 of its surplus, issued new stock representing the amount so 
 transferred to the capital account and then declared a dividend 
 payable in part in cash and in part in shares of the new issue 
 of stock, that portion of the dividend paid in cash was deemed 
 to have been paid out of surplus accumulated since February 
 28, 1913, to the extent of the earnings and profits accumulated 
 since that date, and was subject to tax, but the portion of the 
 dividend paid in stock was held exempt.^* 
 
 51 See p. 525. 
 
 52Kevenue Act of 1921, §201 (b). See Chapter 17. 
 
 53 0. D. 587, T. B. 29-20-1065. 
 
INCOME FROM DIVIDENDS 521 
 
 2. In the case of a corporation having had earnings in any 
 year since March 1, 1913, a dividend was deemed to be out of such 
 earnings even though such earnings had been more than offset 
 by subsequent losses so that there had been a net operating 
 deficit since March 1, 1913.^* 
 
 3. In the case of a corporation with profits accumulated prior 
 to March 1, 1913, but none accumulated between that date and 
 January 1, 1918, and paying dividends during the first 60 days 
 of 1918, such dividends were deemed to have been paid from 
 earnings or profits accumulated after December 31, 1917.^^ 
 
 4. In a case in which in 1919 a corporation paid three de- 
 ferred dividends on its outstanding first preferred stock, the divi- 
 dends being those due February 1 and August 1, 1910, and Feb- 
 ruary 1, 1911, the actual surplus necessary to pay them having 
 accumulated prior to December 31, 1911, it was claimed that the 
 terms of issue of the stock prescribed when the dividends be- 
 came due, the company merely having the privilege of deferring 
 payment; and that it was the understanding of the company 
 that its surplus was held to pay past due dividends. The stock 
 certificates contained a pirovision in accordance with which the 
 deferred dividends were paid and the stock redeemed. It was 
 held that the thrde deferred dividends would be considered to 
 have been paid out of earnings and profits accumulated since 
 February 28, 1913, unless it could be shown that all earnings 
 and profits accumulated since that date were first distributed. 
 If this could not be shown, the distribution was held to con- 
 stitute income to the recipient stockholders subject to surtax 
 but not to the normal tax.^s 
 
 5. Where the principal stockholder paid in to a corporation 
 a sum of money for which no stock was issued and on which no 
 interest was charged, it being entered upon the company's books 
 as a contribution of capital and never treated as an account pay- 
 able, the repayment of this sum to the stockholder was deemed 
 to be out of undivided profits or earned surplus so far as pos- 
 sible and not a return of capital, unless the undivided profits 
 
 54 0. D. 610, T. B. 31-20-1098; T. B. R. 43, T. B. 12-19-395. The treasury 
 department construed the phrase "profits accumulated" to mean profits 
 which had been earned and not dissipated by subsequent losses. (A. R. M. 
 82, T. B. 40-20-1219.) 
 
 55 T. B. R. 43, T. B. 12-19-395. The effect of this ruling was to subordinate 
 subdivision (e) of §201 to subdivision (b), the former, together with 
 subdivision (d), providing for the method and rate of taxation and the 
 latter for liability to taxation. 
 
 56 0. D. 587, T. B. 29-20-1065. 
 
522 FEDERAL INCOME TAX 
 
 and earned surplus accumulated since 1913 had been first dis- 
 tributed as dividends.57 
 
 6. It has been held that a distribution made from the pro- 
 ceeds recovered in 1916 on a claim for unlawful restraint of 
 trade suffered in the years 1891 to 1904, which was in litigation 
 and existed as a chose in action arising ex delicto long prior to 
 March 1, 1913, was not from profits accrued after March 1, 
 1918, and was not taxable under the 1916 Law, in the absence 
 of evidence that the claim was of greater value in 1916 than 
 on March 1, 1913.58 
 
 Rulings Under the 1916 Law. The 1916 Law, prior to its 
 amendment by the 1917 Law, did not contain any presumptive 
 provision as to the source of corporate distributions. The treas- 
 ury department ruled that dividends could be declared from any 
 specified fund, that is, a dividend could be declared from surplus 
 accumulated prior to March 1, 1913, and consequently be free 
 from tax in the hands of the stockholders, although the corpo- 
 ration had surplus and undivided profits accumulated since that 
 date sufficient to pay the dividend.^f The presumption provi- 
 sion contained in the 1917 amendment to the 1916 Law was held 
 not to apply to any distribution made prior to August 6, 1917, 
 out of earnings or profits accrued prior to March 1, 1913. The 
 treasury department held that if a dividend was declared prior 
 to August 6, 1917, out of earnings or profits accrued prior to 
 March 1, 1913, such dividend would be deemed to be from the 
 most recently accumulated profits or surplus unless the dividend 
 was also paid prior to August 6, 1917. In other words, the pro- 
 vision in regard to "most recently accumulated earnings or 
 profits" has reference to the earnings or profits in existence at 
 the time of the payment of the dividend, and not the time of 
 declaration.^ 
 
 •"57 T. B. M. 82, T. B. 23-19-552. 
 
 58 Park V. Gilligan, U. S. Dist. Ct, So. Dist. Ohio; I. T. S. 1921, 113067. 
 
 5" But a stockholder who received payments from a corporation because 
 of his stock ownership therein, which payments were not the result of a 
 formal declaration of dividends and which were not then entered on the 
 books against surplus accrued prior to March 1, 1913, was held taxable 
 with respect to such distribution of corporate profits as dividends. The 
 formal declaration of such dividends by the directors at a date one year 
 after the dividends had been paid and subsequent entries made on the 
 corporate books, did not have the effect of relieving the taxpayer of tax. 
 (0. 932, T. B. 25-19-579.) 
 
 60 Letter from treasury department dated February 9, 1918; I. T. S. 
 1918, T[3099; telegram from treasury department dated January 31, 1918; I. 
 T. S. 1918, 113069; telegram from treasury department dated July 5, 1918; 
 L T. S. 1918, 113592. 
 
INCOME FROM DIVIDENDS 523 
 
 The presumption was held apphcable even though profits of 
 the corporation were invested in obligations of the United States 
 issued after September 1, 1917, as the investment of earnings 
 did not prevent them from being distributed as dividends.^! 
 It was immaterial what disposition had been made of the funds 
 earned in the taxable year ; "- the net income as disclosed by the 
 books as having accrued up to the date on which the dividends 
 were paid was deemed to be distributed thereby ."^ In view of 
 the difficulties which many corporations had in determining 
 whether earnings in 1917 up to the date of dividend payment 
 in that year were sufficient to cover the dividend paid, corpo- 
 rations were permitted to distribute the earnings for the ac- 
 counting period for which the dividend in question was paid 
 ratably over the period for the purpose of determining the 
 amount of earnings during the period up to the date of pay- 
 ment.^* In determining the source of earnings from which a 
 particular distribution was made, a corporation was permitted 
 to treat the undivided profits and surplus of the current year 
 as reduced by payments for income and excess-profits taxes, 
 or if keeping its accounts upon an accrual basis by proper re- 
 serves for such taxes, although such payments or reserves were 
 not deductible in computing the income of the corporation for 
 income and excess-profits taxes.®^ In this respect the language 
 of the present law and the 1918 Law is substantially the same 
 as that of the 1916 Law, as amended, and the above rulings still 
 apply. 
 
 Book Entries. In determining whether a distribution was 
 made out of earnings or profits accumulated after or before 
 March 1, 1913, it was held under the 1918 Law that due consid- 
 eration must be given to the facts and that mere book entries 
 increasing or decreasing the surplus would not be conclusive.^" 
 Where original entries on the books and records of a corpora- 
 tion showed that a dividend paid prior to August 6, 1917, repre- 
 sented a distribution of earnings accumulated prior to March 1, 
 1913, the dividend was held exempt from tax under the 1918 
 Law even though it vv^as not specifically stated in the resolution 
 
 61 Letter from treasury department dated' May 27, 1918; I. T. S. 1921, 
 11860. 
 
 62 Id. 
 
 63 T. D. 2659. 
 
 64 T. D. 2678. 
 
 65 T. D. 2700; T. D. 2736; Letter from treasury department dated 
 May 13, 1918; L T. S. 1919, 11808. 
 
 66 Reg. 45, Art. 1543. See Southern Pacific Co. v. Lowe, 247 U. S. 330; 
 Gulf Oil Corporation v. Lewellyn, 248 U. S. 71. 
 
524 FEDERAL INCOME TAX 
 
 authorizing payment of the dividend that it was to be paid from 
 such earnings.6'^ It has been held that a dividend will be deemed 
 to have been paid out of current earnings to the extent possible 
 and taxable to the recipient accordingly, notwithstanding that 
 there was an actual impairment of capital and the books show 
 an apparent surplus based on an arbitrary valuation of good-will, 
 trade-marks, etc.^^ 
 
 Such Dividends Exempt Only to Stockholders of First 
 Corporation. Under the 1916 Law it was held that where divi- 
 dends had been paid from surplus accrued prior to March 1, 
 1913, they were free from tax in the hands of the stockholder, 
 but if such stockholder was a corporation, upon the distribution 
 to its stockholders of the sum so received as dividends, the fund 
 became taxable to the stockholders of the second corporation as, 
 to the holding company, such sum did not represent earnings 
 or profits accrued prior to March 1, 1913. While the law pro- 
 vided for the exemption of dividends from corporate funds 
 earned prior to March 1, 1913, it was held it did not provide for 
 tracing the identity or character of such dividends after the 
 receipt thereof by the stockholders of the corporation which 
 earned the fund prior to the incidence of the tax.^^ 
 
 Dividends Received by an Estate. Dividends received by 
 an estate are not exempt because paid from surplus accumulated 
 prior to the creation of the estate, but are taxable either to the 
 beneficiaries if the income is distributable, or to the estate if it 
 is not distributable,™ unless paid from earnings or profits accu- 
 mulated by the corporation prior to March 1, 1913. 
 
 Dividends From Exempt Income. Although interest on state 
 bonds and certain other obligations is not taxable when received 
 
 CT O. D. 655, T. B. 36-20-1180. 
 
 08 O. D. 163, T. B. 6-19-266. This ruling seems to violate the fundamental 
 rule that book entries are only evidential and are not conclusive (See Doyle 
 V. Mitchell, 247 U. S. 179). If the dividend in question veas in fact a 
 distribution of capital, it should be free from tax notwithstanding any "ap- 
 parent" surplus based on arbitrary valuations. This is practically the 
 effect of T. D. 2734 in vsrhich it was held (when a stock dividend was con- 
 sidered taxable) that stock dividends created from a revaluation of capital 
 assets or to represent value placed upon trade-marks, good-will, etc., were 
 not taxable to the shareholder. 
 
 69 Letter from treasury department dated July 23, 1917; I. T. S. 1918, 
 11 284. Contra, State ex rel. Moon v. Nygaard (Wis.) 176 N. W. 810, decided 
 under the Wisconsin statute. 
 
 TO Letter from treasury department dated October 19, 1915; I. T. S. 
 1921, 1[ 665. The principle of the decision in Matter of Osborne, 209 N. Y. 
 450 was referred to in this letter and held to have no application to the 
 income tax law. 
 
INCOME FROM DIVIDENDS 525 
 
 by a corporation, upon amalgamation with the other funds of the 
 corporation such income loses its identity and when distributed 
 to stockholders in dividends is taxable to the same extent as 
 other dividends.'^! 
 
 Distribution From Depletion or Depreciation Reserve. A re- 
 serve set up out of gross income by a corporation and main- 
 tained for the purpose of making good any loss of capital assets 
 on account of depletion or depreciation is not a part of its sur- 
 plus out of which ordinary dividends may be paid. A distribu- 
 tion made from such a reserve will be considered a liquidating 
 dividend. No distribution, however, will be deemed to have been 
 made from such a reserve except to the extent that the amount 
 paid exceeds the surplus and undivided profits of the corpora- 
 tion.T2 
 
 Dividends Paid From an Appreciation of Corporate Assets 
 Prior to March 1, 1913. It was held under the 1918 Law that a 
 profit made by a corporation in 1918 or subsequent years from 
 the realization of appreciation of corporate assets accrued be- 
 fore March 1, 1913, is taxable income to the stockholder when 
 distributed as a dividend in 1918 or subsequent years. In other 
 words, if a corporation purchased capital assets in 1910 for 
 $10,000, which had a value on March 1, 1913, of $20,000, and 
 sold the assets in 1918 for $20,000, the realized gain of $10,000 
 was held taxable when distributed to the stockholders.''^ The 
 1921 Law would require a different conclusion, since it expressly 
 provides for the exemption of distributions of "any increase in 
 value of property accrued prior to March 1, 1913." ''* 
 
 Dividends Paid From an Appreciation of Corporate Assets Sub- 
 sequent to March 1, 1913. Any distribution (whether in cash or 
 other property) made by a corporation to its shareholders or 
 
 71 Reg. 45, Art. 1541 ; Reg. 33 Rev., Art. 4. 
 
 72 Reg. 45, Art. 1549, as amended by T. D. 3206, T. B. 33-21-1767; O. D. 
 736, T. B. 48-20-1320. The taxation of liquidating dividends is discussed 
 on p. 517. 
 
 73 L. 0. 1073, T. B. 43-21-1878. This conclusion was founded upon the 
 cases of Lynch v. Hornby, 247 U. S. 339; Lynch v. Turrish (discussed in 
 footnotes 38 and 50); Gray v. Darlington, 15 Wall. 63; Eisner v. Macopiber, 
 252 U. S. 189; and Merchants Loan & Trust Co. v. Smietanka, 41 Sup. Ct. 
 Rep. 386; T. D. 3173. The distribution was taxable under the Hornby and 
 Turrish cases unless it was a distribution made out of earnings or profits 
 accumulated prior to March 1, 1913. (Revenue Act of 1918, §201.(b).) 
 Since advance growth or increment in value are not "earnings or profits" 
 within the meaning of the other cases cited above until realized through 
 sale, the above increment in value, which accrued prior to March 1, 1913, 
 was not, therefore, an earning or profit until 1918. 
 
 74 Revenue Act of 1921, § 201 (b) . 
 
526 FEDERAL INCOME TAX 
 
 members otherwise than out of (1) earnings or profits accumu- 
 lated since February 28, 1913, or (2) earnings or profits accu- 
 mulated or increase in value of property accrued prior to March 
 1, 1913, will be applied against and reduce the basis provided 
 for ascertaining the gain derived or the loss sustained from the 
 sale or other disposition of the stock or shares by the dis- 
 tributeejs 
 
 Distributions of Capital. Distributions of capital by corpora- 
 tions do not become income because they are called dividends. 
 The reason why dividends paid out of earnings and profits ac- 
 cumulated prior to March 1, 1913, are free from tax is that such 
 earnings and profits are assumed, for income tax purposes, to 
 have the status of capital. It has been held that a dividend 
 declared and paid by a corporation which was in part illegal 
 because in excess of true earnings, and which dividend was 
 later rescinded by the corporation, was not taxable to the stock- 
 holders to the extent that the corporation had a legal right to 
 force rescission and repayment and to the extent that such rescis- 
 sion and repayment were actually made.''^^ But where a dividend 
 is legally declared by a corporation, which later is voluntarily 
 returned by the stockholders to avoid an impairment of its capi- 
 tal (the corporation in a later year having received an addi- 
 tional assessment of taxes for the year in which the dividends 
 were paid) the amount thereof is subject to tax in the year in 
 which received by the stockholders and, being a contribution to 
 capital, may not be deducted from gross income by the stock- 
 holders in the year in which repaid.''^^ 
 
 Dividends Taxable in Year Received. The mere declaration of 
 a dividend is not a distribution. All dividends are taxable at 
 the rates for the year in which actually or constructively received 
 (that is, "when the cash or other property" forming the subject 
 of distribution is "made unqualifiedly subject to their (the stock- 
 holders') demands") regardless of when the earnings and 
 profits out of which they were paid were accumulated.''^ This 
 
 75 Revenue Act of 1921, §201 (c). Under this provision a distribution 
 of increment in the value of corporate assets accuring after March 1, 1913, 
 might be made free from tax provided the distribution did not exceed cost 
 (or value on March 1, 1913) but for the presumption that distributions 
 are from earnings or profits to the extent thereof. In the absence of earn- 
 ings or profits accumulated since March 1, 1913, such increment might 
 be distributed vsrithout tax to the extent indicated. 
 
 76 T. B. M. 77, T. B. 20-19-502. 
 
 77 Sol. Op. 110, T. B. 25-21-1691. 
 
 78 Reg. 45, Arts. 31 and 1541; Letter from treasury department dated 
 February 18, 1915; I. T. S. 1918, 1[271; Revenue Act of 1918, §201. 
 
\ \ 
 
 \ 
 
 1 \ 
 
 INCOME FROM DIVIDENDS 527 
 
 is now an express provision of the statute, but the rule had 
 become firmly established prior to the enactment of the Revenue 
 Act of 1921.T9 
 
 In a recent case suit was brought by the stockholders of a 
 corporation in 1917 to compel the corporation to distribute accu- 
 mulated cash surplus, as a result of which the court ordered the 
 distribution made, with interest from the date of the decree. 
 The corporation took no steps to comply with this order, and no 
 dividend was declared and no amount made available to the 
 stockholders, but the company appealed the case. The judgment 
 of the lower court was not aifirmed until February, 1919, at 
 which time the amounts in question were distributed to the stock- 
 holders. The treasury department held that no amounts became 
 available to the stockholders as income until the judgment of 
 the lower court was affirmed in 1919.^° Since the date of pay- 
 ment rather than the date of receipt was the governing factor 
 in determining when a dividend should be treated as taxable 
 income under the 1917 and 1918 Laws a dividend paid in Mis- 
 souri and received there by stockholders on December 30, 1917, 
 but not received by stockholders in California until January, 
 1918, was held taxable in the 1917 returns to the California 
 stockholders.^! 
 
 Dividends Paid in Equivalent of Cash. The Revenue Act of 
 1921 includes in its definition of the term "dividends" any dis- 
 tribution made by a corporation to its shareholders or members 
 "whether in cash or in other property." ^^ 
 
 Dividends Paid in Property. It is well settled that dividends 
 paid in securities or other property (other than its own stock), 
 in which the earnings of a corporation have been invested, are 
 income to the recipients to the amount of the fair market value 
 of such property when receivable by the stockholders. If such 
 stock is subsequently sold, the difference between its market 
 value at the date of receipt (actual or constructive) and the 
 
 70 Revenue Act of 1921, § 201 (e). This provision may have been prompted 
 by the dictum in Park v. Gilligan, U. S. Dist. Ct., So. Dist. Ohio; I. T. S. 
 1921, 1[ 3067, to the effect that amounts merely "credited" as dividends and 
 not "actually segregated from the general assets of the company" were 
 not income. 
 
 80 A. R. R. 124, T. B. 25-20-1012. See Revenue Act of 1921, § 201 (e) . 
 
 81 0. D. 97, T. B. 2-19-140. Likewise, under the present law such dividends 
 would seem to be subject to the demand of the California stockholders in 
 the earlier year, though they would have difficulty in enforcing the de- 
 mand. 
 
 82 Revenue Act of 1921, §201 (a). The Revenue Act of 1918 included 
 stock dividends, but they are no longer taxable (see p. 531). 
 
528 FEDERAL INCOME TAX 
 
 selling price is additional income or loss, as the case may be. A 
 dividend paid in stock of another corporation is not a stock 
 dividend. Where a corporation declares a dividend payable in 
 stock of another corporation, setting aside the stock to be so 
 distributed and notifying the stockholders of its action, the in- 
 come arising to the recipients of such stock is its fair market 
 value at the time the dividend becomes payable.^ 
 
 In a recent case the directors of a corporation voted an issue 
 of debenture bonds from the surplus or undivided profits and 
 distributed the bonds to its stockholders. The stockholders con- 
 tended that the distribution of these debenture bonds was 
 analogous to the payment of a stock dividend and that they 
 should not be subject to tax on the value of the bonds. It was 
 contended that the bonds had the characteristic features of pre- 
 ferred stock and that in case of insolvency or bankruptcy the 
 debenture holders would not rank as general creditors. The 
 court held, however, that the plaintiffs received an actual pay- 
 ment (in the form of securities available for distribution in 
 the market and entirely severed or distinguished from their 
 control of the property as stockholders) of profits which the 
 company wished to distribute as earnings to its stockholders. 
 The distribution to the stockholders of the debenture bonds was 
 a distribution of obligations which, like promissory notes, call 
 for the payment of cash and do not invest the holder with merely 
 a different form of holding of stock. Since, so far as these 
 debenture bonds were concerned the corporation was solvent, 
 there could be no question between the persons receiving these 
 dividends and creditors as to priority of payment and to what- 
 ever extent they might be of value this value was separate from 
 any stockholders' control of the corporation. The court held that 
 the stockholders were subject to tax on that portion of the value 
 of the bonds representing surplus earned after March 1, 1913.8* 
 
 Where a national bank utilized a portion of its undivided 
 profits in the creation of a savings bank and trust company, the 
 stock of said savings bank and trust company being issued in 
 the names of trustees for all shareholders of the national bank, 
 
 83 Reg. 45, Art. 1544; Reg. 33 Rev., Art. 4. Letter from treasury depart- 
 ment dated November 12, 1918; L T. S. 1921, If 875; O. D. 471, T. B. 17-20- 
 883; T. D. 3052, T. B. 33-20-1141. In Peabody v. Eisner, 247 U. S. 347, 
 a case arising under the 1913 Law, a distribution in stock of another corpo- 
 ration was held not to be a stock dividend and was held to be taxable 
 even though it partially represented surplus acquired prior to March 1, 
 1913. 
 
 84 Doerschuck v. U. S., 274 Fed. 739, T. D. 3170, T. B. 24-21-1681. See 
 0. D. 801, T. B. 7-21-1441. 
 
INCOME FROM DIVIDENDS 529 
 
 and the certificates of stock of the national bank showing on the 
 face thereof that the holders are entitled to their pro rata share 
 of the capital stock of the savings bank and trust company, the 
 stockholders will be deemed to have received a dividend in specie 
 and will be liable for tax on the value of certificates of stock in 
 the new corporation received by them.^^ 
 
 Property Dividend Upon Reorganization. Where a corpo- 
 ration engaged in the producing, manufacturing and transport- 
 ing petroleum, and owning and operating a pipe line for the 
 transportation thereof, having a surplus in excess of the value 
 of such pipe line, transfers the pipe line property to a new 
 corporation organized for the purpose, the stock of the new 
 corporation being issued first to the producing corporation and 
 then by it distributed to its stockholders, the Supreme Court 
 has held the stock so received by such stockholders to be a divi- 
 dend paid in property within the meaning of the 1913 Law. The 
 same conclusion was reached in a case presenting substantially 
 the same facts except that the stock of the new pipe line corpo- 
 ration was transferred directly to the stockholders of the pro- 
 ducing corporation.^^ 
 
 Dividends Paid in Liberty Bonds. The fact that dividends 
 are paid in Liberty Bonds does not exempt them from tax. 
 When Liberty Bonds are used as a medium of payment, whether 
 in discharge of a private debt or in payment of a corporate 
 dividend, the profit or gain derived by the recipient is neverthe- 
 
 85 0. D. 152, T. B. 5-19-243. 
 
 S6 Rockefeller v. U. S., N. Y. Trust Co. v. Edwards, 42 Sup. Ct. Rep. 68. 
 The court said in these cases: "Looking to the substance of things the 
 difference is unessential. In each case the consideration moved from the 
 oil company in its corporate capacity, the new company's stock issued in 
 exchange for it was distributed among the oil company's stockholders in 
 their individual capacity, and was a substantial fruit of their ownership 
 of stock in the oil company, in effect a dividend out of the accumulated 
 surplus. * * * Nevertheless the new stock represented assets of 
 
 the oil companies standing in the place of the pipe line properties that 
 before had constituted portions of their surplus assets, and it was capable 
 of division among stockholders as the pipe line properties were not. The 
 distribution, whatever its effect upon the aggregate interests of the mass 
 of stockholders, constituted in the case of each individual a gain in the 
 form of actual exchangeable assets transferred to him from the oil com- 
 pany for his separate use in partial realization of his former indivisible 
 and contingent interest in the corporate surplus. It was in substance and 
 effect, not merely in form, a dividend of profits by the corporation, and 
 individual income to the stockholder." See also U. S. v. Phellis, 42 Sup. Ct. 
 Rep. 63, discussed at length in Chapter 17. 
 
530 FEDERAL INCOME TAX 
 
 less subject to income tax.s^ The stockholder should make re- 
 turn of the dividend paid in Liberty Bonds on the basis of the 
 cash value of the Liberty Bonds at the time of their receipt by 
 him.88 
 
 Scrip Dividends. Dividends paid in scrip have been held to 
 be equivalent to a payment in cash and an investment of the 
 cash in the scrip and accordingly taxable to the extent of the . 
 face value of the scrip. Such dividends are held subject to tax 
 in the year in vs^hich the warrants are issued. In the event of 
 a failure to realize the face value of the scrip, it was held under 
 the 1918 Law that a loss might be claimed in the year in which 
 the stockholder parted with the scrip.s^ Where an insurance 
 company issues certificates of profit based upon premiums re- 
 ceived on marked off risks of the previous year, such certificates 
 maturing in six years and subject to future losses and expenses 
 until redeemed, interest being payable annually upon their face 
 value, it has been held that such certificates are in the nature 
 of scrip dividends. Inasmuch as they might be affected by gains 
 or losses of the company during their maturing period, the cer- 
 tificates were held not to be income until the taxable year of 
 maturity or redemption. The amount of interest payable an- 
 nually on the certificates constitutes taxable income for the year 
 in which received.^" 
 
 87 Letter from treasury department dated June 30, 1917; I. T. S. 1919, 
 il 785; Letter from treasury department dated June 22, 1917; I. T. S. 1921, 
 11 908. The second of these letters is based upon an opinion on the subject 
 obtained from the Attorney General by the treasury department. The ques- 
 tion was raised by reason of the language of the act authorizing the first 
 issue of Liberty Bonds (Act of April 24, 1917, Public No. 3) which exempted 
 the principal and income from taxation. 
 
 88 Letter from treasury department dated November 12, 1918; I. T. S. 
 1921, 11875. 
 
 89 Reg. 45, Art. 1544; 0. D. 589, T. B. 29-20-1067; Letter from treasury 
 department dated January 19, 1915; I. T. S. 1918, 1(260. Scrip dividends 
 were held taxable under the act of June 30, 1864, Bailey v. Railroad Com- 
 pany, 22 Wall. 603, 106 U. S. 109. It is a question whether scrip divi- 
 dends redeemable in cash or stock are not to be considered as stock divi- 
 dends, particularly if upon redemption all stockholders take stock rather 
 than cash. (See U. S. v. Mellon, U. S. Dist. Ct., W. Dist. Pa., I. T. S. 1921, 
 113091.) In any event, it is to be doubted whether scrip dividends are prop- 
 erly taxable at their face value in the year in which the warrants are issued. 
 The credit of the corporation paying the dividends and the interest the 
 scrip bears is a material point. The scrip certificates may be readily 
 convertible into cash and in such case the market or discounted value there- 
 of would clearly be income unless the scrip dividend is a stock dividend. 
 But if there is no market for the scrip, it is to be doubted whether it 
 constitutes income until cash or its equivalent is received. 
 
 90 O. D. 589, T. B. 29-20-1067. 
 
INCOME FROM DIVIDENDS 531 
 
 Stock Dividends. The 1913 Law was silent as to stock divi- 
 dends and while the treasury department at first held that such 
 dividends were not subject to tax, it subsequently changed its 
 attitude and held stock dividends to be the equivalent of cash 
 and to constitute taxable income under the same conditions as 
 cash dividends.^i The 1916 Law expressly provided that stock 
 dividends should be taxable. It defined a stock dividend as a 
 distribution by a coi-poration out of its earnings or profits ac- 
 crued since March 1, 1913, and payable to its shareholders in 
 stock of the corporation. It was provided that such stock divi- 
 dends should be considered income to the amount of the earn- 
 ings or profits so distributed.^^ The Revenue Act of 1918 also 
 expressly provided that stock dividends should be taxable. It 
 defined a stock dividend as a distribution made by a corpora- 
 tion, other than a personal service corporation; to its share- 
 holders or members in stock of the corporation out of its earn- 
 ings or profits accumulated since February 28, 1913, or in the 
 case of a personal service corporation any such distribution out 
 of earnings or profits accumulated since February 28, 1913, 
 and prior to January 1, 1918.''3 The United States Supreme 
 Court reversed the decision of the treasury department as to 
 the 1913 Law and held that stock dividends were not taxable 
 under that law.^* 
 
 Notwithstanding the broad language of the opinion in that 
 case the treasury department declared that since only the lan- 
 guage of the 1913 Law and not the language of the 1916 or 1918 
 Laws was before the court, it did not necessarily follow that 
 stock dividends were not taxable under the provisions of the 
 1916 and 1918 Laws, and it continued to assess the tax on 
 such dividends.^s This question has now definitely been set at 
 
 91 T. D. 2274, dated December 22, 1915. 
 
 92 Revenue Act of 1916, § 31 added by Revenue Act of 1917. The 1916 
 Lavsr prior to the amendment contained substantially the same definition of 
 stock dividends. 
 
 93 Revenue Act of 1918, § 201 (a) . 
 
 94 Towne v. Eisner, 245 U. S. 418. It has been held that a corporation 
 stockholder is not taxable under the 1909 Law on stock dividends received. 
 (U. S. V. Philadelphia B. & W. R. Co., 262 Fed. 188.) 
 
 95 See letter to Collectors dated January 10, 1918, I. T. S. 1919, 1(811. 
 In the opinion of the treasury department the court did not decide that 
 such dividends could not be income within the meaning of the Sixteenth 
 Amendment, but expressly recognized that the word "income" might have 
 a different meaning in the statute from the meaning in the Constitution. 
 
532 FEDERAL INCOME TAX 
 
 rest by a case"" holding that the provision of the 1916 Law by 
 which stock dividends were in terms stated to be income and to 
 be taxable as such to the same extent as cash dividends was un- 
 constitutional. In this case the United States Supreme Court 
 clearly holds that from every point of view, neither under the 
 Sixteenth Amendment nor otherwise, has congress power to tax 
 without apportionment a true stock dividend made lawfully and 
 in good faith, or the accumulated profits behind it, as income 
 of the stockholder. The present law expressly declares that a 
 stock dividend shall not be -subject to tax "but if after the distri- 
 bution of any such dividend the corporation proceeds to cancel or 
 redeem its stock at such time and in such manner as to make the 
 distribution and cancellation or redemption essentially equivalent 
 to the distribution of a taxable dividend, the amount received 
 in redemption' or cancellation of the stock shall be treated as a 
 taxable dividend to the extent of the earnings or profits accumu- 
 lated by such corporation after February 28, 1913.^^ 
 
 Definition of Stock Dividend. It is, therefore, important 
 to consider the definition of the term "stock dividend" which is so 
 exempted from tax. The decision above referred to holding that 
 stock dividends are not constitutionally taxable has been declared 
 by the Treasury Department to sustain the following proposi- 
 tions i^s 
 
 1. Where a corporation, being authorized so to do by the laws 
 of the state in which it is incorporated, transfers a portion of 
 its surplus to capital account, issues new stock representing the 
 amount of the surplus so transferred, and distributes the stock 
 so issued to its stockholders, such stock is not income to the stock- 
 holders and the stockholders incur no liability for income tax 
 by reason of its receipt. 
 
 2. Where a corporation, being authorized, increases its 
 capital stock, and simultaneously declares a cash dividend equal 
 in amount to the increase in its capital stock, and gives to its 
 stockholders a real option either to keep the money for their own 
 or to reinvest it in the new shares, such dividend is a cash divi- 
 
 96 Eisner v. Macomber, 252 U. S. 189. The procedure on claiming credit 
 or refund of taxes erroneously paid on stock dividends is indicated in the 
 supplement to the 1920 edition of this book, p. 195. See M. 2429 and M. 
 2436, T. B. 11-20-789 A, 789 B; 0. D. 625, T. B. 32-20-1123. 
 
 97 Revenue Act of 1921, § 201 (d) . The reference of this provision is to 
 stock dividends, not paid in good faith. In Eisner v. Macomber, the court 
 said: " * * * we are considering the taxability of bona fide stock 
 dividends only." 
 
 98 T. D. 3052, T. B. 33-20-1141. 
 
INCOME FROM DIVIDENDS 533 
 
 dend and is income to the stockholders whether they reinvest 
 it in the new shares or not.^^ 
 
 3. Where a corporation, which is not permitted under the 
 laws of the state in which it is incorporated, to issue a stock 
 dividend, increases its capital stock and at the same time de- 
 clares a cash dividend under an agreement with the stock- 
 holders to reinvest the money so received in the new issue of 
 capital stock, such dividend is subject to tax as income to the 
 stockholder.io" 
 
 4. Where a corporation, having a surplus accumulated in 
 part prior to March 1, 1913, and being thereunto lawfully au- 
 thorized, transfers to its capital account a portion of its sur- 
 plus, issues new stock representing the amount so transferred 
 to the capital account and then declares a dividend payable in 
 part in cash and in part in shares of the new issue of stock, 
 that portion of the dividend paid in cash will, to the amount 
 of the surplus accumulated since March 1, 1913, be deemed to 
 have been paid out of such surplus, and be subject to tax, but 
 the portion of the dividend paid in stock will not be subject to 
 tax as income.ioi 
 
 99 See also T. B. R. 42, T. B. 12-19-398; 0. D. 565, T. B. 27-20-1034; 
 T. B. R. 63, T. B. 22-19-529. But the option must be real. Looking through 
 the form to substance, it has been held that a dividend payable in cash but 
 actually paid in the case of 1740 out of 112,080 shares of stock of the 
 paying corporation, the acceptance of such payment in stock being a mat- 
 ter of agreement by a large proportion of the stockholders as a part of a 
 refinancing arrangement and the paying corporation having in fact no 
 funds to pay the dividends in cash, was a stock dividend vsrithin the mean- 
 ing of the 1913 Law (U. S. v. Mellon, U. S. Dist. Ct., W. Dist. Pa.; I. T. S. 
 1921, 113091). 
 
 100 The same reasoning applies to national banks which are authorized 
 by, law to issue only cash dividends (see Instructions of the Comptroller 
 of the Currency relative to the organization and powers of national banks 
 for 1919, p. 56). Cash dividends declared by a national bank coupled with 
 the right to apply the same to the purchase of an increase in capital stock 
 are therefore subject to the surtax in the hands of the stockholder. (I. T. 
 S. 1921, 112514; O. D. 588, T. B. 29-20-1066.) It has been held that where 
 an assessment of income tax has been treated by both parties in the court 
 below as an assessment on a stock dividend and has been so treated in the 
 assessment of tax by the Commissioner, it cannot be upheld in the Cir- 
 cuit Court of Appeals as an assessment on a cash dividend although the 
 corporation's surplus was distributed by check, which was endorsed by 
 the stockholders in exchange for the stock, the assessment having been 
 made on a value of the stock which was more than double the face of the 
 check. The assessment must be made by the Commissioner and cannot be 
 made by the court. (Loomis v. Wattles, 266 Fed. 876.) 
 
 101 See also O. D. 587, T. B. 29-20-1065. 
 
534 FEDERAL INCOME TAX 
 
 5. Where a corporation increases its capital stock and the 
 stockholders are permitted to purchase the new issue of stock 
 for one-half par, the corporation transferring from surplus 
 to capital one-half the par value of the new shares issued, each 
 stockholder receiving such new stock may treat one-half the 
 stock received as a stock dividend.i"^ 
 
 6. A stock dividend paid in true preferred stock is exempt 
 from tax the same as though the dividend were paid in common 
 stock, but if the stock issued and distributed as a dividend ranks 
 with or prior to the interest of general creditors (with respect 
 to the payment of either interest or principal), it can not be 
 considered true preferred stock, and must be treated as income 
 to the recipient.io^' 
 
 7. A corporation declared a dividend payable in stock of the 
 company at par. In making the distribution of fractions of 
 shares scrip certificates were issued and in order to facilitate the 
 disposal for the stockholders of their scrip, where they did not 
 desire to purchase additional scrip to entitle them to a full share 
 of new stock, the corporation sold in the open market as an 
 agent of the stockholders the scrip certificates received for frac- 
 tional shares of dividend stock, this sale being entirely optional 
 with the stockholders. It was held that the scrip certificates 
 received as a dividend did not represent a cash dividend but a 
 stock dividend and were not subject to tax.i"* 
 
 Income Derived on Sale of Stock Received as Dividend.^"^ 
 Stock issued by a corporation as a dividend does not constitute 
 taxable income to a stockholder in such corporation, but gain 
 may be derived or loss sustained by the stockholder from the sale 
 of such stock. The amount of taxable gain derived or deductible 
 loss sustained from the sale of such stock or from the sale of 
 the stock with respect to which it is issued, will be determined 
 in accordance with the rules regarding the basis for determining 
 gain or loss from sales set forth elsewhere in this book,i°8 after 
 the cost, or both the cost and fair market value as of March 1, 
 1913, if acquired prior thereto, of both the old and the new 
 shares is determined in accordance with the following rules : 
 
 (1) Where the stock issued as a dividend is all of substantial- 
 ly the same character or preference as the stock upon which the 
 
 102 A. E. M. 128, T. B. 22-21-1659. 
 
 103 0. D. 801, T. B. 7-21-1441. 
 
 104 0. D. 859, T. B. 14-21-1538. 
 
 105 The rule set forth in this paragraph issued prior to the enactment 
 of the Revenue Act of 1921, would seem to be applicable thereunder. 
 
 106 See Chapter 17. 
 
INCOME FROM DIVIDENDS 535 
 
 stock dividend is paid, the cost of each share, and when acquired 
 prior to March 1, 1913, the fair market value as of such date, will 
 be the quotient of the cost, or such fair market value of the old 
 shares of stock, divided by the total number of the old and new 
 shares.io''' 
 
 (2) Where the stock issued as a dividend is in whole or in 
 part of a character or preference materially different from the 
 stock upon which the stock dividend is paid, the cost, and when 
 acquired prior to March 1, 1913, the fair market value as of sUch 
 date, of the old shares of stock should be divided between such 
 old stock and the new stock, in proportion, as nearly as may be, 
 to the respective values of each class of stock, old and new, at the 
 time the rifew shares of stock are issued, and the cost, and when 
 acquired prior to March 1, 1913, the fair market value as of such 
 date, of each share of stock will be the quotient of the cost or 
 such fair market value as of March 1, 1913, of the class to which 
 such share belongs divided by the number of shares in that class. 
 
 (3) Where the stock with respect to which a stock dividend 
 is issued was purchased at different times and at different prices 
 and the identity of the lots can not be determined, any sale of 
 the original stock will be charged to the earliest purchases of such 
 stock, and any sale of dividend stock issued with respect to such 
 stock will be presumed to have been made from the stock issued 
 with respect to the earliest purchased stock, to the amount of the 
 dividend chargeable to such stock-i^^ 
 
 (4) Where the stock with respect to which a stock dividend 
 is declared was purchased at different times and at different 
 prices, and the identity of the lots can or can not be determined, 
 but the dividend stock issued with respect to such stock can not 
 be identified as having been issued with respect to any particular 
 lot of such stock, then any sale of such dividend stock will be 
 presumed to have been made from the stock issued with respect 
 to the earliest purchased stock, to the amount of the stock divi- 
 dend chargeable to such stock.ioa 
 
 Where the resolution of the board of directors of a corporation, 
 declaring a stock dividend, provided that no fractional shares of 
 stock should be issued, but that all fractions of shares should be 
 united into whole shares and sold by the treasurer and the pro- 
 ceeds thereof paid to the stockholders entitled thereto, such 
 
 107 This method has been upheld In Towne v. McElligott, U. S. Dist. Ct., 
 So. Dist. of New York, decided August 6, 1921. 
 
 108 Reg. 45, Art. 1547, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 109 Reg. 45, Art. 1547, as amended by T. D. 3238, T. B. 44-21-1901; 0. D. 
 478, T. B. 18-20-890. 
 
536 FEDERAL INCOME TAX 
 
 resolution having been approved by the stockholders, it was held 
 that the stockholders by approving the action of the board of 
 directors approved and, in fact, authorized the action of the 
 treasurer in uniting and selling the fractional shares and paying • 
 over the proceeds therefrom to those stockholders entitled there- 
 to, and that those stockholders entitled to receive fractional 
 shares, but who actually received cash representing their portion 
 of the proceeds of the sale of the fractional shares should com- 
 pute the gain or loss thereon under the rules stated above."" It 
 has been held that stockholders receiving a stock dividend upon 
 stock purchased at different times subsequent to February 28, 
 1913, and at different prices, may not use as a basis for com- 
 puting gain or loss upon the sale of such dividend »tock, the 
 quotient of the total cost of the purchased stock divided by the 
 total number of old and new shares added together. Each share 
 of dividend stock sold must be allocated to a particular lot of 
 purchased stock and the basis for determining gain or loss upon 
 the sale of any such stock shall be determined by using the 
 cost of the shares to which such dividend share has been allocated. 
 If the particular lots can not be identified, the provisions of 
 (3) above must be followed. If, however, the taxpayer is able 
 to identify his various purchases, he may allocate, according to 
 his wishes, the stock received as a dividend, except that no share 
 of purchased stock may, for the purpose of this computation, 
 be credited with more than its proportionate share of the divi- 
 dend stock. In computing the gain or loss upon the sale of the 
 purchased stock it is held that the same basis must be used in 
 each case as is used in computing the gain or loss resulting from 
 the sale of dividend stock allocated to the particular lot of pur- 
 chased stock which is sold."i 
 
 Stock Dividends Resulting From Revaluation of Assets. 
 When stock received in payment of a dividend resulting from a 
 revaluation of assets or stock in respect of which any such divi- 
 dend was paid, is sold, the cost of each share of stock, whether 
 old or new, for the purpose of ascertaining the gain or loss re- 
 sulting from its sale, is the quotient of the cost of the old stock, 
 if acquired on or after March 1, 1913, or its fair market price or 
 value as of that date if acquired prior thereto, divided by the 
 number of old and new shares added together. The profit so as- 
 certained from the sale of such stock is income subject to both 
 normal and surtax in the year in which the sale is made."^ 
 
 110 0. D. 781, T. B. 5-21-1412. 
 
 111 O. D. 735, T. B. 48-20-1319. 
 
 112 T. D. 2734; S. 1081, T. B. 11-19-368; A. R. R. 6, T. B. 30-19-684. 
 
INCOME FROM DIVIDENDS 537 
 
 Taxation of Dividends at Rates in Force in Previous Years. 
 Under the 1916 Law, as amended, the rate of tax on dividends 
 received in 1917 depended upon the year in which the amount 
 distributed as dividends was earned by the paying corporation. 
 The law provided expressly that the dividends should be a part 
 of the annual income of the distributee for the year in which 
 received, but should be taxed to the distributee at the rates pre- 
 scribed by law for the years in which such profits or surplus 
 were accumulated by the corporation.^i^ This provision was 
 limited to stock dividends under the 1918 Law, and since such 
 dividends were held exempt from tax, the provision has no appli- 
 cation under that law.^" It is also inapplicable under the present 
 law, which taxes all dividends at the rates in force in the year 
 in which they are actually or constructively received. 
 
 113 Revenue Act of 1916, § 31, added to by Revenue Act of 1917. 
 iw Revenue Act of 1918, §201. 
 
CHAPTER 20 
 RECEIPTS AND INCOME FROM MISCELLANEOUS SOURCES 
 
 After specifying a number of sources of income, the Revenue 
 Act of 1921, like the Revenue Act of 1918, provides that the 
 gross income of the taxpayer shall include gains or profits and 
 income derived from any source whatever.^ In this chapter are 
 set forth the rulings on income from sources not covered by the 
 preceding chapters and on certain receipts which are not income. 
 The principal change made by the Revenue Act of 1921 dis- 
 cussed in this chapter is the new statutory provision for replace- 
 ment funds which, it will be noted, differs from the rule hereto- 
 fore established by departmental practice and is made retro- 
 active. Other less important changes are the partial exemption 
 of dividends on interest from building and loan associations, 
 the exemption of war pensions, and the provision with regard 
 to an employees' profit-sharing fund. 
 
 Alimony. Alimony is not income, as it does not arise from any 
 business transaction, and is not founded on any contract, but on 
 the natural and legal duty of the husband to support the wife.^ 
 An allowance based on a separation agreement is also exempt 
 from tax.3 It follows that the husband cannot deduct amounts 
 paid as alimony or an allowance paid under a separation agree- 
 ment from his gross income for the purpose of the tax.^ 
 
 Amount Paid for Option to Purchase Interest in Royalties. An 
 amount paid simply to bind an option to purchase an interest 
 in royalties to be derived from certain patents, which does not 
 affect the ownership of the patents, is income and not a return 
 of the capital invested in the patents.^ 
 
 Amount Received by Tenant as Com|>ensation for Vacating 
 Premises. A sum of money paid to a taxpayer pursuant to an 
 agreement reached upon the termination of a leasehold con- 
 tract before its expiration, and for the purpose of defraying a 
 personal expense in the nature of storage charges upon the tax- 
 
 1 Revenue Act of 1921, § 213 (a) ; Revenue Act of 1918, § 213 (a) . 
 
 2 Gould V. Gould, 245 U. S. 151. This decision reversed the ruling of 
 the treasury department on the point. It may not be deducted by the hus- 
 band (see Chapter 20). 
 
 3 Reg. 45, Art. 73. 
 
 4 Reg. 45, Art. 291. 
 
 5 0. D. 1028, T. B. 37-21-1813. 
 
 538 
 
INCOME FROM MISCELLANEOUS SOURCES 539 
 
 payer's household goods, constitutes an item of gross income 
 within the meaning of the statute.^ 
 
 Cancelled Debts. The cancellation and forgiveness of indebt- 
 edness is dependent on the circumstances for its effect J It may 
 amount to a payment of income or to a gift or to a capital 
 transaction. If, however, a creditor merely desires to benefit a 
 debtor and without any consideration therefor cancels the debt, 
 the amount of the debt is a gift from the creditor to the debtor 
 and need not be included in the latter's gross income. If a stock- 
 holder in a corporation which is indebted to him gratuitously 
 forgives the debt, the transaction amounts to a contribution to 
 the capital of the corporation.^ Transactions involving the 
 rendering of returns in consideration of the cancellation of an 
 indebtedness are treated elsewhere in this book.^ 
 
 Involuntary Sale. In general, profits actually realized through 
 the sale of property are not exempt because the sale was in- 
 voluntary. An involuntary sale constitutes a closed and com- 
 pleted transaction for the purpose of determining gain or losSj^" 
 unless the taxpayer proceeds to establish a replacement fund.^^ 
 Where property owned by an estate was in 1906 listed by a 
 city to be condemned for public purposes, but was not destroyed 
 until 1917, during which year a verdict was rendered awarding 
 the estate an amount, with interest at the rate of 6 % per annum 
 from 1906, mandamus proceedings being instituted to enforce 
 the settlement of this award, and in 1920 the estate received 
 payment of the face value of the claim, together with interest 
 accrued since 1906, and costs, it has been held that as the tax- 
 payer had a claim on March 1, 1913, for the payment of this 
 amount with interest accrued to that date, the measure of tax- 
 able income is the difference between the fair market valite 
 of the claim for the principal and interest on March 1, 1913, 
 and the sum actually received representing such principal and 
 accrued interest. The cost of mandamus proceedings was a 
 replacement of the amount expended by the estate in the col- 
 lection of a due debt and should not be included in the gross 
 income of the estate. However, the cost of such mandamus 
 
 6 A. R. R. 617, T. B. 37-21-1812. 
 
 7 Reg. 45, Art. 51. See Great Northern Ry. Co. v. Lynch, T. D. 3147, 
 T. B. 13-21-1532, in which it was held under the 1909 Law that unpaid obli- 
 gations written oflF the books because of the running of the statute of limita- 
 tions constituted Income in the year written off. 
 
 8 U. S. V. Oregon-Washington, etc. Co., 251 Fed. 211. 
 
 9 See Chapter 15. 
 
 10 A. R. R. 1, T. B. 25-19-587. 
 
 11 See paragraph "Replacement t'und for Loss.'' 
 
540 ' FEDERAL INCOME TAX 
 
 proceedings can not be taken as a deduction in computing net 
 income of the estate for the year in which expended.^^ The 
 requisition of property by the government in 1917 for war uses 
 and payment therefor of a price named by the commission of the 
 war department is considered a sale or other disposition of 
 property.13 
 
 Compensation for Loss. In the case of property which has been 
 lost or destroyed in whole or in part through fire, storm, ship- 
 wreck, or other casualty, or where the owner of property has lost 
 or transferred title by reason of the exercise of the power of 
 requisition or eminent domain, including cases where a volun- 
 tary transfer or conveyance is induced by reason of the fact that 
 a technical requisition or condemnation proceeding is immi- 
 nent,^* that amount received by the owner as compensation for 
 the property which is in excess of the cost of the property con- 
 stitutes gain. However, the gain which is taxable in the case 
 where the property was acquired before March 1, 1913, and 
 its fair market value as of that date was greater than its cost, 
 is the excess over such value of the amount received. No taxable 
 gain results when the amount received is more than the cost, 
 but less than the fair market value of the property as of March 
 1, 1913. In any case proper provision must be made for de- 
 preciation to the date of the loss, damage, or transfer. The 
 transaction is not regarded as completed at this stage, however, 
 if the taxpayer proceeds immediately in good faith to replace 
 the property, or if he makes application to establish a replace- 
 ment fund as provided in the following paragraph. In such a 
 case, under the regulations issued under the 1918 Law, the gain, 
 if any, was measured by the excess of the amount received over 
 the amount actually and reasonably expended to replace or re- 
 store the property substantially in kind, exclusive of any ex- 
 penditures for additions or betterments. The new or restored 
 property effects a replacement in kind only to the extent, that 
 it serves the same purpose as the property which it replaces 
 without added capacity or other element of additional value. 
 Such new or restored property may not be valued in the accounts 
 of the taxpayer at an amount in excess of the cost, or its value 
 as of March 1, 1913, if acquired before that date and such value 
 as of such date is higher than the cost (after making proper pro- 
 vision in either case for depreciation to the date of the loss, 
 
 12 O. D. 591, T. B. 29-20-1071. 
 
 13 0. D. 897, T. B. 18-21-1604. See p. 543, however, as to establishing 
 a replacement fund in such cases. 
 
 14 See A. R. M. 101, T. B. 50-20-1341. 
 
INCOME FROM MISCELLANEOUS SOURCES 541 
 
 damage or transfer), of the original property, plus the cost 
 of any actual additions and betterments. If the taxpayer does 
 not elect to replace or restore the property, the transaction will 
 then be deemed to be completed and the gain will be the differ- 
 ence between the cost of the property and the amount of the 
 compensation received. If such property was acquired prior to 
 March 1, 1913, and its fair market value as of that date was 
 greater than such cost, the taxable gain will be the excess over 
 such fair market value of the amount of the compensation re- 
 ceived. However, no gain will be taxable when the amount 
 received is more than the cost of such property, but less than 
 its' fair market value as of March 1, 1913. In any event proper 
 provision must be made for depreciation to the date of the loss, 
 damage, or transfer. This ruling has no application to property 
 which is voluntarily sold or disposed of.^^ It applies to resi- 
 dential and farming property .!•' 
 
 Compensation for Loss Under 1921 Law. The above ruling 
 was not made under any specific provision of the 1918 Law, 
 but there has been embodied in the Revenue Act of 1921 the 
 following provision: If property is compulsorily or involun- 
 tarily converted into cash or its equivalent as a result of (a) 
 its destruction in whole or in part, (b) theft or seizure, or (c) 
 an exercise of the power of requisition or condemnation, or the 
 threat or imminence thereof; and if the taxpayer proceeds 
 forthwith in good faith, under regulations prescribed by the 
 Commissioner with the approval of the secretary, to expend 
 the proceeds of such conversion in the acquisition of other 
 property of a character similar or related in service or use to 
 the property so converted, or in the acquisition of 80 per centum 
 or more of the stock or shares of a corporation owning such 
 other property, or in the establishment of a replacement fund, 
 then there shall be allowed as a deduction such portion of the 
 gain derived as the portion of the proceeds so expended bears 
 to the entire proceeds. The Act provides that this provision 
 prescribing the conditions under which a deduction may be 
 taken in respect of the proceeds or gains derived from the com- 
 pulsory or involuntary conversion of property into cash or its 
 equivalent, apply "so far as may be practicable to the exemption 
 or exclusion of such proceeds or gains from gross income under 
 prior income, war-profits and excess-profits tax acts."^'' It will 
 
 15 Reg. 45, Art. 49, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 16 0. D. 513, T. B. 21-20-949. 
 
 17 Revenue Act of 1921, §§214 (a) 12 and 234 (a) 14. See also Revenue 
 Act of 1921, § 202 (d) 2. 
 
542 FEDERAL INCOME TAX 
 
 be seen that the provision of the 1921 Law changes the basis for 
 determining gain or loss from such transactions. Under the 
 regulations promulgated under the 1918 Law, the cost of the 
 property was disregarded and the gain was the excess of the 
 amount received for the property over the amount expended in 
 the replacement thereof. Under the present law the gain or 
 loss is first computed by taking the difference between cost and 
 the amount received for the property. From the gain (if any)^ 
 a deduction may be taken of that portion of such gain which 
 the portion of the amount expended in replacement bears to the 
 entire amount received. Thus, under the 1918 Law, if a tax- 
 payer received $100,000 for his property and replaced it by an 
 expenditure of $80,000, his taxable gain was $20,000, irrespec- 
 tive of the cost of the property. Under the present law, if the 
 property cost $70,000, $100,000 was received for it and $80,000 
 was spent in replacing it, the gain would be $30,000, but there 
 may be deducted from such gain 4/5 thereof, leaving a taxable 
 gain of $6,000. This new provision may, in some cases, pro- 
 vide much greater relief than was formerly granted and it would 
 seem that taxpayers will be allowed to recompute such gains 
 and if they are reduced by the application of the new method 
 may be allowed a credit or refund of any excess taxes previously 
 paid. 
 
 In addition, the 1921 Law permits taxpayers, instead of 
 actually replacing the lost or converted property, to take advan- 
 tage of the above provision by acquiring 80% or more of the 
 stock or shares of a corporation owning such property similar 
 or related in service or use to the property converted. 
 
 Rulings Under 1918 Law. The following rulings were made 
 under the 1918 Law, upon the subject discussed in the previous 
 paragraphs : 
 
 (1) An amount in excess of recovery for loss expended for 
 replacement of an asset "in kind" is not deductible as a loss 
 when the entire fund so recovered is equal to or greater than 
 the book value of the asset. Thus, where the cost of the asset 
 is $5,000, the replacement cost $5,000 and the recovery $4,000, 
 there is a deductible loss of $1,000, but where the cost of the 
 asset is $5,000, the replacement cost $11,000, and the recovery 
 $10,000 the taxpayer may not deduct $1,000 (the difference be- 
 tween the replacement cost and the amount of recovery) as a 
 loss. This excess is to be treated as a capital expenditure which 
 is recoverable through depreciation deductions.^^ 
 
 ISA. R. M. 122, T. B. 18-21-1607. 
 
INCOME FROM MISCELLANEOUS SOURCES 543 
 
 (2) Where a taxpayer elects to replace a vessel by one some- 
 what larger, so long as the general type of the boat is the same 
 as the boat lost or destroyed, it may fairly be taken as a replace- 
 ment in kind, insofar as it equals the tonnage of the original 
 vessel. There should be charged against the replacement fund 
 only such portion of the cost of the new vessel as would represent 
 the cost of a boat of the carrying capacity of the old vessel, 
 with allowance for depreciation .^^ 
 
 (3) Where the government, having requisitioned vessels from 
 a taxpayer for use in the war, returns the same vessels in an 
 unfit condition for their former use, giving the taxpayer a sum 
 of money in lieu of restoration, the vessels are deemed to be 
 substantially different property from that taken from the tax- 
 payer, and the taxpayer may elect to sell the vessels returned 
 and place the proceeds, together with the money paid in lieu of 
 restoration, in a replacement fund.^" 
 
 (4) Where the owner of a requisitioned tug uses the proceeds 
 to buy barges, he does not replace in kind within the meaning of 
 the above rulings.^i 
 
 (5) The purchase of a steamship from a subsidiary, from 
 the replacement fund of another subsidiary, can not be con- 
 sidered a replacement in view of the provisions of the income- 
 tax law governing the taxation of affiliated corporations.^^ 
 
 Replacement Fund for Loss. The 1921 Law gives the Commis- 
 sioner, with the approval of the secretary, authority to make 
 regulations respecting the use of replacement funds.^s The fol- 
 lowing regulation was issued under the 1918 Law : 
 
 In any case in which the taxpayer elects to replace or restore 
 the lost, damiaged or transferred property, but where it is not 
 practicable to do so immediately, he may obtain permission to 
 establish a replacement fund in his accounts in which the entire 
 amount of the compensation so received shall be held without 
 deduction for the payment of any mortgage, and pending the 
 disposition thereof the accounting for gain or loss thereupon 
 may be deferred for a reasonable period of time, to be deter- 
 mined by the Commissioner.^* In such a case the taxpayer 
 
 19 T. B. M. 61, T. B. 15-19-443. 
 
 20 T. B. R. 41, T. B. 12-19-400. 
 
 21 0. 914, T. B. 20-19-504. 
 
 22 A. R. M. 142, T. B. 48-21-1942. See Chapter 10. 
 
 23 Revenue Act of 1921, §§214 (a) 12 and 234 (a) 14. 
 
 24 The period during which the replacement fund may be maintained 
 may properly be limited to one year with the privilege of the taxpayer 
 to apply at the end thereof for a further extension (T. B. M. 61, T. B. 
 15-19-443). 
 
544 FEDERAL INCOME TAX 
 
 should make application to the Commissioner on Form 1114 for, 
 permission to establish such a replacement fund and in his ap- 
 plication should recite all the facts relating to the transaction, 
 including the nature of the property, the character and extent 
 of the loss, the manner and date of securing compensation, the 
 date of acquisition of the property and its cost or fair value 
 on March 1, 1913, the amount of compensation, the amount 
 necessary to make the damage good, a description of the replace- 
 ment intended and the steps already taken to that end, the prob- 
 able date of compensation, the estimated additional excess- 
 profits and income taxes assessable upon the income carried to 
 the replacement fund, and all other matters which might affect 
 a determination. He must undertake that he will proceed as 
 expeditiously as possible to replace or restore such property. 
 The taxpayer will be required to furnish a bond with such surety 
 as the Commissioner may require for an amount not less than 
 the estimated additional income and war-profits and excess- 
 profits taxes assessable by the United States upon the income 
 so carried to the replacement fund. The estimated additional 
 taxes, for the amount of which the claimant is required to fur- 
 nish security, should be computed at the rates at which the 
 claimant would have been obliged to pay, taking into considera- 
 tion the remainder of his net income and resolving against him 
 all matters in dispute affecting the amount of the tax. Only 
 surety companies holding certificates of authority from the sec- 
 retary of the treasury as acceptable sureties on federal bonds 
 will be approved as sureties. The application should be exe- 
 cuted in triplicate, so that the Commissioner, the applicant and 
 the surety or depositary may each have a copy. This ruling has 
 no application to property which is voluntarily sold or disposed 
 of.25 
 
 Damages in Personal Actions. Damages in the form of yearly 
 payments throughout the life of the injured party, recovered 
 through the compromise of a threatened suit for breach of 
 promise of marriage, are not regarded as a return of capital 
 since the benefits of which the injured party was deprived were 
 merely anticipatory. Such payments are within the statutory 
 
 25 Reg. 45, Art. 50; see Form 1114. Prior to the promulgation of this 
 regulation, the taxpayer, at his option, might, in lieu of furnishing a bond 
 as above indicated, deposit as security for the estimated additional amount 
 of tax, obligations of the United States issued after September 1, 1917, 
 such obligations to be held in trust in a bank or trust company approved 
 by the Commissioner (T. D. 2706). See Revenue Act of 1921, § 1329 as to 
 deposit of Liberty bonds in lieu of sureties. 
 
INCOME FROM MISCELLANEOUS SOURCES 545 
 
 definition of income and are taxable to the recipient.^^ The 
 alienation of a wife's affections is not such a personal injury 
 as to entitle the recipient of damages therefor to exemption as 
 to such damages. However, so far as such damages represent 
 compensation for sickness resulting from the alienation, they are 
 exempt.27 Money recovered as damages, in libel proceedings is 
 subject to tax.28 
 
 Embezzled Moneys. It has- been held that moneys embezzled 
 are not such income as the law intended to tax.^^ 
 
 Income from Employees' Profit-Sharing Fund. Where the 
 members of a firm establish an employees' profit-sharing fund 
 by transferring a given sum of money to certain employees in 
 trust, such fund being invested in the business of the firm and 
 the interest paid annually to a certain class of employees, who 
 hold certificates entitling them to participate in the profits of 
 the fund, such certificates being subject to cancellation at the 
 pleasure of the firm, the income from the fund was held, under 
 the 1918 Law, to be taxable as a part of the firm's income.^" 
 Under the Revenue Act of 1921, amounts distributed to em- 
 ployees from such funds are taxable to the distributees to the 
 extent of the excess of the amounts received over amounts paid 
 in by such employees .^i 
 
 Excess of Salvage Value of Discarded or Destroyed Property 
 Plus Depreciation Allowances Over Cost. When property is dis- 
 carded and salvaged, the depreciation allowance plus the salvage 
 value may slightly exceed or fall slightly below the cost of the 
 property. In the case of a gain over cost this must be treated 
 as income. If the depreciation allowance plus salvage falls be- 
 low the cost, the difference may be treated as a loss. The fact 
 that a taxpayer in past years neglected to allow for sufficient 
 depreciation does not make the resulting discrepancy between 
 the book values of equipment and its salvage value at the time 
 it is retired from service deductible as a loss. In such cases the 
 taxpayer may avail himself of a larger deduction for deprecia- 
 
 26 O. D. 501, T. B. 20-20-931. 
 
 27 S. 1384', T. B. 24-20-997. Though the alienation of a wife's affections 
 is a personal injury (Leicester v. Hoadley, 66 Kans. 113, 71 Pac. 318; 
 Tinker v. Colwell, 193 U. S. 473, 487), the term "personal injuries" in 
 § 213 (b) 6, is held to mean physical injuries only. 
 
 28 S. 957, T. B. 1-19-21. 
 
 29Eau V. U. S., 260 Fed. 131, 136. 
 
 30 S. 1329, T. B. 9-20-766. 
 
 31 Revenue Act of 1921, §219 (f). 
 
546 FEDERAL INCOME TAX 
 
 tion by submitting amended returns for previous years, and 
 
 showing that the previous depreciation rate was not reason- 
 able.22 
 
 Income of Independent Contractor from State Contract. Any 
 
 profit received from a state or political subdivision thereof by 
 an independent contractor is taxable income. Where warrants 
 are issued by a city, town or other political subdivision of a 
 state, and are accepted by the contractor in payment for public 
 work done, the face value of such warrants must be returned 
 as income. If, for any reason, the contractor upon conversion 
 of the warrants into cash does not receive and can not recover 
 the full face value of the warrants so returned, he may allow- 
 ably deduct from gross income for the year in which the war- 
 rants are converted into cash any loss sustained.^s 
 
 Increment to Sinking Funds. Where a sinking fund is set 
 aside for the purpose of meeting obligations at a future date, all 
 increment to that fund as a result of investments is income to 
 the creator of the fund. Where a sinking fund, controlled by 
 trustees, has been invested in the bonds of the corporation which 
 created the fund, and the corporation pays the trustees interest 
 on such bonds, the amount thereof may be deducted as if paid 
 to any other bondholders, but the same amount must be included 
 as income to the corporation from the sinking fund.^* 
 
 Labor Union Benefits. Benefits paid by a labor union to mem- 
 bers during a strike constitute taxable income.^^ 
 
 Legacies. A legacy is a gift and the value thereof is not con- 
 sidered income to the recipient, but all income from the legacy 
 is taxable. Unless clearly inconsistent with the intention of the 
 testator, a legacy is held to be vested rather than contingent, and 
 where there is a vested interest the income therefrom, whether 
 distributed or not, is subject to the tax from the time of death 
 of the testator, as income of the legatee.^^ 
 
 Payment of Claims. In the case of an estate which on March 
 '1, 1913, owned a claim against some individual or business or 
 government organization, the difference between the amount 
 received in payment of the claim and the actual value of the 
 claim March 1, 1913, is either gain or loss, as the case may be, 
 to be reported in the return for the year in which the claim 
 
 32 S. 1217, T. B. 30-19-639. This decision appears to have been based 
 upon the 1913 Law. 
 
 33 Reg. 45, Art. 37; Reg. 83 Rev., Art. 108. 
 
 34 T. D. 2161. 
 
 35 O. D. 552, T. B. 25-20-1011. 
 
 36 T. D. 2090. 
 
INCOME FROM MISCELLANEOUS SOURCES 547 
 
 was settled. Interest accrued on the claim from March 1, 1913, 
 to date of settlement is taxable income to the estate. If pay- 
 ment was received in securities whith can be proved to have 
 been worth less than face value, the amount to be reported as 
 taxable income is reduced accordingly. If the securities are 
 sold, taxable income will be realized or a deductible loss sus- 
 tained to the extent of the difference between the amount re- 
 ceived from the sale and the actual value of the securities at the 
 time acquired.3''^ 
 
 Payments Received Through Mistake. If a taxpayer receives, 
 through mistake, an amount in payment of a contract in excess 
 of the amount agreed upon in the contract, the excess is not 
 taxable income. It is in the nature of a liability to the party 
 with whom the contract was made.^s 
 
 Pensions. Pensions and retiring allowances paid by the United 
 States government are subject to the income tax,^^ as also are 
 pensions paid by any other government, or by any private inter- 
 est, under any contract express or implied. If, however, a so- 
 called "pension" is a mere gratuity or gift it is not taxable as 
 income to the recipient. When one enters the service of an 
 employer who has inaugurated a pension system, such system 
 is one of the inducements for entering the employment, and in 
 such circumstances the fact that the pension is part of the com- 
 pensation received, and not a gift, is very clear. Even when 
 the pension is granted after the employment has been com- 
 menced and without any compulsion, legal or moral, of the em- 
 ployer, it may still fairly be regarded as additional compensa- 
 tion. When the pensions are awarded by one to whom no 
 services have been rendered and who has received no direct 
 benefit from the services rendered, they can not be regarded 
 as additional compensation.*" Thus, pensions paid by the United 
 States government to widows of soldiers, as such, were held 
 under the 1918 Law not to be taxable income for the reason 
 that such pensions are not awarded as compensation for services 
 rendered to the United States government by the widows and 
 are mere gifts or gratuities.*^ The Revenue Act of 1918 ex- 
 pressly provides that pensions from the United States for 
 service of the beneficiary or another in the military or naval 
 
 37 0. D. 6, T. B. 1-19-11. 
 
 38 0. D. 14, T. B. 1-19-26. 
 
 39 Reg. 45, Art. 32; T. D. 2090. 
 
 40 O. 1040, T. B. 28-20-1051. 
 •tiO. D. 957, T. B. 26-21-1701. 
 
548 FEDERAL INCOME TAX 
 
 forces of the United States in time of war are exempt.*^ Where 
 an insurance company entered into a contract with one of its 
 employees agreeing in thd event of the death of the latter to 
 pay to his widow for a period of five years all renewal premiums 
 on business originated by him it has been held that such pre- 
 miums constitute taxable income to the widow.*^ 
 
 There is no essential difference in the payments to teachers 
 and the widows of teachers by the Carnegie Foundation for the 
 advancement of teaching from those made to indigent persons 
 by ordinary charitable societies, and they are, therefore, mere 
 gifts or gratuities. The fact that they take the form of pensions 
 and are within the dictionary definition of the term "pension" 
 does not take them out of the definition of the term "gift." 
 The terms "pension" and "gift" are not mutually exclusive. The 
 same payments may be both pensions and gifts.** 
 
 Property Acquired by Gift. The value of property acquired 
 by gift, bequest, devise or descent (but not the income from 
 such property) is exempt. Such property need not be reported 
 as income by the recipient.*^ Money and real or personal prop- 
 erty received as gifts, or received under a will or under statutes 
 of descent and distribution, are exempt from tax, although the 
 income therefrom derived from investment, sale or otherwise 
 is not.*^ The question whether or not a given transaction con- 
 stitutes a bona fide gift, so as to make the income from the prop- 
 erty transferred taxable to the donee rather than to the donor, 
 will depend upon the intention of the parties.*'^ 
 
 The following have been held to be gifts: (1) An amount 
 of principal paid under a marriage settlement. (2) Christmas 
 presents, gratuities, voluntary contributions and donations. An 
 exception, however, is made in the case of clergymen.^s (3) 
 Donations made to employees and others, which do not have in 
 them the element of compensation or are in excess of reasonable 
 compensation for services,*" including the salary of an employe 
 
 42 Revenue Act of 1921, §213 (b) (9). 
 
 43 A. R. M. 115, T. B. 11-21-1505. 
 
 44 O. 1040, T. B. 28-20-1051, overruling T. B. 2-20-670. See In re Strong 
 
 1 Tax Cas. 207; Blakeston v. Cooper, 5 Tax Cas. 347; Turner v. Cuxson, 
 
 2 Tax Cas. 422; Turton v. Cooper, 5 Tax Cas. 148. 
 
 45 Revenue Act of 1921, §§213 (b) and 233; Revenue Act of 1918, §§213 
 (b) and 233. 
 
 46 Reg. 45, Art. 73. 
 
 47 A. R. R. 367, T. B. 4-21-1405. 
 
 48 See Chapter 15. 
 
 49 Reg. 45, Art. 107. For a discussion of so-called gifts which are in fact 
 payment for services see Chapter 22. 
 
INCOME FROM MISCELLANEOUS SOURCES 549 
 
 paid for a limited period after his death to a relative or dependent, 
 in recognition of the services rendered by the employee, no serv- 
 ices being rendered by the recipient.^o (4) An amount returned 
 by an employee to a corporation as part of his compensation 
 previously received under a valid contract.^i (5) Installments 
 paid to beneficiaries under an endovsi'ment policy taken "out by 
 another, but any dividends included in such installments will be 
 taxable to the beneficiaries.^^ (6) Personal transportation passes 
 issued by a railroad company to its employees and their families, 
 to be used when not engaged on business for the company, and 
 which are not provided for in the contracts of employment.^^ 
 
 Of course, any amount paid by one person out of his income 
 to another, as a gift, is not deductiblfe from the gross income 
 of the giver.54 An owner of non-tax-free Liberty bonds who 
 has made an absolute gift of the coupons attached to the bonds 
 covering interest due for a number of years will be required 
 to include in his return the interest which accrues each year 
 on the bonds, and to pay any tax that may be due thereon.^^ 
 Where an executor receives a bequest conditioned upon his con- 
 tinuous performance of duties as executor, such a bequest will 
 be deemed compensation for his services, although it is ex- 
 pressly additional to the executors' legal commissions.^s 
 
 Rights to Subscribe to Stock. The Treasury Department has 
 held that where a stockholder acquires the right to subscribe 
 to new stock of the corporation and sells that right the amount 
 received is income.^''' If he exercises the right, it was held that 
 
 50 T. D. 2090; Reg. 33, Art. 6; O. D. 1017, T. B. 36-21-1798. 
 
 51 O. D. 1073, T. B. 43-21-1882. 
 
 52 0. D. 1108, T. B. 47-21-1931. 
 
 53 O. D. 946, T. B. 24-21-1685. 
 
 54 See 0. D. 912, T. B. 20-19-505. 
 
 55 0. D. 120, T. B. 3-19-181. 
 
 56 O. 980, T. B. 4-20-700. This ruling is based upon the theory that the 
 bequest is, in effect, additional compensation for services as executor. 
 
 The law taxes compensation for personal services "in whatever form 
 paid" (Revenue Act of 1921, §213; Revenue Act of 1918, §213). Not- 
 withstanding this comprehensive clause, the ruling seems a doubtful inter- 
 pretation of a statute which expressly exempts bequests. (See BuUen v. 
 Wisconsin, 240 U. S. 625.) 
 
 STReg. 45, Art. 39, as amended by T. D. 3206, T. B. 33-21-1767; T. B. 
 M. 73, T. B. 19-19-495;. Letter from treasury department dated February 
 27, 1915, I. T. S. 1918, H 420. In Trefry v. Putnam, 227 Mass. 522, 116 N. 
 E. 904, in which the court held that gains derived from a sale of rights to 
 subscribe for new shares of stock were taxable as income under the Mass- 
 achusetts Income Tax Law, the court said in part: "Such rights are them- 
 selves a species of intangible property. They come to the stockholder as a 
 gratuity. They are a new thing of value which he did not possess before. 
 
550 FEDERAL INCOME TAX 
 
 no income accrues until the stock subscribed for is sold. In a 
 recent easels decided by a district court, this principle laid down 
 by the treasury department has been considerably modified. In 
 this case the court held that the decision of the Massachusetts 
 court^s upon which the ruling of the department was based was 
 no longer persuasive since the decision of the Supreme Court, 
 holding^" that stock dividends are not income. In this case the 
 taxpayer acquired 35 shares of stock at $710 per share. The 
 capital stock of the company was doubled and the taxpayer was 
 given the right to subscribe to 35 more shares for $150 per 
 share, and sold his rights for $358.48 per share. The court 
 held that the entire amount derived from the sale of such rights 
 was not income. The court said in part : "The plaintiff in the 
 right of every share it held and which had cost it $710, could, 
 by paying $150 a share more, get another, so that it would have 
 two, which in the aggregate would have cost it $860 or $430 
 apiece. There would be no way of distinguishing between the 
 old and the new. If the latter was something which had not 
 before existed almost the same might be truthfully said of the 
 former. Its characteristics had undergone a great change. 
 Before the issue of the new stock, it represented one twenty- 
 thousandth of the capital of the company; afterwards it stood 
 for but only forty-thousandths. Moreover, if the plaintiff had, 
 in person, taken the new stock, and had had its old and new 
 consolidated into one certificate, and had subsequently sold a 
 part of its holdings, it could not say that that with which it 
 parted was out of the old or out of the new, or partly out of 
 both. In determining its cost for the calculation of the profit or 
 loss upon resale, it would be necessary to assume that they had 
 one and all cost the holder an equal amount, which in the case 
 of the plaintiff here was $430 a share." In selling the rights, 
 a part of the consideration was that the buyer should assume 
 the payment of the $150 per share so that the taxpayer really 
 
 The amount for which he sells them is a gain. * * * xhey are not 
 regarded ordinarily as a profit from the prosecution of the business, but 
 are an inherent and constituent part of the shares. * * * Their 
 sale resulted from an exercise of judgment to that effect on the part of 
 the stockholder. They are indistinguishable in princijrte from a sale of the 
 stock itself, and gains derived from sales of such rights fall within thu 
 same class of income. The statute in this regard is not in conflict with 
 the amendment." 
 
 58 Safe Deposit & Trust Co. of Baltimore v. Miles, U. S. Dist. Ct., Dist. 
 of Md., decided May ,26, 1921; I. T. S. 1921, If 3033. 
 
 59 Trefry v. Putnam, 227 Mass. 522, 116 N. E. 904. 
 
 60 See Chapter 19. 
 
INCOME FROM MISCELLANEOUS SOURCES 551 
 
 received $150+$358.48, or $508.48 for each share. The gain 
 made on each share on the transaction was, therefore, the differ- 
 ence ($78.48) between the amount so received ($508.48) and 
 the cost of each share ($430) . Thirty-five shares were still held 
 by the taxpayer and when they are sold the profit on each share 
 will be the amount by which the selling price per share exceeds 
 $430. 
 
 Sale of Good-Will. Where a corporation sells its assets, in- 
 cluding good-will, to a competing corporation, one condition to 
 the sale being an agreement by the president of the vendor cor- 
 poration not to engage in similar business, for which he is paid 
 a money consideration, the amount so received by the president 
 does not represent a conversion of capital, but is income for the 
 year of its receipt.^^ 
 
 Sale of War-Savings Stamps. Income received by an indi- 
 vidual or corporation due to selling war-savings stamps at the 
 appreciated value should be reported as income for the year 
 in which the sales were consummated.^^ 
 
 Shares in Building and Loan Association. The 1921 Law con- 
 tains a new provision which exempts so much of the amount re- 
 ceived by an individual after December 31, 1921, and before 
 January 1, 1927, as dividends or interest from domestic build- 
 ing and loan associations, operated exclusively for the purpose 
 of making loans to members, as does not exceed $300.®^ In gen- 
 eral, an amount credited to shareholders of a building and loan 
 association, when such credit passes without restriction to the 
 shareholder, has a taxable status as income for the year of the 
 credit. Where the amount of such accumulation does not be- 
 come available to the shareholder until the maturity of a share, 
 the amount of any share in excess of the aggregate amount paid 
 in by the shareholder is income for the year of the maturity 
 of the share.''* If a building and loan association subscription 
 was made prior to March 1, 1913, and the share subscribed for 
 had a cash surrender value on March 1, 1913, and any year 
 thereafter in excess of the amount paid in by the shareholder, 
 the determination of any profit realized at the time of cash 
 surrender or for the year of the maturity of the share will be 
 
 610. D. 668, T. B. 39-20-1210; L. 0. 1045, T. B. 41-20-1231; A. R. R. 250, 
 T. B. 34-20-1157. 
 
 62 O. D. 21, T. B. 1-19-33. 
 
 63 Revenue Act of 1921, §213 (b) (10). 
 
 64 Reg. 45, Art. 54 ; Letter from treasury department dated February 8, 
 1917; L T. S. 1919, 11949. 
 
552 FEDERAL INCOME TAX 
 
 based on the proceeds in excess of the cash surrender value as 
 of March 1, 1913, plus the aggregate amount paid in subsequent 
 thereto.85 
 
 Taxes on Profits from Sale of Property Paid by Vendee. In a 
 
 case where the vendee of a business agrees that in addition to 
 the purchase price he will pay the income and excess-profits 
 taxes of the vendor arising from the sale of such business, it 
 has been ruled that such taxes paid by the vendee constitute 
 additional taxable income to the vendor.^G 
 
 Tax Paid by Debtor on Account of Tax-Free Covenant Bond. 
 Under the 1918 Law, it was held that where a debtor corpora- 
 tion, in pursuance of a tax-free covenant clause in its bonds 
 paid the 2% normal tax, the amount of the tax paid by the cor- 
 poration was income to the bondholder. The obligor, in pur- 
 suance of a contract voluntarily entered into guaranteed to 
 pay a direct liability of the taxpayer which consisted in paying 
 a certain amount of normal tax for him to the government. The 
 reduction of the payment of his tax liability under such a con- 
 tract was held to constitute income to him by reducing his ex- 
 penditures in that amount. The fact that the amount of the 
 liability was paid direct to the government instead of to the 
 taxpayer, did not preclude such an amount from constituting 
 income to the taxpayer."^ The Revenue Act of 1921, however, 
 expressly provides that the amount of such taxes shall not be 
 included in the gross income of the obligee.^^ 
 
 Compensation by Insurance. Insurance money is clearly a sub- 
 stitute for the assets lost or destroyed. If the insurance money 
 is in excess of the cost of the property it may be used to restore 
 the property or be placed in a fund for that purpose for a rea- 
 sonable time until restoration can be made, final accounting for 
 tax on the excess over the amount actually and reasonably ex- 
 pended to replace or restore the property substantially in kind, 
 being deferred until the restoration or replacement has taken 
 place. If the taxpayer does not elect to restore the property the 
 transaction will then be deemed to be completed. The rulings 
 applicable in either alternative have been given in the earlier 
 part of this chapter.^^ Where a company had a fire in its plant 
 
 65 0. D. 446, T. B. 15-20-842. 
 
 «6 Telegram from treasury department dated May 2, 1919; I. T. S. 1921, 
 11907. 
 
 67 Letter from treasury department dated September 13, 1919 ; I. T. S. 
 1921, 11904. 
 
 88 Revenue Act of 1921, §234 (a) (3). 
 
 69 See p. 540. 
 
INCOME FROM MISCELLANEOUS SOURCES 553 
 
 which necessitated shutting down for a day and recovered an 
 amount under a use and occupancy policy of insurance for the 
 loss of use of its factory it is held that sums recovered under 
 such a policy are nothing more than compensation for the loss 
 of anticipated profits, and whether such sums are less than, 
 equal to, or in excess of such anticipated profits for the period 
 of nonuse, they nevertheless represent income.™ 
 
 Proceeds of Life Insurance. The proceeds of life insurance 
 policies paid upon the death of the insured were exempt from 
 tax under the Revenue Act of 1918 if paid to individual bene- 
 ficiaries, directly or in trust, or to the estate of the insured, 
 but not if to a corporation beneficiary .'^^ Under the present 
 law, the proceeds of such policies are exempt irrespective of 
 who the beneficiary may be.''^^ jf the proceeds are paid in in- 
 stallments under the terms of the policy none of the install- 
 ments is subject to tax, but, it appears, if the proceeds are paid 
 in installments by agreement between the beneficiary and the 
 insurance company the installments may be free from tax until 
 they aggregate the amount of insurance payable on the death 
 of the insured, and any amount in excess of that sum, due to 
 deferring the payments, is income. Where. an individual is the 
 beneficiary it seemed -to be immaterial, under the 1918 Law, 
 
 70 0. D. 697, T. B. 43-20-1258. See paragraph "Recoveries on Losses," 
 p. 658. 
 
 II Revenue Act of 1918, §§213 (b) and 233 (a). Reg. 45, Art. 72. The 
 1916 Law provided that the proceeds of life insurance policies were exempt 
 only when paid to an individual beneficiary upon the death of the insured, 
 and not when paid to the estate of the insured. The senate introduced a 
 provision in the 1918 Law to exempt the proceeds of life insurance policies 
 regardless of to whom they were paid but the Conference Committee lim- 
 ited the exemption to proceeds paid only to individual beneficiaries or to 
 the estate of the insured. In the vast majority of cases the diflFerence be- 
 tween such proceeds and the premiums paid on the insurance represents the 
 loss to a corporation in disturbance of its organization or impairment of 
 good-will occasioned by the death of the officer or employee insured. The 
 proceeds of the policy over and above premiums paid in represents compen- 
 sation for such loss and is in no true sense income. It is true that the 
 exemption of such proceeds might render possible the evasion of the tax 
 by the over-capitalization of the value of the insured's life and activities 
 to the corporation, in which case, owing to the perpetuity of a corporation's 
 existence, the policy would be an investment, perhaps similar to an en- 
 dowment policy taken out by an individual. This mere possibility of tax 
 evasion, however, does not justify the imposition of a hardship upon the 
 well-run enterprise by the taxation as profit of what is essentially eom^ 
 pensation for a definite and substantial loss. The force of this criticism 
 has been recognized by the 1921 Law, as indicated above. 
 
 72 Revenue Act of 1921, §213 (b) (1). 
 
554 FEDERAL INCOME TAX 
 
 whether or not the premiums were paid by the insured or by 
 the beneficiary, since the law granted an absolute exemption 
 with respect to the proceeds of the policy; under the present 
 law it would also seem immaterial, even if the beneficiary were 
 a corporation. In the case of a corporation beneficiary of insur- 
 ance taken out on the lives of officers or of employees the pro- 
 ceeds, less the total of any premiums paid thereon (and not 
 deducted from net income in the year in which paid, as was 
 permitted prior to the year 1917) , was held to be income under 
 the 1918 LawJ^ Such proceeds are entirely exempt under the 
 present law. Since June 25, 1918, no assessment of any fed- 
 eral tax may be made on any allotments, family allowances, 
 compensation or death or disability insurance payable under the 
 War Risk Insurance Act of September 2, 1914, as amended, 
 even though the benefit accrued before that date.''* The 1921 
 Law specifically exempts such income.''^ This applies also to 
 dividends on life insurance policies issued by the bureau of war 
 risk insurance.''^ 
 
 Amounts received under the terms of an ordinary life, con- 
 tinuous installment bond contract issued by a life insurance 
 company are exempt. This applies not only to the installment 
 payments received, but also to any dividends received under the 
 terms of the bond.''^^ Where under a life insurance policy there 
 is payable to a first beneficiary named 6% per annum of the 
 face value of the policy during life, and, upon the death of the 
 first beneficiary, the face value of the policy is payable to- a 
 second beneficiary, the payments to the first beneficiary are a 
 part of the proceeds of the policy, and are not to be included 
 in gross income.'''^ If a beneficiary has the option of receiving 
 insurance proceeds upon the death of the insured or of leaving 
 the money with the company to draw interest, and the latter 
 course is adopted, it has been held that the beneficiary in effect 
 loans the money to the company and the interest so received is 
 taxable income in the year of receipt. If there is no such option, 
 the rule is otherwise.''^ 
 
 Tontine Insurance. When a taxpayer takes out an insur- 
 ance policy on the tontine plan in 1902 and in 1917 receives the 
 
 73 Letter from treasury department dated March 15, 1918; I. T. S. 1918, 
 113290; Reg. 45, Art. 541. 
 
 74 Reg. 45, Art. 72. 
 
 75 Revenue Act of 1921, §213 (b) (9). 
 
 76 O. D. 1037, T. B. 88-21-1827. 
 
 77 0. D. 483, T. B. 14-20-825. 
 
 78 0. 995, T. B. 10-20-778. 
 
 79 0. D. 612, T. B. 31-20-1101. 
 
INCOME FROM MISCELLANEOUS SOURCES 555 
 
 total accumulated dividends, the face value of the policy being 
 payable to assured in 1922, if living, the amount received in 
 1917 is not income for that year. The excess of the amount re- 
 ceived at maturity of the policy plus all dividends received 
 thereon, over the total premiums paid prior to March 1, 1913, 
 or the cash surrender value of the policy as of that date, which- 
 ever is greater, plus the premiums paid subsequent to March 1, 
 1913, will represent taxable income to be reported for the year 
 in which received.^" 
 
 Dividends on Life Insurance Policies. Dividends paid on 
 life insurance policies that have not matured, whether or not 
 such dividends are drawn in cash by the insured or applied to 
 the reduction of the annual premium due, are not considered 
 items of taxable income. Distributions on paid-up policies which 
 are made out of earnings of the insurance company subject to 
 tax are in the nature of corporate dividends and are income 
 of an individual only for the purpose of the surtax. The former 
 represents merely a return of a part of the premium thereto- 
 fore paid by the insured, while the latter represent a distribu- 
 tion of income earned by the insurance companies on the pre- 
 miums paid by the insured.^i 
 
 Surrender Value of Insurance Policies. When an insured 
 person discontinues insurance prior to the maturity of his 
 policy, he is entitled to a certain surrender value which is paid 
 to him by the insurance company. The amount so received 
 represents the return to the insured of a part of the premiums 
 he has paid in the past, and is therefore not income. If the 
 amount should exceed the aggregate of premiums paid, the ex- 
 cess would be taxable income.^^ 
 
 Endowment Policies. Where an endowment policy is paid 
 to the insured, it is exempt from tax to the extent that the 
 payment represents a return without interest to the insured of 
 amounts paid by him from time to time as premiums, but is 
 taxable on the excess.^^ Thus, if over a period of years the in- 
 sured has paid $700 in premiums, and, at the expiration of the 
 terms receives $1,000 from the insurance company, $300 of that 
 sum is taxable income, but the $700, representing return of pre- 
 miums, is not income. 
 
 80 O. D. 490, T. B. 19-20-910. 
 
 81 Reg. 45, Art. 47; T. D. 2137. 
 
 82 Revenue Act of 1921, § 213 (b) (2) ; Revenue Act of 1918, § 213 (b) 
 2; Reg. 45, Arts. 47 and 72; T. D. 2090; T. D. 2152; Letter from treasury 
 department dated February 8, 1917; I. T. S. 1921, 1| 1197. 
 
 83 Revenue Act of 1921, §213 (b) (2) ; Revenue Act of 1918, §213 (b) 
 2; Reg. 45, Arts. 47 and 72; T. D. 2090; T. D. 2152. 
 
556 federal income tax 
 
 Accident, Health or Workmen's Compensation Insur- 
 ance. Amounts received through accident or health insurance 
 or under workmen's compensation acts as compensation for 
 personal injuries or sickness are exempt, whether the insured 
 be alive or dead and whether received by him, his estate or other 
 beneficiaries.^* The amount of any damages received by the in- 
 dividual injured or sick, if living, or his estate or other bene- 
 ficiaries entitled to receive such damages, if dead, whether by 
 suit or agreement, on account of such injuries or sickness is 
 also exempt.^ 
 
 Annuities. The Revenue Act of 1921, like the 1918 Law, pro- 
 vides that the amount received by the insured as a return of 
 premiums paid by him under life insurance, endowment or 
 annuity contracts either during the term or at the maturity of 
 the term mentioned in the contract or upon surrender of the 
 contract is exempt from taxation.*^ Under this provision of 
 law the treasury department has ruled as follows: Annuities 
 paid by religious, charitable and educational corporations under 
 an annuity contract are subject to tax to the extent that the 
 aggregate amount of the payments to the annuitant exceeds any 
 amounts paid by him as consideration for the contract. An 
 annuity charged upon devised land is income taxable to the 
 annuitant, whether paid by the devisee out of the rents of the 
 land or from other sources. The devisee is not required to re- 
 turn as taxable income the amount of rent paid to the annuitant, 
 and he is not entitled to deduct from his taxable income any 
 sums paid to the annuitant. Where an insured receives under 
 
 84 Revenue Act of 1921, §213 (b) (6); Revenue Act of 1918, §213 (b) 
 (6) ; Reg. 45, Art. 72. Accident insurance was first considered income (to 
 the extent that it exceeded the aggregate premiums paid) but amounts re- 
 ceived from a railroad company, by way of reimbursement for expenses 
 incident to an accident were not income. These rulings were revoked, and 
 it was held in pursuance of an opinion of the Attorney General (based upon 
 Doyle V. Mitchell Brothers, 247 U. S. 179, affirming 235 Fed. 686; Lynch 
 V. Turrish, 247 U. S. 221; and Southern Pac. Co. v. Lowe, 247 U. S. 330) 
 that the proceeds of accident insurance policies received by an individual 
 on account of injuries sustained by him through accident were not income 
 under the 1916 Law as amended. (T. D. 2747.) 
 
 85 Revenue Act of 1921, §213 (b) (6); Revenue Act of 1918, §213 (b) 
 (6) ; Reg. 45, Art. 72. Under the 1916 Law amounts received as the result 
 of a suit or compromise for "pain and suffering" were at first held to be 
 income. (T. D. 2135.) This ruling was subsequently revoked. (T. D. 2747.) 
 
 86 Revenue Act of 1921, §213 (b) (2); Revenue Act of 1918, §213 (b) 
 (2). 
 
INCOME FROM MISCELLANEOUS SOURCES 557 
 
 life insurance, endowment or annuity contracts, sums in excess 
 of the premiums paid therefor, such excess is income for the 
 year of its receipt.^'' 
 
 87 Reg. 45, Art. 47; O. D. 612, T. B. 7-19-289. Under the 1913 Law it was 
 held that the amount by which the sum received exceeded the sum paid 
 and coming into the hands of the person making the contracts and pay- 
 ment was income. It was also first held that "when the settlement under 
 such contract and payment is made in more than one payment each pay- 
 ment will be considered as being composed of interest and a proportionate 
 part of the principal," and "where the entire annuity is composed of an 
 interest return upon the principal sum paid therefor, the entire annuity 
 is income." (T. D. 2090.) The matter quoted, however, was afterward 
 stricken out of the ruling. (T. D. 2152.) 
 
CHAPTER 21 
 
 DEDUCTIONS — IN GENERAL 
 
 Certain deductions are specified in the law for computing the 
 net income of an individual or a corporation.^ Both the Revenue 
 Act of 1918 and the present law also expressly provide that cer- 
 tain items shall not be deductible in the case of both individuals 
 and corporations.^ While the deductions allowed corporations 
 and individuals are based upon the same principles, they vary 
 in some particulars, because of differences in the status of these 
 two classes of taxpayers. Thus, an individual may deduct chari- 
 table contributions or gifts made within the taxable year, while 
 no corresponding deduction is allowed to corporations. The 
 separate provisions made in the case of individuals for the de- 
 duction of losses sustained in any transaction entered into for 
 profit though not connected with trade or business, and losses of 
 property not connected with trade or business, if arising from 
 fires, storms, etc., have no counterparts in regard to 
 corporations, since a corporation's transactions are all entered 
 into for profit and are connected with its business. All losses 
 of a corporation may therefore be deducted, unless they are in- 
 curred in ultra vires transactions. Certain special deductions are 
 allowed in the case of insurance companies which are not neces- 
 sary in the case of individuals, and other kinds of corporations.^ 
 Dividends from domestic corporations and from certain foreign 
 corporations are allowed as a deduction to corporations and to 
 individuals only as a credit for the purpose of the normal tax. 
 The general effect of the Revenue Act of 1918 as compared with 
 preceding laws was to place individuals and corporations more 
 nearly upon the same footing in regard to deductions, and this 
 policy is continued in the present law. In the case of nonresident 
 aliens and foreign corporations the deductions are intended in 
 general to be limited to expenses, losses, etc., paid or incurred in 
 the creation of income taxed by this government.* The special 
 provisions applicable to individuals, corporations, nonresident 
 aliens and foreign corporations are set forth in the chapters deal- 
 ing respectively with those subjects. The general provisions and 
 
 • 
 
 1 Revenue Act of 1921, §§ 214, 234; Revenue Act of 1918 §§ 214, 234. 
 
 2 Revenue Act of 1921, §§215, 235; Revenue Act of 1918, §§215, 235. 
 
 3 See Chapter 11. 
 
 i See Chapters 4 and 12. See A. R. M. 100, T. B. 49-20-1331. 
 
 558 
 
DEDUCTIONS — IN GENERAL 559 
 
 principles applicable to all taxpayers are discussed in this and 
 the following chapters. The main amendments made by the 
 Revenue Act of 1921 discussed in this chapter are the changes 
 made in respect to charitable contributions and the provision in 
 regard to the shrinkage in the value of a life or terminable in- 
 terest acquired by gift, bequest or inheritance. 
 
 Only the Deductions Specified in the Statute Are Allowed. Al- 
 though the tax is imposed on the "net income" of a taxpayer, yet 
 the term "net income" is used as defined in the statute, and not 
 as known generally in accounting practice. Some deductions dic- 
 tated by prudence and good business management are not recog- 
 nized or countenanced by the law. Only those deductions which 
 are expressly specified in the statute may be taken for income tax 
 purposes. It may be observed that the present law, to a greater 
 degree than any preceding law, follows the lines of commercial 
 usage in defining net income.^ 
 
 Deductions Must Be Actual. The deductions specified in the 
 statute can be deducted by the taxpayer only when they represent 
 actual payments or actual liabilities. It is not permissible, for in- 
 stance, for a taxpayer owning the property used and occupied for 
 his or its own business purposes to include as a deduction the 
 rental value of the property so owned. Neither is it permissible 
 to deduct an amount representing the interest which might be 
 earned on the capital employed in the business, if such capital 
 were invested or employed otherwise, or were so placed as to earn 
 a given rate of interest.^ The deductions claimed must ordinarily 
 be those represented by actual cash disbursements unless the tax- 
 payer keeps his books on some other basis than that of actual 
 receipts and disbursements. 
 
 Deductions Not to Be Duplicated. Where a deduction may, or 
 should be, claimed as one of the items specifically stated in the 
 law, such deduction should not also be included under another 
 head. Thus, where a deduction is claimed as depreciation or as a 
 loss, the same amount should not also be deducted as a business 
 expense, or if the cost of tools or small articles has been charged 
 to expense, depreciation should not be claimed thereon, as this 
 would be claiming the same deduction twice. Interest paid by a 
 corporation constitutes a separate deduction and should not be 
 taken into account as a part of the cost of manufacture.'^ 
 
 5 One notable variation even in the present law as construed by the Treas- 
 ury department is the treatment of corporate organization expenses. 
 
 6T. D. 2137. Hays v. Gauley Mountain Coal Co., 247 U. S. 189; Walsh 
 V. Brewster. 
 
 7 See Revenue Act of 1921, § 247 (c) ; T. D. 2137. 
 
560 FEDERAL INCOME TAX 
 
 Income and Deductions Reported on Same Basis. Net income 
 means gross income less statutory deductions. The statutory 
 deductions are in general, though not exclusively; expenditures, 
 other than capital expenditures, connected with the production of 
 income. The surtax is imposed upon net income; the normal 
 tax upon net income less credits. Though taxable net income 
 is wholly a statutory conception it follows, subject to certain 
 modifications as to exemptions and as to some of the deductions, 
 the lines of commercial usage. Subject to these modifications 
 statutory "net income" is commercial "net income." ^ Deductions 
 are to be reported when the amounts claimed therefor are 
 "paid or incurred" or "paid or accrued" on the books of the tax- 
 payer; that is, when they are actually paid or become a fixed 
 liability according to the method of accounting employed by the 
 taxpayer. In other words, net income is computed on the basis 
 of actual receipts, or on the basis of accrued receipts. Deductions 
 must be claimed on the same basis as that upon which gross in- 
 come is reported. They must usually be claimed for the year 
 in which the income with the production of which they are con- 
 nected is reported. The taxable year as a unit of time applies to 
 both gross income and deductions. 
 
 Deductions in the Equivalent of Cash. It is not always neces- 
 sary that an amount claimed as a deduction be paid out in cash. 
 Just as income may be received in kind or in the equivalent of 
 cash, so deductions may be represented by payments in some 
 form other than actual cash. For instance, it has been held that 
 commissions allowed salesmen and paid in stock may be deducted 
 as expense, if so charged on the books of the corporation, at the 
 actual value of such stock.^ 
 
 When Charges Deductible. Each year's return, so far as prac- 
 ticable, both as to gross income and deductions therefrom, should 
 be complete in itself, and taxpayers are expected to make every 
 reasonable effort to ascertain the facts necessary to make a cor- 
 rect return. The expenses, liabilities or deficits of one year can 
 not be used to reduce the income of a subsequent year. A person 
 making returns on an accrual basis has the right to deduct all 
 authorized allowances, whether paid in cash or set up as a liabil- 
 ity, and it follows that if he does not within any year pay or 
 accrue certain of his expenses, interest, taxes or other charges, 
 and makes no deduction therefor, he can not deduct from the in- 
 come of the next or any subsequent year any amounts then paid 
 
 8 Reg. 45, Art. 21. 
 
 9 T. D. 2625; T. D. 2433; Reg. 33 Rev., Art. 126; Reg. 33, Art. 47. 
 
DEDUCTIONS — IN GENERAL 561 
 
 in liquidation of the previous year's liabilities. A loss from theft 
 or embezzlement occurring in one year and discovered in another 
 is deductible only for the year of its occurrence. Any amount paid 
 pursuant to a judgment or otherwise on account of damages for 
 personal injuries, patent infringement or otherwise, is deductible 
 from gross income when the claim is put in judgment or paid, 
 less any amount of such damages as may have been compensated 
 for by insurance or otherwise. If subsequently to its occurrence, 
 however, a taxpayer first ascertains the amount of a loss sus- 
 tained during a prior taxable year which has not been deducted 
 from gross income, he might, under the 1918 Law, render an 
 amended return for such preceding taxable year, including such 
 amount of loss in the deductions from gross income, and may file 
 a claim for refund of the excess tax paid by reason of the failure 
 to deduct such loss in the original return.^" But under the present 
 l^w losses may be deducted as of a taxable period different from 
 that in which they were sustained if, in the opinion of the Com- 
 missioner, they should be deducted as of such a different period.^^ 
 A more detailed discussion of when deductions should be taken 
 will be found elsewhere in this book.12 
 
 Contributions to Charities. A citizen or resident is allowed to 
 deduct from his net income contributions or gifts made within 
 the taxable year to or for the use of: (a) The United States, any 
 state, territory, or any political subdivision thereof, or the Dis- 
 trict of Columbia, for exclusively public purposes ; (b) any corpo- 
 ration, or community chest, fund, or foundation, organized and 
 operated exclusively for religious, charitable, scientific, literary, 
 or educational purposes, including posts of the American Legion 
 or the Women's Auxiliary units thereof, or for the prevention of 
 cruelty to children or animals, no part of the net earnings of 
 which inures to the benefit of any private stockholder or individ- 
 ual ; or (c) the special fund for vocational rehabilitation author- 
 ized by the Vocational Rehabilitation Act.i^ The 1918 Law ex- 
 pressly permitted the deduction of gifts or contributions when 
 made to corporations or associations organized and operated ex- 
 clusively for religious, charitable, scientific or educational pur- 
 poses, or to societies for the prevention of cruelty to children or 
 animals, or to the vocational rehabilitation fund.^* The above 
 specification of posts of the American Legion or the Women's 
 
 10 Reg. 45, Art. 111. 
 
 11 Revenue Act of 1921, § 214 (a) 6; 234 (a) 4. 
 
 12 See Chapter 33. 
 
 13 Revenue Act of 1021, § 214 (a) 11. 
 "Revenue Act of 1918, §214 (a) 4. 
 
562 FEDERAL INCOME TAX 
 
 Auxiliary units thereof, was not made in the 1918 Law, nor did 
 that law include "literary" organizations. Aside from the voca- 
 tional rehabilitation fund the 1918 Law in terms limited this 
 deduction to corporations (which included "associations") but a 
 gift to a common agency (as a war chest) for several such corpo- 
 rations or associations was held to be the same as a gift directly 
 to them.15 The 1918 Law did not expressly permit the deduction 
 of gifts "for public purposes" as indicated under (a) above, but 
 such gifts may have been deductible under certain circumstances 
 as indicated below. Like the 1918 Law the present law limits 
 the deduction for gifts or contributions to an amount which in 
 all the above cases combined does not exceed 15% of the tax- 
 payer's net income as computed without the benefit of the 
 deduction. In case of a nonresident alien individual this de- 
 duction is allowable only as to contributions or gifts made to 
 domestic corporations, or to community chests, funds, or founda- 
 tions, created in the United States, or to such vocational re- 
 habilitation fund. Such contributions or gifts are allowable only 
 if verified under rules and regulations prescribed by the Com- 
 missioner, with the approval of the secretary .^^ 
 
 The character of the organization receiving a gift rather than 
 the purpose to which the gift is put is ordinarily the test of de- 
 ductibility .i'^ In connection with a claim for this deduction the 
 following information was required to be stated on returns of 
 income and will undoubtedly be required to be so stated under the 
 present law: (a) The name and address of each organization 
 to which a gift was made, (b) The approximate date and 
 amount of the gift in each case. Donations made by a partner- 
 ship may be prorated among the individual partners for the pur- 
 pose of their individual returns.^s This deduction is not allowed 
 to corporations.^^ The deduction discussed in this paragraph does 
 not apply to gifts by estates and trusts.^o 
 
 Contributions in Equivalent of Cash. Where a gift is 
 other than money the basis for calculation of the amount of the 
 
 15 Reg. 45, Art. 251. 
 
 16 Revenue Act of 1921, §214 (a) 11. 
 
 17 0. D. 465, T. B. 16-20-863. 
 
 18 Letter from Treasury Department dated May 23, 1918 ; I. T. S. 1921, 
 
 11553. 
 
 19 Thus, Red Cross contributions are not deductible by corporations (T. 
 D. 2847; Telegram from Treasury Department dated May 23, 1918; I. T. S. 
 1918, 1[3436). Contributions are allowed to corporations, however, in some 
 cases when they have consideration in some form so as to take them out of 
 the class of gratuities. See Chapters 10 and 22. , 
 
 20 See Chapter 6. 
 
DEDUCTIONS — IN GENERAL 563 
 
 gift is the cost of the property, if acquired after February 28, 
 1913, or its fair market value as of March 1, 1913, if acquired 
 prior thereto, after deducting from such cost or value the amount, 
 if any, which has been or which should have been set aside and 
 deducted in the current year and previous years from gross in- 
 come on account of depreciation, and which has not been paid 
 out in making good the depreciation sustained.^i 
 
 Examples of Deductible Contributions. Contributions of 
 the following character have been held to be deductible under this 
 provision of the 1918 statute, subject to the 15% limitation: 
 
 1.. Pew rents and assessments and dues paid to churches ;^2 
 
 2. Contributions to a board of education of a school district 
 which has been created a body corporate by the laws of a state ;23 
 
 3. Contributions to a fund established for the pensioning 
 of members of a municipal police force, where such fund is in 
 control of a committee constituted by law;^'' 
 
 4. Premiums on a life insurance policy when the beneficiary 
 is an exempt charitable corporation, provided the beneficiary can 
 not be changed at the option of the insured •,^^ 
 
 5. Contributions for the support of an association organized 
 and operated exclusively for the purpose of giving musical con- 
 certs, the programs being of an educational character, and no part 
 of the net earnings inuring to the benefit of any private stock- 
 holder or individual ;^^ 
 
 6. Contributions to the Council of National Defense ; ^^ 
 
 7. Contributions to an association incorporated under the laws 
 of Porto Rico for the purpose of soliciting and obtaining donations 
 to be used in reconstruction work and for charitable purposes in 
 portions of Porto Rico devastated by earthquake and tidal 
 wave ; ^s 
 
 8. Contributions to an association the object of which is to 
 erect a monumental building as a museum and depositary for 
 records, flags, trophies, etc., of the late war, such museum being 
 
 21 T. D. 2998, superseding T. D. 2966 and T. D. 2977; T. B. 15-20-856. 
 See 0. 979, T. B. 7-20-740. Under an earlier ruling the fair market value 
 of the gift at the time the gift is made was the basis for the deduction 
 (Letter from treasury department dated August 14, 1919; I. T. S. 1919, 
 IT 3550.) 
 
 22 A. R. M. 2, T. B. 26-19-590. 
 
 23 S. 1052, T. B. 8-19-321. 
 
 24 S. 1202, T. B. 27-19-602. 
 
 25 0. D. 299, T. B. 24-19-566. 
 
 26 S. 1176, T. B. 23-19-546. 
 2T S. 992, T. B. 3-19-191. 
 
 28 0. D. 345, T. B. 30-19-641. 
 
564 FEDERAL INCOME TAX 
 
 held to be of an educational nature, even though the provisions 
 of its charter authorized it to construct, equip, operate and main- 
 tain other memorials in the nature of statues, monuments, mem- 
 orials, assembly halls, memorial halls, music halls, memorial 
 art galleries, or any other building or thing to commemorate 
 persons, causes, occasions, events or principles.-^ A contribution 
 of money towards the cost of an article presented by the con- 
 tributors to a corporation organized exclusively for educational 
 purposes is deductible from the gross income of the donors within 
 the 15% limitation. 
 
 Examples of Nondeductible Contributions. Contributions 
 of the following character were held not deductible under the 
 1918 Law: 
 
 1. Contributions to the National Dry Federation ;3o 
 
 2. Contributions made for the purpose of purchasing land and 
 improving same for use as a public park or recreation ground, 
 which is to be dedicated as a memorial to soldiers and sailors who 
 served in the late war;3i 
 
 3. Contributions by citizens of a city for the purpose of in- 
 ducing an industrial plant to locate in their city;^^ 
 
 4. The value of property given to a public high school for 
 athletic purposes ;3^ 
 
 5. Contributions to a family cemetery corporation organized 
 under the laws of New York;^* 
 
 6. Contributions or gifts made to a corporation organized 
 and operated exclusively for the purpose of erecting and main- 
 taining monuments or other like memorials are not allowable 
 deductions in computing net income of individuals contributing 
 thereto, even though no part of the net earnings of such corpo- 
 ration inures to the benefit of any private stockholder or individ- 
 ual,' such corporations not being charitable or educational instir 
 tutions within the meaning of the Revenue Act of 1918 ;35 
 
 7. Contributions to an association engaged in disseminating 
 propaganda to encourage the passage of labor legislation, since 
 such an association is not an educational association ;36 
 
 29 A. R. R. 301, T. B. 45-20-1294, reversing 0. D. 649, T. B. 35-20-1170. 
 
 30 O. D. 44, T. B. 1-19-61. 
 310. D. 104, T. B. 2-19-152. 
 
 32 0. D. 39, T. B. 1-19-56. 
 
 33 0. D. 126, T. B. 3-19-192. 
 
 34 0. D. 217, T. B. 11-19-379. 
 
 35 S. 1246, T. B. 8-20-755. See Molly Varnum Chapter, D. A. R., v. City of 
 Lowell, 204 Mass. 487, 90 N. E. 893. 
 
 36 S. 1362, T. B. 22-20-971. 
 
DEDUCTIONS — IN GENERAL 565 
 
 8. Contributions to a trust company (a corporation) in trust 
 to invest and disburse them for charitable purposes, the cor- 
 poration to which the gift is made not being organized and 
 operated exclusively for charitable purposes.^^ "Contributions 
 or gifts" are construed to mean gifts of money or property. The 
 
 value of services rendered to charitable institutions may not be 
 deducted; 38 
 
 9. A gift of real estate to a city to be maintained perpetually 
 as a public park;^^ 
 
 10. Contributions to a memorial fund of which a corporation 
 is trustee and which is controlled by a Board of Directors and 
 organized not to engage in a charitable undertaking itself, but to 
 distribute its income to charitable institutions and to worthy 
 individuals;*" 
 
 11. Contributions made to a "Citizens Club", an unincorpo- 
 rated association which derives its income from annual member- 
 ship fees, rental of its auditorium and music hall, amounts col- 
 lected from its dining room, pool tables, bowling alleys, etc., 
 the club never having been self-supporting and the deficit of each 
 year being made up by contributions, the club furnishing to its 
 members facilities for which they pay approximately one-fifth of 
 the cost, where the primary objects sought to be obtained by the 
 organization and operation of the club are the "civic, social and 
 moral betterment of its members and the promotion of every 
 enterprise that concerns the well-being of the community", the 
 "promotion of educational and cultural activities which shall 
 provide such information and facts as will better enable its con- 
 stituency to form accurate and unbiased judgment of public 
 questions", and also the promotion of athletic and recreational 
 activities.*! 
 
 Items Not Deductible. Certain items are expressly declared 
 not to be deductible in computing net income, as indicated in 
 the following paragraphs : 
 
 Personal, Living or Family Expenses. In computing net 
 income no deduction is allowed in respect of personal, living or 
 family expenses.*^ These expenses may be said to be covered by 
 the arbitrary sum allowed as a personal exemption. 
 
 37 0. D. 669, T. B. 39-20-1211. The Revenue Act of 1918 makes no pro- 
 vision for the deduction of charitable contributions to a trust. 
 
 38 0. D. 712, T. B. 44-20-1277. 
 
 39 Reg. 45, Art. 251. See also Reg. 33 Rev., Art. 8. 
 
 40 O. D. 872, T. B. 15-21-1563. 
 
 41 A. R. R. 379, T. B. 6-21-1435. 
 
 42 Revenue Act of 1921, § 215 (a) ; Revenue Act of 1918, § 215 (a). 
 
566 FEDERAL INCOME TAX 
 
 The following items have been held to be personal, living or 
 family expenses and as such are not deductible : 
 
 (1) Alimony and an allowance paid under a separation agree- 
 ment; amounts paid as damages for breach of promise to 
 marry ;*3 
 
 (2) Insurance paid on a dwelling owned and occupied by a 
 taxpayer including premiums paid on insurance taken out under 
 the War Risk Insurance Act, whether or not subsequently con- 
 verted ; or insurance premiums paid by a wife on the life of her 
 husband when she is the beneficiary of the insurance;** 
 
 (3) Amounts expended in defending a suit for damages al- 
 leged to have been caused by the negligent operation of an auto- 
 mobile owned and operated for personal convenience ;<'3 
 
 (4) Rent paid for property used for residential purposes;*" 
 
 (5) Amounts expended for purchasing furnishings and main- 
 taining the residential portion of an embassy ; the entertainment 
 expenses of ambassadors ;*'' 
 
 (6) Expenses incurred by doctors in taking post-graduate 
 courses ; *^ 
 
 (7) Expenses incurred by school teachers in attending sum- 
 mer schools ; *9 
 
 (8) Expenses incurred by a railroad conductor in the pur- 
 chase of uniforms which he is required to wear during business 
 hours ; ^° 
 
 43 Reg. 45, Art. 291; O. D. 546, T. B. 24-20-1003; O. D. 275, T. B. 20-19- 
 507. In a case in which a trust fund was created by a divorced husband to 
 continue during the life of his former wife as a guaranty of payment to 
 her of a stipulated amount in lieu of alimony, any income in excess of the 
 stipulated amount to be paid to him and the principal to revert to him upon 
 her death, the Treasury Department first held that the principal of the 
 trust is a part of the estate of the husband, that he is the real beneficiary 
 of the trust, and that, the entire income from the trust fund must be in- 
 cluded in his return. (O. D. 399, T. B. 6-20-730) but this decision has been 
 overruled (O. D. 1092, T. B. 45-21-1910.) 
 
 44 Reg. 45, Art. 291; O. D. 828, T. B. 9-21-1481; O. D. 48, T. B. 1-19-65. 
 
 45 A. R. R. 444, T. B. 12-21-1527. 
 
 46 Reg. 45, Art. 241. In the case of a professional man who uses a part 
 of his house for his office, such portion of the rent as is properly attributable 
 to such office is deductible, but if such house is used only incidentally for 
 receiving clients, patients or callers, no part of the rent is deductible. 
 
 47 O. D. 1020, T. B. 36-21-1802. 
 
 48 0. D. 984, T. B. 31-21-1755. 
 
 49 0. D. 892, T. B. 17-21-1595. 
 
 50 O. D. 951, T. B. 25-21-1692. 
 
DEDUCTIONS — IN GENERAL 567 
 
 (9) The cost of equipment of an army officer to the extent 
 that it is specifically required by his profession and takes the 
 place of an article required in civilian life;5i 
 
 (10) Payments for the medical services of a throat specialist 
 made by a professional singer ; ^2 
 
 (11) The attorney's fees paid by a taxpayer engaged in the 
 retail drug business in connection with the prosecution for the 
 illegal sale of narcotics ;^^ 
 
 (12) Provisions withdrawn by a taxpayer who is the sole 
 proprietor of a business for personal or family use ; ^ 
 
 (13) Expenditures for the safekeeping of securities and ren- 
 tal of safe deposit boxes ; ^^ 
 
 (14) Allowances made to minor children whether said to be 
 in consideration of services or otherwise ;56 and 
 
 (15) Campaign expenses of a congressman-ST 
 Traveling Expenses Under the 1921 Law. Traveling ex- 
 penses (including the entire amount expended for meals and 
 lodging) while away from home in the pursuit of a trade or busi- 
 ness are made expressly deductible by the Revenue Act of 1921.58 
 This provision takes effect as of January 1, 1921, and is a much 
 needed reversal of the impracticable regulations issued under the 
 1918 Law in regard to traveling expenses. 
 
 Traveling Expenses Under Previous Laws. Under the 
 1916, 1917 and 1918 Laws^s traveling expenses, as ordinarily un- 
 derstood, included railroad fares and meals and lodging. If the 
 trip was undertaken for other than business purposes, such 
 railroad fares were held to be personal expenses and such meals 
 and lodging were living expenses. If the trip was on business, the 
 reasonable and necessary traveling expenses, including railroad 
 fares, and meals and lodging in an amount in excess of any ex- 
 penditures ordinarily required for such purposes when at home, 
 became business instead of personal expenses. If, then, an in- 
 dividual whose business required him to travel received a salary 
 
 51 Reg. 45, Art. 291. Accordingly, the cost of a sword is deductible, but 
 the cost of a uniform is not. 
 
 52 0. D. 1032, T. B. 37-21-1819. 
 
 53 0. D. 952, T. B. 25-21-1693. 
 
 54 0. D. 998, T. B. 34-21-1777. 
 
 55 Telegram from Treasury Department dated March 8, 1921 ; I. T. S. 
 1921, 112837. 
 
 56 Reg. 45, Art. 291. The same rule was followed under the Civil War in- 
 come tax laws (7 Int. Rev. Rec. 60.) 
 
 57 0. D. 864, T. B. 14-21-1549. 
 
 58 Revenue Act of 1921, §214 (a) 1. 
 
 59 See O. D. 1015, T. B. 34-21-1795. 
 
568 FEDERAL INCOME TAX 
 
 as full compensation for his services, without reimbursement 
 for traveling expenses, or was employed on a commission basis 
 with no expense allowance, his expenses for railroad fares, and 
 expenses for meals and lodging in an amount in excess of any 
 expenditures ordinarily required for such purposes when at home, 
 were deductible from gross income. If an individual received 
 a salary and was also repaid his actual traveling expenses, he 
 was required to include in gross income an amount thereof 
 equal to the ordinary expenditures required for meals and lodging 
 when at home, as such amount was held to be additional compen- 
 sation to the taxpayer. If an individual received a salary and also 
 an allowance for meals and lodgings, as, for example, a per diem 
 allowance in li^u of subsistence, any excess of the cost of such 
 meals and lodging over the allowance (plus the ordinary expen- 
 ditures required for such purposes when at home) was deductible, 
 but any excess of the allowance over such expenses (minus such 
 ordinary expenditures) was taxable income. Congressmen and 
 others who received a mileage allowance for railroad fares were 
 required to return as income any excess of such allowance over 
 their actual expenses for such fares. A payment for the use of 
 a sample room at a hotel for the display of goods was a business 
 expense. This contemplated that only such expenses as were 
 reasonable and necessary in the conduct of the business and di- 
 rectly attributable to it might be deducted. A taxpayer claiming 
 the benefit of the deductions referred to herein was required to 
 attach to his return a statement showing (1) the nature of the 
 business in which engaged ; (2) number of days away from home 
 during the calendar year on account of business; (3) number of 
 members in taxpayer's family dependent upon him for support; 
 (4) average monthly expense incident to meals and lodging for 
 entire family, including taxpayer himself when at home; (5) 
 average monthly expense incident to meals and lodging when at 
 home if taxpayer had no family; (6) total amount of expenses 
 incident to meals and lodging while absent from home on business 
 during taxable year; (7) total amount of excess expenditures 
 incident to meals and lodging while traveling on business and 
 claimed as a deduction; (8) total amount of other expenses in- 
 cident to travel and claimed as a deduction. Claims for the de- 
 ductions referred to herein were required to be substantiated, 
 when required by the Commissioner, by records showing in detail 
 the amount and nature of the expenses incurred."" The "home" 
 
 60 Reg. 45, Art. 292, as amended by T. D. 3101, T. B. 51-20-1360. See 
 also In re Assessment of Taxes of T. A. Hayes, 16 Haw. 796; Galm v. U. S., 
 39 Ct. Cls. 55; A. R. R. 572, T. B. 29-21-1735; 0. D. 893, T. B. 17-21-1596; 
 
DEDUCTIONS — IN GENERAL 569 
 
 contemplated by the above ruling is the home maintained for the 
 purpose of carrying on business and not the distant parental home 
 of the taxpayer .61 The cost of transportation paid by a salaried 
 employee, living at a distance from his employment, in order to go 
 to and return from such employment, has been held not to be 
 deductible. This ruling referred to commuters' fares.^^ 
 
 Where a taxpayer makes a contract of employment with an 
 employer in this country, and upon completion of such contract 
 he makes a second contract with another employer in a foreign 
 country, without allowance for traveling expenses, the expendi- 
 ture incurred in reaching such place of employment was not re- 
 garded as an expense incurred in furtherance of a trade or 
 business, under the 1918 Law, but rather as an expenditure to 
 fulfill a condition precedent to such employment in a trade or 
 business. The test was held to be whether an expense is in- 
 curred primarily because of business as the immediate cause 
 inducing the expenditure.*^^ 
 
 Amounts expended by a secretary to a member of congress 
 and by his assistants for railroad fares, in making trips from 
 their homes to Washington and return in connection with their 
 duties, might be claimed as a deduction in computing net income 
 under the 1918 Law.*"'* 
 
 0. D. 924, T. B. 21-21-1650; O. D. 905, T. B. 19-21-1621; A. R. R. 266, T. B. 
 41-20-1230; O. D. 864, T. B. 14-21-1549. Prior to the promulgation of the 
 above regulations and rulings the regulations of the department con- 
 templated that if an individual undertook a trip on business only his railroad 
 fares and other incidental expenses attributed to business and not ex- 
 penses for meals and lodging were deductible, on the theory that expenses 
 for meals and lodgings were living expenses. It was then recognized that 
 a certain amount expended while on such a trip might be attributed solely 
 to the bAsiness, but the fact that wherever a person may be, at home or 
 abroad, he necessarily must have personal and living expenses, which are 
 not deductible, was not disregarded. In examples (a), (b) and (c) above, 
 this principle was kept in mind and each class referred to was put on the 
 same basis as to such expenses (M. 2688, T. B. 2-21-1389, containing 
 examples showing the applicability of the above ruling.) 
 
 61 O. D. 1021, T. B. 36-21-1803. 
 
 62 S. 1048, T. B. 8-19-317. This conforms to the British practice (See 
 Cook V. Knott, 2 Gt. Br. Tax Cas. 246; Revell v. Directors, 's Gr. Br. Tax 
 Gas. 12). Its validity may be doubtful. The present law does not seem 
 to contemplate the deduction of such expenses as "traveling expenses," 
 since they are hardly paid while the taxpayer is away from home, in the 
 sense of the statute. 
 
 63 O. D. 451, T. B. 15-20-848. Under the present law it would probably 
 also be held that this expense was not "in pursuit of a trade or business." 
 
 64 O. D. 865, T. B. 14-21-1550. 
 
570 FEDERAL INCOME TAX 
 
 Improvements and Betterments. Like the 1918 Law the 
 Revenue Act of 1921 provides expressly in the case of individuals 
 and corporations that no deduction shall be allowed in respect 
 of any amount paid out for new buildings, or for permanent im- 
 provements or betterments made to increase the value of any 
 property or estate.^s Amounts expended for additions and better- 
 ments add to the value of the property and are considered as a 
 capital investment.^^ If expenditures are made for permanent 
 improvements and betterments they are treated as any other 
 investment of capital ; that is, if the asset in which the capital is 
 invested is one on which depreciation may be claimed, the amount 
 expended for the permanent addition or betterment is added to 
 the cost of the property for the purpose of determining the annual 
 depreciation allowance thereafter. The statute merely intends to 
 prohibit the deduction of the entire amount in the year in which 
 the expenditure is made. In a case in which in 1915 the airshaft 
 of a company's mine caved in, causing the destruction of a fan, 
 boiler and drum, and the company did not charge off the loss in 
 1915 because it had no net income during that year, but restored 
 the equipment in 1917, it has been held that such cost is not 
 merely a replacement chargeable to expense, but is a capital ex- 
 penditure and consequently not deductible."'^ 
 
 Examples of Capital Expenditures. The following have 
 been held to be investments of capital and not deductible business 
 expenses : 
 
 (1) Amounts expended for securing copyright and plates 
 which remain the property of the person making the payments ; ^ 
 
 (2) The cost of defending title or perfecting title to, or re- 
 ducing an assessment for a local benefit against, property ;,^^ 
 
 (3) Amounts expended for architect's services ; ™ 
 
 65 Revenue Act of 1921, §§215 (b) 235; Revenue Act of 1918, §§215 (b) 
 235. 
 
 66 Reg. 33, Art. 118. Interest and taxes paid by a corporation in con- 
 nection with the construction of its original plant are deductible from its 
 gross income under the Revenue Act of 1^13, even though such payments 
 are properly chargeable to capital account and are so charged by the cor- 
 poration on its books, provided the corporation amends its returns so as to 
 exclude the interest and taxes so deducted from capital account. (S. 935, 
 T. B. 1-19-50.) 
 
 67 A. R. R. 97, T. B. 19-20-920. 
 
 68 Reg. 45, Art. 293. 
 
 ee Reg. 45, Art. 293 ; O. D. 739, T. B. 48-20-1324. Such cost constitutes 
 a part of the cost of the property. 
 
 70 Reg. 45, Art. 293. Such amounts are a part of the cost of the building. 
 
DEDUCTIONS — IN GENERAL 571 
 
 (4) Commissions paid in purchasing securities ; '''^ 
 
 (5) Amounts to be assessed and paid under an agreement be- 
 tween bondholders or stockholders of a corporation, to be used in 
 a reorganization of the corporation ; "^^ 
 
 (6) An assessment paid by a stockholder of a national bank 
 on account of his statutory liability j''^^ 
 
 (7) Expenditures of a railroad for sidings and spur tracks ;''* 
 
 (8) State bar examination fees and traveling expenses in- 
 curred and paid by a lawyer in securing admission to practice 
 his prof ession ; '^5 
 
 (9) Amounts expended for improvements required by the 
 United States public health service to be made on property in 
 order to make it rat proof as a preventive measure against bu- 
 bonic plague;'^® 
 
 (10) Commissions on sales paid by a corporation to an officer 
 or employee in consideration for refraining from engaging in 
 a like business for a stipulated period ; ''"^ 
 
 (11) An expenditure in 1920 for the installation of dipping 
 vats for the purpose of complying with a tick-eradication law, it 
 appearing that such vats will be of no profitable use after the 
 time fixed by law for the eradication of the cattle tick ; '^^ 
 
 (12) Bills for material used in the construction of a tax- 
 payer's house left unpaid by an absconding contractor, the tax- 
 payer being required to pay such bills ; ™ 
 
 (13) The cost of land title abstract books ;8o 
 
 (14) Legal expenses paid by a nonresident alien in securing 
 the return of property and income from the Alien Property Cus- 
 todian ; SI 
 
 (15) The expenditure for labor incident to, and the cost of 
 material entering into, the installation of apparatus leased by 
 the owner under a lease by which the lessor is obliged to maintain 
 
 ■^1 Reg. 45, Art. 293. Commissions for selling securities are an offset 
 against selling price. 
 
 72 Reg. 45, Art. 293. 
 
 73 Reg. 45, Art. 293; A. R. R. 588, T. B. 30-21-1744; O. D. 918, T. B. 20- 
 21-1640. 
 
 74 Grand Rapids & Indiana Ry. Co. v. Doyle, 245 Fed. 792, T. D. 2210. 
 
 75 0. D. 452, T. B. 15-28-49. 
 
 76 0. D. 730, T. B. 46-20-1304. 
 
 77 L. O. 1045, T. B. 41-20-1231. 
 
 78 0. D. 738, T. B. 48-20-1322. 
 
 79 0. D. 925, T. B. 21-21-1651. 
 
 80 O. D. 1049, T. B. 39-21-1843. 
 
 81 0. D. 1048, T. B. 39-21-1842. 
 
572 FEDERAL INCOME TAX 
 
 the apparatus without charge, the value of the apparatus at the 
 expiration of the lease being less than cost of removal ;82 and 
 
 (16) A sum paid upon a partnership dissolution to cover a 
 retiring partner's estimated share of future profits.^s 
 
 Public Utilities. In a decision under the 1909 Lavp it was 
 held that the fact that, under the laws of California, a public util- 
 ities corporation is not the owner of the property, but merely 
 intrusted with the use thereof, did not entitle it to more favorable 
 treatment than other corporations. Money received from the con- 
 sumers to pay for service connections to be laid in public streets 
 was held to be income on which the corporation was held liable 
 to pay a tax, notwithstanding that all or nearly all of the sums 
 so received may have been expended in betterments and exten- 
 sion of its system. Moneys expended for service connections and 
 pipe extensions were regarded as invested in permanent improve- 
 ments, and as not falling within any of the permitted classes of 
 deductions mentioned in the statute.^* They were held not to be 
 in the nature »f improvements made merely to facilitate the 
 transaction of a growing business, the expenses of which have 
 been held deductible.^s 
 
 Expense of Restoring Property. The Revenue Act of 1918 
 and the present law both provide expressly, in the case of individ- 
 uals and corporations, that no deduction shall be allowed in 
 respect of any amount expended in restoring property or in mak- 
 ing good the exhaustion thereof on which an allowance is or has 
 been made.*^ This is also a reasonable limitation, since if such 
 property is subject to wear or tear or depletion, the additional 
 amount so invested in the property may be taken into considera- 
 tion in computing the allowance for depreciation or depletion. 
 The cost of remodeling buildings for manufacturing a different 
 product is such a capital expenditure.^''' 
 
 Insurance on Employees. No deduction is permitted for any 
 amount paid in premiums on any life insurance policy covering 
 the life of any employee or any person financially interested in 
 any trade or business carried on by the taxpayer, when the tax- 
 
 82 0. D. 1082, T. B. 44-21-1894. 
 
 S3 O. D. 1033, T. B. 37-21-1820. Such a payment is additional cost of the 
 retiring partner's share of assets and should be apportioned to the various 
 assets acquired. 
 
 84 Union Hollywood Water Co. v. Carter, 238 Fed. 329. 
 
 85 See Mutual Benefit Life Ins. Co. v. Herold, 198 Fed. 199, affirmed 201 
 Fed. 918. 
 
 86 Revenue Act of 1921, §§ 215 (c) , 235; Revenue Act of 1918, §§ 215, 235. 
 
 87 See O. D. 1001, T. B. 34-21-1780. 
 
DEDUCTIONS — IN GENERAL 573 
 
 payer is directly or indirectly a beneficiary under such policy .^^ 
 But if the taxpayer is in no sense a beneficiary under such a 
 policy, except as he may derive advantage from the increased 
 efficiency of the employee, and pays the premiums purely as 
 reasonable additional compensation of such employee, they are 
 allowable deductions. Under the 1918 Law whether the proceeds 
 of such policies paid upon the death of the insured might be 
 excluded from gross income or must be included therein depends 
 upon whether the beneficiary was an individual or a corporation.^* 
 But under the present law they may be excluded by either an 
 individual or corporation.*" Where a corporation insures the life 
 of its president, the stockholders being beneficiaries in proportion 
 to their stockholdings and the wife of the president (not herself a 
 stockholder) being a beneficiary in proportion to her husband's 
 stockholdings, no deduction for the payment of premiums can be 
 allowed since the corporation itself is indirectly a beneficiary un- 
 der the policy. The premiums paid on such a policy are a charge 
 against surplus and represent dividends to the stockholders to the 
 extent that such premiums are paid out of earnings or surplus 
 accumulated since February 28, 1913. This applies as well to the 
 officer upon whose life the insurance is carried.*^ The rule as 
 to the deductibility of premiums paid on insurance carried by 
 a corporation upon the lives of its officers or employees, where 
 the corporation is itself the beneficiary, is not altered by the 
 form of the policy taken out. Consequently premiums paid on 
 term insurance policies as well as on life and endowment policies 
 under the conditions stated are not deductible in computing the 
 net income of the corporation subject to tax.*^ A corporation 
 which, in order to protect itself against the loss of services of a 
 valuable salesman, increased his salary with the understanding 
 
 88 Revenue Act of 1921, §§ 215, 235; Revenue Act of 1918, §§ 215 (d), 235 
 It was held by the Treasury Department that the corresponding provision 
 of the 1916 Law, as amended (Revenue Act of 1916, § 32, added by Revenue 
 Act of 1917), applied to all forms of life insurance, the premiums upon 
 which the individual, partnership or corporation might pay, whoever might 
 be the beneficiaries. (Reg. 33 Rev., Art. 236.) Prior to the passage of this 
 provision it was held by the Treasury Department that such premiums 
 were deductible (T. D. 2090.) This ruling was subsequently reversed and 
 it was held thereafter that premiums were not deductible (T. D. 2519, dated 
 August 30, 1917.) It seems, from the language of this latter Treasury De- 
 cision, that it was not intended to have a retroactive effect for years prior to 
 1917. 
 
 89 See Reg. 45, Art. 294, as amended by T. D. 3019, T. B. 22-20-972. 
 
 90 See Revenue Act of 1921, §§ 213 (b) 233. See Chapters 14 and 20. 
 
 91 O. D. 659, T. B. 37-20-1198. 
 
 92 0. D. 699, T. B. 43-20-1261. 
 
574 FEDERAL INCOME TAX 
 
 that he would take out a life insurance policy in favor of the 
 corporation and pay the premiums thereon, may deduct only so 
 much of the salary as is in excess of the premiums paid inasmuch 
 as the corporation is the beneficiary under the policy and in 
 reality pays the premiums thereon by reason of having increased 
 the employee's salary for that express purpose.^^ Premiums paid 
 by a corporation on the life of a guarantor of a debt or a debtor 
 to the corporation are deductible, the amount received as a distri- 
 bution of surplus by the insurance company being income, as 
 well as any excess of any amounts received in the policy over its 
 cash surrender value on March 1, 1913.9* 
 
 When a taxpayer borrows money for business purposes and is 
 required to take out life insurance in favor of his creditor as 
 security for the loan, the premiums paid for such insurance may 
 be deducted as a business expense until the maturity and pay- 
 ment of the loan. This rule does not apply unless the policy was 
 taken out for the sole purpose of using it as security for the loan. 
 A taxpayer is not permitted to deduct the preniiums paid on a 
 policy taken out prior to the negotiations for a loan and later 
 assigned to the lender as security for such loan. The subsequent 
 assignment of the policy to the lender is merely incidental to the 
 purpose for which the policy was secured, and no additional 
 expense is incurred or loss sustained by virtue of its temporary 
 use as collateral. The increase in the cash surrender value of a 
 policy accruing during the period it is used as collateral is not 
 to be considered in computing the net income of the person who 
 pays the premium. A corporation which takes out a policy on 
 the life of one of its officers for the purpose of using the policy as 
 collateral may not deduct the premiums paid thereon.^" 
 
 In case a loan is renewed for the full amount, and a policy of in- 
 surance taken out in favor of the lender for the express purpose 
 of securing the loan is continued as security, the premium paid 
 thereon by an individual taxpayer is deductible as a business 
 expense under the same conditions applicable in the case of the 
 original loan. 
 
 If partial payment is made upon the maturity of the loan, and 
 the loan is renewed for the reduced amount, the premium paid is 
 deductible only to the extent that it is paid on insurance required 
 as security for the reduced amount of the loan.^^ 
 
 93 0. D. 688, T. B. 42-20-1247. 
 
 94 0. D. 1109, T. B. 47-21-1938; O. D. 38, T. B. 1-19-55. 
 
 95 0. D. 711, T. B. 44-20-1276; O. D. 396, T. B. 6-20-726; O. D. 1011, T. B. 
 35-21-1791. 
 
 96 0. D. 843, T. B. 11-21-1507. 
 
DEDUCTIONS — IN GENERAL 575 
 
 Special Assessments Against Local Benefits. Although assess- 
 ments against local benefits are frequently referred to as taxes, 
 and are imposed by local governments, they are not deductible as 
 taxes, if "of a kind tending to increase the value of the property 
 assessed."®^ The quoted words were added by the Revenue Act 
 of 1918, and are continued in the present law. Under the 1916 
 Law, which did not contain this provision, such assessments as, 
 for instance, for paving, curbing, installing sewerage and water 
 systems, etc., were held to be expenditures which add to the 
 value of the property and were required to be capitalized, that 
 is, added to the cost of the property for the purpose of determin- 
 ing the loss or gain in a subsequent sale of such property.^^ 
 
 Shrinkage in Value of Life or Terminable Interest Acquired by 
 Gift, Bequest or Inheritance. Under a new provision of the 
 Revenue Act of 1921 amounts paid under the laws of any state, 
 territory. District of Columbia, possession of the United States, 
 or foreign country as income to the holder of a life or terminable 
 interest acquired by gift, bequest, or inheritance may not be 
 reduced or diminished by any deduction for shrinkage (by what- 
 ever named called) in the value of such interest due to the lapse 
 of time, nor by any deduction allowed by the Revenue Act of 1921 
 for the purpose of computing the net income of an estate or trust 
 but not allowed under the laws of such state, territory. District 
 of Columbia, possession of the United States, or foreign country 
 for the purpose of computing the income to which such holder 
 is entitled.99 
 
 97 Revenue Act of 1921, §§214 (a) 3,234 (a) 3; Revenue Act of 1918, 
 §§214 (a) 3; 234 (a) 3. 
 
 SS Letter from Treasury Department dated December 22, 1914; I. T. S. 
 1919, U 1883. 
 
 99 Revenue Act of 1921, §215 (b). 
 
CHAPTER 22 
 
 DEDUCTION OF BUSINESS EXPENSES 
 
 The Revenue Act of 1921, like the Revenue Act of 1918, per- 
 mits to corporations the deduction of all the ordinary and neces- 
 sary expenses paid or incurred during the taxable year in carry- 
 ing on any trade or business, including a reasonable allowance 
 for salaries or other compensation for personal services actually 
 rendered, and including rentals or other payments required to 
 be made as a condition to the continued use or possession of 
 property to which the corporation has not taken or is not taking 
 title, or in which it has no equity.^ The two laws permit in- 
 dividuals the same deduction, except that the property with re- 
 spect to which rentals, or other payments required to be made, 
 may be deducted, must be used "for purposes of the trade or 
 business" carried on by the individual, ^ and that the 1921 Law 
 contains a provision which was not contained in the 1918 Law, 
 permitting individuals to deduct traveling expenses (including ' 
 the entire amount expended for meals and lodging) while away 
 from home in the pursuit of a trade or business.^ The deduc- 
 tion of business expenses is allowed in the case of nonresident 
 aliens and nonresident foreign corporations if and to the extent 
 that they are connected with income arising from a source 
 within the United States; and the proper apportionment and 
 allocation of their deduction with respect to sources of income 
 within and without the United States must be determined in 
 accordance with the statute and under rules and regulations 
 prescribed by the Commissioner with the approval of the sec- 
 retary.* The special provisions applicable to nonresident aliens, 
 
 1 Revenue Act of 1921, § 234 (a) 1; Revenue Act of 1918, § 234 (a) 1. 
 
 2 Revenue Act of 1921, § 214 (a) 1; Revenue Act of 1918, § 214 (a) 1. 
 
 3 Revenue Act of 1921, § 214 (a) 1. See Chapter 21, as to traveling 
 expenses. 
 
 4 Revenue Act of 1921, §§214 (b) and 234 (b) ; Revenue Act of 1918, 
 §§214 (b) and 234 (b). The 1916 Law permitted to Individuals the deduc- 
 tion of the "necessary expenses actually paid in carrying on any business or 
 trade," (Revenue Act of 1916, § 5 (a)), and in the case of corporations all 
 the ordinary and necessary expenses paid within the year in the mainte- 
 nance and operation of the business and properties of the corporation, in- 
 cluding rentals or other payments required to be made as a condition to the 
 continued use or possession of property to which the corporation has not 
 taken, or is not taking, title or in which it has no equity." The Revenue 
 Acts of 1918 and 1921 further qualify the expenses deductible as stated in 
 
 576 
 
DEDUCTION OF BUSINESS EXPENSES 577 
 
 and domestic corporations and foreign corporations are dis- 
 cussed in the chapters on these subjects. The discussion in 
 this chapter is limited to the rules applying generally to all 
 taxpayers. As a general rule, the expenses which may be de- 
 ducted are those necessary for the creation of the income which 
 is taxed. It should be noted, however, that the language of the 
 law contains some express limitations, which are more fully dis- 
 cussed in the following paragraphs. 
 
 "Ordinary and Necessary Expenses." Both the 1918 Law 
 and the 1921 Law provide for the deduction of "all the ordinary 
 and necessary expenses paid or incurred during the taxable year 
 in carrying on any trade or business." ^ The Revenue Act of 
 1916 provided for the deduction by corporations of "all the ordi- 
 nary and necessary expenses paid within the year in the mainte- 
 nance and operation of its business and properties." ^ Under 
 the 1916 Law it has been held that three conditions are im- 
 posed by the Congress upon the allowance of a deduction under 
 this heading: First, the deduction claimed must be for "ex- 
 penses * * * in the maintenance and operation of its business 
 and properties"; second, they must be "ordinary"; and third, 
 they must be "necessary." If they are not expenses in the 
 maintenance and operation of the business and properties of 
 the corporation they are not deductible. 
 
 To be deductible, expenditures must consist of that which is 
 spent or expended or the cost involved in the maintenance and 
 operation of the business and properties. 
 ' It is not enough that a deduction claimed should be expenses. 
 They must also be "ordinary and necessary." The use of the 
 co-ordinate conjunction requires that "expenses" to be deduc- 
 tible be both "ordinary" and "necessary." Neither qualifica- 
 tion alone satisfies the requirement of *the statute. "Ordinary" 
 is defined by Webster's dictionary as "common, usual, often 
 recurring." 
 
 Construing the phrase "ordinary and necessary expenses" 
 in the connection in which it is used, it seems that the deduc- 
 
 the text above by stipulating that they all be "ordinary" as well as "neces- 
 sary," allows their deduction if "incurred" as well as "paid" omitting the 
 word "actually" in connection with the word "paid." (Revenue Act of 
 1916, § 12 (a).) In the case of nonresident aliens the deduction was limited 
 to business conducted within the United States and in the case of foreign 
 corporations to business and property within the United States. 
 
 5 Revenue Act of 1918, §§214 (a) 1, and 234 (a) (1); Revenue Act of 
 1921, §§214 (a) (1) and 234 (a) (1). 
 
 6 Revenue Act of 1916, § 12 (a). 
 
578 FEDERAL INCOME TAX 
 
 tion intended to be allowed is only of the usual or common 
 and essential or reasonably necessary expenses in the case of a 
 corporation doing a similar kind and volume of business, and, 
 by implication, that extraordinary or unnecessary expendi- 
 tures in the maintenance or operation of the business or 
 prpperties are excluded. Nor, it seems, can the words "ordi- 
 nary and necessary" be construed as referring to the character 
 of the expenses only and not also their amount. To the popular 
 mind "ordinary and necessary expenses" of a corporation are 
 those which are usual and essential to the doing of a like kind 
 and volume of business by corporations generally. 
 
 Under this definition of "ordinary and necessary expenses," 
 the question of whether or not an expenditure claimed as a 
 deduction is legally obligatory upon the corporation and the 
 question of the date when the contract was entered into with 
 reference to the incidence of the taxing act and the motive 
 in entering into the contract would all seem to be immaterial.'^ 
 
 Business Expenses. Business expenses, whether subtracted 
 from total receipts in computing gross income or deducted from 
 gross income in computing net income, include all items entering 
 into what is ordinarily known as the cost of goods sold, together 
 with selling and management expenses, except such items as 
 are otherwise allowed by the law as deductions. Among the 
 items to be treated as business expenses are material, labor, 
 supplies and repairs in the case of a manufacturer, while a 
 merchant would include his purchases of goods bought for re- 
 sale. In either case the amount to be taken as a deduction 
 in any year should be determined by taking into consideration 
 the inventory at the beginning and end of the year. Other 
 items that may be included as business expenses are reasonable 
 compensation for the sei'vices of officers and employees, advertis- 
 ing and other selling expenses, together with insurance pre- 
 miums against fire, storm, theft, accident or other similar losses 
 in the case of a business, and rental for the use of business 
 property. A taxpayer is entitled to deduct the necessary ex-i 
 penses paid in carrying on his business from his gross income 
 from whatever source.^ 
 
 7 L. O. 1045, T. B. 41-20-1241. For a definition of the term "expense" see 
 People V. Board of Supervisors, 60 N. Y. Supp. 1122. For a definition of the 
 word "necessary" as excluding "extraordinary," see Chicago A. R. R. v. 
 House, 172 111. 601, 50 N. E. 151; Brown v. City of Corry, 175 Pa. St. 528, 
 34 Atl. 854, 855. See also Mayor, etc., of City of Baltimore v. Chesapeake 
 & Potomac Telephone Co., 92 Md. 692, 48 Atl. 465, 468. 
 
 8 Reg. 45, Art. 101. The 1916 Law permitted the deduction by corpora- 
 tions of "all the ordinary and necessary expenses paid t * * in the 
 
DEDUCTION OF BUSINESS EXPENSES 579 
 
 Where in addition to his salary as an employee, a taxpayer re- 
 ceives sundry amounts from various periodicals for articles con- 
 tributed by him, his activities in this respect being sufficiently 
 frequent to constitute his writing a business, it has been held 
 that the expenses incurred for information services, magazines, 
 stationery, and supplies used in connection with the production 
 of the articles referred to may be deducted as a business ex- 
 pense, but the cost of books is held to be a capital expense and 
 as such not deductible. There may be taken as a deduction an 
 amount representing depreciation on books, typewriter, fur- 
 niture, and other equipment of a permanent character in pro- 
 portion to their use in connection with the production of such 
 articles, providing, however, that no other deduction in respect 
 thereof has been or is being claimed in a return. When trips 
 are made for the express purpose of securing facts for an 
 article, there may be deducted from gross income the reasonable 
 and necessary traveling expenses including railroad fares, as 
 well as expenses for meals and lodging.^ 
 
 Under an option to purchase or so-called "bond and lease" 
 agreement concerning mineral property providing for the pay- 
 ment of royalties on ore mined and for the payment at stated 
 times of the amounts necessary to bring the total amounts paid to 
 certain specified sums, and giving an option to the purchaser 
 to take title to the property upon the payment of a specified 
 amount upon which the royalties and deficiency payments are 
 credited as part of the purchase price, the amounts paid as 
 royalties constitute operating expenses and are deductible as 
 such in determining net income. The additional sums paid to 
 make up the amounts of the several installments when due 
 are capital investments in the nature of bonuses recoverable 
 
 maintenance and operation of its business and properties." The 1918 Law 
 permits the deduction by corporations of "all the ordinary and necessary 
 expenses paid * * * in carrying on any trade or business," which seems 
 to be a broader phrase than that used in the 1916 Law. (Compare Revenue 
 Act of 1916, § 12 (a) with Revenue Act of 1918, § 234 (a) 1.) Expenses of 
 operation were held under the 1916 Law to include all expenditures for ma- 
 terial, labor, fuel, and other items entering into the cost of the goods sold 
 or inventoried at the end of the year, and all other expenses incurred in the 
 operation of the business, except such as were required by the act to be 
 segregated in the return (Reg. 33, Art. 114), or had been considered in 
 determining the cost. (Grand Rapids, etc. Ry. Co. v. Doyle, 245 Fed. 792; 
 T. D. 2210.) 
 
 9 0. D. 805, T. B. 7-21-1446. As to the deductibility of traveling ex- 
 penses see Chapter 21. 
 
580 FEDERAL INCOME TAX 
 
 through deductions for depletion, computed upon the total sum 
 of such additional payments to the end of the tax year.i" 
 
 As the bonus paid for delivery of a steamship at a date earlier 
 than that contracted for adds nothing to the value of the vessel 
 after the contract date of delivery the amount so paid is properly 
 chargeable as a business expense and is deductible from income 
 received between the date of delivery of the vessel and the 
 date it would have been delivered had no bonus been paid." 
 
 Where an officer of a bank was appointed receiver and trustee 
 of an insolvent debtor of the bank, and before accepting office, 
 agreed that he would turn over to the bank whatever compensa- 
 tion he received, it has been held that the amount of compensa- 
 tion so received by the officer during the taxable year should 
 be reported by him as gross income, and that the amount of 
 such compensation turned over to the bank in accordance with 
 the agreement referred to may be deducted by him as a busi- 
 ness expense.i2 
 
 In addition to the above the following items have been held 
 deductible as business expenses: (1) Fees paid to secure em- 
 ployment ;i3 (2) dues paid to an organized labor union;" (3) 
 amounts expended by members of Congress for clerk hire in 
 excess of the allowance made by the government ;i5 (4) expenses 
 incurred by a' taxpayer engaged in trade or business in making a 
 trip to Washington in connection with an additional tax assessed 
 by the bureau of internal revenue, upon his trade or business;^® 
 (5) amounts expended for office rent and clerical help by a tax- 
 payer whose income is derived principally from investments in 
 stocks and bonds, if he can show in his return that such ex- 
 penses are ordinary and necessary within the meaning of the 
 statute;" (6) the subscription price paid by a taxpayer for a 
 technical magazine or trade journal to be used by him as a means 
 of furthering his business interests ;i8 (7) the payment of an 
 addition to tax for delinquency in filing a return when such addi- 
 
 10 Sol. Op. 86, T. B. 4-21-1406. 
 
 11 O. D. 664, T. B. 38-20-1203. 
 
 12 0. D. 1009, T, B. 35-21-1789. 
 
 13 O. D. 579, T. B. 28-20-1055. 
 " O. D. 450, T. B. 15-20-846. 
 15 O. D. 310, T. B. 25-19-583. 
 18 O. D. 849, T. B. 12-21-1518. 
 17 O. D. 877, T. B. 16-21-1576. 
 IS 0. D. 785, T. B. 5-21-1417. 
 
DEDUCTION OF BUSINESS EXPENSES 581 
 
 tion is incident to carrying on a business or trade ;i8 (8) the cost 
 of erecting a portion of a siding from a railroad to his property 
 borne by a taxpayer, the siding to be owned and operated by the 
 railroad; 20 (9) an amount expended by a taxpayer for attorney's 
 fees in defending a suit for negligence brought by a tenant in- 
 jured on the taxpayer's farm.^i 
 
 The following items have been held not to be deductible as 
 business expenses: (1) The cost of transportation paid by a 
 salaried employee living at a distance from his employment in 
 order to go and return from such employment;^^ (2) amounts 
 expended in defending a suit for damages alleged to have been 
 caused by the negligent operation of an automobile owned and 
 operated for personal convenience.^^ Where ships in process 
 of construction under contract were requisitioned by the ship- 
 ping board, completed, and then reconveyed to the company from 
 which they were requisitioned for an amount in excess of the 
 contract price, the entire cost is held to be a capital expendi- 
 ture' and the excess of the cost over the contract price is not 
 deductible as a loss or a business expense.^* 
 
 Business Expenses Connected With Leasehold Property. 
 The Jaw provides for the deduction as expense of rentals or other 
 payltients required to be made as a condition to the continued 
 use or possession, for purposes of the trade or business in the 
 case of an individual, and in all cases by corporations, of prop- 
 erty to which the taxpayer has not taken or is not taking title, 
 or in which he has no equity .^^ Where a leasehold is acquired for 
 business purposes for a specified sum, the purchaser may take 
 as a deduction in his return an aliquot part of such sum each 
 year, based on the number of years the lease has to run.^^ 
 Not only is rent paid for business property deductible as an 
 expense, but also amounts paid to secure immediate possession 
 of property purchased from a tenant in possession. Sums so 
 paid should be spread as a deduction in equal amounts over 
 
 19 0. 926, T. B. 23-19-551. The payment of an addition to tax because 
 of a false or fraudulent return may not ordinarily be deducted in the ease 
 of an individual who himself was guilty of making a fraudulent return. 
 
 20 0. D. 1019, T. B. 36-21-1800. 
 
 21 0. D. 1117, T. B. 48-21-1947. 
 
 22 S. 1048, T. B. 8-19-317. Such cost is held to be a personal expense. 
 
 23 A. R. R. 444, T. B. 12-21-1527. 
 
 24 0. D. 851, T. B. 12-21-1520. 
 
 25 Revenue Act of 1921, §§214 (a) 1 and 234 (a) 1; Revenue Act of 
 1918, §§ 214 (a) 1 and 234 (a) 1. 
 
 26 Reg. 45, Art. 109; T. D. 3062, T. B. 37-20-1198. 
 
582 ' FEDERAL INCOME TAX 
 
 the term of the outstanding lease.^'^ Where a lessor pays a 
 fixed sum to secure the cancellation of a lease on business 
 property, the sum so paid is an allowable deduction in aliquot 
 parts for the year of cancellation and the succeeding years 
 of the life of the lease.^s Attorneys' fees in connection with 
 securing such a cancellation are also a proper deduction. ^^ Where 
 the lessee of business premises pays to the lessor as damages 
 a lump sum in consideration of the lessor's cancellation of a 
 lease for a term of years, the sum paid equalling a certain 
 amount for each month of the unexpired term, it is held that 
 the amount paid is an allowable deduction as a business ex- 
 pense. The amount of the damages is deductible for the year 
 in which actually paid or accrued depending upon the method 
 of accounting employed.^° The expense of restoring property at 
 the expiration of a lease is an allowable deduction only in the 
 year in which it is actually incurred.^i The value as of March 1, 
 3913, of a leasehold acquired prior to that date, can not be 
 used in determining the amount deductible each year by" the 
 lessee when the leasehold was acquired on the basis of annual 
 rental ' payments equal to a percentage of the income derived 
 from the leased property, no specified sum having been paid 
 in addition to the annual rentals. The amount deductiblie by 
 the lessee each year is the rental payment.^^ A lessor of resi- 
 dential property is entitled to deduct the water rent paid in 
 the District of Columbia on such property, since in such case 
 the rent is a business expense incident to the lease of the prop- 
 erty. Where water rent is paid on residential property by 
 the person occupying it as such, it becomes a personal expense 
 and is not an allowable deduction.^^ 
 
 Advertising Expenses. A corporation may deduct the ex- 
 penses of a national campaign of advertising its manufactured 
 product in the year in which paid or accrued and may not 
 carry such expenses as a deferred asset and charge them off 
 over a period of years.^* Amounts expended in outfitting a 
 baseball team which represents the taxpayer, and the uniforms 
 
 27 O. D. 585, T. B. 28-20-1061. 
 
 28 O. D. 397, T. B. 6-20-727; A. R. R. 178, T. B. 28-20-1054. 
 
 29 A. R. R. 178, T. B. 28-20-1054. 
 
 30 0. D. 974, T. B. 28-21-1726. 
 
 31 O. D. 516, T. B. 21-20-952. 
 
 32 O. D. 675, T. B. 40-20-1220. 
 
 33 O. D. 719, T. B. 45-20-1291. 
 
 34 O. D. 1039, T. B. 38-21-1829. 
 
DEDUCTION OF BUSINESS EXPENSES 583 
 
 of which bear the name of the taxpayer the players represent, 
 if considerable publicity is thereby obtained, may be deducted 
 like other advertising expenses. ^^ 
 
 Expenses Relating to Patents. A royalty paid by a cor- 
 poration to one of its officers, who is also a majority stockholder, 
 for the use of a patent upon an article manufactured and sold 
 by the corporation is deductible as a business expense, pro- 
 vided the amount so paid is reasonable, considering the value 
 of the invention and its salability in the open market. Any 
 payment so made in excess of a reasonable amount would 
 represent a distribution of profits, and consequently would not 
 be deductible.'*® Amounts expended by a corporation in litiga- 
 tion defending its right, title, and interest in a patent after 
 the patent has been issued are not a part of the cost of the 
 patent and thus capital expenditure; such amounts may con- 
 sequently be deducted as an operating expense.^''^ 
 
 Professional Expenses. A professional man may claim as the 
 cost of supplies used by him in the practice of his profession, 
 expenses paid in the operation and repair of an automobile used 
 in making professional calls, dues to professional societies and 
 subscriptions to professional journals, the rent paid for office 
 rooms, the expense of the fuel, light, water, telephone, etc., 
 used in such offices, and the hire of office assistants. Amounts 
 expended for books, furniture and professional instruments and 
 equipment of a permanent character are not allowable as deduc- 
 tions.38 A professional singer may not deduct payments to a 
 throat specialist.^^ 
 
 Rent for Residential Property. In the case of a profes- 
 sional man who rents property for residential purposes but re- 
 ceives there clients, patients, or callers in connection with his 
 professional work (his place of business being elsewhere) no 
 part of the rent is deductible as expense.**' 
 
 Cost of Manufacturing Products. A manufacturer might, un- 
 der the 1916 Law, include as elements of the cost of manufac- 
 tured products, the cost of raw material, the labor cost of the 
 men actually working on such products, as well as the cost of 
 supervisory labor such as that of foremen, inspectors, overseers, 
 etc., provided such expenditures were not separately deducted 
 
 35 0. D. 1030, T. B. 37-21-1815. 
 
 36 O. D. 440, T. B. 14-20-835. 
 
 37 A. R. R. 98, T. B. 20-20-934. 
 
 38 Reg. 45, Art. 104. 
 
 39 0. D.'1032, T. B. 37-21-1819. 
 « Reg. 33 Rev., Art. 8. 
 
584 FEDERAL INCOME TAX 
 
 from gross income.^i This ruling permits certain items of wages 
 and salaries to be included in the cost of the manufactured 
 product, or to be separately listed as labor, wages, commissions, 
 etc. 
 
 Cost of Materials. Taxpayers carrying materials and supplies 
 on hand should deduct as expenses the charges for materials 
 and supplies only to the amount that they are actually con- 
 sumed and used in operation during the year for which the 
 return is made, provided that the cost of such material and 
 supplies has not been taken into account in determining net 
 income for any previous year. If a taxpayer carries materials 
 or supplies on hand for which no record of consumption is 
 kept or of which physical inventories at the beginning and end 
 of the year are not taken, it will be permissible for the taxpayer 
 to deduct from gross income as expenses the total cost of such 
 supplies and materials as were purchased during the year for 
 which the return is made, provided the net income is clearly 
 reflected by this method.*^ 
 
 Repairs. Incidental repairs made to the business property of 
 a taxpayer, which neither add to the value of the property nor 
 appreciably prolong its life, but keep it in an operating condi- 
 tion, are deductible as expense, provided the plant or property 
 account is not increased by the amount of such expenditures.*^ 
 This is true of repairs made by a lessee of property who by the 
 terms of the lease is required to return the leased properties 
 at the end of the lease in the same condition they were in at the 
 date of the lease.** Expenditures for replacing worn-out parts 
 such as gears, bolts, nuts, valves, etc., so long as such replace- 
 ments are not pursued to the extent of, and for the purpose 
 of finally restoring the machinery or equipment as a whole, 
 constitute incidental repairs and are deductible as operating 
 expenses. In addition, depreciation on the property so repaired 
 may be claimed in order to replace the machinery, equipment 
 or building when, as an entirety, it is worn out or is worthless 
 for the purpose for which it is intended.*^ 
 
 41 T. D. 2152. 
 
 42 Reg. 45, Art. 102. 
 
 43 Reg. 33, Art. 131; Reg. 45, Art. 103. Maintenance means the upkeep 
 or preserving of the condition of the property to be operated and does not 
 mean additions to the equipment, property or improvements of former con- 
 dition of the property. Grand Rapids, etc., Ry. Co. v. Doyle, 245 Fed. 792 ; 
 T. D. 2210. If 
 
 44 0. D. 1014, T. B. 35-21-1794. 
 
 45 Reg. 45, Art. 103. Letter from treasury department dated 'September 
 19, 1916. 
 
DEDUCTION OF BUSINESS EXPENSES 585 
 
 Where a corporation engaged in buying and selling real estate 
 purchases a piece of property and holds it for a profit, the inter- 
 est, taxes, and ordinary repairs incident to the property repre- 
 sent charges for the year in which paid or are so pharged upon 
 the books as to represent liabilities of the corporation and are 
 allowable deductions in computing net income even though in 
 excess of the gross income derived from the propertyi Such 
 charges are not capital expenditures if the corporation has 
 any income from which to deduct them and they should not be 
 added to the cost of the property in determining the amount of 
 gain or loss arising from its sale except to the extent that the 
 corporation has no gross income from any source against which 
 to deduct such expenditures for the taxable year in which they 
 were made.*^ 
 
 Office Furniture and Equipment. An ordinary amount 
 expended for renewal of office furniture and equipment, and 
 charged to expense, has been held not to be invested in assets, 
 but to be a proper expense of maintenance of the business of an 
 insurance company, which it was entitled to deduct in ascer- 
 taining its taxable net income under the 1909 Law. The com- 
 pany had expended in one year $1,213 for ordinary renewals 
 of office furniture, in another year $1,379, and an additional 
 sum of $1,808 for ordinary renewals of attendants' uniforms, 
 door mats, window shades, awning, small hardware, oils and 
 other articles of like character and also the sum of $2,244 for 
 ordinary renewals of office equipment, consisting of lamps, 
 alterations of fixtures, shades, meters, fans, plugs, wirings, etc., 
 and these expenditures were no greater than the average of 
 similar expenditures for other years and did not exceed 5% of 
 the cost of all the plaintifli's existing furniture and equipment 
 similar to the articles detailed, and none of the items was consid- 
 ered in the corporation's books or statement as assets because of 
 their rapid depreciation. The articles mentioned were of a 
 perishable and transient nature, and properly charged to ex- 
 pense of maintenance, since they apparently did no more than 
 maintain in proper condition and repair the ordinary equipment 
 of office furniture and supplies.*'^ 
 
 Expenditures for Alterations. In the case of a company 
 which expended approximately $5,000 for alterations in its home 
 office, apparently solely with a view of facilitating the carrying 
 
 « O. Ej. 398, T. B. 6-20-728. 
 
 "Mutual Benefit Life Ins. Co. v. Herold, 198 Fed. 199, affirmed 201 
 Fed. 918. 
 
586 FEDERAL INCOME TAX 
 
 on of its business, it was held under the 1909 Law that such 
 amount was properly deducted as an expense. The court said 
 in part: "It should be remembered, also, that in these days of 
 up-to-date business method requirements it often becomes neces- 
 sary for business concerns to change the lay-out and appoint- 
 ments of the places wherein they carry on business, with a view 
 to economy in space, a saving of unnecessary labor, and the 
 bettering of working conditions of employees, to the end that 
 a net saving of running expenses will result. In view of the 
 consistent expansion of the plaintiff's business, which the evi- 
 dence shows, it would seem that the amount expended for the 
 changes made in the office ought not, under the circumstances, 
 to be considered unreasonable or unusual, and that, therefore, 
 the amount claimed might well have been allowed as an item of 
 deduction. It seems to the court that business concerns, in 
 matters of this kind, should be allowed a reasonable discretion, 
 and the law so enforced as to help rather than to hinder them 
 in making reasonable progress in the development of their busi- 
 ness, for it must appear to any one giving the matter a moment's 
 consideration that the more successful a business the larger 
 the results, even from the standpoint of taxes accruing to the 
 government. "*8 
 
 Repairs and Improvements Made by a Tenant. Where a 
 lease requires the tenant to make all necessary repairs or im- 
 provements, which repairs or improvements revert to the land- 
 lord at the expiration of the lease, the tenant may charge the 
 cost of all such repairs and improvements as an expense of do- 
 ing business. If the improvements are somewhat permanent in 
 character, the expense should not be all deducted in one year, 
 but should be prorated over the number of years constituting 
 the term of the lease, and the amount deductible in each year 
 would be the aliquot part of such cost.*® Taxes or other expenses 
 paid by the tenant for the landlord should be deducted by the 
 tenant as expense. 
 
 Cost of Buildings Erected by Tenant Under Terms of 
 Lease. Where under the terms of a lease, a tenant agrees to 
 erect a building, or to expend during the rental period a fixed 
 sum in making improvements upon the freehold, the building 
 or permanent improvements become a part of the realty, unless 
 otherwise agreed upon, between the contracting parties. As the 
 use of the building or permanent improvement by the tenant, 
 
 4S Connecticut Mutual Life Ins. Co. v. Eaton, 218 Fed. 206. 
 49 T. B. 2137. 
 
DEDUCTION OF BUSINESS EXPENSES 587 
 
 during the term of the lease, is a part of the consideration of 
 the contract, the cost of such buildings or improvements may 
 be prorated by the tenant over the leased term and deducted, 
 at an annual rate, as a part of the necessary expenses actually 
 paid in carrying on any business or trade. The tenant may also 
 deduct the cost of incidental repairs and maintenance to such 
 buildings and improvements, but no depreciation may be claimed 
 with respect to such buildings and improvements.^" If the build- 
 ing is erected, or permanent improvements are made after the 
 lease is partially expired, the cost thereof may be divided by 
 the number of years the lease then has to run, and if the life 
 of the lease is longer than the estimated life of the building or 
 improvements, the cost may be divided by the number of years 
 such building or improvements are expected to last, instead of 
 the number of years constituting the life of the lease.^^ 
 
 Buildings Used for Rental Purposes. A landlord may claim 
 as an expense any amounts expended for maintenance of the 
 property or its use for rental purposes, including amounts paid 
 for repairs, insurance, fuel, light and water, and janitor and ele- 
 vator service, if any.^^ Where the landlord occupies a part of 
 the building as his own dwelling he should not deduct such pro- 
 portion of the expenses of operating the building as inure to his 
 personal benefit, as that part constitutes personal or living ex- 
 penses which are not deductible. Thus, if a landlord lives in 
 one-half of the building, one-half of the expenses are not an 
 allowable deduction in his return. 
 
 Reserves. Payments by a corporation to a trustee during a 
 taxable year and set aside for a "maintenance fund" to be con- 
 trolled solely by the trustee pursuant to a provision in the by- 
 laws of the company requiring such payments, are not deductible. 
 Such amounts held by the trustee and accumulated are an asset 
 of the corporation and any gain accruing therefrom is income of 
 the corporation. 5s 
 
 Insurance on Property. Insurance premiums paid on property 
 used for business purposes, or rented or leased to secure an in- 
 come, are an allowable deduction.^ Premiums on crop insurance 
 
 50 Reg. 45, Art. 109; T. D. 2442; Reg. 33, Art. 115; T. D. 3062; T. B. 
 37-20-1198; A. R. R. 384, T. B. 7-21-1456. 
 
 51 Reg. 45, Art. 109 ; letter from treasury department dated February 
 27, 1917; I. T. S. 1918, 1| 1506. 
 
 52 Letter from the treasury department dated February 26, 1915; I. T. 
 S. 1919, 11920. 
 
 53 0. D. 1047, T. B. 89-21-1840. 
 
 54 Reg. 45, Art. 101; T. D. 2090. 
 
588 FEDERAL INCOME TAX 
 
 taken out as a protection against a loss on account of crop 
 conditions are deductible as a business expense.^s 
 
 Fidelity Insurance. Where an employee is required to furnish 
 a bond and pay the premium thereon, as a necessary incident to 
 his employment, the amount so paid may be deducted by him as 
 an expense.56 Thus premiums paid on indemnity bonds fur- 
 nished by government employees for the faithful performance 
 of their duties constitute allowable deductions.^^ If the em- 
 ployer pays the premium it may be included in his business 
 expense. 
 
 Insurance Reserves. Funds set aside by a corporation for in- 
 suring its own property are not a proper deduction as a business 
 expense, but any loss actually sustained may be deducted, al- 
 though actually paid out of a fund so set aside.^s 
 
 Insurance Under Workmen's Compensation Law. Under the 
 Workmen's Compensation Law of a state, employers are re- 
 quired either to make periodical payments to the state in- 
 surance fund created to compensate employees for injuries re- 
 ceived in the course of their employment, or to maintain a 
 benefit fund providing for the payment of such compensation, 
 giving a bond as additional security for the payment of such 
 compensation. Where the employer makes the periodical pay- 
 ments to the insurance fund of a state such payments are allow- 
 able deductions for the year in which paid or accrued. If, how- 
 ever, the employer maintains a fund actually depositing periodi- 
 cally in a trust company an amount to be held in reserve as a 
 special fund for the payment of compensation as injuries occur, 
 the amount thus deposited is not an allowable deduction from 
 gross income, since there is no means of determining how much 
 of this fund will be used for the purpose for which it is held. 
 In such case the actual amount paid during a year to the em- 
 ployees as compensation where injuries occur is a proper deduc- 
 tion for that year whether the amount so paid is greater or less 
 than the deposits made during the period to the fund which is 
 maintained.59 
 
 Subtraction for Redemption of Trading Stamps. Where a tax- 
 payer, for the purpose of promoting his business, issues with 
 sales trading stamps or premium coupons redeemable in mer- 
 chandise or cash, he should in computing the income from such 
 
 33 0. D. 215, T. B. 11-19-377. 
 
 56 T. D. 2090. 
 
 57 0. D. 878, T. B. 16-21-1577. 
 
 58 Reg. 33, Art. 122. 
 
 39 O. D. 964, T. B. 27-21-1712. 
 
DEDUCTION OF BUSINESS EXPENSES 589 
 
 sales subtract only the amount received or receivable which 
 will be required for the redemption of such part of the total 
 issue of trading stamps or premium coupons issued during the 
 taxable year as will eventually be presented for redemption. 
 This amount will be determined in the light of the experience of 
 the taxpayer in his particular business and of other users engaged 
 in similar businesses. The taxpayer should file for each of the 
 five preceding years, or such number of these years as stamps or 
 coupons have been issued by him, a statement showing (a) the 
 total issue of stamps during each year, (b) the total stamps 
 redeemed in each year, and (c) the percentage for each year 
 of the stamps redeemed to the stamps issued in such year. A 
 similar statement should also be presented showing the experi- 
 ence of other users of stamps or coupons whose experience is 
 relied upon by the taxpayer to determine the amount to be sub- 
 tracted from the proceeds of sales. The Commissioner will 
 examine the basis used in each return, and in any case in which 
 the amount subtracted in respect of such stamps or coupons is 
 found to be excessive an amended return or amended returns 
 will be required.^" 
 
 Propaganda Expenses. Sums of money expended for lobbying 
 purposes, the promotion -or defeat of legislation, the exploitation 
 of propaganda, including advertising other than trade advertis- 
 ing, and contributions for campaign expenses, are not deductible 
 from gross income.^^ 
 
 Commissions. Commissions paid to a real estate agent for 
 collecting rents and managing property are allowed as a busi- 
 ness expense to the owner. Commissions paid to salesmen as 
 a part of the expense of conducting business are also allowed 
 as a deduction.fi2 Commissions paid in purchasing and selling 
 securities are a part of the cost or selling price of the securi- 
 ties and are not otherwise deductible.^^ Advances made to sales- 
 men during a taxable year in excess of commissions earned 
 constitute an allowable deduction, where the taxpayer is obli- 
 gated under its contracts with its salesmen to make such ad- 
 vances as long as they remain in its employ, and where such 
 advances will never be repaid except to the extent that com- 
 missions earned in a subsequent year exceed the guaranteed 
 advances of that year.^* 
 
 60 Reg 45, Art. 87; Reg. 33 Rev., Art. 141. 
 
 61 Reg. 45, Art. 562 ; T. D. 2137. 
 
 62 T. D. 2090. 
 
 63 Reg. 45, Art. 293 ; Reg. 33 Rev., Art. 8. 
 
 64 A. R. R. 374, T. B. 6-21-1429. 
 
590 FEDERAL INCOME TAX 
 
 Entertainment Money. So-called spending or treating money 
 actually advanced by business enterprises to their traveling 
 salesmen, as a part of the selling expense of their product, is a 
 proper deduction. There must, however, be some showing that 
 all of the allowance claimed as a deduction has been actually 
 expended for the purpose for which the allowance is made, 
 namely, the selling of the product in question.ss Expenses ac- 
 crued in furnishing entertainment to the taxpayers' employees 
 by means of picnics or dances are not deductible.*'^ 
 
 Salaries and Compensation for Personal Services, The 1916 
 Law did not expressly mention "salaries" in the provisions 
 allowing the deduction of business expenses."^ The 1921 Law, 
 like the 1918 Law, expressly authorizes the deduction by em- 
 ployers of "a reasonable allowance for salaries or other com- 
 pensation for personal services actually rendered." ^^ The 
 rulings hold the test of deductibility to be whether in fact pay- 
 ments of salaries are reasonable and are purely for services or 
 include "some other element." In the case of any compensa- 
 tion, however determined, which exceeds amounts ordinarily 
 paid for like services in like enterprises under like circum- 
 stances, the burden is upon the taxpayer to show that the 
 amount paid is solely the purchase price of services. The form 
 or method of fixing compensation is not decisive as to deduc- 
 tibility. While any form of contingent compensation invites 
 scrutiny as a possible distribution of earnings of the enterprise, 
 it does not follow that payments on a contingent basis are to be 
 treated fundamentally on any basis different from that applying 
 to compensation at a flat rate. Generally speaking, if contingent 
 compensation is paid pursuant to a free bargain between the 
 enterprise and the individual made before the services are ren- 
 dered, not influenced by any consideration on the part of the 
 employer other than that of securing on fair and advantageous 
 terms the services of the individual, it should be allowed as a de- 
 duction even though in the actual working out of the contract 
 it may prove to be greater than the amount which would ordi- 
 narily be paid. In any event the allowance for compensation 
 
 65 T. D. 2090. 
 
 66 O. D. 1030, T. B. 37-21-1815. 
 
 67 Revenue Act of 1916, § 6 (a) and § 12 (a). 
 
 68 Revenue Act of 1921, §§ 214 (a) (1) and 234 (a) (1) ; Revenue Act of 
 1918, §§214 (a) and 234 (a). These provisions seem to authorize the Com- 
 missioner to disallow such part of any salary payments as appear un- 
 reasonable in view of the services rendered, notwithstanding that the 
 salary may actually have been paid under a valid contract. 
 
DEDUCTION OF BUSINESS EXPENSES 591 
 
 paid may not exceed what is reasonable in all the circumstances. 
 It is in general just to assume that reasonable and true com- 
 pensation is only such amount as would ordinarily be paid for 
 like services by like enterprises in like circumstances. The 
 circumstances to be taken into consideration are those existing 
 at the date when the contract for services was made, not those 
 existing at the date when the contract is questioned.^^ 
 
 The problem of determining reasonable compensation for per- 
 sonal services is one of difficulty, in that there are few general 
 rules which can be laid down as guides to a decision, Many 
 factors are involved, such as the character and amount of re- 
 sponsibility, ease or difficulty of the work itself, time required, 
 working conditions, future prospects, living conditions of the 
 locality, individual ability, technical training, profitableness to 
 the employer of the services rendered, and the number of avail- 
 able persons capable of performing the duties of the position. 
 These and other factors have a bearing, and the amount of 
 weight to be attached to each one can be determined only in the 
 light of the circumstances in each particular case.™ A large 
 number of cases have arisen under the Revenue Act of 1918 
 and prior laws, dealing with the question of what under the 
 particular facts presented constitutes a reasonable compensa- 
 tion for personal services.''^ The decisions made are of com- 
 paratively little general value, but, in addition to the above dis- 
 cussion of the subject, the following general principles should be 
 applied in the determination of the question as it arises in any 
 particular case : 
 
 CO T. D. 2696, Reg. 45, Arts. 105, 106. It was held under the 1916 Law 
 that reasonableness was ordinarily the controlling test of the deductibility 
 of salaries determined after services had been rendered. In certain in- 
 stances apparently of this sort it was permitted to be shown that the com- 
 pensation was fixed according to a custom or practice having virtually the 
 force of a contract. Where this was not true and it was for the management 
 to fix a fair compensation it was assumed that true compensation was only 
 such amount as would ordinarily be paid in like circumstances by similar 
 enterprises; in other words, that the fair criterion was what the recipient 
 could get -by rendering the same services to another employer. (T. D. 
 2696.) 
 
 70 T. B. M. 44, T. B. 10-19-362. 
 
 71 A. R. R. 31, T. B. 9-20-768; A. R. M. 30, T. B. 9-20-767; A. R. R. 32, 
 T. B. 9-20-769; A. R. M. 39, T. B. 14-20-829; A. R. R. 53, T. B. 14-20-830; 
 
 A. R. R. 61, T. B. 15-20-847; O. D. 504, T. B. 20-20-935; A. R. R. 223, T. 
 
 B. 32-20-1119; T. B. M. 86, T. B. 22-19-534; T. B. M. 70, T. B. 18-19-401; 
 T. B. R. 46, T. B. 15-19-444. 
 
592 FEDERAL INCOME TAX 
 
 1. Each case must be decided on its own merits ; there is no 
 warrant for iixing any maximum limit for deductible salaries-i^^ 
 
 2. Salaries voted before the passage of any excess-profits tax 
 law are subject to a less severe test of reasonableness than 
 salaries voted thereafter and unless they bear a close relation- 
 ship to stockholdings will almost invariably be allowedJ^ 
 
 3. Salaries voted subsequently to the passage of the 1917 
 Excess-Profits Tax Law will not be disallowed if, after deduct- 
 ing the salaries, the company has left a normal return on 
 invested capital or if the deduction does not reduce the net 
 earnings subject to tax below that of competing concerns which 
 secure the services of officers and employees by open bargain- 
 ingj* 
 
 4. If salaries are reasonable in amount in view of all the 
 circumstances, they will not be disallowed even if based on 
 stockholdings. Relationship to stockholdings will not per se 
 disqualify salaries; it will require their disallowance only if 
 unreasonable.'^ 
 
 5. Generally speaking, salary or compensation agreements 
 made in advance between an enterprise with its officers and em- 
 ployees are not subject to the same degree of scrutiny as agree- 
 ments made after the services are rendered.'^" 
 
 6. In cases where compensation is determined after services 
 have been rendered reasonableness is, ordinarily, the test of 
 deductibility." 
 
 7. Salaries voted subsequently to the close of any taxable 
 year and to the closing of the books for such year, in the ab- 
 sence of contract obligation, are not deductible.'''^ 
 
 8. Salaries will not be considered collectively, but the sala- 
 ries paid individually will be analyzed carefully to determine 
 their reasonableness and whether they are purely payment for 
 services rendered.'™ 
 
 T2T. B. R. 46, T. B. 15-19-444; A. R. M. 138, T. B. 39-21-1841. 
 
 73 A. R. R. 53, T. B. 14-20-830; A. R. M. 30, T. B. 9-20-767; A. R. R. 346, 
 T. B. 51-20-1352; but see L. 0. 1045, T. B. 41-20-1231. 
 
 74 A. R. R. 53, T. B. 14-20-830; but see A. R. R. 223, T. B- 32-20-1119; 
 A. R. R. 435, T. B. 13-21-1528. 
 
 75 A. R. R. 32, T. B. 9-20-769; A. R. M. 30, T. B. 9-20-767. 
 
 76 A. R. R. 31, T. B. 9-20-768; A. R. M. 39, T. B. 14-20-829; but see 
 L. O. 1045, T. B. 41-20-1231. 
 
 77 A. R. R. 61, T. B. 15-20-847; 0. D. 504, T. B. 20-20-935. 
 
 78 T. B. M. 86, T. B. 22-19-534; O. D. 497, T. B. 19-20-917; A. R. R. 
 493, T. B. 20-21-1637; A. R. R. 519, T. B. 22-21-1662. 
 
 79 A. R. M. 138, T. B. 39-21-1841. 
 
DEDUCTION OF BUSINESS EXPENSES 593 
 
 9. The amount of salary fixed by a board of directors is pre- 
 sumptively valid, but not conclusively so, and the government 
 has the right to attack the action of the board of directors and 
 show by evidence, not that a given salary is too much, but that, 
 in the circumstances, the whole or some part of it is not salary 
 at all, but is profits diverted to a stockholding officer under the 
 guise of salary .80 
 
 Salaries Constituting a Distribution of Dividends. Any 
 amount paid in the form of a salary, but not in fact as the 
 purchase price of services is not deductible. In the case of 
 corporations, a salary paid to an officer or employee who is not 
 a stockholder is a proper deduction if it fulfills the requirements 
 stated in the preceding paragraph. Where the ofl[icer or em- 
 ployee is also a stockholder, the salary deduction is subjected to 
 closer scrutiny. An ostensible salary may be a distribution of a 
 dividend on stock, especially in the case of a corporation having 
 a few stockholders, practically all of whom draw salaries. If 
 in such a case the salaries are based upon or bear a close rela- 
 tionship to the stockholdings of the officers or employees, the 
 presumption will be that the salaries, if in excess of those ordi- 
 narily paid for similar services, are not paid wholly for services 
 rendered, but in part as a distribution of earnings upon the 
 stock.81 jji thg case of excessive payments by corporations, if 
 such payments correspond or bear a close relationship to stock 
 holdings, the amount of the excess should be treated as divi- 
 dends and would thus be exempt from the normal tax in the 
 hands of the recipients.^^ 
 
 sou. S. V. Philadelphia Knitting Mills Co., 273 Fed. 65, decided under 
 the 1909 Law. See A. R. M. 138, T. B. 39-21-1841. 
 
 81 Reg. 45, Art. 105. It was first held that the following rules should be 
 observed in connection with such payments: (a) the services must be 
 actually performed, (b) the amount must be no more than a fair and 
 reasonable compensation for services rendered, and (c) the compensation 
 should not depend upon the interest of the officer or employee in the cor- 
 poration as a stockholder or vary from year to year with the earnings 
 of the corporation. (T. D. 2152; letter from treasury department dated 
 February 2, 1916; I. T. S. 1918, Hlf 1389 and 1811.) See subparagraph 9, 
 of the preceding paragraph. Under the 1909 Law it was held that in 
 addition the salary paid to an officer who was a stockholder must be 
 authorized by the board and made a matter of record on the minute book 
 of the corporation, in order to be an allowable deduction. (T. D. 1742.) 
 Where a company was composed of two stockholders who divided the net 
 profits between them, calling it compensation, it has been held by the courts 
 that the money paid out was equivalent to a dividend. (Jacobs and 
 Davies, Inc., v. Anderson, 228 Fed. 505; T. D. 2262.) 
 
 82 Reg. 45, Art. 106; T. D. 2696; O. D. 1012, T. B. 35-21-1792. See also 
 Reg. 33, Art. 119. It is conceivable, of course, that an individual may ren- 
 
594 FEDERAL INCOME TAX 
 
 Salaries Constituting a Waste of Assets. An ostensible 
 salary paid by a corporation may be in part a waste or appro- 
 priation of assets of the corporation, especially where salaried 
 employees are in control of the corporation through holding, di- 
 rectly or indirectly, a majority of its stock. In the case of a 
 large corporation with many stockholders owning a substantial 
 minority of its stock the tendency of officers unduly to inflate 
 their salaries must be taken into account. In such cases pay- 
 ments representing a waste or appropriation of assets of the cor- 
 poration by officers who control it and fix their compensation 
 in violation of the rights of the corporation are held not to be 
 deductible to the amount of their excess over a reasonable com- 
 pensation. While disallowed as a deduction to the corporation 
 such payments are required to be treated as compensation of 
 the individuals, subject to the normal tax, compensation illegally 
 secured being none the less subject to tax in all respects.^s 
 
 Salaries Constituting Part Payment for Property. An 
 ostensible salary may be in part payment for property. This 
 may occur, for example, where a partnership sells out to a cor- 
 poration, the former partners agreeing to continue in the serv- 
 ice of the corporation. In such case it may be found that 
 the salaries of the former partners are not merely for services, 
 but in part constitute payment for the transfer of their busi- 
 ness. The amount of the excess should be treated by the cor- 
 poration as a capital expenditure and by the recipient as part 
 of the purchase price.^* 
 
 Excessive Payments by Individuals or Partnerships. In 
 the case of excessive payments by individuals or partnerships, 
 the amounts disallowed should ordinarily be treated as shares 
 of the profits of a partnership, except that a payment for prop- 
 erty should be treated by the individual or partnership as a 
 capital expenditure and by the recipient as part of the purchase 
 price.^ 
 
 der services of great value to a corporation of which he is the chief stock- 
 holder and it seems reasonable that he should be entitled to compensation 
 for services he actually performs in addition to his dividends as a stock- 
 holder since as a stock holder he is under no duty to devote any part of 
 his time to the business of the corporation. 
 
 83 Reg. 45, Arts. 105, 106. Under the 1916 Law if a compensation con- 
 tract with the majority stockholder or stockholders was approved by all 
 the stockholders, as well as by the directors, it might however be dealt 
 with like any other contract. (T. D. 2696.) 
 
 84 Reg. 45, Arts. 105, 106. 
 
 85 Reg. 45, Art. 106. 
 
DEDUCTION OF BUSINESS EXPENSES 595 
 
 Salaries Paid to Enlisted Men. An individual, partner- 
 ship or corporation continuing to pay an officer or employee his 
 salary or compensation, or part thereof, while he serves in the 
 United States army or navy or while he has undertaken services 
 for the government at Washington or elsewhere at reduced or 
 nominal compensation, is permitted to deduct the amount as an 
 expense, on the theory that the business purpose of the continu- 
 ance of such compensation is to preserve the organization and 
 secure the return after the war of such officers or employees.^s 
 
 Compensation Paid to Employees During Absence at 
 Schools. Where a corporation encourages or requires its em- 
 ployees to attend part-time schools it may deduct as a business 
 expense reasonable amounts paid as compensation to such em- 
 ployees during their absence from employment while attending 
 such schools.^'' 
 
 Allowances to Minor Children. The father is legally en- 
 titled to the services of his minor children. Allowances which 
 he gives them, whether said to be in consideration of services or 
 otherwise, are not allowable deductions.*^ 
 
 Bonuses and Profit Sharing Payments. The rules and regula- 
 tions'89 in regard to the deductibility of special payments made as 
 extra compensation to officers or employees of an enterprise,^" do 
 not permit of a ready determination of every question,"! but indi- 
 cate an increasing liberality on the part of the treasury depart- 
 ment toward the allowance of such payments as deductions. All 
 such payments to officers or employees having any considerable 
 interest in the profits of the enterprise through stock ownership 
 or otherwise are subject to careful analysis in the same' manner 
 as salaries. The scope of this scrutiny has been treated in the 
 foregoing paragraphs. As previously stated, while any form of 
 
 80 Reg. 45, Art. 108; T. D. 2660; letter from treasury department 
 dated October 4, 1916; L T. S. 1918, 111391. 
 
 87 0. D. 850, T. B. 12-21-1519. 
 
 88 Reg. 45, Art. 291. See Chapter 21. 
 
 • 89 Reg. 45, Art. 107; T. D. 2696; T. D. 2616; T. D. 2152; T. D. 2090; Reg. 
 33 Rev., Arts. 8 and 138; letter from treasury department dated June 25, 
 1914; I. T. S. 1918, If 1398; mimeograph letter to collectors No. 1314, I. T. S. 
 1918, Tf 1401 ; letter from treasury department dated November 12, 1917 ; 
 I. T. S. 1918, IT 1407. 
 
 90 The later rulings treat the question irrespective of the status of 
 the payor of the bonus, establishing the same rule, so far as deductibility 
 is concerned, in the case of individuals, partnerships and corporations. 
 The term "enterprise" is used in the text to include all these three forms of 
 business activity. 
 
 91 They are said "to indicate a basis of solution" when applied "in the 
 light of full knowledge of the facts in the particular case." (T. D. 2696.) 
 
596 FEDERAL INCOME TAX 
 
 contingent compensation invites scrutiny as a possible distribu- 
 tion of earnings of the enterprise, it does not follow that pay- 
 ments on a contingent basis are to be treated fundamentally on 
 any basis different from that applying to compensation at a flat 
 rate. Just as in the case of salaries, the test is whether the 
 payments are made in good faith and are in fact purely for serv- 
 ices or include "some other element." Generally speaking, if 
 contingent compensation is paid pursuant to a friendly bargain 
 between the enterprise and the individual, made before the serv- 
 ices are rendered, not influenced by any consideration on the part 
 of the employer other than that of securing on fair and advan- 
 tageous terms the services of the individual, the contingent com- 
 pensation should be allowed as a deduction; even though in the 
 final working out of the contract it may prove to be greater than 
 the amount which would ordinarily be paid. Reasonableness is 
 ordinarily the controlling test of the deductibility in the case of 
 bonuses and special compensation for services, as in the case of 
 salaries. Summarizing the latest rulings"- the following rules 
 may be stated as a basis for the determination of the question 
 whether special payments made as extra compensation to officers 
 and employees of an enterprise are deductible under the heading 
 of business expenses: (a) the fundamental test is whether or not 
 such payments are made as compensation for services rendered ; 
 (b) if payments of compensation for services rendered are made 
 in pursuance of a contract express or implied (which need not be 
 in writing) ^3 or a long-time practice (practically an implied con- 
 tract) , regularly employed, of paying to employees certain sums 
 in addition to their stipulated salaries, constituting a condition, 
 if not a contract, whereby the employees may reasonably expect 
 for greater or better service rendered, additional pay, they are 
 deductible ; (c) if payments are made as compensation for serv- 
 ices rendered, but not in pursuance of a contract expressed or 
 implied or a long-time practice as above stated, the total amount 
 of salary and extra compensation may not exceed a reasonable 
 compensation for the services rendered ; (d) bonuses or additions 
 to salaries voted subsequent to the close of any taxable year and 
 also subsequent to the closing of the books for such taxable year 
 will not be considered such ordinary and necessary expenses of 
 doing business during such year as are deductible."* The early 
 
 92 Reg. 45, Art. 107; T. D. 2696. 
 
 93 A written contract is, of course, better evidence in case any question 
 arises. 
 
 04 O. D. 497, T. B. 19-20-917. 
 
DEDUCTION OF BUSINESS EXPENSES 597 
 
 condition that payments of bonuses or extra compensation could 
 not be dependent upon the earnings of the paying corporation no 
 longer obtains except insofar as it may throw light upon the ques- 
 tion of whether or not the payments in question are made as 
 compensation for services rendered.^^ 
 
 In ■ a case in which three officers and principal stockholders 
 of a corporation were paid a commission and salary aggregating 
 50% of the gross margin on the business developed by each, 
 such commission and salary were held reasonable because the 
 business of the corporation was dependent almost solely upon the 
 personal efforts of such officers.^s 
 
 Additional Compensation Paid in Stock. Where, for the 
 purpose of distribution as additional compensation to its em- 
 ployees, a corporation purchases its own stock in the open 
 market, the market value of such stock at the time of distribution 
 is the amount which the corporation is entitled to deduct as an 
 ordinary and necessary expense of business assuming, of course, 
 that the compensation is reasonable and proper.®'^ A propor- 
 tionate part of the par value of a company's stock, delivered to 
 a trustee to be held in escrow for the benefit of certain employees 
 of the company, which stack is to be delivered to them at the 
 expiration of a number of years in recognition of faithful service, 
 may be taken as a deduction for each of such years during the 
 period the trustee holds the stock, providing the corporation keeps 
 its books on an 'accrual basis. 
 
 95 The early rulings held in effect that payments made by a corporation 
 as extra compensation to officers and employees might be deducted: (a) 
 if it was clearly shown that they were made as compensation for services 
 rendered; (b) if they were paid in pursuance of a contract express or 
 implied; (1) the contract need not have been in writing, (2) a long time 
 practice (practically an implied contract), regularly employed, of paying 
 to employees certain sums in addition to their stipulated salaries con- 
 stituted a condition if not a contract, whereby the employees might 
 reasonably expect, for greater or better services rendered, additional pay 
 and was equivalent to a contract within this heading; (c) if the total 
 amount of salary and extra compensation was not greater than a 
 reasonable compensation for the services rendered; (d) if they were not 
 conditional upon the earnings of the corporation but were conditional or 
 dependent upon the services rendered. (See note 89.) These tests were 
 later modified, as indicated in the text above. 
 
 96 T. B. M. 81, T. B. 23-19-554. 
 
 9TA. R. M. 114, T. B. 11-21-1509. This ruling is based on the depart- 
 ment's prior ruling that a corporation realizes no gain or loss from the 
 purchase of its own stock (Reg. 45, Art. 542) and on a ruling holding in a 
 similar case that the employee's additional compensation 'is the value of 
 the stock when received (0. D. 570, T. B. 27-20-1039). 
 
598 FEDERAL INCOME TAX 
 
 If the employee for whom the stock was deposited should 
 forfeit his right to receive the stock, the corporation must report 
 as income in the year in which the right to receive the stock 
 is forfeited, the amounts taken as a deduction in previous years 
 on account of the forfeited stock.^s 
 
 Gifts, Gratuities or Donations to Employees. Gifts or 
 gratuities made by an enterprise to its employees are not proper 
 deductions under the heading of expense. Even where such pay- 
 ments are called extra compensation, if they are in fact gratuitous 
 or voluntary payments for which no services are rendered, their 
 character as gifts is not changed.. The custom of paying bonuses 
 or Christmas gifts to employees, even though it has been the prac- 
 tice of the enterprise for a long time to make such gifts, does not 
 render the amount so paid a proper deduction as expense if the 
 gift is purely voluntary and gratuitous.^^ On the other hand, 
 gifts or bonuses to employees will constitute allowable deductions 
 from gross income when such payments are made in good faith 
 and as additional compensation for the services actually rendered 
 by the employees, provided such payments, when added to the 
 stipulated salaries, do not exceed a reasonable compensation for 
 the services rendered. ■ Donations made to employees and others, 
 which do not have in them the element of compensation or are in 
 excess of reasonable compensation for services, are considered 
 gratuities and are not deductible from gross income.^"*' 
 
 Pensions. Under the 1916 Law the deduction of amounts paid 
 as pensions was allowed or disallowed upon the basis of the gen- 
 eral provisions ^"^ of that law permitting the deduction of all the 
 necessary expenses of individuals in carrying on any business or 
 trade and the ordinary and necessary expenses of corporations 
 paid in the management and operation of their business and prop- 
 erties. The Revenue Acts of 1921 and 1918 expressly provide ^"2 
 that these expenses include "a reasonable allowance for salaries 
 and other compensation for personal services actually rendered." 
 But the intent is probably not to exclude pensions by reason of 
 services which have been rendered. It has been ruled that 
 amounts paid for pensions to retired employees or to their fam- 
 ilies or others dependent upon them, or on account of injuries 
 
 9S0. D. 124, T. B. 3-19-186. 
 
 99 Reg. 45, Art. 107. See T. D. 2090; T. D. 2152; mimeograph letter to 
 collectors, No. 1314; I. T. S. 1918, If 1407. 
 
 100 Reg. 45, Art. 107. 
 
 101 Revenue Act of 1916, §§ 5a and 12a. 
 
 102 Revenue Act of 1921, §§214 (a) (1) and 234 (a) (1); Revenue Act 
 of 1918, §§ 214 (a) 1 and 234 (a) 1. 
 
DEDUCTION OF BUSINESS EXPENSES 599 
 
 received by employees, and lump sum amounts paid as compensa- 
 tion for injuries, are a proper deduction as ordinary and neces- 
 sary expenses. Such deductions are limited to the amount not 
 compensated for by insurance or otherwise. No deduction may 
 be made for contributions to a pension fund held by the corpora- 
 tion, the amount deductible in such case being the amount act- 
 ually paid to the employee. When the amount of the salary of 
 an officer or employee is paid for a limited period after his death 
 to his widow or heirs in recognition of the services rendered by 
 the individual, such payments may be deducted.^^^ 
 
 Donations. Donations by business concerns may or may not 
 be held to be proper deductions as expense. There must be a 
 consideration in some form to take the donation out of the class 
 of gratuities. When a donation legitimately represents a con- 
 sideration for a benefit flowing, directly or indirectly, to the 
 donor, as an incident of its business, it is an allowable deduction. 
 It has been held that a corporation engaged in the agricultural 
 business can not be allowed to make deductions on account of do- 
 nations to fairs, churches, and associations; such donations, al- 
 though made for the purpose of obtaining and preserving the 
 good-will of the farmers, being mere gratuities. Where a street 
 railway company donates a sum of money to an organization in- 
 tending to hold a convention in the city in which the company 
 operates, with the expectation that the holding of such conven- 
 tion will augment its income because a greater number of people 
 will use its street cars, the donation has been held to be deduct- 
 ible. A donation to a hospital, under agreement that employees 
 of the donor are to have a ward for their use in case of accident 
 or illness, is a proper deduction. Donations made for purposes 
 connected with the operation of the business, when limited to 
 charitable institutions, hospitals or educational institutions, con- 
 ducted for the benefit of employees or their dependents, are within 
 this class, but such donations should be reduced by any amount 
 repaid to the corporation by the employees. Expenses incurred 
 in advertising and promoting the sale of Liberty bonds and war 
 savings stamps over the corporation's name were held deduct- 
 ible."* 
 
 103 Reg. 45, Art. 108. This reverses the earlier rulings of the treasury 
 department regarding salaries paid to the widow or heirs of the employee 
 after his death. (Reg. 33 Rev., Art. 136; T. D. 2090.) 
 
 104 Reg. 45, Art. 562; T. D. 2847; Reg. 33 Rev., Art. 134; letter from 
 treasury department dated May 23, 1918; I. T. S. 1918, H 3437; telegram 
 from treasury department dated May 23, 1918; I. T. S. 1918, 113436; 0. 
 D. 682, T. B. 41-20-1236. 
 
600 FEDERAL INCOME TAX 
 
 Donations made to the American Red Cross, United War Work- 
 ers, Liberty loan drives and the Salvation Army are held not to 
 be deductible as business expenses. Donations made by indus- 
 trial and railway corporations to the Young Men's Christian 
 Associations are held not to be deductible even where the associa- 
 tions are located on the property of these corporations and are 
 operated for the benefit of the employees of such corporations.^""' 
 
 A corporation may not deduct the amount paid into a pension 
 fund for the benefit of its employees in the taxable year. This 
 rule obtains, although the corporation constitutes itself a trustee 
 of the sum contributed to pay the income thereof to its em- 
 ployees, but reserving absolute discretion as to the selection of 
 the employees to be benefited.i"'^ Donations by a corporation to a 
 pension fund for the benefit of its officers and employees, the 
 fund being organized entirely separate and distinct from the 
 corporation, having its own set of books, making its own invest- 
 ments, and paying its own expenses, legal title of which does not 
 remain in the corporation, are deemed to be donations to a chari- 
 table institution conducted for the benefit of the corporation's 
 employees or their dependents, representing a consideration for a 
 benefit flowing directly to the corporation as an incident of its 
 business, and are allowable deductions from gross income.^"''' 
 
 In a case in which certain corporations and individuals contrib- 
 uting largely to the taxes of a municipality the financial condition 
 of which would not permit the erection of certain bridges, donated 
 the cost of such bridges, it has been held that such donations 
 do not represent a consideration for a benefit flowing directly to 
 the corporations and individuals as an incident to their business, 
 even though the municipal and industrial life of the city was 
 dependent to the largest possible extent upon the bridges and the 
 entire city was benefited by their erection.ios Payments to 
 trustees by a cemetery corporation during the taxable year of a 
 certain percentage of the proceeds of sales of cemetery lots set 
 aside for a maintenance fund to be controlled solely by the 
 
 105 A. R. R. 373, T. B. 4-21-1411; Reg. 45, Art. 562. As to Red Cross 
 donations see T. D. 2847. Corporations which had erroneously included 
 as deductions for 1918, contributions to the Red Cross and other 
 recognized war organizations were required within 30 days from August 
 16, 1921, to file a statement under oath showing the amount of such de- 
 ductions claimed, the amount of net income as reported and as corrected, 
 and the additional amount of tax due (T. D. 3215, T. B. 36-21-1807). 
 
 106 S. 965, T. B. 2-19-164. 
 
 107 O. D. 110, T. B. 2-19-165. 
 lOS 0. D. 607, T. B. 30-20-1094. 
 
DEDUCTION OF BUSINESS EXPENSES 601 
 
 trustees thereof are not deductible from the gross income of the 
 corporation even though such payments are required by state 
 law.109 
 
 Membership Fees and Dues. Membership fees or dues paid 
 by individuals and corporations to a chamber of commerce or 
 board of trade are deductible as a business expense, provided the 
 membership is employed as a means of advancing the business in- 
 terests of the individual or corporation.^'" Membership dues paid 
 to a certain lumber exporters' association organized for the pur- 
 pose of promoting in all lawful ways the general business interests 
 of exporters of forest products by the collection and dissemination 
 to its members of information and statistics relating to such ex- 
 port business, this purpose being accomplished by protecting the 
 lumber, export business against unjust discriminations and re- 
 strictions, by the establishment of uniform practices, customs, 
 and usages in the trade and by the establishment of an inspection 
 and classification service for the use and protection of members, 
 represent a consideration for benefits flowing directly to the payor 
 as an incident of its business, and consequently, may be deducted 
 as a business expense.^ Assessments paid by member banks to 
 a clearing house as a means of furthering their business interests 
 may be deducted as business expenses in the returns of such 
 • banks."2 
 
 Payments from Earnings of Public Utility Paid to State. In 
 the case of a public utility acquired, constructed, operated or 
 maintained by a taxpayer under contract with any state, terri- 
 tory, or political subdivision thereof, or with the District of Col- 
 umbia, containing an agreement that a portion of the net earn- 
 ings of such public utility shall be paid to the state, territory, or 
 political subdivision thereof, or the District of Columbia, the 
 amount so paid may be deducted by the taxpayer as a necessary 
 expense in transacting business.^^^ 
 
 109 O. D. 529, T. B. 22-20-975. 
 
 110 O. D. 421, T. B. 13-20-808. 
 1110. D. 496, T. B. 19-20-916. 
 
 112 0. D. 747, T. B. 50-20-1342. 
 
 113 Revenue Act of 1921, §213 (b) (7); Revenue Act of 1918, §213 (b) 
 (7) ; Reg. 45, Art. 84; T. D. 2090; see Revenue Act of 1916, § 11 (b). 
 
CHAPTER 23 
 
 DEDUCTION OF INTEREST 
 
 The Revenue Act of 1918 provided that citizens and residents 
 and domestic corporations might deduct all interest paid or ac- 
 crued within the taxable year on indebtedness, except on indebt- 
 edness incurred or continued to purchase or carry obligations or 
 securities (other than obligations of the United States issued after 
 September 24, 1917) , the interest upon which was wholly exempt 
 from taxation as income to the taxpayer. Nonresident aliens and 
 foreign corporations might deduct that proportion of such inter- 
 est which the amount of his or its gross income from sources 
 within the United States bore to the amount of his or its gross in- 
 come from all sources within and without the United States.^ The 
 general provision of the 1921 Law permitting the deduction of in- 
 terest is the same as that of the 1918 Law except that there is 
 added to the parenthetical exception the words "and originally 
 subscribed for by the taxpayer".- In the case of nonresident 
 aliens and foreign corporations the deduction of interest is al- 
 lowed only if and to the extent that it is connected with income 
 from sources within the United States and the proper appor- 
 tionment and allocation with respect to sources of income within 
 and without the United States must be determined in accordance 
 with the statute and under rules and regulations prescribed by 
 the Commissioner with the approval of the secretary .^ But this 
 deduction, under both laws, is allowed to a nonresident alien 
 only if he files a true and accurate return of his total income from 
 all sources, corporate or otherwise, in the manner prescribed* 
 by the law. In all cases, interest upon indebtedness incurred or 
 continued to purchase or carry obligations or securities (other 
 than obligations of the United States issued after September 24, 
 1917) , the interest upon which is wholly exempt from the income 
 tax to the taxpayer, may not be deducted. Thus, a citizen or resi- 
 dent may, with the exception above stated, deduct all interest 
 paid or accrued within the taxable year on his indebtedness. This 
 
 1 Revenue Act of 1918, §§214 (a) 2, 234 (a) 2; Reg. 45, Art. 121. The 
 limitations imposed by the 1916 law upon the amount of interest which might 
 be deducted by corporations is discussed in Chapter 10. See also appendix 
 to the 1920 edition of this book. 
 
 2 Revenue Act of 1921, §§ 214 (a) 2 and 234 (a) 2. 
 
 3 Revenue Act of 1921, §§214 (b) and 234 (b). See Chapter 4. 
 
 4 Revenue Act of 1918, §217; Revenue Act of 1921, §217 (g). 
 
 602 
 
DEDUCTION OF INTEREST 603 
 
 includes not only indebtedness incurred for business purposes, but 
 indebtedness incurred for any purpose, such as for the purpose of 
 buying dwelling houses or any articles or things of personal use. 
 It is immaterial what term is applied to payments on the obliga- 
 tions of a corporation if such payments are in fact interest.^ 
 
 Interest on Capital. Interest calculated as being a charge 
 against income on account of capital or surplus invested in the 
 business, but which does not represent a payment on an interest- 
 bearing obligation, is not an allowable deduction from gross in- 
 come; that is to say, the interest which the money might earn if 
 otherwise invested is not a deductible charge against income.*' 
 
 Indebtedness Incurred or Continued to Purchase or Carry Tax- 
 Exempt Securities. The Revenue Act of 1921 does not permit the 
 deduction of interest paid or accrued on "indebtedness incurred or 
 continued to purchase or carry obligations or securities (other 
 than obligations of the United States issued after September 24, 
 1917) , and originally subscribed for by the taxpayer,'? the interest 
 upon which is wholly exempt from taxation under this title." ^ 
 State and municipal bonds are obligations or securities falling 
 within this class, as well as national bonds issued prior to Sep- 
 tember 1, 1917. Interest on indebtedness incurred for the pur- 
 chase of Liberty bonds of the second issue (the interest on which 
 is not entirely exempt from the surtax) was held deductible re- 
 gardless of the limitation contained in the 1917 Law." By the 
 parenthetical clause of the 1918 provision taking obligations of 
 the United States issued after September 24, 1917, out of the 
 exception to the deductibility of interest, the Revenue Act o± 
 1918 made it clear that interest on indebtedness incurred or 
 
 5 0. D. 1060, T. B. 41-21-1861. 
 
 6 Reg. 45, Art. 122. 
 
 7 The words "and originally subscribed for by the taxpayer", were not 
 contained in the 1918 Law. Revenue Act of 1921, §§ 214 (a) 2, and 234 
 (a) 2. 
 
 8 Revenue Act of 1918, §§214 (a) 2, 234 (a) 2. Prior to its amendment 
 by the Revenue Act of 1917, it was held under the 1916 Law that interest 
 paid on indebtedness might be deducted, whether or not the indebtedness 
 was incurred for the purchase of bonds, the interest upon which was 
 exempt from taxation. This ruling in effect permitted a double deduction, 
 that is, the interest on the money so borrowed could be deducted and the in- 
 come derived from the money so borrowed and invested could also be 
 deducted. The 1917 Law did not permit the deduction of interest paid 
 on "indebtedness incurred for the purchase of obligations or securities 
 the interest upon which is exempt from taxation as income under this 
 title." (Revenue Act of 1916, §§ 5 (a), 12 (a), as amended by the Revenue 
 Act of 1917.) 
 
 9 Reg. 45, Art. 121; T. D. 2511. 
 
604 FED.ERAL INCOME TAX 
 
 continued to purchase or carry Liberty bonds of the second and 
 subsequent loans would be allowed as a deduction."* The exten- 
 sion of the exception to the deductibility of interest first con- 
 tained in the 1918 Law and continued in the present law to in- 
 debtedness "continued" as well as "incurred," and incurred or con- 
 tinued to "carry" as well as to "purchase" tax-exempt securities 
 should be noted. The limitation imposed by the 1921 Law on the 
 deduction of interest on indebtedness incurred or continued to 
 purchase or carry obligations of the United States issued after 
 September 24, 1917, by the addition of the words "and originally 
 subscribed for by the taxpayer," will have far-reaching effects, 
 as there are probably few taxpayers who are still paying in- 
 terest on their original subscriptions to such bonds. 
 
 Interest Paid or Accrued Within the Year. The 1909 Law pro- 
 vided for the deduction of "interest actually paid within the 
 year" and it was contended by the treasury department that this 
 provision required that the interest should be both accrued and 
 paid within the same year. It was held, however, that interest 
 actually paid within the year although previously accruing should 
 be permitted as a deduction." The 1913 Law provided for the 
 deduction of interest paid within the year by individuals, and 
 "interest accrued and paid within the year" by corporations. In 
 a ruling under that law it was held that in the case of corpora- 
 
 inReg. 45, Art. 121; O. D. 40, T. B. 1-19-57. The provision of the 1918 
 Law permitting the deduction of all interest paid or accrued within the 
 taxable year was the subject of some criticism on the ground that it per- 
 mitted a reduction of the income tax by the purchase of non-taxable se- 
 curities with borrowed money. The remedy proposed was that the interest 
 deduction be limited to an amount bearing the same proportion to the 
 total interest paid upon indebtedness which the taxpayer's income derived 
 from taxable sources bore to his income from all sources. The provision 
 of the 1918 Law as it stood permitted the deduction of interest paid or 
 accrued on indebtedness incurred or continued to purchase or carry ob- 
 ligations of the United States issued after September 2i, 1917. The paren- 
 thetical exception to the general restriction upon the deduction of interest 
 was designed to stimulate the sale of Liberty Bonds. It will be remembered 
 that the Victory or Fifth Liberty Loan consisted of two kinds of notes; 
 that is, (1) 41% three/four year convertible gold notes exempt from state 
 and local taxes except estate and inheritance taxes and from normal Federal 
 taxes, (2) 31% three/four year convertible gold notes exempt from all 
 Federal, state and local taxes except estate and inheritance taxes. It 
 could hardly have been contemplated at the time §§ 214 (a) 2 and 234 
 (a) 2 (a) of the Revenue Act of 1918 were drawn that the Victory Loan 
 would include any wholly e&empt notes or bonds. 
 
 11 Anderson v. 42 Broadway Co., 213 Fed. 777. The Supreme Court in 
 reversing the lower court (239 U. S. 69) did not pass on the question of 
 deducting interest accrued in one year and paid in another. 
 
DEDUCTION OF INTEREST 605 
 
 tions the deduction should be limited to interest which had both 
 accrued and been paid within the same year.12 The 1916 Law per- 
 mitted the deduction of interest "paid within the year.''^^ The 
 •Revenue Act of 1921, like the 1918 Law, permits the deduction 
 of interest "paid or accrued within the taxable year."i* It does 
 not seem essential under these provisions that interest should 
 have accrued or become payable in the year in which it is paid in 
 the case of taxpayers reporting on a basis of cash receipts and 
 disbursements. 
 
 Where a decree was made by a lower court in 1917 requir- 
 ing a corporation to distribute dividends, the decision being 
 affirmed in 1919 and a decree entered requiring payment of in- 
 terest from the date of the decree in the lower court, the divi- 
 dend, with interest, being paid in 1919 in accordance with the 
 decree, it has been ruled that the total amount paid should not 
 be treated as a dividend, but only the amount originally decreed 
 by the lower court. This decree established the relationship of 
 debtor and creditor between the corporation and its shareholders, 
 and the final decree not merely affirmed the relationship, but 
 a'Vi^rded interest on the amount of the debt. The fact that the 
 interest on the debt ran from the date of the decree in the 
 lower court to the date of payment in 1919 does not require 
 an application of the principle of accrual with reference to pay- 
 ment or receipt of interest, as it was not known that interest 
 would be awarded or what the rate of interest would be until 
 the appellate court entered its decree. The interest on the 
 amount of the dividends paid in 1919 in accordance with the 
 decree of the Supreme Court, represented interest paid by the 
 corporation, and was deductible for the year in which paid.^^ 
 
 Where a lumber company entered into a contract for the pur- 
 chase of a timber tract, agreeing to pay for the quantity of 
 timber which it was estimated would be cut each year, payment 
 to be made at the time each block is cut at a certain rate per 
 
 12 T. D. I960. 
 
 13 Revenue Act of 1916, §§5 (a), 12 (a), as amended by the Revenue 
 Act of 1917. 
 
 14 Revenue Act of 1921, §§ 214 (a) 2 and 234 (a) 2; Revenue Act of 1918, 
 §§214 (a), 2, 234 (a) 2. The term "paid or accrued" is to be construed 
 according to the method of accounting upon the basis of which the net 
 income of the taxpayer is computed. (Revenue Act of 1921, § 200; Revenue 
 Act of 1918, § 200.) Under the 1916 Law, corporations keeping books of 
 account on an accrual basis were permitted to deduct interest for the year 
 whether paid or not, when such interest was shown as a charge against 
 accrued income upon the books of account (T. D. 2625). 
 
 15 0. D. 778, T. B. 4-21-1407. 
 
606 FEDERAL INCOME TAX 
 
 thousand feet, plus interest at 6% per annum from the date of 
 contract, it has been held that inasmuch as the interest charge 
 did not accrue and become payable until the timber was cut, it 
 was not a proper deduction until that time. The agreement was 
 an executory contract to purchase the timber and no interest is 
 deductible except as the contract is executed. The interest pay- 
 ment does not constitute an operating expense of the company, 
 but enters into the cost of the lumber produced that year." 
 
 Interest on Taxes. Interest paid or accrued on overdue federal 
 income and excess-profits taxes is held not to be a part of the tax 
 but is deductible as interest.^'' 
 
 Maryland and Pennsylvania Ground Rent. Payments made for 
 Maryland or Pennsylvania ground rents are not deductible as in- 
 terest.18 
 
 Interest on Real Estate Mortgage. Interest paid by the tax- 
 payer on a mortgage upon real estate of which he is the legal or 
 equitable owner, even though the taxpayer is not directly liable 
 upon the bond or note secured by such mortgage, may be de- 
 ducted as interest on his indebtedness. i'-* 
 
 16 O. D. 595, T. B. 29-20-1075. 
 
 17 This applies to all interest added to the tax under the provisions of 
 §250 of the Revenue Act of 1918 and §250 of the Revenue Act of 1921. 
 O. 922, T. B. 7-20-745; 0. D. 319, T. B. 26-19-595. 
 
 18 Reg. 45, Art. 121. 
 
 19 Reg. 45, Art. 121. 
 
CHAPTER 24 
 DEDUCTION OF TAXES 
 
 The provisions of the Revenue Act of 1921, with respect to 
 the deduction of taxes in the case of citizens and residents and 
 domestic corporations are, in general, and with one exception as 
 to taxes paid by corporations for their shareholders, the same 
 as those of the 1918 Law. The 1918 Law specified the taxes 
 which might be deducted ; the Revenue Act of 1921 provides for 
 the deduction of all taxes except those specified as not deduct- 
 ible. The provisions of the 1918 Law respecting the deduction 
 of taxes by nonresident aliens and foreign corporations are given 
 below. The Revenue Act of 1921 provides that such taxpayers 
 may be allowed the deduction for taxes granted to citizens and 
 residents aiid domestic corporations if and to the extent such 
 deduction is connected with income from sources within the 
 United States and the proper apportionment and allocation of 
 such deduction must be determined in accordance with the defini- 
 tions of income from sources within and sources without the 
 United States set forth in the law and under rules and regula- 
 tions prescribed by the Commissioner with the approval of the 
 secretary.! 
 
 In the case of citizens and residents and domestic corporations 
 the provisions of the Revenue Act of 1918 for the deduction of 
 taxes were the same. Such taxpayers might deduct taxes paid 
 or accrued within the taxable year imposed (a) by the authority 
 of the United States, except income, war-profits, and excess- 
 profits taxes; or (b) by the authority of any of its possessions, 
 except the amount of income, war-profits and excess-profits taxes 
 allowed as a credit against the tax of the taxpayer; or (c) by 
 the authority of any state or territory, not including those as- 
 sessed against local benefits of a kind tending to increase the 
 value of the property assessed; or (d) by the authority of any 
 foreign country except the amount of income, war-profits and 
 excess-profits taxes allowed as a credit against the tax of the 
 taxpayer. Nonresident aliens and foreign corporations were 
 allowed to deduct the taxes included in items (a), (b), and (c) 
 above; in lieu of the taxes included in item (d) above they were 
 allowed to deduct taxes imposed by the authority of any foreign 
 country (except income, war-profits and excess-profits taxes, 
 
 1 Revenue Act of 1921, §§214 (b) and 234 (b). 
 
 607 
 
608 FEDERAL INCOME TAX 
 
 and taxes assessed against local benefits of a kind tending to in- 
 crease the value of the property assessed), upon property or 
 business.2 The Revenue Act of 1921 allows the deduction, in the 
 case of citizens and residents and domestic corporations, of taxes 
 paid or accrued vs^ithin the taxable year except (a) income, war- 
 profits and excess-profits taxes imposed by the authority of the 
 United States, (b) so much of the income, war-profits and excess- 
 profits taxes imposed by the authority of any foreign country 
 or possession of the United States, as is allowed as a credit 
 against the tax of the taxpayer, (c) taxes assessed against local 
 benefits of a kind tending to increase the value of the property 
 assessed. A citizen or resident may not deduct taxes imposed 
 upon his interest as shareholder or member of a corporation, 
 which are paid by the corporation without reimbursement from 
 the taxpayer, the deduction of such taxes now being expressly 
 allowed to the corporation.-^ The provisions of the 1921 Law as 
 to nonresident aliens and foreign corporations have been indi- 
 cated above. The deduction of taxes by nonresident aliens under 
 both laws is only allowed if they file a true and accurate return 
 of income from all sources, corporate or otherwise, in the United 
 States in the manner prescribed by law.'* In addition to the 
 taxes which are allowed as a deduction from gross income in 
 computing net income, certain taxes are permitted to be credited 
 against the tax otherwise payable. These credits are discussed 
 in a chapter following.^ 
 
 Taxes Paid or Accrued Within the Year. Under the 1913 and 
 1916 Laws the provisions permitting the deduction of taxes ex- 
 pressly limited such deduction to taxes paid within the year. It 
 was held by the treasury department that reserves for taxes 
 could not be established, as only sums actually paid within the 
 year could be deducted, that is, the aggregate of the amounts 
 actually paid as shown by the cash book.'^ The Revenue Act of 
 
 2 Revenue Act of 1918, §§214 (a) 3, 234 (a) 3. Reg. 45, Art. 131. 
 Under the 1916 Law, in the case of nonresident aliens and foreign cor- 
 porations the taxes which might be deducted were limited to those assessed 
 by the United States or its territories or possessions or under the authority 
 of any state, county, school district or municipality or other taxing sub- 
 division of any state, paid within the United States, within the year, except 
 such taxes as were not deductible by any class of taxpayers. (Revenue 
 Act of 1916, §§6 (a), 12 (b).) For the special rulings applicable to 
 nonresident aliens and foreign corporations see Chapters 4 and 10. 
 
 3 Revenue Act of 1921, §§ 214 (a) 3 and 234 (a) 3. 
 
 4 Revenue Act of 1921, § 217; Revenue Act of 1918,^217. 
 
 5 See Chapter 32. 
 
 6 Reg. 33, Arts. 156, 158. 
 
DEDUCTION OF TAXES 609 
 
 1921, like the 1918 Law, provides for the deduction of, taxes 
 "paid or accrued." The term "paid or accrued" is to be con- 
 strued according to the method of accounting upon the basis 
 of which the net income of the taxpayer is computed^ The 
 Revenue Act of 1921 provides that for the purpose of their de- 
 duction, estate, inheritance, legacy, and succession taxes accrue 
 on the due date thereof except as otherwise provided by the 
 law of the jurisdiction imposing such taxes.^ 
 
 The New York state franchise tax imposed for the privilege 
 of doing business in that state for the fiscal year of the state 
 ending October 31, 1920, is based on 1918 income, but is not 
 due and payable until a later date. A taxpayer making a calendar 
 year return on an accrual basis may deduct two-twelfths of 
 such tax in his return for 1919 and ten-twelfths in his return for 
 1920.8 Munitions taxes are properly chargeable against the in- 
 come of the year in which the munitions are made and sold or 
 otherwise disposed of. When the books of the manufacturer are 
 kept upon an accrual basis the amount of such taxes should be 
 included as. a deduction from income, and the liability therefor 
 should appear upon the 'oooks of account of the company at 
 the close of the taxable year.i" It has been ruled that a cor- 
 poration might not accrue munitions taxes for 1916 and 1917 
 and deduct as expenses the amount so accrued during each 
 year in its munitions tax return for that year before the final 
 computation of the munitions tax had been made. The muni- 
 tions tax as finally computed must be deducted in the income 
 tax return for the year in which the tax is accrued, irrespective 
 of the year in which the tax is actually paid.^^ Taxpayers must 
 use either the accrual method or the receipts and disburse- 
 ments method consistently. A corporation making a return 
 for a fiscal year ending during the calendar year 1917, but prior 
 to October 3, was not entitled to deduct from gross income both 
 
 7 Revenue Act of 1918, § 200. The provision of the 1916 Law allowing 
 individuals and corporations to report on a basis other than that of actual 
 receipts and disbursements, and the rulings by the treasury department 
 thereunder, first seemed to permit, and later required, in the case of in- 
 dividuals or corporations reporting on an accrual basis, the deduction of 
 taxes accrued on their books or the amounts reserved for the payment of 
 taxes, providing such amounts did not exceed the actual liability incurred 
 during the year. (T. D. 2433; L. O. 1059, T. B. 10-21-1503). 
 
 8 Revenue Act of 1921, §§ 214 (a) 3 and 234 (a) 3. 
 
 9 0. D. 371, T. B. 3-20-687. See also O. D. 388, T. B. 5-20-715. 
 
 10 A. R. -M. 26, T. B. 5-20-713. 
 
 11 A. R. M. 29, T. B. 9-20-770. It must be assumed that the corporation 
 involved in this ruling reports on an accrual basis. 
 
610 FEDERAL INCOME TAX 
 
 the federal income tax paid prior to January 1, 1917, and the 
 income tax accrued on its books of account during the months 
 of the fiscal year falling within the calendar year 1916.i- 
 
 Federal Duties and Excise Taxes. Import or tariff duties 
 paid to the proper customs officers, and business, license, privi- 
 lege, excise and stamp taxes paid to internal revenue collectors, 
 are deductible under the 1918 and 1921 Laws, provided they are 
 not added to and made a part of the expenses of the business 
 or the cost of articles of merchandise with respect to which 
 they are paid, in which case they can not be separately de- 
 ducted.13 An individual may claim as a deduction the amount 
 of war tax paid on facilities furnished by public utilities, which 
 includes the tax on railroad and steamship fares and the tax 
 paid on admissions and dues. The war excise taxes imposed on 
 articles sold or leased by the manufacturer, producer, or im- 
 porters^ were levied against and paid by the manufacturer, pro- 
 ducer or importer and were not deductible by the individual 
 purchaser. The consumption taxes imposed by the Revenue Act 
 of 1918^3 on semi-luxuries sold by dealers were paid by the pur- 
 chaser and were deductible by him.i"- 
 
 Capital Stock Tax. For the purpose of computing other income 
 subject to income and excess-profits taxes, the capital stock tax 
 may be deducted from the gross income for the year for which 
 such taxes accrue, if accounts of the corporate taxpayers are 
 kept on the accrual basis, or may be deducted from gross income 
 for the year in which paid, if accounts are kept on the disburse- 
 ment basis.i'^ 
 
 Federal Estate Taxes. The treasury department ruled that 
 federal estate taxes were not deductible in computing net in- 
 come, but in a recent case^® the Supreme Court of the United 
 States has reversed the department's ruling. In that case the 
 court took the view that the question of the deductibility of 
 federal estate taxes turns entirely upon the statutory, provisions 
 under which the estate tax and the income tax are collected. 
 The provision in the Revenue Act of 1918 for the deduction 
 of "taxes paid or accrued within the taxable year imposed (a) 
 by the authority of the United States, except income, war-profits, 
 
 12 S. 1305, T. B. 8-20-754. 
 
 13 Reg. 45, Art. 132; O. D. 137, T. B. 4-19-216. 
 
 14 See Revenue Act of 1918, § 900. 
 
 15 Revenue Act of 1918, § 904. 
 
 16 O. D. 287, T. B. 22-19-535. 
 
 17 Letter from treasury department dated June 7, 1919; I. T. S. 1921, 
 H 1364. 
 
DEDUCTION OF TAXES 611 
 
 and excess-profits taxes" is explicit and unambiguous. The 
 words of its major clause are comprehensive and include every 
 tax which is charged against the estate by the authority of the 
 United States. The excepting clause specifically enumerates 
 what is to be excepted. Estate taxes were as well known at the 
 time the provision was framed as the ones particularly excepted. 
 The estate tax is called a "tax" by the statute imposing it. It 
 is made a general charge on the gross estate and is to be paid 
 out of it by the administrator or executor substantially as other 
 taxes and charges are paid. The department has also ruled 
 that interest upon an overdue federal estate tax is not deduct- 
 ible.19 Since this decision is predicated upon the reasoning that 
 since the statute describes the interest as constituting "part of 
 the tax"-o and therefore it is not possible to make a sound dis- 
 tinction between the tax and interest thereon, it would now seem 
 that the interest upon an overdue federal estate tax may be 
 deducted. The Revenue Act of 1921 provides that, for the pur- 
 pose of their deduction, estate, inheritance, legacy and succes- 
 sion taxes accrue on the due date thereof except as otherwise 
 provided by the law of the jurisdiction imposing such taxes.^i 
 
 Excise Taxes Paid to Cuban Government. The Republic of 
 Cuba imposes on all corporations operating sugar plantations in 
 Cuba a tax of a certain amount on each bag of sugar produced. 
 This tax is based on production, not on income, and is in the 
 nature of an excise tax. It was held under the 1918 Law that 
 a domestic corporation might deduct from gross income in its 
 return to the United States government the amount of such tax 
 paid to the Cuban government, but might not claim the amount 
 as a credit against the total tax due to the United States.22 
 
 Taxes Imposed by the Authority of any Foreign Country. The 
 term "foreign country", as used in the law, has been held to 
 mean the composite whole made up of all the subdivisions of a 
 foreign state subject to the same central control. Each of the 
 subdivisions, in this sense, is not a "country" but a part of a 
 "country". The Province of British Columbia, therefore, does 
 not come within the meaning of the term "foreign country". 
 It was held under the 1918 Law that amounts of mineral tax 
 
 18 U, S. V. Woodward, 65 L. ed. 728, Ct. D. 15, T. B. 26-21-1706. 
 la 0. D. 594, T. B. 29-20-1074. 
 
 20 Revenue Act of 1918, § 406. 
 
 21 Revenue Act of 1921, §§214 (a) 3 and 234 (a) 3. 
 
 22 0. D. 872, T. B. 3-20-688. 
 
612 FEDERAL INCOME TAX 
 
 and income tax paid to the province of British Columbia by a 
 domestic corporation are deductible as business expenses.^s 
 
 Depositors' Guaranty Fund. Banking corporations, which pur- 
 suant to the laws of the states in which they are doing busi- 
 ness are required to set apart, keep and maintain in their banks 
 the amount levied and assessed against them by the state au- 
 thorities as a "depositors' guaranty fund," may deduct from their 
 gross income the amount so set apart each year to this fund, 
 provided that such fund, when set aside and carried to the credit 
 of the state banking board or duly authorized state officer, 
 ceases to be an asset of the bank and may be withdrawn in whole 
 or in part upon demand by such board or state officer to meet 
 the needs of these officers in reimbursing depositors in insolvent 
 banks, and provided further that no portion of the amount thus 
 set aside and credited is returnable under the laws of the state 
 to the assets of the banking corporation. If, however, such 
 amount is simply set upon the books of the bank as a reserve to 
 meet a contingent liability and remains an asset of the bank, 
 it will not be deductible except as it is actually paid out as re- 
 quired by law and upon demand of the proper state officers.^* 
 
 Automobile License Fees. It has been ruled that automobile 
 license fees are ordinarily taxes and therefore deductible.^s 
 
 Securities Taxes. Amounts paid to states under secured debts 
 laws in order to render securities tax-exempt are deductible.^'' 
 
 State Tax on Massachusetts Trust Companies. It has been 
 held that Massachusetts trust companies may deduct the amount 
 of the tax levied by the state on their corporate franchises, the 
 amount of such taxes being based on their capital stock, surplus 
 and undivided profits at the time the assessment is made.^^ 
 
 Taxing Subdivisions of Territories. It was provided by the 
 1916 law that "taxes paid within the year imposed by the au- 
 thority of the United States (except income and excess-profits 
 taxes) or of its territories, or possessions, or any foreign coun- 
 try, or by the authority of any state, county, school district, 
 or municipality, or other taxing subdivision of any state-, not 
 including those assessed against local benefits" were deductible.^s 
 No express provision was made for the deduction of taxes im- 
 
 23 O. D. 1050, T. B. 39-21-1844. 
 
 24 Reg. 45, Art. 567; T. D. 2152. 
 
 25 Reg. 45, Art. 131. 
 
 26 Reg. 45, Art. 131. 
 
 2T 0. D. 1043, T. B. 38-21-1833. 
 
 28 Revenue Act of 1916, §§5, 6, 12 (a) and 12 (b), as amended by 
 Revenue Act of 1917. 
 
DEDUCTION OF TAXES 613 
 
 posed by the authority of "any taxing subdivision" of any ter- 
 ritory. The Revenue Act of 1918 provided^a for the deduction 
 of taxes imposed by a taxing subdivision of any territory. Such 
 taxes may be deducted under the present law since they are not 
 expressly excepted from those taxes which are allowed as a 
 deduction. 
 
 Taxes Paid by Vendee for Vendor. If, in pursuance of a 
 contract, a vendee corporation agrees to pay the income and 
 excess-profits taxes, on profits arising out of the sales returned 
 by the vendor corporation on a calendar-year basis, such vendee 
 corporation may, if it reports on an accrual basis for a fiscal 
 year ending in October of the calendar year, submit an amended 
 return in which the extent of the accrual of such taxes in such 
 fiscal year is deducted from gross income. If, however, such 
 contracts are regularly entered into by the vendee corporation 
 as a consistent practice, the vendee corporation should be allowed 
 the deduction as for the year in which the taxes are paid or 
 determined, unless gross distortion of income, as between years, 
 results.30 
 
 Taxes Paid by a Tenant. Where a tenant pays the taxes on 
 property leased by him, he may consider the amount so paid 
 as an additional payment of rent and may deduct it as an ex- 
 pense of carrying on his business.^! To the landlord the amount 
 is equivalent to an additional payment of rent and must be re- 
 ported as such, but he may also deduct the amount, as, to him, 
 it is a tax paid during the year by the tenant as his agent. The 
 transaction is tantamount to a payment of the sum by the tenant 
 to the landlord and a repayment by the landlord to the tenant, as 
 his agent, for the purpose of satisfying the tax.^^ Assessments 
 for local benefits paid by a tenant for his landlord according 
 to agreement are held to be additional rent paid by the tenant, 
 and therefore deductible from his gross income. The amount 
 so received by the landlord is taxable income to him, but because 
 of its nature is not an allowable deduction from his gross in- 
 come.33 
 
 Taxes Not Deductible. The Revenue Act of 1921 and the 
 Revenue Act of 1918 expressly provide that no taxpayer shall 
 deduct (a) income, war-profits and excess-profits taxes imposed 
 by the authority of the United States, (b) taxes assessed against 
 
 29 Revenue Act of 1918, §§ 214 (a) 3, 234 (a) 3. 
 
 30 A. R. M. 16, T. B. 2-20-669. 
 SIT. D. 2090. 
 
 32 Reg. 45, Art. . 109. 
 
 33 O. D. 373, T. B. 3-20-689. 
 
614 FEDERAL INCOME TAX 
 
 local benefits of a kind tending to increase the value of the 
 property assessed, and (c) taxes paid by a corporation pursuant 
 to a so-called "tax-free" covenant contained in its bonds, mort- 
 gages, deeds of trust, or other similar obligations ; and the 1918 
 Law provided that nonresident aliens and foreign corporations 
 might not deduct (a) income, war-profits and excess-profits taxes 
 imposed by the authority of any foreign country, and (b) taxes 
 assessed against local benefits of a kind tending to increase the 
 value of the property assessed imposed by the authority of any 
 foreign government.^-' Nonresident aliens and foreign corpo- 
 rations are now allowed the same deduction for taxes as citi- 
 zens and residents and domestic corporations subject to the 
 limitations stated in the introductory paragraph of this chapter. 
 Although income, war-profits and excess-profits taxes imposed 
 by the authority of any possession of the United States, or any 
 foreign country (in the case of citizens or residents or domestic 
 corporations) are not allowed as a deduction, they are allowed 
 as a credit against tax.^s The 10% tax ihiposed by the Revenue 
 Act of 1916 as amended, on the undistributed net income of 
 corporations is considered an income tax and is therefore not 
 deductible.^*^ War-profits and excess-profits taxes are allowed 
 as a credit to domestic or foreign corporations against the in- 
 come tax for the same taxable year.^''' Additions to tax because 
 of a delinquent return may be deducted from gross income and 
 will not be disallowed on the ground that they are part of the 
 income or profits taxes within the provisions of law forbidding 
 the deduction from gross income of such taxes.^^ Taxes paid 
 
 34 Revenue Act of 1921, §§214 (a) 3, 234 (a) 3; Revenue Act' of 1918, 
 §§ 214 (a) 3 and 234 (a) 3. 
 
 35 Revenue Act of 1921, §§ 222 and 238; Revenue Act of 1918, §§ 222, 238. 
 
 36 Letter from treasury department dated April 1, 1919; I. T. S. 1919, 
 
 11 3285. 
 
 37 Prior to its amendment by the Revenue Act of 1917 it was held under 
 the 1916 Law that the income tax paid on income of one year, whether paid 
 by the taxpayer or withheld at the source, was property deductible from 
 the net income of the follovring year. (T. D. 2135.) The 1917 amendment 
 provided that income and excess-profits taxes paid by the taxpayer should 
 not be allowed as a deduction (Revenue Act of 1916, §§ 5, 6, 12 (a) and 
 
 12 (b) as amended by the Revenue Act of 1917), but in assessing the 
 income tax the net income embraced in a return made under the 1917 Law 
 was credited by the Commissioner with the amount of any excess-profits 
 taxes imposed by Act of Congress and assessed for the same calendar or 
 fiscal year upon the taxpayer, and in the case of a member of a partnership, 
 with his proportionate share of such excess-profits taxes imposed upon 
 the partnership. (Revenue Act of 1916, § 29, added by Revenue Act of 
 1917.) 
 
 38 0. 926, T. B. 23-19-551. 
 
DEDUCTION OF TAXES 615 
 
 by a corporation for- its stockholders have been held by the 
 courts uiider prior laws not to be deductible, but the present 
 law makes such taxes deductible by the corporation and not by 
 the shareholder.30 Postage is not a tax and is therefore not 
 deductible/o 
 
 Taxes Assessed Against Local Benefits. The taxes con- 
 templated by the law as deductible are those which are paid to 
 defray the expense of running the government. Where the tax- 
 payer pays an assessment for something which will directly bene- 
 fit him or his property it is not considered to be a tax in the 
 true sense, but rather in the nature of an investment in property. 
 The Revenue Act of 1921 and the Revenue Act of 1918 expressly 
 provide that taxes assessed against local benefits "of a kind 
 tending to increase the value of the property assessed" shall 
 not be deductible.*! It has been ruled that so-called taxes, more 
 properly assessments, paid for local benefits, such as street, side- 
 walk and other like improvements, imposed because of and meas- 
 ured by some benefit inuring directly to the property against 
 which the assessment is levied, do not constitute an allowable 
 deduction from gross income. A tax is considered assessed 
 against local benefits when the property subject to the tax is 
 limited to the property benefited. Special assessments are not 
 deductible, even though an incidental benefit may inure to the 
 public welfare. The taxes deductible are those levied for the 
 general public welfare by the proper taxing authorities at a like 
 rate against all property in the territory over which such au- 
 thorities have jurisdiction. Assessments under the statutes of 
 California relating to irrigation and of Iowa relating to drain- 
 age, and under certain statutes of Tennessee relating to levees, 
 are limited to property benefited, and when it is clear that the 
 assessments are so limited, the amounts paid thereunder are not 
 deductible as taxes. Taxpayers will be required to show, in their 
 income tax returns, the nature of assessments paid under the 
 Illinois drainage laws, inasmuch as such laws provide both for 
 special assessments for benefits and for general taxation, de- 
 pending in some instances upon ordinances promulgated by the 
 trustees of drainage districts.*^ When assessments are made 
 for the purpose of maintenance or repair of local benefits, the 
 taxpayer may deduct the assessments paid as an expense in- 
 
 39 Revenue Act of 1921, §§ 214 (a) 3 and 234 (a) 3. 
 
 40 Reg. 45, Art. 131. 
 
 41 Revenue Act of 1918, §214 (a) 3; Revenue Act of 1921, §§214 (a) 3 
 and 234 (a) 8. 
 
 42 O. 928, T. B. 24-19-561. 
 
616 FEDERAL INCOME TAX 
 
 curred in business, if the payment of such assessments is neces- 
 sary to the conduct of his business. Where the assessments 
 are made for the purpose of constructing local benefits, the pay- 
 ments by the taxpayer are in the nature of capital expenditures 
 and are not deductible. Where assessments are made for the 
 purpose of both construction and maintenance or repairs, the 
 burden is on the taxpayer to show the allocation of the amounts 
 assessed to the different purposes. If the allocation can not be 
 made, none of the amounts so paid is deductible.*^ 
 
 TAXES Paid Under "Tax-Free" Covenants. Where a cor- 
 poration pays taxes for its bondholders under stipulations in 
 bonds agreeing to pay the interest in full regardless of any tax 
 which it may be required to withhold or deduct, the amount of 
 taxes so paid on behalf of such bondholders is not a proper 
 deduction by the corporation.** It was ruled under the 1918 
 Law that the bondholder might, however, treat the amount so 
 paid for him as his tax and deduct the same, if it was a tax 
 levied by a state; if levied by the federal government he could 
 not deduct the amount as the law expressly prohibited deduction 
 of the federal income-tax. The amount of income-tax paid for 
 a bondholder by an obligor pursuant to a tax-free covenant in 
 its bonds was ruled to be in the nature of additional interest 
 paid the bondholder and was required to be included in his gross 
 income.*-' The Revenue Act of 1921 expressly provides that 
 such taxes shall not be included in the gross income of the 
 obligee.*" 
 
 State Inheritance Taxes. State inheritance taxes paid by 
 the executor or administrator of an estate of a deceased person, 
 which are provided by law to be deducted from the respective 
 legacies or distributive shares, are not allowable deductions in 
 computing the net income of such estate subject to tax, even 
 though the will contain a direction to pay inheritance taxes out 
 of the residue. An inheritance tax is upon the transfer of the 
 property and not upon the estate of the decedent or upon the 
 executor or administrator, although the latter is required to pay 
 it. In general, taxes paid or accrued within the year imposed by 
 the authority of any state, or otherwise, are limited to those im- 
 posed upon the taxpayer and do not include taxes paid by him 
 
 43 Reg. 45, Art. 133, as amended by T. D. 2937. See also T. D. 2090; 
 Reg. 33, Art. 153. 
 
 M Revenue Act of 1921, §234 (a) 3; Revenue Act of 1918, §234 (a) 3. 
 See T. D. 1948. The rulings on this point are contained in Chapter 20. 
 
 43 Reg. 45, Art. 31. 
 
 « Revenue Act of 1921, §234 (a) 3. 
 
DEDUCTION OF TAXES 617 
 
 on behalf of another, even though he is required by law to make 
 such payment. Since, moreover, state inheritance taxes are im- 
 posed upon the transfer before the property reaches the legatee 
 or the distributee, and merely diminish the capital share of the 
 estate received by him, such taxes are not imposed upon the 
 legatee or distributee and are not an allowable deduction from 
 his gross income.*^ 
 
 Taxes Paid by Corporation for Stockholders Under 1921 Law. 
 The. Revenue Act of 1921 provides that taxes imposed upon a 
 taxpayer upon his interest as shareholder or member of a corpo- 
 ration, which are paid by the corporation without reimburse- 
 ment from the taxpayer, may not be deducted by such share- 
 holder or member, but may be deducted by the corporation.^^ 
 The 1918 Law was silent on this point and the treasury depart- 
 ment took the opposite view. The rulings made on this subject 
 under the 1918 Law are given in the following par&.graph. 
 
 Taxes Paid by Corporation for Stockholders Under 1918 Law. 
 Under the statutes of many of the states taxes are assessed 
 against the stockholders of banks, the bank being required to pay 
 the tax on behalf of its stockholders. Banks paying taxes 
 assessed against their stockholders on account of their owner- 
 ship of the shares of stock issued by such banks were not per- 
 mitted, under the 1918 Law, to deduct the amount of taxes so 
 paid. The shares of stock being the property of the stock- 
 holders, to the extent that the taxes assessed on the value of 
 the shares of stock are property taxes the holders were con- 
 sidered to be primarily liable for their payment. As federal 
 statutes prohibit states from imposing any tax upon national 
 banks except upon the value of their real estate, in cases where 
 states levy a tax on the stock of such banks and make it the 
 duty of the banks to pay such tax for the stockholders, such 
 payments were held not deductible from the gross income of such 
 
 47 Reg. 45, Art. 134 ; letter from treasury department dated iFebruary 
 10, 1916; I. T. S. 1918, in[486, 796 and 1669; T. D. 2933; Prentiss v. Eisner, 
 260 Fed. 589, affirmed 267 Fed. 16, decided under the 1913 Law. In this 
 case, speaking of the New York Inheritance Tax, the lower Court said: 
 "The condition of the devolution of the property is the receipt of the trans- 
 fer tax by .the state. * * * j * * * am convinced that the tax 
 cannot properly be regarded as an imposition upon either the property or 
 the right to receive a gross amount of the property of a decedent represented 
 by a legacy, devise or distributive share, but that the property and the right 
 to receive it passed, reduced by the amount of the tax measured by a per- 
 centage of the value of the gross share." (T. D. 2933.) See also Op. A. 
 G. 1, T. B. 16-20-875; O. 812, T. B. 13-19-419. 
 
 48 Revenue Act of 1921, §§ 214 (a) 3 and 234 (a) 3. 
 
618 FEDERAL INCOME TAX 
 
 banks. This rule applied also in the case of corporations other 
 than banks, upon the value of whose stock taxes were assessed 
 to the stockholders.*^ As a general rule the amounts of taxes 
 so paid by a corporation for its stockholders are not collected 
 from the stockholders, the corporation charging the taxes as an 
 item of expense. Such taxes, however, were required to be 
 reported by the stockholders respectively as taxes paid by them, 
 according to their proportionate interests in the corporation.^" 
 The amount of the taxes so paid were also required to be treated 
 as additional dividends from the net earnings of the corporation.^! 
 While it has been decided, under the 1909 Law,^^ that taxes 
 paid to a state by various corporations upon shares of their 
 stock owned by another corporation were not deductible from 
 gross income of the latter corporation as taxes "paid by it," 
 such taxes not being paid by this corporation, but in 'its behalf 
 by other corporations, the practice of the treasury department 
 in this regard was, however, to allow the deduction of such taxes 
 by the corporation in whose behalf they were paid. Under the 
 
 49 Reg. 45, Art. 566. In such cases it was held under the 1909 Law, that 
 the bank was not entitled to deduct the amount of taxes so paid as the tax 
 was not a tax upon the bank or upon its property. (Eliot Nat. Bank v. 
 Gill, 210 Fed. 933; T. D. 1763; but see U. S. v. Guaranty Trust & Savings 
 Bank, 253 Fed. 291.) This rule was continued under the 1913 Law and the 
 1916 Law, such taxes being held to be against the property of the private 
 stockholders and not against either the corporation or its property. (North- 
 ern Trust Company v. McCoach, 215 Fed. 991; T. D. 2135.) The require- 
 ments of a State law that a bank shall pay for the stockholder cannot be 
 construed as authority under which the bank may deduct the tax. (T. D. 
 2161.) Where a statute requires the bank to pay the tax and gives it a lien 
 upon the shares, the bank is not entitled to deduct the tax. (Eliot National 
 Bank v. Gill, 210 Fed. 833, affirmed 218 Fed. 600; National Bank of Com- 
 merce V. Allen, 211 Fed. 743, affirmed 223 Fed. 472, petition to the United 
 States Supreme Court for writ of certiorari denied October 25, 1915.) Where 
 the statute gives the bank the option either to pay the tax out of its general 
 funds or to collect the same from its stockholders, that fact does not change 
 the character of the tax as a tax against the property of the individual stock- 
 holders, and the bank cannot deduct. (Northern Trust Co. v. McCoach, 215 
 Fed. 991.) Even though the state statute makes no provision for recovery 
 from the several shareholders of their proportional part of the amount so 
 paid, the bank cannot deduct. (First Nat. Bank v. McNeel, 238 Fed. 559.) 
 The absence of an express provision in the statute does not show that there 
 is no such right of recovery, or that the intention was for the tax to fall 
 ultimately upon the bank and not upon the stockholders. (Home Savings 
 Bank v. Des Moines, 205 U. S. 503.) 
 
 50 Reg. 45, Art. 566; T. D. 2135. 
 
 51 Reg. 45, Art. 566. See Chapter 19. 
 
 52 U. S. v. Aetna Life Ins. Co., 260 Fed. 333; T. D. 2927. 
 
DEDUCTION OF TAXES 619 
 
 Revenue Act of 1918, amounts received by stockholders of a 
 corporation as dividends from another corporation taxable upon 
 its net income were also allowable deductions/''^ The proper 
 procedure of the corporation in whose behalf the taxes were so 
 paid would seem, therefore, to be to include the taxes in its 
 gross income, to deduct them from gross income as dividends 
 received, and to deduct them as taxes paid.^* 
 
 In accordance with the above general rules, it was held under 
 the 1918 Law that trust companies, building and loan associa- 
 tions and savings banks of Oregon, ^^ state banks, savings banks 
 and trust companies of South Dakota, ^s banking institutions 
 of Louisiana, 3'^ banks of California's and Massachusetts,'^ might 
 not deduct the amount of tax assessed against the stockholders 
 thereof upon the value of their shares. The "Classification Tax 
 Law" of Montana''^ levies a tax upon the "moneyed capital" 
 of Montana banks assessable directly against the banks which 
 are primarily liable therefor. It was held that beginning with 
 the year 1919, such banks were entitled to deduct the amount 
 of the tax paid tO' that state on moneyed capital and that the 
 stockholders ,of such banks were not required to include the 
 amounts thus paid by the banks in their respective returns nor 
 allowed to deduct such amounts from gross income. ^^ 
 
 Where shares of stock were sold after the tax had been as- 
 sessed, but prior to the time it was paid by the corporation 
 on behalf of the stockholders, the one holding the stock on the 
 date when a tax became due and payable was the one entitled 
 to report the amount as a dividend and deduct the amount as a 
 tax paid by him.^^ 
 
 Under the provisions of the New York state tax law on or 
 before the 1st day of June each year a bank located in New 
 
 53 Revenue Act of 1918, §234 (a) 6. 
 
 54 0. 858, T. B. 7-19-302; O. D. 199, T. B. 9-19-344. 
 
 55 0. D. 7.0, T. B. 1-19-99. 
 
 56 A. R. M. 88, T. B. 44-20-1281. 
 
 57 0. D. 987, T. B. 31-21-1758. 
 
 58 0. D. 976, T. B. 28-21-1729. 
 
 59 0. D. 954, T. B. 25-21-1696. 
 00 Chapter 21, Sess. Laws, 1919. 
 
 610. D. 787, T. B. 5-21-1420. This ruling was not applicable to the 
 case of national banks with respect to which the Federal statutes prohibit 
 the imposition of a tax by any State except upon the value of real estate. 
 
 62 Letter from treasury department dated February 25, 1916 ; I. T. S. 
 1918, 11490. An earlier ruling in a letter dated March 2, 1915, held that 
 the stockholder owning the stock at the time the taxes were assessed was 
 the one entitled to the deduction, but the later ruling referred to above 
 seems to indicate the later attitude of the treasury department. 
 
620 FEDERAL INCOME TAX 
 
 York City is required to furnish the department of taxes and 
 assessments of the city of New York with a statement under 
 oath, of the condition of the bank on the 1st day of May next 
 preceding. On the basis of the report thus filed, a tax is assessed 
 against the shares of the bank's stock. On or before December 
 15, the department of taxes and assessments is required to make 
 a statement of the bank assessment and the tax and forthwith 
 to mail the same to the bank and to send a certified copy thereof 
 to the receiver of taxes, whose duty it is to collect the tax. 
 The law provides that it is the duty of the bank to collect the 
 tax due upon its shares of stock and to pay the same in the 
 city of New York to the receiver of taxes thereof on or before 
 the 31st day of December. Inasmuch as it appears that May 1 
 is the date upon which the assessment is deemed to be made, 
 it has been held that stockholders of record as of that date rather 
 than the stockholders of record as of December 31, were en- 
 titled to a deduction on account of the tax paid.'^^ 
 
 Procedure in Case of Banks Improperly Taking Deduc- 
 tion IN 1919. Banks which deducted in their returns of in- 
 come for 1919, taxes assessed against their stockholders on ac- 
 count of their ownership of the shares of stock issued by such 
 banks must file a statement showing the amount of such deduc- 
 tions claimed, the amount of the net income as reported and as 
 corrected, and the amount of additional tax due by reason of 
 the erroneous claiming of the deduction. The total amount of 
 additional tax shown to be due by such statement should be paid 
 at once, together with interest at the rate of 1 per cent a month 
 on the amount of the deficiency of each installment from the 
 original due date. The deduction of these taxes being clearly 
 attributable to negligence on the part of the taxpayer, there 
 should also be added to the additional tax shown to be due in 
 each case the penalty of 5% provided by the statute.^^ In cases 
 where the above procedure is followed amended returns will not 
 be required, and the statements referred to when received will 
 be filed with the original returns in lieu of amended returns-^^ 
 
 63 O. D. 839, T. B. 10-21-1500. 
 
 64 Revenue Act of 1918, §250 (b). 
 
 65 0. D. 944, T. B. 23-21-1677. 
 
CHAPTER 25 
 DEDUCTION OF LOSSES 
 
 The Revenue Act of 1921, like the Revenue Act of 1918, pro- 
 vides in the case of individuals that in computing net income 
 there may be allowed as deductions, if sustained during the 
 taxable year and not compensated for by insurance or other- 
 wise, (a) losses incurred in trade or business, (b) losses in- 
 curred in any transaction entered into for profit, though not 
 connected with the trade or business, (c) losses of property 
 not connected with the trade or business if arising from fires, 
 storms, shipwreck, or other casualty or from theft.^ The ex- 
 tent to which losses may be deducted by nonresident aliens, 
 foreign corporations and certain citizens and domestic corpo- 
 rations taxable only on income from sources within the United 
 States is more fully discussed in previous chapters.^ Individ- 
 uals and corporations may also deduct debts ascertained to 
 be worthless and charged off within the taxable year.^ In the 
 case of corporations all losses sustained during the taxable year 
 and not compensated for by insurance or otherwise may be de- 
 ducted.* The rules discussed in this chapter are those applicable 
 to corporations and individuals generally. The Revenue Act of 
 1918 contained a provision, not previously contained in any 
 prior law, for the deduction of net losses in certain cases from 
 the income of the preceding year,^ and also a provision as to 
 losses in inventory and from rebates ascertained after the close 
 of the taxable year.^ The Revenue Act of 1921 contains several 
 new and important provisions in addition to the general pro- 
 visions stated above as to the deduction of losses. The changes 
 as to such deductions by nonresident aliens and foreign corpo- 
 rations are discussed elsewhere.'' Under the 1918 Law, losses, 
 to be deductible, were required to be sustained during the year 
 
 1 Revenue Act of 1921, § 2l4 (a) 4, 5, 6; Revenue Act of 1918, §214 (a) 
 4, 5, 6. Reg. 45, Art. 141. 
 
 2 See Chapters 4 and 12. 
 
 3 Revenue Act of 1921, §§214 (a) 7 and 234 (a) 5; Revenue Act of 
 1918, §§214 (a) 7 and 234 (a) 5. 
 
 4 Revenue Act of 1921, §234 (a) 4; Revenue Act of 1918, §234 (a) 4. 
 Losses sustained by a corporation in ultra vires transactions are not de- 
 ductible. (O. 968, T. B. 1-20-660). 
 
 5 Revenue Act of 1918, § 204. 
 
 6 Revenue Act of 1918, §§214 (a) 12 and 234 (a) 14. 
 7See Chapters 4 and 12. 
 
 621 
 
622 FEDERAL INCOME TAX 
 
 in which the deduction was taken. The present law provides 
 that losses shall be deducted as of the taxable year in which sus- 
 tained, unless, in order to clearly reflect the income, the loss 
 should, in the opinion of the Commissioner, be accounted for as 
 of a different period. Reasonable additions to reserves for bad 
 debts may now, in the discretion of the Commissioner, be de- 
 ducted, and when satisfied that a debt is recoverable in part, the 
 Commissioner may allow such debt to be charged off in part. 
 It is also specifically provided by the present law that the deduc- 
 tion for loss in the case of property destroyed or damaged shall 
 be computed on the basis of the fair market price or value of the 
 property as of March 1, 1913, if such property was acquired 
 prior thereto. No deduction for loss is allowed under the present 
 law in the case of the sale or other disposition of stock or 
 securities where substantially identical property is acquired 
 within 30 days before or after such sale or other disposition. 
 The net loss provision of the 1918 Law is extended to all taxable 
 years beginning after December 31, 1920, and the special deduc- 
 tion allowed by the 1918 Law in regard to losses in inventory 
 and from rebates is,, of course, not carried into the 1921 Law.^ 
 The 1921 Law also provides a different basis for , determining 
 loss from the sale or other disposition of property acquired by 
 gift after December 31, 1920.9 
 
 Losses Sustained in Trade. Under the present and preceding 
 laws losses sustained during the taxable year ?ind not compen- 
 sated for by insurance or otherwise, may be deducted, in the 
 case of individuals, if incurred in trade or business.^" All losses 
 may be deducted by corporations. A loss incurred in trade or 
 business must be absolute and not a speculative or fluctuating 
 valuation of a continuing investment, and must be determined 
 and ascertained to be an actual, a completed, a closed transac- 
 tion.ii Thus, a loss may be claimed by the owner of a business 
 truck demolished in collision with a pleasure car provided that 
 the truck was in use in connection with the business of the 
 taxpayer at the time of the collision, but no deduction may be 
 claimed by the owner of the pleasure car wrecked in the col- 
 Wsion.i^ If an automobile is purchased with the intention of 
 using it in a business and it is appropriated to business uses pri- 
 
 SEevenue Act of 1921, §§204 (b), 214 (a) 4, 5, 6, 7, and 234 (a) 4, 5. 
 
 9 Revenue Act of 1921, §202 (a) 2. 
 
 10 Revenue Act of 1921, §214 (a) 4; Revenue Act of 1918, §214 (a) 
 4; Reg. 45, Art. 141. 
 
 11 Reg. 45, Art. 141 ; T. D. 1989. Depreciation in the value of property 
 is treated as a separate deduction and should not be confused with loss. 
 
 12 O. D. 857, T. B. 13-21-1351. 
 
DEDUCTION OF LOSSES 623 
 
 marily,"a Ipss sustained through its sale may be deducted, not- 
 withstanding its occasional use for pleasure purposes.^^ 
 
 Losses Not Sustained in Trade. Under the present law and 
 under the 1918 Law citizens and residents may deduct all losses 
 sustained during the taxable year and not compensated for by in- 
 surance or otherwise, if incurred in any transaction entered into 
 for profit, though not connected with the trade or business.^* 
 Itiwill be noted that in this provision the 1918 Law made an 
 important departure from the 1916 Law and there is now per- 
 mitted the deduction of all losses incurred in transactions entered 
 into for profit though not connected with a trade or business, 
 notwithstanding that such losses may exceed the profits arising 
 from the same class of transactions. The provision permitting 
 the deduction of losses incurred "in any transaction entered into 
 for profit" does not contemplate that a distinction shall be made 
 between an investment in property or securities with the object 
 of deriving an income from the capital' employed, and an in- 
 vestment which is made for the purpose of realizing a profit on 
 the resale of the property or securities purchased.i^ Re- 
 turns realized from either the ownership or the final dispo- 
 sition of investments, representing transactions entered into 
 for profit, but not connected with the taxpayer's business or 
 trade, are "profits" within the meaning of the law.^^ 
 
 Where a person purchases bonds for another, guaranteeing 
 said bonds against any loss, and a loss occurs due to subsequent 
 
 13 O. D. 943, T. B. 23-21-1676. 
 
 14 Revenue Act of 1921, § 214 (a) 5; Revenue Act of 1918, §214 (a) 5. 
 Under the 1916 Law, a citizen was permitted to deduct the losses actually 
 sustained in transactions entered into for profit but not connected with 
 his business or trade only to an amount not exceeding the profits arising 
 therefrom. A loss was required to be actually sustained during the year 
 and the total amount deductible could not exceed the profits arising from 
 the same class of transactions. (Revenue Act of 1916, § 5.) Thus, an 
 individual making any investments in property from time to time or spec- 
 ulating was required to report all gains from such investments or spec- 
 ulations and might offset against the gains all losses sustained in similar 
 transactions. He was required to report only the net gain from such 
 transactions during the year, and if the net result for the year of a series 
 of such transactions was a loss, he was not entitled to offset the loss against 
 his income from trade or business. Prior to the 1916 Law it was held by 
 the Treasury Department that an individual was required to report all 
 income from transactions not incurred in trade, but was not entitled to 
 deduct any of the losses. (T. D. 2135.) See also L. 0. 1061, T. B. 14-21- 
 1547. 
 
 15 O. D. 138, T. B. 4-19-218. 
 
 16 L. p. 1061, T. B. 14-21-1547, decided under the 1916 Law. 
 
624 FEDERAL INCOME TAX 
 
 insolvency of the corporation issuing same, and the guarantor 
 makes good the loss, the same is not deductible unless such loss 
 occurs in trade or business or in a transaction entered into for 
 profit. 1'^ Where borrowed money is stolen from the borrower 
 and the amount has been borrowed for use in a business deal, the 
 borrower may deduct the amount borrowed with interest paid 
 thereon as a loss, but any amounts expended in apprehending 
 the thief are regarded as a personal expense.^* The department 
 has allowed as a deductible loss an amount paid by a taxpayer to 
 compromise a suit growing out of his actions while serving as 
 a director of a bank, on the theory that if acting as director 
 he was not engaging in trade or business; it was at least a 
 transaction entered into for profit.i^ 
 
 Losses Connected With Residential Property. Where a 
 taxpayer sells his residence at a loss because of the acceptance 
 of a business proposition necessitating his removal to another 
 part of the country, the loss is not a loss "incurred in his business 
 or trade" within the meaning of the Revenue Act of 1916, as 
 amended.^" A loss sustained by an individual from the sale of 
 residential property was held to be deductible under the Revenue 
 Act of 1918, which is similar in its provisions in this connection 
 to the present law, if the property was purchased or constructed 
 by him with a view to its subsequent sale for pecuniary profit. 
 The intent in purchasing or constructing the property is a ques- 
 tion of fact determinable in each case by evidence which should 
 be submitted with the return. If the residential property be held 
 by the purchaser out of use or under tenancy and be subsequently 
 sold, there would seem little room for question that the transac- 
 tion was "entered into for profit" and that the loss, if any, is a 
 proper deduction in determining net income. If, on the other 
 hand, the property is occupied by the purchaser as his home dur- 
 ing the whole or a great portion of the period of his ownership, 
 a strong presumption is raised that the property was purchased 
 for his personal use as a residence ; that the transaction was not 
 "entered into for profit" within the meaning of the statute. This 
 presumption will not be overcome by his self-serving declaration, 
 uncorroborated, that his purpose was otherwise. 
 
 An individual claiming deduction for loss incurred in the sale 
 of residential property should attach to his return an affidavit 
 
 17 0. D. 241, T. B. lS-19-420. 
 
 18 0. D. 571, T. B. 27-20-1040. 
 
 19 0. D. 1091, T. B. 45-21-1908. 
 
 20 A. R. R. 96, T. B. 19-20-918. The ruling of the Treasury Department 
 was similar under the 1918 Law. (Reg. 45, Art. 141; T. D. 2972). • 
 
DEDUCTION OF LOSSES 625 
 
 stating the facts as to the purpose and use of the property in 
 connection with which loss is claimed and his intent in purchasing 
 it, and his affidavit should be supported by other evidence show- 
 ing his intent when he entered into the transaction.^! 
 
 The subletting of an apartment by a tenant on account of 
 being required to make his residence in another city, is held 
 not to be a "transaction entered into for profit." Therefore, 
 any loss sustained through such transaction is not deductible 
 from gross income.^^ 
 
 Losses From Sale of Property Acquired by Gift, Bequest, 
 Devise or Descent. A loss sustained from the sale of property 
 acquired by gift, bequest, devise, or descent (whenever property 
 so acquired is as a matter of fact acquired for purposes of profit) 
 is a deductible loss from gross income. Ordinary investment 
 property so acquired is to be treated as having been acquired for 
 purposes of profit unless the conduct of the recipient furnishes 
 evidence to the contrary .^3 Where a person gives property away 
 or is divested thereof by death, no realization of loss results 
 therefrom.2* In general, the measure of loss from sales of such 
 property is determined in accordance with the rules for determin- 
 ing gain or loss from sales stated elsewhere.^^ The cost of such 
 property is its value as of the date when acquired. In the 
 case of property acquired by gift after December 31, 1920, how- 
 ever, the basis for determining loss will be the same as that which 
 it would have in the hands of the donor or the last preceding 
 owner by whom it was not acquired by gift.^^ 
 
 Trade or Business. Under the 1916 Law, the term "trade" and 
 the term "business" were defined as synonymous terms and to be, 
 "That which occupies and engages the time, attention and labor 
 of any one for the purpose of livelihood, profit, or improvement ; 
 that which is his personal concern or interest ; employment, regu- 
 lar occupation, but it is not necessary that it should be his sole 
 occupation or employment." The doing of a single act incident- 
 ally or of necessity not pertaining to the particular business of 
 the person doing the same will not be considered engaging in or 
 
 21 Reg. 45, Art. 141, as amended by T. D. 2972; O. 780, T. B. 1-19-51; 
 A. E. R. 249, T. B. 35-20-1168, modified by A. R. R. 604, T. B. 32-21-1760. 
 
 22 0. D. 42, T. B. 1-19-59. 
 
 23 T. B. R. 34, T. B. 10-19-357. 
 
 24 T. D. 2972, amending Reg. 45, Art. 141. 
 
 25 See Chapter 17. 
 
 26 Revenue Act of 1921, §202 (a). 2. See Chapter 17 for a discussion 
 of this subject. See also paragraphs in this chapter on "Measure of Loss" 
 and "Property acquired by gift under 1918 Law". 
 
626 FEDERAL INCOME TAX 
 
 carrying on business.^^ "In trade," as used in the 1916 Law, is 
 held to mean the trade or trades in which the person making the 
 return is engaged ; that is, in which he has invested money, other- 
 wise than for the purpose of being employed in isolated trans- 
 actions, and to which he devotes at least a part of his time and 
 attention. A person may be engaged in more than one trade and 
 may deduct losses incurred in all of them under this provision 
 of the law, provided that in each trade the above requirements 
 are met.^s Losses on stocks, grain, cotton, etc., may also be de- 
 ducted under this provision by a person engaged in the trade to 
 which buying or selling thereof are incident as a part of the 
 business, as by a member of a stock, grain or cotton exchange,^^ 
 but neither the investment of money in the stock of a company 
 nor employment by the company in any official capacity makes the 
 business of the company the trade of the investor or employee.*" 
 
 27 T. D. 1989. 
 
 28 Black V. Bolen, 268 Fed. 427; T. D. 2090. 
 28 T. D. 2090. 
 
 30 T. D. 2135. The definition of "trade or business" discussed in the 
 text above has now lost considerable importance in view of the provision 
 (Revenue Act of 1921, §214 (a) 5; Revenue Act of 1918, §214 (a) 5) 
 that losses incurred in any transaction entered into for profit may be de- 
 ducted even though such losses exceed the profits arising from the same 
 class of transactions. Under the 1916 Law, it will be noted, the Treasury 
 Department adopted an extremely narrow construction of the words 
 "business or trade,'' a construction which has been the subject of con- 
 siderable criticism and which operated to the detriment of every person in- 
 vesting or speculating in property. Congress has now seen fit to remedy 
 the injustice involved in this narrow construction by permitting the de- 
 duction of all losses in transactions entered into for profit even though they 
 may exceed the profits arising from the same transactions. Consequently 
 the definitions of "trade or business" discussed in the text above are no 
 longer so important except in cases arising under the 1916 and 1913 Laws. 
 In Bryce v. Keith, 257 Fed. 133, arising under the 1913 Law, the Court 
 has adopted a broader construction of the term "trade" than the Treas- 
 ury Department. In this case it was held that loss of the value of cor- 
 porate stock, acquired by numerous transfers of property to the corporation 
 and payment of corporate debts, transactions carried on for a considerable 
 period, complicated in character and involving large sums of money so 
 that they must have required much time and attention, was a loss incurred 
 in trade. 
 
 In Mente v. Eisner, 266 Fed. 161, arising under the 1913 Law, the 
 majority opinion approved the Treasury Department's rather narrow con- 
 struction of the word' "trade". In this case the plaintiff whose regular 
 business was manufacturing jute bags and bagging, cotton bags, etc., 
 suffered losses in dealing in futures on the Cotton Exchange and was 
 not permitted to deduct such losses on the theory that they were isolated 
 transactions outside the regular business of the taxpayer. Manton, J., 
 dissents in a long opinion on the general ground that the statute contained 
 
DEDUCTION OF LOSSES 627 
 
 The losses which were limited by this provision of the 1916 Law 
 were those incurred in transactions involving sales or dealings 
 in property. The law seemed clearly to make a distinction be- 
 tween such losses and losses arising from fires, storms, ship- 
 wreck, or other casualty, and from theft. 
 
 Losses Must Be Sustained During Year. The 1916 Law pro- 
 vided in the case of individuals that the loss must be "actually 
 sustained during the year" and in the case of corporations that 
 the loss must be "actually sustained and charged off within the 
 year." 31 The Revenue Acts of 1918 and 1921 omit the word 
 "actually" in the case of individuals and the words "actually" 
 and "and charged off" in the case of corporations. The treasury 
 department held, under the 1918 Law, that a loss to be deductible 
 must be an absolute loss, actually sustained and ascertained dur- 
 ing the taxable year for which the deduction is sought to be 
 made. It must be determined and ascertained upon an actual, a 
 completed, a closed transaction. Losses sustained from the sale 
 or dealing in real or personal property growing out of the owner- 
 ship or use of, or interest in, such property will not be deductible 
 at all unless they are ascertained, determined and fixed as abso- 
 lute in the above sense within the taxable year in which the de- 
 duction is sought to be made.^^ The amount to be deducted as a 
 loss should have in it no element of "depreciation" or "allowance 
 for wear or tear" or "compensation from insurance or otherwise." 
 The amount is to be an absolute and complete loss which has been 
 
 no distinction between a regular dealer on the Exchange and a person 
 who dealt casually on the Exchange; that though the principal business of 
 plaintiff was bagging, his transactions on the Cotton Exchange were 
 nevertheless "in trade." The plaintiff in this case does not appear to 
 have spent so much time in the Cotton Exchange transactions as did the 
 plaintiff in the Bryce Case (Bryce v. Keith, 257 Fed. 133) in the transac- 
 tions involved in that case. In a case coming before the Department under 
 the 1916 Law, as amended, an attorney invested in stock of a corporation. 
 Certain of his clients hearing of the attorney's investment made similar 
 investments and the attorney in order to protect his clients, as well as to 
 save his practice from injury, contracted expenses in investigating the 
 condition of the corporation, made advances to the corporation and took 
 an active part in its management. The entire transaction resulted in a 
 loss to the attorney, but it was held that the transaction was a purely 
 commercial one, in no sense professional and not connected with his bus- 
 iness or trade and therefore not deductible. (A. R. R. 398, T. B. 8-21-1464). 
 See also A. R. R. 242, T. B. 33-20-1131; A. R. R. 249, T. B. 35-20-1168, 
 modified by A. R. R. 604, T. B. 32-21-1760 and A. R. R. 404, T. B. 10-21-1495. 
 
 31 Revenue Act of 1916, § 12 (a) . 
 
 32 Reg. 45, Art. 141; T. D. 2005. See, however, the special rules at the 
 end of, this chapter. 
 
628 FEDERAL INCOME TAX 
 
 actually sustained.^s The above general principles that losses to 
 be deductible must be actually sustained and determined and 
 ascertained upon completed transactions will still be applicable 
 under the present law, but there is now allowed more latitude as 
 to the year in which they may be deducted. The general rule is 
 still that losses must be deducted in the year in which sustained, 
 but they may now be deducted in a year other than that in which 
 sustained if, in the opinion of the Commissioner, the deduction 
 thereof in such other taxable period will more clearly reflect the 
 income.^* In explanation of this new provision it is stated in the 
 report of the finance committee of the senate that "losses occur- 
 ing in one year are frequently not determined or sustained until 
 another year, depending upon court decision or the clearing up of 
 uncertainty. To permit more elastic treatment of such losses, in 
 the interests of justice to the taxpayer, it is provided that certain 
 losses shall not be deducted as of the taxable year in which 
 sustained, if in the opinion of the Commissioner they should 
 be accounted for as of 'a different period." ^^ 
 
 The following ruling has been made under the 1921 Law : An 
 embezzlement or a shipwreck may occur in 1921 but not become 
 known until 1922 and in such a case income may be more clearly 
 reflected by accounting for the loss as of 1922 rather than of 
 1921. If a taxpayer desires to account for a loss as of a period 
 other than the one in which actually sustained, he must attach 
 to his return a statement setting forth his request for considera- 
 tion of the case by the Commissioner, together with a complete 
 statement of the facts upon which he relies. However, in his 
 income tax return he may deduct the loss only for the taxable 
 
 33 T. D. 2005. Under the 1916 Law, in the case of corporations, the 
 loss might not be deducted unless it was actually sustained during the 
 year and charged off on the books. It was held that a corporation was not 
 entitled to a deduction for a loss unless charged off on the books of the 
 corporation before such deduction was allowed. The statute was not to 
 be construed as requiring that losses be charged off within the taxable 
 year. It was sufficient that they were charged off before they were allowed 
 as deductions. Consequently at the time of an examinationof a corporation 
 it was given an opportunity to reopen its books and charge off losses 
 which it had actually sustained during the taxable year. (A. R. R. 377, 
 T. B. 5-21-1415; Letter from treasury department dated June 25, 1918; 
 I. T. S. 1918, If 3599.) This rule seemed to apply with equal force in the 
 case of an individual who kept books, but one who did not keep books was 
 not thereby deprived by the law of the right to claim a loss, except in the 
 case of worthless debts. 
 
 34 Revenue Act of 1921, §§214 (a) 6 and 234 (a) 4. 
 
 33 Report of Committee on Finance to accompany the Revenue Bill of 
 1921, p. 14; T. D. 3261. 
 
DEDUCTION OF LOSSES • 629 
 
 year in which actually sustained. Upon the audit of the return 
 the Commissioner will decide whether the case is within the ex- 
 ception provided by the statute ; if not within the exception the 
 loss will be allowed only as of the taxable year in which sus- 
 tained. The allowance of a deduction for a loss in a year other 
 than the ofte in which sustained is entirely within the discretion 
 of the Commissioner and he will consider exercising this dis- 
 cretion only in exceptional cases. A shrinkage in the value of 
 the taxpayer's stock in trade, as reflected in his inventory, is not 
 such a loss as is contemplated by the provision of the statute 
 authorizing the Commissioner to allow the deduction of a loss 
 for a taxable year other than the one in which sustained. 
 
 The following rulings on this subject were made under the 
 1918 Law. If a mother is bona fide indebted to her son and dis- 
 charges the obligation by transferring stock to him, any excess 
 of the cost of the stock over the amount of the debt and unpaid 
 interest is a deductible loss. This payment of a valid indebted- 
 ness is equivalent to a sale in constituting a closed and completed 
 transaction.36 Under New York state laws, a safe-deposit com- 
 pany is required to wait two years before opening any safe- 
 deposit box for nonpayment of rent. The fact that no rental 
 is paid during these years and it is impossible of collection was 
 held not to permit the company to take a deduction of an amount 
 equal to the rental value of any deposit box which it by law 
 was prevented from opening, unless the company's books were 
 kept on an accrual basis and such amount had actually been 
 accrued. That a taxpayer might derive greater profits if it 
 were not for restrictions placed upon his activities by federal 
 or state laws has no bearing on his returns for federal income 
 tax purposes.^'' A taxpayer was held to sustain no deductible 
 loss by reason of a drop in the rate of exchange where he had 
 remitted certain sums of cash to his London representative to be 
 used in purchasing raw material and where, at the end of the 
 year, the purchases had not been made and the rate of exchange 
 was lower than at the time the exchange was purchased.^^ 
 
 Losses of Capital. What the law contemplates as a deduction 
 is the loss of capital, ^^ either by the sale of property or by the 
 
 36 O. D. 555, T. B. 25-20-1015. 
 
 37 O. D. 486, T. B. 18-20-899. 
 
 38 O. D. 940, H. B. 23-21-1672. 
 
 39 It is interesting to note that under the Civil War Income Tax Laws, 
 losses of capital were not deductible. (See letter from treasury depart- 
 ment dated June 8, 1865, 2 Int. Rev. Rec. 36.) 
 
630. FEDERAL INCOME TAX 
 
 destruction or disappearance of property. It is, therefore, im- 
 material in what year the capital was created so long as the 
 loss is sustained in the taxable year. All losses to be deductible, 
 if not sustained in trade or business, must result from transac- 
 tions entered into for profit, ^o or must be losses of property aris- 
 ing from fires, storms, shipwreck, or other casualty or from 
 theft. It has been held that a distribution of dividends by a 
 corporation, whether from capital or from surplus, is not a 
 deductible Ioss.*i The question of whether certain payments, 
 may be deducted as losses or treated as capital expenditures is 
 discussed in another chapter.*-' 
 
 Losses of Income. Loss of income is not, generally speaking, 
 a proper deduction. If, for instance, a debtor defaults in pay- 
 ment of interest, or a corporation fails to pay a regular dividend, 
 or an employer fails to pay commissions or salaries, the amount 
 of such items may not be deducted from other income during the 
 year, as the income is reduced by the mere fact that such sums 
 are not included. If, however, the taxpayer has reported any 
 such amounts as income for the taxable year, or a preceding 
 year, as might be done in the case of taxpayers reporting on a 
 basis other than that of actual receipts and disbursements, the 
 subsequent failure to collect the amounts so entered on the books 
 may be treated as a loss when it is determined that the amount is 
 not collectible.*^ 
 
 Measure of Loss. In the case of the sale of assets the loss will be 
 the difference between the cost thereof less depreciation sustained 
 since acquisition and the price at which sold or disposed of. How- 
 ever, the loss which is deductible in the case where such property 
 was acquired before March 1, 1913, and where its fair market 
 value on that date was less than the cost thereof, is the difference 
 between such value (less depreciation) and the price at which 
 sold or disposed of. No loss is recognized in the case of property 
 sold at less than cost minus depreciation, but for more than its 
 
 r 
 
 40 Under the 1916 Law it seemed that a deductible loss need not necessarily 
 be one connected with the business or trade of an individual, except in the 
 case of losses resulting from sales or dealings in property, in which case 
 it was expressly provided that such losses must be incurred in his trade 
 or business. The Revenue Act of 1918 and the present law seem to intend 
 that losses resulting from such sales or dealings may be deducted not 
 only when connected with his trade or business, but when not so connected, 
 if in transactions entered into for profit. 
 
 41 Van Dyke v. Milwaukee, (Wis.) 150 N. W. 509. 
 
 42 See Chapter 21. 
 
 43 This point is discussed in the paragraph below on worthless debts. 
 
DEDUCTION OF LOSSES 631 
 
 fair market value as of March 1, 1913.** When loss is claimed 
 through. the destruction of property by fire, flood, or other cas- 
 ualty, the amount deductible will be the difference between the 
 cost of the property and the salvage value thereof, after deduct- 
 ing from such cost the amount, if any, which has been or should 
 have been set aside and deducted in the current year and pre- 
 vious years from gross income on account of depreciation and 
 which has not been paid out in making good the depreciation 
 sustained. Under the 1918 Law, in the case of such property 
 acquired before March 1, 1913, when the fair market value as of 
 that date was lower than the cost, the deductible loss was the 
 difference between such value and the salvage value thereof after 
 deducting from the value as of March 1, 1913, the amount, if any, 
 which had been or should have been set aside and deducted in 
 the current year and previous years from gross income on ac- 
 count of depreciation and which had not been paid out in making 
 good the depreciation sustained. No loss was recognized where 
 the salvage value was less than the cost but more than the de- 
 preciated value of such property as of March 1, 1913. In any 
 event the loss should be reduced by the amount of any insurance 
 or other compensation received.*^ The Revenue Act of 1921 
 specifically provides that in case of losses arising from de- 
 struction of or damage to property, where the property so de- 
 stroyed or damaged was acquired before March 1, 1913, the de- 
 duction for loss shall be computed upon the basis of its fair mar- 
 ket price or value as of March 1, 1913.*" In the case of prop- 
 erty which should be included in the inventory, the basis for de- 
 termining loss on the sale or other disposition thereof will be 
 the last inventory value thereof.*''' 
 
 In a case arising under the 1909 Law, the court said : "There 
 seems to be no limitation provided in the act as to the amount 
 of deductions to be allowed for losses actually sustained from any 
 source during the year, and whether due to conditions of business, 
 the sale of property, or anything else, and the court must, there- 
 fore, assume that the statute contemplated that the full amount 
 of all losses sustained within the year would be allowed." *8 
 
 « Revenue Act of 1921, § 202 (b) ; Reg. 45, Art. 141, as amended by T. 
 D. 3209, T. B. 33-21-1773. See Chapter 17 for criticism of method of meas- 
 uring loss when March 1, 1913, value is involved. 
 
 45 Reg. 45, Art. 141, as amended by T. D. 3209, T. B. 33-21-1773. 
 
 46 Revenue Act of 1921, §§214 (a) 6 and 234 (a) 4. 
 
 47 Revenue Act of 1921, §202 (a) 1; Revenue Act of 1918, §202 (a) 2. 
 
 48 Connecticut Mutual Life Ins. Co. v. Eaton, 218 Fed. 206. In this 
 case the court required the corporation to report as income all of its 
 profits and permitted it to deduct all of its losses on the sale of property 
 
632 FEDERAL INCOME TAX 
 
 Property Acquired by Gift Under 1921 Law. The Revenue 
 Act of 1921 provides that in the case of the sale or other dis- 
 position of property, real, personal or mixed, acquired by gift 
 after December 31, 1920, the basis for determining loss shall be 
 the same as that which it would have in the hands of the donor 
 or the last preceding owner by whom it was not acquired by gift. 
 If the facts necessary to determine such basis are unknown to 
 the donee, the Commissioner is required, if possible, to obtain 
 such facts from such donor or last preceding owner, or any other 
 person cognizant thereof. If the Commissioner finds it impossible 
 to obtain such facts, the basis will be the value of such property 
 as found by the Commissioner as of the date or approximate 
 date at which, according to the best information the Com- 
 missioner is able to obtain, such property was acquired by such 
 donor or last preceding owner. In the case of such property ac- 
 quired by gift on or before December 31, 1920, the basis for as- 
 certaining gain or loss from a sale or other disposition thereof 
 will be the fair market price or value of such property at the 
 time of such acquisition.*" 
 
 Losses from Sales of Property. The most freqiient deductions 
 for losses are claimed as a result of the sale of property. In such 
 cases the loss occurs when the selling price is less than the cost. 
 This is the converse of gain from the sale of property which is 
 discussed in a preceding chapter.^" The cost of the property is 
 determined in the same manner whether the transaction results 
 in a loss or a gain and the same rules apply with respect to prop- 
 erty acquired prior to March 1, 1913. Where a taxpayer in- 
 herited an undivided interest in a piece of property and sold 
 his interest to his sisters for an amount less than the value at 
 which it was appraised for inheritance tax, the sale price being 
 approximately one-third less than the price which it was es- 
 timated that the property would have brought at a forced sale, 
 it has been held that the difference between the fair market value 
 of the property at the date of acquisition and the selling price 
 (with proper adjustments for depreciation and improvements) 
 does not under the facts in the case represent a loss properly 
 
 during the year, regardless of the fact that some of the property was 
 purchased prior to the incidence of the tax, it appearing that the result 
 would be the same as if the gains and losses had been prorated as then 
 required by the treasury department. 
 
 *9 Revenue Act of 1921, § 202 (a) 2. 
 
 50 See Chapter 17. 
 
DEDUCTION OP LOSSES 633 
 
 deductible from gross income, but is rather in the nature of a 
 gift to his sisters.s^ 
 
 Sale of Stock or Securities. A corporation sustains no de- 
 ductible loss from the sale of its own stock.^^ Where a contract- 
 ing company assigned certificates of indebtedness of a state to 
 a bank, under an agreement with the bank for advancing money 
 to pay the operating expenses of the company, the company also 
 paying the bank a discount on the face of the certificates in ad- 
 dition to the accrued interest on the funds advanced, such dis- 
 count has been held deductible as a loss on the sale of the 
 securities-S-"* Under the 1918 Law it was held that if a taxpayer 
 made actual bona fide sale of securities at a loss in 1918, the loss 
 was deductible even though the taxpayer repurchase the se- 
 curities in the succeeding year at the same price for which they 
 were sold. However, the burden of proof would be on the tax- 
 payer to show that the sale was not fictitious.^* The danger of 
 loss of revenue to the government inherent in transactions of 
 this kind has now been guarded against in the Revenue Act of 
 1921 Which provides that no deduction will be allowed for any 
 loss claimed to have been sustained in any sale or other dis- 
 position of shares of stock or securities made after November 
 23, 1921, where it appears that within thirty days before or 
 after the date of such sale or other disposition the taxpayer 
 has acquired (otherwise than by bequest or inheritance) sub- 
 stantially identical property, and the property so acquired is 
 held by the taxpayer for any period after such sale or other 
 disposition. If such acquisition is to the .extent of part only of 
 substantially identical property, then only a proportionate part 
 of the loss will be disallowed.^^ where no deduction is allowed 
 for a loss or a part thereof under the above provision, that part 
 of the property acquired with relation to which such loss is 
 disallowed will, for the purpose of determining subsequent gain 
 or loss, be treated as taking the place of the property sold or 
 disposed of.^® 
 
 51 O. D. 847, T. B. 12-21-1516. 
 
 52 Reg. 45, Art. 563, as amended by T. D. 3206, T. B. 33-21-1767. 
 
 53 0. D. 999, T. B. 34-21-1778. 
 
 54 0. D. 373, T. B. 3-20-689. 
 
 55 Revenue Act of 1921, §§ 214 (a) 5 and 234 (a) 4. The question of what 
 will constitute "substantially identical property" has not yet been ruled 
 upon. It would seem that where common stock is sold, and, within the 
 prescribed period, the- taxpayer acquires preferred stock or bonds of the 
 same corporation or stock or bonds of another corporation, such property 
 should not be regarded as "substantially identical property." 
 
 56 Revenue Act of 1921, § 202 (d) 3. 
 
634 FEDERAL INCOME TAX 
 
 Losses from Exchanges of Property. Under the 1918 Law, 
 where property was exchanged for other property, the property 
 received in exchange was treated, for the purpose of determining 
 any loss to the taxpayer, as the equivalent of cash to the amount 
 of its fair market value, if any .-''■'■ If the property received in 
 exchange had no fixed value or definitely ascertainable market 
 value, it would be difficult to determine the amount, if any, of 
 loss in the transaction and it seems that no loss could be 
 claimed by the taxpayer. The Revenue Act of 1921 provides 
 that on an exchange of property, real, personal or mixed, for 
 any other such property, no gain or loss will be recognized un- 
 less the property received in exchange has a readily realizable 
 market value, but even if the property received in exchange has 
 a readily realizable market value no gain or loss will be recog- 
 nized (1) when any such property held fqr investment, or for 
 productive use in trade or business (not including stock-in- 
 trade or other property held primarily for sale), is exchanged 
 for property of a like kind or use, or (2) when a person trans- 
 fers any property, real, personal or mixed, to a corporation, 
 and immediately after the transfer is in control of such cor- 
 poration, or (b) two or more persons transfer any such property 
 to a corporation, and immediately after the transfer are in 
 control of such corporation, and the amounts of stock, securi- 
 ties, or both, received by such persons are in substantially the 
 same proportion as their interests in the property before such 
 transfer. For the purposes of this paragraph,- a person is, or 
 two or more persons are, "in control" of a corporation when 
 owning at least 80 per centum of the voting stock and at least 
 80 per centum of the total number of shares of all other classes 
 of stock of the corporation. Where property is exchanged for 
 other property and no gain or loss is recognized as above, the 
 property received will, for the purpose of determining sub- 
 sequent gain or loss, be treated as taking the place of the prop- 
 erty exchanged therefor.^ The rules for determining loss in 
 the case of exchanges of stock or securities are set forth in the 
 following paragraphs. 
 
 Exchange of Stock Under the 1918 Law. The Revenue Act of 
 1918 59 provided that "when in connection with the reorganiza- 
 tion, merger or consolidation of a corporation a person receives 
 in place of stock or securities owned by him new stock or se- 
 
 57 Revenue Act of 1918, § 202 (b) . 
 
 58 Revenue Act of 1921, § 202. See Chapter 17. 
 
 59 Revenue Act of 1918, §202 (b). 
 
DEDUCTION OF LOSSES 635 
 
 curities of no greater aggregate par or face value, no gain or 
 loss shall be deemed to occur from the exchange, and the new 
 stock or securities received shall be treated as taking the place 
 of the stock, securities, or property exchanged." Where in 
 such an exchange a person received for his stock or securities, 
 new^ stock or securities of a greater par or face value then a gain 
 was presumed and a method was provided for determining the 
 amount of such gain.^"* No provision was made for determining 
 and allowing the deduction of a loss when the new stock or se- 
 curities received were of less par or face value than those ex- 
 changed. It was expressly stated in the law, as quoted above, 
 that where the new stock or securities received were of no 
 greater par or face value than those exchanged no gain or loss 
 should be deemed to occur from the exchange. Where in a 
 case of merger, stockholders of one corporation exchanged their 
 stock for stock of the corporation resulting from the merger 
 and received a par value less than the par value of the old 
 stock, it was held under the 1916 Law that the transaction con- 
 stituted a sale for income tax purposes, and that a deduction 
 might be claimed for any loss, measured by the difference be- 
 tween the value of the old stock on March 1, 1913, (or the cost, 
 if purchased subsequent to that date) and the value at which 
 the same stock was given in exchange for stock of the company 
 resulting from the merger.**! 
 
 Exchange of Stock Under the 1921 Law. The Revenue Act of 
 1921 has departed from the somewhat arbitrary basis for de- 
 termining losses in such transactions provided by the 1918 Law. 
 It is now provided that no gain or loss will be recognized when 
 in the reorganization of one or more corporations a person re- 
 ceives in place of any stock or securities OMmed by him, stock 
 or securities in a corporation a party to or resulting from such 
 reorganization. The word "reorganization," as used in this 
 paragraph, includes a merger or consolidation (including the 
 acquisition by one corporation of at least a majority of the voting 
 stock and at least a majority of the total number of shares of all 
 other classes of stock of another corporation, or of substantially 
 all the properties of another corporation), recapitalization, or 
 
 80 Revenue Act of 1918, § 202 (b) . 
 
 61 Letter from treasury department dated March 9, 1917; I. T. S. 1918, 
 111305; A. R. R. 435, T. B. 13-21-1528. See Chapter 17. Under the 1916 
 Law such losses were permitted to be deducted in the case of individuals 
 only to the extent that they did not exceed gains from other similar transac- 
 tions during the year. 
 
 62 Revenue Act of 1921, § 202 (c) 2. 
 
636 FEDERAL INCOME TAX 
 
 mere change in identity, form, or place of organization of a 
 corporation, (however effected.) ^2 in such cases the stock or 
 securities received in exchange will be treated as taking the 
 place of the stock or securities exchanged therefor fo^ the pur- 
 pose of determining subsequent gain or loss from their sale 
 or other disposition. 63 However, in the case of an exchange of 
 stock or securities for other stock or securities in a transaction 
 other than those outlined above, a deductible loss may arise if 
 the stock or securities received in exchange have a readily 
 realizable market value. 
 
 Dividends Paid in Property. Where in 1917 a corporation de- 
 clared a cash dividend and distributed in payment thereof certain 
 securities theretofore held in its treasury, it has been held that 
 if the net value of the securities at the date of distribution was 
 less than their cost the taxpayer has sustained a deductible loss, 
 provided that in such distribution the market value of the securi- 
 ties as at the date of the dividend was used. At the date of the 
 dividend the corporation parted with title to these securities and 
 thus closed the transactions in them.®* 
 
 Bonds Purchased Above Par. Where bonds have been pur- 
 chased above par it seems, under the present law, that no deduc- 
 tion can ordinarily be made for the loss of the amount of the 
 premium until the bonds are either sold in the market before 
 maturity, or until the principal sum is received at the time of 
 maturity. In either case the loss will be the difference between 
 the amount paid and the amount received. Where, however, a 
 taxpayer reports on a basis other than of actual receipts and dis- 
 bursements it seems that this sum may properly be deducted in 
 proportionate amounts each year as amortization.^^ 
 
 Losses from Fires, Storms, Shipwreck and Other Casualty. The 
 law expressly provides, in the case of individuals, that the loss 
 arising from fires, storms, shipwrecks, or other casualty, or 
 theft, may be deducted in the year in which the loss is sus- 
 tained."® Under the present law, but not under the 1918 Law, 
 such losses may be deducted in a year other than the one in 
 which sustained, if in the opinion of the Commissioner, income 
 
 63 Revenue Act of 1921, § 202 (d) 1. 
 
 64 A. R. R. 435, T. B. 13-21-1528. 
 
 65 This was also the case under the 1916 Law. Under the 1909 Law it 
 was held that where bonds were purchased at a rate above par a pro- 
 portionate amount of the premium might be deducted each year on account 
 of amortization (T. D. 1727). See Van Dyke v. Milwaukee, (Wis.) 150 
 N. W. 509. 
 
 66 Revenue Act of 1918, § 214 (a) 6. 
 
DEDUCTION OF LOSSES 637 
 
 will be more clearly reflected."^ This kind of loss is allowed to 
 corporations without specific mention, as with respect to corpora- 
 tions all losses- are deductible. In the case of nonresident aliens 
 the law permits the deduction of all such losses of property 
 within the United States.^s In the case of foreign corporations 
 such deductions are allowed only if and to the extent that they 
 are connected with income arising from a source within the 
 United States ; and the proper apportionment and allocation of 
 such deductions with respect to sources of income within and 
 without the United States must be determined under rules and 
 regulations prescribed by the Commissioner with the approval 
 of the Secretary.''^ In all cases the law provides that the de- 
 duction may be made only when such losses are not compensated 
 for by insurance or otherwise. The intent seems to be to per- 
 mit a deduction of the losses to the extent that the taxpayer is- 
 not compensated by insurance or otherwise. If he is com- 
 pensated for part of such loss, he may deduct the part for which 
 he is not so compensated. In claiming a loss due to the destruc- 
 tion of property the salvage value of the property must be con- 
 sidered as a partial compensation to be deducted from or not 
 included in the amount claimed as a deduction. The value of the 
 property at the time of the loss is not intended to be the measure 
 of the loss. The measure of loss will be determined in ac- 
 cordance with the rules set forth in a former paragraph.™ 
 
 The term "other casualty" is held' to embrace losses arising 
 through the action of natural physical forces and which occur 
 suddenly, unexpectedly, and without design of the one suffering 
 the loss.'^'i A loss sustained through the freezing and bursting 
 of the water pipes in a residence during the absence of the oc- 
 cupant has been held deductible as a loss from "other casualty."''^ 
 The following have been held not deductible as losses from "other 
 casualty": (1) a lost ring, the owner being in doubt as to 
 whether it was stolen ;'^3 (2) a loss sustained by reason of the 
 damage to a pleasure automobile due to an accident attributable 
 
 67 Revenue Act of 1921, §§214 (a) 6 and 234 (a) 4. 
 
 68 Revenue Act of 1921, §214 (a) 6; Revenue Act of 1918, §214 (a) 6. 
 
 69 Revenue Act of 1921, §234 (b) ; Revenue Act of 1918, §234 (b). 
 
 70 See paragraph "Measure of Loss", supra. 
 
 71 O. D. 526, T. B. 22-20-969. 
 
 72 0. D. 1076, T. B. 48-21-1885. 
 
 73 0. D. 526, T. B. 22-2P-969. Of course if the owner of the ring can 
 establish the fact that it was stolen, the loss will be one arising from 
 "theft" 
 
638 FEDERAL INCOME TAX 
 
 to the icy condition of the streets ;''* (3) amounts expended in 
 defending a suit for damages alleged to have been caused by 
 the negligent operation of an automobile owned and operated for 
 personal convenience ; '^^ (4) an amount paid by a taxpayer as 
 damages on account of injuries sustained by reason of the plain- 
 tiff's tripping over a wire stretched along the curb in front of 
 the taxpayer's residence.'^^ 
 
 A taxpayer's personal residence located on a beach was dam- 
 aged by a storm, which washed away part of the foundation 
 and so undermined the building as to render its destruction 
 certain if it was not immediately removed. In removing the 
 building to a safer location it was further damaged. The damage 
 caused by the direct action of the storm and by the removal to 
 avoid further probable damage is held to have arisen from storm 
 and deductible from gross income as a loss. If the building was 
 moved to prevent further loss from the storm in question, the ex- 
 pense of moving it is also deductible as a loss ; but if it was moved 
 to prevent probable losses from future storms, the expense of 
 moving it is regarded as a capital expenditure and should be 
 added to the cost of the building in computing profit in the 
 event of its sale, since the removal to a safer locality pre- 
 sumably increased its value.'^'^ 
 
 Losses Arising from Theft. The following rulings were made 
 under the 1918 Law : A loss incurred by a corporation through 
 the embezzlement of its fimds is an allowable deduction from 
 gross income for the year in which the embezzlement occurs; 
 
 7*0. D. 629, T. B. 33-20-1132. This ruling seems a questionable 
 interpretation of the statute. The statute provides for a deduction of 
 losses not connected with the trade or business "if arising from fires, 
 storms, shipwreck, or other casualty or from theft, * * *." It would 
 seem that the words "other casualty" are broad enough to include a loss 
 due to icy condition of streets. The word "casualty" has been defined by 
 the courts as follows : "An accident or casualty, according to common under- 
 standing, proceeds from an unknown cause or is an unusual effect of 
 a known cause. Either may be properly said to occur by chance and 
 unexpectedly." (Chicago, St. Louis, etc., R. Co. v. Pullman Co., 139 U. S. 
 79.) The only justification for the ruling is the limitation of the word 
 "casualty" by reference to the words immediately preceding it (see U. 
 S. V. 1150J Lbs. of Celluloid, 82 Fed. 627) but this is not a cast iron rule 
 and has been disregarded in the construction of the clause "all other gains 
 and profits derived from any source whatever" contained in the Virginia 
 Income Tax Law (see Commonwealth v. Werth, 116 Va. 604, 82 S. E. 
 695). This clause is very similar to the omnibus clause used in section 213 
 (a) of the Revenue Act of 1918 and 213 (a) of the 1921 Law. 
 
 75 A. R. R. 444, T. B. 12-21-1527. 
 
 76 0. D. 779, T. B. 4-21-1409. 
 
 77 0. D. 698, T. B. 43-20-1259. 
 
DEDUCTION OF LOSSES 639 
 
 the time of the discovery of the loss bears no relation to the date 
 it was sustainedjs A loss incurred by a corporation through 
 the embezzlement of securities held in bailment by it is an allow- 
 able deduction from gross income of the year in which demand 
 was made by the bailors for the return of the securities and the 
 replacement made by the company."^^ Where a taxpayer suf- 
 fered a loss through burglary in 1917 and where after litiga- 
 tion it was decided by the court in 1919 that no insurance could 
 be recovered the loss was held to be deductible in 1917, the 
 year in which it was actually sustained.so 
 
 The Commissioner has discretion under the present law to 
 permit such deductions to be taken in years other than those in 
 which sustained if such procedure will more clearly reflect in- 
 come.81 
 
 Voluntary Destruction of Property. Loss due to the voluntary 
 removal or demolition of old buildings, the scrapping of old 
 machinery, equipment, etc., incident to renewals and replace- 
 ments has been held to be deductible from gross income, in a 
 sum representing the difference between the cost of such prop- 
 erty demolished or scrapped and an amount measuring a rea- 
 sonable allowance for the depreciation which the property had 
 undergone prior to its demolition or scrapping; that is to say, 
 the deductible loss is only so much of the original cost, less sal- 
 vage, as would have remained unextinguished if a reasonable 
 allowance had been charged off for depreciation during each 
 
 ■78 Reg. 45, Art. 111. 0. 845, T. B. 6-19-275. See T[ "Recoveries on 
 Losses," infra. 
 
 79 A. R. R. 269, T. B. 40-20-1221. In this case at the time of the embez- 
 zlement the amount of the loss to the company could not be determined, for 
 it was controlled by the replacement cost of the securities at the date of 
 demand by the owners. The claims against the company might have been 
 waived by the clients and in that case the company would have sustained 
 no loss. Furthermore, the liability of the company to the clients on ac- 
 count of the loss of the property held in bailment was not certain and might 
 have been contested, the company contending that in a bailment for mutual 
 benefit it is held to the exercise of ordinary care in relation to the subject- 
 matter thereof and is responsible only for ordinary negligence. (New York 
 Cent. R. Co. v. Lockwood, 17 Wall. 357; Bleakley v. New York, 139 Fed. 
 807; Fairmont Coal Co. v. Jones, etc., Co., 134 Fed. 711; Smith v. British 
 Steamship Co., 123 Fed. 176.) The amount expended by the company was 
 in fact a payment in settlement of a legal liability. The right of action of 
 clients accrued when the demand was made for the return of the securities, 
 and the liability of the company was incurred on that date. (Stevens v. 
 Stevens, 132 Mo. App. 624; Walker v. Bement, 94 N. E. 339; Woods v. 
 Latta, 3 Mont. 9; Brown v. Cook, 9 John. 361.) 
 
 80 A. R. R. 542, T. B. 26-21-1705. 
 
 81 Revenue Act of 1921, §§ 214 (a) 6 and 234 (a) 4. 
 
640 FEDERAL INCOME TAX 
 
 year prior to its destruction. When a taxpayer buys real estate, 
 upon which is located a building which he proceeds to raze, with 
 a view to erecting thereon another building, it will be considered 
 that the taxpayer has sustained no deductible loss by reason of 
 the demolition of the old building and no deductible expense on 
 account of the cost of such removal, the value of the real estate, 
 exclusive of old improvements, being presumably equal to the 
 purchase price of the land and building plus the cost of remov- 
 ing the useless building.s^ A taxpayer sustains no deductible loss 
 in the demolition of 80 per cent of his. building for the purpose 
 of reconstruction. The amount expended is an investment of 
 capital and should be considered as a part of the cost of re- 
 construction.83 
 
 Where a taxpayer purchased improved real estate adjoining 
 his plant, intending to sell the houses thereon and have them re- 
 moved but found that owing to fire regulations the houses could 
 not be removed and was obliged to sell them for a very small 
 sum, it has been held that since the property was purchased 
 primarily for the enlargement of the plant and not with the 
 view of selling it for profit, and inasmuch as the fire regulations 
 were existent at the time the property was purchased, the houses 
 in fact were worth only their salvage value when purchased, re- 
 gardless of what it was thought they were worth. The amount 
 paid for the property, including the buildings, less the salvage 
 value of the buildings, represents the amount actually paid for 
 the land. As the land has not been sold or otherwise disposed 
 of, the gain or loss from the transaction, if any, has not been 
 determined. No deductible loss was sustained from the sale of 
 the buildings.^* 
 
 Loss of Useful Value. When through some change in business 
 conditions the usefulness in the business of some or all of the 
 capital assets is suddenly terminated, so that the taxpayer dis- 
 continues the business or discards such assets permanently from 
 use in such business, he may claim as a loss for the year in which 
 he takes such action the difference between the cost, or, if ac- 
 quired prior to March 1, 1913, the cost or fair market price or 
 value as of that date, whichever is lower, of any assets so dis- 
 carded (less any depreciation sustained) and its salvage value 
 remaining. This exception to the rule requiring a sale or other 
 disposition of property in order to establish a loss requires proof 
 
 82 Reg. 45, Art. 142; Reg. 33 Rev., Arts. 155 and 156. See Reg. 33, Art. 
 127. 
 
 83 0. D. 773, T. B. 2-21-1387. 
 
 84 O. D. 1031, T. B. 37-21-1816. 
 
DEDUCTION OF LOSSES 641 
 
 of some unforeseen cause by reason of which the property has 
 been. prematurely discarded, as, for example, where an increase 
 in the cost of or other change in the manufacture of any product 
 makes it necessary to abandon such manufacture, to which 
 special machinery is exclusively devoted, or where new legisla- 
 tion directly or indirectly makes the continued profitable use of 
 the property impossible. This exception does not extend to a 
 case where the useful life of property terminates solely as a re- 
 sult of those gradual processes for which depreciation allowances 
 are authorized. It does not apply to inventories or to other 
 than capital assets. The exception applies to buildings only 
 when they are permanently abandoned or permanently de- 
 voted to a radically different use, and to machinery only when 
 its use as such is permanently abandoned. Any loss to be de- 
 ductible under this exception must be charged off on the books 
 and fully explained in returns of income.^ Such a loss in useful 
 value may not be based on the book value of assets where this 
 book value represents a writing up of appreciation in their 
 value. The loss in useful value must be based on cost or value as 
 of March 1, 1913.8c 
 
 Where on account of rearranging a lease on property occupied 
 by a corporation a large portion of tfie furniture and fixtures 
 became useless and were torn out, it has been held that the 
 corporation may deduct the amount of such loss. Such a loss 
 is a loss of useful value and may not be deducted by the tax- 
 payer as depreciation .8''' Where it appears that material error 
 has been made in an estimate of the mineral contents of a mine 
 by reason of the discovery of a rock fault, it has been held that 
 such discovery does not give rise to a deductible loss of useful 
 value. A new estimate may be made and the capital remaining 
 
 85 Reg. 45, Art. 143; as amended by T. D. 3206, T. B. 33-21-1767. Under 
 the Hawaiian Law, which does not make any provision for a deduction to 
 cover obsolescence, it has been held that no deduction may be taken to cover 
 the value of mills, buildings, and a railroad discarded on account of the 
 erection of a larger mill at a different location and the construction of a 
 different railroad connected therewith. This transaction was held not to 
 be deductible either as a loss or an expense and it was also held that the 
 provision that ''no deduction shall be made for any amount paid out for new 
 buildings, permanent improvements or betterments made to increase the 
 value of any property or estate," did not imply that deduction might be 
 made for all amounts so paid out which did not in fact increase the value 
 of the property. (Haw. Commercial, etc., Co. v. Tax Assessor, 14 Haw. 
 601, 687.) 
 
 8fiA. R. R. 556, T. B. 37-21-1817. 
 
 87 A. R. R. 469, T. B. 16-21-1579. 
 
642 FEDERAL INCOME TAX 
 
 may be recovered thereafter through depletion in the year or 
 years of continued operation.ss The department has also denied 
 the claim of an ice company for a loss of useful value of a dam 
 constructed to make a lake from which ice was cut where the 
 company voluntarily abandoned the ice business, but apparently 
 the claim was denied because of the department's belief that 
 the dam still had substantial value and because there was no 
 evidence of a "determinable and determined" loss.^® 
 
 Cost of Drawings, Models and Patterns. Expenditures made 
 for designs, drawings, patterns or models representing work 
 of an experimental nature should be treated as a capital dis- 
 bursement and not as an expenditure if the designs, drawings, 
 patterns or models prove to be satisfactory and result in the 
 production of salable goods. If, however, they prove to be un- 
 satisfactory and have no asset value, the expenditure may be 
 charged off as a loss incident to running the business and as 
 such deducted from gross income, provided that the taxpayer 
 taking credit for such expenditures in the income tax return 
 makes a full and complete explanation with respect to the 
 same.^" If designs, drawings, patterns, or models result in the 
 production of goods which prove to be salable for a certain length 
 of time and then become ftbsolete and can not be sold, the amount 
 expended for such designs, drawings, patterns, or models, less 
 any amounts previously claimed as depreciation with respect to 
 the same or as a return of capital, may when charged off, be in- 
 cluded in, and deducted as a loss incident to running the business, 
 provided full and complete information is reported in a manner 
 satisfactory to the Commissioner.^! 
 
 Amounts Paid to Make Up Profits of Another Corporation 
 Under Agreement. Contracts guaranteeing the payment of divi- 
 dends or interest of one corporation by another are frequently 
 made between corporations having close business relations. 
 Whether or not amounts paid under such contracts or guaran- 
 tees may be deducted, as a loss or as an expense of doing busi- 
 ness, by the paying corporation has not been determined by the 
 courts in this country. In England such payments have been 
 held properly deductible as sums expended for the purpose of 
 trade.82 jf the payment is made under an enforceable contract, 
 
 88 A. R. R. 431, T. B. 12-21-1521. 
 
 89 A. R. R. 498, T. B. 20-21-1639. 
 
 90 Reg. 33 Rev., Arts. 175, 176. 
 
 91 Reg. 33 Rev., Art. 177. 
 
 92 Moore v. Stewarts & Lloyds (1906), 8 Fraser 1129. In this case it was 
 observed that the question was one of fact rather than of law. One company 
 
DEDUCTION OP LOSSES • 643 
 
 there seems to be no reason why the amount should not be de- 
 ducted either as loss or expense. This question would seem 
 under the 1918 Law and the present law to be covered in many- 
 cases by the provision for the making of a consolidated return 
 by affiliated corporations.^^ 
 
 Shrinkage in Securities and Stocks. A person possessing se- 
 curities such as stocks and bonds, can not deduct from gross 
 income any amount claimed as a loss on account of the shrinkage 
 in value of such securities through fluctuation of the market or 
 otherwise. The loss allowable in such cases is that actually suf- 
 fered when the securities mature or are disposed of. In the case 
 of banks or other corporations which are subject to supervision 
 by state or federal authorities, and which in obedience to the 
 orders of such supervisory officers charge off as losses amounts 
 representing an alleged shrinkage in the value of property, 
 the amounts so charged off do not constitute allowable deduc- 
 tions. The foregoing applies only to owners and investors, and 
 not to dealers in securities. However, if stock of a corporation 
 becomes worthless, its cost, or, if acquired prior to March 1, 
 1913, its fair market value as of that date, whichever is lower, 
 may be deducted by the owner in the taxable year in which the 
 stock becomes worthless, provided a satisfactory showing of its 
 worthlessness be made as in the case of bad debts.^* 
 
 It has been held in a recent case^^ under the 1909 Law that 
 an insurance company, the greater portion of whose assets con- 
 sist of stocks, bonds, and other securities, is entitled to deduct 
 
 entered into agreement with another whereby in return for the right to 
 nominate a majority of directors of the second company the first undertook 
 to pay to the second such sums each half year as might be necessary to 
 make up any deficit in the dividends on the latter's preferred shares. The 
 court said, "If the agreement was entered into with a view to profit, as I 
 think it was * * * then the annual charge to the respondent company 
 is in my view a part of their business outlay or expenditure and is not 
 subject to assessment." 
 
 93 See Chapter 10. 
 
 94 Reg. 45, Art. 144, as amended by T. D. 3206, T. B. 33-21-1767; T. D. 
 2882, T. B. 9-19-341; T. D. 8261; letter from treasury department dated Au- 
 gust 14, 1914; I. T. S. 1918, Tf 1344; N. Y. Life Ins. Co. v. Anderson, 257 Fed. 
 576. The Act of June 30, 1864, as amended by the Act of July 13, 1866, seems 
 to have permitted the deduction from earnings of depreciation in invest- 
 ments in bonds and depreciation in stock in order to arrive at the amount of 
 the taxpayer's profits. (Miami, etc., R. R. Co. v. U. S., 108 U. S. 277.) 
 
 05 New York Life Ins. Co. v. Anderson, 263 Fed. 527, reversing 257 Fed. 
 576. The soundness of this view may be doubted. (See Fink v. North- 
 western Mutual Life Ins. Co., U. S. circuit court of appeals, seventh circuit, 
 June, 1920, T. D. 3057, T. B. 36-20-1187. See the limiting definition of 
 depreciation in Von Baumbach v. Sargent Land Co., 242 U. S. 503. 
 
644 FEDERAL INCOME TAX 
 
 the amount of the market depreciation of such securities during 
 the year. The court said in part: "It is here admitted that 
 judged by any standard familiar to business men, the securi- 
 ties of plaintiff were worth at the end of 1910 several million 
 dollars less than they were at the beginning of that year. It 
 is further admitted that, not only was it the business custom 
 of plaintiff to revalue its securities in accordance with the mar- 
 ket annually, but that such procedure was and is a reasonable 
 business conservatism, and a frequent, though not universal, 
 statutory requirement. Under this taxing act the question is 
 not strictly whether depreciation in market value is a loss, but 
 whether, when Congress specifically includes within 'losses ac- 
 tually sustained within the year, * * * ^ reasonable allow- 
 ance for depreciation of property,' depreciation does not be- 
 come a loss, no matter what persons other than Congress may 
 think on the subject. We have no doubt that this loss in market 
 value is depreciation. The word means, by derivation and com- 
 mon usage, a 'fall in value ; reduction of worth' ; and it seems 
 to us to require mention only to prove that the average citizen, 
 for whom statutes are assumed to be made, would judge depre- 
 ciation of his own bonds by the opinion of the public, however 
 thoroughly convinced of the ultimate wisdom of holding onto 
 what had depreciated. * * * -phe plain inference is that the 
 phrase is used in the statute in a sense that would be generally 
 understood in business circles, and we hold that the depreciation 
 claimed by plaintiff in its return is used in that sense, and should 
 have been allowed as a deduction." 
 
 No deduction may be taken by a taxpayer on account of the 
 shrinkage in value of an amount invested in foreign money due 
 to a fall in the rate of exchange. The loss allowable in such a 
 case is that actually sustained when the investment is disposed 
 of.96 
 
 Transfer of Securities at Depreciated ValtUE to Corpora- 
 tion Formed for the Purpose. In a case arising under the 1917 
 Law, the stockholders of an industrial company owning certain 
 stocks and bonds carried as liquid reserves for opportune pur- 
 chases of material, established a new corporation having the 
 same stockholders with the same proportionate stock holdings. 
 The new company then bought the above stocks and bonds at 
 market prices which were substantially lower than the cost of 
 market value as of March 1, 1913, of the securities of the old 
 company. A small amount of cash received from the sale of its 
 
 9G 0. D. 764, T. B. 1-21-1371. 
 
DEDUCTION OF LOSSES 645 
 
 capital stock was given by the new company in payment for the 
 securities and the balance of the purchase price was given in de- 
 mand notes bearing 6 % interest with the same securities as col- 
 lateral. The possession of the securities was retained by the old 
 corporation with a power of sale in case of default in payment of 
 the notes. The new corporation had no other assets. The treas- 
 ury department first held the whole transaction to be a sham and 
 a subterfuge to evade taxation with the result that no loss could 
 be deducted under the alleged sale of the securities by the old 
 corporation.^^ 
 
 This ruling was subsequently reversed and the separate en- 
 tities of the two corporations respected, and it was held that the 
 transfer of securities by the old company to the new company 
 must be recognized as a sale in which the former suffered a de- 
 deductible loss.^^ 
 
 Worthless Stock. If stock of a corporation becomes worthless 
 its cost, or, if acquired prior to March 1, 1913, its fair market 
 value as of that date, whichever is lower, may be deducted 
 by the owner in the taxable year in which the stock was 
 ascertained to be worthless and charged off. The worthlessness 
 must be satisfactorily shown as in the case of bad debts. Where 
 banks or other corporations which are subject to supervision by 
 federal authorities (or to state authorities maintaining sub- 
 stantially equivalent standards) in obedience to the specific 
 orders or general policy of such supervisory officers charge off 
 stock as worthless or write it down to a nominal value, such 
 stock shall, in the absence of affirmative evidence clearly es- 
 tablishing the contrary, be presumed for income tax purposes to 
 be worthless.39 
 
 Sale of Capital Stock. Where the capital stock of a corpora- 
 tion is issued for less than par, the amount of discount is not an 
 allowable deduction to the corporation. Such a transaction is 
 purely a capital transaction and the income of the corporation is 
 not directly decreased by reason of the sale of the stock at a price 
 less than its par value. Neither is any loss or gain realized from 
 the purchase of its own stock.^"" 
 
 97 L. 0. 1035 (Rev.), T. B. 40-20-1222. 
 
 98 L. O. 1062, T. B. 14-21-1548. See Chapter 10 for a discussion of the 
 doctrine of corporate entity upon which this decision rested. 
 
 99 Reg. 45, Art. 144, as amended by T. D. 3206, T. B. 83-21-1767; T. D. 
 2135; T. D. 8261. See p. 647 for a discussion of the deduction of bad debts. 
 
 100 Reg. 45, Arts. 568, 542 ; T. D. 2090. 
 
646 FEDERAL INCOME TAX 
 
 Payment by Stockholders of Loss of Corporation. Assessments 
 made by a corporation on its capital stock are regarded as an in- 
 vestment of capital and the amounts paid do not constitute al- 
 lowable deductions to the stockholders."^ This rule was held to 
 apply in a case where a corporation showed a deficit at the close 
 of the year and the stockholders agreed to make it good by the 
 payment of voluntary contributions.102 The surrender of stock 
 for the purpose of wiping out an operating deficit can not be 
 made the basis of a deduction in the returns of the individual 
 stockholders-^^ An assessment paid by a stockholder of a na- 
 tional bank on account of his statutory liability is similarly not 
 deductible. In such a case the assessment under the statutes of 
 the state impose upon the stockholder the necessity of an addi- 
 tional capital expenditure which must be added to the original 
 cost of his stock and his gain or loss can not be determined until 
 this stock is sold or otherwise disposed of in a closed transac- 
 tion."* 
 
 Shrinkage or Deterioration in Storage. Loss due to shrinkage 
 or deterioration of produce in storage is not allowed as a deduc- 
 tion. Such shrinkage or deterioration is reflected in the selling 
 price when the goods ai-e sold and correspondingly reduces the 
 net income at that time."^ 
 
 District Irrigation Bonds. District irrigation bonds as a rule, 
 if not always, are a lien upon the real estate affected by the irri- 
 gation project and until the corporation has taken such steps as 
 are necessary to protect its rights and enforce the collection of 
 the bonds, it does not appear that the corporation would be war- 
 ranted in writing out of its assets and deducting from gross in- 
 come, as a loss, the face value, or any other arbitrarily ascer- 
 tained amount, representing a loss or shrinkage in the value of 
 such bonds."^ This ruling was made under the 1913 Law and is 
 now subject to the new provisions of the 1921 Law that losses 
 may in some cases be deducted in years other than those in which 
 sustained. 
 
 Losses of Oil and Gas. Losses of oil and gas are of two kinds : 
 (a) Those which are unforeseen or unavoidable, such as losses 
 sustained through fire or accident; and (b) losses that are an- 
 
 101 T. D. 2090. 
 
 102 Letter from treasury department dated February 21, 1916; I. T. S. 
 1918, H 1291. 
 
 103 0. D. 216, T. B. 11-19-378. 
 
 104 A. R. R. 588, T. B. 30-21-1744. 
 
 105 Reg. 45, Art. 145; T. D. 2153. 
 
 106 T. D. 2152. 
 
DEDUCTION OF LOSSES 647 
 
 ticipated and recognized as unavoidable under operating condi- 
 tions, such as evaporation of oil in storage, ordinary leakage, re- 
 finery losses, etc. Usually the latter class are indeterminate as to 
 amount and are absorbed either implicitly or explicitly in cur- 
 rent operating expenses or in cost of the oil or gas. Indeter- 
 minate losses may not be deducted from gross income.^"''^ If a 
 taxpayer purchases royalty interests in tracts of oil land (not 
 including title to the land itself) and such interests prove worth- 
 less, as evidenced by all wells drilled proving dry or failing after 
 producing very small quantities of oil, the loss sustained is an 
 allowable deduction from gross income.io^ 
 
 Reserves for Losses. Reserves to take care of anticipated or 
 probable losses are not a proper deduction.ioa On the other hand, 
 losses 'sustained during the year may be deducted although made 
 good out of a fund which has been accumulated as an insurance 
 reserve by the taxpayer.^^o The Revenue Act of 1921 contains a 
 new provision permitting the deduction of a reasonable addition 
 to a reserve for bad debts.^^^ Amounts set aside by canners of 
 perishable food products as a reserve against which to charge 
 losses due to climatic and other natural conditions producing 
 shortage of the raw products, are not deductible in computing 
 net income.^^2 
 
 Reserves for Cash Discounts. It has been held under the 1918 
 Law that a corporation keeping its accounts on an accrual basis 
 will not be permitted to deduct from gross income a sum in an- 
 ticipation of the amount the corporation may be required to allow 
 as cash discount on accounts due and payable in the succeeding 
 year. But any amounts so allowed in the succeeding year before 
 the return is filed may be deducted from gross sales for the pre- 
 vious taxable year.^^^ 
 
 Worthless Debts. The Revenue Act of 1918 provided that in- 
 dividuals and corporations might deduct debts ascertained to be 
 worthless and charged off within the taxable year.^^* The Rev- 
 enue Act of 1921 contains the same provision and in addition per- 
 mits the deduction, in the discretion of the Commissioner, of a 
 reasonable addition to a reserve for bad debts and authorizes the 
 
 107 Manual for Oil and Gas Industry. 
 
 108 O. D. 375, T. B. 3-20-691. 
 
 109 Reg. 33 Rev., Art. 166; T. D. 2161. 
 
 110 Reg. 33, Art. 122. 
 
 111 Revenue Act of 1921, §§214 (a) (7) and 234 (a) (5). 
 
 112 T. B. R. 13, T. B: 3-19-187. 
 
 113 0. D. 146, T. B. 4-19-228. 
 
 114 Revenue Act of 1918, §§214 (a) 7 and 234 (a) 5. 
 
648 FEDERAL INCOME TAX 
 
 Commissioner, when satisfied that a debt is recoverable only in 
 part, to allow such debt to be charged off in part."^ It should be 
 remembered that the following discussion is in the light of rul- 
 ings made under the 1918 Law and that the deduction of amounts 
 for bad debts under the present law will be subject to the addi- 
 tional provisions above stated. For the purpose of deduction as 
 losses, debts are divided into two classes, (,a) those which rep- 
 resent to the creditor a return of capital and (b) those which rep- 
 resent unpaid income. The former may be deducted regardless 
 of when the debt became due and payable, but the latter, such 
 as uncollected wages, salaries, rents, interest and similar items 
 of taxable income, may not be deducted, if the debt became due 
 on or after March 1, 1913, unless the amount thereof has been 
 reported as income ; but if the debt became due and payable prior 
 to March 1, 1913, it may be deducted in any event."^ The losses 
 which may be deducted are losses of capital ; income on which the 
 tax has been assessed assumes the status of capital, and income 
 which became due and payable before the incidence of the tax is 
 capital to the taxpayer, although it may be received thereafter. 
 The mere failure to receive income does not warrant a deduction, 
 as the omission of such amounts operates, in itself, as a reduc- 
 tion of tax. If a taxpayer computes his income upon the basis of 
 valuing his notes or accounts receivable at their fair market 
 value when received, which may be less than their face value, 
 the amount deductible for bad debts in any case is limited to 
 such original valuation. In the case of debts existing prior to 
 March 1, 1913, only their value on that date may be deducted 
 upon subsequently ascertaining them to be worthless. An ac- 
 count merely written down or a debt recognized as worthless 
 prior to the beginning of the taxable year is not deductible.^^^ 
 Only the difference between the amount received in distribution 
 of the assets of a bankrupt and the amount of the claim may be 
 deducted as a bad debt. The difference between the amount re- 
 ceived by a creditor of a decedent in distribution of the assets 
 of the decedent's estate and the amount of his claim may be con- 
 sidered a worthless debt. A purchaser of accounts receivable 
 which can not be collected and are consequently charged off the 
 books as bad debts is entitled to deduct them, the amount of de- 
 ns Revenue Act of 1921, §§ 214 (a) 7 and 234 (a) 5. 
 
 116 T. D. 2224. 
 
 117 Reg. 45, Art. 151. 
 
DEDUCTION OF LOSSES 649 
 
 duction to be based upon the price he paid for them and not upon 
 their face value.^^^ 
 
 A taxpayer indorsed the notes of a corporation prior to March 
 1, 1913 ; the notes became due prior to that date, the corporation 
 being insolvent at the time they fell due and ever since. The tax- 
 payer obtained extensions of the notes from time to time in the 
 name of the corporation, endorsed the new notes and paid install- 
 ments of principal and interest in 1917, 1918 and 1919. At no 
 time had he become primarily liable on the notes nor had he ever 
 given any written agreement to make such payments. It was 
 held that he suffered no actual loss until he made the first pay- 
 ment in liquidation of the principal and interest thereon. When 
 each payment was made it created a debt in his favor from 
 the makers of the notes, which debt was at the time it was 
 created definitely known to be worthless. Each additional pay- 
 ment created an additional debt and the taxpayer was allowed to 
 deduct in each year the amount of his payments on the notes. ^^^ 
 
 A transaction in which the majority stockholder of a corpora- 
 tion, to whom the corporation was heavily indebted, agreed to 
 take as payment the free assets of the company and to assume 
 its liabilities other than its bonded indebtedness is considered a 
 cancellation of the debt and any loss sustained by the majority 
 stockholder is deductible only in the return for the year when the 
 transaction took place, and not when the assets were disposed of 
 subsequently. The measure of the loss would be the difference 
 between the liabilities assumed, including the debt to the ma- 
 jority stockholder, and the value of the assets at the time re- 
 ceived by him.120 
 
 A certain taxpayer was notified by his bank that a note had 
 gone to protest and that he, as one of the indorsers, was liable 
 for the payment thereof. In order to defend a relative who had 
 forged the indorsement, the taxpayer gave the bank another note 
 of the same face value. The taxpayer made arrangements with 
 his relative whereby the relative was to pay the amount of the 
 note on the installment plan. The relative, however, made no 
 payments in the year 1919 and payment could not be enforced 
 since he had no assets. During that year the taxpayer paid the 
 note in full to the bank and deducted as a bad debt for the year 
 1919 the difference between the amount paid the bank and the 
 
 lis Reg. 45, Art. 152. 
 
 119 A. R. R. 479, T. B. 38-21-1837. 
 
 120 A. R. R. 30, T: B. 9-20-772. 
 
650 FEDERAL INCOME TAX 
 
 amount by which he had been reimbursed by his relative. It has 
 been held that the amount deducted is allowable since it repre- 
 sented a debt due from the relative and not a gift to him.121 
 
 Must Be Charged Off on Books. The Revenue Act of 191S 
 and the Revenue Act of 1921 both expressly provide that in the 
 case of both individuals- and corporations worthless debts must 
 have been "charged off" in the year in which they are claimed 
 as a deduction.122 In 1919, a corporation purchased notes from 
 a merchant and advanced sums of money to him on bills of sale. 
 In January, 1920, it developed that the notes were forged and the 
 bills of sale were fraudulent. The losses were charged off the 
 books on March 12, 1920. It was held that the losses are deduc- 
 tible as bad debts rather than other losses in the taxable year 
 1920, when they were ascertained to be worthless and charged 
 off, regardless of when they actually became worthless.i^s 
 
 When Debts May Be Considered Worthless. The follow- 
 ing discussion will be subject to the provision of the present law 
 permitting the deduction of so much of a debt as is ascertained 
 to be worthless when the Commissioner is satisfied that the debt 
 is recoverable only in part. To determine whether or not a debt 
 is worthless it is not essential that an unsatisfied judgment shall 
 exist or a judicial determination be reached or that the bad debt 
 or account shall be proved worthless by legal proceedings. Be- 
 fore a deduction will be allowed the taxpayer must, however, not 
 only be satisfied that the debt or account is worthless, but must 
 be able to satisfy the Commissioner or collector that the accounts 
 charged off were definitely determined at the time to be worth- 
 less and that they had not been recognized as worthless or with- 
 out value prior to the beginning of the year for which the return 
 is made.124 Bankruptcy may or may not be an indication of the 
 worthlessness of a debt, and actual determination of worthless- 
 ness in such a case is sometimes possible before and at other 
 times only when a settlement in bankruptcy shall have been had. 
 Where a taxpayer ascertained a debt to be worthless and charged 
 it off in one year, the mere fact that bankruptcy proceedings in- 
 stituted against the debtor are terminated in a later year con- 
 firming the conclusion that the debt is worthless will not author- 
 ize shifting the deduction to such later year.^^s Where an in- 
 
 121 O. D. 934, T. B. 22-21-1663. 
 
 122 Revenue Act of 1918, §§ 214 (a) 7 and 234 (a) 5; Revenue Act of 1921, 
 §§ 214 (a) 7 and 234 (a) 5. 
 
 123 O. D. 604, T. B. 30-20-1090. 
 
 124 Reg. 33 Rev., Art. 151; Reg. 45, Art. 151. 
 
 125 Reg. 45, Art. 151. 
 
DEDUCTION OF LOSSES 651 
 
 debtedness is claimed and contested and a settlement is had by 
 way of compromise whereby an amount, less than the debt 
 claimed, is accepted in full payment and satisfaction of the debt, 
 the difference between the amount paid and that claimed is not 
 allowable as a deduction for worthless debts. If the settlement 
 in compi-omise consists of a promise to pay an amount less than 
 the debt claimed, an accord and satisfaction is established and 
 the amount promised to be paid forms the basis of a new trans- 
 action. Upon the breach of this promise the question will arise 
 as to the deductibility of the new amount only.^^e Whenever the 
 debtor is legally discharged from his obligation either by the run- 
 ning of the statute of limitations, by bankruptcy proceedings, by 
 accord and satisfaction, by formal release, or by any other 
 method, it seems that the creditor may claim the amount of loss 
 sustained as a deduction. As indicated by the ruling above, it 
 may be possible under other conditions to deduct the amount of 
 a debt but the circumstances must be such as to indicate beyond 
 doubt that the debt can not be collected. Where all of the sur- 
 rounding and attendant circumstances indicate that a debt is 
 worthless and uncollectible and that legal action to enforce pay- 
 ment would not in all probability result in the satisfaction on 
 execution of a judgment, a showing of these facts will be suffi- 
 cient showing of the worthlessness of the debt for purposes of 
 deduction.i^T a mere voluntary forgiveness of the debt would not 
 make the amount thereof an allowable deduction, since such vol- 
 untary action on the part of the creditor would be tantamount to 
 a gift. 
 
 126 Reg. 33 Rev., Art. 8; 0. D. 297, T. B. 24-19-564. The regulation cited 
 reversed the Treasury Department's previous ruling that the unpaid portion 
 of a compromised debt might be claimed as a deduction. 
 
 127 Reg. 45, Art. 151; Reg. 33 Rev., Art. 8; U. S. v. Mayer, 26 Fed. Cas. 
 No. 15, 753. In U. S. v. Frost, 25 Fed. Cas. No. 15,172, a prosecution for 
 making a false income tax return for the year 1866, the court made the 
 following observation regarding the provision of the statute permitting the 
 deduction of worthless debts: "The language is, 'ascertained to be worth- 
 less'. By whom or how? The law is silent on this important point, and there- 
 fore there must be a discretion given to the person making his returns, and 
 if that discretion is used fairly and honestly there would seem to be no just 
 ground of complaint. It certainly can scarcely be contended that every 
 debt must be ascertained to be worthless by a suit at law, or in equity, for 
 that would be impracticable, and therefore such cannot be the meaning of 
 the law. It is undoubtedly very difficult to lay dowm any rule of universal 
 application to this class of cases, and yet the want of precision in the law 
 may have led to this prosecution, and may lead to others, and, perhaps, on 
 the whole, it would be better to give, by law, a clearer and simpler definition 
 than now exists of the terms 'gains, profits and income'." 
 
652 FEDERAL INCOME TAX 
 
 Where a taxpayer extends the time of payment of a note he is 
 not allowed at such time to deduct the difference between' the 
 face value of the note and its fair market value as a bad debt. The 
 debt has not at the time it is extended been determined worth- 
 less and charged olf .i-"^ It is not necessary, however, that a bad 
 debt be evidenced by a "closed and completed" transaction. Thus, 
 where a company which had on deposit a sum of money with a 
 bank which failed in 1918, wrote off and deducted as a bad debt 
 one-half this amount on the basis of information from the re- 
 ceiver that only one-half such indebtednesa would be recovered 
 in hquidation, it has been held that this was a proper deduction 
 by the company, since at no time after the failure of the bank 
 was there any doubt that a loss had been suffered and since the 
 company relied upon the best information obtainable and not 
 upon its own judgment and since the subsequent distribution and 
 liquidation confirmed the correctness of the statement of the re- 
 ceiver.129 Under the 1918 Law a taxpayer would not be per- 
 mitted a deduction for a bad debt even where in the year in which 
 such deduction was claimed there was evidence that a substantial 
 part of the debt would not be recovered and although from his 
 knowledge of conditions existing he was justified in believing 
 that in the event of foreclosure his loan would result in a loss.^^'' 
 Under the present law it would seem that a deduction for so 
 much of the debt as can be shown to be worthless would be de- 
 ductible. It has been held that where the Supreme Court of a 
 state in 1919 affirmed the judgment of a lower court rendered in 
 a prior year, holding that a bank could not recover on certain 
 notes, the bank may deduct the amount of the loss in 1919, the 
 final judgment of the Supreme Court fixing the time when the 
 debt was ascertained to be worthless.^^i 
 
 Effect of War Conditions on Deduction of Debts. Debts 
 due by one belligerent state to the citizens of another state are not 
 extinguishable by war. Consequently, a taxpayer having an out- 
 standing claim against the German government, dating before 
 the war, would not be justified in charging the amount of the 
 claim as a loss when war was declared between the United States 
 and the German government.i-^^ where as a result of the Cuban 
 moratorium certain accounts receivable due from customers in 
 Cuba prior to the close of 1920 were uncollectible at the close of 
 
 128 0. D. 979, T. B. 30-21-1742. 
 
 129 A. R. R. 352, T. B. 52-20-1362. 
 
 130 A. R. R. 365, T. B. 6-21-1432. 
 
 131 0. D. 965, T. B. 27-21-1713. 
 
 132 A. R. M. 31, T. B. 9-20-771. 
 
DEDUCTION OF LOSSES 653 
 
 that year, it has been held that no deduction could be taken there- 
 for until it had been ascertained that the accounts were worth- 
 less and charged off on the books. There was at the end of 1920 
 no means of ascertaining what portion of these accounts was 
 good and what portion worthless. The fact that the moratorium 
 made the debts uncollectible on their due dates did not lead to the 
 conclusion that nothing would ever be realized on them.^^s 
 
 Deposits in Russian Banks. Bank deposits in Russian 
 banks can not be considered as worthless for the purpose of 
 claiming a deductible loss in a return for the taxable year 1919. 
 Russian rubles in the form of bank deposits were sold during the 
 latter months of 1919, which would indicate that they were not 
 at that time worthless.^^i it has also been held that where a tax- 
 payer owned Russian rubles deposited in Russian banks and 
 offered these deposits for sale in 1920 but could find no market 
 for them, no deductible loss is sustained unless he can submit 
 evidence that the banks, in which the deposits in question were 
 made, had lost their identity as banking institutions or that they 
 had been taken over by the Soviet Government and their funds 
 requisitioned, confiscated or dissipated.^^^ Where, however, a 
 taxpayer purchased credits on Russian banks and it appeared 
 that all efforts to communicate with the Russian banks had 
 proved futile, the New York bank from which the credits were 
 purchased having been informed by the state department that 
 there were no postal facilities with Petrograd, and the New York 
 bank's Swedish correspondent having been unable to communi- 
 cate with the Russian banks and information from other sources 
 indicating that the assets of the Russian banks had been taken 
 over and dissipated by the Russian Soviet Republic, other infor- 
 mation indicating that the banks had been looted by the revolu- 
 tionists, the amounts paid for the credits were permitted to be 
 deducted as a worthless debt in 1918. Even though a stable Rus- 
 sian government should fulfill international obligations and re- 
 store the ruble to a normal parity of exchange, such action would 
 not necessarily affect the Russian banks against which the credits 
 were issued.^^* 
 
 Foreclosure of Mortgages. Where mortgaged or pledged 
 property is sold, in the manner prescribed by law to satisfy the 
 debt secured, for less than the debt, and the mortgagee or 
 pledgee at that time or thereafter ascertains that the por- 
 
 133 O. D. 891, T. B. 17-21-1594. 
 
 134 O. D. 535, T. B. 23-20-986. 
 
 135 0. D. 923, T. B. 21-21-1649. 
 
 136 A. R. M. 64, T. B. 27-20-1041. 
 
654 FEDERAL INCOME TAX 
 
 tion of the indebtedness remaining unsatisfied after such sale is 
 uncollectible, and charges it off, he may deduct such amount a^ 
 a bad debt for the taxable year in which it is ascertained to be 
 worthless and charged off. Accrued interest may be included as 
 part of the deduction only when it has previously been returned 
 as income.137 This ruling modifies the former rule that where a 
 mortgagee bought in the mortgaged property, the difference be- 
 tween the purchase price and the indebtedness was not allow- 
 able as a bad debt. The determination of loss in such case was 
 deferred until the property was disposed of. 
 
 A mortgage is a security for a debt or obligation and an inci- 
 dent thereto; a debt or obligation of some kind is an essential 
 element of a mortgage.^^s a second mortgage is a mortgage 
 without intervening liens between it and the first mortgage.i^s 
 A creditor whose debt is secured by a mortgage has two remedies 
 — one in personam for his debt, and the other in rem to subject 
 the mortgaged, property to its payment.^*" Where a mortgage is 
 given to secure the payment of a debt, the creditor may pursue 
 his remedy either on the mortgage or on the evidence of the debt, 
 or on both concurrently.i*^ Where the proceeds of a foreclosure 
 sale are not sufficient to satisfy the mortgage debt, the mort- 
 gagee may thereafter maintain an action at law against the 
 person liable for such deficiency.i*^ Since the mortgagee may 
 maintain an action against the mortgagor for the amount of the 
 debt, it is not sufficient, in order to deduct the amount as a bad 
 debt, that he show only a failure of the security, as the mort- 
 gagor may be solvent and the debt collectible ; but he also must 
 show that legal action against the mortgagor resulted in no re- 
 covery, or that such action would in all probability not result in 
 the satisfaction of execution on a judgment. If the debt existed 
 prior to March 1, 1913, only its value on that date may be de- 
 ducted upon subsequently ascertaining it to be worthless."^ 
 
 Worthless Securities. Where bonds purchased before 
 March 1, 1913, depreciated in value between the date of purchase 
 and that date, and were in a later year ascertained to be worth- 
 less and charged off, the owner is entitled to a deduction in that 
 year equal to the value of the bonds on March 1, 1913. Bonds 
 
 137 Reg. 45, Art. 153, as amended by T. D. 3265; Reg. 33 Rev., Art. 8. 
 
 138 Carrol v. Tomlinson, 192 111. 398, 61 N. E. 484. 
 
 139 Appeal of Green, 97 Pa. 342. 
 
 i« Silvey v. Axley, 118 N. C. 959, 23 S. E. 933. 
 
 141 Ober V. Gallagher, 93 U. S. 199. 
 
 142 Shepherd v. May, 115 U. S. 505. 
 
 143 O. D. 687, T. B. 42-20-1244. 
 
DEDUCTION OF LOSSES 655 
 
 purchased since Februray 28, 1913, when ascertained to be worth- 
 less, may be treated as bad debts to the amount actually paid 
 for them, but not exceeding their amortized value if purchased 
 at a premium. Bonds of an insolvent corporation secured only by 
 a mortgage from which on foreclosure nothing is realized for the 
 bondholders are regarded as ascertained to be worthless not later 
 than the year of the foreclosure sale, and no deduction for a bad 
 debt is allowable in computing a bondholder's income for a sub- 
 sequent year. To authorize a deduction for a bad debt on ac- 
 count of notes held prior to March 1, 1913, their value on that 
 date must be established.^^ Because of disturbed political con- 
 ditions in Russia there is little hope that bonds of the Imperial 
 Internal Russian 4 per cent, loan of 1894 will be redeemed. A 
 holder of such bonds which were purchased in 1916, who was un- 
 successful in finding a market for them during the year 1919, was 
 held to be entitled to a deduction from his gross income for that 
 year to the extent of the amount actually .paid for them, provided, 
 however, that such amount was charged off the taxpayer's ac- 
 counts for the year 1919- and a corresponding reduction made in 
 his surplus account.i*^ 
 
 Reserves for Bad Debts and Charging Off Bad Debts in Part 
 Under 1921 Law. The following rulings were issued as this book 
 was going to press: The 1921 Law changes the previous 
 practice in two particulars — 1st, by recognizing a reserve for 
 bad debts, and 2nd, allowing a debt to be charged off in part. 
 Under this provision, bad debts may be treated in either of two 
 ways; (1) by a deduction from income in respect of debts ascer- 
 tained to be worthless in whole or in part, or (2) by a deduction 
 from income of an addition to a reserye for bad debts. For the 
 year 1921 taxpayers may, regardless of their previous practice, 
 elect either of these two methods and will be required to continue 
 the use in later years of the method so elected unless permission 
 to change to the other method is granted by the Commissioner. 
 
 Where all the surrounding and attending circumstances in- 
 dicate that the debt is worthless, either wholly or in part, the 
 part thereof which is worthless and charged off or written down 
 to a nominal amount on the books of the taxpayer will be allowed 
 as a deduction in computing net income. There should ac- 
 company the return a statement showing the propriety of any 
 deduction claimed for bad debts. No deduction will be allowed 
 for the part of a debt ascertained to be worthless and charged 
 
 144 Reg. 45, Art. 154. 
 
 145 0. D. 748, T. B. 50-20-1343. 
 
656 FEDERAL INCOME TAX 
 
 off prior to January 1, 1921, unless and until the debt is ascer- 
 tained to be totally worthless and is finally charged off or is 
 charged down to a nominal amount, or the loss is determined 
 in some other manner by a closed and completed transaction. 
 Before a taxpayer may charge off and deduct a debt in part, 
 he must ascertain and be able to demonstrate, with a reason- 
 able degree of certainty, the amount thereof which is uncol- 
 lectible. Any amount subsequently received on account of a bad 
 debt previously charged off in whole or in part, and allowed 
 as a deduction for income tax purposes, in excess of the amount 
 not charged off, must be included in gross income for the tax- 
 able year in which received. In determining whether a debt is 
 worthless in whole or in part the Commissioner will consider all 
 pertinent evidence, including the value of the collateral, if any, 
 securing the debt and the financial condition of the debtor. Par- 
 tial deductions will be allowed with respect to specific debts only. 
 
 Taxpayers who have, prior to 1921, maintained reserve ac- 
 count for bad debts may deduct a reasonable addition to such 
 reserves in lieu of a deduction for specific bad debt items. Tax- 
 payers who have not heretofore maintained such reserve ac- 
 counts may now elect to do so and in such case, must proceed to 
 determine the amount of the reserve that should reasonably have 
 been set up as at December 31, 1920 (which may not be de- 
 ducted in computing net income) , and in respect of 1921 and sub- 
 sequent years, may add a reasonable addition to such reserve 
 and deduct the amount in computing taxable net income. Where 
 a reserve account is maintained, debts ascertained to be worth- 
 less in whole or in part should be charged against the reserve 
 and not deducted from income. What constitutes a reasonable 
 addition to a reserve for bad debts must be determined in the 
 light of the facts and will vary as between classes of business 
 and with conditions of business prosperity. A taxpayer using 
 the reserve method should make a statement in his return show- 
 ing the volume of his charge sales (or other business trans- 
 actions) for the year and the percentage of the reserve to such 
 amount, the total amount of notes and accounts receivable at 
 the beginning and close of the taxable year, and the amount of 
 the debts which have been ascertained to be wholly or partially 
 worthless and charged against the reserve account during the 
 taxable year. 
 
 Where banks or other corporations which are subject to 
 supervision by federal authorities (or by state authorities main- 
 taining substantially equivalent standards) in obedience to 
 
DEDUCTION OF LOSSES 657 
 
 the specific orders or in accordance with the general policy of 
 such supervisory officers, charge off debts in whole or in part, 
 such debts will, in the absence of affirmative evidence clearly 
 establishing the contrary, be presumed, for income tax pur- 
 poses, to be worthless or recoverable only in part, as the case 
 may be. 
 
 Accrued interest may be included as part of the deduction for 
 bad debts only when it has previously been returned as income. 
 
 A taxpayer (other than a dealer in securities) possessing 
 debts evidenced by bonds or other similar obligations can not de- 
 duct from gross income any amount merely on account of market 
 fluctuation. Where a taxpayer ascertains, however, that due, 
 for instance, to the financial condition of the debtor or condi- 
 tions other than market fluctuation, he will recover upon ma- 
 turity none or only a part of the debt evidenced by the bonds 
 or other similar obligations and is able to so demonstrate to 
 the satisfaction of the Commissioner, he may deduct in com- 
 puting net income the uncollectible part of the debt evidenced 
 by the bonds or other similar obligations. 
 
 Where mortgaged or pledged property is lawfully sold 
 (whether to the creditor or other purchaser) for less than the 
 amount of the debt, and the mortgagee or pledgee ascertains that 
 the portion of the indebtedness remaining unsatisfied after such 
 sale is wholly or partially uncollectible, and charges it off, he 
 may deduct such amount as a bad debt for the taxable year in 
 which it is ascertained to be wholly or partially worthless and 
 charged off. Where a taxpayer buys in mortgaged or pledged 
 property for the amount of the debt, no deduction will be allowed 
 for any part of the debt. Gain or loss is realized when the 
 property bought in is sold or disposed of ."^a 
 
 Loss Due to Adverse Judgment. Any amount paid pursuant to 
 a judgment or otherwise on account of damages for personal in- . 
 juries, patent infringement, or otherwise, is deductible from 
 gross income when the claim is put in judgment or paid, less any 
 amount of such damages as may have been compensated for by 
 insurance or otherwise.i*^ Where a taxpayer sold a farm and the 
 purchaser later sued him for damages alleging misrepresenta- 
 tions, and judgment was given for the plaintiff and paid by the 
 taxpayer in 1919, it has been held that the amount paid as dam- 
 ages may be deducted in 1919 since it appeared that the damages 
 
 145a t. D. 3262. 
 
 146 Reg. 45, Art. HI. See Chapter 33 for a further discussion of this 
 subject. 
 
658 FEDERAL INCOME TAX 
 
 paid grew out of a sale made in the course of the taxpayer's regu- 
 lar business.w^ In a case where a corporation was sued for in- 
 fringing a trade name covering a period ending in 1912, and judg- 
 ment was obtained against it in 1916, the treasury department 
 held that the amount of this judgment should be prorated over the 
 period ending in 1912 according to the income of each year. The 
 part found by this method to be applicable to the income of the 
 corporation for the period of 1909 to 1912 would be referable to 
 those years, but no part of this sum would be deductible as a loss 
 in the return of income for 1916. The same corporation 
 also paid, in 1916, an additional sum, as consideration 
 for dismissal of a pending suit for interest on the above 
 judgment from the date of the decision of the court to the date 
 of payment and for the unrestrained use of the trade name in 
 question. It was held by the treasury department that if this 
 amount could be segregated between interest and use, it might 
 be prorated the same as in the other case, for the period subse- 
 quent to 1912, and such part thereof as would be found applicable 
 to the 1916 income would be deductible under the heading of busi- 
 ness expense and interest respectively. If no segregation could 
 be made the entire amount might be treated as business ex- 
 pense.i*8 The language of the present and 1918 Laws differ 
 from that of preceding laws in that they permit the deduction 
 of losses sustained during the taxable year, whether charged off 
 or not, and seems to imply that the loss shall be deducted from 
 the net income of the year in which it was sustained notwith- 
 standing the ascertainment thereof through an adverse judg- 
 ment in a subsequent year, unless the deduction thereof in an- 
 other year will more clearly reflect income.i*^ If on suit for 
 damages the amount recovered is less than the damage sus- 
 tained or less than an amount necessary to make good the dam- 
 .age, the difference between the actual amount of damage sus- 
 tained and the amount recovered will be deductible as a loss by 
 the judgment creditor or prevailing party .^^^ 
 
 Recoveries on Losses. All the statutory provisions regarding 
 the deduction of losses limit the deductible losses to those "not 
 compensated for by insurance or otherwise". ^^^ Where a loss 
 
 ii^ O. D. 978, T. B. 29-21-1734. 
 
 148 Letter from treasury department dated February 9, 1917; I. T. S. 
 1918, If 1427. '■ \^ ' 
 
 1*9 See Revenue Act of 1918, §§ 214 (a) 4, 5, 6, and 234 (a) 4. 
 
 150 Reg. 33 Rev., Art. 94. 
 
 151 Revenue Act of 1921, §§214 (a) 4, 5, 6 and 234 (a) 4; Revenue Act 
 of 1918, §§ 214 (a) 4, 5, 6 and 234 (a) 4. See also Chapter 33. 
 
DEDUCTION OF LOSSES 659 
 
 occurs in one taxable period, and compensation therefor, or re- 
 covery thereon, in whole, or in part, occurs in a subsequent tax- 
 able period the question arises whether the amount of the com- 
 pensation or recovery is taxable as income in the year received or 
 is to be applied in reduction of the original loss through the me- 
 dium of amended returns. The rulings on this point under the 
 1918 Law are indicated in the following paragraphs. 
 
 Embezzlements Recovered. A loss incurred by a corporation 
 through embezzlement is an allowable deduction from gross in- 
 come for the year in which the embezzlement occurred. Where 
 the embezzlement is not discovered in the taxable year but is 
 later discovered and admitted by the embezzler, a part of the 
 money being promptly recovered, the amount so recovered tends 
 to diminish the amount of allowable deductions on account of the 
 embezzlement for the year in which the embezzlement occurred, 
 and is ordinarily not returnable as income in the year when re- 
 ceived.is^ If fidelity insurance is recovered, it should be treated 
 as indicated in the next paragraph. 
 
 INSURANCE Received in Subsequent Year. Where embezzle- 
 ment by a bonded employee occurs, there is no loss as to the 
 amount of insurance recoverable even though it is not received 
 in the same taxable period. The claim against the bonding com- 
 pany is considered the equivalent of cash.^^^ When an insured 
 loss occurs in one taxable year and the insurance is not recovered 
 during that year the taxpayer should compute his loss by de- 
 ducting from' the total loss the estimated amount of the recov- 
 erable insurance. The loss so determined should be deducted 
 from the taxpayer's gross income of the year in which the loss 
 
 152 0. 845, T. B. 6-19-279, modifying Solicitor's memorandum 698; U. S. v. 
 Cleveland, Cinn., Chicago & St. Louis Ry. Co., U. S. Dist. Ct., So. Dist. 
 Ohio, February 23, 1916 (not reported). In the last mentioned case, prior to 
 1909 covering a period of several years, the treasurer of the defendant 
 railway company had embezzled a large sum of money, but the embezzle- 
 ment was not discovered until the year 1909. The defendant claimed a 
 deduction of this amount from its gross income under the Act of August 
 5, 1909, which, like the present statute, limited the deductions on account of 
 losses to those "actually sustained during the year." The court said: "The 
 time of the discovery of a loss bears no relation to the date the loss was 
 sustained. The loss was sustained when the theft occurred, although the 
 defendant did not know at the time of the depletion of its assets. As each 
 embezzlement occurred, the defendant was poorer to the extent of it. It 
 then sustained a loss. One of the definitions of 'sustained' is 'undergo'. 
 As each embezzlement occurred, the defendant underwent the loss of that 
 much money. It is clear that the defendant is not entitled to the deduction 
 claimed." See, however, T. D. 3261 under the 1921 Law. 
 
 153 0. 845, T. B. 6-19-279; O. D. 165, T. B. 6-19-273. 
 
660 FEDERAL INCOME TAX 
 
 was sustained. If subsequent events demonstrate that this esti- 
 mate was substantially incorrect, an amended return should be 
 filed correcting the mistake.^s* 
 
 Net Losses Under the 1918 Law. The Revenue Act of 1918 
 contained a new provision for the allowance of certain "net 
 losses." When used in connection with this provision of the 1918 
 Law, the term "net loss" referred only to net losses resulting 
 from either (1) the operation of any business regularly carried 
 on by the taxpayer, or (2) the bona fide sale by the taxpayer of 
 plant, buildings, machinery, equipment or other facilities, con- 
 structed, installed or acquired by the taxpayer on or after April 
 6, 1917, for the production of articles contributing to the prose- 
 cution of the recent war ; and when so resulting meant the excess 
 of the deductions allowed by law (excluding in' the case of 
 corporations amounts received as dividends from a corporation 
 taxable upon its net income, and amounts received as dividends 
 from a personal service corporation out of earnings or profits 
 upon which income tax had been imposed) over the sum of the 
 gross income plus any interest received free from income or 
 excess-profits taxes. The amount of net loss claimed must have 
 represented an actual net loss over and above all income, including 
 tax-free income. Such losses were allowable only in respect of 
 a taxpayer having a taxable year beginning after October 31, 
 1918, and ending prior to January 1, 1920, and after one claim 
 had been allowed no further claim would be considered. It was 
 further provided that the benefit of the provisions respecting the 
 allowance of net losses might be allowed to the members of a 
 partnership and the beneficiaries of an estate or trust' under reg- 
 ulations prescribed by the Commissioner with the approval of 
 the secretary .133 
 
 A corporation whose taxable year was not included in the 
 period between October 31, 1918, and January 1, 1920, was not 
 
 154 T. B. R. 55, T. B. 18-19-482. 
 
 155 Revenue Act of 1918, 204; Reg. 45, Art. 1601. The following state- 
 ment contained in the Senate Committee report upon the Revenue Act of 
 1918, throws additional light upon §204 of the statute providing for the 
 deduction of net losses: "One of the most important provisions inserted by 
 the committee is quite new to our tax laws. At the present time no recog- 
 nition is given to net losses ; that is, if in any year the losses and expenses 
 of a taxpayer exceed his gross income the excess (or in other words, the 
 net loss) can not be carried over into the next year. For purposes of tax- 
 ation the settlement must be made upon the basis of each year's business by 
 itself. The chief merit of the present plan is its simplicity of administration. 
 But it does not adequately recognize the exigencies of business, and, under 
 our present high rates of taxation, may often result in grave injustice." 
 
DEDUCTION OF LOSSES 661 
 
 entitled to the relief afforded by the 1918 Law net loss provision. 
 Consequently a corporation dohig business on a fiscal-year basis 
 might not allocate its net loss and deduct the amount appor- 
 tioned to that part of its fiscal year f allmg within the period 
 October 31, 1918, to January 1, 1920.15" A corporation which had 
 previously operated as a partnership incorporated on June 30, 
 1919. The accounting period of the partnership, as well as that of 
 the corporation, was a calendar year. During the calendar year 
 1918 the partnership earned a net income, and during the period 
 from January 1 to June 29, 1919, it suffered a net operating loss. 
 The corporation also suffered a net operating loss during the 
 period from June 30 to December 31, 1919. It was held that since 
 neither the net operating loss sustained by the partnership nor 
 the net operating loss suffered by the corporation was a loss for 
 a full taxable year, neither organization was entitled to deduct 
 the amount of its net loss from the net income for either the pre- 
 ceding or succeeding taxable year.i'''^ If a taxpayer changed his 
 accounting period in such manner that the period from the close 
 of his previous taxable year to the close of his newly established 
 taxable year fell between October 31, 1918, and January 1, 1920, 
 and he sustained a net loss during such fractional year period, he 
 was not entitled to the relief provided by the net loss provision 
 of the Revenue Act of 1918, since the net loss sustained was not 
 for a full taxable year as provided by the Act.^^® A company 
 which earned a large income during the fiscal year ending Sep- 
 tember 30, 1918, and which suffered a net loss during the year 
 ending September 30, 1919, was not permitted to change its ac- 
 counting period for 1918 to the calendar year basis so as to be 
 allowed to deduct the above net loss from taxable income for the 
 calendar year 1918. The accounting period ending September 30, 
 1918, for which the large tax liability had accrued and the 
 method of accounting employed during that period were accom- 
 plished facts which could not be changed by the Commissioner .is'' 
 Claim for Allowance of Net Loss. A taxpayer having such 
 a net loss might file a claim on form 46 with his return of in- 
 
 156 O. D. 511, T. B. 21-20-947. 
 
 157 O. D. 855, T. B. 13-21-1529. If, however, the organization is qualified 
 and elects to take advantage of the provisions of section 330 of the Revenue 
 Act of 1918 and article 933 of Regulations 45, it is then entitled to seek 
 relief under the "net loss" provision of the statute by applying the total 
 net operating loss sustained during the entire year 1919 against the net 
 income of the year 1918 and applying the excess, if any, of the 1919 loss 
 over 1918 net income against the net income of the year 1920. 
 
 158 O. D. 445, T. B. 15-20-841. 
 
 159 T. D. 3044, T. B. 30-20-1087. 
 
662 FEDERAL INCOME TAX 
 
 come for the taxable year 1919. Such claim was required to 
 contain a concise statement setting forth the amount of the loss 
 sustained, in accordance with the accompanying return, the na- 
 ture of the loss, the amount of the taxpayer's net income for the 
 taxable year 1918, the taxes paid by him with respect thereto, 
 and all pertinent facts necessary to enable the Commissioner to 
 determine the allowability of the claim.i«o 
 
 Allowance of Net Loss. The amount allowed by the Com- 
 missioner in respect of any such claim was deducted from the net 
 income for the taxable year 1918 and the income and the war- 
 profits and excess-profits taxes, if any, for such year were re- 
 computed accordingly. Any amount found to be due him was 
 credited or refunded to the taxpayer. In any case in which it 
 was found by the Commissioner that such net loss was in excess 
 of the net income of such preceding taxable year, the taxpayer 
 might carry forward the amount of such excess and claim it as a 
 deduction in computing net income for the succeeding taxable 
 year.i^i If a taxpayer suffered a net loss for any taxable year 
 beginning after October 31, 1918, and ending prior to January 1, 
 1920, and had no net income for the preceding taxable year, the 
 entire amount of the loss was deductible in computing net income 
 for the succeeding taxable year.^^^ There was no provision in 
 the law whereby income received in a year subsequent to 1920 
 might be reduced on account of a loss sustained for any taxable 
 year beginning after October 31, 1918, and ending prior to 
 January 1, 1920.i«3 
 
 Net Losses Under the 1921 Law. The 1921 Law has extended 
 the limited relief, afforded by the 1918 Law, to taxpayers having 
 net losses in any taxable year beginning after December 30, 
 1920. The term "net loss" when used in this connection means 
 only net losses resulting from the operation of any trade or 
 business regularly carried on by the taxpayer (including losses 
 sustained from the sale or other disposition of real estate, ma- 
 chinery, and other capital assets, used in the conduct of such 
 trade or business), and when so resulting means the excess of 
 the deductions allowed by the law over the sum of the follow- 
 ing: (1) the gross income of the taxpayer for the taxable 
 year, (2) the amount by which the interest received free from 
 income tax exceeds so much of the interest paid or accrued 
 
 160 Reg. 45, Art. 1602. 
 
 161 Reg. 45, Art. 1603. 
 
 162 0. D. 431, T. B. 14-20-823. 
 
 163 0. D. 860, T. B. 14-21-1539. 
 
DEDUCTION OP LOSSES 663 
 
 within the taxable year on indebtedness as is not allowed to be 
 deducted from gross income, (3) the amount by which the 
 deductible losses not sustained in such trade or business exceed 
 the taxable gains or profits not derived from such trade or 
 business, (4) amounts received as dividends and allowed as a 
 deduction, and (5) so much of the depletion deduction allowed 
 with respect to any mine, oil or gas well as is based upon dis- 
 covery value in lieu of cost. 
 
 If for any taxable year beginning after December 31, 1920, 
 it appears upon the production of evidence satisfactory to the 
 Commissioner that any taxpayer has sustained a net loss, the 
 amount thereof will be deducted from the net income of the 
 taxpayer for the succeeding taxable year; and if such net loss 
 is in excess of the net income for such succeeding taxable year, 
 the amount of such excess will be allowed as a deduction in com- 
 puting the net income for the next succeeding taxable year ; the 
 deduction in all cases to be made under regulations prescribed 
 by the Commissioner with the approval of the Secretary. 
 
 The benefit of the net loss provision will be allowed to the 
 members of a partnership and the beneficiaries of an estate or 
 trust, and to insurance companies (other than mutual insurance 
 companies) under regulations prescribed by the Commissioner 
 with the approval of the Secretary. 
 
 If it appears, upon the production of evidence satisfactory to 
 the Commissioner, that a taxpayer having a fiscal year beginning 
 in 1920 and ending in 1921 has sustained a net loss during such 
 fiscal year, such taxpayer will be entitled to the benefits of the 
 net loss provision in respect to the same proportion of such 
 net loss which the portion of such fiscal year falling within the 
 calendar year 1921 is of the entire fiscal year. 
 
 The following rulings were made under the 1918 Law but 
 would seem to be applicable under the present law. A net oper- 
 ating business loss in 1919 occasioned by fioods is a net loss.^^* 
 A 1918 loss due to the failure and liquidation of two corpora- 
 tions in which an individual owns stock is not a net loss, but is 
 merely a loss on securities.^^^ An individual who sustained a net 
 loss for a taxable year beginning after October 31, 1918, and 
 ending prior to January 1, 1920, with respect to his share of 
 partnership earnings is not entitled to the relief provided by the 
 net loss provision of the Revenue Act of 1918 unless he has 
 
 164 0. D. 367, T. B. 3-20-681. 
 
 165 0. D. 380, T. B. 4-20-703. 
 
664 FEDERAL INCOME TAX 
 
 sustained a net loss for such taxable year with respect to his 
 entire income derived from all sources during that year.i^^ 
 
 Special Provision of 1918 Law Concerning Losses in Inventory 
 and from Rebates. The Revenue Act of 1918 contained a new 
 provision regarding losses sustained after the close of the tax- 
 able year 1918. This relief provision applied only to certain 
 losses, which, while actually sustained after 1918, were at- 
 tributable to that year. The provision was inserted in the 1918 
 Law in the belief that prices would fall rapidly after 1918. It 
 was provided that a taxpayer might file, at the time of filing 
 return for the taxable year 1918, a claim in abatement based on 
 the fact that he had sustained a substantial loss (whether or 
 not actually realized by sale or other disposition) resulting from 
 any material reduction (not due to temporary fiuctuation) of 
 the value of the inventory for such taxable year, or from the 
 actual payment after the close of such taxable year of rebates in 
 pursuance of contracts entered into during such year upon sales 
 made during such year. In such case payment of the amount 
 of the tax covered by the claim was not required until the claim 
 was decided, but the taxpayer was required to accompany his 
 claim with a bond in double the amount of the tax covered by 
 the claim, with sureties satisfactory to the Commissioner, condi- 
 tioned for the payment of any part of such tax found to be due, 
 with interest. If any part of such claim was disallowed, the 
 remainder of the tax due, on notice and demand by the col- 
 lector, was required to be paid by the taxpayer with interest at 
 the rate of one per centum per month from the time the tax 
 would have been due had no such claim been filed. If it was 
 shown to the satisfaction of the Commissioner that such sub- 
 stantial loss had been sustained, then in computing the income 
 tax the amount of such loss was deducted from the net income. 
 Where no such claim was filed, but it was shown to the satisfac- 
 tion of the Commissioner that during the taxable year 1919 the 
 taxpayer had sustained a substantial loss of the character above 
 described, the amount of such loss was deducted from the net 
 income for the taxable year 1918 and the income tax imposed 
 for such year was redetermined accordingly. Any amount 
 found to be due to the taxpayer upon the basis of such redeter- 
 mination was credited or refunded to the taxpayer.^"'' These 
 deductions might be secured by two methods, either by a claim 
 
 106 O. D. 430, T. B. 14-20-822. 
 
 1«" Revenue Act of 1918, §§ 214 (a) 12, 234 (a) 14. 
 
DEDUCTION OF LOSSES 665 
 
 in abatement or by a claim for refund, and could not be entered 
 upon the regular return-^^s 
 
 In a case in which a corporation, engaged in manufacturing 
 patent flours, sold during 1918 large quantities of flour manu- 
 factured from substitutes in accordance with regulations issued 
 by the food administration and abolished upon the cessation of 
 hostilities, which flour the corporation took back in the first 
 six months of 1919 and resold, the treasury department has held 
 that the difference between the amount of returned flour and 
 the amount thereof resold and the inventory thereof remaining 
 could not be deducted as a loss in inventory or from rebates. 
 It did not appear in this case whether there was an actual loss 
 sustained by this taxpayer through the resale of these goods 
 below cost of manufacture, or whether the so-called "loss" was 
 merely a reduction in the amount of profit that would have been 
 made if the goods had not been taken back from the jobbing 
 houses ; but this had no material effect upon the case. Whether 
 or not the taxpayer accepted the return of such goods in 1919 
 appears to have been a matter entirely at its own option and if, 
 as a matter of business prudence and expediency, it decided so 
 to do, the resulting loss, if any, was due to its own act and by its 
 own election in 1919, and was held not to be such a loss as can 
 be properly charged, under the law, against the profits of the 
 year 1918."9 
 
 Loss IN Inventory. Inventory losses were allowable either 
 (a) where goods included in an inventory at the end of the 
 taxable year 1918 were sold at a loss during the succeeding tax- 
 able year, or (b) where such goods remained unsold throughout 
 the taxable year 1919 and at its close had a then market value 
 (not resulting from a temporary fluctuation) materially below 
 the value at which they were inventoried at the end of the tax- 
 able year 1918. No deduction was allowable for losses of an- 
 ticipated profits or for losses not substantial in amount, nor for 
 physical damage or obsolescence occurring in the taxable year 
 1919. If, for example, the inventory contained discontinued off 
 colors in broken lots and the salable colors had been disposed of 
 and the stock broken before the close of the taxable year 1918, 
 the element of obsolescence if definitely determined should have 
 
 168 Reg. 45, Art. 261 ; Telegram from Treasury Department dated March 
 3, 1918; I. T. S. 1919, ][ 3276. Copies of inventories were not required to 
 be filed with the return but taxpayers should retain for a period of not 
 less than five years all original inventory sheets and all papers which would 
 have any bearing on a claim for loss in inventories (including sales slips). 
 (I. T. S. 1919,11.3358). 
 
666 FEDERAL INCOME TAX 
 
 been taken into account in both the inventory made at the close 
 of the taxable year 1918 and that made at the close of the tax- 
 able year 1919. If it was impossible to get the market value 
 for such colors in broken stocks, the taxpayer w^ould be required 
 to await the sale of such broken stocks in order to determine the 
 loss involved; but in most instances a reasonable and fair esti- 
 mate of the market value could be made. If the salable colors 
 were disposed of after the close of the taxable year 1918, the 
 accompanying obsolescence in the remaining stock took place 
 in the year 1919 and the deduction should have been taken not as 
 a loss in inventory but as obsolescence occurring in the taxable 
 year 1919.^™ In determining whether goods included in an 
 inventory at the end of the taxable year 1918 had been sold 
 during the succeeding taxable year, and whether loss had re- 
 sulted therefrom, sales of goods made in the taxable year 1919 
 were deemed to have been made from the inventoried stock of 
 1918 until such inventoried stock was exhausted.^'^i All goods 
 where title had actually passed to the taxpayer were required to 
 be included in the inventory, and as a result thereof were eligible 
 for consideration in any claim in abatement. It was necessary 
 that title should have passed to the taxpayer in 1918, and goods 
 merely ordered for future delivery and for which no transfer of 
 title had been effected, were excluded. Where a taxpayer's fiscal 
 year ended on November 30, 1919, and inventory was taken on 
 that date, the claim in abatement could only apply to goods which 
 were the property of the taxpayer up to that date, but no claim 
 could be made on any materials which had become the property 
 of the taxpayer between December 1 and 31, inclusive, of that 
 year."2 Where a claim for inventory loss was finally allowed, 
 the net income for 1919 — as established by usual accounting 
 methods — would be correspondingly higher as reported in the 
 return for the taxable year 1919. In other words, the item of 
 loss which would normally find its way into 1919 operating ac- 
 counts was thrown back against 1918 income. It was recom- 
 mended that the accounting records of the taxpayer be not 
 changed but that any adjustment of inventories be recorded in 
 distinct accounts supported by adequate detailed schedules. In 
 
 109 A. R. R. 155, T. B. 26-20-1028. 
 
 170 I. T. S. 1919, H 3363. Much of the text of this and the following para- 
 graphs on losses in inventory is based upon the published answers of the 
 Advisory Board to a series of questions submitted by the Southern Whole- 
 sale Drygoods Association in May, 1919. 
 
 m Reg. 45, Art. 263. 
 
 172 I. T. S. 1919, nil 3360, 3361 ; see Reg. 45, Art. 1581. 
 
DEDUCTION OF LOSSES 667 
 
 arriving at the net operating profits for any year, the income, 
 excess and war-profits taxes to be paid on such profits were not 
 taken into consideration. Such taxes, therefore, were theoretic- 
 ally paid out of surplus for the year. If at a subsequent date 
 any of such taxes were refunded, they should not have been 
 recorded in the operating accounts, but should have been credited 
 directly to surplus. i'^^ 
 
 The above provision of the 1918 Law permitting taxpayers to 
 file at the time of making returns for the taxable year 1918, 
 claims in abatement based on losses in inventory due to material 
 reduction in the value of the inventory only operated to relieve 
 the taxpayer from payment of tax at that time. The fact that 
 when the return for 1918 was filed the value of the inventory 
 might be substantially lower than at the close of 1918 was not 
 conclusive that his claim in abatement would be allowed. The 
 inventory loss contemplated was for the full taxable year 1919. 
 The fractional part of the year (January 1, 1918, to the time of 
 filing the return for 1918) did not determine a gain or loss for 
 the period of taxation. The question whether a loss in inventory 
 which could be thrown back into 1918 had been sustained could 
 not be finally determined until the close of 1919.^'^* 
 
 A company which earned a large income during the fiscal 
 year ending September 30, 1918, and which suffered a net loss 
 during the year ending September 30, 1919, because of certain 
 non-cancellable contracts for the future delivery of materials 
 which were not completed for delivery prior to the termina- 
 tion of the fiscal year ending September 30, 1918, the value 
 of this material having been greatly decreased as a result 
 of the signing of the armistice on November 11, 1918, has been 
 held not to be entitled to a deduction for inventory loss. The 
 company did not own the material on September 30, 1918, but 
 had only a contract for its purchase. Such material was not 
 properly included in its inventory for such taxable period nor 
 was the amount due under the contract for the material entered 
 on the books during such period as a liability. In other words, 
 the loss suffered was not a loss "resulting from any material 
 reduction * * * of the value of the inventory for such 
 taxable year." The phrase "substantial loss of the character 
 above described" does not enlarge the definition of inventory 
 losses contained in the earlier part of the subdivision of the 
 statute authorizing the deduction of such losses.i^s Goods or- 
 
 173 I. T. S. 1919, H 3369. 
 
 174 A. E. E. 487, T. B. 18-21-1609. 
 
 175 T. D. 3044, T. B. 30-20-1087. 
 
668 FEDERAL INCOME TAX 
 
 dered in 1918 and delivered in 1919, where title had not passed 
 until subsequent to the close of the taxable year 1918, could not 
 be included in the 1918 inventory, and any loss realized upon 
 such transactions were losses of the taxable year 1919.i'^« 
 
 An inventory loss could not be proven by evidence showing 
 that a loss had been sustained in respect of a part of the in- 
 ventory, without showing that the amount of the loss for which 
 the claim was filed had not been offset by profits made on the 
 remainder of the inventory. The term "temporary fluctuation," 
 means a fluctuation in prices, which does not develop into a 
 steady settled market.^"' 
 
 In fixing the cost of the manufactured articles inventoried, 
 all of the costs of manufacture applicable to the particular 
 article might be taken into consideration, but no claim would 
 be allowed for speculative or anticipated profits. No claim 
 should have been made for the loss of an anticipated profit on 
 labor or material used in producing the articles.i'^s 
 
 An established loss through reduction after the close of the 
 ta,xable year 1918 in the value of liquor inventoried at the close 
 of that year and remaining unsold at the close of the taxable 
 year 1919 constituted an allowable deduction. The lack of 
 market for and lack of market value of the liquor was required 
 to be established.^''^ 
 
 Shrinkage in inventory values sustained during 1919 by a 
 partnership business which prior to November 4, 1918, was 
 operated as a corporation might not be taken as a deduction 
 from the net income of the corporation for the taxable year 
 1918, even though the individual partners were stockholders of 
 the former corporation.i^o 
 
 In the case of a taxpayer making a return for a fiscal year 
 beginning of 1917 and ending in 1918, the provisions relating 
 to loss in inventory, apply to the computation of the tax under 
 
 170 T. B. R. 15, T. B. 5-19-251. 
 
 mx. B. M. 52, T. B. 12-19-52; A. R. R. 291, T. B. 43-20-1260. The rule 
 stated in the text above that an inventory loss could not be sustained except 
 with reference to the entire inventory could hardly have been intended 
 to supersede the requirement that inventories must be valued at "cost or 
 market vifhichever is lower''. In other words appreciation in value of 
 part of the inventory, where such appreciation raised the market value 
 of such part above cost, would not be entirely offset against the depreciated 
 part of the inventory if goods were valued at "cost or market whichever 
 is lower". 
 
 "8 0. D. 47, T. B. 1-19-64. 
 
 179 O. D. 390, T. B. 5-20-717. 
 
 180 O. D. 263, T. B. 17-19-471. 
 
DEDUCTION OF LOSSES 669 
 
 the Revenue Act of 1916 and the Revenue Act of 1917 at the 
 
 1917 rates, as well as to the computation under the 1918 Act 
 at the 1918 rates.i^i 
 
 Loss FROM Rebates. Where after the close of the taxable 
 year 1918 rebates were bona fide paid in pursuance of con- 
 tracts entered into during such year upon sales made during 
 such year, the net income for that year might be reduced by 
 the deduction of the amount of such rebates actually paid. No 
 such deduction would be allowed unless the profits from such 
 sales had been included in the income for the taxable year 
 1918.182 jn cases where rebates were made on sales reported in 
 the 1918 return of income, a separate schedule was required to 
 be submitted and the total thereof might be included in the 
 taxpayer's claim in abatement. This schedule should have 
 been prepared in such manner as to reflect: (a) the date of 
 each rebate; (b) the name and address of each party securing 
 the benefit thereof; (c) a description of the goods; (d) the 
 quantities; (e) the sales value of each item; and (f) the amount 
 rebated. Rebates made during the taxable year 1919 on sales 
 made during such year (provided the goods to which the rebate 
 applied were included in the inventory at the close of the 
 taxable year 1918) were considered as an adjustment of sales 
 values in arriving at the loss on inventories for the taxable 
 year 1918. This item could not go in the rebate claim, but the 
 rebate might be considered in determining the sale price for the 
 purpose of determining an inventory loss. It must be under- 
 stood that rebates made on goods acquired and sold subsequent 
 to the end of the taxable year 1918 could not be considered in 
 any manner as a 1918 inventory loss.i^^ 
 
 Rebates actually paid after the close of the taxable year, 
 other than those paid in pursuance of contracts entered into 
 during such year upon sales made during such year, were not 
 allowable deductions.is* Rebates made during 1919 on account 
 of defective goods purchased in 1918 were not of the class re- 
 ferred to in this provision of the statute and could not, there- 
 fore, be included in a claim for abatement or refund filed under 
 such provisions.i^^ A written contract was not necessary in 
 
 181 T. B. R. 10, T. B. 3-19-193. 
 
 182 Heg. 45, Art. 262. This provision does not apply to rebates made in 
 
 1918 on 1917 shipments. (A. R. M. 136, T. B. 31-21-1754). 
 
 183 I. T. S. 1919, HH 3364, 3365. 
 
 184 A. R. M. 4, T. B. 28-19-614. 
 
 185 0. D. 382, T. B. 4-20-705. 
 
670 FEDERAL INCOME TAX 
 
 order that a taxpayer might take advantage of the above relief 
 provision. It vi^as sufficient that there should have been an 
 oral contract or a contract implied from the usages and customs 
 of the trade in general.iss 
 
 Loss Where Goods Were Sold in 1919. Where goods in- 
 cluded in the inventory at the end of the taxable year 1918 were 
 sold during the succeeding taxable year, the loss which might 
 be deducted from net income for the taxable year 1918 was the 
 amount by which the value at which the goods sold were in- 
 cluded in the inventory exceeded the actual selling price minus a 
 reasonable allowance for selling expenses and for manufacturing 
 expenses, if any, incurred in the taxable year 1919 and at- 
 tributable to such goods.is''' 
 
 Loss Where Goods Were Not Sold in 1919. Where goods 
 included in the inventory at the end of the taxable year 1918 
 were not sold during the succeeding taxable year, the loss which 
 might be deducted from net income for the taxable year 1918 
 was the amount by which the net income for such year would be 
 reduced if the inventory were redetermined and such goods 
 taken at their market value (ignoring mere temporary 
 fluctuations of value) at the end of the taxable year 1919.188- 
 
 Method of Computing Loss in Inventory. Loose-leaf 
 ledgers were recommended, whereby control could be secured 
 of each classification or lot of goods upon which claim was to 
 be made. Therein should have been recorded quantities and val- 
 ues as returned on the inventory at the close of the taxable year 
 1918; and there should have been recorded in summary form 
 each day or week, the quantities sold and the values thereof, 
 and all items of sales should have been carried forward, 
 according to established classification adopted by the taxpayer, 
 to the time when the quantities as reported in the inventory 
 were accounted for. At the time of filing the return of income 
 in 1919 the taxpayer was permitted to compute his loss from 
 sales to that date, by deducting from the tobal sales a reasonable 
 and proportionate allowance for operating or selling expense. 
 The net result ascertained was to be deducted from the inventory 
 value of the goods included in the 1918 inventory sold to that 
 date, and the resultant loss brought down. The taxpayer was 
 
 186 A. R. E. 590, T. B. 31-21-1753. 
 
 187 Reg. 45, Art. 264. The Treasury Department first held that such loss 
 could not include selling expenses, deductible during the taxable year in 
 which the sale is made. See Telegram from Treasury Department dated 
 March 3, 1919; L T. S. 1919, 113276. 
 
 188 Reg. 45, Art. 265. 
 
DEDUCTION OP LOSSES 671 
 
 then to reduce the balances remaining unsold to then market 
 value, and add the loss thus ascertained from sales. The sum 
 total of these computations would represent the total loss upon 
 which the amount of tax to be claimed in abatement should be 
 computed and this amount was deductible from the unpaid in- 
 stallments of the tax, provided, a proper bond was furnished. 
 Should any goods unsold, upon which claim in abatement had 
 been filed at the time of filing the return, to be disposed of by sale 
 at a subsequent time within the taxable year 1919, the taxpayer 
 was to continue to record the sales effected, deducting therefrom 
 the proportionate cost of operating or selling expense. The gain 
 or loss would then be ascertained by computing the difference 
 between the adjusted sales values and the inventory value estab- 
 lished at the time of filing the claim in abatement. If at the close 
 of the taxable year 1919 there remained any commodity unsold, 
 the taxpayer could adjust the inventory value to the market price 
 (ignoring mere temporary fluctuations in price or value), at the 
 close of the taxable year and compute the amount of gain or loss. 
 Such gain or loss would be combined with the gain or loss on 
 sales between the time of filing the return and the close of the 
 taxable year 1919. If it was shown that the taxpayer had sus- 
 tained a loss additional to that shown in the claim in abatement 
 a claim for refund should have been made on Form 46 for the 
 amount of tax overpaid. Should it be shown that the amount 
 deducted in the claim in abatement at the time of filing the re- 
 turn for the taxable year 1918 was in excess of the tax based 
 upon actual losses sustained throughout the taxable year 1919, 
 the taxpayer was required to remit to the collector the addi- 
 tional amount of tax involved with interest at the rate of 1% 
 per month from the tirrie of filing the return until the date of 
 filing the final adjustment of taxes for the taxable year 1918 on 
 account of inventory losses.i^s 
 
 189 See I. T. S. 1919, If 3359. 
 
 The following is an example of the computation above outlined : 
 
 Assume an inventory at December 31, 1918, 200,000 yds. 
 at 15c $30,000 
 
 Assume sales, between January 1, 1919, and June 1, 1919, 
 
 100,000 yds. at 12ic $12,500 
 
 Cost of manufacturing or selling based upon data ascer- 
 tained from 1918 operations, say in this case of 15% of 
 sales values 1,875 
 
 Net proceeds from sales $10,625 
 
 The inventory cost at 15c per yd. amounted to 15,000 
 
 Net loss upon which tax can be claimed in abatement 4,375 
 
672 FEDERAL INCOME TAX 
 
 Claims. Claims in abatement could be filed with the collector 
 on Form 47 when the return for the taxable year 1918 was made. 
 Where the taxpayer had filed his return, but the total amount 
 of tax had not been collected, a claim in abatement was consid- 
 ered if filed before, or within ten days after the mailing of the 
 collector's notice and demand on Form 17.1^" Claims for refund 
 to cover the loss in 1918 inventory, ascertained at the close of the 
 taxable year 1919, were required to be filed within a reasonable 
 time. There was, however, no time limit fixed by law within 
 which such claims must be filed (except the general statute of 
 limitations applying to all claims for refund) and therefore, the 
 statement emanating from the advisory board that such claims 
 
 Assume that the market price at June 1, 1919 (on the as- 
 sumption that the taxpayer will prepare his claim on 
 June 1, rather than delay until June 15, 1919), on this 
 class of goods was 12c. There would remain unsold at 
 that time 100,000 yds. originally inventoried at 15c to be 
 reduced to 12c or at a loss of 3c per yd. aggregating. . . . 3,000 
 
 Total amount upon which tax could be claimed in abate- 
 ment at the time of filing the return on or before June 1, 
 1919, would be $7,375 
 
 Now, between June 1, 1919, and December 31, 1919, as- 
 sume that the taxpayer sells 50,000 yds. at a price of 15c 
 per yard, amount of sale would be 7,500 
 
 Deducting therefrom operating or selling expense at the 
 same rate of 15% (or, if ascertainable, the adjusted per- 
 centage for 1919) 1,125 
 
 Net proceeds from sale $6,375 
 
 Cost of this material as adjusted at June 1, 1919, on the 
 
 basis of 12c per yd 6,000 
 
 Gain on these transactions $375 
 
 Further, assume that the remaining 50,000 yards were un- 
 sold at the close of the taxable year 1919, and that the 
 market price had risen to 17c per yd., the taxpayer 
 would, in this case, have to readjust his inventory value 
 to the 17c basis, and account for the element of appre- 
 ciation, in this case (5c per yd. over adjusted figure as 
 of June 1) 2,500 
 
 Total gains 2,875 
 
 Adjusted loss upon which tax is . to be abated or re- 
 funded, as the case may be $4,500 
 
 190 Letter from treasury department dated August 6, 1919; I. T. S. 1921, 
 1| 1627. 
 
DEDUCTION OF LOSSES ,673 
 
 should be filed within thirty days after the close of the taxable 
 year 1919, must be considered as directory and not mandatory. 
 Each claim was required to contain a concise statement of the 
 amount of the loss sustained and the basis upon which it had been 
 computed, together with all pertinent facts necessary to enable 
 the Commissioner to determine the allowability of the claim. 
 The amount allowed by the Commissioner in respect of any such 
 claim was deducted from the net income for the taxable year 
 1918 and the taxes recomputed accordingly. Any excess paid 
 over the tax due was credited or refunded to the taxpayer. In 
 computing income for the taxable year 1919 the opening inven- 
 tory was required to be properly adjusted by the taxpayer in 
 respect of any claim allowed for the year 1918."^ Two claims 
 might be filed, one at time of filing the return, and one adjusting 
 the entire claim for losses at the close of the taxable year 1919. 
 The first would represent a claim in abatement; the second, a 
 claim for refund. It was possible that an additional amount of 
 tax might become due from the taxpayer with interest at the 
 rate of 1% per month from the time of making the deduction 
 until the time of filing the final statement, which would be 
 brought about by the fact that, in the disposition of unsold goods 
 as to the 1918 inventory after the filing of the original return, 
 and the claim in abatement, gains might result from subsequent 
 sales. It would therefore be necessary for the taxpayer to pre- 
 pare a statement which would fully reflect the corrected amount 
 of any claim to which he might be entitled for losses in inventory 
 of 1918, and this statement should definitely embrace the total 
 amount of inventory value as recorded on the books of the tax- 
 payer at the end of the taxable year 1918, and be capable of 
 proper audit.^''^ Taxpayers were required to file with the orig- 
 inal claim and at the close of the taxable year 1919 summarized 
 
 191 Reg. 45, Art. 266. While the law and the regulations state that claims 
 in abatement should be filed when the return for the taxable year of 1918 
 is made, the treasury department has ruled that taxpayers may file a claim 
 for abatement based on revaluation of inventories at the time of filing re- 
 turn, or any time thereafter during 1919. This does not preclude the tax- 
 payer from filing an amended claim during 1919, but after one claim has 
 been allowed, no further claim may be made. (Telegram from treasury 
 department dated April 3, 1919; I. T. S. 1919, 1[3291.) 
 
 192 I. T. S. 1921, If 1636. The following is an illustration of an outline 
 to be used in making final statement of adjustment at the close of the tax- 
 able year 1919. This is based upon the illustration given above which 
 applies to one item of inventory only, but it must be understood that the 
 final statement referred to herein, must cover the entire inventory value 
 as at the end of the taxable year 1918 : 
 
674 FEDERAL INCOME TAX 
 
 statements covering all adjustments involved. To conform to 
 good accounting practices, the taxpayer should have considered 
 these summaries in the light of controlling accounts and the sum 
 totals thereof should have equalled the total inventories main- 
 tained in detail by the taxpayer. Claims for losses in inventories 
 of the taxable year 1918 should have embraced all items in the 
 taxpayer's inventory so that gains made in any sales of certain 
 items or classes would be used to offset losses in others and the 
 net result as to the entire inventory determined. Thus if the 
 final computation showed a net gain over all inventory items 
 sold, no claim for loss in any particular item or items could 
 be sustained.1^3 
 
 Claims of Partnerships. A claim in abatement arising from 
 a loss in 1918 partnership inventory was required to be made 
 by each individual partner as to his distributive share of recom- 
 puted net income. To this claim should have been attached the 
 statement of the partnership showing the loss in inventory sup- 
 ported in the same manner as such claims were supported by 
 corporations and individuals. The statement filed as to the 
 partnership as a whole was used by the department for the pur- 
 poses of record and verification and any adjustments which 
 might be found necessary would be spread pro rata over the 
 claims of the individuals. At the close of the taxable year 1919 
 a properly authorized member of the partnership should have 
 compiled the final statement of adjustment in accordance with 
 
 Quantity Value 
 
 1. Inventory close of taxable year 1918 200,000 $30,000 
 
 2. Sales from 1918 inventory during taxable year 1919. .150,000 20,000 
 
 3. Less deductions from sales for selling expenses 3,000 
 
 4. Net sales proceeds (Item 2 value less Item 3) 17,000 
 
 5. Balance of 1918 inventory on hand at close of taxable 
 
 year (Quantity Item 1 less Item 2) 50,000 8,500 
 
 (Value priced at market close taxable year 1919) 
 
 6. Net sales proceeds and balance of inventory 25,500 
 
 (Item 4 plus Item 5, values) 
 
 7. Loss (Item 1 value less Item 6) 4,500 
 
 8. Gain 
 
 9. Amount of claim in abatement or for refund filed .... $ 7,375 
 
 In this illustration an excessive claim in abatement of tax based upon a 
 loss of inventory values, amounting to $2,875, is assumed. Tax upon this 
 amount vrith interest at one per cent per month between the date of making 
 the deduction and final statement will be assessed in this case. Should 
 the taxpayer elect not to file a claim in abatement at the time of filing his 
 return, but rather to wait until the end of the taxable year 1919, then, in 
 that case, but one claim would be filed. 
 
 193 L T. S. 1921, 111640; O. D. 186, T. B. 8-19-323. 
 
DEDUCTION OF LOSSES 675 
 
 the methods previously outlined, attaching thereto the propor- 
 tionate amounts of adjustment affecting each individual mem- 
 ber of the partnership. On the determination of the net result, 
 each individual partner should have filed a claim for refund (if 
 any refund -was due), or in the event that the claim in abate- 
 ment was in excess of the actual losses sustained, each individual 
 would remit to the collector of his district, his share of the addi- 
 tional amount of tax ascertained from the adjusted statement, 
 with interest at the rate of 1 % per month from the original due 
 dates of the tax.^^* Each partner was required to furnish a 
 separate bond in the requisite amount.^"'"' 
 
 Disposition of Claims. A claim for loss resulting from re- 
 bates paid or from actual sales could be decided as soon as prac- 
 ticable after it had been filed. A claim for loss in inventory not 
 realized by sale could be decided only after the close of the tax- 
 able year 1919 upon the basis of any permanent reduction in the 
 level of market values which had occurred during such year from 
 the inventory values taken at the close of the taxable year 1918. 
 Not later than thirty days after the close of the taxable year 
 1919 a taxpayer who had filed either a claim in abatement or a 
 claim for refund, or both, was required to submit to the Commis- 
 sioner a descriptive statement showing the quantity and kind of 
 all goods included in the 1918 inventory which had been (a) sold 
 at a loss in the taxable year 1919, (b) sold at a profit during the 
 taxable year 1919, or (c) not sold or otherwise disposed of dur- 
 ing the taxable year 1919, together with such other information 
 in respect of such goods as the Commissioner might require. A 
 claim filed with the return for a loss not then realized by sale 
 was passed upon in the light of any sales thereafter made during 
 the taxable year 1919. A claim filed with the return was 
 authorized for the purpose of allowing the taxpayer to utilize, 
 where justified, a preliminary allowance for inventory losses and 
 not to provide a deduction essentially different from that taken 
 by way of a claim filed at the end of the taxable year 1919.^^^ 
 
 Effect of Claim in Abatement. In the case of a claim in 
 abatement filed with a return, payment of the amount of the tax 
 covered thereby was required until the claim was decided, pro- 
 vided the taxpayer filed therewith a bond on form 1124 in 
 double the amount of the tax covered by the claim, conditioned 
 for the payment of any part of such tax found to be due with 
 
 194 1. T. S. 1921,111643. 
 
 195 0. D. 218, T. B. 11-19-380. 
 
 196 Reg. 45, Art. 267. No claim would be allowed unless the above 
 information was fully supplied. (A. R. R. 554, T. B. 30-21-1745). 
 
676 FEDERAL INCOME TAX 
 
 interest at the rate of 12 per cent, per annum. The filing of this 
 bond was not a condition precedent to the consideration of the 
 claim for abatement on its merits, but was merely a condition 
 precedent to securing immunity from collection during the 
 pendency of the claim. The bond was required to be executed 
 by a surety company holding a certificate of authority from the 
 secretary as an acceptable surety on federal bonds and was sub- 
 ject to the approval of the Commissioner. If abatement of any 
 part of the tax covered by such a claim was denied, then such 
 part was required to be paid by the taxpayer with interest at 
 the rate of 12 per cent per annum from the original due date of 
 the tax.197 
 
 Liberty or Other Bonds as Security. In case the claimant, 
 in accordance with the provisions contained in the Revenue Act 
 of 1918,i"s elected to offer, in lieu of the surety or sureties pro- 
 vided for on Form 1124, United States Liberty bonds or other 
 bonds of the United States as security he could execute in dupli- 
 cate a bond and agreement on Form 1124a. The original was 
 to accompany the United States bonds offered as security; the 
 duplicate was to be forwarded by the collector with the abate- 
 ment claim to the Commissioner. If such bond and agreement 
 was executed by a corporation a duly certified copy of the resolu- 
 tion of the board of directors, authorizing the execution, was also 
 required. The United States Liberty bonds or other bonds of 
 the United States, offered as security, had to be, in par value, 
 not less than the amount of the penal sum of the bond executed 
 on Form 1124a, which had to be in double the amount of the tax 
 covered by the abatement claim. The bonds so offered as security 
 were delivered to the Commissioner at the obligor's risk and ex- 
 pense. Registered bonds so offered as security were registered 
 in the name of the obligor and duly assigned to the Commissioner 
 at or before the date of deposit with the Commissioner. The 
 Commissioner issued a receipt in duplicate for United States 
 bonds so deposited with him as security, the original of the re- 
 ceipt being given to the obligor, and the duplicate retained by the 
 Commissioner for his files. Bonds of the United States were re- 
 turned to the obligor as soon as the security for the performance 
 of such penal bond was no longer necessary. Registered bonds 
 were re-assigned to the owner when the liability was cancelled.^^^ 
 
 197 Reg. 45, Art. 268; A. R. R. 331, T. B. 48-20-1323. 
 
 198 Revenue Act of 1918, H 1320. 
 
 199 T. D. 2925. 
 
DEDUCTION OP LOSSES 677 
 
 Where Liberty bonds were deposited as collateral, as provided 
 when a claim for abatement for a loss in inventory was filed, 
 coupons representing one year's interest might be detached from 
 the bonds prior to depositing them as collateral on Form 1124.2oo 
 
 200 0. D. 193, T. B. 8-19-336. 
 
CHAPTER 26 
 
 DEDUCTION OF ALLOWANCE FOR DEPRECIATION, OBSOLESCENCE AND 
 
 AMORTIZATION 
 
 The Revenue Act of 1921 has introduced no substantial 
 changes with respect to allowances for depreciation, obsolescence 
 and amortization. The only change in regard to depreciation 
 deductions is a statutory enactment of the former departmental 
 practice that depreciation deductions must be based on the fair 
 market price or value as of March 1, 1913, of property acquired 
 prior thereto. The amortization provision remains substantially 
 the same, certain definite dates being inserted now that the war 
 has been officially terminated. In the case of individuals the Rev- 
 enue Act of 1921 permits a reasonable allowance for the exhaus- 
 tion, wear and tear of property used in the trade or business of 
 an individual, including a reasonable allowance for obsolescence.^ 
 In the case of nonresident aliens, and certain citizens taxed as 
 nonresident aliens,- the deduction for depreciation or ob- 
 solescence is permitted if and to the extent that it is connected 
 with income arising from sources within the United States ; and 
 the proper apportionment and allocation of the dediiction with 
 respect to sources of income within and without the United 
 States is determined under rules and regulations prescribed by 
 the Commissioner with the approval of the Secretary.^ In the 
 case of corporations, the allowance is also for the exhaustion, 
 wear and tear , of property used in the trade or business, in- 
 cluding a reasonable allowance for obsolescence,* limited in the 
 case of a foreign corporation, and certain domestic corporations 
 taxed as foreign corporations,^ as above indicated in the case of 
 nonresident aliens.*^ It must be borne in mind that the al- 
 lowance for depreciation or obsolescence does not include any 
 element of a mere reduction in market value not resulting from 
 exhaustion, wear and tear or obsolescence. The proper allow- 
 
 1 Revenue Act of 1921, §214 (a) 8. This statutory enactment of the 
 former departmental practice was made to remove all doubt as to whether 
 depreciation of property acquired before March 1, 1913, should be based on 
 cost or value on that date in view of the cases of Goodrich v. Edwards, 
 41 Sup. Ct. Rep. 390, and Walsh v. Brewster, 41 Sup. Ct. Rep. 392. 
 
 2 See Revenue Act of 1921, § 262. 
 
 3 Revenue Act of 1921, § 214 (b) . 
 
 4 Revenue Act of 1921, §234 (a) 7. 
 
 5 See Revenue Act of 1921, § 262. 
 
 6 Revenue Act of 1921, §234 (b). 
 
 678 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 679 
 
 ance for such depreciation of any property used in the trade or 
 business is that amount which should be set aside for the taxable 
 year in accordance with a consistent plan by which the aggre- 
 gate of such amounts for the useful life of the property in the 
 business will suffice, with the salvage value, at the end of such 
 useful life to provide in place of the property, its cost, or its value 
 as of March 1, 1913, if acquired by the taxpayer before that date.'' 
 The new provisions of the Revenue Act of 1918 and continued 
 in the present law for the deduction of a reasonable allowance 
 for obsolescence and amortization are treated in this chapter in 
 addition to the subject of depreciation of property used in the 
 trade or business of a taxpayer. Depreciation in the case of 
 farmers is discussed elsewhere in this book.® 
 
 Depreciation Under Preceding Income Tax Laws. As pointed 
 out in the preceding paragraph the 1918 Law contained pro- 
 visions similar to those of the present law respecting deprecia- 
 tion, obsolescence and amortization. The 1909 Law^ allowed 
 the deduction of all losses including a reasonable allowance for 
 depreciation of property, if any. The 1913 Law allowed as a 
 deduction in the case of individuals ^° "a reasonable allowance 
 for the exhaustion, wear and tear of property arising out of its 
 use or employment in the business," and in the case of corpora- 
 tions ^^ all losses "including a reasonable allowance for deprecia- 
 tion by use, wear and tear of property, if any." The 1916 Law 
 allowed to individuals ^~ a deduction of "a reasonable allowance 
 for the exhaustion, wear and tear of property arising out of its 
 use or employment in the business or trade," and to corpora- 
 tions 13 a deduction of all losses "including a reasonable allow- 
 ance for the exhaustion, wear and tear of property arising out of 
 its use.or employment in the business or trade." It is important 
 to note the difference in phraseology between these various 
 provisions in consulting any case decided under preceding laws 
 as an authority under the present law. 
 
 Depreciable Property. The necessity for a depreciation allow- 
 ance arises from the fact that certain property used in the busi- 
 ness gradually approaches a point where its usefulness is ex- 
 hausted. The allowance should be confined to property of this 
 
 7 Reg. 45, Art. 161. 
 
 8 See Chapter 7. 
 
 9 Act of August 6, 1909, § 38. 
 
 10 Act of October 3, 1913, § B, 
 
 11 Act of October 3, 1913, § G (b). 
 
 12 Revenue Act of 1916, §§5 (a), 6 (a). 
 
 13 Revenue Act of 1916, § 12. 
 
680 FEDERAL INCOME TAX 
 
 nature.!* In the case of tangible property, it applies to that 
 which is subject to wear and tear, to decay or decline from 
 natural causes, to exhaustion, and to obsolescence due to the nor- 
 mal progress of the art or to becoming inadequate to the growing 
 needs of the business. It does not apply to inventories or to 
 stock in trade; nor to land apart from the improvements or 
 physical development added to it.^^ it does not apply to bodies 
 of minerals which through the process of removal suffer deple- 
 tion, other provision for this being made in the statute by way 
 of an allowance for depletion.^'^ Property kept in repair may, 
 nevertheless, be the subject of a depreciation allowance.^'' The 
 deduction of an allowance for depreciation is limited to property 
 used in the taxpayer's trade or business. No such allowance 
 may be made in respect of automobiles or other vehicles used 
 chiefly for pleasure, a building used by the taxpayer solely as 
 his residence, nor in respect of furniture or furnishings therein, 
 personal effects, or clothing; but properties and costumes used 
 exclusively in a business, such as a theatrical business,!^ may be 
 the subject of a depreciation allowance.^^ Since the full life of 
 radium has been scientifically estimated at such an extended 
 period and since no appreciable depreciation results from its con- 
 tinued use as- a therapeutic agent, the depreciation occurring 
 during the lifetime of any individual owner is practically 
 negligible. It is held, therefore, that radium which is used as a 
 therapeutic agent is not subject to depreciation and its cost must 
 be treated as a capital expenditure.^" 
 
 Depreciation of Automobile Used in Business. Deprecia- 
 tion may be claimed on an automobile where it can be shown that 
 the taxpayer, in order to earn his salary, is responsible for 
 certain duties and that the automobile is owned and used, by him 
 
 14 Deductions for depreciation may not be taken where the assets are of 
 a more or less permanent character such as additions to the plant of a 
 title abstract company (O. D. 1018, T. B. 36-21-1799). 
 
 15 See paragraph on real estate below. 
 
 16 See Chapter 28. 
 
 17 See p. 689. 
 
 18 See p. 682. 
 
 19 Reg. 45, Art. 162; Reg. 33 Rev., Art. 159; T. D. 2153; T. D. 2005. 
 Depreciation as an allowable deduction in ascertaining net incomes for the 
 purpose of the income tax is not to be confused with the deduction for loss. 
 See Chapters 21 and 22 as to certain expenditures which should be deducted 
 as business expense rather than capitalized and depreciated. 
 
 20 O. D. 837, T. B. 10-21-1496. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 681 
 
 in the performance of such duties.^^ A member of a local draft 
 board who used his automobile for travel on business in con- 
 nection with the work of the board was not allowed to deduct any 
 amount representing wear and tear of the automobile or main- 
 tenance expense, the automobile being used for his personal 
 convenience and not by reason of official necessity since such 
 members when traveling under competent orders were allowed 
 actual traveling expenses plus a per diem of $4.^2 
 
 Loss IN Rental Value op Buildings. Under the 1916 Law 
 and prior laws the deduction on account of depreciation could 
 not include any allowance for an estimated loss due to lessening 
 of rental value, nor could the computation of the deduction be 
 influenced by the changed environment after a period of years, 
 nor by its lack of adaptability to the use originally intended, nor 
 to any other outside influence affecting its value. But under the 
 present law and the 1918 Law it would seem that these factors of 
 obsolescence may be given weight in calculating the deprecia- 
 tion of office buildings, apartment houses and other structures. 
 However, the regulations appear still to hold to the old rule.^^ 
 
 Real Estate. Real estate, as such, and as distinct from the 
 improvements thereon, is not reduced in value by reason of wear 
 and tear and an allowance for depreciation in the case of real 
 estate does not apply to the ground. The allowance is intended 
 to measure the decline in the value of the improvements due to 
 the wear and tear thereof.^* In determining the cost of real 
 estate upon which depreciable property is located, it frequently 
 occurs that no segregation is made of the cost of buildings as 
 separate and distinct from the cost of the ground upon which 
 such buildings stand. In such cases where the actual cost of 
 the buildings or improvements at the time they were taken over 
 by the taxpayer can not be definitely determined, it will be suffi- 
 cient, for the purpose of determining the rate of depreciation to 
 be used in computing the amount deductible from gross income, 
 to estimate the actual value at the time acquired, of buildings or 
 improvements if acquired after March 1, 1913, or the fair market 
 price or value as of that date, if the property was acquired prior 
 to March 1, 1913.25 
 
 Leases. In the case of a lease held by the original lessee, 
 who acquired it prior to March 1, 1913, without any payment 
 
 21 A. R. R. 551, T. B. 26-21-1707. 
 
 22 O. D. 363, T. B. 2-20-673. 
 
 23 Cohen v. Lowe, 234 Fed. 474; Reg. 33 Rev., Art. 162; Reg. 45, Art. 166. 
 
 24 Reg. 45, Art. 162; Reg. 33 Rev., Art. 162; T. D. 2152; T. D. 2137. 
 
 25 Reg. 33 Rev., Art. 163; T. D. 2137; T. D. 2152. 
 
682 FEDERAL INCOME TAX 
 
 other than a stipulated annual rent, the presumption is that the 
 lease had no value as at March 1, 1913. Under this presumption 
 there is no basis for a depreciation deduction. This presumption 
 can be overcome only by evidence showing conclusively that the 
 lease had a value as of March 1, 1913, for depreciation purposes. 
 There is no prescribed method by which the value of a lease as 
 of March 1, 1913, in excess of its presumptive value as at that 
 date may be established. The burden is upon the taxpayer to 
 establish the basis for depreciation to the satisfaction of the 
 Commissioner.26 
 
 Wearing Apparel. If costumes purchased by actors and 
 actresses are used exclusively in the production of a play and 
 are not adapted for occasional personal use, and are not so used, 
 deduction may be claimed on account of such depreciation in 
 their value as occurs during the year on account of wear and 
 tear arising from their use in the production of a play, or a loss 
 may be claimed if they become obsolete at the close of the pro- 
 duction.27 The cost of naval uniforms has been held to be a 
 personal expense and no deduction for depreciation in their 
 value will be allowed to naval oflficers.^s 
 
 Merchandise. Depreciation does not apply to inventories or 
 to stock in trade. ^^ 
 
 Intangible Property. Intangibles, the use of which in the 
 trade or business is definitely limited in duration, may be the 
 subject of a depreciation allowance. Examples are patents and 
 copyrights, licenses, and franchises. Intangibles, the use of 
 which in business or trade is not so limited, will not usually be a 
 proper subject of such allowance. If, however, an intangible 
 asset acquired through capital outlay is known from experience 
 to be of value in the business for only a limited period, the 
 length of which can be estimated from experience with reason- 
 able certainty, such intangible asset may be the subject of a de- 
 preciation allowance, provided the facts are fully shown in the 
 
 26 0. D. 720, T. B. 45-20-1292. 
 
 2VReg. 45, Art. 162; Reg. 33 Rev., Art. 8; T. D. 2090. See Reg. 45, Art. 
 143, if loss is claimed. 
 
 28 A. R. E. 594, T. B. 32-21-1761. 
 
 28 Reg. 45, Art. 162. It has been held under previous laws that deprecia- 
 tion computed on total invoice cost of merchandise in stock is not an allow- 
 able deduction, except that if any portion of the merchandise in stock 
 is unsalable by reason of obsolescence or damage, a depreciation deduction 
 not in excess of the decline in value during the taxable year will be al- 
 lowed. (Reg. 33 Rev., Art. 169.) 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 683 
 
 return or prior thereto to the satisfaction of the Commissioner.^o 
 A deduction for depreciation may be taken on all such prop- 
 erty whether acquired for cash, other property or corporate 
 stock. The term "capital outlay" includes corporate stock.^^ 
 Formulas are not a character of property subject to annual de- 
 preciation deductions; however, if after acquisition, a formula 
 is found to be worthless, its cost may be charged off in toto in the 
 
 taxpayer's return for the year in which its worthlessness was 
 discovered.32 
 
 Depreciation Allowance for Patent or Copyright. In 
 computing a depreciation allowance in the case of a patent or 
 copyright, the capital sum to be replaced is the cost (not already 
 deducted as current expense) of the patent or copyright or its 
 fair market value as of March 1, 1913, if acquired prior thereto. 
 The allowance should be computed by an apportionment of the 
 cost of the patent or copyright or of its fair market value as of 
 March 1, 1913, over the life of the patent or copyright since its 
 grant, or since its acquisition by the taxpayer, or since March 
 1, 1913, as the case may be. If the patent or copyright was 
 acquired from the government, its cost consists of the various 
 government fees, cost of drawings, experimental models, at- 
 torney's fees, etc., actually paid.^^ 
 
 If a corporation purchased a patent and paid for it in stock 
 or securities, its cost is the fair market value of the stock or 
 securities at the time of the purchase. Depreciation of a patent 
 can be taken on the basis of the fair market value as of March 
 1, 1913, only when affirmative and satisfactory evidence of such 
 value is offered. Such evidence should whenever practicable be 
 submitted with the return. If the patent becomes obsolete prior 
 to its expiration such proportion of the amount on which its 
 depreciation may be based as the number of years of its remain- 
 ing life bears to the whole number of years intervening between 
 the date when it was acquired and the date when it legally ex- 
 pires may be deducted, if permission so to do is specifically se- 
 cured from the Commissioner. Owing to the difficulty of allocat- 
 ing to a particular year the obsolescence of a patent, such per- 
 mission will be granted only if affirmative and satisfactory evi- 
 dence that the obsolescence occurred in the year for which the 
 return is made is submitted to the Commissioner. The fact that 
 
 30 Reg. 45, Art. 163; T. D. 2929; Reg. 33 Rev., Art. 162; T. D. 2152; 
 T. D. 2137. 
 
 31 O. D. 344, T. B. 30-19-640. 
 
 32 A. R. R. 339, T. B. 50-20-1349. 
 
 33 Reg. 45, Art. 167; A. R. R. 520, T. B. 44-21-1893. 
 
684 FEDERAL INCOME TAX 
 
 depreciation has not been taken in prior years does not entitle 
 the taxpayer to deduct in any taxable year a greater amount for 
 depreciation than would otherwise be allowable.^* Where an 
 individual has invented certain apparatus and, after securing 
 United States patents thereon, assigned such patents to a foreign 
 corporation under an agreement by which he retained 40 % in- 
 terest in profits therefrom, legal title to the patents passing to 
 the corporation subject to the agreement mentioned and his in- 
 terest being recognized by the corporation and by the United 
 States licensees under the patents, the department has held that 
 the agreement should be recognized as giving the individual a de- 
 preciable interest in the patents. The value of each patent as at 
 March 1, 1913, should be segregated and the depreciation allow- 
 able thereon determined on the basis of its ovsm life instead of 
 using as a basis the average life of all the patents and the value 
 of all the patents in bulk. Of the total depreciation allowable 
 for any year, 60 % is deductible in the return of the company and 
 40% in the individual's retum.^s An author may not value a 
 copyright as of March 1, 1913, by estimating the future royalties 
 for the remaining life of the copyright and capitalizing the 
 amount of such estimated royalties. ^^ 
 
 Terms of Patents and Trade-Marks. The following schedule 
 of the terms of patents and trade-marks in various countries 
 has been published by the treasury department for the informa- 
 tion of taxpayers: 37 
 
 Country. Term of Patent. Term of Trade-mark. 
 
 Great Britain... 16 years. Extended from 14 years 14 years renewable. 
 
 by act of Parliament, 1919. 
 
 France 5, 10, or 15 years from filing of ap- 15 years renewable. 
 
 plication. 
 
 Germany 15 years from next day after filing 10 years renewable. 
 
 Kussia .15 years 1 to 10. 
 
 Canada 18 years General unlimited ; special 25 
 
 years renewable. 
 
 Australia 14 years 14 years renewable. 
 
 Austria 15 years 10 years renewable. 
 
 Switzerland 10 years for chemical process 20 years renewable. 
 
 15 years from filing 
 
 Sweden 15 years from filing 10 years renewable. 
 
 Denmarlt 15 years 10 years renewable. 
 
 United States ... 17 years 20 years renewable. 
 
 34 Reg. 45, Art. 167; A. R. M. 95, T. B. 47-20-1312; T. B. R. 59, T. B. 
 20-19-506. 
 
 35 A. R. M. 34, T. B. 10-20-779. 
 
 36 0. D. 966, T. B. 27-21-1721. 
 
 37 0. D. 721, T. B. 45-20-1293. The duration of patent rights in Great 
 Britain was extended from 14 to 16 years in 1919 (see 9, and 9 and 10, Geo. 
 V. c. 80, Chitty, Annual Statutes 1919, p. 423). No corresponding change 
 seems to have been made with respect to trade-marks. Important patent 
 legislation is now pending in France which will radically change the exist- 
 ing law if passed. The only actual change in duration of patents and trade- 
 marks since 1909 in the countries named seems to have been in Great 
 Britain as indicated above. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 685 
 
 Depreciation of Drawings and Models. A taxpayer who 
 has incurred expenses in his business for designs, drawings, pat- 
 terns, models, or work of an experimental nature calculated to 
 result in improvement of his facilities or his product, may at his 
 option deduct such expenses from gross income for the taxable 
 year in which they are incurred or treat such articles as a capital 
 asset to the extent of the amount so expended. In the latter 
 case, if the period of usefulness of any such asset may be es- 
 timated from experience with reasonable accuracy, it may be 
 the subject of depreciation allowances spread over such esti- 
 mated period of usefulness. The facts must be fully shown in 
 the return or prior thereto to the satisfaction of the Commis- 
 sioner. Except for such depreciation allowances no deduction 
 may be made against any sum so set up as an asset except on the 
 sale or other disposition of such assets at a loss or on proof of a 
 total loss thereof.38 where no appraisal has been made on or 
 about March 1, 1913, the value of drawings, models, tracings 
 and patterns as of that date may be ascertained by taking the 
 reproduction cost on March 1, 1913, determined from data in the 
 possession of the taxpayer less depreciation from original ac- 
 quisition. ^^ 
 
 Capital Sum Returnable Through Depreciation Allowances. 
 The capital sum to be replaced by depreciation allowances is the 
 cost of the property in respect of which the allowance is made, 
 except that in the case of property acquired by the taxpayer 
 prior to March 1, 1913, the capital sum to be replaced is the fair 
 market value of the property as of that date.*" In the absence 
 of proof to the contrary, it will be assumed that such value as 
 of March 1, 1913, is the cost of the property less depreciation up 
 to that date.*!^ To this sum should be added from time to time 
 the cost of improvements, additions, and betterments,*^ the cost 
 of which is not deducted as an expense in the taxpayer's return, 
 and from this sum should be deducted from time to time the 
 
 38 Reg. 46, Art. 168. 
 
 39 A. R. R. 272, T. B. 40-20-1223. 
 
 40 Revenue Act of 1921," §§ 214 (a) 8 and 234 (a) 7. It was held in early 
 rulings that depreciation could only be claimed on the basis of cost whether 
 or not the property was acquired prior to March 1, 1913 (T. D. 2446), 
 but a later ruling recognized the principle of claiming depreciation on the 
 value as of March 1, 1913, if the property was acquired prior thereto (T. 
 D. 2754, August 23, 1918). Depreciation must be based on actual cost 
 and not on estimated cost as shown by a contract (O. D. 1019, T. B. 36-21- 
 1800). 
 
 41 T. D. 2754. 
 
 42 As to incidental repairs see below. 
 
686 FEDERAL INCOME TAX 
 
 amount of any definite loss or damage sustained by the property 
 through casualty, as distingnished from that gradual exhaustion 
 of its utility which is the basis of the depreciation allowance. 
 In the case of the acquisition after March 1, 1913, of a combina- 
 tion of depreciable and non-depreciable property for a lump 
 price, as, for example, land and buildings, the capital sum to be 
 replaced is limited to that part of the lump price which repre- 
 sents the value of the depreciable property at the time of such 
 acquisition.*^ The replacement value of property can not be 
 substituted for the cost of the property as the «ost of replacement 
 at a time some years in the future is a speculative figure which 
 can not be used as a basis for determining an annual deprecia- 
 tion charge. The depreciation charge will replace the amount 
 of the original capital outlay, which may be more or less than 
 adequate to replace the item to which it applies. If less than 
 adequate, new capital must be provided from surplus or other- 
 wise to effect the replacement.** 
 
 Where the lessee of real property erects buildings, or makes 
 permanent improvements which become part of the realty and 
 income or loss has been returned by the lessor as a result thereof, 
 the capital sum to be replaced by depreciation allowances is held 
 to be the same as though no such buildings had been erected or 
 such improvements made.*^ Where a corporation was liquidated 
 and its assets transferred to a partnership organized by its 
 stockholders, the allowance for depreciation will be based on the 
 cost of the property to the partners. The fair market value of 
 the assets as of the date of liquidation of the corporation will be 
 held to be the cost of the assets to the stockholders, who as 
 partners, turned them over to the partnership. Such fair market 
 value as of the date of liquidation divided by the estimated life 
 of the assets from that date will constitute the annual deprecia- 
 tion allowance of the partnership.*" Where ships in process of 
 construction under contract were requisitioned by the Shipping 
 Board, completed, and then reconveyed to the company from 
 which they were requisitioned for an amount in excess of the 
 contract price of the ships, it has been held that the entire cost 
 of the ships is a capital expenditure recoverable by allowances 
 for depreciation, and that the excess of the cost over the con- 
 tract price is not deductible as a loss or a business expense.*^ 
 
 *3 Reg. 45, Art. 164. 
 
 « 0. D. 283, T. B. 21-19-524. 
 
 *5 Reg. 45, Art. 164, as amended by T. D'. 3062, T. B. 37-20-1198. 
 
 46 0. D. 639, T. B. 34-20-1148. 
 
 <7 0. D. 851, T. B. 12-21-1520. 
 
DEPRECIATION, OBSOLESCENCE ANii AMORTIZATION 687 
 
 Method of Computing Depreciation Allowance. The capital 
 sum to be replaced by the depreciation allowance should be- 
 charged off over the useful life of the property either in equal 
 annual installments or in accordance with any other recognized 
 trade practice, *s such as an apportionment of the capital sum 
 over units of production. Whatever plan or method of apportion- 
 ment is adopted must be reasonable and should be described in' 
 the return.48 The term "useful life" is interpreted to mean the 
 period of time over which an asset may be used for the purpose 
 for which it was acquired. In the case of a new building, this 
 period starts at the time the building is completed and capable 
 of being used. Buildings under construction are not subject to 
 a depreciation allowance for income-tax purposes.^" 
 
 Where in 1914 the United States government took over a 
 certain business from a corporation and held it until March, 
 1920, at which time it was returned to private ownership and 
 in 1919 the government paid to the corporation a sum of money 
 representing earnings from 1914 to April 6, 1917, and in 1920 
 paid a further sum as rental from April 6, 1917, to March, 1920, 
 it has been held that as there is no authority in the law for off- 
 setting against income received in one year losses sustained in 
 a prior year by reason of depreciation, only such depreciation 
 as has been sustained during the taxable periods covered by the 
 returns may be claimed.^i 
 
 MODIFICATION OF METHOD OF COMPUTING DEPRECIATION AL- 
 LOWANCE. If it develops that the useful life of the property 
 has been underestimated, the plan of computing depreciation 
 should be modified and the balance of the cost of the property, or 
 its fair market value as of March 1, 1913, not already provided 
 for through a depreciation reserve or deducted from book value, 
 should be spread over the estimated remaining life of the prop- 
 erty. No modification of the method should be made on account 
 of changes in the market value of the property from time to 
 time, such as, on the one hand, loss in rental value of buildings 
 due to deterioration of the neighborhood, or, on the other, ap- 
 
 48 Claiming depreciation in accordance with any practice other than 
 that of dividing the cost by the useful life of the property is first recog- 
 nized in this ruling. 
 
 49 Reg. 45„ Art. 165. 
 
 50 O. D. 845, T. B. 11-21-1510. An interesting question is presented as to 
 when depreciation may first be taken in the case, for instance, of a plant 
 the construction of which extends over a long period of time. It seems 
 clear that depreciation may be taken on any units of the plant from the 
 moment they are put in use. 
 
 51 0. D. 948, T. B. 24-21-1687. 
 
688 FEDERAL INCOME TAX 
 
 preciation due to increased demand. The conditions affecting 
 such market values should be taken into consideration only so 
 far as they affect the estimate of the useful life of the property.^- 
 Inasmuch as under the provisions of the Income Tax Acts in 
 effect prior to the Revenue Act of 1918 deductions for ob- 
 solescence of property were not allowed except as a loss for 
 the year in which the property was sold or permanently 
 abandoned, a taxpayer may for 1918 and subsequent years re- 
 vise the estimate of the useful life of any property so as to allow 
 for such future obsolescence as may be expected from experience 
 to result from the normal progress of the art."^ 
 
 Annual Allowances Measured by Life of Property. The annual 
 allowance may be determined by dividing the cost by the prob- 
 able number of years constituting the life of the property, the 
 result being the amount which may be deducted annually. The 
 life of the property necessarily depends upon its character, the 
 use to which it is put and the conditions under which it is used. 
 These elements being taken into consideration, taxpayers are 
 expected, as a result of experience and observation, to approx- 
 imate very closely the number of years constituting the life of 
 the property.^* If, after property has been used for a certain 
 purpose, it is put to another use by which it deteriorates more 
 rapidly the allowance for depreciation may be increased accord- 
 ingly. In estimating the life of the property it is assumed that 
 the owner will make such repairs and renewals as are necessary 
 to prevent undue deterioration. In the case of a building, for 
 instance, depreciation is to be based upon the life of the building 
 with regard to the number of years the building will remain in 
 a condition to be useful for the purpose for which it was con- 
 structed and .is used, not merely the number of years it will 
 stand without being condemned and torn down. In determining 
 the life of the building it is assumed that the owner will keep it 
 in good repair. 53 
 
 Where a taxpayer by order of an insurance company is obliged 
 to replace boilers, it has been held that the undepreciated cost 
 of the old boilers, less their salvage value, may be taken as a 
 loss for the taxable year in which the old boilers were scrapped. 
 The available supply of timber for the taxpayer's mill in the 
 above case is estimated to last five years. The new boilers upon 
 exhaustion of the timber supply in that region will be worth in 
 
 52 Reg. 45, Art. 166; Reg. 33 Rev., Art. 165. 
 
 53 Reg. 45, Art. 166, as amended by T. D. 3061, T. B. 37-20-1192. 
 
 54 T. D. 2152. 
 
 55 Cohen v. Lowe, 234 Fed. 474. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 689 
 
 a new location considerably less than the cost of removal and 
 will, therefore, be scrapped. The cost of the new boilers, less 
 salvage value, may be recovered by annual deductions spread 
 over the five-year period. Proper adjustment must be made in 
 the year the timber supply is exhausted and the mill abandoned 
 for any overestimate of the timber supply, or on the other hand, 
 any underestimate of the salvage value of the boilers. All bases 
 for depreciation must be fully described in the schedules at- 
 tached to the returns and the facts submitted must substantiate 
 the depreciation claimed.^o 
 
 INCIDENTAL REPAIRS TO PROPERTY ON WHICH DEPRECIATION IS 
 
 Claimed. Depreciation is not to be confused with ordinary re- 
 pairs. It is intended to cover the estimated lessening in value 
 of the original property, if any, due to exhaustion, wear and tear, 
 decay, or gradual decline from natural causes, inadequacy, ob- 
 solescence, etc., which at some time in the future will require the 
 abandonment or replacement of the property in spite of ordinary 
 current repairs.^'' Ordinary incidental repairs which keep the 
 property in an operating condition should not be charged to de- 
 preciation reserve; their cost should be charged to expense. A 
 building or a piece of machinery or other equipment, as a 
 whole, may deteriorate in value and usefulness by reason of 
 wear and tear regardless of the fact that certain minor com- 
 ponent parts may be renewed, restored or replaced. The depre- 
 ciation deduction contemplates the creation of a fund that will 
 renew, restore or replace the original property, when it has 
 become worn out or exhausted, regardless of the renewal and 
 restoration of parts that may have been made in the meantime. 
 Hence, in addition to the depreciation deduction, the expense of 
 incidental repairs which do not add to the value of the property, 
 but merely keep it in operating condition, and arrest deteriora- 
 tion, should be deducted as expense in the year in which the re- 
 pairs are made.^^ Thus, the lessee of a street railway, required 
 under the lease to return the leased property at the expiration 
 of the lease in as good condition as when received, may not take 
 deductions for det)reciation.59 
 
 Renewals to Property. It is possible in some instances that 
 worn out parts of a machine or similar equipment may be re- 
 newed, one after another, until the original machine or equip- 
 
 56 0. D. 871, T. B. 15-21-1562. 
 
 STSan Francisco Co. v. Scott, 253 Fed. 854. 
 
 58 Reg. 45, Art. 103. Letter from treasury department dated September 
 19, 1916; I. T. S. 1918, 111467; Reg. 33 Rev., Art. 131. 
 
 59 0. D. 1014, T. B. 35-21-1794. 
 
690 FEDERAL INCOME TAX 
 
 ment is swallowed up in the renewed parts. The machine or 
 equipment is then in as good operating condition as it was orig- 
 inally. In such cases, if the cost of renewed parts is charged to 
 operating expense, no deduction on account of depreciation 
 should be claimed as to such machine or equipment. And on the 
 other hand, if a reserve is set up to cover property which may 
 be renewed or restored part by part until the whole is renewed, 
 the cost of the renewed part should be charged to the deprecia- 
 tion reserve fund and not to expense.^" 
 
 It has been held under the 1909 Law that a railway company 
 was not entitled to deduct an amount for depreciation where by 
 reason of repairs, renewals and replacements the company "had 
 made good the normal amount of depreciation" and at the end 
 of the years in question the road was in normal condition to 
 carry on its business. It was held that the condition of the road 
 as a whole should be looked to and while there had been de- 
 preciation in various units of the property, this depreciation 
 was offset by the repairs, renewals and replacements which main- 
 tained the road throughout the years in question in fully as good 
 condition and at fully as great intrinsic value as at the be- 
 ginning of the respective years.^i 
 
 Additions and Betterments. Amounts expended in additions 
 and betterments or for furniture and fixtures, which constitute 
 an increase in capital investment and add to the value of the 
 assets, are not a proper deduction as expense, but such expendi- 
 tures when capitalized may be extinguished through annual de- 
 preciation deductions, which latter deductions will be computed 
 upon the basis of the cost and probable life of the property .''^ 
 
 Rate of Depreciation. The annual allowance for depreciation, 
 is required by law to be "reasonable." No fixed rates are pre- 
 scribed. The rule which has been established contemplates that 
 the taxpayer may determine his annual deduction by dividing 
 the cost of the property or the fair market price or value as of 
 March 1, 1913, if acquired prior thereto, by the probable number 
 of years constituting its life, in the manner indicated above, the 
 result being the amount which may be deducted annually.^'^ De- 
 
 60 Letter from treasury department dated September 19, 1916 ; I. T. S. 
 1918, 1[1467. 
 
 61 Nashville, Chattanooga & St. Louis Ry. Co. v. U. S., 269 Fed. 351. 
 
 02 Reg. 45, Art. 164; Reg. 33 Rev., Art. 132. 
 
 03 Reg. 45, Art. 161; Reg. 33 Rev., Art. 162; T. D. 2152. A collector virho 
 told taxpayers in his district that the amount of depreciation on frame build- 
 ings ■wa.s limited to 3%, and in case of brick buildings to 2%, was informed 
 by the Commissioner that while these rates might not be far from a reason- 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 691 
 
 preciation may also be claimed in accordance with any other rec- 
 ognized trade practice, such as an apportionment of the capital 
 sum over units of production.^* 
 
 Depreciation op Apartment Houses. In the case of an apart- 
 ment house the court has held that where the government al- 
 lowed 3 % of the cost as annual depreciation, the burden was on 
 the owner to show that this amount was too small, the court con- 
 sidering the rate to be reasonable in this case.*'^ 
 
 Depreciation of Steamers. In a case involving the deprecia- 
 tion of a steamer, it has been conceded that 5 % of the book value 
 thereof, which would contemplate a life of 20 years, was a rea- 
 sonable deduction.68 in the case of some ships constructed during 
 the war there seems to be a tendency to allow even a greater rate 
 of depreciatio^on the theory that the useful life will be less than 
 twenty years. Three per cent, has been held to be a reasonable 
 allowance for depreciation of bulk freight steamships on the 
 Great Lakes; however, when due to peculiar conditions, it can 
 be definitely determined that the established rate of depreciation 
 will not be sufficient to return all of the capital invested, as at the 
 date of acquisition or March 1, 1913, whichever is later, by the 
 time the vessel will be rendered useless, an addition to the 
 regular rate to cover obsolescence may be allowed. The amount 
 of this addition must be determined upon the basis of the facts 
 in each particular case — that is, the type of the vessel in ques- 
 tion, the fitness for possible use in other lines of transportation, 
 and the date when it can be definitely foreseen that she will be 
 no longer commercially useful in this particular line of traffic. 
 This rule does not necessarily apply to steamers engaged in 
 other lines of traffic, for the reason that there are distinct dif- 
 ferences in the method of construction and the matter of opera- 
 tion of package freighters and passenger steamers and the bulk 
 freighters under consideration.^T The department has held that 
 
 able and fair measure of depreciation sustained on such buildings, the rates 
 should not be considered as the "limit," as the probable number of years 
 constituting the life of the building might make the rate more or less than 
 the figures stated. (Letter from treasury department dated May 22, 1916; 
 I. T. S. 1918, Tf 1496.) It has been held in the case of a telephone com- 
 pany that the average life of the combined elements which make up the plant 
 is about 14 years and that the rate of depreciation properly chargeable 
 against the value of the plant as a whole is 7%. (Cumberland Tel. & Tel. 
 Co. V. Louisville, 187 Fed. 637, 654.) 
 
 64 Reg. 45, Art. 165. See note 48. 
 
 65 Cohen v. Lowe, 234 Fed. 474. 
 
 66 San Francisco Co. v. Scott, 253 Fed. 854. 
 
 67 A. R. R. 27, T. B. 9-20-773. 
 
692 FEDERAL INCOME TAX 
 
 the proper annual rate of depreciation on steam schooners en- 
 gaged in the coastwise lumber trade is 5%, based upon an ex- 
 pected life of 20 years.*58 
 
 Extraordinary Depreciation. When delicate machinery 
 designed for the manufacture of a certain product is used in 
 manufacturing a product of much coarser materials for which 
 use it is not fitted, and is operated at a heavy overload of its 
 normal capacity, the owner is entitled to deduct from gross 
 income an amount representing extraordinary depreciation.s^ 
 Where physical equipment of oil wells is subjected to deprecia- 
 tion from sulphur water in coal mines in the immediate vicinity, 
 it has been held that this condition is abnormal and a deprecia- 
 tion rate of 10% was allowed.™ 
 
 FACTORIES Running Night Shifts. When machinery and 
 equipment are operated more than the usual number of working 
 hours, a greater rate of depreciation may be applied in determin- 
 ing the annual exhaustion, wear and tear sustained than would 
 be permitted in the case of machinery normally operated only 
 eight or nine hours a day. No definite rulings have been made 
 as to the amount by which depreciation may be increased on 
 this account. Each case is considered in connection with all the 
 facts and figures relative thereto.''^ 
 
 Annual Allowance Must Be Charged Off on Books. A depre- 
 ciation allowance, in order to constitute an allowable deduction 
 from gross income, must be charged off. The particular manner 
 in which it shall be charged off is not material, except that the 
 amount measuring a reasonable allowance for depreciation must 
 be either deducted directly from the book value of the assets or 
 preferably credited to a depreciation reserve account, which 
 must be reflected in the annual balance sheet. A journal entry 
 alone is not sufficiept.'^^ -phe allowances should be computed and 
 charged off with express reference to specific items, units or 
 groups of property, each item or unit being considered separately 
 or specifically included in a group with others to which the same 
 factors apply. The taxpayer should keep such records as to each 
 item or unit of depreciable property as will permit the ready 
 verification of the factors used in computing the allowance for 
 
 68 A. R. E. 279, T. B. 42-20-1245. 
 
 69 A. R. R. 45, T. B. 16-20-862. 
 
 70 A. R. R. 570, T. B. 37-21-1818. 
 
 71 Letter from treasury department dated July 12, 1918; I. T. S. 1921, 
 11 1486. 
 
 72 Letter from treasury department dated May 18, 1916 ; I. T. S. 1918, 
 U 1591. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 693 
 
 each year for each item, unit or group.'^^ This charging off of 
 the depreciation allowance is required in order to insure that the 
 returns of the taxpayer are in accord with his books of account 
 and in order that error and fraud with respect to the facts may 
 be prevented. The statute is not, however, to be considered as 
 requiring that depreciation, depletion and other losses be 
 charged off within the taxable year. It is sufficient that they are 
 charged off before they are allowed as deductions. Consequently 
 the taxpayer may at any time reopen his books and charge off 
 depreciation which he actually sustained during the taxable year. 
 Pf the books are reopened for this purpose, corresponding cor- 
 rections must be made in the other book entries and if for any 
 reason the facts do not warrant such other charges it will be 
 held that the depreciation can not be charged off and therefore 
 can not be allowed as a deduction. For example, if by reason 
 of a distribution of earnings there is nothing from which to 
 credit a reserve for depreciation no allowance for depreciation 
 can be credited to a depreciation reserve account.'^* It has 
 been held, however, that in computing the taxable net income of 
 
 73 Reg. 45, Art. 169 ; letter from treasury department dated September 19, 
 1916; I. T. S. 1918, 111467; Keg. 33, Art. 130; Reg. 33 Rev., Art. 159; letter 
 from treasury department dated February 12, 1915 ; I. T. S. 1918, H 1526. 
 Neither the 1909 Law nor the 1913 Law required that in order to secure a 
 deduction for depreciation the amount claimed should be written off. It was, 
 nevertheless, held by the treasury department that a depreciation deduction, 
 in order to be allowable must be so entered upon the books of a corporation 
 as to constitute a liability against its assets. (Letter to collectors dated 
 August 27, 1914; I. T. S. 1918, If 1483.) In a later ruling it was held that;, 
 iinder these acts the writing oflf of depreciation would not be insisted upon 
 in the adjustment of returns filed for the years 1909 to 1915 inclusive. (T. D. 
 2481, dated April 10, 1917.) In the meantime the courts had held, under the 
 1909 Law, that the contention that no allowance for depreciation could be 
 claimed unless entered on the books of the company, recorded from time to 
 time, was without force (U. S. v. Nipissing Mines Co., 202 Fed. 803 reversed 
 in part on jurisdictional grounds, 206 Fed. 431) and that the fact that a 
 deduction was incorrectly carried on the books in surplus account did not 
 justify the government in disallowing it. (Forty-Fort Coal Co. v. Kirken- 
 dall, 233 Fed. 704.) The Supreme Court of the United States declined, in 
 Strattons' Independence v. Howbert, (231 U. S. 399) to answer the question 
 as to whether or not a book entry was necessary, since the question was not 
 properly brought before the court in that case. 
 
 74 Letter from treasury department dated June 25, 1919; I. T. S. 1918, 
 1i 2115; A. R. R. 377, T. B. 5-21-1415. The 1916 Law did not expressly re- 
 quire individuals to enter on their books the annual allowance for depre- 
 ciation but with respect to domestic corporations it expressly provided that 
 all losses, including the allowance for depreciation, must be "charged off" 
 within the year. Revenue Act of 1916, §§ 5 (a), 6 (a), 12 (a), 12 (b). As 
 to foreign corporations the law was silent. 
 
694 FEDERAL INCOME TAX 
 
 a corporation, it can not be denied a deduction on account of de- 
 preciation actually sustained and charged off, even though after 
 paying dividends there remains an amount of surplus and earn- 
 ings insufficient to cover depreciation ; and that in such case the 
 book value of the assets must be reduced by an amount equal to 
 the difference between the amount of the depreciation actually 
 sustained and charged off and the amount of the earnings and 
 surplus available for 'depreciation at the end of the taxable 
 period.''^ 
 
 Reserves for Depreciation. In early rulings it was held that 
 depreciation set up on the books and deducted from gross in- 
 come could not be used for any purpose other than making good 
 the loss sustained by reason of the wear and tear or exhaustion 
 of the property ; and that if any portion of the depreciation set 
 up was diverted to any purpose other than making good the loss 
 sustained by reason of such depreciation the amount would be 
 disallowed. It was also held that the investment of deprecia- 
 tion reserve funds in additions, betterments and improvements 
 was not contemplated by the law.'^f' The present ruling holds 
 that the allowance for depreciation is to be credited to an ap- 
 propriate reserve account and be carried as a liability against 
 the assets, to the end that when the total of these credits equals 
 the capital investment account no further deductions will be 
 allowed. There is no requirement of law that the funds repre- 
 sented by these reserve liabilities shall be held intact or remain 
 idle against the day when they may be used in making good the 
 depreciation of the property with respect to which the deduction 
 is claimed, or in restoring the capital investment in the depleted 
 assets. The depreciation reserve may be invested in assets of 
 any 4dnd.''"' 
 
 Closing Depreciation Account as to Any Item. If the use of 
 any property in the business is permanently discontinued, al- 
 though no sale or other disposition of the property has taken 
 
 75 A. R. M. 112, T. B. 10-21-1497. 
 
 76 Eeg. 33, Arts. 132 and 133 ; T. D. 2137. 
 
 77 T. D. 2481. It was stated in Revised Regulations No. 33 as follows: 
 "Depreciation set up on the books and deducted from gross income can not 
 be used for any purposes other than in making good the loss sustained by 
 reason of the wear and tear of the property with respect to which it is 
 claimed. If, however, an investment is made in extensions, additions, or 
 betterments of the company's own property, representing a part or the whole 
 of the credit balance of the depreciation reserve account, such investment 
 will not be considered a misuse or diversion of the depreciation deduction 
 otherwise allowable." (Reg. 33 Rev., Art. 164.) The language used in the 
 text above seems, however, to be a sounder statement of the law. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 695 
 
 place, a determination of any gain or loss may be made ; but any 
 deduction in respect of any loss thereon must be disclosed in the 
 taxpayer's return for the year in which the determination is 
 made and a full statement of the facts and the basis upon which 
 the computation is calculated must be attached, to the return. 
 Upon a sale or other disposition of the property, the considera- 
 tion received should be compared with the amount of the esti- 
 mated salvage value used in computing the gain or loss as above 
 provided, and the amount of the difference should be treated as 
 a gain or loss, as the case may be, of the year in which the sale 
 or other disposition took place."^^ Where a taxpayer engaged 
 in distilling has claimed a deduction for loss in 1917 due to the 
 abandonment of the business through operation of law, part of 
 such loss being disallowed by the department but a subsequent 
 sale in 1918 conclusively establishing the reasonableness of the 
 deduction, it has been ruled that the taxpayer may be allowed to 
 deduct for 1917 the amount claimed, his 1918 deduction being 
 correspondingly reducedJ^ 
 
 Obsolescence. The Revenue Act of 1921, like the former law, 
 provides that the deduction permitted to individuals or corpora- 
 tions for the exhaustion, wear and tear of property used in trade 
 or business, may include "a reasonable allowance for obsoles'- 
 cence."^ Obsolescence is that loss which occurs in respect of 
 tangible property from the changes due to the normal progress 
 of the art in which such property may be used, or to becoming 
 inadequate to the growing needs of the business.^i This defini- 
 tion, however, seems to be incomplete and does not take into "con- 
 sideration classes of property such as buildings, which may be- 
 come obsolete for the purposes for which they were erected. A 
 taxpayer who in computing depreciation allowances in returns 
 for years prior to 1918 has not taken ordinary obsolescence into 
 consideration may, for the year 1918 and subsequent years, re- 
 vise the estimate of the useful life of any property so as to allow 
 for such future obsolescence as may be expected from experience 
 to result from the normal progress of the art or the growing 
 needs of the business.^^ 
 
 78 Reg. 45, Art. 170. 
 
 79 A. R. R. 93, T. B. 19-20-919. 
 
 80 Revenue Act of 1921, §§ 214 (a) 8 and 234 (a) 7; Revenue Act of 1918, 
 §§ 214 (a) 8 and 234 (a) 7. 
 
 81 Reg. 45, Art. 162. See Chapter 25 for a discussion of "Loss of Useful 
 Value." 
 
 82 Reg. 45, Art. 166. 
 
696 FEDERAL INCOME TAX 
 
 No amount may be charged off in any year in anticipation of 
 obsolescence of a building which may become obsolete 5 or 10 
 years later. However, a certain amount of obsolescence may be 
 claimed from the time that it becomes certain that at a definite 
 future date the building will be obsolete. The figure represent- 
 ing obsolescence should be, approximately, the difference be- 
 tween the fair market value of the building as of March 1, 1913, 
 or its cost if acquired after that date, less depreciation, and the 
 estimated salvage value. This obsolescence should be spread 
 over the period from the time such obsolescence becomes certain 
 until the building becomes obsolete and should be claimed in 
 those years. For instance, the fair market value of a building 
 March 1, 1913, was $30,000. Its depreciated value December 
 31, 1918, was represented by $18,000, and its estimated salvage 
 value will be $5,000 in 1920. At that time (December 31, 1918) 
 it was definitely determined and certain that in 1920 the build- 
 ing would have to be torn down and rebuilt, due to its inade- 
 quacy to meet the growing needs of the industry it housed. The 
 difference between the depreciated value December 31, 1918, 
 namely, $18,000, and its estimated salvage value of $5,000, rep- 
 resents obsolescence. This amount of $13,000 should be spread 
 over the years covering the period 1919 and 1920 and deductions 
 claimed accordingly for those years. In cases where obsolescence 
 is claimed it must be supported by facts which will enable the 
 Commissioner to determine whether such claim is proper and 
 allowable.**^ 
 
 It has been held that a shipbuilding company is not entitled to 
 a deduction for obsolescence of its plant where it sells such plant 
 at less than its book value because of failure to obtain ship- 
 building contracts. In the case in which this ruling was made, 
 the company had owned shipbuilding plants for many years and 
 during 1917 and 1918 had greatly enlarged its plants for the 
 purpose of building ships for. the United States Shipping Board. 
 After the war the company found itself unable to obtain con- 
 tracts and sold its plants at a loss. Proper allowance had been 
 taken in its returns for amortization of its war facilities. The 
 loss actually sustained should be deducted as a loss arising from 
 sale and would be reflected in the company's return for the tax- 
 able year in which the property was sold.^* 
 
 83 O. D. 381, T. B. 4-20-704. 
 
 84 O. D. 753, T. B. 51-20-1353. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 697 
 
 In 1910 the docks and the larger harbors along the Great 
 Lakes were greatly enlarged and improved so that only vessels 
 of 10,000 tons capacity or larger could be conveniently or eco- 
 nomically accommodated. As a result of this condition the 
 larger and newer type of vessels could carry freight at a cheaper 
 rate than the 5,000 ton vessels previously generally in use and 
 began at that time to displace the smaller types. A great num- 
 ber of these smaller vessels built in 1910 were abandoned by the 
 end of 1921. Their salvage value was estimated at 20%. Since 
 prior to the Act of 1918, there was no provision in the Income 
 Tax Acts for deduction on account of loss due to obsolescence 
 and obsolescence was only taken care of by an allowance for 
 "loss of useful value" deductible only in the year in which the 
 property was sold or permanently abandoned, it has been held 
 that any loss on the 5,000 ton vessels due to obsolescence should 
 be spread over the period from 1910 to the date of abandonment 
 and that only that portion of such obsolescence which accrued 
 subsequent to January 1, 1918, can be taken in returns for 1918 
 and subsequent years. Any further loss not taken care of by 
 depreciation and obsolescence and not compensated for by insur- 
 ance or otherwise, may be taken in the year in which the vessels 
 are sold or scrapped.^s 
 
 OBSOLESCENCE UNDER 1916 LAW. The position taken by the 
 treasury department under the 1916 Law was that obsolescence 
 was not contemplated by the provision of the law relating to 
 depreciation, and that no other provision of the law permitted 
 an annual allowance with respect thereto, since neither the time 
 when property may become obsolete nor the loss when the stage 
 of obsolescence is reached, can be determined in advance with 
 any degree of certainty .^s The deduction for depreciation was 
 limited to the creation of a reserve fund, out of which the loss 
 due to use, wear, and tear might be compensated. It was not 
 considered possible to determine in advance when a piece of ma- 
 chinery, equipment or even a building would become obsolete 
 
 85 Sol. Op. 114, T. B. 31-21-1752. • 
 
 86 In earlier rulings, the treasury department held that depreciation ap- 
 plied to intangible property, subject to wear and tear, exhaustion or obso- 
 lescence (Reg. 33, Art. 129; T. D. 2005; T. D. 2077; T. D. 2090). In San 
 Francisco Co. v. Scott, 253 Fed. 854, a case arising under the 1909 Law, 
 which permitted the deduction of "losses * * * including a reasonable 
 allowance for depreciation, if any," the court held that depreciation, as used 
 in that law, was intended to cover the estimated lessening in value of the 
 original property, if any, due to wear and tear, decay or gradual decline 
 from natural causes, inadequacy, and "obsolescence.'' 
 
698 FEDERAL INCOME TAX 
 
 and the treasury department held that since obsolescence could 
 not be anticipated, an annual deduction would not be permitted 
 to provide therefor. ^^ Losses on account of obsolescence of phys- 
 ical property were permitted under the 1916 Law, however, as a 
 deduction under the heading of loss, provided their amount had 
 been recorded in the books following the condemnation and with- 
 drawal from use of the obsolete property. The amount of obso- 
 lescence was ascertained by deducting from the cost of the prop- 
 erty the sum of (a) the total amount that had been previously 
 deducted on account of the depreciation of the property, and (b) 
 its residuary value at the time of obsolescence, or (c) the* amount 
 received from the sale of the property. The obsolescence deduc- 
 tion could not include the accumulated depreciation applicable to 
 prior years.**** If no depreciation had been charged off on ac- 
 count of the property in respect of which obsolescence was 
 claimed from the gross income of prior years, the amount allow- 
 able as a deduction for the year in which the property became 
 obsolete was ascertained by deducting from the cost of the prop- 
 erty the sum of (a) its residuary value and (b) an amount equal 
 to the depreciation actually sustained during the prior period, 
 which might have been deducted when computed at the rate ap- 
 plicable to the same or similar property. The amount of depre- 
 ciation thus arrived at, as applicable to former years, might be 
 made the basis of amended returns, and a claim for a refund of 
 taxes overpaid, by reason of the fact that no depreciation deduc- 
 tion was claimed in such years, might be made.^^ 
 
 Obsolescence of Intangible Property. Obsolescence is not 
 ordinarily applicable in the case of intangibles, but will be al- 
 lowed in exceptional cases, as in the case of the discontinuance 
 of a going business because of the exhaustion of its source of 
 supply, where the cost of the good will, or its value as of March 
 1, 1913, if acquired prior to that date, can be definitely shown 
 and the period of its obsolescence determined with reasonable 
 accuracy. To sustain a claim for deduction for obsolescence of 
 good will, it must be shown that the good will will be of no value 
 at the close of an approximately definite period, and that the 
 taxpayer will be forced to discontinue the business and be unable 
 to continue in any similar business. An allowance for obsoles- 
 cence of good will will be made only in connection with such good 
 
 87 Letter from treasury department dated September 19, 1916; I. T. S. 
 1918, H 1467. 
 
 88 Reg. 33 Rev., Art. 178. 
 
 89 Reg. 33 Rev., Arts. 162 and 179. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 699 
 
 will as is assignable, as distinguished from good will attaching 
 to individuals owning or conducting a business, or to the premises 
 at which it is or was con(iucted; and no allowance for obsoles- 
 cence will be granted in any case where, in connection with the 
 operation of the business, the good will wiU be valuable in an- 
 other business after the termination of the business in which the 
 taxpayer is engaged. A corporation engaged in the business of 
 sampling ores is entitled to a deduction for obsolescence not only 
 of its plant and equipment, but for value of good will existing 
 and having a definitely estabhshed value as of March 1, 1913, or 
 acquired thereafter by capital outlay, if it can be shown that the 
 plant and equipment will be useless and the good will of no value 
 at the close of an approximately definite period by reason of ex- 
 haustion of the ores on which its business depends."" An in- 
 ventor of a war device, which undoubtedly had a large value on 
 January 1, 1918, when the war was on in full force, has been held 
 not entitled to claim a deduction for depreciation and obsolescence 
 based on the value of the' intangible property as of that date and 
 on December 31, 1918, after the signing of the armistice, when 
 it is claimed it had a very small value.^^ 
 
 Obsolescence in the Case of Distillers, Dealers in Liquor, etc. It 
 was first ruled by the treasury department that a reasonable 
 allowance for obsolescence of good will, trade-marks and trade 
 brands, the value of which has been impaired or destroyed by 
 prohibition legislation, might be taken by distillers and dealers in 
 liquor against earnings between November 21, 1918, the date 
 upon which the Agricultural Appropriation Act, providing for 
 war-time prohibition was enacted, and July 1, 1919, the date upon 
 which war-time prohibition became effective. The latter date 
 was subsequently changed to January 16, 1920, as stated below. 
 To sustain a claim for a deduction for obsolescence in respect of 
 good will, trade-marks, or trade brands, the taxpayer must show 
 
 00 O. D. 472, T. B. 17-20-884. 
 
 91 T. B. M. 39, T. B. 7-19-291. It is not clear whether obsolescence was 
 disallowed in this case on the ground that the cost of the patents, or their 
 fair market value on March 1, 1913, did not exceed their value at the end 
 of 1918, their value having merely appreciated during the war, or on the 
 ground that the ending of the war failed definitely to prove their obsolescence. 
 It would seem that obsolescence of patents should be allowed in many cases 
 as a result of the ending of the war if it can be definitely shown that as a 
 result thereof substantial contracts were cancelled or the patents otherwise 
 lost their value in whole or in part at the time of the armistice. In other 
 words, while the ending of the war might not per se constitute* sufficiently 
 tangible proof of the obsolescence, there might well be accompanying circum- 
 stances which would prove obsolescence beyond any doubt. 
 
700 FEDERAL INCOME TAX 
 
 that the value of the property in question was destroyed not later 
 than June 30, 1919, and that he is not continuing in any similar 
 trade or business. An allowance will be made only in respect of 
 such assets as are assignable as distinguished from those at- 
 taching to the individuals owning or conducting the business or 
 to the premises at which it is being or has been conducted. No 
 allowance for obsolescence. will be made in any case where, in 
 connection with the operation of his previous business, the tax- 
 payer has developed a good will, trade-mark, or trade brand that 
 is valuable in continuing a lawful business after June 30, 1919.^2 
 
 An allowance for obsolescence of intangible assets (trade- 
 marks, trade brands, etc.) of a corporation engaged in the whole- 
 sale and retail liquor business will not be permitted in 1917 if 
 the corporation had a considerable volume of sales in 1918 show- 
 ing that the intangible assets had some value on December 31, 
 1917, even though they may have shrunk considerably in value 
 by that date.^^ Deductions from gross income on account of de- 
 preciation or obsolescence of intangibles, such as good will, trade- 
 marks, and trade brands, allowed distillers and dealers in liquors, 
 are also applicable to brewers.^^ Property consisting of a plant, 
 including equipment for the manufacture of beer bottles, which 
 because of restrictions and regulations by the United States gov- 
 ernment on the brewery industry can not be sold and in conse- 
 quence the factory had to be closed, has, to the extent the prop- 
 erty or plant was constructed for the manufacture of beer bottles 
 and is not suited or adapted for any other purpose without re- 
 construction, become obsolete. The corporation to that extent 
 is entitled to a deduction for obsolescence. So much of the 
 shrinkage in value of the plant, if any, as is not thus due to 
 obsolescence can not be claimed as a deduction for loss until the 
 property is sold or becomes worthless and the loss is definitely 
 ascertained.95 
 
 The values will be based on those as at March 1, 1918, if the 
 good will, trade-marks, or trade brands were acquired or estab- 
 lished prior to that date, or at the actual cost thereof, if acquired 
 subsequent to February 28, 1913. Information helpful in es- 
 tablishing the values would be of the following general character: 
 A. Where the good will, trade-marks, or trade brands were ac- 
 quired prior to March 1, 1913: (1) The nature of business 
 (whether distillers, wholesalers, or retailers, or a combination 
 
 92 0. D. 818, T. B. 8-21-1465; O. D. 1001, T. B. 34-21-1780. 
 
 93 A. R. R. 185, T. B. 29-20-1076. 
 
 94 O. D. 298, T. B. 24-19-565. 
 
 95 O. D. 125, T. B. 3-19-190. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 701 
 
 thereof). (2) Date of foundation of business and whether or- 
 ganized as an individual, partnership, or corporation. Also date 
 and particulars of each change in the ownership or form of or- 
 ganization of the business, such as the admission or retirement 
 of a partner or partners ; the incorporation of a company and of 
 each reorganization thereof. (3) In respect to the trade-marks 
 or trade brands for which a deduction is claimed : (a) The date 
 established and by whom, (b) The date of acquisition by the 
 present owners, (c) The price paid therefor and whether paid 
 in cash or stock; if the latter, state the basis of the valuation 
 on which the purchase price was determined, (d) For each year 
 from 1900 or the date of the establishment of the trade-mark or 
 trade brand, if subsequent to that year, to 1919, inclusive: (I) 
 Annual sales (quantity and amount). (II) The gross profit on 
 sales (i. e., the difference between the selling price and the cost 
 price of the merchandise sold). (Ill) The total expenses and 
 losses of the business which, when deducted from the gross 
 profit on sales, will produce — (IV) The net income. Where the 
 records permit, the sales and gross profit on sales should be sub- 
 mitted for each class of merchandise sold and, if possible, for 
 each trade-mark or trade brajid in respect of which a deduction 
 is claimed. (V) The amount of capital invested in the business 
 (i. e., capital or capital stock and paid in or earned surplus and 
 undivided profits) as at the beginning of each year. (VI) The 
 amount included in the invested capital at the beginning of the 
 period in respect of good will, trade-marks, or trade brands and 
 the date and amount of each subsequent addition to the good will, 
 trade-marks, or trade brands, (e) Full details of each offer to 
 purchase any of the trade-marks or trade brands, setting forth 
 in particular the date of each offer, by whom and on whose be- 
 half made : the amount of each offer, and whether payable in cash 
 or stock ; and the date or dates on which the purchase price was 
 proposed to be paid, and the amounts to be paid on each such date. 
 (4) Where a deduction is claimed in respect of good will, as dis- 
 tinct from trade-marks or trade brands, the following informa- 
 tion should be submitted : (a) The date of acquisition, and from 
 whom acquired, (b) The amount paid therefor and whether paid 
 in cash or in stock. If the latter, state the basis of the valuation 
 on which the purchase price was arrived at. (c) For each year 
 from 1900 or the date of acquisition, if subsequent to that year, 
 to 1919, inclusive. (I) The annual sales of the business (quantity 
 and amount) classified, if possible, as to the various kinds of 
 merchandise sold. (II) Gross profit on each class of merchandise 
 sold, or if the records do not disclose the information, the gross 
 
702 FEDERAL INCOME TAX 
 
 profit of the business as a whole. (Ill) Total yearly expenses 
 and losses of the business which, when deducted from the gross 
 profit on sales, will produce — (IV) The net income from the busi- 
 ness. (V) The amount of capital invested in the business (i. e., 
 capital or capital stock and paid in or earned surplus and un- 
 divided profits), as at the beginning of each year. (VI) The 
 amount included in invested capital at the beginning of the period 
 in respect of good will and the date and amount of each subse- 
 quent addition to good will, trade-marks or trade brands, (d) 
 Full details of each offer to purchase the good will, setting forth 
 in particular the date of each offer ; by whom and in whose behalf 
 made; the amount of each offer and whether payable in cash or 
 in stock, and the date or dates on which the purchase price was 
 proposed to be paid, and if on more than one date, the amount 
 payable on each such date. B. Where good will, trade-marks or 
 trade brands were acquired subsequent to February 28, 1913: 
 (1) Dates of acquisition of good will or of each trade-mark or 
 trade brand. (2) From whom acquired. (3) Purchase price of 
 good will or of each trade-mark or trade brand. (4) Whether 
 purchased for cash or stock ; if the latter, state the basis of the 
 valuation on which the purchase price was arrived at. Similar 
 information to that suggested in A — 3d, and 3e, and in A — 4 
 should also be furnished for each of the five years prior to the 
 date of acquisition, and for each year thereafter up to and includ- 
 ing the year 1919. C. In the case of good will, trade-marks and 
 trade brands acquired prior to March 1, 1913, a statement should 
 be submitted showing the development of prohibition and local 
 option laws within the territory of the taxpayer during the five 
 years preceding March 1, 1913. Such statement should show 
 each prohibition or local option law enacted by any state or other 
 governmental unit within the business territory of the taxpayer, 
 and should also state the unsuccessful efforts at such legislation 
 during such period.^^ 
 
 An extension of the period set forth above against the earnings 
 of which the obsolescence might be taken as a deduction was 
 later granted and the treasury department has now ruled that in 
 arriving at the taxable income for the first taxable year ending 
 on or after January 31, 1918, the obsolescence fully accrued on 
 that date is to be allowed as a deduction in. computing the in- 
 come subject to taxation under the Revenue Act of 1918, plus 
 a further deduction of such proportion of the remaining value of 
 
 96 Letter from treasury department dated June 21, 1919; I. T. S. 1921, 
 H 1461. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 703 
 
 the intangible assets as the interval between January 31, 1918, 
 and the end of the taxable year bears to the total interval be- 
 tween January 31, 1918, and January 16, 1920, (unless at an 
 earlier date the taxpayer discontinues his business, in which case 
 such earlier date will mark the close of the period) , and that for 
 any taxable year following the taxable year just referred to a 
 deduction in respect of the value of such intangible assets on 
 January 31, 1918, based upon a ratable distribution will be per- 
 missible. It is the opinion of the treasury department that the 
 ratification of the eighteenth amendment in the month of Janu- 
 ary, 1918, by the states of Massachusetts, Maryland, and Ken- 
 tucky, was the first definite indication that the prohibition 
 amendment would be ratified by the requisite number of state 
 legislatures, and therefore that on January 31, 1918, a comput- 
 able portion of the cost of good will, trade-marks, trade brands, 
 or the value thereof, on March 1, 1913, if acquired prior thereto 
 (excluding any intangibles acquired since that date, the expendi- 
 tures of which were deductible and had been deducted in com- 
 puting income for tax purposes) had become obsolescent. On 
 January 31, 1918, the intangible assets had an actual value, viz. : 
 the then present value of the income to be derived therefrom be- 
 tween that date and January 16, 1920, or at an earlier date should 
 the taxpayer discontinue his business prior thereto. This value 
 as stated above should be distributed ratably over the period 
 from January 31, 1918, to January 16, 1920 (unless at an earlier 
 date the taxpayer discontinues his business, in which case such 
 earlier date will mark the close of the period) . The excess of the 
 cost of the intangibles or the V3.1ue thereof, on March 1, 1913, if 
 acquired prior thereto (subject to the exclusions mentioned 
 above), over the value thereof, as of January 31, 1918, deter- 
 mined as outlined above, will represent the amount of obsoles- 
 cence that was fully accrued on January 31, 1918.o'^ 
 
 Obsolescence of Vineyards. Where vineyards planted to wine 
 grapes appear to be rendered useless for profitable operation as 
 vineyards through the enactment of prohibition legislation, but 
 the owners continue to cultivate them in the hope that some new 
 and profitable use for the crop may be found, a reasonable de- 
 duction for obsolescence may be claimed. There being at the 
 time this ruling was made no data available upon which a de- 
 termination of what constitutes a reasonable deduction may be 
 made, a tentative deduction of one-half the loss which would re- 
 
 97 Letter from treasury department dated August 19, 1919; I. T. S. 1921. 
 1(1468; T. B. R. 44, T. B. 15-19-445. 
 
704' FEDERAL INCOME TAX 
 
 suit from the total abandonment of the property for vineyard 
 purposes was allowed in the return for the year in which the 
 legislation was enacted, subject to adjustment when the success 
 or failure of the experiment shall have been satisfactorily estab- 
 lished. Where vineyards devoted to the growing of wine grapes 
 are, as a result of prohibition legislation, abandoned as vineyards 
 and the vines and improvements incidental solely to grape grow- 
 ing are junked and the land employed in other uses, the loss 
 directly resulting may be deducted in determining the net income 
 of the owner, care being taken to exclude from the deduction the 
 value of any improvements, such as installation of drainage or 
 irrigation, fencing, breaking up of the soil, and similar improve- 
 ments which, while incidental to the planting of the vineyard, 
 tend to permanently improve the ground for other uses. The 
 allowance for obsolescence will be distributed over the period 
 elapsing between the passage of the prohibition measure and the 
 date when abandonment occurs. In general, no deduction for 
 obsolescence or obsoleteness is allowable in the case of land, but 
 in exceptional cases, where the loss of usefulness through prohi- 
 bition legislation is so great that the land practically becomes 
 worthless, the taxpayer may, upon proper showing, be allowed 
 a reasonable reduction on that account for the land as well as for 
 the vines and improvements. In this case the cost or value used 
 as the basis of such deduction for obsolescence or obsoleteness 
 may properly include the value of any improvements which when 
 made were regarded as permanently improving the land, and 
 which have not heretofore been charged off as expenses. In the 
 case where the entire deduction is claimed in a single year by rea- 
 son of actual abandonment on account of obsolescence of land, 
 vines, and improvements, the amount of such deduction will be 
 the difference between the value on March 1, 1913, if acquired 
 prior to that date, or the cost, if acquired on or after that date, 
 and the salvage or junk value, taking into account any deduc- 
 tions or obsolescence previously allowed. Where a reasonable 
 allowance for obsolescence is claimed before actual abandonment, 
 to be spread over a period of two or more years,' care must be 
 taken to eliminate from the sum used as the basis of the allow- 
 ance any general decrease in the value of real estate due to other 
 causes, such decrease being deductible only when definitely de- 
 termined through sale. Any return of income from vineyard 
 property in which a deduction is claimed as a result of obsoles- 
 cence must be accompanied by an affidavit setting forth fully the 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 705 
 
 facts necessary to a determination of the loss properly chargeable 
 to obsolescence under the rules above stated.^* 
 
 Amortization. The 1916 Law made no provision for amorti- 
 zation of plants or equipment acquired for government contract 
 work. That law allowed the taxpayer only ordinary depreciation 
 due to exhaustion, wear and tear, without considering the ele- 
 ments of amortization or obsolescence.^^ The Revenue Act of 
 1918, however, provided that, (a) in the case of buildings, ma- 
 chinery, equipment or other facilities constructed, erected, in- 
 stalled or acquired on or after April 6, 1917, for the production 
 of articles contributing to the prosecution of the war with Ger- 
 many, and (b) in the case of vessels constructed or acquired on 
 or after April 6, 1917, for the transportation of articles or men 
 contributing to the prosecution of the war with Germany, there 
 shall be allowed a reasonable deduction for the amortization of 
 such part of the cost of such facilities or vessels as has been borne 
 by the taxpayer. This allowance might not again include any 
 amount otherwise allowed under the Revenue Act of 1918 or pre- 
 vious laws as a deduction in computing net income. At any time 
 within three years after the termination of the recent war with 
 Germany, as fixed by proclamation of the President, the Commis- 
 sioner might, and at the request of the taxpayer was obliged to, 
 re-examine the return and if he then found, as a result of the 
 appraisal or from other evidence, that the deduction originally 
 allowed for amortization was incorrect, the income tax and war- 
 profits and excess-profits taxes for the year or years afifected, 
 was required to be redetermined, and the amount of tax upon 
 such redetermination, if any, paid upon notice and demand by 
 the collector. The amount of tax overpaid, if any, was required 
 to be credited or refunded to the taxpayer.^oo T^g 1921 Law 
 contains the same provision except that the deduction will be 
 
 98 O. 862, T. B. 8-19-320, modifying O. D. 102, T. B. 2-19-150, and super- 
 seding T. B. M. 18, T. B. 4-19-219. 
 
 99 Letter from treasury department dated January 4, 1919 ; I. T. S. 1918, 
 H 3716. See p. 697 for a discussion of obsolescence under the 1916 Law. 
 
 100 Revenue Act of 1918, §§214 (a) 9, 234 (a) 8. The Committee on 
 Appeals and Review is of the opinion that Congress in using the phrase "at 
 any time within three years after the termination of the present war" in- 
 tended to place a limitation only upon the latest date before which the con- 
 templated redetermination must be made and that it was not the purpose 
 of Congress to place a limitation upon the earliest date at which such re- 
 determination might be undertaken. Taxpayers, therefore, need not await 
 the formal termination of the war, but may present to the Commissioner 
 their claim for a redetermination at any time prior to three years after such 
 termination. (A. R. M. 10, T. B. 31-19-646.) 
 
706 FEDERAL INCOME TAX 
 
 allowed "for any taxable year ending before March 3, 1924 (if 
 claim therefor was made at the time of filing return for the 
 taxable year 1918, 1919, 1920, or 1921)", and the words "before 
 March 31, 1924" are inserted in place of the words "within three 
 years after the termination of the present war." The rulings 
 indicated in the following paragraphs were made under the amor- 
 tization provision of the 1918 Law, and should be followed under 
 the present law. 
 
 Claims Must Be Differentiated in Eeturn. Claims for 
 amortization must be unmistakably differentiated in the return 
 from all other claims for wear, tear, obsolescence, and loss. No 
 such claim will be allowed unless it is reflected in any accounts 
 submitted by the taxpayer to stockholders and in any credit 
 statements by the taxpayer to banks, and is given full effect on 
 his financial books of account. If government or other contracts 
 taken by the taxpayer contained recognition of amortization as 
 an element in the cost of production, copies of such contracts 
 must be filed with the taxpayer's return, together with a state- 
 ment and description of any sums received on account of amorti- 
 zation and the basis upon which they were determined. 
 
 Effect Upon Invested Capital. In any case in which an 
 allowance has been made for amortization of cost, the taxpayer 
 will not be allowed to restore to his invested capital for the pur- 
 pose of the excess-profits tax any portion of the amount covered 
 by such allowance.!"! Where a taxpayer in filing his returns for 
 the years 1916 and 1917, claimed a deduction for amortization to 
 the same extent as claimed in his Munition Manufacturers' Tax 
 returns and was allowed this deduction by the department, it has 
 been held that he might file amended returns for the years af- 
 fected, excluding therefrom as deductions the charges for amor- 
 tization as originally filed and that the deductions thus excluded 
 might be allowed as additions to the invested capital of the tax- 
 payer.102 
 
 Scope of Provision for Amortization. All allowances made 
 to a taxpayer by a contracting department of the government, 
 or by any other contractor, for amortization or fall in the value 
 of property, whether such allowances were made as a part of the 
 price of the product or in settlement of claims arising out of the 
 cancellation or termination of contracts, must be included in 
 gross income. All payments arising out of the settlement of such 
 
 101 Reg. 45, Art. 186. For definition of the term "government contract" 
 see Reg. 45, Art. 1510, and Chapter 43. 
 
 102 A. R. R. 349, T. B. 52-20-1367. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 707 
 
 claims must be included in the accrued income of the taxable year 
 in which such cancellation or termination (whether formal or in- 
 formal) occurred. The amount of amortization to be allowed as 
 a deduction from gross income, for the purpose of the tax, should 
 be computed in accordance with the rule set forth in this and the 
 following paragraphs, pursuant to which the deduction must be 
 made, and not upon the basis of any amounts contractually or 
 otherwise determined.io^ 
 
 Depreciation of Amortized Property. The allowance for 
 amortization will be inclusive of all depreciation during the 
 amortization period on property subject to amortization. Depre- 
 ciation will be allowed, beginning at the close of the amortiza- 
 tion period, upon property the cost of which has been partly 
 amortized. Depreciation on partly amortized property will be 
 based on the value of such property after the amortization allow- 
 ance has been deducted. Property which has been amortized to 
 its scrap value will not further be subject to depreciation. i"* 
 
 Property the Cost of Which May Be Amortized. The tax- 
 payer may deduct from gross income a reasonable allowance for 
 amortization; such deduction not to be in excess of the cost of 
 buildings, machinery, equipment, or other facilities constructed, 
 erected, installed, or acquired on or after April 6, 1917, for the 
 production of articles contributing to the prosecution of the 
 recent* war, or of vessels constructed or acquired on or after 
 such date for the transportation of articles or men contributing 
 to the prosecution of the recent war. In the case of property 
 the construction, erection, installation or acquisition of which 
 was commenced before April 6, 1917, and completed subsequent 
 to that date, amortization will be allowed with respect only to 
 that part of the cost incurred on or after April 6, 1917, and which 
 was properly entered on the books of the taxpayer on or after 
 that date.^"^ Machinery, equipment or other facilities erected or 
 acquired on or after April 6, 1917, for the production or manu- 
 facture of sugar are considered as contributing to the prosecu- 
 tion of the war and the cost may, therefore, be amortized.^"® A 
 claim for amortization on additional facilities acquired and built 
 by a railroad subsequent to April 6, 1917, to meet the additional 
 demands upon such road arising out of the prosecution of the war 
 has been denied on the ground that it was not within the pro- 
 ws Reg. 45, Art. 181, as amended by T. D. 3123, T. B. 6-21-1439. 
 10* Reg. 45, Art. 182, as amended by T. D. 3123, T. B. 6-21-1439. 
 
 105 Reg. 45, Art. 183, as amended by T. D. 3123, T. p. 6-21-1439. 
 
 106 O. D. 259, T. B. 16-19-464. 
 
708 FEDERAL INCOME TAX 
 
 vision of the 1918 Law.M^ Yet the word "facilities" is very broad, 
 unless it is limited as a general term to the same class as the 
 special terms immediately preceding.ws The term "articles con- 
 tributing to the prosecution" of the war is also very general. 
 Rulings made by the War Industries Board should be helpful in 
 determining whether articles fell within this classification. 
 
 Cost Which May Be Amortized. The total amount subject 
 to amortization will be the difference between the original cost 
 of the property if constructed, erected, installed or acquired on 
 or after April 6, 1917; or if acquired partly before and partly 
 after April 6, 1917, then that part of the cost incurred on or after 
 April 6, 1917, and properly entered on the books of the taxpayer 
 on or after that date, less any amounts deducted for deprecia- 
 tion, losses, etc., prior to January 1, 1918, and the value of the 
 property on either of the bases indicated below : 
 
 1. In the case of property useful to the taxpayer only during 
 the period of its operation as a war facility and which has been 
 sold or permanently discarded, or which will be sold or perma- 
 nently discarded before March 3, 1924, the value will be the 
 actual sale price or estimated fair market value as of the date 
 when the property was or will be permanently discarded, such 
 fair market value to be re-established at and as of the time of 
 the investigation by engineers of the Bureau of Internal Revenue. 
 
 2. In the case of property not included in (1) above, the value 
 will be the estimated value to the taxpayer in terms of its actual 
 use or employment in his going business ; such value to be not less 
 than the sale or salvage value of the property: Provided, how- 
 ever, That for the purposes of returns made in 1919, the pre- 
 liminary estimate of the amount of such amortization shall not, 
 in any case, have exceeded 25% of the cost of the property. In 
 the determination, by engineers of the Bureau of Internal Rev- 
 enue, of the proper amortization allowance, the estimated value 
 to the taxpayer of the property in terms of its actual use or em- 
 ployment in his going business, will be as of the time of such 
 determination. In the final determination, the amount of the 
 amortization allowance will be ascertained upon the basis of 
 stable post war conditions under regulations to be promulgated 
 when these conditions become apparent. 
 
 Special record of all property falling in (1) above, must be pre- 
 
 107 L. O. 1074, T. B. 45-21-1909. Congress recognized that the language 
 first used was not broad enough to embrace transportation facilities and 
 broadened the section only in so far as to include vessels (Report of Senate. 
 Committee on Finance, dated December 6, 1918). 
 
 lOS See Chapter 47. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 709 
 
 served by the taxpayer, and the Commissioner must be promptly 
 notified (a) if, after having been in good faith permanently dis- 
 carded or dismantled, property shall in any case be restored to 
 use because of conditions not foreseen or anticipated at the time 
 it was discarded; or (&) of the selling price, if sold-^^^ 
 
 109 Reg. 45, Art. 184, as amended by T. D. 2859 and further amended by 
 T. D. 3123, T. B. 6-21-1439. It is to be noted that the original ruling of the 
 treasury department in this connection read as follows: "The total amount 
 to be extinguished by amortization is the difference between the original 
 cost to the taxpayer of the property and. its value to the taxpayer at the 
 close of the amortization period (a) for sale or (b) for use, immediate or 
 prospective, as part of the plant or equipment of a going business, which- 
 ever value is the larger, less any amounts otherwise deducted or deductible 
 for wear, tear, obsolescence and loss. In the case of property constructed or 
 the installation of which was commenced before April 6, 1917, and com- 
 pleted subsequent to that date amortization will be allowed with respect 
 only to the cost incurred on or after April 6, 1917." It was then ruled: 
 "In the case of other property the basis is the estimated reproduction cost 
 as of April, 1919, of such property in its then condition. In the final de- 
 termination such cost will be ascertained under stable postwar conditions, 
 without reference to such date." The present regulation, as well as the 
 regulation as promulgated by T. D. 2859, more justly carries out the intent 
 of the statute to allow a deduction because of expenditures made during 
 war time which would not have been made under peace conditions, for the 
 reason that the normal business of the taxpayer would not have required 
 increased facilities. Senator Simmons in discussing this provision in the 
 senate, February 11, 1919, said: "I can answer the senator generally by 
 saying that if by reason of the investment of his proiits in an extension of 
 his yards he has constructed a plant which was necessary in time of war to 
 meet the demands which were made upon him at that time for production, 
 but which after the termination of the war has depreciated in value because 
 not needed; in that case, under the amortization provision he will be allowed 
 to amortize to the full extent of the depreciation value. Of course, if there 
 is salvage he would be allowed to amortize only down to the salvage value." 
 (Congressional Record, February 17, 1919, p. 3774.) Under the rule estab- 
 lished by the regulation last quoted "reproduction cost" as of April, 1919, 
 which in most cases would exceed the cost of property to be amortized was 
 taken as a temporary basis, final determination being postponed until 
 "stable postwar conditions" arrived. In order, therefore, to have secured 
 present relief by virtue of the amortization provision of the statute by ex- 
 tinguishing amortization by the difference between "salvage value" and 
 original cost, the taxpayer must have permanently discarded property be- 
 fore December 15, 1919 (or the last installment date). The injustice of 
 taking "salvage value" in one case and "reproduction cost" in another may 
 be illustrated by the case of the taxpayer who had purchased two machines 
 and discarded one of them, and another taxpayer who had purchased one 
 machine of a capacity equivalent to the capacity of the- two machines of the 
 first taxpayer. Under the last quoted rule, the former would immediately 
 obtain the benefit of the amortization provision and the latter would not 
 have obtained it until the problematical time when "stable postwar condi- 
 tions" return, if ever. This came close to being arbitrary discrimination. 
 
710 FEDERAL INCOME TAX 
 
 In any case where a taxpayer has deducted on account of 
 amortization an amount in excess of the preliminary estimate of 
 25% of the cost of property and it is found upon consideration 
 that he is entitled to an amount exceeding 25 7o of the cost of 
 the property, but less than the amount originally deducted, the 
 5% penalty and 1% interest on account of negligence has been 
 held due on account of amortization claimed but disallowed in the 
 return for 1918. In the event that the case is reopened within a 
 period of three years and an additional amount of amortization 
 allowed, the penalty and, interest will not attach to the amount 
 of tax based on the additional allowance granted. In other words, 
 penalty and interest should attach only to such amount of tax as, 
 upon final settlement, is found to have been due to the govern- 
 ment and not paid at the time of filing return by reason of the 
 taxpayer's disregard of the regulations. i^" 
 
 Amortization Period. The amortization allowance will be 
 spread in proportion to the net income (computed without benefit 
 of' the amortization allowance) between January 1, 1918 (or if 
 the property was acquired subsequent to that date, January 1st of 
 the year in which acquired) , and either of the following dates : 
 
 (a) If the claim is based on (1) of the preceding paragraph, 
 the date when the property was or will be sold or permanently 
 discarded as a war facility; or (6) if the claim is based on (2) of 
 the preceding paragraph, the actual or estimated date of cessa- 
 tion of operation as a war facility. 
 
 All taxpayers claiming an allowance for amortization should 
 compute (or, to the extent that accurate computations can not 
 be made, should estimate) the amount of their net income for 
 the period between January 1, 1918, and the datefe specified above, 
 and should also compute (or estimate as above) that part thereof 
 properly assignable to each of the calendar years falling within 
 the amortization period ; and the amount of income so computed 
 or estimated will be the basis for apportioning the amounts of 
 amortisation applicable to each of the calendar years affected. 
 
 110 A. R. M. 24, T. B. 3-20-692. This 25% limitation upon the amount 
 which might be deducted in 1919 returns is hardly supported b^ a statute 
 prescribing a "reasonable" deduction, unless in the particular case 25% 
 is a reasonable deduction. The above ruling recognizes the tentative quality 
 of the 25% limitation, and makes that limitation simply a penalty upon 
 honest as well as fraudulent calculations of the deduction in 1919 returns. 
 In effect it was an attempt to induce conservative calculations. It hardly 
 seems fair, if technically permissible, to assess a penalty upon honest over- 
 estimates, made at a time when the difficulty of making any estimate hardly 
 needs statement. For cases that a regulation in conflict with the statute is 
 invalid, see Chapter 47. 
 
DEPRECIATION, OBSOLESCENCE AND AMORTIZATION 711 
 
 Taxpayers reporting on the fiscal year basis should (a) in all com- 
 putations based upon 1918 rates for fiscal years ending in 1918 
 and 1919, use the amount of such allowance apportioned to the 
 calendar year 1918; (b) in all computations based upon 1919 
 rates for a year beginning in 1918 and ending in 1919, use the 
 amount of such allowance apportioned to the calendar year 1919 ; 
 and (c) in all computations for subsequent fiscal years, use the 
 number of twelfths of the allowance apportioned to each calendar 
 year falling within such fiscal year that there are months of such 
 calendar year falling within such fiscal year.m A claim for 
 amortization applicable to the portion of the calendar year 1918 
 covered by the return of the taxpayer for the taxable year 1918 
 should be included in such return and if such amortization is not 
 claimed therein it may not be taken in the return covering the 
 taxable year 1919. The return for the taxable year 1919 should 
 provide only for the proper amortization applicable to such tax- 
 able year ascertained in accordance with the above provisions. 
 However, in cases where it was impracticable to determine ac- 
 curately the amortization during the calendar year 1919, any re- 
 turns made during such period should include amortization allow- 
 ances tentatively determined in accordance with this and the pre- 
 ceding paragraphs. Returns made for the taxable year 1918, in 
 cases where the taxpayers are entitled to amortization claims 
 should include such claims ascertained as above provided, and if 
 subsequently the amortization as finally determined differs essen- 
 tially from the amount claimed in the returns filed, then amended 
 returns should be made.^^^ 
 
 Redetermination of Amortization Allowance. Re- 
 determination of the deduction allowed on account of amortiza- 
 tion may, or at the request of the taxpayer must, be made by 
 the Commissioner at any time within three years after the ter- 
 mination of the recent war (March 3, 1924) , and if as a result of 
 an appraisal or from other evidence it is found that the deduc- 
 tion originally allowed was incorrect, the amount of tax due for 
 each taxable year during the amortization period will be adjusted 
 by additional assessment or by refund.^^^ 
 
 Sale of Amortized Property. In the case of the bona fide 
 sale of amortized property before three years from the termina- 
 tion of the war, the sale price thereof will be considered as re- 
 flecting the correctness or incorrectness of the amortization al- 
 
 111 Reg. 45, Art. 185, as amended by T. D. 3123, T. B. 6-21-1439. 
 
 112 Letter from treasury department dated June 9, 1919 ; I. T. S. 1919, 
 TI 8391. 
 
 113 Reg. 45, Art. 187. 
 
712 FEDERAL INCOME TAX 
 
 lowance made, due allowance being made for depreciation sus- 
 tained since the close of the amortization period.^i* 
 
 Information to Be Furnished by Taxpayer. The taxpayer's 
 claim for amortization must be complete and comprehensive in 
 all respects. The Commissioner will not entertain claims which 
 do not clearly set forth full data with respect to the property 
 which it is desired to amortize. To assist the taxpayer in com- 
 piling this information the Commissioner has prepared Guide 
 Form 1007-M, which explains in detail the manner in which 
 claims for amortization should be presented. A copy of this 
 guide form will be furnished to the taxpayer upon application to 
 the Commissioner."^ 
 
 11* Reg. 45, Art. 188, as amended by T. D. 3123, T. B. 6-21-1439. 
 115 Reg. 45, Art. 189 ; T. D. 3123, T. B. 6-21-1439. 
 
CHAPTER 27 
 DEPLETION — IN GENERAL 
 
 The Revenue Act of 1921 contains a provision for the deduc- 
 tion of an allowance for depletion in the case of mines, oil wells, 
 gas wells or any other natural deposits and timber.^ The same 
 allowance is permitted to individuals as to corporations and is., 
 permitted to nonresident aliens or foreign corporations with re- 
 spect to property located in the United States. Depletion is the 
 loss sustained through the progressive removal or exhaustion of 
 natural resources, such as a mineral deposit or timber supply.^ 
 Depletion allowances are made because mineral deposits and tim- 
 ber supplies are exhaustible and because each unit removed re- 
 duces the amount recoverable, and hence the value of the prop- 
 erty. The depletion provisions of the 1918 Law was identical with 
 that of the present law, except that it did not contain the 
 limitation prescribed by the Revenue Act of 1921 in regard to 
 depletion based on discovery values.^ The 1916 Law provided 
 for an allowance for depletion in the case of mines, oil and gas 
 wells.* 
 
 That law provided, in the case of oil and gas wells, a reason- 
 able allowance for actual reduction in flow and production, and in 
 the case of mines a reasonable allowance not to exceed the mar- 
 ket value in the mine of the product thereof which had been 
 mined and sold during the year for which the return and com- 
 putation were made. The present law does not limit the de- 
 duction for depletion in the same way, but permits a reason- 
 able allowance according to the peculiar conditions of each case. 
 The 1916 Law, the 1918 Law and the present law permit the al- 
 lowance for depletion to be based upon the value of the property 
 as of March 1, 1913, or the cost, if the property has been ac- 
 quired since that date. The 1916 Law made no reference to 
 
 1 Revenue Act of 1921, § 214 (a) 1, 234 (a) 9. 
 
 2 This is forcibly stated in the latest Manual of the Oil and Gas In- 
 dustry (p. 17) as follows: "These reserves are wasting assets from the 
 moment production begins, for the reason that there is no recuperation or 
 rehabilitation of any part or portion that has been removed from the 
 rock containing them. They are gone forever so far as human needs are 
 concerned. The only way to meet the increased requirements of industry 
 is to exhaust separate reserves rapidly and discover new sources of supply." 
 
 3 See Revenue Act of 1918, §§ 214 (a) 10 and 234 (a) 9. 
 * Revenue Act of 1916, §§ 5, 6 and 12. 
 
 713 
 
714 FEDERAL INCOME TAX 
 
 lessees and the treasury department ruled thereunder that a 
 lessee could claim no depletion with respect to the value of the 
 natural deposit on March 1, 1913.5 The present law provides 
 that in the case of leases the deduction shall be equitably ap- 
 portioned between the lessor and the lessee. With respect to de- 
 pletion the treasury department has ruled as stated in the fol- 
 lowing paragraphs.6 These rulings, while made under the 1918 
 Law, will be equally applicable under the present law. 
 
 Depletion of Mines, Oil and Gas Wells; Depreciation of Im- 
 provements.' The Revenue Act of 19218 provides that taxpayers 
 shall be allowed as a deduction in computing net income in the 
 case of natural deposits a reasonable allowance for depletion 
 of mineral and for depreciation of improvements. The pro- 
 visions of the statute and the rules stated in this and the follow- 
 ing paragraphs do not apply to or affect the regulations covering 
 invested capital, losses, and accounting methods. The essence 
 of these provisions of the statute is that the owner of mineral 
 deposits, whether freehold or leasehold,^ shall within the limi- 
 tations prescribed, secure through an aggregate of annual de- 
 pletion and depreciation deductions the return of either (a) his 
 capital invested in the property, or (&) the value of his property 
 on the basic date, plus subsequent allowable capital additions, 
 but not including land values for purposes other than the ex- 
 traction of minerals. Operating owners, lessors, and lessees, 
 whether corporations or individuals, are entitled to deduct an al- 
 lowance for depletion and depreciation, but a stockholder in 
 a mining or oil or gas corporation is not allowed such deduc- 
 tions. 
 
 Definition of Terms. When used in this and the following 
 chapters : 
 
 (a) The term "basic date" indicates the date of valuation, i. e., 
 March 1, 1913, in the case of property acquired prior thereto, the 
 date of acquisition in the case of property acquired on or after 
 March 1, 1913, or the date of discovery, or within 30 days there- 
 after, in the case of discovery. 
 
 5 See paragraph "Rule as to Lessees under Prior Laws," p. 728. 
 
 6 This chapter gives only the general rules with respect to depletion. 
 The special rules with respect to mines, oil and gas wells, and timber 
 are given in the chapters following. 
 
 7 Reg. 45, Art. 201. 
 
 8 §§ 214 (a) 10 and 234 (a) 9. 
 
 9 Under the 1916 Law no allowance for depletion was permitted in the 
 case of a lessee, but the lessee was permitted to claim "depreciation" on 
 the actual bonus or other cost incurred in acquiring and developing prop- 
 erty. (See p. 728.) 
 
DEPLETION — IN GENERAL 715 
 
 (6) The "fair market value" of a property is that amount 
 which would induce a willing seller to sell and a willing buyer to 
 purchase. Where there has been no sale and the fair market 
 value at the basic date is to be used, such value will be determined 
 by the method which a prospective vendor and vendee in the in- 
 dustry would use in arriving at the sale value of the property at 
 the basic date.^o 
 
 (c) A "mineral property" or "property" is the oil or gas well, 
 including the mineral, plant, development, and surface value of 
 the land. The value of a mineral property is the combined value 
 of its component parts. 
 
 (d) A "mineral deposit" refers to "minerals only," such as 
 the "ores only" in the case of a mine, to the "oil only" in the case 
 of an oil well, and to the "gas only" in the case of a gas well. 
 The value of a mineral deposit is its cost; or it is the value of 
 the mineral property, less the value of the plant, equipment, and 
 surface of the land for purposes other than mineral production. 
 
 (e) "Minerals" comprise ores of the metals, coal, oil, gas, and 
 such nonmetallic substances as abrasives, asbestos, asphaltum, 
 barytes, borax, building stone, cement rock, clay, crushed stone, 
 feldspar, iiuorspar, fuller's earth, graphite, gypsum, limestone, 
 magnesite, marl, mica, mineral pigments, peat, potash, precious 
 stones, refractories, rock phosphate, salt, sand and gravel, silicia, 
 slate, soapstone, soda, sulphur, and talc. 
 
 (/) "Operating profit" is the net income from mineral produc- 
 tion before depletion and depreciation are deducted. It is dis- 
 tinct from net income.^^ 
 
 Capital Recoverable Through Depletion Deduction in Case of 
 an Operating Owner.^^ In the case of an operating owner in fee, 
 the capital remaining in any year recoverable through depletion 
 and depreciation's deductions is (a) the cost or value of the prop- 
 erty at the basic date plus (b) subsequent allowable capital addi- 
 tions and minus (c) depletion and depreciation sustained, 
 
 10 The meaning of the term "fair market value" is discussed in Chapter 
 17, as well as the character of evidence which is acceptable in proof 
 hereof. 
 
 11 Reg. 45, Art. 201. 
 
 12 Eeg. 45, Art. 202. 
 
 13 Depreciation should be claimed on all physical property. The 
 "physical property" as to which depreciation, as distinguished from de- 
 pletion, should be claimed in the case of the oil and gas industry is enu- 
 merated elsewhere in this book. (See p. 764.) Depletion applies only to the 
 loss due to exhaustion of the natural resource. , 
 
716 FEDERAL INCOME TAX 
 
 ' whether legally allowable or not," from the basic date to the 
 taxable year, and minus (d) the value of the land at the basic 
 date for other purposes than mineral production.is The capital 
 recoverable through depletion is the total capital remaining less 
 the sum recoverable through depreciation. 
 
 Capital Recoverable Through Depletion Allowance in Case of 
 Lessee." (a) In the case of a lessee, the capital remaining in any 
 year recoverable through depletion and depreciation deductions 
 is (1) the value as of the basic date of the lessee's equity in the 
 property plus (2) subsequent allowable capital additions but 
 minus (3) depletion and depreciation sustained, whether legally 
 allowable or not, from the basic date to the taxable year. The 
 capital recoverable through depletion is the total capital re- 
 maining less the sum recoverable through depreciation. 
 
 (b) The value of the equities of lessor and lessee must be com- 
 puted separately, but, when determined as of the same basic date, 
 may together never exceed the value at that date of the prop- 
 erty in fee simple. 
 
 (c) The value of a lessee's equity, if acquired prior to March 
 1, 1913, is the value of his interest in the mineral as of that date. 
 
 (d) The value of a lessee's equity in a proven mineral property 
 acquired on or after March 1, 1913, is its cost. 
 
 (e) The value of a lessee's equity in a discovery on or after 
 March 1, 1913, is the fair market value at date of discovery or 
 within 30 days thereafter, of his equity in the mineral discov- 
 ered. 
 
 Where a taxpayer made claim under the placer mining laws to 
 public land, which was withdrawn by executive order prior to 
 completion of valid location (and prior to March 1, 1913), and 
 later (subsequent to March 1, 1913), operated the land under 
 agreement with the secretary of the interior, or lease from the 
 government, he is not entitled to a depletion deduction based upon 
 the value of his claim as of March 1, 1913, but, under the provi- 
 
 14: It is to be noted that the ruling contemplates that depletion must be 
 taken consistently from year to year and more depletion than is allocated 
 to the production of one year cannot be taken by reason of the fact that less 
 has been deducted in a past year than could have been properly allocated 
 to such past year. The depletion which has or should have been taken 
 must be based upon the same cost or fair market value and is subtracted 
 virhether or not it (or any part thereof) has been allowed under earlier 
 laws. T. B. R. 4, T. B. 1-19-53. 
 
 15 That is, in the case of an owner the value of the surface of the land 
 should not be considered as a part of the value of the natural deposit. 
 
 18 -Reg. 45, Art. 203. See T. D. 3089, T. B. 47-20-1313. 
 
DEPLETION — IN GENERAL 717 
 
 sions of the Revenue Acts of 1918 and 1921, he is entitled to a 
 depletion deduction based upon the discovery value as to dis- 
 coveries made subsequent to the acquisition of the lease or leases 
 from the government.!^ 
 
 Bonuses. Bonuses constitute a part of the cost of the lease- 
 hold. Any annual or periodical rents or flat royalties (as in the 
 case of gas wells) supplementing the bonuses or other amount 
 paid for the lease at the time of acquisition may be charged to 
 cost of leasehold until the property reaches the operating stage 
 and will form part of the capital returnable through deductions 
 for depletion.18 Under an option to purchase, or so-called "bond 
 and lease" agreement, providing for the payment of royalties 
 on ore mined and for the payment at stated times of the amounts 
 necessary to bring the total amounts paid to certain specific sums, 
 and giving an option to the purchaser to take title to the property 
 upon the payment of a specified amount upon which the royalties 
 and deficiency payments are credited as part of the purchase 
 price, it has been held that the additional sums paid to make up 
 the amounts of the several installments when due are capital 
 investments in the nature of bonuses and are recoverable through 
 deductions for depletion computed upon the total sum of such 
 additional payments to the end of the taxable year. Where the 
 option is forfeited, the capital sum remaining to be recovered is 
 deductible as depletion in the year in which the forfeiture oc- 
 curs. ^^ 
 
 Capital Recoverable Through Depletion in Case of Lessor.^" 
 (a) In the case of a lessor, the capital remaining in any year re- 
 coverable through depletion and depreciation deductions is (1) 
 the value of his equity in the property at the basic date minus 
 (2) depletion and depreciation sustained, whether legally allow- 
 able or not, from the basic date to the taxable year, plus (3) sub- 
 sequent allowable capital additions, and minus (4) the value of 
 the land at the basic date for other purposes than mineral pro- 
 duction. The capital recoverable through depletion is the total 
 capital remaining less the sum recoverable through depreciation. 
 
 (b) The value of the equities of lessor and lessee must be com 
 puted separately, but, when determined as of the same basic date, 
 may together never exceed the value at that date of the property 
 in fee simple. 
 
 17 Sol. Op. 118, T. B. 36-21-1801. 
 
 18 Manual for the Oil and Gas Industry, p. 20. 
 
 19 Sol. Op. 86, T. B. 4-21-1406. 
 
 20 Reg. 45, Art. 204. See T. D. 3089, T. B. 47-20-1313. 
 
718 FEDERAL INCOME TAX 
 
 (c) The value of the lessor's equity in the case of a mineral 
 property not under lease on March 1, 1913, but subsequently 
 leased, is the en bloc value of the mineral in the ground on March 
 1, 1913, and will, in the absence of satisfactory evidence to the 
 contrary, be presumed not to exceed the value as of March 1, 
 1913, of the royalties to be expected under the lease. 
 
 {d) The value of a lessor's equity in a mineral property under 
 lease March 1, 1913, for the entire operating life of the mineral 
 deposits is the value as of March 1, 1913, of the royalties and 
 other payments to be expected under the terms of the lease in 
 effect on that date. i 
 
 (e) The value of a lessor's equity in a mineral property under 
 lease for a portion of its operating life is the value as of March 
 1, 1913, of the royalties expected from the mineral to be ex- 
 tracted during the life of the existing lease plus the estimated 
 en bloc value of the mineral remaining at its expiration, which, 
 in the absence of satisfactory evidence to the contrary, will be 
 presumed not to exceed the value as of March 1, 1913, of royal- 
 ties which could have been expected as at that date from the re- 
 maining mineral. 
 
 (/) The value of a lessor's equity in a mineral property when 
 acquired on or after March 1, 1913, is its cost. 
 
 (g) The value of a lessor's equity in a discovery on or after 
 March 1, 1913, is the fair market value at the date of discovery, 
 or within 30 days thereafter, of his equity in the mineral dis- 
 covered. 
 
 Determination of Cost of Deposits. In any case in which a 
 depletion or depreciation deduction is computed on the basis of 
 the cost or price at which any mine, mineral deposit, mineral 
 rights, or leasehold was acquired, the owner or lessee will be re- 
 quired to show that the cost or price at which the property was 
 bought was fixed for the purpose of a bona fide purchase and 
 sale, by which the property passed to an owner, in fact as well as 
 in form, other than the vendor.^i No fictitious or inflated cost 
 
 21 That is, owners of a natural deposit will not be allowed to base de- 
 pletion on a greater value by reason of incorporating or re-incorporating 
 where the change of ownership is one of form and not substance. The 
 treasury department has uniformly insisted, however, upon the impo- 
 sition of an income tax upon transferrors of property to a corporation, 
 even if the beneficial ownership remains the same (See Chapter 17). 
 This practice has been rendered impossible under the present law, but 
 under the 1918 and prior laws it would seem clear that the transfer of 
 property by an individual to a corporation, or by one corporation to 
 another, in exchange for stock, will establish a new cost measured by the 
 market value of the stock at the date of the transaction. In other words, 
 
DEPLETION — IN GENERAL 719 
 
 or price will be permitted to form the basis of any calculation of 
 a depletion or depreciation deduction, and in determining whether 
 or not the price or cost at which any purchase or sale was made 
 represented the actual market value of the property sold, due 
 weight will be given to the relationship or connection existing 
 between the person selling the property and the buyer thereof : 22 
 
 Determination of Fair Market Value of Mineral Property. A 
 determination of the fair market value of a property (or the tax- 
 payer's interest therein) is required: 
 
 (a) In connection with the computation of depletion allow- 
 ances: (1) As of March 1, 1913, in the case of properties ac- 
 quired prior to that date; (2) At the date of discovery or within 
 30 days thereafter in the case of mines, oil and gas wells, dis- 
 covered by the taxpayer on or after March 1, 1913, and not ac- 
 quired as the result of purchase of a proven tract or lease, where 
 the fair market value of the property is disproportionate to the 
 cost; (3) As of the date of conveyance or acquisition, if subse- 
 quent to March 1, 1913, in the case of property paid for with stock 
 of a corporation, the value of the stock representing "cost" of the 
 properties, and such stock value being frequently only possible of 
 calculation by reference to the value of the assets it represents ; 
 (b) In connection with invested capital: (1) In computing the 
 amount which may be included in paid-in surplus, as of date of 
 conveyance or acquisition, where tangible property has been con- 
 veyed to a corporation by gift or at a value accurately established 
 or definitely known as at date of conveyance clearly and substan- 
 tially in excess of the cost or of the par value of the stock or 
 shares paid therefor; (2) In computing the amount which must 
 be deducted from capital and surplus as of the date of conveyance 
 or acquisition in order to limit invested capital to the actual cash 
 value of tangible property, othel- than cash, bona fide paid in for 
 stock or shares ; (c) In connection with the computation of profit 
 and loss from sale of capital assets in the case of properties : (See 
 Chapter 17) ; (1) As of March 1, 1913, in the case of properties 
 acquired prior to that date; and (2) As of the date of acquisition, 
 in order to ascertain "cost" in the case mentioned in (a) (3) 
 above. (3) As of the date of the transaction, where the prop- 
 such new corporation becomes an "owner in fact as well as in form, other 
 than the vendor". Congress expressly provided that such transfers 
 should not affect invested capital (Revenue Act of 1918, §331; Revenue 
 Act of 1917, § 208) but these provisions obviously have no reference to 
 the "capital sum" for purposes of depletion or depreciation. 
 
 22 Reg. 45, Art. 205. 
 
720 FEDERAL INCOME TAX 
 
 erty is sold for stock of a closely held corporation having no 
 other property, in order to ascertain "Selling price" (not under 
 1921 Law) . 
 
 The treasury department has ruled as follows: (a) Where 
 the fair market value of property at a specified date in lieu of 
 the cost thereof is the basis for depletion and depreciation de- 
 ductions, such value must be determined, subject to approval 
 or revision by the Commissioner, by the owner of the property 
 in the light of the conditions and circumstances known at that 
 date, regardless of later discoveries or developments in the prop- 
 erty or in methods of extraction and treatment of the mineral 
 product.23 The value sought should be that established assuming 
 a transfer between a willing seller and a willing buyer as of that 
 particular date. The Commissioner will lend due weight and con- 
 sideration to any and all factors and evidence having a bearing 
 on the market value, such as cost, actual sales and transfers of 
 similar properties, market value of stock or shares, royalties 
 and rentals, value fixed by the owner for purposes of capital 
 stock tax, valuation for local or state taxation, partnership ac- 
 countings, records of litigation in which the value of the property 
 was in question, the amount at which the property may have been 
 inventoried in probate court, disinterested appraisals by approv- 
 ed methods, such as the present value method and other factors. 
 
 (b) To determine the fair market value of a mineral property 
 by the present value method, the essential factors must be de- 
 termined for each deposit included in the property. The factors 
 are (1) the total quantity of mineral in terms of the principal or 
 customary unit (or units) paid for in the product marketed, (2) 
 the average quality or grade of the mineral reserves, (3) the ex- 
 pected percentage of extraction or recovery in each process or 
 operation necessary for the preparation of the crude mineral for 
 market, (4) the probable operating life of the deposit in 
 years, (5) the unit operating cost, i. e., cost of production ex- 
 clusive of depreciation and depletion, (6) expected average sell- 
 ing price per unit during the operating life, and (7) the rate of 
 profit commensurate with the risk for the particular "deposit. 
 When the deposit has been sufficiently developed these factors 
 may be determined from past operating experience. In the ap- 
 plication of factors derived from past experience full allowance 
 should be made for probable future variations in the rate of ex- 
 haustion, quality or grade of the mineral, percentage of recov- 
 
 23 See Sol. Op. 80, T. B. 5-21-1418. 
 
DEPLETION — IN GENERAL 721 
 
 ery, costs of production, and selling price of the product market- 
 ed during the expected operating life of the mineral deposit. 
 
 (c) Mineral deposits for which these factors may not be de- 
 termined with reasonable accuracy from past operating expe- 
 rience may, with the approval of the Commissioner, be valued 
 in a similar manner ; but the factors must be deduced from con- 
 current evidence such as the general type of the deposit, the 
 characteristics of the district in which it occurs, the habit of the 
 mineral deposits in the property itself, the intensity of mineral- 
 ization, the rate at which additional mineral has been disclosed by 
 exploitation, the stage of the operating life of the property, and 
 other evidence tending to establish a reasonable estimate of the 
 required factors. 
 
 (d) Mineral deposits of different grades, locations, and prob- 
 able dates of extraction in a mineral property must be valued 
 separately. The mineral content of the deposit should be deter- 
 mined in accordance with the rules stated in the following chap- 
 ters. In estimating the average grade of the developed and pro- 
 spective mineral, account should be taken of probable increases 
 or decreases as indicated by the operating history. The rate of 
 exhaustion of a mineral deposit should be determined with due 
 regard to the limitations imposed by plant capacity, by the char- 
 acter of the deposit, by the ability to market the mineral product, 
 by labor conditions, and by the operating program in force or 
 definitely adopted at the basic date for future operations. The op- 
 erating life of a mineral deposit is that number of years neces- 
 sary for the exhaustion of both the developed and prospective 
 mineral content at the rate determined as above. The operating 
 cost comprises all current expense of producing, preparing, and 
 marketing the mineral product sold, exclusive of federal income, 
 war-profits, and excess-profits taxes, allowable capital addi- 
 tions,2* and deductions for depreciation and depletion, but in- 
 cluding cost of repairs and replacements necessary to maintain 
 the plant and equipment at its rated capacity and efficiency. This 
 cost of repairs and replacements is not to be confused with the 
 depreciation deduction by which the cost or value of plant and 
 equipment is returned to the taxpayer free from tax. In general 
 no estimates of these factors will be approved by the Commis- 
 sioner which are not supported by the operating experience of 
 the property or which are derived from different and arbitrarily 
 selected periods. 
 
 24 See Reg. 45, Art. 222. 
 
722 FEDERAL INCOME TAX 
 
 (e) The product of the number of units of mineral recoverable 
 in marketable form by the difference between the selling price 
 and the operating cost per unit is the total expected operating 
 profit. The value of each mineral deposit is then the total ex- 
 pected operating profit from that deposit reduced to a present 
 value as of the basic date at the rate of interest commensurate 
 with the risk for the operating life, and further reduced by the 
 value at the basic date of appreciable assets and of the capital 
 additions, if any, necessary to realize the profits.^s 
 
 Revaluations of Mineral Deposits Not Allowed.*" No revalua- 
 tion of a property whose value as of the basic date has been de- 
 termined and approved will be allowed during the continuance 
 of the ownership under which the value was so determined and 
 approved, except in the case of discovery .27 The value as of the 
 basic date may, however, be corrected when a virtual change 
 of ownership of part of the property results as the outcome of 
 litigation, and may be redistributed (a) when a revision of the 
 number of units of mineral in the property has been made in 
 accordance with the rules set forth elsewhere ^s in this book, and 
 (b) in case of the sale of a part of the property, between the part 
 sold and part retained. 
 
 Computation of Deduction for Depletion of Mineral Deposits. 
 (a) Depletion attaches to the annual production "according to 
 the peculiar conditions of each case" and when the depletion ac- 
 tually sustained, whether legally allowable or not, from the basic 
 date, equals the cost or value on the basic date plus subsequent 
 allowable capital additions, no further deduction for depletion 
 will be allowed except in consequence of added value arising 
 through discovery or purchase. 
 
 (6) When the value of the property at the basic date has 
 been determined, depletion for the taxable year is determined by 
 dividing the value remaining for depletion by the number of units 
 of mineral to which this value is applicable, and by multiplying 
 the unit value for depletion, so determined, by the number of 
 units sold within the taxable year. In the selection of a unit 
 for depletion preference must be given to the principal or cus- 
 tomary unit or units paid for in the product sold.^^ 
 
 Limitation Upon Depletion Based on Discovery Value. Under 
 the 1921 Law a new provision is inserted, placing a limitation on 
 
 25 Reg. 45, Art. 206. 
 
 26 Reg. 45, Art. 207. 
 
 27 For a definition of discovery, see pages 758 and 760. 
 
 28 See pages 000 and 000. 
 
 29 Reg. 45, Art. 210. 
 
DEPLETION — IN GENERAL 723 
 
 the depletion deduction when based upon discovery value. It is 
 now provided that the depletion allowance based on discovery 
 value shall not exceed the net income, computed without allow- 
 ance for depletion, from the property upon which the discovery 
 is made; except where such net income so computed is less than 
 the depletion allowance based on cost or fair market value as of 
 March 1, 1913.3" The purpose of this provision has been stated 
 to be "in order to make it certain that the depletion deduction 
 when based upon discovery value shall not be permitted to offset 
 or cancel profits derived by the taxpayer from a separate and 
 distinct line of business." ^^ 
 
 Adjustments of Accounts Based on Bonus or Advanced Roy- 
 alty, (a) Where a lessor receives a bonus or other sum in ad- 
 dition to royalties, such bonus or other sum is to be regarded as a 
 return of capital to the lessor, but only to the extent of the capital 
 remaining to be recovered through depletion by the lessor at the 
 date of lease. If the bonus exceeds the capital remaining to be 
 recovered, the excess and all the royalties thereafter received 
 will be income and not depletable. If the bohus is less than the 
 capital remaining to be recovered by the lessor through depletion, 
 the difference may be recovered through depletion deductions 
 based on the royalties thereafter received. The bonus or other 
 sum paid by the lessee for a lease made on or after March 1, 
 1913, will be his value for depletion as of date of acquisition. 
 
 (fe) Where the owner has leased a mineral property for a term 
 of years with a requirement in the lease that the lessee shall ex- 
 tract and pay for, annually, a specified number of tons, or other 
 agreed units of measurement, of such mineral, or shall pay, an- 
 nually, a specified sum of money which shall be applied in pay- 
 ment of the purchase price or royalty per unit of such mineral 
 whenever the same shall thereafter be extracted and removed 
 from the leased premises, the value in the ground to the lessor, 
 for purposes of depletion, of the :pumber of units so paid for in 
 advance of extraction will constitute an allowable deduction from 
 the gross income of the year in which such payment or payments 
 shall be made ; but no deduction for depletion by the lessor may 
 be claimed or allowed in any subsequent year on account of the 
 extraction or removal in such year of any mineral so paid for in 
 advance and for which deduction has once been made. 
 
 30Eevenue Act of 1921, §§214 (a) 10 and 234 (a) 9. This is the one 
 respect in which the depletion provision of the present law differs from 
 the corresponding provision of the 1918 Law. 
 
 31 See Report of Senate Finance Committee on the Revenue Bill of 1921, 
 p. 15. 
 
724 
 
 FEDERAL INCOME TAX 
 
 (c) If, for any reason, any such mineral lease is terminated 
 or abandoned before the mineral which has been paid for in ad- 
 vance has been extracted and removed, and the lessor repossesses 
 the leased property, the lessor must adjust his capital accounts 
 by restoring to the capital sum of the property the depletion de- 
 ductions made in prior years on account of royalties on mineral 
 paid for but not removed, and his income account must be ad- 
 justed so as to include the amount so restored to capital sum as 
 income of the year such lease is terminated or the property re- 
 possessed, and the tax thereon paid. 
 
 {d) Upon the expiration, termination, or abandonment of a 
 lease, without the removal of any or all of the mineral con- 
 templated by the lease, the lessor will be required to restore 
 to capital account so much of the bonus received and deducted 
 from capital recoverable through depletion as is in excess of 
 the actual depletion or loss in value sustained as a result of the 
 operations under the lease and the corresponding amount will be 
 
 income for the year in which the lease expires, terminates, or is 
 abandoned.22 
 
 Depletion and Depreciation Account on Books. Every tax- 
 payer claiming and making a deduction for depletion and de- 
 preciation of mineral property must keep accurate ledger ac- 
 counts in which shall be charged fair market value as of March 
 1, 1913, or within 30 days after the date of discovery, or the 
 cost, as the case may be, (a) of the mineral deposit, and (b) of 
 the plant and equipment together with subsequent allowable 
 capital additions to each account. These accounts should there- 
 after be credited annually with the amounts, whether legally 
 allowable or not, of the depreciation and depletion sustained, or 
 the amount of the depreciation and depletion sustained shoula 
 be credited to depletion and depreciation reserve accounts to the 
 end that when the sum of the credits for depletion and deprecia- 
 tion equals the value or cost of the property, plus subsequent al- 
 lowable capital additions, no further deduction for depletion and 
 depreciation with respect to the property will be allowed.^^ 
 
 32 Reg. 45, Art. 215. 
 
 33 Reg. 45, Art. 216. Because of the fact that depreciation and deple- 
 tion deductions are applied against different capital sums, which are 
 usually returnable at different rates, it is essential that these accounts be 
 kept separately; that is, the cost or value of physical property subject to 
 depreciation with deductions for depreciation enter into one account; the 
 cost or value of the property (exclusive of physical property), together 
 with additions for such development costs as have not been charged to 
 current operating expenses, enter into a separate account Against which 
 depletion may be charged. 
 
DEPLETION — IN GENERAL 725 
 
 Rule Under the 1909 Law. The Act of August 5, 1909, did not 
 provide for deductions from gross income on account of depletion 
 of natural resources. The fact that revenues derived from oper- 
 ating mines resulted to some extent in exhaustion of the capital 
 established under that law no ground for the deduction from 
 gross income of the value of the ore extracted.^* Lessors could 
 claim no deduction from royalties with respect to depletion.^^ 
 Lessees were allowed to claim a deduction of a proportionate 
 amount of the cost of the lease, but not of the value of the deposit 
 at the incidence of the tax.^^ Although the treasury department 
 prescribed rulings for determining depletion under the 1909 
 Law 27 such rulings were not authorized by the statute, and a 
 corporation which had claimed depletion thereunder could not 
 claim that the treasury department was estopped by such regu- 
 lations from assessing the tax without the benefit of any depletion 
 under that law.^^ 
 
 Rule Under the 1913 Law. The 1913 Law allowed the tax- 
 payer to deduct from the gross income of the taxable year on 
 account of depletion of natural deposits an amount not to exceed 
 5 % of the gross value of the output of the ore at the mine during 
 the year.39 The term "gross value at the mine" was held to mean 
 in the case of a coal mine the market value of the prepared 
 coal at the mine where such value is established by actual sales 
 at the mine; and, where the market value is established at 
 some place other than the mine, the price for which the coal 
 is sold less transportation charges.*" The law did not require 
 that the charge for depletion of natural deposits must actually 
 be set up on the books of the taxpayer in order to constitute 
 an allowable deduction. It was first held that such an entry 
 must be made in order to obtain the benefit of the allowance,*^ 
 but it was later held that failure to write off depletion would 
 not result in a disallowance of the deduction.*- It is now held 
 that : "An operating owner will determine the amount which he 
 is entitled to deduct in his return as depletion by adding to the' 
 amount paid for the deposit or to its fair market value as of 
 
 S* Stratton's Independence v. Howbert, 231 U. S. 399. 
 35 Von Baumbach v. Sargeant Land Co., 242 U. S. 503. 
 36Biwabik Mining Co. v. U. S., 247 U. S. 116. 
 
 37 T. D. 1675. 
 
 38 Goldfield Consolidated Mines Co. v. Scott, 247 U. S. 126. 
 
 39 Act of October 3, 1913, 1| B and H G. 
 
 40 S. 1365, T. B. 18-20-900. 
 
 41 Letter from treasury department dated May 18, 1916. 
 
 42 T. D. 2481. 
 
726 FEDERAL INCOME TAX 
 
 March 1, 1913, if acquired prior thereto, such costs of develop- 
 ment since that date, as have not been deducted as expenses on 
 his returns, and by dividing the resultant sum by the number of 
 units in the mine estimated as of the time of its acquisition or as 
 of March 1, 1913, if acquired prior thereto, thereby determining 
 the per unit cost or value. The taxpayer is then entitled to de- 
 duct as depletion for the years 1913, 1914 and 1915 the product 
 of the per unit cost or value multiplied by the number of units 
 produced within the year, provided such amount does not exceed 
 5 per cent, of the gross value of the output for the year at the 
 mine."*3 Under the 1913 Law and under the 1916 Law a lessor 
 is permitted a depletion allowance which is computed like that of 
 an operating owner, except that where a mine was leased before 
 March 1, 1913, the allowance for depletion in favor of the lessor 
 is based not on the fair market value of the ore or mineral in place 
 as of March 1, 1913, but on the lessor's interest therein on tiiat 
 date.« 
 
 Rule as to Mine Under the 1916 Law. Under the 1916 Law an 
 operating owner is entitled to a reasonable allowance for de- 
 pletion, limited in the case of mines to the market value in the 
 mine of the product thereof mined and sold during the year, 
 not exceeding in the aggregate the capital originally invested, or 
 in case of purchase made prior to March 1, 1913, the fair market 
 value as of that date. In a case arising under the 1916 Law the 
 price at which property was offered for sale on May 1, 1914, has 
 been accepted as the fair market value of mining property on 
 March 1, 1913, in the absence of evidence showing a change in 
 value between these two dates.*^ In order that a taxpayer may 
 have the benefit of the authorized deduction for depletion, the 
 amount claimed must actually be charged off on his books before 
 the allowance can be granted.*^ An operating owner will deter- 
 
 43 Extract from circular entitled "Schedule for Depletion— 1909-1917," 
 issued by the treasury department. Mines and Minerals Section, 1919. 
 
 4* Id. But since the courts have held that a lessee acquires no interest 
 in the mineral deposits in place, but only the privilege of entering - upon 
 the premises and mining and removing such deposits, it vsrould seem that 
 the lessor's interest in a deposit as of March 1, 1913, was not, for the pur- 
 pose of claiming depletion under the 1913 and 1916 Laws, diminished by 
 reason of a lease existing on that date. 
 
 45 S. 1365, T. B. 18-20-900. 
 
 46 The amount need not however be written off in the taxable year. It 
 is sufficient if the amount is charged off before being allowed as a deduction. 
 Consequently at the time of an examination of a corporation it is allowed 
 to reopen its books and charge off depletion actually sustained for any 
 taxable year during which the 1916 Law was in effect. If, however, the 
 
DEPLETION — IN GENERAL 727 
 
 mine the amount which he is entitled to deduct as depletion by 
 adding to the amount paid for the ore or mineral or to its fair 
 market value as of March 1, 1913, if acquired prior thereto, such 
 costs of development since that date as have not been deducted as 
 expenses, and by dividing the resultant sum by the number of 
 units in the mine estimated as of the time of its acquisition or as 
 of March 1, 1913, if acquired prior thereto, thereby determining 
 the per unit cost or value. The taxpayer is then entitled to deduct 
 as depletion for the year 1916 and subsequent years the product 
 of the per unit cost or value multiplied by the number of units 
 produced within the year. However, when the aggregate of such 
 deductions shall equal the cost or fair market value as of March 
 1, 1913, plus the amount subsequently expended in developing the 
 property which had not been deducted as an expense, the tax- 
 payer will be entitled to no further deductions.*'^ 
 
 In a case arising under the 1916 Law, a taxpayer leased min- 
 eral property in 1910 for a royalty of 20 cents a tonfor a period 
 of 10 years. In 1913 it was determined that the property was 
 very valuable and had a large tonnage of ore which would extend 
 its life, at the probable rate of extraction, until 1940. In 1920 
 he renewed the lease for the life of the mine for a royalty of 
 $1.00 per ton. It was ruled that the value of the taxpayer's 
 interest as of March 1, 1913, in the ore in the mine was the 
 present worth, as of that date, of his royalties of 20 cents per 
 ton, obtained by multiplying the royalty per ton by the number 
 of tons probable extraction by the lessee and discounting the 
 product for the remaining life of the lease, plus the value of the 
 ore which would be left in the mine at the termination of the 
 lease. The fair market value of the ore in the mine as of March 
 1, 1913, having been determined, "a reasonable allowance" for 
 depletion under such lease was the then present worth of his 
 royalties, provided this did not exceed such fair market value. 
 Upon the renewal, of the lease in 1920 for the remaining life of 
 the mine, the taxpayer's interest in the capital sum would again 
 be represented by the royalties stipulated to be paid, capitalized 
 
 facts do not warrant the opening of the books and charging off depletion 
 for any past year, it will not be allowed as a deduction. Thus, for 
 example, if all the earnings of a year have been distributed and there is 
 nothing from which to credit a reserve for depletion no allowance for de- 
 pletion can be credited to a reserve account or permitted as a deduction. 
 (Letter from treasury department dated June 25, 1918; I. T. S. 1919, 
 112119.) 
 
 47 Extract from circular entitled "Schedule for Depletion — 1909-1917," 
 issued by the treasury department, Mines and Minerals Section, 1919. 
 
728 FEDERAL INCOME TAX 
 
 and discounted as above, and its present worth divided by the 
 estimated mineral content of the mine at the date of the lease 
 would equal the unit of depletion which, multiplied by the num- 
 ber of tons extracted in any. year, would give the allowable de- 
 duction for depletion for such year, provided always that such 
 deduction does not exceed the value as of March 1, 1913, of the 
 ore extracted during such year.*^ 
 
 Rule as to Lessees Under Prior Laws. As mining leases are 
 held not to convey the mineral deposits in place, but only the 
 privilege of entering upon the premises and mining and remov- 
 ing such deposits, under none of the Acts of 1909, 1913, or 1916 
 is a lessee entitled to deduction from income on account of de- 
 pletion. But under the provisions of the Acts of 1909, 1913, 
 and 1916, authorizing the deduction from gross income of the 
 ordinary and necessary expenses of the business, including rent- 
 als, the lessee may deduct royalties paid as such necessary ex- 
 penses, and in the event that he paid a lump sum for his lease, 
 such sum may be considered as rent paid in advance and, to- 
 gether with the cost of development not deducted as expenses, 
 may be divided by the estimated number of units in the mine as 
 of the date of acquisition in order to determine the expense per 
 unit for the purpose of deduction. The lessee is then entitled to 
 deduct as expense the product of the per unit expense multiplied 
 by the number of units produced within the year. If the lessee 
 is unable to determine the proper amount based upon investment 
 in accordance with the method outlined above, he may deduct 
 in his return the pro rata portion of the amount expended for 
 the lease and for development based upon the life of the lease.*'' 
 
 In a case^o arising under the 1916 Law it appeared that the 
 Mohawk Mining Company on February 7, 1905, acquired a min- 
 ing lease upon a tract of land in Minnesota, paying $81,250 there- 
 for and agreeing to pay a royalty of $0.25 per ton as the ore was 
 mined and removed from the premises. Immediately thereafter 
 the mining company entered into possession of the leased proper- 
 ty and opened a mine, spending a large sum of money in sinking 
 
 48 Sol. Op. 80, T. B. 5-21-1418. 
 
 49 Extract from circular entitled "Schedule for Depletion— 1909-1917 " 
 issued by the Treasury Department, Mines and Minerals Section, 1919. 
 
 50 Mohawk Mining Co. v. Weiss, U. S. Dist. Ct., No. D. of Ohio, I. T. S. 
 1919, par. 3635. The case was submitted to the Circuit Court of Appeals on 
 February 9, 1920, and this court reversed the lower court on March 2, 1920. 
 The opinion was corrected and refiled on June 15, 1920. The Court ren- 
 dered a further opinion on June 15, 1920, on a petition for a rehearing 
 (See 254 Fed. 502.) 
 
DEPLETION — IN GENERAL 729 
 
 shafts, driving entries, etc. On March 1, 1913, there were 1,106,- 
 389 tons of ore in the mine, of an agreed value of $0.49875 per 
 ton, considering the entire deposit en bloc. The value of the 
 lease on March 1, 1913, was $275,214.26. The term was suffi- 
 cient to enable the lessee to mine out all the ore. In its 1916 and 
 1917 returns the mining company deducted allowances for de- 
 pletion— $46,096.61 in 1916 and $66,467 in 1917, such depletion 
 being at the rate of $0.24875 per ton on the ore removed in such 
 years. Of these amounts the Commissioner allowed a deduction 
 in 1916 and 1917 at the rate of $0.04 per ton on the ore removed 
 in such years, it being agreed that such amount, when applied 
 to all the ore known, to be in the mine in 1905, would free from 
 tax the $81,250 originally paid for the lease by the mining com- 
 pany. The disallowance of any further depletion was based 
 splely on the ground that the mining company was not the 
 owner of the ore or mine content, but was only the lessee or 
 contractor.51 In reversing the decision of the district court per- 
 mitting an allowance for depletion and reversing the Commis- 
 sioner, the circuit court of appeals relied almost entirely upon a 
 decision of the United States Supreme Court under the 1909 
 
 51 The Court said : "We cannot conceive any substantial distinction as 
 applied to a mine between that depreciation or allowance for capital assets 
 consumed which was sought by mine owners under the earlier acts, and that 
 depletion which was expressly allowed by the amendment of 1916. From 
 every point of view, this kind of depreciation or allowanoe was depletion and 
 this allowed depletion is depreciation or diminution of capital and when the 
 question or right to the allowance arises as between fee owner and lessee, 
 it can make no difference whether the claimed allowance is called by one 
 name or by the other. In U. S. v. Biwabik Co., 247 U. S. 116 (arising under 
 the Act of 1909), it was ruled, after full consideration, that under a lease 
 practically identical with the Mohawk lease now Involved, the nature of the 
 interest held by the lessee was not such as to permit it to claim the allow- 
 ance, but that the contingencies which attended the character of the lessee's 
 interest barred it from claiming that its capital assets had been diminished. 
 It is true that the question whether the mining of ore could be considered 
 depreciation in any event was underlying, and that this question has been 
 completely removed by the amendment of 1916, but the Supreme Court did 
 not rest its conclusion at all upon the definition of depreciation." (Original 
 opinion as revised.) "In the Biwabik ease, the lessee was not heard to say 
 that his capital assets had been consumed by his mining operations, and we 
 interpret that decision as resting in an essential degree on the idea that the 
 nature of the lessee's title forbade him to make this claim. We can not 
 read the decisions of the supreme court as having determined that the 
 exhaustion of ore reserves is so inherently a business loss rather than an 
 impairment of capital, that a statutory grant of the right to deduct for 
 depletion on that account will reach a case which has been adjudged not 
 to involve the diminution of capital assets. We think the substantial prin- 
 
730 FEDERAL INCOME TAX 
 
 law.52 In this case the defendant acquired a leasehold in certain 
 ore producing properties in Minnesota from which it mined ore 
 from that date to and including the year 1910. This lease was 
 acquired by payment to the prior lessee of the sum of $612,000 
 in addition to contracting to pay a royalty of $0.30 per ton upon 
 ore mined. In its 1910 return the defendant deducted the sum 
 of $265,372.08 "to cover realization of unearned increment." 
 The amount of this deduction was arrived at by multiplying the 
 number of tons of ore mined during the year by $0.4875, which 
 was the market value of the ore in place on January 1, 1909. The 
 district court held that the deduction could not be allowed since 
 the lease was not a conveyance of the ore in place, but was 
 merely a grant of the privilege of entering upon the premises 
 and mining and removing the ore. This court allowed, however, 
 the deduction of the sum of $0.03885 per ton, which represented 
 an allowance of part of the cost of $612,000 calculated upon a 
 per unit basis. This decision of the district court was reversed 
 by the circuit court of appeals.^s The Supreme Court, however, 
 repudiating the construction of its earlier opinions placed upon 
 such opinions by the circuit court of appeals, held that the de- 
 fendant was not entitled to the depletion claimed. The Supreme 
 Court did not pass upon the propriety of the deduction of $.03885 
 per ton allowed by the district court as the government had 
 taken no writ of error as to this partial deduction. This de- 
 cision of the United States Supreme Court must be considered 
 in the light of the prior decisions of the Supreme Court upon the 
 question of depletion under the 1909 law^* and also in the light 
 of other contemporary decisions holding that in determining 
 net income under the 1909 Law arising from the conversion of 
 
 ciples established by the decisions are that both the royalty received by the 
 fee owner and the sums received by the operating lessee above the cost of 
 operation are income; that the statutory reduction for 'depletion' cannot be 
 twice credited, once to the fee owner and one to the lessee; and that the 
 exemption belongs of right to the fee owner." (On petition for rehearing.) 
 In the case under consideration this gives the fee owner a depletion allow- 
 ance of $.49875 per ton although his royalty under the contract is only $.25 
 per ton. The contention of the lessee, however, was not that each should 
 claim an allowance of $.49875 per ton but that such aggregate value per ton 
 on the deposit en bloc should be shared by lessor and lessee. 
 
 52 U. S. V. Biwabik Mining Co., 247 U. S. 116. 
 
 53 Biwabik Mining Co. v. U. S., 242 Fed. 9. 
 
 54 Stratton's Independence v. Howbert, 231 U. S. 399 ; Von Baumbach v. 
 Sargent Land Co., 242 U. S. 503. The decision in Goldfield Consolidated 
 Mines v. Scott, 247 U. S. 126, was made on the same day as the Biwabik 
 decision and reiterates the force and effect of the other cases cited, adding 
 nothing material to the discussion of the principles involved. 
 
DEPLETION — IN GENERAL ' 731 
 
 the capital assets of a taxpayer acquired before January 1, 1909, 
 there might be deducted from the gross proceeds of the conver- 
 sion an amount sufficient to restore the capital value existing 
 on December 31, 1908.55 The essential substance of the first of 
 the decisions on depletion ^6 was that (1) the proceeds of ores 
 mined by a corporation from its own premises constitute in- 
 come under the 1909 Law, and (2) a corporation is not entitled 
 under that law to deduct the value of such ore in place before 
 it is mined, from such income. The former of these two con- 
 clusions was based upon the consideration that the 1909 Law 
 was not an income tax law, but imposed an excise tax on cor- 
 porations engaged in business measured by net income as defined 
 in the act. The mining company, being within the taxing clause 
 and not within the exempting clause, was taxable upon net in- 
 come as defined in the act. Thus, it seems, the income used as 
 a measure of the 1909 tax, according to the Supreme Court, 
 need not necessarily be true net income and may include amounts 
 which, properly speaking, are return of capital, in a business 
 that theoretically or practically involves a wasting capital, 
 especially when such income is easy of ascertainment and simply 
 applied in practice. 
 
 In the next cases'? involving depletion the Supreme Court 
 held that (1) so-called royalties received by the owners of lands 
 leased for mining purposes were income within the meaning of 
 the 1909 Law and (2) the resulting exhaustion of ore body was 
 not an element to be considered in determining the reasonable 
 depreciation allowed, as a deduction by the 1909 Law. The for- 
 mer of these decisions was based upon an analysis of the mining 
 leases involved and a citation of numerous Minnesota cases to 
 the effect that such leases did not constitute a sale of any part 
 of the land or ore in place. The second decision was based upon 
 a strict interpretation of the word "depreciation," which was 
 held not sufficiently broad to include "depletion." 
 
 Clearly, at the time the Biwabik case was decided, an owner 
 was not entitled to any allowance for depletion under the 1909 
 Law, whether the mine was operated by him or he was a lessor. 
 All the Biwabik case decided was that a lessee could not have an 
 allowance to which a lessor was not entitled. The decision put 
 the lessor and the lessee on an equality, and was a necessary 
 
 55 Doyle V. Mitchell Bros., 247 U. S. 179 ; Hays v. Gauley Mountain Coal 
 Co., 247 U. S. 189; Lynch v. Turrish, 247 U. S. 221; U. S. v. Cleveland, etc., 
 Ry. Co., 247 U. S. 195. 
 
 56 Stratton's Independence v. Howbert, 231 U. S. 399. 
 
 57 Von Baumbach v. Sargent Land Co., 242 U. S. 503. 
 
732 FEDERAL INCOME TAX 
 
 corollary of the two prior decisions of the court. The real reason 
 why an allowance for depletion was denied to the lessee mining 
 company in the Biwabik case was that the statute contained no 
 provision permitting such depletion to any one, under the head 
 of depreciation or otherwise. 
 
 It seems that in the Mohawk mining case the circuit court 
 of appeals misconstrued the Biwabik case. The circuit court 
 of appeals' understanding of the essence of the Biwabik decision 
 is indicated by its statement that "the nature of the interest held 
 by the lessee was not such as to permit it to claim the allow- 
 ance" and that the "nature of the lessee's title forbade him to 
 make this claim." This is not true. If the lessee had had the 
 title of the lessor, he would have been entitled to no depletion. 
 No one was entitled to depletion. The nature of a mining prop- 
 erty, not "the nature of the lessee's title," prohibited the deduc- 
 tion, under the 1909 Law. 
 
 This misapprehension is probably based upon the language 
 of the Supreme Court, reading as follows: "The lessee takes 
 from the property the ore mined, paying for the privilege so 
 much per ton for each ton removed. He has this right or priv- 
 ilege under the form of lease here involved so long as he sees 
 fit to hold the same without exercising the privilege of cancella- 
 tion herein contained. He is, as we held in the Sargent Land 
 Co. case, in no legal sense the purchaser of the ore in place." 
 But this language appears not to have been the basis of the 
 decision but a mere restatement of the rule that the kind of lease 
 involved did not constitute pro tanto a purchase. The statement 
 immediately follows the criticism of the circuit court of appeals' 
 statement to this effect. 
 
 It was perhaps necessary to reiterate this point since on the 
 same day^s of the Biwabik decision the Supreme Court also 
 decided other cases which held that upon the conversion of 
 capital assets a taxpayer was entitled to deduct from the pro- 
 ceeds received the value of assets at the date of the incidence 
 of the tax.59 If the kind of lease involved had been such as to 
 effect a sale or conversion of capital assets or ore in place, the 
 lessor (but not the lessee) would have been entitled to what 
 would have amounted to a depletion deduction. But this would 
 not necessarily have helped the lessee since, even if the lease 
 had effected a conversion of capital assets or sale of ore in place, 
 the lessee would merely have assumed the position of an owner 
 
 58 May 20, 1918. 
 
 59 Doyle V. Mitchell Bros., 247 U. S. 179; U. S. v. Cleveland, ^tc, Ry. Co.. 
 247 U. S. 195; Hays v. Gauley Mountain Coal Co. 247 U. S. 189. 
 
DEPLETION — IN GENERAL 733 
 
 who had already been denied depletion. The lease would not 
 have effected a sale by him; it would have meant a purchase 
 by him. 
 
 The Revenue Act of 1913 and that of 1916, allow depletion.eo 
 Under both statutes the department has held that depletion is 
 allowed only to the owner. But the lessee is allowed a deduction 
 to provide for the amortization of his capital investment in the 
 property, and such deduction may be measured annually in the 
 same manner as depletion is measured — ^by production, or may be 
 measured by the life of the lease. No deduction has been allowed 
 for the value of a lease on March 1, 1913, in excess of the capital 
 investment on that date. A very serious question arises in this 
 connection, which the Mohawk case does not settle, namely, if the 
 lessee had a lease on March 1, 1913, possessed of a fair market 
 value, how is he to separate that value from his receipts in order 
 not to be taxed on what was capital at the incidence of the tax, 
 and on which he can not be taxed in the case of a sale under the 
 decisions of the Supreme Court.^i 
 
 In the case of mines the lessee has been held in the cases 
 heard by the Supreme Court not to be the purchaser of any ore 
 in place. Not being the purchaser, the lessee is not owner and 
 the statute seems to limit depletion to property owned by the 
 taxpayer. Under the theory that leases do not effect a sale of 
 ore in place, the property of the lessee is not the ore but the 
 contract permitting its extraction. It is intangible, not tangible 
 property, and any allowance to the lessee must be based upon 
 the theory that such intangible property or contract right is 
 exhausted by its use or employment in the lessee's business or 
 trade. 
 
 60 The 1913 Law permitted the deduction of "a reasonable allowance for 
 the exhaustion, wear and tear of property arising out of its use or employ- 
 ment in the business not to exceed, in the case of mines, 5 per centum of 
 the gross value at the mine of the output for the year for which the com- 
 putation is made." (Act of October 3, 1913, G (b).) The Revenue Act of 
 1916 provided for the deduction in the case of individuals "(a) in the case 
 of oil and gas wells a reasonable allowance for actual reduction in flow and 
 production to be ascertained not by the flush flow, but by the settled pro- 
 duction or regular flow; (b) in the case of mines a reasonable allowance for 
 depletion thereof not to exceed the market value in the mine of the product 
 thereof, which has been mined and sold during the year for which the 
 return and computation are made, * * *" (Revenue Act of 1916, Sections 
 5, 6 and 12). 
 
 61 See Doyle v. Mitchell, 247 U. S. 179; Lynch v. Turrish, 247 U. S. 221; 
 note distinction, however, in Lynch v. Hornby, 247 U. S. 339. 
 
 62 See Reg. 33, Rev. Art. 171. 
 
734 FEDERAL INCOME TAX 
 
 It is possible that mineral deeds or leases of land situated in 
 states other than Minnesota jnay be held to constitute a sale of 
 minerals in place, in which case a different conclusion as to the 
 rights of lessor and lessee under the 1909 Law might follow and 
 also a different conclusion under the 1913 and 1916 Laws as 
 to lessees. 
 
 The regulations issued under the 1916 Law provided that "the 
 deduction in the case of a lessee (of a mine) will be limited 
 to an amount equal to the capital actually invested in the lease, 
 without regard to value as of March 1, 1913, or any other 
 date." 62 Under this regulation it has been held that where a 
 corporation organized for the purpose takes over a mining 
 lease, issuing its entire capital stock to the individual owners 
 of the lease in proportion to their respective interests therein, 
 the "capital actually invested in the lease" is represented by 
 the fair market value of the stock so issued.^ 
 
 Depletion for Past Years Not Allowed Under Present Law. 
 Where under the act of October 3, 1913, or of September 8, 1916, 
 a taxpayer has not been allowed to make a deduction for the full 
 amount of his depletion, the amount of such deficiency can not be 
 carried forward and deducted in any later year. Depletion at- 
 taches to each unit of mineral or other property removed, and a 
 taxpayer should make proper provision therefor in computing his 
 net income. Under the Revenue Acts of 1918 and 1921 the 
 amount recoverable through depletion will be the cost, or the 
 value as of March 1, 1913, or within 30 days of the date of dis- 
 covery, as the case may be, less proper allowance for the mineral 
 or other property removed prior to January 1, 1918.^* 
 
 63 O. 1033, T. B. 20-20-938. 
 
 64 Manual for the Oil and Gas Industry, p. 45. 
 
CHAPTER 28 
 DEPLETION OP MINES 
 
 The provision of the law permitting the deduction of an 
 allowance for depletion in the case of mines, oil wells, gas wells, 
 or any other natural deposits and timber, has been set forth 
 and discussed generally in the preceding chapter. It is shown 
 in that chapter that this allowance is based (a) upon cost, if 
 acquired after February 28, 1913, or (b) upon the fair market 
 value as of March 1, 1913, if acquired prior thereto, or (c) 
 upon the fair market value within thirty days after the date 
 of discovery in the case of mines discovered by the taxpayer 
 after February 28, 1913, where the fair market value is seriously 
 disproportionate to the cost. As shovsm in the preceding chapter, 
 the Revenue Act of 1921 limits the depletion deduction when based 
 on discovery value and provides that such deduction shall not ex- 
 ceed the net income, computed without allowance for depletion, 
 from the property on which discovery is made. Subject to any 
 changes occasioned by this limitation the regulations issued under 
 the 1918 Law remain applicable. The depletion allowance is per- 
 mitted to operating owners, lessors and lessees, and the capital 
 recoverable through the depletion allowance in the case of each 
 and the rules with respect to the apportionment of the de- 
 duction between lessor and lessee are discussed in the same 
 chapter.! In general, the allowance for depletion is ascertained 
 by multiplying the number of mineral units extracted from a 
 mine each year by the unit value. The unit value is ascertained 
 by dividing cost, or value as of March 1, 1913, or within 30 
 days after discovery, by the number of mineral units in the 
 property as of the date of acquisition or valuation.^ The pre- 
 ceding chapter should be consulted for the rulings regarding de- 
 pletion generally; certain special rules relating specifically to 
 mines are set forth below.^ 
 
 Determination of Mineral Contents of Mine. Every taxpayer 
 claiming a deduction for depletion for a given year will be re- 
 quired to estimate or determine with respect to each separate 
 
 iReg. 45, Art. 201. 
 
 2 Reg. 45, Art. 210. 
 
 3 Many of the rules stated in the next chapter with regard to the oil and 
 gas industry have a general application and should be consulted for addi- 
 tional information. 
 
 735 
 
736 FEDERAL INCOME TAX 
 
 property the total units (tons, pounds, ounces, or other measure) 
 of mineral products reasonably known or on good evidence be- 
 lieved to have existed in the ground on the basic date, accord- 
 ing to the method current in the industry and in the light of 
 the most accurate and reliable information obtainable. Pref- 
 erence must be given in the selection of a unit of estimate to 
 the principal unit (or units) paid for in the product marketed. 
 The estimate of the recoverable units of the mineral products in 
 the property for the purposes of valuation and depletion should 
 include as to both quantity and grade (a) the ores and minerals 
 "in sight," "blocked out," "developed," or "assured," in the usual 
 or conventional meaning of these terms in respect to the type of 
 the deposit, and (b) "probable" or "prospective" ores and miner- 
 als (in the corresponding sense), that is, ores and minerals that 
 are believed to exist on the basis of good evidence, although not 
 actually known to occur on the basis of existing development; 
 but "probable" or "prospective" ores and minerals may be com- 
 puted, for purposes of this valuation, (c) as to quantity, only in 
 case they are extensions of known deposits or new bodies or 
 masses whose existence is indicated by geological or other evi- 
 dence to a high degree of probability, and (d) as to grade, of 
 such richness only as accords with the best indications available,* 
 Where a taxpayer discovered that a coal vein on his property 
 was lacking to the extent of certain acreage by reason of the 
 discoveiry in 1917 of a rock fault, it has been held that he is not 
 entitled to loss under the heading of "loss of useful value," but 
 be may revise his estimate of recoverable ore and the capital 
 remaining may be recovered by depletion deductions in subse- 
 quent years. If the mining operation of this property was dis- 
 continued entirely in the taxable year, the deduction for deple- 
 tion should be taken in that year so that the return of capital 
 may be complete.^ 
 
 Statement to be Attached to Return Where Depletion or De- 
 preciation of Mineral Property is Claimed. To the return of 
 every taxpayer claiming a deduction for depletion or deprecia- 
 tion there should be attached a statement setting forth with 
 respect to each mineral property (1) whether the taxpayer is a 
 fee owner, lessor, or lessee; (2) the date of acquisition, and if 
 under lease its exact terms and date of expiration; (3) the cost 
 of the property stating the amount paid to each vendor with his 
 name and address; (4) the basic date at which the property h 
 
 i Reg. 45, Art. 208. 
 
 5 A. E. E. 431, T. B. 12-21-1521. 
 
DEPLETION OF MINES 737 
 
 valued; (5) the value of the property on the basic date with a 
 statement of the precise method by which it was determined ; (6) 
 the value of the surface of the land ;for purposes other than 
 mineral production; (7) the estimated number of units of miner- 
 al at the basic date, with an explanation of the method used in 
 the estimation, and an average analysis which will indicate the 
 quality of the mineral valued; (8) the number of units sold 
 during the year for which the return is made ; (9) the gross and 
 net income derived from the sale of mineral; (10) the amounts 
 deducted for depletion; (11) the amounts sustained on account 
 of depletion or on account of depreciation stated separately from 
 the. basic date to the taxable year; and (12) any other data which 
 will be helpful in determining the reasonableness of the deduc- 
 tions claimed in the return. To tht return of every taxpayer 
 claiming a deduction for depletion in respect of (1) property in 
 which he owns a fractional interest only or (2), a leasehold, or 
 (3) property subject to lease there should also be attached a 
 statement setting forth the name and address and the precise 
 nature of the holding of each person interested in the property, 
 and every lessor is required to attach to his return an affidavit 
 stating, as of the date of filing the return, whether the lease in- 
 volved is still in effect during the year covered by the return, 
 and if not still in effect when it was terminated and for what 
 reason and whether the lessor has repossessed the property.^ 
 
 Discovery of Mines. To entitle a taxpayer to a valuation of his 
 property for the purpose of depletion allowances, by reason of the 
 discovery of a mine on or after March 1, 1913, the discovery 
 must be made by the taxpayer after that date and must result 
 in the fair market value of the property becoming dispropor- 
 tionate to the cost. The fair market value of the property will 
 be deemed to have become disproportionate to the cost when the 
 newly discovered mine contains mineral in such quantity and 
 of such quality as to afford a reasonable expectation of return 
 to the taxpayer of an amount materially in excess of the capital 
 expended in making such discovery plus the cost of future de- 
 velopment, equipment, and exploration. 
 
 A mine may be said to be discovered when (1) there is found a 
 natural deposit of mineral, or (2) there is disclosed by drilling 
 or exploration, conducted above or below ground, a mineral de- 
 posit not previously known to exist and so improbable that it 
 had not been, and could not have been, included in any previous 
 valuation for the purpose of depletion, and which in either case 
 
 6 Reg. 45, Art. 217. 
 
738 FEDERAL INCOME TAX 
 
 exists in quantity and grade sufficient to justify commercial ex- 
 ploitation. The discovery must add a new mine to those previ- 
 ously known to exist and can not be made within a proven tract 
 or lease as defined below. 
 
 In determining whether a discovery entitling the taxpayer to a 
 valuation has been made, the commissioner will take into ac- 
 count the peculiar conditions of each case ; but no discovery, for 
 the purposes of valuation, will be allowed as to ores, or minerals, 
 such as extension of known ore bodies, that have been or should 
 have been included in "probable" or "prospective" ore or miner- 
 al, or in any other way comprehended in a prior valuation, nor 
 as of date subsequent to that when, in fact, discovery was. evi- 
 dent, when delay by the taxpayer in making claim therefor has 
 resulted or will result in excessive allowances for depletion. 
 
 The value of the property claimed as a result of a discovery 
 must be the fair market value, as defined in the preceding chap- 
 ter, based on what is evident within thirty days after the com- 
 mercially valuable character and extent of the discovered de- 
 posits of ore or mineral have with reasonable certainty been 
 established, determined, or proved. After a bona fide discovery 
 the taxpayer must adjust his capital and depletion accounts in 
 accordance with the rules stated in the preceding chapter and 
 must submit such evidence as to establish his right to a revalu- 
 ation, covering the conditions and circumstances of the discov- 
 ery and the size, character, and location of the discovered de- 
 posit of mineral, the value of the property at the prior basic 
 date, the cost of discovery, and its development, equipment and 
 exploitation, its value and the particular method used in the 
 determination. 
 
 In the case of a mine, a "proven tract or lease" includes, but 
 is not necessarily limited to, the mineral deposits known to exist 
 in any known mine at the date as of which such mine was valued 
 for purposes of depletion, and all extensions thereof, including 
 "probable" and "prospective" ores considered as a factor in the 
 determination of their value or cost.''' 
 
 A taxpayer is not entitled to a new valuation for depletion in 
 a known mine; a discovery can not be made of any "probable" 
 
 '^ Reg. 45, Art. 219. The term "discovery" has been defined in a number 
 of cases relating to the location of mining claims, but the word "discovery'' 
 as used in this statute is not used in the sense employed in Revised Statutes 
 § 2320, under vsrhich section it has been held that a sufficient "discovery" to 
 justify a location on public lands need not be a discovery that the ground 
 contains mineral in sufficient quantities to pay. See Words and Phrases, 
 Volume 3, p. 2094. 
 
DEPLETION OF MINES 739 
 
 or "prospective" ores which had been or could have been in- 
 cluded in the previous valuation, and the regulations do not 
 recognize a discovery for the purpose of depletion as the result 
 of improved processes of treatment of ores making commercially 
 valuable ores which were theretofore valueless. If bodies of 
 zinc ore not theretofore known to exist were discovered within 
 the meaning of the regulations, the fact that the explorations 
 were stimulated by recent improvements in metallurgy which 
 made them commercially valuable for the first time would not 
 bar a claim for discovery, and if the original valuations of the 
 taxpayer were based upon estimates of recoverable units, which 
 included only the ores in- sight and blocked out, the properties 
 may be revalued as of the basic date and the depletion rate deter- 
 mined accordingly .s 
 
 Allowable Capital Additions in Case of Mines. All expendi- 
 tures for development, rent, and royalty in excess of receipts 
 from minerals sold should be charged to capital account recover- 
 able through depletion, while the mine is in the development 
 stage. Thereafter any development which adds value to the 
 mineral deposit beyond the current year should be carried as a 
 deferred charge and apportioned and deducted as operating ex- 
 pense in the years to which it is applicable. 
 
 All expenditures for plant and equipment should be charged 
 to capital account recoverable through depreciation, while the 
 mine is in the development state. Thereafter the cost of major 
 items of plant and equipment should be capitalized but the cost 
 of minor items of equipment and plant, necessary to maintain 
 the normal output, and the cost of replacement may be charged 
 to current expense of operation.^ All expenditures by a mining 
 company for prospecting and development for the purpose of 
 enlarging the business or continuing it beyond its present limits 
 must be charged to capital account.^" 
 
 Accumulated Depletion. A lessor of mining property who 
 waived his right to royalties for several years on account of the 
 fact that the mine was operated at a loss, and received all of 
 the royalties in the year 1917, may, if he has submitted returns 
 for those years on a cash receipts and payments basis, deduct 
 from the income received in 1917 such depletion allowance as 
 appertains to that income.^^ 
 
 8 A. R. M. 124, T. B. 19-21-1620. 
 
 9 Reg. 45, Art. 222. 
 
 WO. D. 314, T. B. 26-19-589. 
 11 A. R. M. 17, T. B. 2-20-674. 
 
CHAPTER 29 
 DEPLETION OF OIL AND GAS WELLS 
 
 The provisions of the Revenue Act of 1921 permitting the de- 
 duction of an allowance for depletion in the case _ of mines, oil 
 wells, gas wells, or other natural deposits and tim'ber, has been 
 set forth and discussed generally in another chapter.^ This al- 
 lowance is based (a) upon cost, if acquired after February 28, 
 1913, or (b) upon the fair market value as of March 1, 1913, if 
 acquired prior thereto, or (c) upon the fair market value within 
 30 days after the date of discovery in the case of mines discov- 
 ered by the taxpayer after February 28, 1913, where the fair 
 market value is materially disproportionate to the cost. The 
 depletion provision of the Revenue Act of 1918 was identical with 
 that of the present law except that the present law contains the 
 following limitation: "Such depletion allowance based on dis- 
 covery value shall not exceed the net income, computed without 
 allowance for depletion, from the property upon which the dis- 
 covery is made, except where such net income so computed is less 
 than the depletion allowance based on cost or fair market value 
 as of March 1, 1913." 2 The essence of the depletion provision 
 is that the owner of mineral deposits, whether leasehold or free- 
 hold, shall secure through an aggregate of annual depletion and 
 depreciation deductions the amount indicated in (a) , (b) , or (c) , 
 whichever applies to his particular case, plus in any case the sub- 
 sequent cost of plant and equipment (less salvage value) and 
 underground and overground development, which is not charge- 
 able to current operating expense, but not including land values 
 for purposes other than the extraction of minerals.^ 
 
 "Capital Sum." The term "capital sum" is used in this chapter 
 to denote the total amount recoverable to the taxpayer by means 
 of depletion, depreciation, and obsolescence allowances. Both "cost 
 of property" and "cost of development," in so far as they have 
 not been decreased by allowable deductions, are chargeable to cap- 
 ital sum and are returnable through the several allowable deduc- 
 
 1 Revenue Act of 1918, §§ 214 (a) 10, 234 (a) 9. 
 
 2 Revenue Act of 1921, § 214 (a) (10) and § 234 (a) (9). 
 
 3 Reg. 45, Art. 201. It has seemed necessary for the clearer understanding 
 of this chapter to repeat some of the rules stated in Chapter 27; where 
 possible, however, this has been avoided. Reference is made to that chapter 
 for definitions of various terms used herein. 
 
 740 
 
DEPLETION OF OIL AND GAS WELLS 741 
 
 tions. Structures and equipment may also be included in capital 
 assets and are returnable through depreciation. In the case of re- 
 valuations as of March 1, 1913, or within 30 days of a discovery 
 by the taxpayer made subsequent to February 28, 1913, the value 
 thus established plus consequent costs not otherwise deducted be- 
 comes the total of "capital sum." This revaluation, however, does 
 not affect the invested capital. Development costs (except the cost 
 of physical property) may be deducted as an expense in the year 
 in which they are paid out'or at the option of the taxpayer may 
 be charged to capital sum. Election once made under this option 
 is final and will control the returns for all subsequent years.* 
 
 Cost of Property. Cost of property includes all amounts (in 
 cash or its equivalent) paid for and incident to the establishment 
 of title and acquisition of the lease or fee, as the case may be, 
 such as — purchase price of lease or fee ; purchase price of physi- 
 cal property ; salaries or commissions paid to brokers or agents ; 
 fees to geologists, attorneys, surveyors, etc., for examination and 
 defense of title, establishing boundaries, etc., state and county 
 fees for recording and legalizing transfers, and all other pay- 
 ments made in acquiring and establishing title to the properties.^ 
 
 Cost of Development. Cost of development comprises all 
 payments made for and incident to the drilling of wells, such as 
 for (1) physical property ; (2) geological and other surveys, made 
 subsequent to acquisition; (3) roads; (4) water supplies; (5) 
 hauling; (6) wages; (7) drilling; (8) shooting; (9) overhead 
 charges (incident to drilling of wells); (10) fuel; and (11) all 
 other similar expenditures.^ 
 
 "Capital Sum" and "Invested Capital." The term Capital Sum 
 is applied to the total amount returnable to the taxpayer through 
 depletion, depreciation, and obsolescence allowances. It is to be 
 clearly distinguished from the term "invested capital," which is 
 the basis for the determination of war-profits credits and excess- 
 profits credits of corporations. It has no necessary relation to 
 the "invested capital." It may represent the investment of funds 
 belonging to the taxpayer, or the investment of borrowed funds, 
 which have no relation to invested capital ; under the provisions 
 of the law and regulations, the capital sum may include amounts 
 based upon the right of valuation as of March 1, 1913, or within 
 30 days after the discovery of oil or gas by the taxpayer. Where 
 such valuations are allowable, they have no application to in- 
 
 * Manual for the Oil and Gas Industry, p. 10. 
 5 Manual for the Oil and Gas Industry, p. 9. 
 8 Manual for the Oil and Gas Industry, p. 10. 
 
742 FEDERAL INCOME TAX 
 
 vested capital/ and may not be used for any purpose other than 
 as a basis for depletion, depreciation, and obsolescence, or as a 
 basis upon which to determine the gain or loss arising from the 
 sale or surrender of property acquired prior to March 1, 1913. 
 With respect to any allowance for amortization the basis is the 
 cost of property acquired after April 5, 1917, and no amount may 
 be added on account of revaluation for discovery. Neither may 
 any revaluation on account of discovery be used in determining 
 gains or losses on the sale of mineral properties.^ 
 
 Capital Recoverable Through Depletion Deduction in Case of 
 an Operating Owner. In the case of an operating owner in fee, 
 the capital remaining in any year recoverable through depletion 
 and depreciation deductions is (a) the cost or value of the prop- 
 erty at the basic date plus (b) subsequent allowable capital addi- 
 tions and minus (c) depletion and depreciation sustained, 
 whether legally allowable or not, from the basic date to the tax- 
 able year, and minus (d) the value of the land at the basic date 
 for other purposes than mineral production. The capital recover- 
 able through depletion is the total capital remaining less the sum 
 recoverable through depreciation. Where depletion deductions 
 for former years have or should have been taken these amounts 
 are to be subtracted from the capital sum returnable through 
 depletion deductions. In no case may the amount returnable 
 through deductions for depletion include items against which de- 
 preciation is being charged ; that is, the cost (or value) of physi- 
 cal property may not be included, since it is returnable through 
 depreciation deductions.* 
 
 Capital Recoverable Through Depletion Deduction in the Case 
 of Lessee, (a) In the case of a lessee, the capital remaining in 
 any year recoverable through depletion and depreciation deduc- 
 tions is (1) the value as of the basic date of the lessee's equity 
 in the property plus (2) subsequent allowable capital additions 
 but minus (3) depletion and depreciation sustained, whether 
 legally allowable or not, from the basic date to the taxable year. 
 The capital recoverable through depletion is the total capital re- 
 maining less the sum recoverable through depreciation. 
 
 (b) The value of the equities of lessor and lessee must be 
 computed separately, but, when determined as of the same basic 
 date, may together never exceed the value at^that date of the 
 property in fee simple. 
 
 7 Except as indicated in Reg. 45, Art. 844 (2). 
 
 8 Manual for the Oil and Gas Industry, p. 29. See Chapter 2. 
 
 9 Reg. 45, Art. 202 ; Manual for the Oil and Gas Industry, p. 20. 
 
DEPLETION OF OIL AND GAS WELLS 743 
 
 (c) The value of a lessee's equity, if acquired prior to March 
 1, 1913, is the value of his interest in the mineral as of that date. 
 
 (d) The value of a lessee's equity in a proven mineral property 
 acquired on or after March 1, 1913, is its cost. 
 
 (e) The value of a lessee's equity in a discovery on or after 
 March 1, 1913, is the fair market value at date of discovery or 
 within 30 days thereafter, of his equity in the mineral discov- 
 ered.^" 
 
 Capital Recoverable Through Depletion Deduction in the Case 
 of Lessor, (a) In the case of a lessor, the capital remaining in 
 any year recoverable through depletion and depreciation deduc- 
 tions is (1) the value of his equity in the property at the basic 
 date minus (2) depletion and depreciation sustained, whether 
 legally allowable or not, from the basic date to the taxable year, 
 plus (3) subsequent allowable capital additions, and minus (4) 
 the value of the land at the basic date for other purposes than 
 mineral production. The capital recoverable through depletion 
 is the total capital remaining less the sum recoverable through 
 depreciation. 
 
 (b) The value of the equities of lessor and lessee must be 
 computed separately, but, when determined as of the same basic 
 date, may together never exceed the value at that date of the 
 property in fee simple. 
 
 (c) The value of the lessor's equity in the case of a mineral 
 property not under lease on March 1, 1913, but subsequently 
 leased, is the en bloc value of the mineral in the ground on March 
 1, 1913, and will in the absence of satisfactory evidence to the 
 contrary, be presumed not to exceed the value as of March 1, 
 1913, of the royalties to be expected under the lease. 
 
 (d) The value of a lessor's equity in a mineral property under 
 lease March 1, 1913, for the entire operating life of the mineral 
 deposits is the value as of March 1, 1913, of the royalties and 
 other payments to be expected under the terms of the lease in 
 effect on that date. 
 
 (e) The value of a lessor's equity in a mineral property under 
 lease for a portion of its operating life is the value as of March 
 1, 1913, of the royalties expected from the mineral to be ex- 
 tracted during the life of the existing lease plus the estimated en 
 bloc value of the mineral remaining at its expiration, which, in 
 the absence of satisfactory evidence to the contrary, will be pre- 
 sumed not to exceed the value as of March 1, 1913, of royalties 
 
 10 Reg. 45, Art. 203; A. R. R. 570, T. B. 37-21-1818. 
 
744 FEDERAL INCOME TAX 
 
 which could have been expected as at that date from the remain- 
 ing mineral. 
 
 (f ) The value of a lessor's equity in a mineral property when 
 acquired on or after March 1, 1913, is its cost. 
 
 (g) The value of a lessor's equity in a discovery on or after 
 March 1, 1913, is the fair market value at the date of discovery, 
 or within 30 days thereafter, of his equity in the mineral dis- 
 covered.^i 
 
 Determination of Cost of Deposits. The cost of oil and gas 
 properties is determined in accordance with the rules set forth 
 in another chapter.^^ 
 
 Fair Market Value of Oil or Gas Properties. The determina- 
 tion of the fair market value of an oil or gas property (or the 
 taxpayer's interest therein) and the rules and tests and evidence 
 bearing on the determination of market value are set forth in 
 another chapter.is No revaluation of property will be permitted, 
 as stated more fully in the same chapter. 
 
 Determination of Quantity of Oil in Ground. In the case of 
 either an owner or lessee it will be required that an estimate, sub- 
 ject to the approval of the Commissioner, shall be made of the 
 probable recoverable oil contained in the territory with respect 
 to which the investment is made as of the time of purchase, or as 
 of March 1, 1913, if acquired prior to that date, or within 30 days 
 after the date of discovery, as the case may be. The oil reserves 
 must be estimated for all undeveloped proven land as well as pro- 
 ducing land. If information subsequently obtained clearly shows 
 the estimate to have been materially erroneous, it may be revised 
 with the approval of the Commissioner.^* The estimate of prob- 
 able recoverable oil in the ground is fundamentally necessary if a 
 reasonable deduction for depletion is to be calculated, and, while 
 it may be impossible to determine exactly the future production 
 of a well or tract, it has been found possible to predict future pro- 
 ductions with a comparatively narrow limit of error. The result 
 of analysis of a great volume of production records has led to the 
 development of the method suggested in the following para- 
 graph.15 
 
 Method of Estimating Recoverable Reserves. The tax- 
 payer may estimate his recoverable reserves by any methods 
 
 11 Reg. 45, Art. 204. 
 
 12 See page 718. 
 
 13 See Chapter 27. See also Chapter 17. 
 1* Reg. 45, Art. 209. 
 
 15 Manual for the Oil and Gas Industry, p. 29. 
 
DEPLETION OF OIL AND GAS WELLS 745 
 
 that can be shown to be well founded, but in all cases the data 
 upon which such estimate was based must be submitted, with a 
 description of the method employed and a resume of thp calcula- 
 tions. The treasury department does not prescribe any particular 
 method of estimating recoverable reserves, but various methods, 
 applicable to a wide variety of conditions have been suggested by 
 the treasury department.!^ 
 
 These methods may be summarized as follows : 
 
 1. Plotting the record of production of individual wells, or, 
 lacking such detailed information, the average production per 
 well for each tract. 
 
 2. Deriving from these graphical records an average or com- 
 posite production decline curve for the district. 
 
 3. Estimating from the last year's average production per well 
 the probable future production, based on the average production 
 decline curve, or a future production curve derived from the pro- 
 duction decline curve. 
 
 4. Ascertaining probable total future production of producing 
 wells by multiplying average future production per well by the 
 number of wells producing at the end of the year. 
 
 5. Estimating the probable future production of undeveloped 
 proven land on the basis of nearby production, making due allow- 
 ance for the decline in pressure due to the extraction of oil from 
 the pool. 
 
 Computation of Allowance for Depletion of Oil Wells. The 
 method of computing the depletion allowance has been given in 
 a previous chapter as applicable to all natural resources.!'^ In 
 general, the allowance for depletion of oil wells is ascertained by 
 multiplying the number of mineral units extracted from a well 
 each year by the unit value. The unit value is ascertained by 
 dividing cost, or value at the basic date remaining for depletion, 
 by the number of barrels of oil or units of gas to which this di- 
 minished cost or value is applicable.^^ Each barrel of oil or unit 
 extracted and marketed must, before a profit can be realized, pay 
 not only its proportionate share of the operating expense and 
 deductions for depreciation and obsolescence of physical property, 
 but also must pay its proportionate share of capital sum return- 
 able through depletion allowances. This proportionate share of 
 capital sum returnable through depletion allowances, which each 
 unit of oil or gas must pay, is unit cost.. Unit cost is obtained by 
 
 16 See Manual for the Oil and Gas Industry. 
 
 17 See page 722. 
 
 18 Reg. 45, Art. 210. For a full statement of this rule, see Chapter 27. 
 
746 FEDERAL INCOME TAX 
 
 dividing the capital sum returnable through depletion by the 
 "estimated recoverable reserve" at the beginning of the taxable 
 year. The recoverable reserves used in deriving the unit cost 
 should be the taxpayer's share only. The depletion deduction is 
 computed by multiplying the unit cost by the number of units 
 produced during the taxable year.^^ 
 
 19 The following illustration shows the effect of the rule stated in the 
 text: 
 
 A, a lessee, has an oil lease in which his original investment (ex- 
 clusive of value of physical property) was $20,000 
 
 Development cost (exclusive of cost of physical property) not 
 
 otherwise deducted 80,000 
 
 Capital returnable through depletion allowance $100,000 
 
 Estimated gross recoverable reserves at end of taxable year 
 
 barrels 400,000 
 
 Gross production during taxable year barrels. . . . 100,000 
 
 Gross reserves oil at beginning of year do 500,000 
 
 Lessee's share (i) do 437,500 
 
 Lessor's share ( I ) do 62,500 
 
 Total do 500,000 
 
 Therefore unit cost for lessee is ^g°°;°°° , or, per barrel $0.2285 
 
 Lessee's share of production during year is I of 100,000, or, 
 
 barrels 87,500 
 
 A's depletion allowance for the taxable year is, therefore, 87,500 
 
 X $0.2285 $19,993.75 
 
 B, the owner in fee of the property, had invested $40,000 
 
 Of which the value of the land exclusive of oil rights represents 25,000 
 
 The investment in the oil deposit is $15,000 
 
 B's unit cost is, therefore, ^1M9!! , or, per barrel $0.24 
 
 ' 62,500 ' ' ^ 
 
 Lessor's share of production is i of 100,000 barrels, or 12,500 
 
 And his depletion allowance for the same year is 12,500 x $0.24, or $3,000 
 
 The above example presupposes that B leased his land without bonus. 
 
 Any amount received by a lessor as bonus for an oil and gas lease on the 
 property would reduce his capital sum by that amount. 
 
 Illustration : 
 
 The lessor's (B's) investment in the deposit is $15,000 
 
 He receives as bonus 5,000 
 
 His net investment in the deposit is, therefore $10,000 
 
 He sells a one-half interest in his royalty for $6,000 
 
 As this half cost him < 5,000 
 
 His profit is $1,000 
 
DEPLETION OF OIL AND GAS WELLS 747 
 
 Revised Estimate of Reserves. If proper additions, are 
 made to the capital account represented by the original cost or 
 value of the property, or circumstances make advisable a revised 
 estimate of the number of mineral units in the ground, a new 
 unit value for purposes of depletion may be found by dividing the 
 capital account at the end of the year, less deductions for deple- 
 tion to the beginning of the taxable year which have or should 
 have been taken, by the number of units in the ground at the 
 beginning of the taxable year. This number, unless a revision 
 of the original estimate has been made, will equal the number 
 of units in the ground at the date of original acquisition or valua- 
 tion less the number extracted prior to the taxable year. • If, 
 however, a recalculation is made, the number of units at the be- 
 ginning of the year will be the sum of the gross production of 
 the year and the estimated mineral reserves in the property at 
 the end of the year. If a certain proportionate part of the les- 
 see's capital returnable through depletion deductions is deducted 
 in a given year the same proportion of the lessor's capital sum 
 returnable through depletion will be deducted.^** 
 
 Computation of Allowance for Depletion of Gas Wells. On ac- 
 count of the peculiar conditions surrounding the production of 
 natural gas it will be necessary to compute the depletion allow- 
 ance for gas properties by methods suitable to the particular 
 cases in question and acceptable to the Commissioner. Usually 
 the depletion of natural gas properties should be computed on 
 the basis of decline in closed or rock pressure, taking into ac- 
 count the effects of water encroachment and any other modifying 
 factors. The gas producer will be expected to compute the de- 
 pletion as accurately as possible and submit with his return a 
 description of the method by which the computation was made. 
 The following formula, in which the units of gas are pounds per 
 square inch of closed pressure, is recommended: The quotient 
 of the capital account recoverable through depletion allowances 
 to the end of the taxable year divided by the sum of the pressures 
 at the beginning of the year plus the sum of initial pressures of 
 
 And is subject to tax as income. 
 
 His capital sum remaining is $5,000 
 
 If he had sold a one-half interest in his royalty for 4,000 
 
 He would have sustained a loss of $1,000 
 
 and should deduct this amount from gross income as a loss in computing his 
 tax. 
 
 20 Manual for the Oil and Gas Industry, p. 30. 
 
748 FEDERAL INCOME TAX 
 
 new wells and less the sum of the pressures at the time of ex- 
 pected abandonment (which quotient is the unit cost) multiplied 
 by the sum of the pressures at the beginning of the taxable year 
 plus the sum of the initial pressures of new wells and less the 
 sum of the pressures at the end of the tax year equals the deple- 
 tion allowance.2i The above methods are more fully discussed in 
 the following paragraphs. 
 
 Details of Production or the Performance Record of the 
 Well or Property. As a general rule the demand on a natural 
 gas property is a variable factor. In certain fields, however, the 
 demand from some wells has from the beginning, or for consid- 
 erable periods, been greater than the supply, so that the amount 
 of gas marketed per well may, as in the case of oil, show a regu- 
 lar decline, which will be indicative of the total amount that the 
 well may be expected to produce, and also the rate of production. 
 Even where the demand does not greatly exceed the supply, the 
 amount and rate of past production may in certain cases throw 
 light on the future of the well or property .22 
 
 Decline in Open-Flow Capacity. Where data are available 
 the decline in open-flow capacity indicates in a general way the 
 rate of exhaustion of the gas field. The relationship is not at all 
 close and varies from field to field and from well to well. Also for 
 most gas wells accurate data on decline in open-flow capacity are 
 not available. Nevertheless it is probable that for certain prop- 
 erties this method will have value, for with rare exceptions the 
 production of gas from a well leads to a decline in its capacity, 
 and the fraction produced is roughly proportional to the decline.^s 
 
 Comparison with Life History of Similar Wells or Prop- 
 erties Particularly Those Now Exhausted or Nearing Ex- 
 haustion. Where no other data are available the rate of de- 
 pletion of a gas well or property may be approximated by compar- 
 ison with a neighboring well or property that has reached a later 
 stage in life. Particularly is this applicable in a district where 
 many gas wells have become exhausted. For example, in a region 
 where wells produce during a period of 8 to 12 years, or an aver- 
 age of 10 years, a 10 per cent, deduction will be a rough approxi- 
 mation of the rate of depletion.2* 
 
 Size of Reservoir and Pressure of Gas, or the Pore-Spacs 
 Method. For some properties the pore-space method may be 
 
 21 Reg. 45, Art. 211; Manual for the Oil and Gas Industry, p. 32. 
 
 22 Manual for the Oil and Gas Industry, p. 32. 
 
 23 Manual for the Oil and Gas Industry, p. 32. 
 
 24 Manual for the Oil and Gas Industry, p. 32. 
 
DEPLETION OF OIL AND GAS WELLS 749 
 
 best for estimating underground supplies of natural gas and for a 
 good many it will furnish additional evidence of value. The 
 method would be ideal if the average percentage of pore-space, 
 the extent and thickness of the sand, and the pressure of the gas 
 could be accurately ascertained. In computing the reserves of an 
 individual property by this method the migratory character of 
 gas must be considered and the production and behavior of ad- 
 jacent properties taken into account. The factors that make the 
 method difficult to apply are difficulty of accurately ascertaining 
 the thickness of pay, limits of pool, percentage of pore-space, the 
 effect of encroaching water and oil, and the quantity of gas re- 
 maining when commercial production is no longer possible. Take, 
 for example, a pool where there is no encroachment by water. 
 Suppose that the pore-space is 25 per cent., the thickness of the 
 pay 20 feet, and the extent of the pool 10 square miles, or roughly 
 280,000,000 square feet. The volume of the reservoir would be 
 1,400,000,000 cubic feet, and the amount of gas in the sand could 
 be readily computed by taking into account the closed pressure 
 of the wells.25 
 
 Other Indications of Depletion. Additional evidence of 
 decreasing supply of natural gas in the ground is commonly ob- 
 servable in the behavior of the wells and the provision that must 
 be made for transporting the gas to market. Observations on 
 minute pressures show more or less progressive change as the 
 wells become older and an increasing amount of gas is drawn 
 from the ground. Line pressures and pressures at compressing 
 stations are also likely to show a progressive change in the same 
 direction. The appearance of water or oil in a gas well or in 
 neighboring gas wells may be a very significant symptom of the 
 approaching termination of the life of the well. The clogging of 
 gas wells by paraffin, salt, or other deposits may demand modi- 
 fication of depletion estimates.^" 
 
 Closed-Pressure Method. Because of its general applica- 
 bility, the closed-pressure method is by far the best method of 
 estimating the depletion of gas properties. Unfortunately, ac- 
 curate closed-pressure data have not been kept for all properties 
 or perhaps even for the majority of properties, but the rock pres- 
 sure in most pools is known or is ascertainable with a fair degree 
 of accuracy, and the information drawn from the pressure de- 
 cline is, with the exception of a few fields, not subject to profound 
 modification because of factors whose value can not be appraised. 
 
 25 Manual for the Oil and Gas Industry, p. 33. 
 
 26 Manual for the Oil and Gas Industry, p. 33. 
 
750 FEDERAL INCOME TAX 
 
 The basis of this method is Boyle's law. According to this law 
 of physics, if gas is pumped into a vessel until the pressure is 200 
 pounds and then is drawn off until the pressure is 100 pounds, 
 the size of the vessel remaining fixed, and ignoring for the mo- 
 ment atmospheric pressure, it may be concluded that one-half of 
 the gas has been drawn out of the vessel. If an underground gas 
 reservoir of fixed dimensions is tapped by wells and the pressure 
 is found to be a thousand pounds, and then if the gas is drawn 
 off through the wells until the gas pressure in the pool is lowered 
 to 100 pounds, we may infer that about nine-tenths of the supply 
 of gas has been exhausted.^^ 
 
 "Unit Cost" as Applied to Natural Gas. Although, as a 
 rule, the number of cubic feet of gas under a tract can not be sat- 
 isfactorily estimated and the quantity that will be marketed is 
 even less definite, the "unit cost method" can be used by re- 
 garding pounds of closed pressure as units, for the actual quan- 
 tity of gas underground commonly varies with the decline in 
 pressure and the relative quantity at the beginning and end of the 
 tax year and at the time of abandonment, is, in the lack of better 
 information, usable for tax purposes.^s 
 
 Corrections and Refinements of Closed- Pressure Method. 
 Several corrections and more or less important refinements are 
 made in applying this method to the cornputation of depletion, 
 and it should be borne in mind that it does not afford data on 
 the amount of gas originally in the pool or at any later specified 
 time, .but only the fraction of the gas that has been removed from 
 its natural reservoir and the fraction remaining in that reservoir. 
 Perhaps the most important of these corrections arises out of the 
 fact that the size of the reservoir does not remain fixed but be- 
 comes smaller as the gas is drawn and water or oil advances into 
 a part of the space formerly occupied by the gas. The pressure is 
 thus prevented from declining at a rate proportionate to the 
 amount of gas drawn from the pool. The correction on account of 
 water or oil encroachment is difficult to make, because of the lack 
 of data to determine the extent of the encroachment. However, 
 in a good many pools, after a study of the distribution of wells 
 that have been '■'drowned out" and the history of water troubles 
 in similar near-by pools, it is possible to make allowance for 
 water or oil encroachment which will more or less closely approx- 
 imate the facts. 
 
 27 Manual for the Oil and Gas Industry, p. 33. 
 
 28 Manual for the Oil and Gas Industry, p. 34. 
 
DEPLETION OP OIL AND GAS WELLS 751 
 
 Another refinement applicable to the computation of depletion 
 of natural gas by the closed-pressure method is based upon the 
 fact that even where there is no encroachment of water or oil the 
 depletion is not precisely represented by the gauge readings, 
 though the errors are generally so small that they may be ig- 
 nored. For example, where the pressure declines from 1,000 to 
 500 pounds, the gas is not exactly half gone, for the reason that 
 the pressures referred to are gauge readings and to each should 
 be added the pressure of the atmosphere — for most fields about 
 14.4 pounds to the square inch. The fraction remaining in the 
 
 ground then becomes — -. 
 
 1014.4 
 
 Account should stlso be taken of the pressure at which wells 
 are abandoned in the field or district. 
 
 If wells can not be operated with profit after the pressure has 
 declined to 25 pounds gauge reading (39.4 pounds absolute) , then 
 the percentage of recoverable gas remaining when the pressure 
 has declined from 1,000 to 500 pounds gauge reading is not one- 
 half of even the fraction ^^ but — . The difference in the 
 
 1014.4 »75 
 
 fraction where pressures of several hundred pounds are involved 
 is not great and scarcely worth considering in view of the other 
 errors which are certain to affect the result. However, after the 
 pressure has declined to a low figure, the matter of correcting the 
 fraction becomes of considerable importance. Thus, if the pres- 
 sure of abandonment is 4 pounds gauge reading and during the 
 year the average closed pressure of a pool has declined from 10 
 pounds to 5 pounds gauge reading, five-sixths instead of one-half 
 of the recoverable gas has been withdrawn. 
 
 Still another refinement that has, as a rule, more theoretical 
 than practical value may be worthy of consideration in certain 
 instances. This arises out of the fact that the gases do not ex- 
 pand precisely as the pressure decreases, and that even if the 
 size of the natural reservoir remains fixed the pressure does not 
 decline in exact proportion to the amount of gas removed. The 
 difference amounts to only a few per cent, and is greatest for 
 high pressures. In the decline from 1,000 to 500 pounds per 
 square inch the gas expands several per cent, more than would 
 be calculated by a strict application of Boyle's law, and in a de- 
 cline from 1,500 pounds to 1,000 pounds the departure is still 
 greater. The correction varies from field to field because of the 
 different constitution of the gases, though since most natural 
 gases consist largely of methane the variations on account of 
 differences in gases are not great. 
 
752 FEDERAL INCOME TAX 
 
 A fourth detail of refinement arises out of the fact that o. 
 the average more gas is marketed for 50 pounds of decline in 
 pressure after the pressure has reached 100 pounds or less than 
 an equal decline while the pressure is high, as, for example, 1,000 
 pounds per square inch. Also the expense of marketing gas after 
 the pressure has become low is greater than when it was high, 
 largely because of the necessity of installing compressors to push 
 the gas through the pipe lines to the consumers. These two con- 
 siderations have a tendency to balance each other and, with cer- 
 tain exceptions, will not be of sufficient importance to warrant 
 an attempt to apply the corrections.^^ 
 
 Method of Gauging. In using the closed-pressure method of 
 estimating depletion, the method of gauging is of vital impor- 
 tance and in many fields is not carried out with sufficient care. 
 Care should be taken to make sure that the gauge is accurate, 
 testing it before and after attaching it to the well. If it must be 
 transported far or is subject to much jolting in transportation, 
 a gauge tester should be taken along and used at the well. Care 
 should also be taken to empty the well of oil and water by pump- 
 ing, blowing, or siphoning before attaching the gauge, for any 
 liquid in the hole will lower the closed pressure reading. The 
 well should be closed long enough to allow the pressure to build 
 up to its maximum. The length of time necessary for this pur- 
 pose varies a great deal from field to field and well to well. The 
 well should remain closed until the pressure will not build up 
 more than 1 per cent, in 10 minutes. Ordinarily, 24 hours will be 
 sufficient for this purpose, but for some wells several days or even 
 a longer period will be required, owing to the slowness of equali- 
 zation of pressure in the sand.^" 
 
 Apportionment of Depletion Among Various Sands. Where 
 more than one sand under a property is yielding gas, the problem 
 arises as to how to weigh or evaluate the decline in pressure in 
 the different sands. Suppose there is a very good gas sand in 
 which the pressure declines from 600 to 300 pounds during the 
 year, and a very poor sand in which the pressure declines from 
 800 to 750. The depletion sustained is not indicated by the aver- 
 age decline in pressure but is more nearly proportionate to the 
 decline ih the good sand. If accurate figures on capacities of 
 wells are obtainable, it will be possible to make a fairly accurate 
 weighting of the pressure declines, or if facts indirectly indicat- 
 ing capacity of individual wells are obtainable some light may be 
 
 29 Manual for the Oil and Gas Industry, p. 34. 
 
 30 Manual for the Oil and Gas Industry, p. 35. 
 
DEPLETION OF OIL AND GAS WELLS 753 
 
 thrown on the question. But, as a general rule, it is necessary to 
 average the decline of wells drawing from different sands as 
 though they were drawing from the same sand.^^ 
 
 Season for Testing Wells for Closed Pressure. For many 
 fields summer or early fall readings furnish the best indication 
 of decline in closed pressure. It is therefore recommended that 
 such readings be taken regularly and consistently. Summer or 
 fall readings are of especial value because these seasons for most 
 fields are at the end of a period during which the wells have not 
 been subject to heavy draft, and hence are in best condition to 
 accurately reflect the pressure of the gas in the underground pool 
 or reservoir. If pressures of all wells or representative wells are 
 observed regularly and carefully in summer or early fall, these 
 readings may in many cases be applied direct to the end of the 
 taxable year, though in some cases it may be possible and desir- 
 able to estimate the pressures at the end of the taxable year from 
 pressures observed at other times. Obviously, it will not be pos- 
 sible to test the pressures of all wells at the exact end of the tax- 
 able year. 
 
 If in one part of a tract a gas well is brought in at a pressure 
 of 1,000 pounds and during the remainder of the taxable year the 
 pressure declines to 700 pounds, the rough inference may be 
 drawn that three-tenths of the gas has been taken from the tract 
 and, subject to corrections in certain cases, three-tenths of the 
 capital returnable through depletion may be charged off. Sup- 
 pose that some time in the next taxable year a gas well is com- 
 pleted on another part of the tract and that its initial pressure is 
 800 pounds. If by the end of the year the pressure of this well 
 has declined to 700 pounds while the pressure of the first well has 
 dropped to 500 pounds, the fraction of the capital account re- 
 turnable through depletion the second year is proportional to the 
 average decline in pressure, assuming that there are no water 
 troubles or other noteworthy complications. The average of 700 
 and 800 is 750 and the average of 500 and 700 is 600. The differ- 
 ence or average decline in pounds or units of gas is 150, and this 
 represents a decline of 20 per cent, from 750. It will be noted 
 that the exact date of completion of the new well does not enter 
 the computation and it is treated as though it were finished at 
 the beginning of the year. The rate of decline within the year is 
 of little consequence, the main consideration being the amount of 
 decline for the whole year. If the year's decline occurred within 
 a month, or even a week, it is treated the same as though it were 
 
 31 Manual for the Oil and Gas Industry, p. 36. 
 
754 FEDERAL INCOME TAX 
 
 spread over the entire year. Abandoned wells may be regarded 
 as fully depleted and their pressure counted as zero in computing 
 depletion. Consider the wells just described and assume that 
 in the third year a third well is brought in and one of the old wells 
 is abandoned. Suppose the pressure at the first well declined 
 from 500 pounds to about zero and the well is abandoned, the 
 second well to 300 pounds and the third to 600. The pressure of 
 the two old wells at the beginning of the year and of the new 
 one at its completion averaged 600 pounds, and the average of the 
 three at the end of the year was 300. The depletion indicated is 
 50 per cent, of the remaining capital account. It is suggested 
 that the capital sum at the beginning of each year be treated as 
 100 per cent, for the average pressure at the beginning of the 
 year and the average decline during the year will then furnish a 
 readily usable basis for computing the depletion allowance. The 
 amount of gas in the ground is, as a rule, to be regarded as lim- 
 ited to the proven territory so that as new wells are drilled and 
 the territory is enlarged, or new gas-bearing sands are discov- 
 ered, the denominator of the fraction indicating depletion varies 
 from year to year.^^ 
 
 FORMULA.^^ The following discussion is offered for the use of 
 those who prefer to use a formula in computing the depletion al- 
 lowance. Perhaps the simplest formula may be written : 
 
 X t 
 
 — Xa=depletion allowance. 
 
 y 
 
 In this formula x stands for the capital siim to the end of the 
 year; y is the total future pressure decline or the sum of the 
 pressures at the beginning of the tax year + the sum of the 
 initial pressures of new wells — the sum of the pressures at the 
 time of expected abandonment ; z is the pressure decline during 
 the year as obtained by adding to the sum of the pressures at the 
 beginning of the year the sum of the initial pressures of any new 
 wells completed during the year and subtracting the sum of the 
 pressures at the end of the year. The formula may also be writ- 
 ten as follows : 
 
 32 Manual for the Oil and Gas Industry, p. 36. 
 
 33 Manual for the Oil and Gas Industry, p. 37. 
 
DEPLETION OF OIL AND GAS WELLS 755 
 
 Capital sum to end of tax year Sum of pressures 
 
 X at beginning of 
 
 Sum of the pressures at be- tax year + sum 
 ginning of year + the sum of of pressures of = Depletion 
 initial pressures of new wells new wells — allowance. 
 — sum of pressures at time of sum of pres- 
 expected abandonment. sures at end of 
 
 tax year. 
 Gas Well Pressure RecO'rds to Be Kept. Beginning with 1919 
 closed pressure readings of representative wells, if not of all 
 wells, must be carefully made and kept. In order to standardize 
 pressure readings the well should remain closed until the pres- 
 sure does not build up more than 1 per cent, of the total pressure 
 in 10 minutes. Ordinarily 24 hours will suffice for this purpose, 
 but some wells will need to remain closed for a longer period. If 
 there is any water in the well it should be blown or pumped off 
 before the well is closed. A closed pressure reading of a gas well 
 which has been producing, or is near gas wells that have been pro- 
 ducing, is lower than the actual pressure of the gas in the reser- 
 voir by an amount depending on the well's location with refer- 
 ence to other producing wells and the length of time it has been 
 closed in. It is necessary to record the length of time the well 
 has been closed and to show how the pressure built up during this 
 period. Successive readings will indicate the point at which the 
 pressure becomes approximately stationary, that is, the point at 
 which the closed pressure approaches as nearly as possible the 
 maximum pressure which would be shown if all wells in the pool 
 were closed for several months. The length of time required 
 varies with the character of the sand, position of the packer, the 
 location of the well with reference to other wells, the limits of the 
 pool, and other factors. The depth of the well, diameter of tub- 
 ing, and line pressure when the well was shut off, should be 
 noted. Since readings at the exact end of the taxable year will 
 ordinarily not be available, the pressure of that date may be ob- 
 tained by interpolation or extrapolation. In certain cases read- 
 ings taken regularly in September or some other month may be 
 applicable to the end of the taxable year. As a general rule 
 September closed pressure readings furnish the best indication 
 of depletion and it is recommended that such readings be made 
 with regularity and care. Where interpolated or extrapolated 
 readings are used the data from which they are obtained should 
 be given. Gauges should be of appropriate capacity and should 
 be frequently tested. A record should be kept of the number of 
 
'''56 FEDERAL INCOME TAX 
 
 gauges, date each was tested, names of men testing, and other 
 significant details.^* 
 
 Computation of Depletion Allowance Where Quantity of Oil or 
 Gas Uncertain. If by reason of the youth of the field, the re- 
 stricted production, or for any other cause, it is not possible to 
 determine with any degree of certainty the quantity of oil or gas 
 in a property, it will be necessary to make a tentative estimate 
 which will apply until production figures are available from 
 which an accurate estimate may be made.35 
 
 Computation of Depletion Allowance for Combined Holdings 
 of Oil and Gas Properties. The recoverable oil belonging to the 
 taxpayer should be estimated for each property separately. The 
 capital account for each property includes the cost or value, as 
 the case may be, of the oil or gas lease or rights plus all inci- 
 dental costs of development not charged as expense nor return- 
 able through depreciation. The unit value of the recoverable 
 oil or gas for each property is the quotient obtained by dividing 
 the capital account recoverable through depletion for each 
 property by the estimated number of units of recoverable oil 
 or gas on that property. This unit for each separate property 
 multiplied by the number of units of oil or gas produced within 
 the year by the taxpayer upon such property will determine 
 the amount which may be deducted for depletion from the 
 gross income of that year for that property. The total allow- 
 ance for depletion of all the oil or gas properties of the tax- 
 payer will be the sum of the amounts computed for each 
 property separately: Provided, That in the case of gas prop- 
 erties the depletion allowance for each pool may be computed by 
 using the combined capital account returnable through depletion 
 of all the tracts of gas land owned by the taxpayer in. the pool 
 and the average decline in rock pressures of all the taxpayer's 
 wells in such pool in the established formula. The total allowance 
 for depletion in the gas properties of the taxpayer will be the 
 sum of the amounts computed for each pool.^^ 
 
 Statement to Be Attached to Return Where Depletion of Oil 
 or Gas is Claimed. To each return made by a person owning or 
 operating oil or gas properties, there should be attached a state- 
 ment showing for each property the following information, which 
 may be given in form of a table, if desired, by taxpayers owning 
 more than one property : 
 
 34 Eeg. 45, Art. 212. 
 
 35 Reg. 45, Art. 213. 
 
 36 Reg. 45, Art. 214. For the formula referred to ^ee Reg. 45, Art. 211 ; 
 T. D. 3065, T. B. 38-20-1204. 
 
DEPLETION OF OIL AND GAS WELLS 757 
 
 (a) the fair market value of the property (exclusive of ma- 
 chinery, equipment, etc., and the value of the surface rights) as 
 of March 1, 1913, if acquired prior to that date ; or the fair mar- 
 ket value of the property within 30 days after the date of dis- 
 covery; or the actual cost of the property, if acquired subse- 
 quently to February 28, 1913, and not covered by the foregoing 
 clause ; 
 
 (b) how the fair market value was ascertained, if the prop- 
 erty came under the first or second head under (a) ; 
 
 (c) the estimated quantity of oil or gas in the property at the 
 time that the value or cost was determined; 
 
 (d) the name and address of the person making the estimate 
 and the manner in which this estimate was made, including a 
 summary of the calculations ; 
 
 (e) the amount of capital applicable to each unit (this being 
 found by dividing the value or cost, as the case may be, by the 
 estimated number of units of ojl or gas in the property at the 
 time the value or cost was determined) ; 
 
 (f) the quantity of oil or gas produced during the year for 
 which the return is made (in the case of new properties it is 
 desirable that this information be furnished by months) ; 
 
 (g) the number of acres of producing and piroven oil or gas 
 land; 
 
 (h) the number of wells producing at the beginning and end 
 of the taxable year ; 
 
 (i) the date of completion of wells finished during the tax- 
 able year; 
 
 (j) the date of abandonment of all wells abandoned during the 
 taxable year ; 
 
 (k) a property map showing the location of the property 
 and of the producing and abandoned wells, dry holes, and proven 
 oil and gas lands; 
 
 (1) the average gravity of the oil produced on the tract ; 
 
 (m) the number of pay sands and average thickness of each 
 pay sand or zone on the property ; 
 
 (n) the average depth to the top of each of the different pay 
 sands ; 
 
 (o) any data regarding change in operating conditions, such 
 as flooding, use of compressed air, vacuum, shooting, etc., which 
 have a direct effect on the production of the property ; 
 
 (p) the monthly or annual production of individual wells and 
 the initial daily production of new wells (this is highly desir- 
 able information and should be furnished wherever possible) ; 
 (q) (for the first year in which the above information is filed 
 
758 FEDERAL INCOME TAX 
 
 for a property which was producing prior to the taxable year 
 covered by the above statement the following information must 
 be furnished) annual production of the tract or of the individual 
 wells, if the latter information is available, from the beginning 
 of its productivity to the beginning of the taxable year for which 
 the return was filed; the average number of wells producing 
 during each year; and the initial daily production of each well; 
 and 
 
 (r) any other data which will be helpful in determining the 
 reasonableness of the depletion production.^''' 
 
 Maps. Maps that accompany records and delineate property 
 boundaries must be sufficiently extended to show the position 
 of property in relation to section, township, and range lines, or 
 in areas of metes and bounds survey, the relation to two or 
 more established lines, of either township or district. On some 
 part of the map should be recorded the name of the state, county, 
 township or district, name of thp owner, operator and (or) lessee 
 of the property, scale of map, and date of survey, and points 
 of the compass. It will be to the advantage of every taxpayer 
 to assist the department in compiling complete statistics of all 
 development that has taken place, and maps submitted should 
 show location o'f all wells that have ever been drilled on a given 
 property. The character of each well should be indicated by 
 appropriate symbols. Where wells have been drilled by another 
 company or individual it is advisable to distinguish such wells 
 by some symbol or abbreviation, explaining the symbol in a 
 marginal note. When a taxpayer has filed adequate maps with 
 the Commissioner he may be relieved of filing further maps of 
 the same properties, providing all additional information neces- 
 sary for keeping the maps up to date is filed each year. This 
 includes records of dry holes as well as producing wells, together 
 with logs, depth, and thickness of sands, location of new wells, 
 etc. By "production" is meant the production of oil or gas be- 
 longing to the taxpayer. In those leases where no account is 
 kept of the oil or gas used for fuel, the net production will neces- 
 sarily be that remaining after the fuel used in the property has 
 been taken out. In cases of this kind an estimate of the fue^ 
 used from each tract should be given for each year.^* 
 
 Discovery of Oil and Gas Wells. The discovery clause of the 
 statute provides that taxpayers who discover oil and gas wells 
 on or after March 1, 1913, may, under the circumstances therein 
 
 STReg. 45, Art. 218. 
 
 38 Manual for the Oil and Gas Industry, p. 43. 
 
DEPLETION OF OIL AND GAS WELLS 759 
 
 prescribed, determine the fair market value of such property at 
 the date of discovery or within 30 days thereafter for the pur- 
 pose of ascertaining allowable deductions for depletion. Before 
 such valuation may be made the statute requires that two con- 
 ditions precedent be satisfied, (1) that the fair market value of 
 such property (oil and gas wells) on the date of discovery, or 
 within 30 days thereafter, became materially disproportionate 
 to the cost, by virtue of the discovery, and (2) that such oil and 
 gas wells were not acquired as the result of purchase of a proven 
 tract or lease.^" The discovery value when obtained in accordance 
 with the rules set forth below is, in the case of a lease, to be 
 equitably apportioned between the lessor and lessee.*" The dis- 
 covery clause was inserted to protect the prospector or "wildcat- 
 ter" who goes into an unknown field and overcoming hazards of 
 the business discovers a new and valuable deposit of oil or 
 gas, and by so doing increases the value of his holdings to such 
 an extent that their value at the time of the discovery or within 
 30 days thereafter is materially disproportionate to their cost. 
 The discovery may refer to the opening up of a new pool or field 
 or it may refer to the tapping of a new and previously unknown 
 sand or zone in an old pool or field. The benefits, however, will 
 accrue solely to the holdings of the taxpayer actually making 
 the discovery. And it will effect him only in so far as he is able 
 to prove that his discovery was bona fide, and that it has so in- 
 creased the value of his holdings as to make it materially dis- 
 proportionate to the cost.*i Unless the taxpayer proves to the 
 satisfaction of the Commissioner that his so-called discovery 
 well has opened up an entirely new pool or structure or a new 
 sand or zone in the particular pool or structure in which the oper- 
 ation takes place, this law will not apply to (a) any tract or 
 lease any part of which was proven or producing prior to the 
 date of (the alleged) discovery, (b) nor to any tract or lease 
 within the proven limits of any well-recognized oil or gas pool or 
 field, (c) nor to such wells as are drilled immediately in advance 
 of producing wells, (d) or on the edge of proven territory. 
 Neither will it apply to the tract or lease of any other than the 
 taxpayer making the bona fide discovery .*2 
 
 39 Reg. 45, Art. 220, as amended by T. D. 2956, Dec. 2, 1919. This 
 Treasury Decision substantially modifies the former ruling of the Treas- 
 ury Department. See also T. D. 3089, T. B. 47-20-1313. 
 
 40 Manual for the Oil and Gas Industry, p. 20. 
 
 41 Manual for the Oil and Gas Industry, p. 45; T. D. 3089, T. B. 47-20-1313. 
 
 42 Manual for the Oil and Gas Industry, p. 45. 
 
760 federal income tax 
 
 Discovery — Proven Tract or Lease — Property Dispropor- 
 tionate Value. (1) For purposes of the discovery clauses of 
 the Revenue Acts of 1918 and 1921, an oil or gas well may be said 
 to be discovered when there is either a natural exposure of oil or 
 gas, or a drilling that discloses the actual and physical presence of 
 oil or gas in quantities sufficient to justify commercial exploita- 
 tion. Quantities sufficient to justify commercial exploitation are 
 deemed to exist when the quantity and quality of the oil or gas 
 so recovered from the well are such as to afford a reasonable 
 expectation of at least returning the capital invested in such 
 well through the sale of the oil or gas, or both, to be derived 
 therefrom. 
 
 (2) A proven tract or lease may be a part or the whole of a 
 proven area. A proven area will be presumed to be that portion 
 of the productive sand or zone or reservoir included in a square 
 surface area of 160 acres having as its center the mouth of a 
 well producing oil or gas in commercial quantities. In other 
 words, a producing well will be presumed to prove that portion 
 of a given sand, zone or reservoir which is included in an area 
 of 160 acres of land, regardless of private boundaries. The cen- 
 ter of such square area will be the mouth of the well, and its 
 sides must be parallel to the section lines established by the 
 United States system of public land surveys in the district in 
 which it is located. Where a district is not covered by the 
 United States land surveys, the sides of said area must run north 
 and south, east and west. 
 
 So much of a taxpayer's tract or lease which lies within an 
 area proven either by himself or by another is "a proven tract 
 or lease" as contemplated by the statute, and the discovery of a 
 well thereon will not entitle such taxpayer to revalue such well 
 for the purpose of depletion allowances, unless the tract or lease 
 had been acquired before it became proven. And even though 
 a well is brought in on a tract or lease not included in a proven 
 area as above defined, nevertheless it may not entitle the owner 
 of the tract or lease in which such well is located to revaluation 
 for depletion purposes, if such tract or lease lies within a com- 
 pact area which is immediately surrounded by proven land, and 
 the geologic structural conditions on or under the land so in- 
 closed may reasonably warrant the belief that the oil or gas of 
 the proven areas extends thereunder. Under such circumstances 
 the entire area is to be regarded as proven land. 
 
 (3) The "property" which may be valued after discovery is 
 the "well." The "well" is the drill hole, the surface necessary 
 for the drilling and operation of the well, the oil or gas content 
 
DEPLETION OF OIL AND GAS WELLS 761 
 
 of the particular sand, zone or reservoir (limestone, breccia, 
 crevice, etc.) in which the discovery was made by the drilling 
 and from which the production is drawn, to the limit of the tax- 
 payer's private bounding lines, but not beyond the limits of the 
 proven area. 
 
 (4) A taxpayer to be entitled to revalue his property 
 after March 1, 1913, for the purpose of depletion allowances 
 must make a discovery after said date and such discovery 
 must result in the fair market value of the property becoming 
 disproportionate to the cost. The fair market value of the 
 property will be deemed to have become disproportionate to the 
 cost when the output of such well of oil or gas affords a reason- 
 able expectation of returning to the taxpayer an amount ma- 
 terially in excess of the cost of the land or lease if acquired since 
 March 1, 1913, or its fair market value on March 1, 1913,, if 
 acquired prior thereto, plus the cost of exploration and develop- 
 ment work to the time the well was brought in.*^ 
 
 Private Bounding Lines. The "private bounding lines," 
 mentioned in subdivision (3) of the previous paragraph, refer 
 to the exterior limit of a continuotis tract held under lease or 
 leases or in fee by the taxpayer. To illustrate : 
 
 A company has leases upon the S. E. quarter of the N. W. 
 quarter of section 10. The company holds this land under five 
 separate leases from different fee owners. A well is brought 
 in upon the land, conceded to be a discovery well, subsequent 
 to the acquiring of the leases by the company, and so located as 
 to include the entire 40 acres of the company in the proven area. 
 The property to be valued is the drill hole, the surface necessary 
 for the drilling and operation of the well, the oil or gas content 
 of this particular sand, zone, or reservoir, in which the discov- 
 ery was made, to the limits of the entire 40 acres held by the 
 company. If the "private bounding lines" were interpreted to 
 mean the boundaries of each lease, it would enable the company 
 to value one well subsequently brought in upon each of the five 
 leases. 
 
 Wells drilled upon a proven tract which has already been 
 re-valued upon discovery have no significance upon the value 
 previously given the "property." But wells brought in upon a 
 proven area still further extend the proven area. To illustrate : 
 
 43 Reg. 45, Art. 220a, as amended by T. D. 2956; Manual for the Oil and 
 Gas Industry, p. 43. The same evidence as required under "Determination 
 of fair market value," must be submitted by the taxpayer to substantiate 
 the value which he sets up as of date of the discovery, or vsrithin 30 days 
 thereafter, in the cases under discussion. 
 
762 FEDERAL INCOME TAX 
 
 A company owns an acreage of land upon which a discovery 
 well is brought in, all of the proven area being included in the 
 acreage. The company, for the purpose of ascertaining allow- 
 able deductions for depletion, determines the fair market value 
 of the "well," i. e. (1) the drill hole, (2) the surface necessary 
 for the drilling and operation of the well, and (3) the oil or 
 gas content of the particular sand, zone, or reservoir, in which 
 the discovery was made by the drilling, and from which the 
 production is drawn. The great increase in value, of course, 
 is from item (3), the oil or gas content of the sand, zone, or 
 reservoir. If the company were allowed to value other wells 
 brought in upon this proven area, it would in fact be valuing 
 the same oil and gas content of the sand, zone or reservoir, 
 which had previously been valued and upon which depletion was 
 being taken. Such a result would be distinctly contrary to the 
 statute. However, the bringing in of other wells upon this 
 proven area, still further extends the proven area to the extent 
 provided by law, and wells brought in upon an area so proven 
 can not be revalued unless the land was acquired before proven. 
 
 If a well should be drilled in the corner of a quarter section 
 of land owned by the taxpayer, to be able to value the portion of 
 the quarter section not proven by the well, it would be necessary 
 for other wells to be brought in upon the area not proven by the 
 first well.** 
 
 Proof of Discovery of Oil and Gas Wells. In order to 
 meet the requirements of the discovery clause of the statute to 
 
 44 0. D. 527, T. B. 22-20-970. It is difficult to see the authority in the 
 statute or any ground in equity for this ruling insofar as it precludes 
 the taxpayer from revaluing acreage beyond the limits of the area proven 
 by the first well by means of a well drilled in such proven area. The effect 
 of the ruling is (1) to preclude a purchaser from claiming discovery value 
 on the extended area proven beyond the limits of the original tract by addi- 
 tional wells drilled within those limits on the ground that such extended 
 area is "a proven tract or lease" within the meaning of the law, and (2) to 
 deny the right of the taxpayer to re-value the same extended area on the 
 ground that as to him such extended area is not "proven" until discovery is 
 actually made outside the limits of the original tract. There seems to be a 
 valid reason for (1), but, if so, (2) is clearly inconsistent. The ruling, as it 
 now stands, limits the application of the mathematical formula of a proven 
 tract or lease according to the interest of the government. If the formula is 
 to be applied at all, it would seem only reasonable to apply it without dis- 
 crimination. It is not difficult to conceive of cases in which, on account' of 
 geological or operating conditions, a taxpayer would drain the acreage out- 
 side the original tract without being able economically to drill outside 
 such tract. 
 
DEPLETION OF OIL AND GAS WELLS 763 
 
 the satisfaction of the Commissioner, the taxpayer will be re- 
 quired, among other things, to submit the following with his 
 return : 
 
 (a) A map of convenient scale, showing the location of the 
 tract and discovery well in question and of the nearest producing 
 well, and the development for a radius of at least three miles 
 from the tract in question, both on the date of discovery and on 
 the date when the fair market value was set. 
 
 (b) A certified copy of the log of the discovery well, showing 
 the location, the date drilling began, the date of completion and 
 beginning of production, the formations penetrated, the oil, gas, 
 and water sands penetrated, the casing record, including the 
 record of perforations, and any other information tending to 
 show the condition of the well and the location of the sand or 
 zone from which the oil or gas is produced on the date the dis- 
 covery was claimed. 
 
 (c) A sworn record of production clearly proving the com.- 
 mercial productivity of the discovery well. 
 
 (d) A sworn copy of the records, showing the cost of the 
 property; and 
 
 (e) A full explanation of the method of determining the value 
 on the date of discovery, or within 30 days thereafter, supported 
 by satisfactory evidence of the fairness of this value.*" 
 
 Charges to Capital and to Expense in the Case of Oil and Gas 
 Wells. Such incidental expenses as are paid for wages, fuel, 
 repairs, hauling, etc., in connection with the exploration of the 
 property, drilling of wells, building of pipe lines, and devel- 
 opment of the property may at the option of the taxpayer be 
 deducted as an operating expense or charged to the capital 
 account returnable through depletion. If in exercising this 
 option the taxpayer charges these incidental expenses to' capital 
 account, in so far as such expense is represented by physical 
 property, it may be taken into account in determining a reason- 
 able allowance for depreciation. The cost of drilling nonpro- 
 ductive wells may at the option of the operator be deducted from 
 gross income as an operating expense or charged to capital 
 accounts returnable through depletion and depreciation as in 
 the case of productive wells. An election once made under this 
 option will control the taxpayer's returns for all subsequent 
 years.*^ Casinghead-gas contracts have been construed to be 
 tangible assets and their cost may be added to the capital account 
 
 45 Reg. 45, Art. 221, as amended by T. D. 2956. 
 
 46 A. R. M. 110, T. B. 10-21-1498; O. D. 796, T. B. 6-21-1434. 
 
764 FEDERAL INCOME TAX 
 
 returnable through depletion, following the rate set by the oil 
 wells from which the gas is derived, or, if the life of the contract 
 is shorter than the reasonable expectation of the life of the wells 
 furnishing the gas, the capital invested in the contract may be 
 written off through yearly allowances equitably distributed over 
 the life of the contract. All oil produced during the taxable 
 year, whether sold or unsold, must be considered in the com- 
 putation of the depletion allowance for the taxable year. In 
 computing net income all oil in storage at the beginning and 
 at the end of the taxable year must be inventoried at cost, that 
 is, unit cost plus lifting cost. Where deductions for depreciation 
 or depletion have either on the books of the taxpayer or in his 
 returns of net income been included in the past in expense or 
 other accounts, rather than specifically as depreciation or deple- 
 tion or where capital expenditures have been charged to expense 
 in lieu of depreciation or depletion, a statement indicating the 
 extent to which this practice has been carried should accompany 
 the return. ^■'^ 
 
 Depreciation of Improvements in the Case of Oil and Gas 
 Wells. Both owners and lessees operating oil or gas properties 
 will, in addition to and apart from the deduction allowable for 
 the depletion or return of capital, be permitted to deduct a rea- 
 sonable allowance for depreciation of physical property, such as 
 machinery, tools, equipment, pipes, etc., so far as not in conflict 
 with the option exercised by the taxpayer under the preceding 
 paragraph. The amount deductible on this account shall be 
 such an amount based upon its cost or fair market value as of 
 March 1, 1913, equitably distributed over its useful life as will 
 bring such property to its true salvage value when no longer 
 useful for the purpose for which such property was acquired. 
 Accordingly, where it can be shown to the satisfaction of the 
 Commissioner that the reasonable expectation of the economic 
 life of the oil or gas deposit with which the property is connected 
 is shorter than the normal useful life of the physical property, 
 the amount annually deductible for depreciation may for such 
 property be based upon the length of life of the deposit.*^ 
 
 Physical Property. Physical property is^ defined as all equip- 
 ment having an inventory or salvage value and subject to re- 
 
 ~*7 Reg. 45, Art. 223. It has been held that a subsidiary company is 
 bound by the election made by its parent or holding company in charging 
 development and exploitation expenses to operating expenses and may 
 not capitalize such expenses after such election. (0. D. 1002, T. B. 34-21- 
 1781). i 
 
 *8 Reg. 45, Art. 225. See Chapter 26 for a discussion of depreciation. 
 
DEPLETION OF OIL AND GAS WELLS 765 
 
 moval from the property, such as buildings, bridges, and power 
 plants, derricks, casings, drilling equipment (cable and rotary) , 
 and pumping equipment, including engines, boilers, tubing, and 
 rods; flow lines, and connections on wells, tanks attached to 
 wells, and other tankage of steel, wood, or concrete ; cleaning and 
 pulling equipment; sal1>water equipment; refineries, treating 
 and reducing plants, including casinghead gas plants ; telegraph 
 and telephone lines, pipe lines and tank cars, and all other 
 equipment used in the production, reduction, conservation, or 
 transportation of oil and gas or their products.*^ 
 
 Estimates of Depreciation of Physical Property. Some 
 percentages and tables used in the estimation of depreciation of oil 
 and gas property and intended as a suggestion for the guidance of 
 the taxpayer in calculating his just tax have been prepared by 
 the department-^" The percentages and tables are neither maxi- 
 mum nor minimum rates. They are not to be applied indiscrim- 
 inately to specific property, and the bureau is in no way com- 
 mitted to accept allowances based upon them. Every claim for 
 deduction must be accompanied by a detailed statement of the 
 facts upon which such claim is based. Each class of equipment 
 is shown in detail and as a class, with the suggestion that an 
 average life of the class be used rather than the life of any indi- 
 vidual part. The average years of useful life of the various 
 classes is shovra in the summary sheet and a suggestion for 
 charging out annual percentages to conform to the depreciation 
 as it actually occurs. It must be borne in mind that it is not 
 possible to itiake standard rules or formulae to cover all condi- 
 tions in this business. Although different rates may reasonably 
 be applied in different parts of the country, the average rates for 
 each locality are not given by the treasury department, as it is 
 believed that the variation of such rates from the general aver- 
 age is so slight as to be practically negligible in most instances, 
 Whenever the life of the property is materially shorter than 
 that called for in this schedule, a special rate may be claimed, 
 or the differences may be made up by replacements chargeable 
 to the maintenance accounts. In the case of some of the Gulf 
 coast districts, portions of the pipe lines are eaten out in five 
 or six years. These repairs are rightly a replacement and 
 chargeable to maintenance or operating accounts.''^ 
 
 Depletion and Depreciation of Oil and Gas Wells in Years 
 Before 1916. If upon examination it is found that in respect of 
 
 49 Manual for the Oil and Gas Industry, p. 9. 
 
 50 These percentages and tables are shown in the Oil and Gas Manual. 
 
 51 Manual for the Oil and Gas Industry, p. 59. 
 
766 FEDERAL INCOME TAX 
 
 the entire drilling cost of wells, including physical property and 
 incidental expenses, between March 1, 1913, and December 31, 
 1915, a taxpayer has been allowed a reasonable deduction suffi- 
 cient to provide for the elements of exhaustion, wear and tear, 
 and depletion, it will not be necessary to reopen the returns for 
 years prior to 1916 in order to show separately in these years 
 the portions of such deduction representing depletion and depre- 
 ciation, respectively. Such separation will be required to be 
 made of the reserves for depreciation at January 1, 1916, and 
 proper allocation between depreciation and depletion must be 
 maintained after that date. In any case in which it is found 
 that the deductions taken between March 1, 1913, and December 
 31, 1915, are not reasonable, amended returns may be required 
 for these years.^^ 
 
 52 Reg. 45, Art. 226. 
 
CHAPTER 30 
 DEPLETION OF TIMBER 
 
 The provision of the Revenue Act of 1921 permitting the 
 deduction of an allowance for depletion in the case of mines, 
 oil wells, gas wells, or other natural deposits and timber, has 
 been set forth and discussed generally in another chapter.^ The 
 same allowance was permitted under the 1918 Law, and the regu- 
 lations issued under that law remain still applicable. The allow- 
 ance is based (a) upon cost, if acquired after February 28, 1913, 
 or (b) upon the fair market value as of March 1, 1913, if ac- 
 quired prior thereto. The essence of this provision is that the 
 owner of timber property, whether it be a leasehold or a freehold, 
 shall secure through an aggregate of annual depletion and de- 
 preciation deductions a return of the amount of capital invested 
 by him in the property, or in lieu thereof an amount equal to its 
 fair market value as of March 1, 1913, plus in any case the sub- 
 sequent cost of plant, equipment and development which is not 
 chargeable to current operating expenses, but not including cut- 
 over land values.2 The allowance is permitted to operating own- 
 ers, lessors and lessees, and the capital recoverable through the 
 depletion allowance in the case of each and the rules with respect 
 to the apportionment of the deduction between lessor and lessee 
 are also set forth generally in another chapter .^ The cost of tim- 
 ber property is determined in accordance with the rules laid 
 down in the same chapter.* Certain special rules specifically re- 
 
 1 See Chapter 27. 
 
 2 Reg. 45, Art. 227. Prior to the 1918 law the statute did not provide for 
 depletion of timber lands, but the treasury department prescribed rulings 
 under which a deduction could be taken from gross receipts or made through 
 a charge in the cost of manufacturing the timber into lumber. These rul- 
 ings were practically to the same effect as those discussed in this chapter. 
 
 3 See Chapter 27. It has been held that since a licensee of Crown Timber 
 Limits in the Province of Quebec has no proprietary interest in the timber, 
 but only a right to enter upon the lands and cut and remove timber there- 
 from upon the payment of the prescribed dues and charges, his status 
 is solely that of lessee and that the bonus paid by him for the privilege of 
 obtaining the license or the value of the license on March 1, 1913, if the 
 license was granted prior to that date, constitutes his entire depletable 
 interest. (L. L. 1055, T. B. 49-20-1334; see also )A. R. M. Ill, T. B. 9-21- 
 1480.) 
 
 * This chapter should be consulted in connection with the rules discussed 
 in this chapter. Many of the rules stated in Chapter 29 on oil and gas 
 wells have a more general application and should be consulted also. 
 
 767 
 
768 FEDERAL INCOME TAX 
 
 lating to the depletion allowance in the case of timber are set 
 forth below. 
 
 Determination of Fair Market Value of Timber. Where the 
 fair market value of the property at a specified date, in lieu of 
 the cost thereof, is the basis for depletion and depreciation de- 
 ductions, such value must be determined, subject to approval or 
 revision by the commissioner upon audit, by the owner of the 
 property in the light of the most reliable and accurate informa- 
 tion available with reference to the condition of the property 
 as it existed at that date, regardless of all subsequent changes, 
 such as changes in surrounding circumstances, in methods of 
 exploitation, in degree of utilization, etc. The value sought will 
 be the selling price assuming a transfer between a willing 
 seller and a willing buyer as of the particular date. Such factors 
 as the following will be given due consideration : (a) Character 
 and quality of the timber as determined by species, age, size, 
 condition, etc.; (b) the quantity of timber per acre, the total 
 quantity under consideration, and the location of the timber in 
 question with reference to other timber; (c) accessibility of the 
 timber (location with reference to distance from a common 
 carrier, the topography and other features of the ground upon 
 which the timber stands and over which it must be transported 
 in process of exploitation, the probable cost of exploitation, and 
 the climate and the state of industrial development of the local- 
 ity) ; and (d) the freight rates by common carrier to important 
 riiarkets. The timber in question will be valued on its own 
 merits, and not on the basis of general averages for regions; 
 however, the value placed upon it, taking into consideration such 
 factors as those mentioned above, will be consistent with that 
 of the other timber in the region. The commissioner will give 
 due weight and consideration to any and all facts and evidence 
 having a bearing on the market value, such as cost, actual sales 
 and transfers of similar properties, the margin between the cost 
 of production and the price realized for timber products, market 
 value of stock or shares, royalties and rentals, value fixed by the 
 owner for the purpose of the capital stock tax, valuation for 
 local or state taxation, partnership accountings, records of liti- 
 gation in which the value of the property has been involved, the 
 amount at which the property may have been inventoried and / or 
 appraised in probate or similar proceedings, disinterested ap- 
 praisals by approved methods, and other factors. For depletion 
 purposes the fair market value at a specified date may not in- 
 clude any part of the value of the land.^ 
 
 5 Reg. 45, Art. 234. 
 
DEPLETION OF TIMBER 769 
 
 Determination of Quantity of Timber. Each taxpayer claim- 
 ing or expecting to claim a deduction for depletion is required 
 to estimate with respect to each separate timber account the 
 total units (feet board measure log scale, cords, or other units) 
 of timber reasonably known or on good evidence believed to 
 have existed on the ground on March 1, 1913, or on the date of 
 acquisition of the property, as the case may be. This estimate 
 must state as nearly as possible the number of units which 
 would have been found present by a careful estimate made on 
 the specified date with the object of determining 100% of the 
 quantity of timber which the area would have produced on that 
 date if all the merchantable timber had been cut and utilized in 
 accordance with the standards of utilization prevailing in that 
 region at that time. If, subsequently, during the ownership of 
 the taxpayer making the return, as the net result of the growth 
 of the timber, of changes in standards of utilization, of losses 
 not otherwise accounted for, of abandonment of timber, and / or 
 of errors in the original estimates, there are found to remain 
 on the ground, available for utilization, more or less units of 
 timber than remain in the timber account or accounts, a new 
 estimate of the recoverable units of timber (but not of the cost 
 or the fair market value at a specified date) must be made, 
 and, when made, will thereafter constitute a basis for deple- 
 tion.s 
 
 Computation of Allowance ^or Depletion of Timber for Given 
 Year. The allowance for depletion of timber in any taxable year 
 should be based upon the number of units of timber felled 
 during the year and the unit value of the. timber in the timber 
 account or accounts, pertaining to the timber cut. The unit 
 value of the timber for a given timber account in a given year 
 should be the quotient obtained by dividing (a) the total num- 
 ber of units of timber on hand in the given account at the be- 
 ginning of the year plus the number of units acquired during 
 the year plus (or minus) the number of units required to be 
 added (or deducted) by way of correcting the estimate of the 
 number of units remaining available in the account into (b) the 
 total fair "market value as of March 1, 1913 (and / or cost) , of 
 the timber on hand at the beginning of the year, plus the cost 
 of the number of units acquired during the year, plus proper 
 additions to capital. The amount of the deduction for depletion 
 in any taxable year with respect to a given timber account will 
 be the product of (a) the number of units of timber cut from 
 the given account during the year muJtipUed by (b) the unit 
 
 6 Reg. 45, Art. 235. 
 
770 FEDERAL INCOME TAX 
 
 value of the timber for the given account for the year. Those 
 taxpayers, who keep their accounts on a monthly basis, may, at 
 their option, keep their depletion accounts on a monthly basis, 
 in which case the amount deductible on account of depletion 
 for "a given month will be determined in the manner outlined 
 above for a given year. The total amount of the deduction 
 for depletion in any taxable year will be the sum of the amounts 
 deductible for the several timber accounts. 
 
 The depletion of timber takes place at the time the timber 
 is felled. Since, however, it is not ordinarily practicable to 
 determine the quantity of timber imrnediately after felling, 
 depletion, for purposes of accounting, will be treated as tak- 
 ing place at the time, when, in the process of exploi'tation, the 
 quantity of timber is first definitely determined.''^ 
 
 In the case of timber land acquired prior to March 1, 1913, 
 depletion may be based on the average value on that date of 
 all timber located in a single operation unit. In other words, 
 the average value may be determined independently for e^ch 
 separate operation unit. A separate operation unit should in- 
 clude all timber which should logically be manufactured at a 
 single definite mill site.^ 
 
 Revaluation of Timber Not Allowed. In the case of timber 
 acquired prior to March 1, 1913, the fair market value as of 
 that date should, when determined and approved by the com- 
 missioner, be the basis for determining the depletion deduction 
 for each year during the continuance of the ownership under 
 which the fair market value of the timber was fixed, and dur- 
 ing such ownership there may be no redetermination of the fair 
 market value of the timber for such purpose. However, the 
 unit market (or cost) value of the timber will subsequently 
 be changed if from any cause such unit market (or cost) value 
 if continued as a basis of depletion, shall upon evidence satis- 
 factory to the commissioner be found inadequate or excessive 
 for the extinguishment of the cost, or fair market value as of 
 Ma»ch 1, 1918, of the timber.^ 
 
 Charges to Capital and to Expense in the Case of Timber. In 
 the case of a timber property held for future operation by an 
 owner having no substantial income from the property or from 
 other sources, all expenditures for administration, protection, 
 and other carrying charges prior to production on a normal 
 basis must be charged to capital account; after such a property 
 
 7 Reg. 45, Art. 229. 
 
 8 0. D. 43, T. B. 1-19-60. 
 
 9 Reg. 45, Art. 230. 
 
DEPLETION OF TIMBER 771 
 
 is on a normal production basis such expenditures should be 
 treated as current operating expenses. In case a taxpayer, who 
 has a substantial income from other sources, owns a timber 
 property which is not yet on a normal production basis, he may, 
 at his option, charge such expenditures with respect to such 
 timber property to capital, or treat them as current operating ex- 
 penses, but whichever system is adopted must be followed until 
 permission to change to the other system is secured from the 
 commissioner. In the case of timber operations all expenditures 
 prior to production for plants, improvements, and equipment, 
 and thereafter all major items of plant and equipment must be 
 charged to capital account for purposes of depreciation. After a 
 timber operation has been developed and equipped and has 
 reached its normal output capacity, the cost of additional minor 
 items of equipment and the cost of replacement of minor items 
 of worn-out and discarded plant and equipment may be charged 
 to current operating expenses, unless the taxpayer elects to write 
 off such expenditures through charges for depreciation; how- 
 ever, the method adopted must be followed consistently from year 
 to year.io 
 
 Aggregating Timber and Land for Purposes of Valuation and 
 Accounting. With a view to logical and reasonable valuation of 
 timber, the taxpayer must include his timber in one or more 
 accounts. In general, each such account should include all of 
 the taxpayer's timber which is located in one "block," a "block" 
 being an operation unit which includes all of the taxpayer's tim- 
 ber which would logically go to a single given point of manufac- 
 ture. In those cases in which the point of manufacture is at 
 a considerable distance or in which the logs or other products will 
 probably be sold in a log or other market, the "block" may be 
 a logging unit which includes all of the taxpayer's timber which 
 would logically be removed by a single logging development. In 
 exceptional cases, provided there are good and substantial rea- 
 sons, and subject to approval or revision by the commissioner 
 on audit, the taxpayer may divide the timber in a given "block" 
 into two or more accounts, e. g., timber owned on February 28, 
 1913, and that purchased subsequently, may be kept in separate 
 accounts, or timber owned on February 28, 1913, and the timber 
 purchased since that date in several distinct transactions may 
 be kept in several distinct accounts, Sr individual tree species 
 or groups of tree species may be carried in distinct accounts, or 
 special timber products may be carried in distinct accounts, or 
 "blocks" may be divided into two or more accounts based on the 
 
 10 Reg. 45, Art. 231. 
 
772 FEDERAL INCOME TAX 
 
 • 
 
 character of the timber and /or "its accessibility, or scattered 
 tracts may be included in separate accounts. When such a divi- 
 sion is made a proper portion of the total value or cost, as the 
 case may be, should be allocated to each account. 
 
 The timber accounts mentioned in the preceding paragraph 
 may not include any part of the value or cost, as the case may 
 be, of the land. In a manner similar to that prescribed in the 
 foregoing part of this paragraph the land in a given "block" 
 may be carried in a single land account or may be divided into 
 two or more accounts on the basis of its character and / or ac- 
 cessibility. When such a division is made, a proper portion of 
 the total value or cost, as the case may be, will be allocated to 
 each account. 
 
 The total value or total cost, as the case may be, of land and 
 timber should be equitably allocated to the timber and land ac- 
 counts, respectively. 
 
 Each of the several land and timber accounts carried on the 
 books of the taxpayer must be definitely described as to their 
 location on the ground either by maps or by legal descriptions. 
 
 For good and substantial reasons, to' be approved by the com- 
 missioner, or as required by the commissioner, the timber or 
 the land accounts may be readjusted by dividing individual ac- 
 counts, by combining two or more accounts, or by dividing and 
 recombining accounts. ^^ 
 
 Timber Depletion and Depreciation Accounts on Books. Every 
 taxpayer claiming or expecting to claim a deduction for depletion 
 and / or depreciation of timber property (including plants, im- 
 provements, and equipment used in connection therewith) must 
 keep accurate ledger accounts in which should be charged the 
 fair market value as of March 1, 1913, or the cost, as the case 
 may be, of (a) the property, and (b) the plant, improvements, 
 and equipment, together with such amounts subsequently ex- 
 pended for the administration, protection, and other carrying 
 charges, or development of the property or additions to plant and 
 equipment as are not chargeable to current operating expenses. 
 In such accounts there should be set up separately the quantity 
 of timber, the quantity of land, and the quantity of other re- 
 sources, if any, and a proper part of the total value or cost should 
 be allocated to each. These accounts should be credited with 
 the amount of the deprecation and depletion deductions claimed 
 and allowed each year, or the amount of the depreciation and 
 depletion should be credited to depletion and depreciation reserve 
 accounts, to the end that when the sum of the credits for deple- 
 
 11 Reg. 45, Art. 236. 
 
DEPLETION OF TIMBER 773 
 
 tion and depreciation equals the value or cost of the property, 
 plus the amount added thereto for administration, protection, 
 and other carrying charges, or development or for additional 
 plant and equipment, less salvage value of the physical property, 
 no further deduction for depletion and depreciation will be 
 allowed.i2 
 
 Information to Be Furnished by Taxpayer Claiming Depletion 
 of Timber. To the return of the taxpayer claiming a deduction 
 for depletion or depreciation or both there must be attached a 
 map and statement (Form T [timber]) for the taxable year 
 covered by the income tax return. Form T (timber) requires 
 the following: (a) Map showing timber and land acquired, 
 timber cut, and timber and land sold ; (b) description of, cost of, 
 and terms of purchase or lease of, timber and land acquired; 
 (c) proof of profit or loss from sale of capital assets ; (d) descrip- 
 tion of timber with respect to which claim for loss, if any, is 
 made; (e) record of timber cut; (f) changes in each timber 
 account as the result of purchase, sale, cutting, re-estimate, or 
 loss ; (g) changes in the physical property accounts as the result 
 of addition to or deductions from capital and depreciation; (h) 
 operation data with respect to raw and finished materials handled 
 and inventoried ; (i) unit production costs ; and (j) any other data 
 which will be helpful in determining the reasonableness of the 
 depletion and / or depreciation deductions claimed in the return. 
 Similar information is required for certain years prior to the 
 1919 taxable year from those taxpayers who have not already 
 furnished it. The specific nature of the information required 
 for the earlier years is given in detail in "Form T — General 
 Forest Industries Questionnaire for the Years Prior to 1919." ^^ 
 
 12 Reg. 45, Art. 237. 
 
 13 Reg. 45, Art. 233. 
 
CHAPTER 31 
 NORMAL TAX CREDITS — PERSONAL EXEMPTION 
 
 Net income is ascertained by subtracting the allowable deduc- 
 tions from the gross income of the taxpayer. The net income 
 so ascertained is subject to the surtax if the taxpayer is an 
 individual, or to excess-profits taxes if the taxpayer is a cor- 
 poration, but for the purposes of the normal tax of individuals 
 and the income tax of corporations, certain items of income may 
 be credited against net income as above ascertained. These cred- 
 its are: (a) such items of income as are included in gross income 
 but are not subject to normal tax in the case of individuals or 
 income tax in the case of corporations (i. e., certain dividends, 
 and interest on certain obligations of the United States) ; (b) 
 the personal exemption and credit for dependents in the case of 
 individuals and the amount of the war-profits and excess-profits 
 taxes in the case of corporations plus $2,000 in the case of 
 domestic corporations only,i and only if the net income of such 
 corporation is $25,000 or less. Under the 1918 Law all domestic 
 corporations were allowed a specific credit of $2,000.^ A foreign 
 corporation is allowed the same credits as a domestic corporation 
 other than the sum of $2,000, under both the 1918 and 1921 
 Laws.^ 
 
 Credit of Dividends Under 1918 Law. For the purpose of the 
 normal tax only there might be credited against net income the 
 amount received as dividends from a corporation taxable upon 
 its net income and amounts received as dividends from a per- 
 sonal service corporation out of earnings or profits upon which 
 income tax had been imposed.* The dividends included in the 
 above provision of law were those received from corporations 
 other than foreign corporations having no income from sources 
 within the United States.^ The normal tax did not apply to div- 
 idends, regardless of the amount of such dividends, received 
 
 1 Revenue Act of 1921, §§ 216, 236. 
 
 2 Revenue Act of 1918, § 236. 
 
 3 Reg. 45, Art. 591. For a discussion of the specific credit and the credit 
 of war-profits and excess-profits taxes allowed to corporations see Chapter 
 10. 
 
 * Revenue Act of 1918, §216 (a). Such dividends when received by a 
 corporation were an allowable deduction. (Revenue Act of 1918, § 234 (a) 
 6.) 
 
 5 Reg. 45, Art. 301. 
 
 774 
 
NORMAL TAX CREDITS — PERSONAL EXEMPTION 775 
 
 I'rom a foreign corporation taxable upon income from sources 
 within the United States, however small such income might be.^ 
 Credit of Dividends Under the 1921 Law. Under the present 
 law there is allowed as a credit against the normal tax the 
 amount received as dividends (1) from a domestic corporation 
 other than a corporation 80% or more of the gross income of 
 which (computed without the benefit of this provision) for the 
 three year period immediately preceding the close of the taxable 
 year (or for such part of such period immediately preceding the 
 close of such taxable year as may be applicable) was derived 
 from sources within a possession of the United States and if, 
 in the case of such corporation, 50 % or more of its gross income 
 (computed without the benefit of this provision) for such period 
 or such part thereof was derived from the active conduct of a 
 trade or business within a possession of the United States, and 
 (2) from a foreign corporation when it is shown to the satisfac- 
 tion of the Commissioner that more than 50% of the gross in- 
 come of such foreign corporation for the three-year period end- 
 ing with the close of its taxable year preceding the declaration 
 of such dividends (or for such part of such period as the cor- 
 poration has been in existence) was derived from sources within 
 the United States as defined by the statute^ Dividends of a for- 
 eign corporation whose income from sources within the United 
 States was absorbed by deductions allocable to this country 
 might be applied as a credit against net income by the stock- 
 holders of such corporation. The American stockholders of a 
 foreign corporation whose entire income from sources within 
 the United States consisted of dividends from a corporation tax- 
 able upon its net income under the Revenue Act of 1918 were 
 entitled to credit for purposes of the normal tax for the dividends 
 received from such corporation.^ Where a toMoi owned prac- 
 tically all of the common stock of a corporation organized to 
 furnish it with water, light, power and heat, no dividends being 
 paid thereon, the preferred stock to be redeemed as soon as pos- 
 
 6 Letter from treasury department dated June 9, 1919; I. T. S. 1921, 
 11 1661. T. B. M. 21, T. B. 5-19-252. The credit of dividends received from 
 foreign corporations taxable on income from sources within the United 
 States applied equally to the Revenue Acts of 1916, 1917, and 1918. The 
 same credit was allowed to corporations under the Revenue Act of 1917, for 
 the purpose of the 4% war income tax imposed by § 4 of that act, but not 
 for the purpose of the 2% tax imposed by § 10 (a) , Revenue Act of 1916, as 
 amended by the Revenue Act of 1917. (O. D. 383, T. B. 4-20-706.) 
 
 7 Revenue Act of 1921, §§216 (a), 262 and 217. Such dividends are al- 
 lowed to corporations as a deduction (Revenue Act of 1921, §234 (a) 6). 
 
 8 L. O. 1054, T. B. 47-20-1314. 
 
776 FEDERAL INCOME TAX 
 
 sible out of earnings, after which the plant becomes the property 
 of the town, the corporation is held to be exempt from income 
 tax and dividends received by the preferred stockholders might 
 not, therefore, be credited against net income.^ 
 
 Credit of Interest. Both the Revenue Act of 1921 and the 
 Revenue Act of 1918 provide that in the case of individuals, for 
 the purpose of the normal tax only, there may be taken as a 
 credit against net income the amount received as interest upon 
 obligations of the United States and bonds issued by the War 
 Finance Corporation, which is included in gross income.^" In 
 the case of corporations such amount may be taken as a credit 
 against net income for purposes of income tax.^^ Consequently 
 as to individuals, the normal tax does not apply to interest on 
 any obligations of the United States and in the case of corpora- 
 tions no income tax is imposed on any interest received upon 
 obligations of the United States or bonds of the War Finance 
 Corporation.12 
 
 Personal and Specific Exemptions. The 1918 Law provided 
 that for the purpose of the normal tax there might be taken as 
 a credit against net income in the case of a single person, a per- 
 sonal exemption of $1,000, or in the case of the head of a family 
 or a married person living with husband or wife, a personal 
 exemption of $2,000.1^ Under the present law a single person 
 is allowed a personal exemption of $1,000. In the case of the 
 head of a family, or a married person living with husband or 
 wife, a personal exemption of $2,500 is allowed, unless the net 
 income is in excess of $5,000, in which case the personal exemp- 
 tion is $2,000. It is further provided that in no case shall the 
 reduction of the personal exemption from $2,500 to $2,000 
 operate to increase the tax which would be payable if the exemp- 
 tion were $2,500, by more than the amount of the net income in 
 excess of $5,000.^* Suppose, for example, a taxpayer married 
 and living with his wife, but having no dependents, with a net 
 income of $5,010. The income subject to the normal tax would 
 be $3,010 ($5,010 — $2,500), and the tax thereon at 4% would 
 be $100.40. But the reduction of the exemption from $2,500 to 
 $2,000 may not operate to increase the tax by more than the 
 amount of the net income in excess of $5,000, which in this case 
 
 9 O. D. 328, T. B. 28-19-612. 
 
 10 Revenue Act of 1921, § 216 (b) ; Revenue Act of 1918, § 216 (b). 
 
 11 Revenue Act of 1918, § 236 (a)- 
 
 12 Reg. 45, Arts. 301, 591. 
 
 13 Revenue Act of 1918, § 216 (c). 
 
 14 Revenue Act of 1921, § 216 (c). 
 
NORMAL TAX CREDITS — PERSONAL EXEMPTION 777 
 
 is $10. The tax payable would be, therefore, $110.40. A hus- 
 band and wife living together receive but one personal exemp- 
 tion of $2,000, or $2,500 as the case may be, against their aggre- 
 gate net income; and in case they make separate returns, the 
 personal exemption may be taken by either or divided between 
 them.i° In the case of domestic corporations only, there is 
 allowed, for purposes of income tax, under the present law, a 
 specific credit of $2,000, if the net income is $25,000 or less. 
 Applying the same principle as in the case of individuals, the 
 tax may not exceed the tax which would be payable if the $2,000 
 credit were allowed, plus the amount of the net income in 
 excess of $25,000." A specific credit of $2,000 was allowed to all 
 domestic corporations under the 1918 Law.^^ Under the 1918 
 Law, the personal exemption was allowed in all cases to citizens 
 and residents; a nonresident alien might secure the personal 
 exemption in certain cases and on certain conditions.i^ Under 
 the present law nonresident alien individuals and certain citi- 
 zens who are taxed only on income from sources within the 
 United States are allowed a personal exemption of $1,000.1^ The 
 personal exemption may be said to be an arbitrary sum allowed 
 for personal living and family expenses, which are not otherwise 
 deductible.2o 
 
 Head of Family. A head of a family is a person who ac- 
 tually supports and maintains in one household one or more in- 
 dividuals who are closely connected with him by blood relation- 
 ship, relationship by marriage, or by adoption, and whose right 
 to exercise family control and provide for these dependent in- 
 dividuals is based upon some moral or legaj obligation. The 
 head of a family may be a single or married person, a widow, 
 Avidower,2i brother, sister, or other relative by blood, marriage 
 or adoption. A widower who maintains a home and supports 
 his daughter therein is held to be the head of a family, notwith- 
 standing that the daughter is over 18 years of age, receives 
 
 13 Revenue Act of 1921, §216 (c) ; Revenue Act of 1918, §216 (c). 
 IB Revenue Act of 1921, §236 (c). 
 
 17 Revenue Act of 1918, § 236 (c) . 
 
 18 See page 782. 
 
 19 Revenue Act of 1921, §216 (e). 
 
 20 Such expenses are expressly stated not to be deductible. See Revenue 
 Act of 1921, §215 (a). See Revenue Act of 1918, §215 (a). See also 
 Revenue Act of 1916, §5 (a). The exemption under the 1918 Law of 
 $3,500 of the compensation received by persons in active service in the 
 military or naval forces was in addition to the personal exemption and 
 credit for dependents (0. D. 123, T. B. 3-19-184). 
 
 21 Reg. 45, Art. 302; T. D. 2427; T. D. 2692; Reg. 33 Rev., Art. 14. 
 
778 FEDERAL INCOME TAX 
 
 nominal income from other sources, and is neither physically 
 nor mentally incapable of self-support.^^ In order to meet the 
 test of actual support and maintenance the benefactor must con- 
 tribute more than half of the support and maintenance. A 
 taxpayer who merely supplies means of support additional to 
 the chief support of the beneficiary, is not the head of a 
 family.23 
 
 In the absence of continuous actual residence together, whether 
 or not a person with dependent relatives is a head of a family 
 within the meaning of the statute must depend on the character 
 of the separation. If a father is absent on business or at war, 
 or a child or other dependent is away at school or on a visit, 
 the common home being still maintained, the additional exemp- 
 tion applies. If, moreover, through force of circumstances a 
 parent is obliged to maintain his dependent children with rela- 
 tives or in a boarding house while he lives elsewhere, the ad- 
 ditional exemption may still apply. If, however, without neces- 
 sity the dependent continuously makes his home elsewhere, his 
 benefactor is not the head of a family, irrespective of the ques- 
 tion of support.2* 
 
 Where a widow has a child over 18 years of age who is away 
 from home attending school, the child having separate income in 
 excess of $1,000 a year but insufficient to pay half the cost of 
 its support, the balance being contributed by the mother, who 
 maintains the home, the child having made a return claiming 
 an exemption of $1,000, the widow is considered the head of a 
 family, and is entitled to a personal exemption of $2,000 in 
 making her return. The fact that a child under such cir- 
 cumstances has sep'arate income or receives support from other 
 sources does not preclude the parent from claiming exemption 
 as head of a family, provided the child is in a material degree 
 dependent on the parent for support.^^ A daughter who actually 
 supports her dependent mother elsewhere than in her own home, 
 by reason of the fact that she is unable to earn enough to sup- 
 port them both in the mother's place of abode or to defray 
 their joint expenses in the daughter's place of employment, is 
 properly classifiable as head of a family .^6 A father is entitled 
 to the personal exemption as the head of a family if he is 
 maintaining a home for daughters on the last day of the year 
 
 22 0. D. 422, T. B. 13-20-1809. 
 
 23 O. D. 775, T. B. 3-21-1397. 
 
 24 Reg. 45, Art. 302; T. D. 2427; T. D. 2692; Reg. 33 Rev., Art. 14. 
 
 25 0. D. 474, T. B. 17-20-886. 
 
 26 0. D. 665, T. B. 38-20-1205. 
 
NORMAL TAX CREDITS — PERSONAL EXEMPTION 779 
 
 and furnishing more than half their support, even if under the 
 terms of a separation agreement with his wife the daughters 
 may be living with the wife on the last day of the year.^'^ A 
 resident alien with children abroad is not the head of a family.^^ 
 
 Husband and Wife. In the case of a married man or mar- 
 ried woman the joint exemption replaces the individual exemp- 
 tion only if the man lives with his wife or the woman lives with 
 her husband. In the absence of continuous actual residence to- 
 gether, whether or not a man or woman has a wife or husband 
 living with him or her vdthin the meaning of the statute must 
 depend on the character of the separation. If merely occasionally 
 and temporarily a wife is away on a visit or a husband is away 
 on business, the joint home being maintained, the additional 
 exemption applies. The unavoidable absence of a wife or hus- 
 band at a sanatorium or asylum on account of illness does not 
 preclude claiming the exemption. If, however, the husband 
 voluntarily and continuously makes his home at one place and 
 the vdfe hers at another, they are not living together for the 
 purpose of the statute, irrespective of their personal relations. 
 A resident alien with a wife residing abroad is not entitled to 
 the joint exemption. ^^ Unavoidable absence of a wife, due to the 
 war, did not preclude a husband from claiming the joint per- 
 sonal exemption.^" The separation of a husband and wife due 
 to the fact that the husband has been declared mentally in- 
 competent and confined in an institution for treatment, is held 
 to be temporary in character and consequently without effect in 
 so far as the joint personal exemption is concerned.^i A resident 
 alien with a wife and children living abroad is not entitled to 
 the personal exemption of a married person or head of a family, 
 but is entitled to a credit of $400 for each dependent child under 
 18 years of age or incapable of self-support.^^ 
 
 Credit for Dependents. A taxpayer receives a credit of 
 $400 for each person (other than husband or wife), whether 
 related to him or not and whether living with him or not, de- 
 pendent upon and receiving his chief support from the taxpayer, 
 provided the dependent is either (a) under eighteen or (b) in- 
 capable of self-support because defective. The credit is based 
 
 27 0. D. 754, T. B. 51-20-1354. 
 
 28 Reg. 45, Art. 302; T. D. 2427; T. D. 2692; Reg. 33 Rev., Art. 14. 
 
 29 Reg. 45, Art. 303; T. D. 2692. 
 
 30 0. D. 357, T. B. 1-20-657. 
 
 31 0. D. 603, T. B. 30-20-1089. 
 
 32 0. D. 640, T. B. 34-20-1149. This credit for dependents was $200 
 under the 1918 Law. 
 
780 FEDERAL INCOME TAX 
 
 upon actual financial dependency and not mere legal dependency. 
 It may accrue to a taxpayer who is not the head of a family. 
 But a father whose children receive half or more of their sup- 
 port from a trust fund or other separate source is not entitled 
 to the credit.33 The credit for each dependent was $200 under 
 the 1918 Law.3* An American citizen may claim the credit for 
 dependents irrespective of the nationality or place of residence 
 of the dependents.35 If a husband and wife both contribute to 
 the support of a dependent, such credit must be taken by the 
 one contributing the chief support and may not be divided be- 
 tween them.^" 
 
 DATE Determining Exemption. The status of the taxpayer, 
 on the last day of his taxable year, determines his right to a 
 personal exemption and to a credit for dependents. If then he 
 is the head of a family, the personal exemption of $2,000 or 
 $2,500 as the case may be, may be taken. If then he is the chief 
 support of a dependent who is under eighteen years of age or 
 incapable of self-support because mentally or physically defec- 
 tive, the credit of $400 may be taken. But an unmarried in- 
 dividual or a married individual not living with husband or 
 wife, who during the taxable year has ceased to be the head of a 
 family or to have dependents, is entitled only to the personal 
 exemption of $1,000 allowed a single person. A husband and 
 wife living together at the end of the taxable year may receive 
 but one personal exemption of $2,000 or $2,500, divisible as they 
 please, against their aggregate net income. If an individual dies 
 during the taxable year, his executor or administrator in making 
 a return for him is entitled to claim his full personal exemption 
 according to his status at the time of his death. If a husband 
 or wife so dies and the joint personal exemption is used by the 
 executor or administrator in making a return for the decedent, 
 an undiminished personal exemption according to the status of 
 the survivor at the end of the taxable year may be claimed in 
 the survivor's return. If a taxpayer makes a return for a period 
 other than a taxable year, the last day of such period is treated 
 as the last day of the taxable year for the purposes of the above 
 discussion. The foregoing rules were followed by the depart- 
 
 33 Revenue Act of 1921, §216 (d) ; Reg. 45, Art. 304; O. D. 797, T. B. 
 6-21-1436. Prior to the 1918 Law, this exemption was limited to dependent 
 children. (But see A. R. R. 551, T. B. 26-21-1707, where it was granted to 
 an uncle.) . 
 
 34 Revenue Act of 1918, § 216 (d). 
 
 35 0. D. 139, T. B. 4-19-220. 
 
 36 0. D. 776, T. B. 3-21-1398. 
 
NORMAL TAX CREDITS — PERSONAL EXEMPTION 781 
 
 ment under the 1918 Law but they are now embodied in the 
 1921 Statute." 
 
 Credits to Nonresident Individuals Under the 1921 Law. Non- 
 resident alien individuals and citizens taxed only on income from 
 sources within the United States are allowed, for purposes of 
 the normal tax, the same credit for dividends and interest on 
 obligations of the United States and bonds issued by the War 
 Finance Corporation as is allowed to citizens and residents. 
 They are allowed, however, a personal exemption of only $1,000 
 and no credit for dependents.^^ The 1918 Law, which allowed the 
 personal exemption and credit for dependents to nonresident 
 alien individuals if the country in which the nonresident alien 
 resided allowed the same credits to citizens of the United States, 
 was found very difficult to administer and the above simpler 
 provision of the present law is the result.^^ 
 
 Credits to Nonresident Alien Individual Under the 1918 Law. 
 Under the 1918 Law, a nonresident alien individual, similarly to 
 a citizen or resident, was entitled for the purpose of the normal 
 tax to credit dividends from domestic or resident foreign cor- 
 porations, interest on obligations of the United States, a per- 
 sonal exemption, and $200 for each dependent, except that, if 
 he was a citizen or subject of a country which imposed an in- 
 come tax, a personal exemption or credit for dependents was 
 allowed him only if such country allowed a similar credit to 
 citizens of the United States not residing in such country or if no 
 tax was levied on citizens of the United States not residing in 
 such country on income from such country.*" "If such country 
 allows a similar credit" meant if such country in imposing 
 its income tax allowed a personal exemption or a credit for de- 
 pendents, as the case might be, and allowed it without dis- 
 crimination to citizens of the United States not residing in such 
 country. "Country" included within its meaning any foreign 
 sovereign state or self-governing colony (for example, the Do- 
 minion of Canada), but did not include a foreign municipality 
 
 37 Revenue Act of 1921, §216 (f ) ; Reg. 45, Art. 305; 0. D. 105, T. B. 
 2-19-154; O. D. 775, T. B. 3-21-1397. In the instructions appearing on the 
 forms of individual returns for 1918 there first appeared a statement in- 
 dicating that the personal exemption should be prorated if there viras a 
 change in the status of the taxpayer during the year, but the treasury de- 
 partment receded from this position prior to March 15, 1919. 
 
 38 Revenue Act of 1921, § 216. 
 
 39 Report of Senate Finance Committee on the Revenue Bill of 1921, dated 
 September 26, 1921. 
 
 40 Revenue Act of 1918, § 216 (d) ; letter from treasury department dated 
 ■May 1, 1919; L T. S. 1919, 113324. 
 
782 FEDERAL INCOME TAX 
 
 (for example, Montreal) unless itself a sovereign state (for ex- 
 ample, Hamburg) .41 To satisfy the requirement of a similar 
 credit it was not necessary that the personal exemption or credit 
 for dependents, as the case might be, should be the same as that 
 allowed by the United States statute.*^ Where a country im- 
 posed an income tax but did not levy a tax on income derived 
 from sources therein by citizens of the United States, a citizen 
 of such country who was a nonresident of the United States 
 was entitled to claim the credits for personal exemption and for 
 dependents.*^ The status as to residence of an alien individual 
 on the last day of his taxable year determined his right to be 
 treated as a resident or as a nonresident for such year.** 
 
 The right of a nonresident alien to personal exemption and 
 credit for dependents was contingent primarily on his citizen- 
 ship. For example, a native-born Russian, especially one who 
 had been living in the United States for a number of years, 
 would still be regarded by this country as a citizen of Russia. 
 This was rebuttable, however, by evidence of citizenship in 
 Poland ; and if an individual had in fact become a citizen of the 
 new state, inasmuch as Poland was not included in the coun- 
 tries enumerated below, it would be necessary for him to comply 
 with the above requirements as to proof to the Commissioner in 
 order to secure the benefit of the exemptions provided.*^ 
 
 When Nonresident Alien Individual Entitled to Per- 
 sonal Exemption Under the 1918 Law. The following is an 
 incomplete list of countries which either imposed no income tax 
 or in imposing an income tax allowed both a personal exemption 
 and a credit for dependents which satisfied the similar credit 
 requirement of the statute: Albania, Argentina, Armenia, Ba- 
 hama Islands, Barbadoes, Basutoland, Bechuanaland Protector- 
 ate, Belgium, Bermuda, Bolivia, Bosnia, Brazil, British Guiana, 
 British Honduras, Bulowina, Bulgaria, Canada, Carinthia, Car- 
 niola, Ceylon, Chile, China, Cuba, Cyprus, Czecho-Slovakia, in- 
 cluding Bohemia, Moravia and Slovakia; Dalmatia, Denmark, 
 Ecuador, Egypt, Falkland Islands, Fiji Islands, France, Galicia, 
 Gambia, Germany (Act of March 29, 1920), Gibraltar, Gold 
 Coast, Goritz, Gradisca, Greece, Grenada, Guatemala, Herze- 
 govina, Hongkong, Hungary, Istria, Jamaica, Kenya, Lithuania, 
 Lower Austria, Luxemberg, Malay States, Malta, Mauritius, 
 
 41 Reg. 45, Art. 382. 
 
 42 Reg. 45, Art. 306. 
 
 43 S. 969, T. B. 2-19-153. 
 
 44 Reg. 45, Art. 306. 
 
 45 O. D. 346, T. B. 30-19-642. 
 
NORMAL TAX CREDITS — PERSONAL EXEMPTION 783 
 
 Mexico, Montenegro, Montserrat, Morocco, Newfoundland, Nic- 
 aragua, Nigeria, Northern Rhodesia, Norway,' Nyasaland Pro- 
 tectorate, Palestine, Panama, Paraguay, Persia, Peru, Porto 
 Rico, Portugal, Roumania, Russia (including Poles owing al- 
 legiance to Russia) , St. Helena, St. Kitt Nevis, Salsburg, Santo 
 Domingo, Serbia, Siam, Sierra Leone, Silesia, Somaliland Pro- 
 tectorate, Spain, Styria, Swaziland, Switzerland, Syria, Trieste, 
 Tyrol, Uganda Protectorate, Union of. South Africa, Upper Aus- 
 tria, Venezuela, Virgin Islands (Brit.), Weihaiwei, Western 
 Pacific Islands, Zanzibar Protectorate. The following is an in- 
 complete list of countries which in imposing an income tax al- 
 lowed a personal exemption which satisfied the similar credit re- 
 quirement of the statute, but did not allow a credit for depen- 
 dents: Austrian Poland, Bachka, Banat of Temesvar, Croatia, 
 Finland, India, Italy, Prussian Poland, Salvador, Slavonia, 
 Straits Settlements (since January 1, 1920), Transylvania. The 
 following is an incomplete list of countries which in imposing an 
 income tax did not allow to citizens of the United States not re- 
 siding in such country either a personal exemption or a credit 
 for dependents and, therefore, failed entirely to satisfy the 
 similar credit requirement of the statute: Australia, Costa 
 Rica, Dutch Guiana, Great Britain and Ireland, Japan, the 
 Netherlands, New Zealand, Sweden, Trinidad. The former 
 names of certain of these territories are here used for con- 
 venience, in spite of an actual or possible change in name or 
 sovereignty. A nonresident alien individual who was a citizen 
 or subject of any country in the first list was entitled for the 
 purpose of the normal tax to such credit for a personal exemp- 
 tion and for dependents as his family status might warrant. 
 If he was a citizen or subject of any country in the second list 
 he was entitled to a credit for personal exemption, but to none 
 for dependents. If he was a citizen or subject of any country 
 in the third list he was not entitled to credit for either a per- 
 sonal exemption or for dependents. If he was a citizen or a sub- 
 ject of a country which is in none of the lists, then to secure 
 credit for either a personal exemption or for dependents he 
 was required to prove to the satisfaction of the Commissioner 
 that his country did not impose an income tax or that in im- 
 posing an income tax it granted the similar credit required by 
 the statute.*^ In order that a nonresident alien might prove 
 
 46 Reg. 45, Art. 307, as amended by T. D. 2970; 0. D. 466, T. B. 16-20- 
 864; 0. D. 437, T. B. 14-20-831; 0. D. 581, T. B. 28-20-1056; O. D. 300, T. B. 
 24-19-567; 0. D. 547, T. B. 24-20-1004; 0. D. 322, T. B. 27-19-603; 0. D. 
 548, T. B. 24-20-1005; 0. D. 364, T. B. 2-20-675; O. D. 605, T. B. 80-20- 
 
784 FEDERAL INCOME TAX 
 
 that his country satisfied the similar credit requirement of the 
 law, he should have submitted to the Commissioner a copy 
 of the income tax laws of his native country, or an official com- 
 munication from an accredited diplomatic representative of such 
 country, showing that the country imposed no income tax, or in 
 doing so granted similar credits required by statute.*'^ 
 
 Allowance of Credits to Non-Resident Alien Individual 
 Under the 1918 Law. The benefit of the credits allowed against 
 net income for the purpose of the normal tax might not be re- 
 ceived by a nonresident alien by filing a claim with the with- 
 holding agent, but only by claiming them upon filing a return of 
 income, with two exceptions as indicated in the two paragraphs 
 next following.*^ 
 
 Personal Exemption of Nonresident Aliens Under 1918 
 Law. In case a nonresident alien was entitled to personal ex- 
 emption and credits for dependents and his gross income from 
 sources in the United States, including bond interest, did not 
 exceed his personal exemption and credits for dependents, a cer- 
 tificate. Form lOOlB, was required to be executed and filed with 
 the withholding agent, if any part of the gross income was de- 
 rived from interest upon bonds of a domestic corporation which 
 contained a tax-free covenant clause. The certificate might be 
 filed with the withholding agent at the end of the calendar year 
 but not later than February first of the succeeding year and all 
 such certificates were required to be attached to the annual list 
 return. Form 1013. The amount of tax due from the withhold- 
 ing agent as shown by Form 1013, might be reduced by 2% of 
 the aggregate amount of interest payments made to the non- 
 1091; 0. D. 350, T. B. 31-19-648; O. D. 630, T. B. 33-20-1133; 0. D. 765, T. B. 
 1-21-1372; 0. D. 766, T. B. 1-21-1373; O. D. 777, T. B. 3-21-1399; 0. D. 
 820, T. B. 8-21-1467; O. D. 894, T. B. 17-21-1597; O. D. 895, T. B. 17-21- 
 1598; O. D. 906, T. B. 19-21-1622; O. D. 981, T. B. 30-21-1746; O. D. 935, 
 T. B. 22-21-1664; O. D. 1003, T. B. 34-21-1782; 0. D. 1004, T. B. 34-21-1783; 
 O. D. 1022, T. B. 36-21-1804; O. D. 1054, T. B. 40-21-1854; O. D. 1055, 
 T. B. 40-21-1855; O. D. 1125, T. B. 49-21-1961; 0. D. 1126, T. B. 49-21-1962. 
 In the case of Greece and Germany the personal exemption and credit for 
 dependents were allowable only for 1919 and 1920 respectively. The fore- 
 going provisions apply only to 1918 and subsequent years and have no ap- 
 plication for the year 1917. (O. D. 301, T. B. 24-19-568). They apply to 
 1918, however, and in cases where an excess of tax has been paid for the 
 year 1918, due to the official data not having been received by the Commis- 
 sioner in regard to personal- exemption, claims for refund on Form No. 46 
 should be filed with the collector to whom the income tax was paid. (O. D. 
 391, T. B. 5-20-718). 
 
 *7 O. D. 253, T. B. 15-19-446. 
 
 48 Revenue Act of 1918, § 217; Reg. 45, Arts. 311 and 316. 
 
NORMAL TAX CREDITS — PERSONAL EXEMPTION 785 
 
 president alien upon tax-free covenant bonds during the calendar 
 year, and the amount of tax represented by the certificates, 
 payment of which was assumed on monthly list return. Form 
 1012, would not be included in the assessment against the 
 withholding agent. ,The certificate might be filed only by a 
 citizen or subject of the countries enumerated in a preceding 
 paragraph as satisfying the similar credit requirement of the 
 statute. In case tax in excess of a nonresident alien's tax 
 liability had been withheld from interest upon bonds which did 
 not contain a tax-free covenant clause, the nonresident alien 
 should have filed or caused to be filed with the collector a return 
 of his gross income from all sources within the United States, 
 accompanied by a claim for refund on Form 46.*^ 
 
 Allowance of Personal Exemption to Nonresident Alien 
 Employee. A nonresident alien employee, provided he was en- 
 titled to credit for a personal exemption or for dependents or 
 both, might claim the benefit of such credit by filing with his 
 employer Form 1115 duly filled out and executed under oath. 
 On the filing of such claim the employer should have examined 
 it. If on such examination it appeared that the claim was in 
 due form, that it contained no statement which to the knowledge 
 of the employer was untrue, that such employee on the face of 
 the claim was entitled to credit, and that such credit had not 
 yet been exhausted, such employer need not until such credit 
 was in fact exhausted withhold any tax from payments of salary 
 or wages made to such employee. Every employer with whom 
 affidavits of claim on Form 1115 were filed by employees was 
 required to preserve such affidavits until the following calendar 
 year, and was then required to file them, attached to his annual 
 withholding return on Form 1042 (revised), with the collector 
 on or before March 1. In case, however. When the following 
 calendar year arrived such employer had no withholding to re- 
 turn, he was required to forward all such affidavits of claim 
 directly to the Commissioner (Sorting Division), with a letter 
 of transmittal, on or before March 15. Where any tax was 
 withheld, the employer in every instance should show on the 
 pay envelope or should furnish some other memorandum showing 
 the name of the employee, the date and the amount withheld. 
 This rule applied only to payments of compensation by an em- 
 ployer to an emplpyee.50 
 
 i9 Reg. 45, Art. 363 (a) ; T. D. 2920. 
 SOReff. 45, Art. 316. 
 
CHAPTER 32 
 CREDIT FOR TAXES 
 
 The Revenue Act of 1918 was the first American income tax 
 law to recognize and provide against the double taxation of in- 
 come of an individual or corporation deriving income from 
 sources within the United States and another country. There- 
 tofore, a citizen of the United States doing business, for ex- 
 ample, in Canada had been taxed upon the net income arising 
 from that business by Canada and upon the same net income by 
 the United States. Under the 1918 Law and the present law a 
 taxpayer in such a position is allowed to deduct from the total 
 tax found to be due on his entire net income the amount of tax 
 (with certain limitations imposed by the 1921 Law) paid to 
 Canada on the income arising in that country. The Revenue 
 Act of 1921 provides that the credit for taxes will not be al- 
 lowed in the case of certain citizens taxable under that law only 
 on income from sources within the United States. A limitation 
 on the amount of credit for taxes is also imposed by the present 
 law. It is provided that in no case may the amount of credit 
 for taxes exceed the same proportion of the tax, against which 
 such credit is taken, which the taxpayer's net income (computed 
 without deduction for any income, war-profits and excess-profits 
 taxes imposed by any foreign country or possession of the 
 United States) from sources without the United States bears to 
 his entire net income (computed without such deduction) for 
 the same taxable year.^ Certain other minor changes made by 
 the present law are indicated in the following paragraphs. The 
 privilege of taking credit for taxes paid to foreign countries 
 and to possessions of the United States is extended to the follow- 
 ing classes of taxpayers and to the extent indicated below. 
 
 Definition. "Amount of taxes paid during the taxable year" 
 means taxes proper (no credit being given for amounts repre- 
 senting interest or penalties) paid or accrued during the tax- 
 able year on behalf of the taxpayer claiming credit. "Foreign 
 country" includes within its meaning any foreign sovereign 
 state or self-governing colony (for example, the Dominion of 
 Canada), but does not include a foreign municipality (for ex- 
 ample, Montreal) unless itself a sovereign state (for example, 
 Hamburg) . It is held to mean the composite whole made up of 
 
 1 Revenue Act of 1921, § 222 (a) 5. 
 
 786 
 
CREDIT FOR TAXES 787 
 
 all the subdivisions of a foreign state subject to the same central 
 control. Each of the subdivisions, in this sense, is not a "coun- 
 try" but a part of a "country." The Province of British 
 Columbia, therefore, does not come within the meaning of the 
 term "foreign country." 2 "Any possession of the United States" 
 includes, among others, Porto Rico, the Philippines and the 
 Virgin Islands.^ 
 
 Citizens of the United States. In the case of a citizen of the 
 United States, whether resident or non-resident, the basis of the 
 credit for taxes under the 1918 Law was the amount of any 
 income, war-profits and excess-profits taxes paid or accrued dur- 
 ing the taxable year to any foreign country upon income derived 
 from sources therein, or to any possession of the United States.* 
 The 1921 Law omits the words "upon income derived from 
 sources therein."^ Under the 1918 Law a tax paid by a citizen of 
 the United States to the government of France and imposed on 
 an amount fixed at seven times the rent of his residence in 
 France (whether because he actually received no income or in- 
 sufficient income from France) , was considered not to have been 
 imposed on income from sources therein.^ If the taxpayer's 
 books are kept on an accrual basis and his returns are so ren- 
 dered, the credit for taxes paid to a foreign country is limited 
 to taxes accrued in the taxable year for which the return is 
 rendered.'^ 
 
 Resident Aliens. In the case of an alien resident of the United 
 States the basis of the credit for taxes under the 1918 Law was 
 as follows: (a) the amount of any income, war-profits and 
 excess-profits taxes paid or accrued during the taxable year to 
 any possession of the United States; (b) the amount of any 
 such taxes paid or accrued during the taxable year to the coun- 
 try of which he is a citizen or subject upon income derived from 
 sources therein, if such country, in imposing such taxes, allows 
 a similar credit to citizens of the United States residing in such 
 country .8 Under the present law he is allowed the credit in- 
 cluded in (a) above and also the amount of any such taxes paid 
 during the taxable year to any foreign country, if the foreign 
 
 2 0. D. 1050, T. B. 39-21-1844. 
 
 3 Reg. 45, Art. 382. 
 
 * Revenue Act of 1918, § 222 (a) ; Reg., 45, Art. 381. 
 
 5 Revenue Act of 1921, §222 (a) 2. 
 
 6 O. D. 1093, T. B. 45-21-1911. Such a tax would, however, be a proper 
 deduction. See O. D. 317, T. B. 26-20-593. 
 
 TO. 982, T. B. 7-20-*743. 
 
 8 Revenue Act of 1918, § 222 (a) 2, 3; Reg. 45, Art. 381. 
 
788 FEDERAL INCOME TAX 
 
 country of which he is a citizen or subject, in imposing such 
 taxes, allows a similar credit to citizens of the United States 
 residing in such country .^ 
 
 Countries Satisfying Similar Credit Requirement. The 
 following is an incomplete list of the countries which satisfy the 
 similar credit requirement stated in the preceding paragraph: 
 Bulgaria, Canada, Italy, Newfoundland, Salvador. The follow- 
 ing is an incomplete list of the countries which do not satisfy the 
 similar credit requirement of the statute: Argentina, Bahama, 
 Belgium, Bermuda, Bolivia, Bosnia, Brazil, Chile, China, Costa 
 Rica, Ecuador, Egypt, Finland, France, Great Britain and Ire- 
 land, Guatemala, Herzegovina, India, Jamaica, Japan, Monte- 
 negro, Morocco, New Zealand, Nicaragua, Panama, Paraguay, 
 Persia, Peru, Portugal, Roumania, Santo Domingo, Serbia, Siam, 
 Straits Settlements, since January 1, 1920, Sweden, Switzerland, 
 Venezuela. The former names of certain of these territories are 
 here used for convenience in spite of the actual or possible 
 change in the name or sovereignty. A resident of the United 
 States who is a citizen or subject of any country in the first 
 list is entitled, for the purpose of the total tax due to the United 
 States, to a credit for the amount of any income, war-profits and 
 excess-profits taxes paid or accrued during the taxable year to 
 any foreign country. If he is a citizen or subject of any country 
 in the second list he is not entitled to such credit. If he is a 
 citizen or subject of a country which is in neither list, then to se- 
 cure the desired credit, he must prove to the satisfaction of the 
 Commissioner that his country satisfies the similar credit re- 
 quirement of the statute.^" Under the 1918 Law a citizen of any 
 country in the first list could only take a credit for such taxes 
 paid to such country and not to any foreign country. 
 
 Nonresident Aliens. No credit for taxes is allowed to a non- 
 resident alien under either the present law or the 1918 Law.^^ 
 
 Citizens of Possessions, Residing in the United States. Citi- 
 zens of possessions of the United States residing in the United 
 States are allowed a credit of any income, war-profits and ex- 
 cess-profits taxes paid during the taxable year to any possession 
 
 9 Revenue Act of 1921, § 222 (a) 2, 3. 
 
 10 T. D. 3060, T. B. 86-20-1186, revoking T. D. 3028, T. B. 24-20-1008, 
 and adding Reg. 45, Art. 385. See also O. D. 580, T. B. 28-20-1056; 0. D. 
 393, T. B. 5-20-720; 0. D. 424, T. B. 13-20-813; 0. D. 499, T. B. 19-20-922; 
 O. D. 1125, T. B. 49-21-1961. 
 
 usee Revenue Act of 1921, §222; Revenue Act of 1918, §222. 
 
CREDIT FOR TAXES 789 
 
 of the United States.i^ The same credit was allowed to such tax- 
 payers under the 1918 Law.^^ 
 
 Fiscal Year in Case of Individuals. If a taxpayer claiming 
 credit for taxes makes a return for a fiscal year beginning in 
 1920 and ending in 1921, the credit for the entire fiscal year 
 will notwithstanding any other provision of the statute be de- 
 termined under the provisions set forth in the preceding para- 
 graphs, and the Commissioner is authorized to disallow, in 
 whole or in part, any such credit which he finds has already been 
 taken by the taxpayer.^* 
 
 Domestic Corporations. In the case of a domestic corporation 
 (one created or organized in the United States) the credit for 
 taxes is the amount of any income, war-profits and excess-profits 
 taxes paid during the taxable year to any foreign country or to 
 any possession of the United States.i^ The same credit was al- 
 lowed under the 1918 Law, except that in the case of taxes paid 
 to a foreign country they must have been paid upon "income 
 derived from sources therein." ^^ The tax imposed by the Re- 
 public of Cuba on all corporations operating sugar plantations 
 therein, is based on production, not on income, and is in the na- 
 ture of an excise tax. Domestic corporations may not credit the 
 amount of such taxes against the total tax due the United 
 States.!''' Certain domestic corporations, taxable only upon in- 
 come from sources within the United States, are treated as 
 foreign corporations.^^ The limitation on the amount of credit 
 that may be taken is the same as in the case of individuals.^^ 
 
 Foreign Corporations. No credit for taxes is allowed to a 
 foreign corporation notwithstanding that it may have established 
 its principal business in this country.^" 
 
 Domestic Corporations Owning Stock of Foreign Corporations. 
 Under the 1921 Law, a domestic corporation which owns a 
 majority of the voting stock of a foreign corporation from which 
 it receives dividends (not deductible under the law) in any tax- 
 able year will be deemed to have paid the same proportion of 
 any income, war-profits, or excess-profits taxes paid by such 
 
 12 Revenue Act of 1921, § 222 (a) 2. 
 
 13 Revenue Act of 1918, §222 (a) 2; Reg. 45, Art. 1132. 
 "Revenue Act of 1921, §222 (d). 
 
 15 Revenue Act of 1921, § 238. 
 
 16 Revenue Act of 1918, § 238 (a) ; Reg. 45, Art. 611. 
 
 17 0. D. 372, T. B. 3-20-688. 
 
 18 Revenue Act of 1921, § 238 (f ) . 
 
 19 Revenue Act of 1921, § 238. See H 000. 
 
 20 See Revenue Act of 1921, §238; Revenue Act of 1918, §238. 
 
790 FEDERAL INCOME TAX 
 
 foreign corporation to any foreign country or to any possession 
 of the United States, upon or with respect to the accumulated 
 profits of such foreign corporation from which such dividends 
 were paid, which the amount of such dividends bears to the 
 amount of such accumulated profits. The credit "for taxes al- 
 lowed to any domestic corporation under this paragraph, how- 
 ever, may in no case exceed the same proportion of the taxes 
 against which it is credited, which the amount of such dividends 
 bears to the amount of the entire net income of the domestic 
 corporation in which such dividends are included. The term 
 "accumulated profits" when so used in reference to a foreign cor- 
 poration, means the amount of its gains, profits, or income in 
 excess of the income, war-profits, and excess-profits taxes im- 
 posed upon or with respect to such profits or income; and the 
 Commissioner with the approval of the secretary is given full 
 power to determine from the accumulated profits of what year or 
 years such dividends were paid; treating dividends paid in the 
 first sixty days of any year as having been paid from the ac- 
 cumulated profits of the preceding year or years (unless to his 
 satisfaction shown otherwise), and in other respects treating 
 dividends as having been paid from the most recently ac- 
 cumulated gains, profits, or earnings. In the case of a foreign 
 corporation, the income, war-profits, and excess-profits taxes of 
 which are determined on the basis of an accounting period of 
 less than one year, the word "year" as used in this paragraph 
 will be construed to mean such accounting period.^i 
 
 Credit for Taxes Allowed Under 1918 Law. A domestic 
 corporation which owned a majority of the voting stock of a 
 foreign corporation was. entitled, under the 1918 Law, to credit 
 its income, war-profits and excess-profits taxes with any income, 
 war-profits or excess-profits taxes paid (but not including taxes 
 accrued) by such foreign corporation during the taxable year 
 to any foreign country or to any possession of the United 
 States upon income derived from sources without the United 
 States in an amount equal to the proportion which the amount 
 of any dividends (not deductible from gross income) received 
 by such domestic corporation from such foreign corporation 
 during the taxable year bore to the total taxable income of such 
 foreign corporation upon or with respect to which such taxes 
 were paid. But in no case might the amount of the credit for 
 such taxes exceed the amount of the dividends on the stock of 
 the foreign corporation received by the domestic corporation 
 
 21 Revenue Act of 1921, § 238 (e) . 
 
CREDIT FOR TAXES 791 
 
 during the taxable year (and not deductible from gross income) . 
 
 A domestic corporation seeking such credit was required to 
 comply with the provisions of law applicable to credits for taxes 
 already paid.22 
 
 Members of Partnerships. If an individual is a member of a 
 partnership he is entitled to his proportionate share of any in- 
 come, war-profits and excess-profits taxes paid or accrued dur- 
 ing the taxable year by the partnership to any foreign country 
 or to any possession of the United States. The law does not ap- 
 pear to make any distinction between domestic or foreign part- 
 nerships, but it has been ruled under the 1918 Law that if the 
 member of a partnership was a resident alien he was entitled 
 to the credit only "if such country, in imposing such taxes, allows 
 a similar credit to citizens of the United States residing in such 
 country." 23 
 
 Beneficiaries of Estates or Trusts. Beneficiaries of estates or 
 trusts are entitled to their proportionate shares of such taxes 
 of the estate or trust paid during the taxable year to a foreign 
 country or to any possession of the United States. If the ben- 
 eficiary is a resident alien he is limited in the same manner as a 
 resident alien member of a partnership.^* 
 
 MASSACHUSETTS TRUSTS. Massachusetts trusts were regarded 
 as associations within the meaning of the Revenue Act of 1918. 
 In a case in which the shareholders of a Massachusetts trust 
 owning and operating large properties in a foreign country re- 
 ceived very low salaries and no dividends in 1920, so that their 
 credit for income taxes paid to the foreign country exceeded 
 their income taxes due to the United States, it was held that 
 the trust could take no credit against its income tax due to the 
 United States and thus secure the benefit of a credit for taxes 
 paid on the identical income upon which income tax to the 
 United States had accrued, for the reason that in the foreign 
 country the income tax was not imposed upon an association 
 as a separate entity but upon the beneficiaries, so that the taxes 
 paid to the foreign country were the taxes of such beneficiaries 
 and not the association-^^ 
 
 22 Revenue Act of 1918, §240; Reg. 45, Art. 636. In accordance with 
 Reg. 45, Art. 611, the form to be used was Form 1118 instead of Form 
 1116. 
 
 23 Revenue Act of 1921, §222 (a) 4; Revenue Act of 1918, §222; Reg. 
 45, Art. 381. 
 
 24 Revenue Act of 1921, §222 (a) 4; Revenue Act of 1918, §222; Reg. 
 45, Art. 381. 
 
 25 A. R. R. 643, T. B. 42-21-1872. 
 
792 FEDERAL INCOME TAX 
 
 Conditions of Allowance of Credit. The following rulings were 
 made under the 1918 Law: When credit is sought for income, 
 war-profits or excess-profits taxes paid other than to the United 
 States, the income tax return of the taxpayer must be ac- 
 companied by a form,26 carefully filled out with all the informa- 
 tion there called for and with the calculations of credits there 
 indicated, and duly signed and sworn to or affirmed. When 
 credit is sought for taxes already paid, the form must have at- 
 tached to it the receipt for each such tax payment. When credit 
 is sought for taxes accrued, the form must have attached to it 
 the return on which each such accrued tax was based. This re- 
 ceipt or return so attached must be either the original, a dupli- 
 cate original, a duly certified or authenticated copy, or a sworn 
 copy. In case only a sworn copy of a receipt or return is at- 
 tached, there must be kept readily available for comparison on 
 request the original, a duplicate original or a duly certified or 
 authenticated copy.^^ 
 
 In a case in which a domestic partnership leased certain 
 patents to a British licensee for a fixed royalty, the British Gov- 
 ernment requiring the licensee to withhold and pay to it a British 
 income tax on the royalty payments, the partners, in order to 
 obtain credit for such tax paid to the British Government, were 
 instructed to attach to the partnership return a claim for credit 
 on Form 1118, modified throughout by substituting the word 
 "partnership" for the word "corporation." In lieu of the re- 
 quired receipt or return, a copy of the receipt issued to the 
 British licensee duly attested by the president of the British 
 licensee was accepted. The individual members of the 
 partnership were required to attach Form 1116 to their in- 
 dividual returns, accompanied by a copy of the receipt issued to 
 the British licensee and a copy of the attesting affidavit made 
 by the president of the British licensee.^s Where under a foreign 
 income tax law corporations are required to withhold a fixed 
 percentage of the total amount of dividends paid to the stock- 
 holders in this country, such tax being withheld in a lump sum, 
 although- imposed upon the individual stockholders, the amounts 
 withheld not being itemized by the foreign government, in lieu 
 of the individual tax receipts required to be attached to Form 
 1116, the taxpayer may attach to the return on Form 1116 his 
 affidavit showing the number of shares held during the year, 
 
 26 Form 1116 for individuals or Form 1118 for corporations. 
 
 27 Reg. 45, Art. 383; See 0. D. 809, T. B. 7-21-1450. 
 
 28 0. D. 583, T. B. 28-20-1059. 
 
CREDIT FOR TAXES 793 
 
 whether or not any of the shares held by him were acquired or 
 sold during the year, giving dates and number of shares so 
 acquired or sold; the total number of shares outstanding on 
 which the dividend was declared, regardless of whether the 
 dividend was paid to citizens of the United States or other 
 governments; and the total dividends paid or accrued on such 
 shares during the year, and attach to and make a part of such 
 affidavit a certified copy of the tax receipts from the foreign 
 tax collector showing the payment of the tax en bloc, with copies 
 of any other documents which he may have that will serve to 
 corroborate the facts set forth in such affidavit. The amount of 
 the credit claimed should be computed by dividing the total tax 
 withheld by the total number of shares of the corporation out- 
 standing and multiplying this result by the number of shares 
 held during the entire year. In the event that any of the shares 
 were acquired or disposed of during the year, an adjustment 
 should be made showing the amount of taxes properly allocated 
 to the dividends received after acquisition or before disposition 
 of the stock.29 
 
 When credit is claimed by an American bank for the amount 
 of tax withheld from interest on bank deposits and paid to a 
 foreign government by a foreign bank, there should be attached 
 to and filed with Form 1118, an affidavit from the foreign with- 
 holding agent. The affidavit should set forth the title of the 
 statute- under which such withholding was required, the amount 
 of interest accrued to the American bank and the amount of tax 
 withheld and paid to the foreign government.^" 
 
 In the case of a credit sought for a tax accrued but not paid, 
 the Commissioner may require as a condition precedent to the 
 allowance of credit a bond from the taxpayer in addition to the 
 above form. If such a bond is required, the prescribed form ^^ 
 should be used for it. It should be in such penal sum as the Com- 
 missioner may prescribe, and will be conditioned for the payment 
 by the taxpayer of any amount of tax found due upon any re- 
 determination of tax made necessary by such credit proving in- 
 correct, with such further conditions as the Commissioner may 
 require. This bond should be executed by the taxpayer, his 
 agent or representative,. as principal, and by sureties satisfactory 
 to and approved by the Commissioner.^^ 
 
 29 O. D. 232, T. B. 12-19-407. 
 
 30 0. D. 671, T. B. 39-20-1213. 
 
 31 Form 1117 for individuals or Form 1119 for corporations. 
 
 32' Reg. 45, Art. 383; see also Art. 611 as to corporations. Domestic 
 corporations claiming credit for taxes paid by a foreign subsidiary were 
 
794 FEDERAL INCOME TAX 
 
 Redetermination of Tax When Credit Proves Incorrect. In 
 
 case credit has been given for taxes accrued, or a proportionate 
 share thereof, and the amount that is actually paid on account of 
 such taxes, or a proportionate share thereof, is not the same as 
 the amount of such credit, or in case any tax payment credited 
 is refunded in vs^hole or in part, the taxpayer must immediately 
 notify the Commissioner. The Commissioner will thereupon re- 
 determine the amount of the income tax of such taxpayer for 
 the year or years for which such incorrect credit was granted. 
 The amount of tax, if any, due upon such redetermination must 
 be paid by the taxpayer upon notice and demand by the collector. 
 The amount of tax, if any, shown by such redetermination to 
 have been overpaid will be credited against any income, war- 
 profits or excess-profits taxes, or installment thereof, then due 
 from such taxpayer under any other return, and any balance of 
 such amount will be immediately refunded to him.^ 
 
 Fiscal Year in Case of Corporations. If a domestic corporation 
 makes a return for a fiscal year beginning in 1920 and ending in 
 1921, the credit for the entire fiscal year will, notwithstanding 
 any provision of the statute, be determined in accordance with 
 the provisions stated in the preceding paragraphs, and the 
 Commissioner is authorized to disallow, in whole or in part, any 
 such credit which he finds has already been taken by the tax- 
 payer.3* 
 
 permitted to avail themselves of subdivision (a) of this ruling, but not 
 (b) as credit might be claimed only vsrith respect to taxes paid (not those 
 accrued) by foreign subsidiaries. 
 
 33 Revenue Act of 1921, §§222 (b), 238 (b) and 252; Revenue Act of 
 1918, §§222 (b), 252; Reg. 45, Art. 384. 
 
 34 Revenue Act of 1921, §238 (d). 
 
CHAPTER 33 
 METHODS AND PERIODS OF ACCOUNTING 
 
 Net income must be computed with respect to a fixed period. 
 Usually that period is the taxable year which is the time unit for 
 the purpose of the tax.i It must also be computed with respect 
 to a definite method of accounting. It is provided that net in- 
 come shall be computed upon the basis of the taxpayer's anniMl 
 accounting period (fiscal year or calendar year as the case may 
 be) , in accordance with the method of accounting regularly em- 
 ployed in keeping the books of such taxpayer; but if no such 
 method of accounting has been so employed, or if the method 
 employed does not clearly reflect the income, the computation 
 must be made upon such basis and in such manner as in the 
 opinion of the Commissioner does clearly reflect the income. If 
 the taxpayer's annual accounting period is other than a fiscal 
 year, or if the taxpayer has no accounting period or does not 
 keep books, the net income must be computed on the basis of the 
 calendar year.^ 
 
 This provision is designed to secure returns of income upon 
 the same basis as, and in accord with, the books of the reporting 
 taxpayers, whenever these books are kept in accordance with 
 valid accounting practices; and facilitates the preparation of 
 returns by the taxpayer by lessening the necessity for readjust- 
 ment, and the verification of returns by revenue agents and in- 
 spectors, who will henceforth be able to compare figures more 
 readily. 
 
 Basis of Actual Receipts. Taxpayers who (a) employ no spe- 
 cific method of accounting in keeping their books, (b) employ a 
 method of accounting which does not clearly refiect the income, 
 or (c) keep their books upon the basis of actual receipts and dis- 
 bursements, will compute their net income under both the present 
 and the 1918 Law upon the basis of actual receipts and disburse- 
 ments; that is, such taxpayers will report as gross income only 
 
 1 Eeg. 45, Arts. 22, 1533. 
 
 2 Revenue Act of 1921, § 212; Revenue Act of 1918, § 212. This provision 
 extends to all taxpayers the privilege of reporting income upon the basis of 
 book entries, a privilege accorded in some respects by the 1916 Law only to 
 partnerships and corporations, at the same time changing the privilege into 
 a requirement. (Revenue Act of 1916, §§ 8 (g), 13 (a), 13 (d).) 
 
 795 
 
796 FEDERAL INCOME TAX 
 
 items actually or constructively received in cash or its equiva- 
 lent, and as deductions only items paid in cash or its equivalent.^ 
 
 Reporting Income Upon Accrual Basis. The requirement that 
 income be reported and deductions taken upon the accrual basis 
 is confined to taxpayers who (a) keep books, and (b) employ a 
 method of accounting clearly reflecting their income. If such tax- 
 payers employ a method of accounting according to which items, 
 both of income and liability, are set up when they accrue, or are 
 incurred, they are required to use this method of accounting as a 
 basis for their returns of income. Mercantile corporations are 
 required to file returns upon the accrual basis. When such cor- 
 porations carry a substantial stock of merchandise, the inven- 
 tories of the stock on hand at the beginning and end of the tax- 
 able year must be included in the computation and determination 
 of net income for that period; when a business is carried on 
 mainly through sales on credit no return of income for a taxable 
 year is accurate and complete without considering the accounts 
 receivable.* The accrual method does not apply to dividends 
 which must invariably be reported for the year in which they 
 are unqualifiedly made subject to the demand of the stock- 
 holder.5 
 
 Reporting Deductions Upon Accrual Basis. It is to be 
 noted that both receipts and liabilities must be entered upon the 
 same basis if the income of a taxpayer is to be clearly reflected. 
 When the accrual basis is used for the computation of net in- 
 come, items of gross income and deductions are both accounted 
 for upon the accrual basis. Unless all items of gross income and 
 all deductions are treated with reasonable consistency, a method 
 of accounting will not be regarded as clearly reflecting income.*' 
 The statute uses the words "paid or incurred," or the words 
 "paid or accrued" in connection with many of the deductions 
 specified and it is also provided that the term "paid" for the pur- 
 pose of the deductions and credits allowed by the income tax 
 means "paid or accrued" or "paid or incurred" and that the terms 
 "paid or incurred" and "paid or accrued" shall be construed ac- 
 cording to the method of accounting upon the basis of which net 
 income is computed.'' 
 
 3 Revenue Act of 1921, §§ 212, 232; Revenue Act of 1918, §§ 212, 232. 
 *A. R. R. 217, T. B. 32-20-1115. 
 
 5 Revenue Act of 1921, § 201 (e) . 
 
 6 Reg. 45, Art. 23. 
 
 7 Revenue Act of 1921, §§200, 214 (a), 234 (a); Revenue Act of 1918, 
 §§200, 214 (a), 234 (a). This subject is more fully covered in succeeding 
 paragraph?. See also Chapter 21. 
 
METHODS AND PERIODS OF ACCOUNTING 797 
 
 Accrued Charges. If book entries represent an actual ex- 
 pense or element of cost in the production of the income of the 
 year, their amount is properly deductible, even though they have 
 not been actually disbursed in cash or its equivalent, provided 
 they constitute a liability against the assets of the taxpayer and 
 provided further that the income is also returned upon an ac- 
 crued basis. If in the course of its business, a corporation credits 
 the accounts of individuals, firms or corporations with any ex- 
 penses, interest, rentals, wages, etc., due them, thereby making 
 them subject to the personal drawings of such creditors, or if 
 expenses actually incurred are vouchered in definite amounts, and 
 if the amounts so credited or vouchered are expenses incurred 
 concurrently with and in the production of the income of the 
 year, they may be deducted therefrom. The deduction of any 
 accrued charges which if paid in cash or otherwise would not be 
 deductible is not permitted.* 
 
 Methods of Accounting. Approved standard methods of ac- 
 counting will ordinarily be regarded as clearly reflecting income.*' 
 It is recognized that no uniform method of accounting can be 
 prescribed for all taxpayers, and the law contemplates that each 
 taxpayer shall adopt such forms and systems of accounting as are 
 in his judgment best suited to his purpose. Each taxpayer is re- 
 quired by law to make a return of this true income. He must, 
 therefore, maintain such accounting records as will enable him to 
 do so. Among the essentials are the following: (1) In all cases 
 in which the production, purchase or sale of merchandise of any 
 kind is an income-producing factor inventories of the merchan- 
 dise on hand (including finished goods, work in process, raw 
 materials and supplies) should be taken at the beginning and end 
 of the year and used in computing the net income of the year ; (2) 
 expenditures made should be properly classified as between capi- 
 tal and income, that is, expenditures for items of plant, equip- 
 ment, etc., which have a useful life extending substantially 
 beyond the year should be charged to a capital account and not 
 to an expense account; and (3) in any case in which the cost of 
 capital assets is being recovered through deductions for depreci- 
 ation, depletion or obsolescence any expenditure (other than or- 
 dinary repairs) made to restore the property or prolong its useful 
 life should be charged against the property account or the ap- 
 propriate reserve and not against current expenses.^" 
 
 8 Reg. 33 Rev., Art. 126; T. D. 2433; T. D. 2625. 
 9-Reg. 45, Art. 23. 
 10 Reg. 45, Art. 24. 
 
798 federal income tax 
 
 Inconsistent Bases not' Permissible in Same Return. 
 Where a taxpayer has income from several sources, including 
 interest on securities, royalties on books, profits of a partner- 
 ship maintaining its books on a cash basis, and income from a 
 publishing business, he must report his income on a cash and 
 disbursement basis, even though the books of the publishing 
 business are kept on the accrual basis.^^- 
 
 When Items Should Be Reported. One of the most perplexing 
 difficulties arising under a law which imposes a tax upon income 
 with respect to a definite or fixed period of time is the question 
 when, under a given set of circumstances, an item of income or 
 a particular deduction should be reported. The time as of which 
 any item of gross income or any deduction is to be accounted for 
 must be determined in the light of the fundamental rule that the 
 computation must be made in such manner as clearly reflects 
 the taxpayer's income. If the method of accounting regularly 
 employed by him in keeping his books clearly reflects his income, 
 it is to be followed with respect to the time as of which items of 
 gross income and deductions are to be accounted for.^^ The es- 
 sence of this rule is that gross income should ordinarily be re- 
 ported in the taxable year in which received by the taxpayer, 
 unless he keeps his accounts upon the accrual basis, in which 
 event items should be reported as accrued, according to recog- 
 nized accounting practices. The application of this rule raises 
 some of the most intricate problems connected with the income 
 tax. It is only possible to suggest some of these problems in this 
 chapter and to indicate the more or less tentative answers so far 
 given to them by the treasury department and the courts. Many 
 of the principles involved are hardly formulated; the subject is 
 new ; and the department is still feeling its way. There may be 
 doubt as to the proper recipient of income, a doubt which can 
 possibly only be resolved by litigation. An item of income may 
 be received in a conditional sense, subject to a claim for its re- 
 turn. On the other hand, uncertainty may surround, not the 
 recipient but the amount of income arising from a particular 
 transaction, and there may, of course, be doubt both as to the 
 recipient and the amount of income. The transaction producing 
 income may be of a contingent character. Cash or its equiva- 
 lent may be received by a taxpayer by virtue of a contract, the 
 operation of which extends over a period of years, so that in the 
 early years, and perhaps not until final consummation, will the 
 
 11 O. D. 777, T. B. 29-20-1731. 
 
 12 Reg. 45, Art. 221. 
 
METHODS AND PERIODS OF ACCOUNTING 799 
 
 character of the payment received at the outset be definitely 
 ascertained. Again, an item of income may be received in a 
 year in which nothing connected with its production has trans- 
 pired ; it may be the result of activities or processes anticipating 
 the taxable year by many years. Commercial transactions con- 
 stantly involve transfers of property and payments of money 
 the exact definition of which is contingent and dependent upon 
 the future ; the parties themselves may not know, and it may be 
 impossible for them to know, how the transaction will result. 
 The determination of contract rights and the settlement of busi- 
 ness disputes frequently take place years after the efforts and 
 activities and processes to which they relate. Finally, the tax- 
 payer may discover for the first time in one year a gain or loss 
 which in fact has occurred in a prior year. 
 
 These considerations affect not only gross income but also the 
 charges incident to the production thereof. Deductions should 
 be taken when payment of charges is made or when charges 
 accrue, as the case may be. As a general rule, the statutory 
 deductions are expenditures, other than capital expenditures, 
 connected with the production of income.^^ The artificiality 
 of the taxable year as a unit of time will often, if strictly ad- 
 hered to, result in the reporting of deductions in one year which 
 are connected with another year's income. Technically, they 
 should be reported, so far as possible, in the same period with 
 the income with which they are connected. It is, however, utterly 
 impracticable to proceed in all cases upon the theory that losses 
 and expenses must be charged against the income of the year in 
 which the operation occurred giving rise to the losses and ex- 
 penses." This would mean that "the administration of the tax- 
 ing acts would be an interminable accounting proposition." 
 
 Throughout this discussion the distinction between the con- 
 structive receipt and the accrual of income must be kept in mind. 
 The manner in which income may be constructively received is 
 described in another chapter.i^ Stated briefly, income is con- 
 structively received when it is credited to the account of or set 
 apart without restriction for a taxpayer so that it may be drawn 
 upon by him at any time.^^ The basic theory underlying the idea 
 of constructive receipt is that the reduction of income to physical 
 
 13 Reg. 45, Art. 21. 
 
 14 S. 983, T. B. 3-19-188. 
 
 15 See Chapter 14. The attempt in this chapter is not to define income as 
 in Chapter 14 but to discuss the question when is income to be reported. 
 
 16 Reg. 45, Art. 53. 
 
I 
 
 800 FEDERAL INCOME TAX 
 
 possession, being a process to a large extent or entirely within 
 the volition of the taxpayer, should be regarded as immaterial 
 with respect to third parties such as the government. It is in 
 effect an application of the principle that equity regards that as 
 done which ought to be done. Income may accrue to a taxpayer 
 without being subject to his demand or capable of being drawn 
 on or against by him.^^ 
 
 Where the Recipient of Income Is Doubtful. It frequent- 
 ly happens that with respect to a particular item of income there 
 is doubt as to the proper recipient. Thus, where a sale is made 
 and because of claimants for commissions the seller is required 
 by the purchaser to put a certain part of the purchase price in 
 escrow, and thereafter certain claimants are paid directly out of 
 said funds in escrow, the seller is not liable for income tax upon 
 any part of the purchase price in escrow until actually received 
 by him.is It has been held that income from oil royalties must 
 be returned in the taxable year received, even though the title 
 to the producing land and interest in the productive area are in 
 litigation. This is true when the royalty payments are received 
 subsequent, as well as when they are received prior, to the de- 
 termination of the litigation.i9 Where the United States gov- 
 
 17 Reg. 45, Art. 53. 
 
 IS S. 1315, T. B. 6-20-725. 
 
 18 O. D. 825, T. B. 9-21-1477; 0. D. 1046, T. B. 39-21-1839. If any part of 
 the royalty income accounted for as income in advance of determination of 
 the litigation is ordered by the court to be paid over to another, any tax 
 previously paid thereon will be credited against any income tax then due 
 under any other return of the taxpayer, and any balance of the excess tax 
 paid will be refunded if proper claim for such refund is made. These rulings 
 are not easy to reconcile. They both adopt the taxable year of physical 
 receipt as the test of when the payments should be reported. When the title 
 to producing oil land is in litigation, the royalties received, in advance of 
 determination of that litigation, therefrom are conditionally received. The 
 taxpayer may never become legally entitled to them and may have to return 
 them. In contemplation of law his position with regard to the funds is not 
 different because he actually received them from what it would be if they 
 were deposited in court/ or in escrow pending final determination of owner- 
 ship. The distinction here is one of responsibility. If it is eventually decided 
 that he is not entitled to them, he has in effect never received them. He 
 has received a loan. If the moneys are finally awarded to him, the date of 
 the judgment, or award, or decision vesting ownership in him, is the date 
 when he may be said to receive them in any real sense. Before this decision 
 they are not his property; how then can they be income to him? This ruling 
 requires him to pay a tax upon income conditionally received, which may be 
 taken from him, and to seek to recover the tax if it is taken from him. 
 O. D. 825 is difficult to reconcile with the other rulings discussed in the text 
 above, particularly S. 1315, T. B. 6-20-725; O. D. 948, T. B. 24-21-1687; O. D. 
 
METHODS AND PERIODS OF ACCOUNTING 801 
 
 ernment took over a business in 1914, operating it until 1920, 
 paying over earnings from 1914 to 1917 in 1919 upon the set- 
 tlement of a dispute as to the ownership of the corporation, it 
 was held that the sums paid over in 1919 constituted income for 
 1919 when they were paid over upon the settlement of the dis- 
 pute.2o 
 
 Income Conditionally Received. Closely related to the 
 cases discussed in the preceding paragraph are those cases in 
 which items of income are received in a conditional sense, sub- 
 ject to a claim for their retum.^i Where certain corporations 
 collected commissions in excess of the schedule of commissions 
 sought to be established by one of the executive departments of 
 the government, a restraining order was issued enjoining the 
 putting into effect of the schedule until final determination of 
 the case. The order required that each of the corporations seek- 
 ing relief should deposit with the court such portion of the com- 
 missions collected by them in excess of the commissions specified 
 in the department's schedule. It was held that the commissions 
 so deposited need not be returned as gross income until the tax- 
 able year in which the ownership therein was judicially deter- 
 mined.22 When property is sold by individuals who are under 
 agreement to incorporate at a later date, the proceeds of the 
 sale being placed on deposit in a bank in escrow under the con- 
 dition that the sale must be ratified by the directors of the cor- 
 poration when organized, income accrues to the corporation at 
 the time when the sale is ratified and the funds in escrow are 
 made available to the company .^3 Where the employees of a cor- 
 poration subscribe to shares of its stock, title to the stock re- 
 maining in the corporation until the stock is fully paid for, the 
 dividends being credited to the account of the employee as part 
 payment, such credits are not income to the employee until the 
 terms of the agreement of subscription have been completed.^* 
 
 Where the Amount of Income Is Doubtful. The amount 
 of income incident to a particular transaction may remain un- 
 
 980, T. B. 30-21-1743, and 0. D. 282, T. B. 21-19-523. On principle it is cer- 
 tainly inconsistent with the decision of the court in Holbrook v. Moore, T. B. 
 17-21-1592. 
 
 20 0. D. 948, T. B. 24-21-1687. Here the company kept its books on a cash 
 receipts and disbursements basis. 
 
 21 An example of such a payment will be found in O. D. 19, T. B. 1-19-31. 
 See paragraph "Payments of Compensation" below. 
 
 22 0. D. 980, T. B. 30-21-1743. 
 
 23 0. D. 282, T. B. 21-19-523. 
 
 24 0. D. 763, T. B. 1-21-1370; O. D. 791, T. B. 6-21-1426. See A. R. R. 182, 
 T. B. 29-20-1070. 
 
802 FEDERAL INCOME TAX 
 
 determined for a considerable period after the transaction from 
 which it originated. In other words, a claim may remain un- 
 liquidated for some time after it arises. This was particularly 
 true in the period of unusual conditions prevailing at the close 
 of 1918 when it was recognized that many items of gross income 
 such as claims for compensation under cancelled contracts to- 
 gether with claims against contracting departments of the gov- 
 ernment for amortization and other matters, while properly con- 
 stituting gross income for the taxable year 1918 were undecided 
 and not sufficiently definite in amount to be reported in the orig- 
 inal return for that year.25 All such claims have been held in 
 the final analysis to be more or less tentative and subject to re- 
 vision and where the full amount of such claims has been re- 
 ported as income, the loss resulting from the disallowance of part 
 thereof can not be classified with bad accounts.^s Applying this 
 rule, it has been held that where a number of carloads of coal, 
 purchased on contracts entered into prior to October 30, 1919, 
 and shipped to tidewater for export, were diverted by the Fuel 
 Administration for the account of the Railroad Administration, 
 and settlement with the railroads receiving the coal remained 
 undetermined, the railroads having remitted some on the basis 
 of the maximum government price and some on the basis of the 
 cost price, the corporation owning the coal should set up the ac- 
 counts involved in a "suspense account" and eliminate them from 
 its 1919 and 1920 returns pending final settlement when 
 amended returns might be made for these years,^^ But where 
 an item is in dispute and there is no assurance that it will be 
 paid, it should not be reported as income until there is an adju- 
 dication that it is due, or a settlement of the dispute.^s Thus 
 an award in the year 1918 by a board of arbitration on an un- 
 liquidated claim to a portion of the proceeds arising out of trans- 
 actions which took place in 1917, is held to be income for the 
 year 1918 rather than 1917.2^ The amount of compensation for 
 
 25 Reg. 45, Art. 52, as amended by T. D. 3247, T. B. 48-21-1643. These 
 provisions are not applicable to cases in which collections of taxpayers for 
 the year 1920 have been postponed because of unusual conditions such as the 
 moratorium in Cuba, there being no question as to the definiteness of the 
 obligations of purchasers. (0. D, 869, T. B. 15-21-1559.) 
 
 26 A. R. R. 685, T. B. 48-21-1948. 
 
 27 0. D. 816, T. B. 8-21-1461. It was also held that the corporation should 
 attach to its original 1919 and 1920 returns a full statement of facts relative 
 to the claims. (See next footnote.) 
 
 28 Sol. Op. 41, T. B. 34-20-1159; 0. D. 642, T. B. 34-20-1151. 
 
 29 S. 1335, T. B. 8-20-750. See O. D. 591, T. B. 29-20-1071; O. D. 642, T. B. 
 34-20-1151. In this case prior to the award there was doubt as to whether 
 
METHODS AND PERIODS OF ACCOUNTING 803 
 
 personal services is frequently doubtful as in a case where such 
 amount is largely in the discretion of the employer or where it 
 is contested.^" 
 
 Where the Transaction Producing Income Is Contingent. 
 Question as to when an item should be reported sometimes arises 
 in connection with exchanges of property. When is the exchange 
 a closed transaction ? Where in connection with the reorganiza- 
 tion of a company the stockholder has the right to make an ex- 
 change in one year but does not actually make the exchange 
 until the following year, the profit accruing is income in the year 
 in which the exchange is actually mades^^ In a case in which 
 holdings of stock in a corporation, including shares held prior to 
 March 1, 1913, shares received as dividends after March 1, 1913, 
 and shares acquired by purchase after March 1, 1913, were in 
 1918 exchanged for shares of stock in several other corporations, 
 but owing to requirements of the capital issues committee, a 
 portion of the stock to be received was held in trust during the 
 period of the war, certificates of ownership being issued and final 
 delivery of the stock being made in 1919, the treasury depart- 
 ment held that the exchange constituted a closed transaction 
 which reflected a gain or loss in the difference between the ag- 
 gregate value of the shares exchanged and the total market value 
 of the securities received, and that the date of the exchange and 
 not the date of complete delivery determined the taxable period 
 in which such gain or loss should be reported.^^ ^ sale may be of 
 a contingent character depending for final consummation upon 
 events taking place in a year following. Thus, a corporation en- 
 gaged in the exportation of merchandise made heavy shiptnents 
 to foreign countries during 1919. The bill of lading in each case 
 
 or not the taxpayer would receive anything, and the award was regarded 
 as equivalent to a judgment. The outcome of the controversy was so un- 
 certain that it could not possibly have been foretold. The case does not seem 
 entirely consistent with the coal case discussed in the text above. In that 
 case there seemed to be considerable doubt as to the amount which the owner 
 of the Coal would receive. It is true, however, that the corporation owning 
 the coal was practically certain of receiving something. These two cases 
 illustrate the difficulty inherent in these questions of when income should 
 be reported. Strictly speaking, insofar as the amounts received for the coal 
 were contingent and subject to the possibility of not being received, they 
 should have been reported when the determination was made, that the sums 
 were owing to the taxpayer, the amounts not in controversy being reportable 
 in the earlier years under amended returns. 
 
 30 These cases are discussed below. See paragraph "Payments of Com- 
 pensation." 
 
 31 A. R. R. 289, T. B. 44-20-1274. 
 
 32 O. D. 480, T. B. 18-20-892. 
 
804 FEDERAL INCOME TAX 
 
 was accompanied with a draft on a bank located in the city of 
 the purchaser, the understanding being that legal title to the 
 goods should not pass prior to the acceptance of the draft by the 
 purchaser. Many of the drafts so sent were not accepted and the 
 goods were sold to persons other than the original purchasers. In 
 numerous cases these rejections did not take place until after 
 the close of the year 1919 and notice of the nonacceptance was 
 not received prior to the filing of the corporation's 1919 return. 
 The corporation reported in its return for 1919 the profits to be 
 realized upon all such sales within the year and excluded the 
 goods so sold from its closi^ag inventory for 1919. This was held 
 to be an error. No part of the profit to be realized upon any par- 
 ticular sale made in 1919 should have been included in the in- 
 come of the corporation for that year if at the end of the year 
 the company was not in receipt of notice of the acceptance of 
 the draft accompanying the bill of lading for such sale. The 
 goods so shipped, but not considered as having been actually 
 sold, because of the nonacceptance of the draft or because of 
 the nonreceipt of a notice of the nonacceptance of the draft 
 should have been included in the closing inventory for 1919.3^ 
 It is held also that a corporation is not required to treat its con- 
 tracts covering unfilled and undelivered orders for its goods as 
 gross. sales for the year in which an order is taken and a con- 
 tract entered into, but that the sale of the goods can not be 
 properly considered as taking place when the goods are deliv- 
 ered to the carrier for shipment to the buyer, or in those cases in 
 which the purchaser is to call for the goods at the place of busi- 
 ness of the seller, until there is a specific identification of the 
 goods manufactured and they are put in a deliverable state.^* 
 
 Payments the Character of Which Depends on Future 
 Development. Cash or its equivalent may be received by a tax- 
 payer by virtue of a contract, the operation of which extends 
 over a period of years and the exact nature of early payments 
 may remain doubtful until the contract is finally performed. Sums 
 received may prove ultimately to be a return of capital or in- 
 come, according to future developments. For instance, a cor- 
 poration assigned its principal, asset, a mortgage, to trustees in 
 trust for its stockholders and then instituted liquidation pro- 
 ceedings. The mortgage was payable in annual installments 
 
 33 O. D. 824, T. B. 9-21-1476. The question of notice would seem to be 
 immaterial in this case; the real question was: Was there a sale? not, Did 
 the taxpayer know whether or not there was a sale ? Compare this decision 
 with O. D. 13, T. B. 1-19-25. 
 
 34 0. D. 826, T. B. 9-21-1478. 
 
METHODS AND PERIODS OF ACCOUNTING 805 
 
 with interest, and the beneficiaries were to receive proportionate 
 shares of the principal and interest as paid to the trustees. The 
 trustees were to receive compensation in a fixed amount plus a 
 percentage of the income received and distributed, and be reim- 
 bursed for expenses incurred in connection with the trust. It 
 was held that the profit of the stockholders from the surrender 
 of their stock is not definitely ascertainable, and they need not 
 report any amount as income until the total sum received in 
 liquidation exceeds either the cost of their stock or its fair mar- 
 ket value March 1, 1913, if acquired prior to that date.^s 
 
 Subsequently Discovered Gains. A taxpayer some times 
 discovers for the first time in one year a gain which has in fact 
 occurred in a prior year. Thus, adjustments made in accordance 
 with instructions from the Interstate Commerce Commission, in- 
 creasing the income of a railroad corporation from transactions 
 in prior years and taken up on the books of the corporation dur- 
 ing the taxable year because necessary information was not avail- 
 able prior to that time, represent income for the years during 
 which the transactions took place instead of the taxable year. 
 Corrections should be made by means 'of amended returns.^^ 
 Profit on goods sold by a consignee is income to the consignor for 
 the year in which the sales are made, even though the consignor 
 received no notification of sale until a subsequent year. If re- 
 ported otherwise, amended returns should be filed.^^ 
 
 Payments op Compensation. The well established rule that 
 compensation for personal services is to be reported as income 
 in the year of receipt, rather than the year in which the services 
 for which the compensation is paid are rendered, is discussed in 
 full in another chapter,^^ particularly as this rule is affected by 
 the consideration that such services may have been rendered 
 prior to March 1, 1913. This rule is productive of many artificial 
 results.^8 It is founded, no doubt, upon the consideration that 
 
 35 O. D. 461, T. B. 16-20-874. 
 
 36 O. D. 9, T. B. 1-19-18. 
 
 3T 0. D. 13, T. B. 1-19-25. A loss may likewise be discovered years after 
 it has been sustained. See Chapter 25. 
 
 38 See Chapter 15. See also T. B. R. 12,. T. B. 3-19-178; A. R. R. 182, T. B. 
 29-20-1070; 0. D. 717, T. B. 45-20-1289; O. D. 432, T. B. 14-20-824; 0. D. 
 19, T. B. 1-19-31; 0. D. 512, T. B. 21-20-948; 0. D. 456, T. B. 26-21-1700; 
 Jackson v. Smietanka, 267 Fed. 932; affirmed Jan. 1921, T. B. 14-21-1545; 
 Holbrook v. Moore, T. B. 17-21-1592; Woods v. Lewellyn, 252 Fed. 106; 
 State ex rel. Houghton v. Phelps (Wis.), 176 N. W. 217. 
 
 39 Thus an amount received on January 1st is reported as income for the 
 year in which received rather than the year preceding during which the 
 services which the payment represents were rendered. Again, an adver- 
 
806 FEDERAL INCOME TAX 
 
 the recipients of salaries rarely keep books and consequently are 
 required to report income upon the cash and receipts basis. But 
 it is also founded in large part upon the doctrine of constructive 
 receipt. There seems to be no valid reason under the present 
 law (or the Revenue Act of 1918) why a taxpayer keeping satis- 
 factory books of account and employing a regular method of ac- 
 counting in keeping such books should not report payments for 
 compensation upon ^an accrual basis. In regard to such pay- 
 ments, however, the distinction between accrual and constructive 
 receipt is particularly important. It is well established that 
 where compensation for personal services is contested, the entire 
 amount thereof should be reported as income in the year in which 
 received.*" The same is true if the amount of compensation is in 
 the discretion of the employer or of the amount of compensation 
 remains undetermined until the year of payment.*^ 
 
 Allocation of Income prom Judgments. Lands which are 
 received as compensation for services in one year, the title to 
 which is disputed and in a later day adjudged to be valid, con- 
 stitute income to the grantee in the former year. On the other 
 hand, a person may sue in one year on a pecuniary claim or for 
 property, but money or property recovered on a judgment there- 
 for rendered in a later year would be income in that year, as- 
 suming that it would have been income in the earlier year if 
 then received. This is true of a recovery for a patent infringe- 
 ment. Bad debts or accounts charged off subsequently to Feb- 
 ruary 28, 1913, because of the fact that they were determined 
 to be worthless which are subsequently recovered, whether or not 
 by suit, constitute income for the year in which recovered.*- 
 Where a company in 1912 entered into an agreement to sell oil 
 
 tislng solicitor Is required to report commissions in the year in which re- 
 ceived, which he may subsequently be obliged to pay back owing to failure 
 of payment for advertising (0. D. 19, T. B. 1-19-31). A taxpayer who had 
 been discharged from the employ of a railroad company and who was there- 
 after reinstated and paid for all time lost during the period of two years 
 has been required to report the amount so received as income for the year 
 in which paid (0. D. 512, T. B. 21-20-948). "Post allowances" made to 
 members of diplomatic and consular services have been held to be Income 
 in the year in which received and not the year to which they related. (0. D. 
 997, T. B, 34-21-1778) . 
 
 40 0. D. 432, T. B. 14-20-824. 
 
 « O. D. 717, T. B. 45-20-1289, superseding 0. D. 460, T. B. 16-20-858; Reg. 
 45, Art. 32. This was true in the case of Jackson v. Smietanka, 267 Fed. 
 932, affirmed January, 1921, T. B. 14-21-1545. But Jackson kept no books 
 and the decision might have been placed on that ground. 
 
 42 Reg. 45, Art. 52, as amended by T. D. 3247, T. B. 48-21-1943; Letter 
 from treasury department dated February 11, 1916, I. T. S. 1918, lfl211. 
 
METHODS AND PERIODS OF ACCOUNTING 807 
 
 to another company, at 90 cents per barrel, delivery to extend 
 over two years, the latter company to have an option to extend 
 the term^of the contract and to pay for oil thereafter delivered 
 at a price equal to the highest contract price then being paid by 
 , any one of four of the largest purchasing companies, and did 
 exercise such option and dispute arose as to the price to be paid, 
 the buying company paying only 50 cents a barrel and the selling 
 company claiming $1.00 a barrel, the price being finally fixed by 
 the courts in 1912 at $1.00 and the buying company ordered to 
 pay the balance of 50 cents a barrel, it has been held that such 
 balance is income to the buying company for the year in which 
 received and not for the year or years in which the right of 
 action accrued.*^ 
 
 Allocating Deductions to Income with Which They Are 
 Connected. A taxpayer making returns on an accrual basis 
 has the right to deduct all authorized allowances, whether paid 
 in cash or set up as a liability, and it follows that if he does not 
 within any year, pay or accrue certain of his expenses, interest, 
 taxes or other charges, and makes no deduction therefor, he can 
 not deduct from the income of the next or any subsequent year 
 any amounts then paid in liquidation of the previous year's 
 liabilities.** Many of the principles governing the allocation of 
 deductions to the proper taxable period are the necessary corol- 
 laries of the rules governing the allocation of items of income 
 to their proper taxable period. Generally speaking, if a payment 
 is income to the recipient, it is deductible, by the payor, if at all, 
 in the period as of which it is to be reported as income by the 
 payor.*5 It has been stated that compensation for personal 
 services is generally to be reported by the recipient as of the 
 period during which its amount is fixed and paid. The same 
 item is usually to be deducted by the taxpayer as of the same 
 
 For this rule in the case of bad debts charged off as worthless prior to March 
 1, 1913, see Reg. 45, Art. 87, as amended by T. D. 3206. 
 
 43 Sol. Op. 11, T. B. 84-20-1159. See Jackson v. Smietanka, 267 Fed. 932; 
 T. D. 2960. 
 
 n Reg. 46, Art. 111. 
 
 45 This will not be true in all cases. Thus a receiver of a corporation may 
 deduct receivers' and attorneys' fees actually paid during the year to which 
 the return relates if the books are kept on the cash receipts and disburse- 
 ments basis; but if the books are kept on an accrual basis the amount of 
 such fees accruing during the year may be deducted even though disburse- 
 ment is not actually made until the following year. (0. D. 3, T. B. 1-19-6). 
 In other words, the same item may be reported in different taxable periods 
 by payor and payee, when the books of the one are kept on one basis and the 
 books of the other on another basisi 
 
808 FEDERAL INCOME TAX 
 
 period. Thus, when additional compensation is agreed to be paid 
 by a corporation to its officers at a future date, upon the hap- 
 pening of certain contingencies expected to result from the ren- 
 dition of services, the amount of such compensation being left 
 for future determination, the amount eventually paid is not to 
 be treated as back salary and allocated to the years during which 
 the services were rendered, but constitutes a business expense 
 to the corporation for the taxable year in which the same was 
 paid.*6 Similarly, it was stated in discussing the subject of in- 
 come that where the amount of an item was unliquidated or in 
 controversy, it should not be reported upon final liquidation as 
 of the year in which liquidated and paid, but should form the 
 basis of amended returns for prior years, unless the outcome of 
 the liquidation or controversy was so uncertain that it could not 
 possibly have been foretold.*'' Charges should likewise form the 
 basis of amended returns for prior years unless the outcome of 
 the liquidation or controversy was so uncertain until final settle- 
 ment that it could not have been known in advance. This is illus- 
 trated by the case of a corporation which sold merchandise, the 
 weight and grade of which was guaranteed under contract. 
 Under the practice of the trade, when shipments failed to con- 
 form to specifications, adjustments were made in accordance 
 with rules promulgated by certain trade associations. Referring 
 to certain shipments made toward the close of a taxable period 
 and finally adjusted after the end of the taxable period, it has 
 been ruled that if the liability of the taxpayer were in question, 
 there would have been no deductible loss until such liability had 
 been actually determined, either by agreement or in the courts, 
 but where such liability is not in dispute and the amount thereof 
 is merely an accounting detail to be determined under an existing 
 contract or agreement, and in accordance with a clearly recog- 
 nized course of procedure, such adjustments are applicable to the 
 year in which the sales were made and should be regarded more 
 truly as adjustments of the selling price rather than as rebates 
 or allowances. It is held, however, that loss sustained as the 
 result of the return of defective goods in one year, which 
 had been sold in a prior year, is deductible only in the year in 
 which the goods were returned.*^ Where rental is withheld by 
 
 46 A. R. R. 232, T. B. 33-20-1130. See p. 000. 
 
 47 See page 805. 
 
 48 A. R. R. 275, T. B. 42-20-1242; O. D. 642, T. B. 34-20-1151; 0. D. 1067, 
 T. B. 42-20-1871. The first of these rulings may be theoretically sound, but 
 it draws rather a fine line. When is the determination of liability under a 
 contract merely a matter of accounting detail? This question may be an- 
 
METHODS AND PERIODS OF ACCOUNTING 809 
 
 a lessee and held in reserve, the amount so retained is deductible 
 for the year of withholding, although not paid in cash. Such 
 rental is a definite liability.^^ Where the final outcome of a con- 
 troversy is uncertain, the amount finally determined as a liability 
 should be reported as of the year of final determination. Where 
 a corporation in 1919 pays liquidated damages to be relieved 
 from the terms of a contract which called for the delivery of 
 merchandise in 1918 and 1919, the loss so incurred is deductible 
 from gross income for the year 1919 rather than 1918.5" 
 
 Judgments Against Taxpayer. Any amount paid pursuant 
 to a judgment or otherwise on account of damages for personal 
 injuries, patent infringement or otherwise, is deductible from 
 gross income when the claim is put in judgment or paid, less any 
 amount of such damages as may have been compensated for by 
 insurance or otherwise.^i The principle underlying this rule is 
 that the loss or expense involved in and culminating in a judg- 
 ment can not be properly set up as liabilities on the books of the 
 taxpayer until they have become known and definite, which does 
 not happen in a litigated matter until judgment.^^ This rule ap- 
 plies to all amounts paid pursuant to a judgment recovered in a 
 patent infringement suit, whether as "damages" or as "profits 
 turned over to the patent owner''.^^ The judgment is the adju- 
 dication fixing the amount due. The report of a master in chan- 
 cery, appointed by an interlocutory decree in a suit for damages 
 for alleged infringement of a patent, assessing damages against 
 the taxpayer, which report was filed during the taxable year, but 
 was not confirmed until the following year when judgment was 
 entered on the report, can not be regarded as a determination of 
 the amount of the claim, and no deduction for the taxable year 
 is permissible in regard to the judgment referred to.^* The award 
 of a board of arbitration, provided it is final, is analogous to the 
 
 swered readily enough in some cases, but there are many cases in which the 
 whole question of liability under a contract is a matter of accounting detail ; 
 accounting details are frequently of the most vital importance going to the 
 question of liability itself, as distinguished from extent of liability. Account- 
 ing details may change a liability into an asset. 
 
 49 0. D. 794, T. B. 6-21-1430. 
 
 50 S. 983, T. B. 3-19-188. 
 
 51 Reg. 45, Art. 111. This subject is more fully discussed in Chapter 25 
 on Losses, particularly under the paragraph heading "Loss due to Adverse 
 Judgment." 
 
 52 O. D. 917, T. B. 20-21-1638. 
 
 53 O. D. 917, T. B. 20-21-1638. 
 
 54 S. 923, T. B. W9-94. 
 
810 FEDERAL INCOME TAX 
 
 judgment of a court; it is a less formal, but equally conclusive 
 determination of the rights of the parties involved.^s 
 
 Reserves to Meet Liabilities. The extent to which re- 
 serves to meet liabilities are deductible is a difficult matter to 
 determine. The character of the reserve is vital to any consid- 
 eration of the question. If the reserve is for a liability certain and 
 definite in amount, such as rent and interest charges incurred but 
 payable in the future, it is deductible. Where pursuant to the 
 consistent practice of accounting of a corporation, or pursuant 
 to the requirements of some federal, state or municipal super- 
 vising authority, corporations set up and maintain reserves to 
 meet liabilities, the amounts of which, and the date of payment 
 or maturity of which are not definitely determined or determin- 
 able at the time the liabilities are incurred, the treasury depart- 
 ment permitted the amounts credited to such reserves to be de- 
 ducted, under the 1916 Law, provided the amounts deductible on 
 account of the reserves approximated, as nearly as could be de- 
 termined, the actual amounts which experience had demonstrated 
 would be necessary to discharge the liabilities incurred during 
 the year, for the payment of which additions to the reserves were 
 made. If it was found that the amount credited to any such re- 
 serve was in excess of the reasonable or probable needs for which 
 the reserve was created, the excess would be disallowed as a de- 
 duction and restored to income. In no event are sinking funds 
 or other reserves set up to meet additions, betterments or other 
 capital obligations allowed as deductions. Reserves to meet 
 losses contingent upon shrinkage in values, losses from bad debts, 
 losses from capital investments, etc., are not allowable as deduc- 
 tions, since such losses are only deductible when definitely de- 
 termined as a result of a closed or completed transaction and 
 actually charged off .^^ 
 
 The distinction between the kind of reserves deductible and 
 nondeductible under this ruling is difficult to define. As in the 
 case of other rulings discussed in this chapter, the attempt again 
 seems to be to draw a line between reserves to meet losses or 
 
 53 See S. 1335, T. B. 8-20-750. 
 
 s*! T. D. 2433. The treasury department has always held, in the case of 
 corporations, that it was immaterial whether deductions, except for taxes 
 and losses, were evidenced by actual disbursements in cash, or evidenced in 
 such other ways as to ~ properly acknowledged by the corporate oflBcers and 
 so entered on the bool- of the corporation as to constitute a liability against 
 the assets, except that taxes were deductible only when actually paid, and 
 not merely entered as a charge, and losses when actually sustained in the 
 year charged off. 
 
METHODS AND PERIODS OF ACCOUNTING 811 
 
 charges which may or may not eventually be payable at all, and 
 as to which the question of liability remains unsettled, and losses 
 or charges merely contingent or indefinite as to their amount.s^ 
 This is illustrated by a ruling in regard to amounts set aside by 
 canners of perishable fruit products against which to charge 
 losses due to climatic and other natural conditions producing 
 shortage of the raw products.^s The treasury department held 
 in this connection that in general the statute evidences a clear 
 intent to restrict within the narrowest limits deductions for ad- 
 ditions to reserves ' other than the reserves of insurance com- 
 panies required by law; that it is doubtful even whether a re- 
 serve against an incurred but unpaid liability can be recognized, 
 when the liability is at all indefinite ; but there can be little doubt 
 that a reserve against a future loss is unrecqgnized by the 
 statute, and no doubt at all that a reserve against fluctuations 
 in future profits has no standing of a kind which would warrant 
 the deduction of additions thereto in computing net income for 
 purposes of taxation.^^ In the light of this distinction it is inter- 
 esting to note the ruling of the treasury department that where 
 a reserve representing the estimated amount of claims which 
 will be paid on account of loss and damages to freight and in- 
 juries to persons is adjusted at the end of the year so that the 
 balance approximates as nearly as passible the amount of the 
 claims actually outstanding at the close of the year, such reserve 
 covers a contingent liability and is only deductible for the year 
 when the claims are put in judgment or paid.®" Amounts paid 
 on account of loss and damages to freight and injuries to passen- 
 gers may be regarded in one sense as "losses" and in another 
 
 57 This is a shadowy distinction'. Until the amount of a charge is deter- 
 mined, it is never an absolute liability. The analysis of details may reverse 
 the entry. 
 
 58 T. B. R. 13, T. B. 3-19-187. 
 
 59 See A. R. M. 136, T. B. 31-21-1754. 
 
 60 0. D. 879, T. B. 16-21-1578. Is the point of this ruling the fact that the 
 adjustment of the reserves at the close of the year left the reserve at an 
 amount which approximated the "claims" (as distinguished from the actual 
 liability) outstanding at the end of the year? If in fact the adjustment 
 placed the reserve at an amount which approximated the liability of the 
 company, according to extended experience, and not the amount of claims 
 outstanding a portion of which would never be paid, the ruling would seem 
 to neglect the fact that such claims may be reduced, upon a sort of actuarial 
 basis, to a close approximation to the amount of actual liability eventually 
 to be paid. In other words, some of the total number of claims outstanding 
 will never be paid ; the amounts of others will be reduced ; but it is possible, 
 where the claims are numerous, to compute the amount eventually payable 
 with comparative certainty. 
 
812 FEDERAL INCOME TAX 
 
 sense as more or less fixed "expenses." If regarded as losses, 
 they are not deductible until "sustained." Each loss is sustained 
 if regarded separately when put in judgment or paid.«i But the 
 losses, when regarded in bulk, may be said to be sustained to the 
 extent of a proportion of their total, based on previous experi- 
 ence, when the transaction or event upon which they are founded 
 occurs. Approved standard accounting methods which are in- 
 tended to control the reporting of income and deduction of 
 losses "52 certainly dictate the allocation of such losses and 
 charges to the year in which they originate. Where embezzle- 
 ment by a bonded employee occurs, the claim against the bonding 
 company is held the equivalent of cash and to the extent of such 
 claim there is no loss, even though recovery against the bonding 
 company is postponed until the following year. Recoverable in- 
 surance always reduces a loss, even though no collection thereon 
 is made until a subsequent year.^^ If the taxpayer in such cases 
 is considered to be in receipt of his insurance when his loss 
 occurs, even though the insurance is not paid until a later year, 
 it would appear that t|ie converse proposition must be true and 
 the insurance company must have suffered a loss in the year of 
 embezzlement and not the year when the insurance is paid. The 
 standing of a railroad or other company subject to claims for 
 losses and damages to freight and injuries to passengers is not 
 dissimilar in principle from the position of the insurance com- 
 pany. If the amounts of such loss and damages are regarded, on 
 the other hand, as "ordinary and necessary expenses", and owing 
 to their regularity and certainty there is much to be said for re- 
 garding them in this light, ^^ they may be said to be deductible 
 without reference to a strict construction of the word "sus- 
 tained", such as trading stamp reserves are now held deductible-^^ 
 Again, in the case of a taxpayer who sells automobiles on term 
 contracts in order to insure himself against losses through em- 
 
 61 The distinction is to be noted between the phrase "losses sustained 
 during the taxable year" (Revenue Act of 1918, §§ 214 (a) 4 and 234 (a) 
 4) and "losses actually sustained and charged off within the year" (Revenue 
 Act of 1916, § 12 (a) ). The former phrase opens the door to a more liberal 
 and reasonable interpretation of the word "sustained". 
 
 62 Reg. 45, Art. 23. 
 
 63 Sol. Op. 845, T. B. 6-19-279; T. B. M. 55, T. B. 18-19-482. 
 
 64 Brown v. City of Corry, 175 Pa. St. 528, 34 Atl. 854. The evidence 
 of such claims is inevitable; no railroad can be operated without the cer- 
 tain expectation that such claims must be met. 
 
 65 See Reg. 33 Rev., Art. 141, revised by Reg. 45, Art. 88. See also the 
 ruling in regard to reserves for cash discounts which is not entirely con- 
 sistent therewith in principle (0. D. 146, T. B. 4-19-228). 
 
METHODS AND PERIODS OF ACCOUNTING 813 
 
 bezzlement of the cars or confiscation thereof by the government 
 under the Volstead Act, has adopted a plan of carrying his own 
 insurance, by collecting premiums from the purchasers under the 
 leases or term contracts and placing the money received into a 
 reserve fund, against which all losses referred to are charged, it 
 has been held that if the taxpayer's books are kept on a cash 
 receipts basis, all amounts received from the so-called premiums 
 in any taxable year should be reported as income in the return of 
 the taxpayer for that year, or if his books are kept on the accrual 
 basis, then in the year in which such amounts accrue, the losses 
 sustained by the taxpayer being allowable deductions for the year 
 in which such losses are sustained.^" 
 
 These rulings illustrate the uncertainty surrounding the en- 
 tire subject of reserves to meet liabilities and the tentative state 
 of the regulations relating thereto. The subject is also affected 
 by the new provision of the Revenue Act of 1921 that losses may 
 be deducted in a period other than that in which sustained if 
 necessary in order clearly to reflect incomes.^'^ This provision is 
 obviously a delegation of power to the Commissioner which will 
 enable him to permit the deduction of losses and reserves there- 
 for, without the limitation imposed by the word "sustained." 
 
 Money Paid Under Mistake of Fact. It not infrequently 
 happens that events subsequent to an expenditure prove it to be 
 excessive or insufficient in amount. The parties act at the time 
 of payment under a mistake of fact. For instance, during the 
 years 1915, 1916, and 1917, a company paid customs duties on 
 foreign merchandise imported, on the basis of an exchange rate 
 in excess of the rate prevailing at the time of importation. Dur- 
 ing the year 1919 the company received a refund of the amount 
 so paid in excess of the amount due, and the question was raised 
 as to whether the amount of the refund was properly reported as 
 income for 1919. It was held that the excess duties for which a 
 refund was received had been erroneously deducted in computing 
 net income for the years 1915, 1916, and 1917, respectively, and 
 did not represent income for the year 1919. Accordingly amended 
 returns for the respective years should be filed.^ 
 
 Subsequently Discovered Charges. It has been held that 
 liabilities discovered subsequently to the close of a taxable period 
 may not be deducted for such taxable period even though they 
 clearly relate thereto. Thus, an additional surtax imposed by the 
 
 66 0. D. 1106, T. B. 47-21-1929. 
 
 67 See Revenue Act of 1921, §§ 214 (a) 6, 234 (a) 4. 
 
 68 0. D. 741, T. B. 49-20-1332. 
 
814 
 
 FEDERAL INCOME TAX 
 
 laws of Wisconsin retroactively for the year 1920 has been held 
 not to be deductible under the federa,l law for the calendar year 
 1920, because such surtax was not a known liability when the 
 books of the taxpayers liable to such tax were closed for 1920. 
 Such surtax was held deductible in the year in which paid or in 
 which accrued, if the books of the taxpayers were kept on an 
 accrual basis.^s 
 
 Allocation of Deductions to More Than One Year. De- 
 ductions may under certain conditions be ratably distributed over 
 more than one year by a taxpayer keeping accounts on the ac- 
 crual basis. In the case of a partnership keeping its books on the 
 accrual basis which was. required to pay an injured employee a 
 sum in weekly installments extending over several years it was 
 held that the entire sum payable is not such an item as may be 
 properly accrued in its entirety upon the books of the partner- 
 ship at the time the award was rendered for the purpose of 
 claiming a deduction in computing net income. Only the install- 
 ments actually accrued by time elapsed whether paid or unpaid as 
 at the end of the taxable year, are properly deductible in com- 
 puting net income for that year.™ Again, the entire amount of 
 a reserve, set aside under the Ohio Workmen's Compensation 
 Law, which provides for the payment of compensation in weekly 
 installments but which also provides for the making of an award 
 covering total liability in death and permanent disability cases, 
 would be allocated to the years in which actually paid and may 
 not be deducted in its entirety in the year in which determined.'^^ 
 A sum paid in 1920 by a lessee for the privilege of securing a 
 lease to be effective in 1922 is a proper charge against the busi- 
 ness of the taxpayer for the period between the payment thereof 
 and the effective date of the lease, and should be apportioned over 
 that period.'^^ An amount paid by a baseball club to another 
 baseball club as the purchase price of a contract between such 
 club and a player covering the services of the player for a period 
 of more than one year is deductible from gross income during 
 the life of the contract, a proportionate part of the price paid 
 being deductible each year.'^^ where the amount recoverable or 
 
 69 0. D. 1118, T. B. 48-21-1949. This ruling seems contrary to the well 
 established principle that statutory deductions being expenditures connected 
 with the production of income should be reported so far as possible in the 
 same period with the income with which they are connected. See p. 807. 
 See also footnote 33. ' 
 
 70 O. D. 686, T. B. 42-20-1243. 
 
 71 O. D. 992, T. B. 33-21-1768. 
 
 72 O. D. 1013, T. B. 35-21-1793. 
 
 73 O. D. 836, T. B. 10-21-1494. 
 
METHODS AND PERIODS OP ACCOUNTING 815 
 
 payable under a contract may not be accurately estimated in ad- 
 vance, however, and may vary in amount in the several years of 
 performance of the contract, such amount may not be amortized 
 over the life of the contract.'^* 
 
 Losses. The allocation of losses to the proper taxable period 
 is discussed in another chapter.''^ 
 
 Changing Basis for Computation of Net Income. If a taxpayer 
 should change the method of accounting employed in keeping his 
 books for the taxable year 1919 or thereafter, he must before 
 computing his income upon such new basis for purposes of taxa- 
 tion secure the consent of the Commissioner. Application for 
 permission to change the basis of the return must be made at 
 least thirty days in advance of the date of filing return and must 
 be accompanied by statement specifying the class of items dif- 
 ferently treated under the two systems and specifying all 
 amounts which would be duplicated or entirely omitted as a result 
 of the proposed change.™ 
 
 Doctrine of Election. Where the taxpayer has the choice of 
 using two or more methods of accounting, each of such methods 
 being permissible as an approved accounting practice, and adopts 
 one of these methods, he is held to have exercised his option and 
 he niay not change his method, particularly where it may have a 
 material effect on his income for the year and distort his income 
 as between different years. Thus, a wholesale liquor dealer who, 
 for*years prior to 1918, exercised the option of including excise 
 taxes in cost of merchandise in calculating inventory, may not 
 amend such inventory and treat such taxes as business expenses 
 for 1918." 
 
 Accounting Period: Fiscal Year. The return of a taxpayer is 
 made and his income computed for his taxable year as a time unit, 
 which means his fiscal year, or the calendar year if he has not 
 established a fiscal year.'^s The term fiscal year means an ac- 
 counting period of twelve months ending on the last day of any 
 month other than DecemberJ^ No fiscal year will, however, be 
 
 74 0. D. 971, T. B. 28-21-1723. 
 
 75 See Chapter 25. See paragraph above "Reserves to meet liabilities" 
 7.6 Revenue Act of 1921, §212; Revenue Act of 1918, §212; Reg. 45, Art. 
 
 23, as amended by T. D. 2873; O. D. 1113, T. B. 48-21-1921. 
 
 77 A. R. M. 121, T. B. 16-21-1574. This doctrine of election applies also 
 in regard, to periods of accounting. See p. 818. It is applied in regard 
 to the excess-profits tax (See Reg. 45, Art. 843). 
 
 78 Reg. 45, Art. 25. The taxable year 1921 is the calendar year 1921 
 or any fiscal year ending during the calendar year 1921. 
 
 79 Revenue Act of 1921,, § 200; Revenue Act of 1918, § 200. A return re- 
 ceived for a period ending on any date other than the last day of some 
 
816 
 
 FEDERAL INCOME TAX 
 
 recognized unless before its close it was definitely established as 
 an accounting period by the taxpayer and the books of such tax- 
 payer were kept in accordance therewith.so A taxpayer having 
 an existing accounting period which is a fiscal year within the 
 meaning of the statute not only needs no permission to make his 
 return on the basis of such a taxable year, but is required to do 
 so, regardless of the former basis of rendering returns. A person 
 having no such fiscal year must make return on the basis of the 
 calendar year. Except in the cases of a return for the taxable 
 year 1918 and of a first return for income tax, a taxpayer makes, 
 his return on the basis (fiscal or calendar year) upon which he 
 made his return for the taxable year immediately preceding 
 unless, with the approval of the Commissioner, he has changed 
 the basis of computing his net income.s^ The taxable year of a 
 taxpayer is either a fiscal year or the calendar year, and all his 
 income must be reported upon the basis of the taxable year. 
 Unless an individual maintains personal books of account in 
 which his income from business and all other sources is reflected 
 on the basis of a fiscal year, he does not have a fiscal year which 
 can be recognized as the basis upon which his returns may be 
 made.82 Where a corporation's by-laws are silent as to its fiscal 
 year and it has for a number of years closed its books twice each 
 year, once on December 31, but has not "ruled down" its books 
 on that date as on August 31, returns filed on the basis of the 
 calendar year have been held proper as a binding exercise of ^fin 
 option when they correctly reflect income, even though the col- 
 lections of the corporation were substantially confined to the 
 period extending from September to December and at the August 
 closing of the books every customer carried by the corporation 
 was mailed an itemized statement of every transaction during 
 the preceding twelve months and this date was used by the cor- 
 poration as one of the dates for the closing of its books, the 
 reason being that the work of getting out statements, etc., was 
 long and tedious and could best be handled during the summer 
 
 month will not be accepted, unless it is a "final return". (Mimeograph 
 letter to collectors. No. 1148.) 
 
 80 Reg. 45, Art. 25. 
 
 81 Reg. 45, Art. 25; A. R. R. 391, T. B. 8-21-1458. A. R. R. 342, T. B. 
 50-20-1340. For the rule governing the computation of tax in the case 
 of a taxpayer with a fiscal year beginning in 1918 and ending in 1919 
 see Reg. 45, Art. 1625; and in the case of a taxpayer with a fiscal year 
 beginning in 1917 and ending in 1918 see Reg. 45, Art. 1621-4, and 0. D. 
 71, T. B. 1-19-100. 
 
 82 O. D. 941, T. B. 23-21-1673. 
 
METHODS AND PERIODS OF ACCOUNTING 817 
 
 months, when the corporation had disposed of its product and 
 the office force was least busy.^^ 
 
 First Returns. The law makes no provision for seeking the 
 consent of the Commissioner to the recognition of a fiscal year, 
 unless the taxpayer had previously filed returns on a calendar 
 year basis; but implies rather that such fiscal period must be 
 used. The Revenue Act of 1918 provided^* that "if a taxpayer 
 making his first return for income tax keeps his accounts on the 
 basis of a fiscal year he shall make a separate return for the 
 period between the beginning of the calendar year in which such 
 fiscal year ends and the end of such fiscal year.''^^ The first re- 
 turn under the Revenue Act of 1918 of a taxpayer who thereto- 
 fore made returns on a basis different from his accounting period 
 would necessarily overlap his next previous return. The first 
 taxable year of a corporation organized in 1918 which established 
 a recognized fiscal year not ending in 1918 after its organization 
 was its fiscal year ending in 1919.86 A newly organized corpora- 
 tion might file its return on a fiscal year basis without applying 
 for permission to do so, provided such basis was definitely estab- 
 lished and the books kept in accordance therewith prior to the 
 close of the first fiscal year.^'^ 
 
 Change in Accounting Period. If a taxpayer changes his 
 accounting period, and not merely his taxable year to conform 
 with his existing accounting period, he must as soon as possible 
 give to the collector for transmission to the Commissioner writ- 
 ten notice of such change and of his reasons therefor. The Com- 
 missioner will not approve a change of the basis of computing net 
 income unless such notice is given at a time which is both (a) at 
 least thirty days before the due date of the taxpayer's return on 
 the basis of his existing taxable year and (b) at least thirty days 
 before the due date of his separate return for the period between 
 the close of the existing taxable year and the date designated as 
 the close of the proposed taxable year. If the change in the basis 
 of computing the net income of the taxpayer is approved by the 
 Commissioner, the taxpayer will thereafter make his returns 
 upon the basis of the new accounting period in accordance with 
 
 83 a. R. R. 501, T. B. 21-21-1646. 
 
 84 This provision is not contained in the Revenue Act of 1921. It was 
 an unnecessary provision. 
 
 85 Revenue Act of 1918, §§ 226 and 232; Reg. 45, Art. 25. The method 
 of adjusting the tax in such case is discussed in Reg. 45, Arts. 1621-4. 
 §205 of the Statute is applicable; §226 has no application. 
 
 86 S. 930, T. B. 1-19-3. 
 
 87 0. D. 404, T. B. 8-20-740. 
 
818 FEDERAL INCOME TAX 
 
 the requirements of the statute discussed elsewhere.**^ A com- 
 pany which earned a large income during the fiscal year ended 
 September 30, 1918, and suffered a net loss during the year 
 ended September 30, 1919, will not be permitted to change its 
 accounting period for 1918 to the calendar year basis so as to be 
 allowed to deduct the net loss from 1918 income. The accounting 
 period for which the tax liability had accrued and the method of 
 accounting during that period were accomplished facts which 
 could not thereafter be changed by the Commissioner.^s a tax- 
 payer having made a return upon the basis of the business year 
 best adapted to reflect his true income should not be permitted 
 to depart from that return year.^" Permission will not be granted 
 to an employee of a partnership (not a partner) receiving part of 
 his salary in the form of a share in the profits of the partner- 
 ship to make his returns upon the basis of the fiscal year of the 
 partnership.^! Whei"e a taxpayer has been permitted to change 
 his accounting period from the calendar to a fiscal year and 
 renders a return for the period from January 1 to the end of 
 such fiscal year, both the normal tax and the surtax will be com- 
 puted as though the return were filed for a full twelve-month 
 period after the reduction of the exemptions and credits.^^ Ap- 
 plications for a change in accounting period must be made by the 
 taxpayer or his duly authorized attorney or agent.^^ 
 
 Fiscal Years 1920-1921 and 1921-1922, The provisions of the 
 Revenue Act of 1918 and the Revenue Act of 1921 with regard 
 to fiscal years are substantially the same."* The regulations 
 issued under such corresponding provision of the 1918 Law were 
 complicated by the fact that individuals were not permitted to 
 make their 1917 returns on a fiscal year basis. Under the 1921 
 Law it is to be noted that in calculating tax for a portion of a 
 fiscal year falling within 1921, the Revenue Act of 1921 as in 
 force on December 31, 1921, is to be regarded ; in calculating the 
 tax for a portion of a fiscal year falling within 1922, the Revenue 
 
 88 Reg. 45, Art. 26, as amended by T. D. 3032, T. B. 26-20-1026; Sol. Op. 
 5, T. B. 24-20-996. "Due date" means original due date, not the date 
 to which an extension is granted. (0. D. 205, T. B. 10-19-355.) 
 
 89 T. D. 3044, T. B. 30-20-1087; see also A. R. R. 391, T. B. 8-21-1458; 
 A. R. R. 342, T. B. 50-20-1340. 
 
 »0 T. B. R. 37, T. B. 11-19-370. 
 
 91 0. D. 696, T. B. 43-20-1257. 
 
 92 0. D. 723, T. B. 45-20-1296. 
 
 93 M. 2738, T. B. 14-21-1541. 
 
 Oi Cf. Revenue Act of 1921, § 205; Revenue Act of 1918, § 205. Changes 
 are made necessary, of course, in the case of personal service corporations 
 by the abolition of that class of corporation as of December 31, 1921. 
 
METHODS AND PERIODS OF ACCOUNTING 819 
 
 Act of 1921 as in effect on January 1, 1922, is to be regarded. 
 The Revenue Act of 1916, as amended, and the Revenue Act of 
 
 1917, were different laws from the Revenue Act of 1918 and con- 
 tained different provisions for 1917 and 1918 respecting gross 
 income and deductions and credits, as well as rates ; the Revenue 
 Act of 1918 is a different law from the Revenue Act of 1921, 
 and contains different provisions respecting gross income and 
 deductions and credits, but the rates are the same for 1920 and 
 1921. On the other hand, the provisions respecting gross in- 
 come and deductions and credits were the same in the Revenue 
 Act of 1918 for 1918 and 1919, though the rates imposed for the 
 two years were different; in the Revenue Act of 1921 the pro- 
 visions respecting gross income and deductions and credits are 
 in general the same for 1921 and 1922, but the rates imposed for 
 the two years are different. Special complications will arise 
 under the present law in the case of insurance companies with 
 fiscal years other than the calendar year. The regulations issued 
 under the 1918 Law are given in the following, paragraphs ; in 
 general they should be followed under the present law. How- 
 ever, the rule in the case of an individual's fiscal year ending in 
 1921 will correspond to the regulation issued under the 1918 Law 
 in the case of a corporation with a fiscal year ending in 1918. 
 
 Fiscal Year of Corporation Ending in 1918. The method 
 provided for computing the tax for a fiscal year beginning in 1917 
 and ending in 1918 is as follows: (a) The tax attributable to 
 the calendar year 1917 is found by computing the income of the 
 taxpayer and the tax thereon in accordance with Title I of the 
 Revenue Act of 1916, as amended, and Title I of the Revenue 
 Act of 1917, as if the fiscal year was the calendar year 1917, and 
 determining the proportion of such tax which the proportion of 
 the fiscal year falling within the calendar year 1917 is of the full 
 fiscal year; (b) the tax attributable to the calendar year 1918 is 
 found by computing the income of the taxpayer and the tax 
 thereon in accordance with the present statute, as if the fiscal 
 year was the calendar year 1918, and determining the proportion 
 of such tax which the portion of such fiscal year falling within 
 the calendar year is of the full fiscal year; and (c) the tax for 
 the fiscal year is found by adding the tax attributable to the 
 calendar year 1917 and the tax attributable to the calendar year 
 
 1918. If a corporation made its return for the taxable year 1917 
 on the calendar year basis and for the taxable year 1918 on a 
 fiscal year basis, the tax attributable to the calendar year 1917 
 need not again be computed and the tax attributable to the 
 
820 FEDERAL INCOME TAX 
 
 calendar year 1918 as above computed will be the tax of the cor- 
 poration for the portion of such fiscal year falling within the 
 calendar year 1918. A personal service corporation is not re- 
 quired to pay the tax attributable to the calendar year 1918, 
 since for that year it is treated substantially like a partnership 
 for the purposes of taxation.^^ 
 
 Deductions and Credits in the Case of Corporation Fiscal 
 Year Ending in 1918. Net losses deductible from net income 
 of the fiscal year under the Revenue Act of 1918 may be deducted 
 in computing the tax attributable to the calendar year 1917, as 
 well as in computing the tax attributable to the calendar year 
 1918. In computing the tax attributable to the calendar year 1917 
 the net income computed for the entire period under Title I of the 
 Revenue Act of 1916, as amended, and Title I of the Revenue 
 Act of 1917, may be credited with the excess-profits tax com- 
 puted for the entire period under Title II of the Revenue Act of 
 1917. In computing the tax attributable to the calendar year 
 1918 the net income computed for the entire period under 
 the present statute may be credited with the war-profits and 
 excess-profits tax computed for the entire period under Title III 
 of the Revenue Act of 1918 at the rates prescribed for 1918. 
 Amounts previously paid by the taxpayer on account of the in- 
 come tax for such fiscal year may be credited towards the pay- 
 ment of the income tax imposed for such fiscal year by the 
 Revenue Act of 1918. Any excess will be credited or refunded 
 to the taxpayer.^8 
 
 Fiscal Year of Individual Ending in 1918. Since under 
 the law applicable to the calendar year 1917 individuals were not 
 permitted to make returns on the fiscal year basis, the tax of an 
 individual for that part of a fiscal year ending in 1918 attributable 
 to the calendar year 1917 has already been included in the tax 
 for such calendar year and need not ordinarily again be com- 
 puted. The tax for that part of the year attributable to the 
 calendar year 1918 is found by computing the income of the tax- 
 payer for the taxable year and the tax thereon in accordance with 
 the Revenue Act of 1918 as if the taxable year was the calendar 
 year 1918, and determining the proportion of such tax which the 
 portion of such fiscal year falling within the calendar year is of 
 the full fiscal year.^^ 
 
 95 Reg. 45, Art. 1622. 
 
 96 Reg. 45, Art. 1623. 
 
 97 Reg. 45, Art. 1624. 
 
methods and periods of accounting 821 
 
 Fiscal Year op Corporation or Individual Ending in 1919. 
 The method provided for computing the tax for a fiscal year be- 
 ginning in 1918 and ending in 1919 is as follows : (a) The tax 
 attributable to the calendar year 1918 is found by computing the 
 income of the taxpayer and the tax thereon in accordance with 
 the Revenue Act of 1918 as if the fiscal year was the calendar 
 year 1918, and determining the proportion of such tax'which the 
 portion of such fiscal year falling within the calendar year is of 
 the full fiscal year ; (b) the tax attributable to the calendar year 
 1919 is found by computing the income of the taxpayer and the 
 tax thereon in accordance with the Revenue Act of 1918 as if the 
 fiscal year was the calendar year 1919, and determining the pro- 
 portion of such tax which the portion of such fiscal year falling 
 within the calendar year is of the full fiscal year; and (c) the 
 tax for the fiscal year is found by adding the tax attributable to 
 the calendar year 1918 and the tax attributable to the calendar 
 year 1919.98 
 
 Personal Service Corporations. It is expressly provided 
 by the present law that the amount of tax to be paid by personal 
 service corporations with fiscal years ending in 1922 shall be lim- 
 ited to a tax for that part of such fiscal years falling within the 
 calendar year 1922, This provision is rendered necessary by the 
 fact that personal service corporations were not taxable as such 
 between January 1, 1918, and December 31, 1921.99 
 
 98 Reg. 45, Art. 1625. 
 
 99 Revenue Act of 1921, § 205 (b) . 
 
CHAPTER 34 
 RETURNS OF INCOME 
 
 For the purpose of assessing the tax, a return of income is 
 required, showing specifically the items of gross income and the 
 deductions and credits allowed by law. This chapter deals with 
 the general provisions relating to returns of income, and does 
 not cover the annual or special returns required with respect to 
 withholding at the source, information at the source or other 
 matters. For a discussion of such returns attention is directed 
 to chapters on the respective subjects. 
 
 By Whom Filed. The 1921 Law, like the Revenue Act of 1918, 
 requires a return of income to be filed by every individual having 
 a net income for the taxable year of $1,000 or over, if single or 
 if married and not living with husband or wife, or of $2,000 or 
 over, if married and living with husband or wife.^ In addition, 
 the present law requires that a return shall be filed by every 
 individual having a gross income for the taxable year of $5,000 
 or over, regardless of the amount of his net income.^ A return 
 is required of every fiduciary ^ (with the exception of receivers 
 appointed by authority of law in possession of part only of the 
 property of an individual) or at least one of the joint fiduciaries 
 for the individual, estate or trust for which he acts (1) if the 
 net income of such individual is $1,000 or $2,000 or the gross 
 income is $5,000 * as indicated above or (2) if the net income 
 of such estate or trust is $1,000 or over or if any beneficiary 
 of such estate or trust is a nonresident alien.^ Minors are ex- 
 pressly required to make returns. The return of an incompetent 
 must be filed for him by his committee. A return is required 
 from every partnership and from every corporation and personal 
 service corporation subject to the tax regardless of whether or 
 not they have been in receipt of any income during the taxable 
 year.fi 
 
 1 Revenue Act of 1921, §223; Revenue Act of 1918, § 223. 
 
 2 Revenue Act of 1921, § (a) 3. 
 
 3 See Chapter 6 for a definition of the term "fiduciary" 
 
 4 The provision as to returns when the gross income is $5,000 was not 
 contained in the 1918 Law. 
 
 5 Revenue Act of 1921, §225. See Revenue Act of 1918, §225; Reg. 45 
 Art. 421. 
 
 6 Revenue Act of 1921, §§224 and 239; Revenue Act of 1918, §§224 
 and 239. 
 
 822 
 
RETURNS OP INCOME 823 
 
 Individual Returns. Every individual whose net income as 
 defined in the statute is $1,000 or over for the taxable year must 
 make a return of income unless married and living with husband 
 or wife, in which case a return must be made if the net income 
 is over $2,000. Every individual with a gross income for the 
 taxable year of $5,000 or over, must make a return, regardless 
 of the amount of his net income. Individuals having less than 
 the above amounts of income may be required to make returns 
 or statements sufficient to satisfy the Commissioner that they 
 are not liable to tax.'' The return must be for the taxable year, 
 whether calendar or fiscal. Whether or not an individual is the 
 head of a family or has dependents is immaterial in determining 
 his liability to render a return.^ Under the 1918 Law, the in- 
 dividual return was made on Form 1040 (revised) , except that 
 it might be on Short Form 1040a (revised) where the net in- 
 come did not exceed $5,000 and the net income subject to the nor- 
 mal tax, that is, after applying the personal exemption and other 
 credits, did not exceed $4,000. The forms are provided by the 
 Commissioner and may be had from the collectors "of the several 
 districts. 
 
 Husband and Wife. A husband and wife living together 
 may make a single joint return, in which case the tax will be 
 computed on the aggregate income.^ If a husband and wife, liv- 
 ing together, have separate estates, the income from both may 
 be reported in one return, but under the 1918 Law the amount 
 of income of each, and the full name and address of both, was 
 required to be shown in such return. Ordinarily, the hus- 
 band, as the head and legal representative of the household, and 
 general custodian of its income, should make the return of the 
 aggregate income of himself and his wife. Unless the wife files 
 a separate return of income or joins with her husband in a re- 
 turn which sets forth her income separately, her husband should 
 include in his return the income accruing to the wife from 
 services rendered by her or the sale of products of her labor. 
 If, however, the wife does not disclose her income to the husband, 
 each may make a return, in which case the personal exemption 
 may be divided between the two in such proportions as they 
 agree upon. If a husband and wife living together have qn 
 aggregate net income of $2,000 or over, or an aggregate gross 
 
 •(Revenue Act of 1921, §1307; Revenue Act of 1918, §1305. 
 
 8 Revenue Act of 1921, § 223 ; Revenue Act of 1918, § 223 ; Reg. 45, Art. 
 401. 
 
 9 Revenue Act of 1921, §222 (b). 
 
824 FEDERAL INCOME TAX 
 
 income of $5,000 or over, a return or returns are required.^" 
 If either husband or wife separately had an income equal to or in 
 excess of $2,000 a return was required under the 1918 Law. If 
 the aggregate income of both was $2,000 or more, the treasury 
 department required a return, although neither might have an 
 income of $2,000.1^^ The treasury department has ruled that a 
 husband and wife living together may, at their option, file 
 separate returns of income or a single joint return. If husband 
 and wife living together file a single joint return of income, 
 such return is treated as the return of a taxable unit and the 
 income disclosed by the return is subject to both normal and 
 surtax as though the return were that of a single individual. 
 If a husband or wife has allowable deductions for any taxable 
 year in excess of his or her gross income for such year, such ex- 
 cess may, if the husband and wife are living together and a 
 single joint return of income is filed, be deducted from the net 
 income of the other spouse for the purpose of computing both 
 the normal and surtax.^^ It was held under the 1918 Law that 
 when the net Income of one spouse was in excess of $2,000 but 
 the other had allowable deductions which if applied against this 
 net income would result in making the figure representing the 
 aggregate net income of both less than $2,000, no return need be 
 filed.15 A net loss of one spouse may be deducted from the in- 
 come of the other." Where husband and wife clearly indicate 
 on a single return the net income of each, such a return does 
 not necessarily constitute a joint return. It is a matter of intent. 
 Having separated their respective incomes, in the absence of a 
 showing to the contrary, the presumption is that they intended 
 to file separate returns of income, but that for convenience they 
 have used one form. In such case both the normal and surtax 
 should be computed on the separate income of each. This pre- 
 sumption is, however, overcome if the tax has been computed by 
 the taxpayer on the combined net income, in which case, even 
 though their incomes have been separated and can be identified, 
 the return is held to be a joint return and both the normal and 
 surtax will be assessed on the basis of combined net income.^^ 
 A husband and wife may elect to file a joint return one year and 
 separate returns the next, regardless of whether such election re- 
 
 10 Revenue Act of 1921, §222 (b). 
 
 11 Reg. 45, Arts. 401, 305. See Revenue Act of 1921, §216 (c). 
 
 12 Sol. Op. 90, T. B. 7-21-1452. 
 
 13 O. D. 1005, T. B. 34-21-1784. 
 
 1* Letter from treasury department dated February 3, 1921; I. T. S. 
 1921, If 2720. 
 
 15 0. D. 960, f. B. 26-21-1708. 
 
RETURNS OF INCOME 825 
 
 suits in a benefit to them or a benefit to the government.^^ ' Where 
 husband and wife have filed separate returns in the past they 
 are not precluded from filing amended joint returns, but any 
 claim for refund or credit arising therefrom must be filed within 
 the period of limitation prescribed by statute.!'^ Where a hus- 
 band and wife file separate returns of income, one of them be- 
 ing filed in time and the other delinquent, such returns are not 
 supplemental of each other and delinquency must be answered for 
 by the one in connection with whose return it occurred.^^ 
 
 Minors. An individual under twenty-one years of age, or 
 under the statutory age of majority where he lives, whatever it 
 may be, is required to render a return of income if he has a 
 net income of his own of $1,000 or over or a gross income of 
 $5,000 or over for the taxable year. If a minor has been eman- 
 cipated by his parent, his earnings are his own income, and such 
 earnings, regardless of amount, are not required to be included 
 in the return of the parent. If the .aggregate of the net income of 
 a minor from any property which he possesses, and from any 
 funds held in trust for him by a trustee or guardian, and from 
 his earnings in case he has been emancipated, is at least $1,000, 
 or his gross income is $5,000, a return as in the case of any other 
 individual must be made by him, or by his guardian, or some 
 other person charged with the care of his person or property for 
 him. If, however, a minor has not been emancipated by his 
 parent, who appropriates or may appropriate his earnings, 
 such earnings, regardless of amount, are income of the parent 
 and not of the minor for the purpose of the normal tax and 
 surtax. In the absence of proof to the contrary, a parent will 
 be assumed not to have emancipated his minor child and must 
 include in his return any earnings of the minor.^^ Where a 
 
 16 0. D. 968, T. B. 27-21-1715. 
 
 17 0. D. 880, T. B. 16-21-1580. 
 
 18 Reg. 33 Rev., Art. 26^ 
 
 19 Reg. 45, Arts. 403, 422 as amended by T. D. 3110, T. B. 2-21-1390. 
 
 At common law, the age at which an infant male or female reaches full 
 majority is twenty-one years. This rule is still almost universal by statute 
 in the case of males but in Arkansas, California, Colorado, Idaho, Illinois, 
 Iowa, Kansas, Maryland, Minnesota, Missouri, Nebraska, Nevada, North 
 Dakota, Ohio, Oregon, South Dakota, Vermont and Washington the age of 
 majority as to females, at least for some purposes, has been fixed at eighteen 
 years. Married infants, male or female, are considered adults, whatever 
 their age, in Iowa, Texas and Louisiana. Married female infants are 
 considered adults, whatever their age, in Maryland, Oregon and Texas, 
 and in Alabama if over eighteen and Nebraska if over sixteen years of age. 
 A married female infant is considered an adult in Washington, whatever 
 her age, provided her husband has attained his legal majority. Eman- 
 
826 FEDERAL INCOME TAX 
 
 married man has two sons aged 17 and 20, each earning over 
 $1,000 per year and both wholly dependent upon their father 
 who appropriates their entire earnings, merely giving them 
 spending money and carfare to take them to and from their 
 work, it has been held that inasmuch as both are minors and 
 have not been emancipated, the entire amount of their earnings, 
 together with his own income, should be reported in the father's 
 return.2o Where a father has made a bona fide and absolute 
 gift of property to his minor child, the income therefrom need 
 not be included in the father's return of gross income even 
 though the father administers the property and collects the in- 
 
 cipation is not an exact term. (Dunks v. Grey, 3 Fed. 862, 865.) It is 
 to be determined upon the peculiar facts and circumstances of each case 
 and is never presumed (Brosius v. Barker, 154 Mo. App. 657; 136 S. W. 
 19). Emancipation is the relinquishment by the parent of control and 
 authority over his child, conferring on the child the right to his earnings 
 and extinguishing the parents' legal duty of support. (Rounds Bros. v. 
 McDaniel, 133 Ky. 669; 118 S. W," 956, 958.) Emancipation may be com- 
 plete or incomplete. Complete emancipation is an entire surrender of all 
 the rights to the care, custody and earnings of the child, as well as a 
 renunciation of parental duties, and the test to be applied is the preser- 
 vation or destruction of the parental and filial relationship. (Brosius v. 
 Barker, Supra.) Emancipation may also be express or implied: It is 
 express vi^hen the parent voluntarily agrees with the child, who is able 
 to take care of and provide for himself, that he may go from home, earn 
 his own living, and control his earnings, or when the father voluntarily 
 transfers the custody and keeping of the phild to another. An express 
 emancipation cannot be renounced by the parent. An implied emancipation 
 results where the parent by his acts or conduct, impliedly consents that 
 the minor may leave home and shift for himself; the father, under these 
 circumstances, however, being authorized to renounce the same within 
 a reasonable time. (Rounds Bros. v. McDaniel, Supra.) Living separately 
 from the family does not necessarily establish a child's emancipation. 
 (Sherburne v. Hartland, 37 Vt. 528.) The better rule is that an infant 
 husband is entitled to his own wages so far as they are necessary to the 
 support of his wife and children, even though he married without the 
 consent of his father. (Commonwealth v. Graham, 157 Mass. 73; See also: 
 Bristor v. Chicago & N. W. Ry. Co., 128 Iowa, 479, 104 N. W. 487; Alex- 
 andria V. Bethlehem, 16 N. J. L. 119; In re. Dunavant, 96 Fed. 542.) 
 Although under the common law a father is entitled to the services of his 
 unemancipated minor children (The Hattie Law, 14 Fed. 880) and to 
 money paid them for such services by others (Allen v. Allen, 60 Mich. 
 635, 27 N. W. 702), he is not entitled to his children's income from sep- 
 arate estates (Wheeler v. St. Joseph, 31 Kans. 640, 3 Pac. 297; Hillebrant 
 v. Brewer, 6 Tex. 45; Grangiac v. Arden, 10 Johns. (N. Y.) 293; Boobier 
 V. Boobier, 39 Maine 406; Mears v. Bickford, 55 Maine 528). When a 
 father receives income from his children's separate estates he must account 
 therefor as a trustee. See Darlington v. Turner, 202 U. S. 195. 
 20 O. D. 797, T. B. 6-21-1436. 
 
RETURNS OP INCOME 827 
 
 come for the child. In such a transaction there is no presump- 
 tion that the gift is or is not bona fide, but the burden will be 
 upon the father in each case to show that it is an absolute gift 
 to the child.2i 
 
 Incompetents. A fiduciary acting as the committee of an in- 
 sane person having an income .of $1,000 or $2,000, according to 
 the marital status of such person, or a gross income' of $5,000, 
 must make a return for such incompetent (under the 1918 Law 
 on Form 1040 (revised) or 1040A (revised), according to the 
 amount of net income) , and pay the tax.22 
 
 Agents. The law provides that if a taxpayer is unable to 
 make his own return, the return shall be made by a duly 
 authorized agent, or by the guardian or other person charged 
 with the care of the person or property of such taxpayer.^* 
 If the return is made by the agent, the reason therefor must 
 be stated.2* If the return is made by an agent, when by reason 
 of illness, absence or nonresidence the person liable for the re- 
 turn is unable to make it, the agent assumes the responsibility 
 for making the return and incurs liability to the specific penal- 
 'ties provided for erroneous, false or fraudulent retums.^^ There 
 may be a fiduciary relationship between an agent and the prin- 
 cipal, but the word "agent" does not denote a "fiduciary" for 
 purposes of the income tax.^^ Unless otherwise proyided, there- 
 fore, the principal and not the agent is Subject to the liability 
 under the law.^'^ Notice of failure to make return may be served 
 upon an agent. Upon such notice the agent will be permitted to 
 file evidence with the collector showing that the individual for 
 whom he acts did not receive taxable income during the year, 
 or that the agent filed the return with some other collector, as 
 provided by law.^^ 
 
 Corporation, Fiduciary and Partnership Returns. The subject 
 of returns by corporations, including new provisions regarding 
 consolidated returns by affiliated corporations and the subject of 
 returns by partnerships and fiduciaries, are discussed in previous 
 chapters.29 
 
 21 Sol. Op. 14, T. B. 31-20-1100. 
 
 22 Reg. 45, Art. 422. 
 
 23 Revenue Act of 1921, § 223 ; Revenue Act of 1918, § 223. 
 
 24 See Form 1040 (used under the 1918 Law). 
 
 25 Reg. 45, Art. 402. 
 
 26 Reg. 33 Rev., Art. 29. 
 
 27 T. D. 2137. 
 
 28 Reg. 33, Art. 18. 
 
 29 See Chapters 10, 8 and 6. 
 
828 FEDERAL INCOME TAX 
 
 Where Returns Are Filed. Returns of income must be deliv- 
 ered or mailed to the collector for the district of the legal resi- 
 dence or principal place of business of the person making the 
 return. Persons having no domicile or place of business in the 
 United States, and persons in the military or naval service of the 
 United States, may file their returns of income with the collector 
 at Baltimore.30 Although the law permits the return to be filed 
 in either one of the two districts indicated above, the treasury 
 department desires, for administrative purposes, that the re- 
 turn be filed in the district in which the individual resides.^^ 
 
 When Filed. Except in the case of nonresident aliens and for- 
 eign corporations, returns of income must be made on or before 
 the fifteenth day of March following the taxable year, except 
 that returns on the basis of a fiscal year other than the calendar 
 year must be made on or before the fifteenth day of the third 
 month following the close of the fiscal year. In the case of non- 
 resident aliens and foreign corporations, returns of income are 
 made on or before the fifteenth day of June in the case of a 
 calendar year or on or before the fifteenth day of the sixth 
 month following the close of the fiscal year if the taxpayer re- 
 ports on a fiscal year basis.^^ Under the 1918 Law all returns 
 of income were made on or before the fifteenth day of the 
 third month following the close of the taxpayer's taxable year.^^ 
 The dates above indicated will be the primary due dates for all re- 
 turns of income. Unless an extension of time is obtained, the 
 taxpayer will be held delinquent if his return is not filed on or 
 before the primary date and will be subject to the 25% additional 
 tax and the penalties provided by the law.^* The rule in regard 
 to the time for filing returns upon the death of a taxpayer or the 
 termination of a trust is set forth elsewhere.^^ 
 
 30 Revenue Act of 1921, §227; Revenue Act of 1918, §227; Reg. 45, 
 Art. 448. 
 
 31 Letter from treasury department dated December 17, 1914; I. T. S. 
 1918, TI596. The treasury department recognizes that the individual has 
 the right to choose one of tvro districts, where he resides in one and does 
 business in another, and the filing in either district will be a proper com- 
 pliance with the law. For the year 1913 the treasury department re- 
 quested the filing of returns in the district in which the individual's prin- 
 cipal place of business was located. This threw an undue burden on the 
 collectors in large cities and the subsequent ruling was made in order to 
 remedy this condition. 
 
 32 Revenue Act of 1918, §§227 and 241; Reg. 45, Art. 441. 
 
 33 Revenue Act of 1921, §§ 227 (a) and 241. 
 
 34 R. S. 3176, as amended by Revenue Act of 1921; T. D. 2001; Reg. 
 45, Art. 441. 
 
 35 See Reg. 45, Art. 442. See Chapter 6. 
 
RETURNS OF INCOME 829 
 
 LAST Due Date. These words are used to designate the last 
 day upon which a return is required to be filed in accordance 
 with the provisions of the law, or the last day of the period 
 covered hy an extension of time granted by the collector or Com- 
 missioner.38 When the last due date as above defined falls on a 
 Sunday or a legal holiday, the last due date will be considered the 
 day next following, and the return should be filed not later than 
 such following day, or, if placed in the mails, it should be posted 
 in ample time to reach the collector's office, under ordinary 
 handling of the mails, on or before the date on which the return 
 as here indicated is required to be filed.^'' 
 
 Mailing Returns. If a return is placed in the mails in due 
 course properly addressed and postage paid, in ample time to 
 reach the office of the collector on or before the last due date, 
 no penalty will attach should the return not actually be received 
 by such officer until subsequent to that date. Where a question 
 may be raised as to whether or not the return was posted in 
 ample time to reach the collector's office on or before the due 
 date, the envelope in which the return was transmitted will be 
 preserved by the collector and forwarded to the Commissioner 
 with the retum.38 
 
 Returns When Accounting Period Changed. No return can be 
 made for a period of more than twelve months. A separate re- 
 turn for a fractional part of a year is, therefore, required where- 
 ever there is a' change, with the approval of the Commissioner, 
 in the basis of computing net income, from one taxable year to 
 another taxable year or, under the 1918 Law, but not under the 
 present law, wherever a taxpayer making his first return of in- 
 come did so on the basis of a fiscal year.^^ If the change is from 
 calendar year to fiscal year, a separate return must be made for 
 the period between the close of the calendar year for which re- 
 turn was made and the date designated as the close of the fiscal 
 year. If the change is from one fiscal year to another fiscal 
 year, a separate return must be made for the period between the 
 close of the former fiscal year and the date designated as the 
 close of the new fiscal year. If the taxpayer making his first 
 return under the 1918 Law, kept his accounts on the basis of a 
 fiscal year, he was required to make a separate return for the 
 period between the beginning of the calendar year in which such 
 
 36 Reg. 45, Art 447; Reg 33 Rev., Art. 218. 
 
 37 Reg. 45, Art. 447; Reg. 33 Rev., Art. 219. 
 
 38 Reg. 45, Art. 447; Reg. 33 Rev., Art. 52. 
 
 39 Revenue Act of 1921, §226; Revenue Act of 1918, §226; Reg. 45, Art. 
 431. 
 
830 FEDERAL INCOME TAX 
 
 fiscal year ended and the end of such fiscal year.*" This re- 
 quirement is omitted from the 1921 Law and it would now seem 
 that a taxpayer with a fiscal year, and making his first re- 
 turn, should file such return for his full fiscal year. It is diffi- 
 cult to see why the 1918 Law required a return for a part of 
 a year in such cases. An alien who arrived in the United States 
 on September 1, 1919, and who actually kept his books of account 
 on a fiscal year basis ending August 31, was required to render 
 a return on the basis of such fiscal year. Notice that he main- 
 tains an accounting period for the fiscal year ending August 31, 
 should be given to the collector for the district in which the 
 alien resides.*^ The requirements with respect to the filing of a 
 separate return and the payment of tax for a part of a year, 
 are the same as for the filing of a return and the payment of tax 
 for a full taxable year closing at the same time.*^ In the case of 
 a return for a period of less than one year the net income should 
 be placed on an annual basis by multiplying the amount thereof 
 by twelve and dividing by the number of months included in 
 such period, and the tax will be such part of a tax computed on 
 such annual basis as the number of months in such period is of 
 twelve months.*^ 
 
 Extension of Time. The Revenue Act of 1921 makes provision 
 in certain cases for an extension of time for filing returns. As 
 indicated in the following paragraphs, such extensions may be 
 granted by collectors or by the Commissioner. 
 
 Extension of Time by Collector. It is important that the 
 taxpayer render before the return due date a return as complete 
 and final as it is possible for him to prepare. However, in 
 cases of sickness or absence, collectors are authorized to grant an 
 extension of not exceeding thirty days where, in their judgment, 
 such further time is actually required for the making of an ac- 
 curate return.** The application for such extension must be 
 made prior to the expiration of the period for which the exten- 
 sion is required. Absence or sickness of one or more officers of 
 a corporation at the time the return is required to be filed, will 
 not be accepted as a reasonable cause for failure to file the re- 
 turn within the prescribed time, unless it is satisfactorily shown 
 that there were no other principal officers available and suffi- 
 ce Revenue Act of 1918, § 226. 
 « O. D. 456, T. B. 15-20-853. 
 
 42 Revenue Act of 1918, §§226 and 239; Reg. 45, Art. 431. 
 
 43 Revenue Act of 1921, §§ 226 (c) and 239. 
 
 44 Revised Statutes §3176, as amended by the Revenue. Act of 1921; 
 § 1311 ; Reg. 45, Art. 443. The 1918 Law was similar In this respect. 
 
RETURNS OP INCOME 831 
 
 ciently informed as to the affairs of the corporation to make and 
 verify a return. Where a husband and wife file a joint return 
 and an extension of time has been granted to either of them, 
 the benefit of the extension inures to both and it will be un- 
 necessary for the other party to secure additional authority.*^ 
 As a condition of granting an extension of time for filing a return 
 the collector may require the submission of a tentative return 
 and estimate of the tax (under the 1918 Law on Form 1040 T in 
 the case of individuals, or on Form 1031 T in the case of corpora- 
 tions) and the payment of one-fourth of the estimated amount 
 of tax.*^ Where a taxpayer has filed a tentative return and has 
 failed to file a complete return within the period of the ex- 
 tension requested by him the complete return filed is subject to 
 penalties prescribed for delinquency. Where a tentative return 
 has been filed and no time has been fixed within which a com- 
 plete return must be filed, the collector may at any time send 
 notice to the taxpayer to file a complete return within a period of 
 time therein specified by him, and a taxpayer who fails to comply 
 with such request will incur the penalties prescribed by statute 
 for delinquency in filing a return.*^ Where the time for filing 
 a return has been extended by the Commissioner beyond the 
 original due date, or beyond a period of extension granted by a 
 collector, the collector is without authority to grant a further 
 extension, regardless of whether or not a tentative return has 
 been filed.*^ 
 
 Extension of Time by Commissioner. In addition to the 
 limited extension of thirty days which may be granted by col- 
 lectors, the Commissioner may grant a reasonable extension of 
 time for filing returns whenever, in his judgment, good cause 
 exists. He is required to keep a record of such extensions and 
 the reasons therefor. Except in the case of taxpayers who are 
 abroad, no such extension may be for more than six months.*^ 
 If, before the end of a thirty-day extension granted by a collector, 
 an accurate return can not be made, an appeal for a further ex- 
 tension must be made to the Commissioner with a full recital 
 of the causes for the delay. The Commissioner will not grant 
 an additional extension without a clear showing that a complete 
 return can not be made before the end of the thirty-day period. 
 
 45 O. D. 521, T. B. 21-20-959. 
 48 Reg. 45, Art. 443. 
 
 47 T. D. 2935. 
 
 48 0. D. 650, T. B. 35-20-1171. 
 
 49 Revenue Act of 1921, §227 (a). The rule was the same under the 
 1918 Law. See Revenue Act of 1918, § 227 (a) ; Reg. 45, Art. 445. 
 
832 FEDERAL INCOME TAX 
 
 The Commissioner will grant no such extension beyond the 
 original due date of the third installment of the tax. Either a 
 complete or a tentative return as complete as possible and giving 
 a ground for assessment of the tax, must be submitted on or 
 before the due date as extended, and the tax shown to be due 
 must be paid with the submission of the return. If a complete 
 return can not be made at that time, the facts must be sub- 
 mitted to the Commissioner for such further action as he deems 
 warranted. In exceptional circumstances the taxpayer may 
 apply originally to the Commissioner for an extension of time.^" 
 Extension of Time in the Case of Persons Abroad. Be- 
 cause of the disturbed conditions abroad and the consequent in- 
 terference with the usual channels of communication, an ex- 
 tension of time for filing returns of income for 1918 and sub- 
 sequent years and for paying the tax was granted in the case 
 of nonresident alien individuals and nonresident foreign corpora- 
 tions, or their proper representatives in the United States, and 
 of American citizens residing or traveling abroad, including 
 persons in military or naval service on duty outside the United 
 States, for such period as might be necessary, not exceeding 
 ninety days after proclamation by the President of the end of 
 the war with Germany. The installments of tax actually due 
 must be paid at the time of filing the return and the other install- 
 ments must be paid as they fall due. In all such cases an 
 affidavit was required to be attached to the return, stating the 
 causes of the delay in filing it, in order that the Commissioner 
 might determine that the failure to file the return in time was 
 due to a reasonable cause and not to wilful neglect and that the 
 return was filed without any unnecessary delay. If the showing 
 justified the conclusion that the failure to file the return in time 
 was excusable, no penalty would be imposed. This extension 
 was granted as a matter of general expediency to all persons 
 abroad owing income, war-profits, and excess-profits taxes tb 
 the federal government and was not granted upon the request 
 of any particular taxpayer. Accordingly, in the case of tax- 
 payers who took advantage of this general extension of time for 
 the filing of returns and the payment of tax no interest will be 
 collected from such taxpayers, but where a request was made by 
 a taxpayer and an extension granted for other reasons by the 
 Commissioner, interest will be collected at the rate of one half of 
 one per centum per month from the time the tax would have 
 been due if no extension had been granted. This extension also 
 
 50 Reg. 45, Art. 444. 
 
RETURNS OF INCOME 833 
 
 applied to domestic corporations whose records are kept and 
 business transacted abroad.^i Since the President, on November 
 14, 1921, proclaimed the war at an end, the above extension will 
 expire on February 12, 1922.^2 
 
 Extension of Time to Enemies. An extension of time was 
 granted for such period as might be necessary, not exceeding 
 ninety days after proclamation by the President of the end of 
 the war with Germany, for filing returns of income for 1918 
 and subsequent years and for paying the tax by or for non- 
 resident enemies or allies of enemies, as defined by section 2 of 
 the Trading with the Enemy Act of October 6, 1917, not holding 
 licenses granted under the provisions of that act. The whole 
 tax shown to be due must be paid at the time of filing the re- 
 turn. This extension, however, did not authorize any delay in 
 filing returns of information. This extension was also subject 
 to the condition that all persons who on October 6, 1917, had, or 
 since have had, or may hereafter have control of any money or 
 other property for any such enemy or ally of enemy, or who, on 
 October 6, 1917, were, or since have been, or may hereafter be 
 indebted to any such enemy or ally of enemy, shall hold and de- 
 liver all such money and property in all respects subject to the 
 Trading with the Enemy Act, and to the orders of the President 
 and the Alien Property Custodian thereunder, and shall in due 
 course file returns of income in respect of all such money and 
 property for such period as may elapse or have elapsed prior to 
 the actual delivery of such money and property to the Alien 
 Property Custodian.^^ In other words, if delivery was made in 
 November, 1917, a return should be filed for the portion of the 
 year 1917 elapsing before such delivery, and if delivery was in 
 March, 1918, a return should be filed for the year 1917 and also 
 before March 1, 1919, for such portion of the year 1918 as elapsed 
 before such delivery .5* This extension will also expire February 
 12, 1922. 
 
 51 Reg. 45, Art. 445, as amended by T. D. 2844; telegram from treasury 
 department dated April 19, 1919; I. T. S. 1919, 113312; O. 809, T. B. 2-19- 
 160; O. D. 443, T. B. 14-20-839. This general extension does not affect 
 the liability to the 5% penalty of such individuals who file returns before 
 the expiration of this extension period, if they fail to pay the tax due on 
 such return within the prescribed time after it was filed. (O. D. 608, T. B. 
 30-20-1095.) 
 
 52 See I. T. S. 1921, If 3213. 
 
 53 Reg. 45, Art. 446; T. D. 2673. 
 
 54 Letter from treasury department dated May 3, 1918; I. T. S. 1919, 
 If 1515. 
 
834 FEDERAL INCOME TAX 
 
 Tentative Returns. Prior to the passage of the 1916 Law, 
 extension of time could be granted only in case of sickness or 
 absence, but the treasury department permitted foreign corpora- 
 tions and domestic corporations doing business in foreign coun- 
 tries who were unable to assemble their data on or before the pri- 
 mary due date, to file tentative returns, approximating as nearly 
 as possible the actual busines's transacted during the year. Such 
 tentative returns were accepted subject to the substitution later 
 of true and correct returns when the necessary data to make the 
 same had been received.^^ Under the 1916 Law the Com- 
 missioner had authority to grant unlimited extension in merito- 
 rious cases, thus making unnecessary the filing of tentative re- 
 turns.56 Under the present law the Commissioner will grant no 
 extension beyond the original due date of the third installment of 
 the tax. Either a complete or a tentative return as complete as 
 possible, and giving the ground for assessment of the tax must 
 be submitted on or before the due date as extended, and the tax 
 shown to be due must be paid with the submission of the return. 
 If a complete return can not be made at that time, the facts must 
 be submitted to the Commissioner for such further action as he 
 deems warranted.^'' A collector, in granting an extension of 
 time, may also require the submission of a tentative return and 
 payment of one-fourth of the estimated amount of tax.^^ jf ^ 
 taxpayer has filed a tentative return for any taxable year or has 
 paid any amount to a collector on the supposition that he will be 
 liable for payment of tax, and later finds that his income was 
 insuflScient to require a return, a statement under oath to that 
 effect should be filed in lieu of a complete return. If the tax- 
 payer desires to file a claim for refund of the amount erroneously 
 paid, a complete return will be required.^" 
 
 Forms. The forms on which the returns of income are to be 
 made are prescribed by the Commissioner, and may be had from 
 the collectors of the several districts. The forms have been 
 changed from time to time and those for 1918 contained much 
 new matter. The following forms were prescribed under the 
 1918 Law. The forms for use by individuals were Form 1040 
 (revised) and Form 1040A (revised). The form prescribed for 
 use by nonresident aliens was Form 1040 C, whether filed by 
 the principal or by an agent on his behalf. Separate forms were 
 
 55 T. D. 2137. 
 
 56 T. D. 2561 and T. D. 2581. 
 
 57 Reg. 45, Art. 443. 
 58Eeg. 45, Art. 444. 
 
 59 0. D. 347, T. B. 30-19-643. 
 
RETURNS OP INCOME 835 
 
 provided for use by fiduciaries in cases where the tax was pay- 
 able by the beneficiaries. In such case the form prescribed was 
 Form 1041 (revised) . A receiver in charge of the business of 
 a partnership rendered return on Form 1065 (revised). In 
 other cases returns by fiduciaries were made on Form 1040 (re- 
 vised) except that it might be on short Form 1040A (revised), 
 where the net income did not exceed five thousand dollars. 
 Partnerships made their returns on Form 1065 (revised). Cor- 
 porations, whether domestic or foreign, made their returns on 
 Form 1120. Form A Revised (mining), Form N (pil and gas), 
 and Form T (timber) were available for taxpayers engaged in 
 the mining, oil or gas, or timber industries.®" These forms 
 were prescribed to facilitate the compilation and presentation 
 of certain information required for the audit and examination 
 of the returns of these classes of taxpayers. If, however, it was 
 more convenient to use other methods of tabulation, the informa- 
 tion so furnished if complete was accepted in lieu of these, forms. 
 The information called for by these forms should be filed with 
 the returns in complete detail, either on the forms prescribed or 
 in other suitable manner. This is necessary for the reason that 
 depletion sustained must be taken into consideration in the com- 
 putation of invested capital, regardless of whether or not a de- 
 duction for it was claimed or has been claimed for it in the past 
 by the taxpayer. This requirement applies to individuals as 
 well as corporate taxpayers.®! The Revenue Act of 1921 provides 
 for the establishment of a "Tax Simplification Board" which, 
 among other duties, will investigate the forms used and make 
 recommendations for their simplification.®^ 
 
 Use of Prescribed Forms. Copies of the prescribed return 
 forms will so far as possible be furnished taxpayers by collectors. 
 Failure on the part of any taxpayer to receive a blank form will 
 not, however, excuse him from making a return. Taxpayers not 
 supplied with the proper forms should make application therefor 
 to the collector in ample time to have their returns prepared, 
 verified and filed with the collector on or before the last due 
 date. Each taxpayer should carefully prepare his return so as 
 fully and clearly to set forth the data therein called for. Im- 
 perfect or incorrect returns will not be accepted as meeting the 
 requirements of the statute. In lack of a prescribed form a state- 
 ment made by a taxpayer disclosing his gross income and the 
 
 60 A copy of Forms A, N and T will be found in the appendix to the 
 1920 edition of this book. 
 ,61T. D. 2849. 
 62 See Revenue Act of 1921, §1327. 
 
836 FEDERAL INCOME TAX 
 
 deductions therefrom may be accepted as a tentative return, and 
 if iiled within the prescribed time a return so made will relieve 
 the taxpayer from liability to penalties, provided that without 
 unnecessary delay such a tentative return is replaced by a re- 
 turn made on the proper form.^^ 
 
 Verification of Returns. AJl income tax returns must be veri- 
 fied under oath or affirmation before an officer duly authorized 
 to administer oaths either by the laws of the United States or 
 by the laws of the state or territory where such officer resides.^* 
 The affidavit may be made before the collector of the district or 
 before any officer authorized by law to administer oaths.^^ Rev- 
 enue agents, inspectors and special employes,^^ qj. any clerk in 
 the office of the collector,"^ may, if commissioned as deputy col- 
 lectors, take the oaths of taxpayers. If a return is executed be- 
 fore a notary in a state where the law does not require the notary 
 to use a seal, and none is used, a certificate of a clerk of court 
 or other officer possessing a seal, showing that the notary is 
 duly commissioned and authorized to administer oaths, should 
 be filed with the Commissioner ; otherwise the return will not be 
 accepted,^^ unless, as may be done, the collector waives this re- 
 quirement in states where jurats are accepted in the state courts 
 either with or without a seal, and without a certificate showing 
 authority.®^ Every collector, deputy collector, internal revenue 
 agent and internal revenue officer assigned to duty under an in- 
 ternal revenue agent, is authorized to administer oaths and to 
 take evidence touching any part of the administration of the in- 
 ternal revenue laws with which he is charged, or where such oaths 
 and evidence are authorized by law or by regulation authorized by 
 law to be taken. Forms are properly executed, therefore, when 
 sworn to and subscribed before a deputy collector instead of a 
 notary public.™ The words "before an officer duly authorized 
 to administer oaths either by the laws of the United States or 
 by the laws of the State," with respect to the verification of re- 
 turns, signify an officer duly authorized to administer oaths gen- 
 es Reg. 45, Art. 407. 
 
 64 Reg. 45, Art. 406, as amended by T. D. 2951. Under this regulation 
 a commissioner of deeds is authorized to administer an oath to an income 
 tax return. T. D. 2952; See U. S. v. Benowitz, 262 Fed. 223. 
 
 65 Reg. 33, Art. 22. 
 
 66 T. D. 2235, T. D. 2238. 
 
 67 T. D. 2293. 
 
 68 T. D. 2090. 
 
 69 T. D. 2174. 
 
 70 R. S., § 3165, as amended by Revenue Act of 1918, §' 13l7, and Isy the 
 Revenue Act of 1921, § 1311 ; O. D. 761, T. B. 52-20-1368. 
 
RETURNS OP INCOME 837 
 
 erally, rather than an officer authorized to administer oaths only 
 under special circumstances. Postmasters, therefore, while ad- 
 mittedly "duly authorized to administer oaths * * * by the 
 laws of the United States" in a limited field, have no authority to 
 administer oaths in general, and, possessing no specific authority 
 for that purpose, can not properly administer oaths to taxpayers 
 when filing returns of income.'^i 
 
 Verification Abroad. An individual residing abroad may 
 acknowledge his return before any duly appointed officer of the 
 country in which he resides, authorized to administer oaths and 
 use an official seal.''^^ Where a foreign notary or other official 
 having no seal acts as attesting officer, the authority of such at- 
 testing officer should be certified to by some judicial official or 
 other proper officer having knowledge of the appointment and 
 official character of the attesting officer. Income tax returns ex- 
 ecuted abroad may be attested free of charge before United 
 States consular officers.''^ American citizens in China executing 
 their income tax returns may, when the services of a notary are 
 not available, attach to their returns Consular Form 180, prop- 
 erly adapted, and made a part of their tax returns.'^* 
 
 Verification in Army and Navy. Persons in the naval or 
 military service of the United States may verify their returns be- 
 fore any official authorized to administer oaths for the purposes 
 of those services.''^5 
 
 Assistance by Collectors. Any assistance or information which 
 may be needed in connection with the preparing and filing of in- 
 come tax returns, is required to be furnished by the collector 
 upon request. Questions regarding the tax will be answered 
 upon inquiry at the internal revenue offices. When questions 
 are directed to the treasury department at Washington asking 
 for information which should be supplied by collectors, the letters 
 are referred to the collectors for reply and the writers are advised 
 accordingly.™ 
 
 Return Made by Collector. The Revenue Act of 1921 provides 
 that if any taxpayer fails to make and file a return or list at the 
 time prescribed by law or by regulation made under authority of 
 the law, or makes, wilfully or otherwise, a false or fraudulent 
 return or list, the collector or deputy collector must make the re- 
 
 71 0. D. 701, T. B. 43-20-1263: 
 
 72 T. D. 2090. 
 
 73 Reg. 45, Art. 406. 
 
 74 0. D. 189, T. B. 8-19-327. 
 
 75 Reg. 45, Art. 406; T. D. 2534. 
 
 76 T. D. 1949; T. D. 1956. 
 
838 FEDERAL INCOME TAX 
 
 turn or list from his own knowledge and from such information 
 as he can obtain through testimony or otherwise. In any such 
 case the Commissioner may, from his own knowledge and from 
 such information as he can obtain through testimony or other- 
 wise, make a return or amend any return made by a collector 
 or deputy collector. Any return or list so made and subscribed 
 by the Commissioner, or by a collector or deputy collector and 
 approved by the Commissioner, will be prima facie good and 
 sufficient for all legal purposes.'^^ 
 
 Erroneous Returns. Under previous laws, if a return was im- 
 properly prepared, it was returned by the collector to the tax- 
 payer for correction, and the corrected return was accepted with- 
 out penalty, provided the incorrect return showing the date of 
 its receipt accompanied the corrected return.'^^ The latest rul- 
 ing under the present law, states than an imperfect or incor- 
 rect return will not be accepted as meeting the requirements of 
 the statute.™ 
 
 Understatement in Returns. The Revenue Act of 1921 pro- 
 vides that if the collector or deputy collector has reason to be- 
 lieve that the amount of any income returned is understated, he 
 is required to give due notice to the taxpayer making the re- 
 turn to show cause why the amount shown by the return should 
 not be increased and upon proof that the amount was understated, 
 he may increase the same accordingly. Such taxpayers may 
 furnish sworn testimony to prove any relevant facts and if dis- 
 satisfied with the decision of the collector, may appeal to the 
 Commissioner for his decision under such rules of procedure as 
 may be prescribed by the Commissioner with the approval of 
 the secretary. If a collector suspects that the amount of any 
 income is understated in a return, he may on his own initiative 
 take up the matter with the taxpayer and upon being satisfied 
 that the amount was understated, may increase it accordingly, 
 subject to the right of the taxpayer to appeal to the Com- 
 missioner. The Commissioner, however, without the interven- 
 tion of the collector, may exercise original jurisdiction in cases 
 of understatements of other errors in returns.®" 
 
 7T R. S. 3176, as amended by Revenue Act of 1921, § 1311. The Revenue 
 Act of 1918 contained the same provision. See R. S. § 3176 as amended 
 by § 1817 of Revenue Act of 1918. 
 
 78 Mimeograph letter to Collectors dated February 9, 1915; I. T. S. 1919, 
 111541. 
 
 79 Reg. 45, Art. 407. 
 
 80 Revenue Acts of 1918 and 1921, § 228; Reg. 45, Art. 451. 
 
RETURNS OF INCOME 839 
 
 Amended Returns. Where upon an audit of a return of an in- 
 dividual, a fiduciary, or a withholding agent, or as a result of an 
 investigation made by a revenue agent, an additional tax is as- 
 sessed, it is not necessary to file an amended return. Notice of 
 the additional assessment will be given to the taxpayer by leljter 
 from the Treasury Department.^! If a taxpayer discovers or de- 
 tects expenses or liabilities which were due and payable during a 
 preceding year, it is permissible for him to make an amended re- 
 turn for the year tp which such expense or liability applies, in- 
 clude such expense in the deductions of that year, and file a claim 
 for refund for any taxes overpaid by reason of the failure to de- 
 duct such expenses or liabilities in the original return of that 
 year.82 Where a corporation is called upon by a revenue in- 
 spector to make amended returns, the officers of the corporation 
 will be given the fullest opportunity to make any investigation 
 they may desire prior to signing such amended returns, provided, 
 of course, such investigation does not cover an unreasonable 
 length of time.^^ 
 
 Notice of Failure to File Returns. The Revenue Act of 1921 
 provides that whenever in the judgment of the Commissioner 
 necessary, he may require any person, by notice served upon him, 
 to make a return or such statements as he deems sufficient to 
 show whether or not such person is liable to tax.^* 
 
 81 Mimeograph letter No. 1232 to Collectors; Reg. 33 Rev., Art. 38. 
 82Eeg. 33 Rev., Art. 128; Eeg. 45, Art. 23. 
 
 83 Letter from treasury department dated February 2, 1915 ; I. T. S. 1921, 
 T[ 2080. In 1915 and 1916 it viras the practice of the treasury department to 
 send out a letter to corporations whenever items on the return vi^ere reached, 
 concerning which more detailed information was sought, referring to the 
 return and briefly requesting information regarding one or more items 
 therein. The letter ended with a statement that in the absence of an 
 explanatory affidavit, at the end of thirty days from the date of the letter 
 the entire amount of the deductions questioned would be suspended and an 
 assessment returned accordingly. (I. T. S. 1917, H 1623.) 
 
 84 Revenue Act of 1921, § 1307. The Revenue Act of 1918 contained 
 the same provision. See Revenue Act of 1918, § 1305. Under the 1916 
 Law, when the collector possessed any information which led him to be- 
 lieve that any person in his district was in receipt of income for the year 
 and did not make a return, he was required to serve a notice calling attention 
 to the failure and to the fact that penalties for failure had been incurred. 
 The notice also called attention to the fact that if the return was not filed 
 within ten days from the date thereof, the books and papers of the taxpayer 
 would be examined and a return prepared therefrom as provided by law. 
 (Reg. 33, Art. 196.) This notice was sent out on form 1045. For the 
 first year of the income tax, March 1 to December 31, 1913, the collector 
 sent out an informal letter as a preliminary to the formal notice. This 
 letter invited the taxpayer to make a return without penalty within ten 
 days but the letter was not used in subsequent years. 
 
840 FEDERAL INCOME TAX 
 
 Inspection of Returns by the Public. The income tax law is 
 specific and mandatory in the matter of safeguarding from pub- 
 licity the information acquired by reason of its requirements rel- 
 ative to annual returns of income. The law imposes on col- 
 lectors, deputy collectors, agents, clerks, or other officers or em- 
 ployees of the bureau of internal revenue, including internal 
 revenue agents, a penalty of fijie, imprisonment, dismissal from 
 office and forfeiture of right to hold office, for making known 
 in any manner not provided by the law, the amount or source 
 of income, or any particulars thereof, set forth or disclosed in a 
 return of income by any person.^^ ^11 internal revenue officers 
 are cautioned to preserve as confidential all income tax returns.^" 
 The returns on which assessments have been made .are filed in 
 the office of the Commissioner and constitute public records and 
 are open to inspection as such, but only upon order of the Presi- 
 dent and under rules and regulations prescribed by the secretary 
 and approved by the President.^'^ It was held that a similar 
 provision of the 1909 Law permitting the inspection of returns 
 was not unconstitutional.ss The President by an executive 
 order, dated January 7, 1920, directed that returns of income 
 should be subject to inspection in accordance with the follow- 
 ing regulations prescribed by the secretary of the treasury set 
 forth in the following paragraphs.^^ 
 
 The word "return," unless otherwise indicated, includes in- 
 come and profits tax and also capital stock tax returns. Written 
 statements fiJed with the Commissioner designed to be sup- 
 plemental to and to become a part of tax returns will be subject 
 to the same rules and regulations as to inspection as are the 
 returns themselves-^" Except as hereinafter specifically in- 
 dicated, the Commissioner may, in his discretion, upon written 
 application setting forth fully the reasons for the request, grant 
 permission for the inspection. The application will be con- 
 sidered by the Commissioner and a decision reached by him 
 whether the applicant has met the conditions imposed and 
 
 85 R. S. 3167, as amended by Revenue Act of 1921, §1311; R. S. §3167, 
 as amended by the Revenue Act of 1918; Reg. 33 Rev., Art. 229; T. D. 
 2903, T. B. 15-19-461. 
 
 86 T. D. 2135, T. D. 1962. 
 
 87 Revenue Act of 1921, §257; Revenue Act of 1918, §257. 
 
 88 Flint V. Stone Tracy Co., 220 U. S. 107. 
 
 89 T. D. 2961 and 2962. See Reg. 45, Art. 1091. 
 
 90 Reg. 45, Art. 1091. A debtor corporation may not inspect ownership 
 certificates executed by owners of its bonds or bonds of its subsidiaries 
 after such certificates have been forwarded to the Commissioner by the 
 debtor corporation. (S. 1301, T. B. 6-20-434.) 
 
RETURNS OF INCOME 841 
 
 whether the reasons advanced for permission to inspect are 
 suflBcient to permit the inspection. Such written apphcation is 
 not required of the officers and employes of the treasury depart- 
 ment whose official duties require inspection of a return, or of 
 the solicitor of internal revenue. When it becomes necessary 
 for the department to furnish returns or copies thereof for 
 use in legal proceedings, inspection of such returns or copies 
 that necessarily results from such use is permitted. Except as 
 indicated above, returns may be inspected only in the office 
 of the Commissioner at Washington.. A person who is per- 
 mitted to inspect a return may make and take a copy thereof 
 or a memorandum of data contained therein."^ 
 
 Returns of Individuals. The return of an individual is 
 open to inspection as follows: (a) By the officers and em- 
 ployees of the treasury department whose official duties require 
 such inspection and by the solicitor of internal revenue; (b) by 
 the person who made the return, or by his duly constituted 
 attorney-in-fact; (c) by the administrator, executor or trustee 
 of the taxpayer's estate, or by the duly constituted attorney-in- 
 fact of such administrator, executor or trustee, where the maker 
 of the return has died,^^ and (d) in the discretion of the Com- 
 missioner, by one of the heirs at law or next of kin of such 
 deceased person upon showing that he has a material interest 
 which will be affected by information contained in the return. 
 An original letter with regard to his return written by a 
 decedent to the collector may not be furnished to the attorneys 
 for the estate. A certified or photostatic copy may be, however, 
 be given to them provided the executors submit a copy of the 
 letters testamentary issued to them by the court, together 
 with a letter signed by them authorizing the attorneys to re- 
 ceive a copy of the letter in question.^^ A joint return of a 
 husband and wife will be open to inspection (a) by the officers 
 and employees of the treasury department whose official duties 
 require such inspection, and by the solicitor of internal revenue, 
 and (b) by either spouse for whom the return was made, or his 
 or her duly constituted attorney, upon satisfactory evidence 
 of such relationship.^* 
 
 91 Reg. 45, Art. 1091. 
 
 92 The executor of an estate may secure copies of income tax returns 
 filed by the decedent upon submission to the Commissioner of a certified 
 copy of letters testamentary evidencing his appointment as executor. (O. 
 D. 355, T. B. 31-19-654.) 
 
 93 0. D. 576, T. B. 27-20-1046. 
 
 94 Reg. 45, Art. 1091. 
 
842 FEDERAL INCOME TAX 
 
 Returns of Partnerships. The return of a partnership will 
 be open to inspection (a) by the officers and employees of 
 the treasury department whose official duties require such in- 
 spection and by the solicitor of internal revenue; and (b) by 
 any individual (or his duly constituted attorney-in-fact, or legal 
 representative) who was a member of such partnership during 
 any part of the time covered by the return, upon satisfactory 
 evidence of such fact.^^ 
 
 Returns of Corporations. The return of a corporation 
 will be open to inspection (a) by the officers and employees of 
 the treasury department whose official duties require such in- 
 spection and by the solicitor of internal revenue; (b) upon 
 satisfactory evidence of identity and official position, by the 
 president, vice-president, secretary or treasurer of such cor- 
 poration or if none, its principal officer; and (c) by a stock- 
 holder of record owning one per centum or more of the out- 
 standing stock of such corporations as provided below. 
 
 . A stockholder of record owning one per centum or more of 
 the outstanding stock of a corporation may be permitted to in- 
 spect its return. Such permission will only be granted upon an 
 application in writing to the Commissioner accompanied by an 
 affidavit showing applicant's address, the name of the corpora- 
 tion, the period of time covered by the return he desires to 
 inspect, and a certificate from the officials of the corporation 
 or other satisfactory evidence showing the amount of the cor- 
 poration's outstanding capital stock, the number of shares 
 owned by the applicant, the date when such stock was acquired, 
 and satisfactory proof of identity. This privilege of inspection is 
 personal and will be granted only to the stockholder. This rule has 
 no application to the return of a corporation filed pursuant to 
 the Revenue Act of 1918 or the Revenue Act of 1921, specific 
 provision, independent of Presidential regulation, being made 
 in those acts for inspection by a stockholder of a return of a 
 corporation filed thereunder.^s A bona fide stockholder^^ of 
 record owning one per centum or more of the outstanding 
 stock of a corporation shall be entitled as of right, upon mak- 
 ing request of the Commissioner, to examine the annual income 
 
 95 Reg. 45, Art. 1091. 
 
 96 Reg. 45, Art. 1091; Revenue Act of 1921, §257; Revenue Act of 1918, 
 §257. 
 
 97 A "stockholders protective committee," to which deposited stock has 
 been transferred for the purpose of safeguarding the interests of the 
 minority stockholders, is not considered a bona fide stockholder. (6. D. 
 273, T. B. 18-19-490.) 
 
RETURNS OF INCOME 843 
 
 war-profits, excess-profits and capital stock tax returns of such 
 corporation and of its subsidiaries made under the Revenue 
 Act of 1918 or the Revenue Act of 1921. His request for per- 
 mission to examine such returns must be made in writing and 
 must be in the form of an affidavit showing his address, the 
 name of the corporation, the period of time covered by the 
 return he desires to inspect, the amount of the corporation's 
 outstanding capital stock, the number of shares owned by him, 
 the date when he acquired them and whether he has the bene- 
 ficial as well as the record title to such shares. It must also 
 show that he has not acquired his shares for the purpose of the 
 examination of the income returns of the corporation. If he 
 has acquired them for this purpose he is not a bona fide stock- 
 holder within the meaning of the statute. The application must 
 be supported by satisfactory evidence showing that the applicant 
 is a bona fide stockholder of record of the required amount of 
 stock of the corporation. The supporting evidence may be partly 
 in the form of a certificate signed by the president or vice- 
 president of the corporation, and countersigned by the secre- 
 tary under the corporate seal. Upon being satisfied from the 
 evidence presented that the applicant has fully met these condi- 
 tions the Commissioner will grant the permission to examine 
 the returns and set a convenient time for the examination in 
 the office of the Commissioner. This privilege is personal and 
 will be granted only to the stockholder, who cannot delegate 
 it to another.^8 
 
 Inspection of Returns by Government Officers. When the 
 head of an executive department (other than the treasury de- 
 partment) or of any other United States government estab- 
 lishment, desires to inspect or to have some other officer or 
 employee of his branch of the service inspect a return in con- 
 nection with some matter officially before him, the inspection 
 may, in the discretion of the Secretary of the Treasury, be per- 
 mitted upon written application to him by the head of such 
 executive department of other government establishment. The 
 application must be signed by such head and must show in 
 detail why the inspection is desired, the name and address of 
 the taxpayer who made the return, and the name and official 
 designation of the one it is desired shall inspect the return. 
 When the head of a bureau or office in the treasury department, 
 not a part of the internal revenue bureau, desires to inspect 
 
 98 Revenue Act of 1921, §257; Revenue Act of 1918, §257; Reg. 45, Art. 
 1093. 
 
844 FEDERAL INCOME TAX 
 
 a return in connection with some matter officially before him, 
 other than an income, profits tax or corporation excise tax 
 matter, the inspection may, in the discretion of the secretary, 
 be permitted upon written application to him by the head of 
 such bureau or office showing in detail why the inspection is 
 desired. The reasons submitted for permission to inspect as 
 provided in this paragraph will be considered by the secretary 
 and a decision reached by him whether the reasons are suffi- 
 cient to permit the inspection.^^ 
 
 Inspection of Corporation Returns by State Officers. The 
 proper officers of a state imposing an income tax are ^entitled 
 as of right upon the request of its governor to have access to 
 the income and profits tax returns of a corporation, associa- 
 tion, joint-stock company or insurance company or to an abstract 
 thereof showing its name and income. Proper officers in this 
 connection are only those officers of the state who are charged 
 with the enforcement of the state income tax law and who 
 are to use the information gained by the access only in con- 
 nection with such enforcement. The request or application of 
 the governor must be in writing signed by him under the seal of 
 his state and must show: (a) That the state imposes an in- 
 come tax. (b) The name and address of the corporation, asso- 
 ciation, joint-stock company, or insurance company making the 
 returns to which access is desired, (c) Why access is desired, 
 (d) The names and official positions of the officers designated to 
 have the access, (e) That such designated officers are charged 
 with the enforcement of the state income tax law. (f) That 
 the information to be gained by the access is to be used only 
 in connection with such enforcement. The request or applica- 
 tion of the governor may be addressed either to the Secretary 
 of the Treasury or to the Commissioner but should be trans- 
 mitted to the Commissioner who will set a convenient time for 
 the access to the returns (or to an abstract thereof as he may 
 determine) . Access will be given only in the office of the 
 Commissioner in Washington. The officers designated by the 
 governor will not be permitted to name another person or 
 persons to examine the returns (or abstracts) for them. The 
 officers designated will be given access only to the returns of 
 those corporations, associations, joint-stock companies, or insur- 
 ance companies organized or doing business in their state. The 
 officers designated may have access to lists furnished to sup- 
 plement and become a part of the returns to which they are 
 
 99 Reg. 45, Art. 1091. 
 
RETURNS OF INCOME 845 
 
 given access. The proper officers, as defined above, might have 
 access to the capital stock tax returns filed under the provisions 
 of the Revenue Act of 1918 under the same conditions prescribed 
 above for access to the income and profits tax returns of cor- 
 porations, associations, joint-stock companies, and insurance 
 companies. This right does not extend to the examination of 
 capital stock tax returns filed pursuant to prior acts of 
 Congress."" 
 
 Furnishing Copies of Returns. No specific provision is made 
 in the statutes for furnishing a copy of an income return to 
 any one. Authority to permit inspection does not carry vvrith 
 it authority to furnish a copy. Implied authority to furnish 
 a copy is contained in several provisions of lav? constituting 
 returns public records, and in Sections 161 and 251 R. S., 
 which confer upon the secretary of the treasury broad power 
 to make rules and regulations concerning "custody, use and 
 preservation of the records, papers and property" of the de- 
 partment and the enforcement of the internal revenue laws. 
 Because of the provisions contained in Section 3167 R. S., as 
 amended by the Revenue Act of 1918 and by the Revenue Act of 
 1921, making it unlawful for any officer or employee of the 
 United States "to divulge or to make known in any manner 
 whatever not provided by law to any person * * * ^^g 
 amount or source of income, profits, losses, expenditures, or 
 any particular thereof, set forth or disclosed in any income re- 
 turn, or to permit any income return or copy thereof or any book 
 containing any abstract or particulars thereof to be seen or 
 examined by any person except as provided by law;" ^nd also 
 unlawful "for any person to print or publish in any manneic 
 whatever not provided by law any income return, or any part 
 thereof or source of income, profits, losses, or expenditures 
 appearing in any income return ;" a copy of an income return 
 cannot be furnished, except as provided by law, to any one except 
 the person or persons who made the return. Furnishing the 
 maker with a copy of his return is not a divulging of information 
 contained therein to any person, within the meaning of Sec- 
 tion 3167 R. S., as amended. There are numerous provisions 
 in the statutes constituting the doing or failure to do certain 
 things offenses against the United States, and providing for col- 
 lecting unpaid taxes by suits in court and for bringing suits 
 to recover taxes and penalties wrongfully collected. These pro- 
 
 100 Revenue Act of 1921, §257; Revenue Act of 1918, §257; Reg. 45, 
 Art. 1092. 
 
846 FEDERAL INCOME TAX 
 
 visions would be of no avail were it held that the returns them- 
 selves, or certified copies thereof provided for in Section 882 
 R. S., could not be used by the government as evidence in such 
 litigation or in preparation for same. Manifestly Congress did 
 not, when it enacted Section 3167 R. S., intend to defeat 
 prosecution and suits in court for which it has specifically 
 provided. Income returns filed with the department are public 
 records of the department, and public records in the treasury 
 department are of right available as evidence in litigation in 
 court unless there is some statute making it unlawful to use 
 them as such.ioi As therefore the use of income returns or 
 copies thereof in connection with litigation in court, where the 
 United States government is interested in the result, is pro- 
 vided for by law, such returns or copies may be furnished for 
 such use without a violation of the provisions of Section 3167 
 R. S., as amended.i"^ 
 
 The following rules and regulations have been prescribed: 
 The original income return of an individual, partnership, cor- 
 poration, association, joint-stock company, insurance company, 
 or fiduciary, or a copy thereof, may be furnished by the Commis- 
 sioner to a United States Attorney for use as evidence before a 
 United States grand jury or in litigation in any court, where 
 the United States is interested in the result, or for use in the 
 preparation for such litigation, or to an attorney connected 
 with the department of justice designated to handle such mat- 
 ters upon written request of the attorney-general, the assistant 
 to the attorney-general, or an assistant attorney-general. 
 
 When an income return or copy thereof is thus furnished, 
 it must be limited in use to the purpose for which it is fur- 
 nished and is under no condition to be made public except 
 where publicity necessarily results from such use. In case the 
 original return is necessary, it shall be placed in evidence by- 
 the Commissioner or by some other officer or employee of the 
 Internal Revenue Bureau designated by the Commissioner for 
 that purpose, and after it has been placed in evidence it shall 
 be returned to the files in the office of the Commissioner in 
 Washington. An original return will be furnished only in excep- 
 tional cases and then only when it is made to appear that the 
 ends of justice may otherwise be defeated. Neither the original 
 
 101 Winn V. Patterson, 9 Pet. 663, 677; Evanston v. Gunn, 99 U. S. 
 660; 17 Cyc. 306; Williams v. Conger, 125 U. S. 397, 410; Iron Silver Min. 
 Co. V. Campbell, 135 U. S. 286, 298; Oakes v. U. S., 174 U. S. 778; Texas, 
 etc., Ry. Co. v. Swearingen, 196 U. S. 51, 60. 
 
 102 T. D. 2962, T. B. 4-20-711. 
 
RETURNS OP INCOME 847 
 
 nor a copy of an income return desired for use in litigation in 
 court where the United States government is not interested in 
 the result and where such use might result in making public 
 the information contained therein will be furnished, except as 
 otherwise provided in the next succeeding paragraph. 
 
 A copy of an income return may be furnished by the Com- 
 missioner to the person who made the return or to his duly 
 constituted attorney, or if the person is deceased, to his execu- 
 tor or administrator ; or if the entity is in the hands of a receiver, 
 trustee in bankruptcy, guardian or similar legal custodian, to 
 the receiver, trustee or other similar custodian upon written 
 application for same accompanied by satisfactory evidence that 
 the applicant comes within this provision. "The person who made 
 the return" as herein used refers in the case of an individual 
 return to the individual whose return is desired, and in the case 
 of a return of a corporation, association, joint-stock company, 
 insurance company or fiduciary to the corporation, association, 
 joint-stock company or fiduciary, a copy of whose return is de- 
 sired. A corporation may also designate by proper action of 
 its board of directors the officer or individual to whom a copy 
 of a return made by the corporation may be fumisiied, and 
 upon sufficient evidence of such action and of the identity of 
 the officer or individual, a copy may be furnished to such per- 
 son. A copy of a partnership income return will be furnished 
 to the partners only in case all the partners join in the request 
 therefor, it matters not what particular partner or officers of 
 the partnership made the return. If the partnership has been 
 dissolved the members surviving may be furnished a copy if 
 all the members surviving join in the request.ios Ownership 
 certificates are filed as a result of income tax laws for the pur- 
 pose of being used in connection with income tax returns and 
 are, therefore, to be treated as returns under the regulations 
 governing the furnishing of copies.^"* 
 
 Statistics of Income. The Commissioner will publish annually 
 a volume of statistics of income, showing, among other things, 
 the distribution of income between corporations and individuals 
 and by states, by classes and by occupations.^os 
 
 103 Reg. 45, Art. 1091 (a), as amended by T. D. 3188, T. B. 29-21-1739. 
 
 104 O. 879, T. B. 17-19-473. 
 
 105 Revenue Act of 1921, §258; Revenue Act of 1918, §258; Reg. 45, 
 Art. 1191. 
 
CHAPTER 35 
 ASSESSMENT, PAYMENT AND COLLECTION OF THE TAX 
 
 While it follows the methods inaugurated by the Revenue Act 
 of 1918 for the assessment, payment and collection of taxes, the 
 Revenue Act of 1921 amends those methods, in four substantial 
 respects and in several minor details, as will be indicated in this 
 chapter. As under the 1918 Law, it is contemplated that all 
 assessments shall be made by the Commissioner.! The tax is 
 payable in four equal installments; the first at the time fixed 
 for filing returns, the second, third and fourth installments on 
 the 15th days of the third, sixth and ninth months respectively 
 following such date. This means, as it did under the 1918 Law, 
 a taxpayer reporting on a calendar year basis (except non- 
 resident aliens and nonresident foreign corporations) will pay 
 the tax on or before March 15, June 15, September 15 and 
 December 15, but as the time fixed for filing the returns of non- 
 resident aliens and nonresident foreign corporations is changed 
 by the present law to June 15 (or the 15th day of the sixth 
 month following the closing of the fiscal year), such taxpayers 
 will now pay their tax in four equal installments on June 15, 
 September 15, December 15 and March 15 (of the second year 
 after the year for which the tax is paid) .2 If any installment 
 of the tax is not paid when due, the whole amount of the tax 
 becomes payable on notice and demand by the collector. In 
 the case of the first installment, the instructions printed on 
 the return are deemed sufficient notice of the date when the 
 tax is due and sufficient demand, and the taxpayer's computa- 
 tion of the tax on the return is deemed sufficient notice of the 
 amount due. The Revenue Act of 1921 also provides that in 
 the case of each subsequent installment, the collector may within 
 30 days, and not later than 10 days, before each subsequent 
 installment becomes due, mail to the taxpayer notice of the 
 amount of the installment and the date on which it is due, 
 
 1 The 1916 Law expressly provided that all assessments should be made 
 by the Commissioner. When an assessment was made the ainoiint thereof 
 was reported to the local collector, who notified the taxpayer on or before 
 June 1 of such amount. The tax became due on the I5th of June but an 
 additional ten-day period of grace after June 15 was allowed before the 
 application of penalties or interest. (Revenue Act of 1916, §§ 9 (a) and 
 14 (a).) 
 
 2 Revenue Act of 1921, §§250 (a), 241 (a) and 227 (a). 
 
 848 
 
ASSESSMENT AND PAYMENT OF THE TAX 849 
 
 which notice shall be sufficient notice and sufficient demand.^ 
 The amount of any additional tax in excess of that paid is 
 termed a "deficiency" by the Revenue Act of 1921. Any de- 
 ficiency must be paid upon notice and demand by the collector, 
 together with interest at the rate of one-half of one per cent. 
 per month from the time the tax was due. If the deficiency 
 is due to negligence or intentional disregard of authorized rules 
 and regulations with knowledge but without intent to defraud, a 
 five per cent, penalty is added. If the deficiency is due to fraud 
 with intent to evade the tax, a fifty per cent, penalty is added. 
 However, when any tax liability is discovered by the Commis- 
 sioner upon examination of a return made under the Revenue 
 Act of 1916, the Revenue Act of 1917, the Revenue Act of 1918, 
 or the Revenue Act of 1921, the taxpayer must be notified of 
 such deficiency and given a period of not less than thirty days 
 in which to file an appeal. Opportunity for a hearing is to be 
 granted, and when any tax or deficiency is assessed after such 
 appeal and hearing, no claim in abatement will be entertained. 
 This provision for notice and appeal will not operate in cases 
 in which the Commissioner believes the collection of the tax 
 due will be jeopardized by such delay. This matter of procedure 
 upon the finding of new or additional tax liability constitute 
 one of the principal changes made by the Revenue Act of 1921. 
 The other most important changes are: (a) a provision giving 
 the Commissioner discretion to extend the time for the pay- 
 ment of any deficiency (except where due to negligence or 
 fraud) where the payment thereof would result in undue hard- 
 ship to the taxpayer; (b) the provision that interest shall 
 run with respect to additional tax from the time such tax was 
 originally due ; and (c) the provisions .changing the several 
 periods of limitation upon the assessment and collection of taxes. 
 The new remedy provided by the Revenue Act of 1918 in the 
 case of taxpayers designing to depart from the United States 
 or 'to remove property therefrom, is amended in minor respects 
 and is also made applicable to aliens departing from the United 
 States whatever their design or intent. Some of the amend- 
 ments indicated above are made applicable to the assessment and 
 collection of taxes under the Revenue Act of 1917 and the 
 Revenue Act of 1918, as will be indicated in the following para- 
 graphs.* 
 
 3 This provision substantially embodies the department's practice under 
 the 1918 Law. 
 
 4 Revenue Act of 1921, § 250. 
 
850 FEDERAL INCOME TAX 
 
 Suit to Restrain Assessment or Collection. No suit for the pur- 
 pose of restraining the assessment or collection of any tax may- 
 be maintained in any court.5 The constitutionality of a law 
 cannot be inquired into in an injunction suit against the govern- 
 ment,6 but may be in a stockholder's suit to enjoin a corpora- 
 tion from voluntarily paying a tax alleged to be unconstitutional^ 
 An injunction will not be granted at the instance of a stock- 
 holder to restrain the officers of a corporation from paying'^the 
 tax, other than voluntarily, as that would, in effect, be the 
 same as an action to restrain the government.^ Allegations 
 that an assessment is irregular and void do not constitute ground 
 for an injunction." A bill in equity will not lie to enjoin col- 
 lection although the tax is alleged in the bill to have been illegally 
 assessed.!" A collector cannot be restrained from collecting an 
 assessment by injunction.ii It is contrary to every principle of 
 equity jurisprudence that the collection of taxes on personal 
 property should be stayed by injunction.12 The courts will not 
 interfere by a mandamus with the executive officers of the gov- 
 ernment in the exercise of their ordinary official duties.i^ In 
 matters which require an executive officer to exercise judg- 
 ment or discretion no rule will issue for mandamus." The 
 inhibition of the Revised Statutes ^^ applies to all assessments 
 of taxes, made under color of their offices, by internal revenue 
 officers charged with general jurisdiction of the subject of assess- 
 ing the income tax. The remedy of a suit to recover back the 
 tax after it is paid is provided by statute, and a suit to restrain 
 its collection is forbidden. The remedy so given is exclusive, 
 
 5 R. S. § 3224. See also § 3226, as amended by § 1318 of the Revenue 
 Act of 1921. 
 
 6 Delaware R. R. Co. v. Prettyman, 17 Int. Rev. Rec. 99; Allen v. Pull- 
 man's Palace Car Co., 139 U. S. 658; Dodge v. Brady, 240 U. S. 122. 
 
 7 Pollock V. Farmers Loan & Trust Co., 157 U. S. 429; Flint v. Stone- 
 Tracy Co., 220 U. S. 107; Brushaber v. Union Pacific R. R. Co., 240 U. S. 
 1; Stanton v. Baltic Mining Co., 240 U. S. 103. 
 
 8 Strauss v. Abrast Realty Co., 200 Fed. 327. 
 
 9 Alkan v. Bean, 23 Int. Rev. Rec. 351. 
 
 10 Snyder v. Marks, 109 U. S. 189; Dodge v. Osborn, 240 U. S. 118. 
 
 11 State R. R. Tax cases, 92 U. S. 575; Keely v. Sanders, 99 U. S. 441. 
 
 12 Nye V. Washburn, 125 Fed. 818. 
 
 13 U. S. V. Black, 128 U. S. 40. The court in this case followed anearlier 
 decision of Decatur v. Paulding (14 Pet. 497) and made clear the distinction 
 between the mere ministerial act of the executive officer, which may be 
 controlled by the courts by mandamus, and an act in the performance of 
 which an officer is vested with quasi-judicial discretion. 
 
 1* Carrick v. Lamar, 116 U. S. 423. 
 15 R. S. § 3224. 
 
ASSESSMENT AND PAYMENT OF THE TAX 851 
 
 and no other remedy can be substituted for it. The system of 
 administrative measures, not judicial, to collect internal revenue 
 taxes, with appeals to specified tribunals, and suits to recover 
 back moneys illegally exacted is a system of corrective justice 
 intended to be complete, and enacted under the right belong- 
 ing to the Government to prescribe the conditions on which it 
 will subject itself to the judgment of the courts in the collection 
 of its revenues.i^ In a recent case the question arose whether 
 or not a suit against a collector to cancel a sale to the govern- 
 ment of the taxpayer's ■ real estate to satisfy a tax assessed 
 against him was prohibited and whether or not the word "re- 
 strain," as above used, should be construed in a narrow sense as 
 prohibiting the issuance of restraining orders and injunctions or 
 in a broad or liberal sense as applying to all suits to hinder or 
 impede the collection of taxes. The court adopted the broader 
 and more liberal definition. i''' The prohibition of such suits 
 can not be waived by any officer of the government.^^ Despite 
 this general rule receivers, as officers of the court, may, where 
 they deem the property or income from the property in their 
 charge not subject to the tax as contended by collecting officials, 
 apply to the appointing court for instructions as to payment.^^ 
 It has been held that trustees liquidating a dissolving cor- 
 poration, under direction of the court as provided by the Gen- 
 eral Statutes of Connecticut^o are not officers of such court 
 and the court, under such circumstances, has no jurisdiction 
 to pass on the legality of an assessment of internal revenue 
 taxes or to issue an order restraining the assessment or col- 
 lection thereof.2i 
 
 Also despite this general rule, where the collector is acting 
 without statutory authority and in seeking to make an unwar- 
 ranted and premature distraint, his action will be enjoined as 
 an unlawful seizure of property where irreparable injury to 
 the assets of an estate would result, including the loss of all 
 benefit of a period of grace of 180 days given for the payment 
 of estate taxes.22 It has been held in a recent case that a suit 
 
 16 Dodge V. Osborn, 240 U. S. 118. 
 
 17 Gouge V. Hart, 250 Fed. 802, appeal dismissed for want of jurisdiction, 
 251 U. S. 542; Reg. 45, Art. 1037. 
 
 18 Reg. 45, Art. 1037. 
 
 19 Scott V. Western Pac. R. Co., 246 Fed. 545. See also U. S. v. Nebraska 
 Distilling Co., 80 Fed. 285. 
 
 20 §§ 3447 and 3448. 
 
 2lWillmann v. Walsh, Supreme Court of Errors of Conn., T. D. 3166, 
 T. B. 23-21-1679. 
 22 Polk V. Page, U. S. Dist. Court, Dist. of Rhode Island. 
 
852 FEDERAL INCOME TAX 
 
 may not be maintained to restrain the collection of taxes where 
 the tax has been assessed against a corporation, which the 
 alleged stockholders claim went out of existence many years 
 before by virtue of the limitation in its charter limiting its cor- 
 porate existence to 20 years. These stockholders claimed that 
 the assets of the corporation had been taken over by them as 
 partners and they had tendered a partnership return which had 
 been refused by the collector. The contention of the partners 
 was that the prohibition against suits .to restrain the collection 
 of taxes operates only against the party assessed, in this case, 
 the corporation. The court, however, held that the prohibition 
 was effective against all suits.^* 
 
 Time of Payment of Tax. Except as to any taxes paid at the 
 source, the income tax is ordinarily paid in four equal install- 
 ments.25 The first installment is paid at the time fixed by law 
 for filing the return, the second, third and fourth installments on 
 the 15th days of the third, sixth and ninth months respectively 
 following such date. There are now four due dates which are, 
 in the case of citizens and residents and resident foreign cor- 
 porations : 26 March 15, June 15, September 15 and December 15 
 in the case of taxpayers reporting on the basis of a calendar year, 
 and the 15th days of the third, sixth, ninth and twelfth months 
 following the close of the fiscal year of taxpayers reporting on 
 the basis of a fiscal year other than the calendar year.^'^ The 
 payment of the tax may be made at any time on such due dates. 
 If payment is made by mail the remittance should be mailed in 
 due time to reach the collector on the due date. To accommodate 
 those who make payments after closing time a mail box is pro- 
 vided at the cashier's window in the office of the local collector 
 for the deposit of such collections.^s 
 
 24Markle v. Kirkendall, 267 Fed. 498. 
 
 25 Under the 1916 Law, the Secretary, under rules and regulations pre- 
 scribed by him, was required to permit taxpayers to make payments in 
 advance in installments of an amount not in excess of the estimated taxes 
 which would be due from them, and upon determination of the taxes 
 actually due any amount paid in excess was refunded as taxes erroneously 
 collected. The Secretary might allow a credit against taxes so paid in 
 advance of an amount not exceeding the rate of S% per annum. (Act of 
 October 3, 1917 (Public No. 50), §1009; T. D. 2622.) 
 
 26 See p. 853. 
 
 27 Revenue Act of 1921, § 250 (a) ; Revenue Act of 1918, § 250 (a) ; T. 
 D. 3136, T. B. 11-21-1513. These provisions omit the ten-day period of 
 grace allowed under the former law. 
 
 28 T. D. 1728; Reg. 45, Art. 1007. 
 
ASSESSMENT AND PAYMENT OF THE TAX 853 
 
 Extension of Time for Payments. An unconditional exten- 
 sion of time for filing a return will postpone the date for pay- 
 ment of the first installment, but will not postpone the date of 
 payment of the other installments unless so specified in each 
 case.29 In case an extension is granted on request of the tax- 
 payer, interest at the rate of one-half of one per centum per 
 month is added to the installment from the date it would have 
 been due if no extension had been granted, that is, the original 
 due date, until the installment is paid.^o 
 
 Nonresident Aliens and Nonresident Foreign Cor- 
 porations. The time fixed by law for the filing of returns by 
 nonresident aliens and nonresident foreign corporations ^^ re- 
 porting on the calendar year basis is now June 15th ; and in the 
 case of such taxpayers reporting on the fiscal year basis the 
 time fixed for the filing of returns is the 15th day of the sixth 
 month following the close of the fiscal year.^^ Therefore, non- 
 resident aliens and nonresident (not resident) foreign corpo- 
 rations reporting on the calendar year basis will pay the tax 
 in four equal installments on June 16, September 15, December 
 15 and March 15 (of the second year after the year for which 
 the tax is paid). Nonresident aliens and nonresident foreign 
 corporations reporting on a fiscal year basis will pay the tax in 
 four equal installments on the 15th day of the sixth, ninth, 
 twelfth and fifteenth month following the close of such fiscal 
 year — which is at the time fixed by law for filing the return, and 
 on the 15th day of the third, sixth, and ninth month thereafter.^s 
 
 Effect of Failure to Pay Installment. The Revenue Act 
 of 1921, like the 1918 Law, provides that upon failure to pay 
 an installment on time, all of the tax remaining unpaid becomes 
 due and payable upon notice and demand.^* It has been held 
 that where a taxpayer pays on time only a part of an install- 
 ment it is the duty of a collector within a reasonable time to de- 
 mand of him the whole amount of the tax unpaid. This demand 
 
 2QEeg. 45, Art. 1001. 
 
 30 Revenue Act of 1921, §250 (a); Revenue Act of 1918, §250 (a). 
 
 31 The term "nonresident foreign corporation", as used in this chapter, 
 refers to foreign corporations with no office or place of business in the 
 United States; resident foreign corporations are foreign corporations 
 with such an office or place of business (See Revenue Act of 1918, §241 
 (a) ). , ' 1 i;i ri; 
 
 32 Revenue Act of 1921, §§227 (a) and 241 (a). 
 33 Revenue Act of 1921, §250 (a). 
 
 34 Revenue Act of 1921, § 250 (a) ; Revenue Act of 1918, § 250 (a) ; Reg. 
 45, Art. 1001. 
 
854 FEDERAL INCOME TAX 
 
 is the culminating act which makes the installment plan of pay- 
 ing the tax imperative. What is a reasonable time must be de- 
 termined by the facts and circumstances in each particular 
 case.ss Where a taxpayer filed a return of income on March 14, 
 1921, showing no tax due, but attached to the return a state- 
 ment disclosing the fact that during the year 1920 a profit had 
 been derived from the sale of capital assets, and immediately 
 after the United States Supreme Court decision holding such 
 profit to be income sent to the collector a check to be credited 
 as the first installment of his 1920 tax with interest accrued 
 through delay in payment, it has been ruled that the other in- 
 stallments may not be declared due and payable. Since his re- 
 turn disclosed no tax liability, it could not be held that he 
 failed to pay an installment of tax due.^^ 
 
 Advance Payment of Tax. Income taxes may at the option 
 of a taxpayer be paid in advance and in a single payment instead 
 of installments, in which case the total amount must be paid on 
 or before the time fixed by law for filing the return, or such time 
 as extended, to wit, March 15th or the 15th day of the third 
 month following the close of a fiscal year other than the calendar 
 year as the case may be.^^ 
 
 Assessment of Tax, When returns made under the 1918 Law 
 were received at the collectors' offices, they were examined and 
 listed before being forwarded to the Commissioner. If it ap- 
 peared that the tax was greater or less than shoAvn in the return, 
 it was recomputed. After checking the figures the Commis- 
 sioner assessed the tax on the basis of the collectors' lists. 
 The collectors then sent out bills for the taxes, either as com- 
 puted by the taxpayer or as recomputed. If a taxpayer be- 
 lieved that he had been overassessed, he might file a claim 
 for abatement or (after payment of the tax) for a refund of the 
 excess. As soon as practicable the returns were carefully audited 
 by accountants in the office of the Commissioner at Washington, 
 assisted where necessary by reports of the examination of tax- 
 payers' books and records made by revenue agents in the field. 
 If error in a return was detected, the taxpayer was notified ac- 
 cordingly and an additional assessment was made against him 
 or he was given the opportunity to file a claim for a refund, as 
 the case might be.^^ 
 
 35 Sol. Op. 77, T. B. 48-20-1326. 
 
 36 O. D. 961, T. B. 26-21-1709. 
 
 37 Revenue Act of 1921, § 250 (a) ; Revenue Act of 1918, § 250 (a) ; Reg. 
 45, Art. 1001. 
 
 38 Reg. 45, Art., 1012. 
 
ASSESSMENT AND PAYMENT OF THE TAX 855 
 
 This procedure, so far as it relates to recomputation and to 
 amounts paid in excess of tax liability, will be retained. If, 
 upon examination of a return by the Commissioner and recom- 
 putation of the tax and installments, the amount paid exceeds 
 what should have been paid on the basis of the installments as 
 recomputed, the excess so paid will be credited against subse- 
 quent installments ; and if the amount already paid exceeds the 
 correct amount of the tax such excess will be credited or re- 
 funded to the taxpayer in accordance with the rules set forth in 
 another chapter .^^ If, however, upon such examination of a re- 
 turn by the Commissioner, the tax appears to be greater than that 
 shown in the return the procedure adopted by the Revenue Act 
 of 1921 differs materially from that provided in the 1918 Law 
 and the practice adopted thereunder. Any such excess of the 
 amount due upon such recomputation over the amount already 
 paid is termed a "deficiency" by the Revenue Act of 1921. It 
 is to be noted that interest on this deficiency is payable at the 
 rate of one-half of one per centum. It is due on any such defi- 
 ciency from the time the tax was due, and such deficiency must 
 be paid upon notice and demand by the collector. Penalties 
 are provided with regard to such deficiency and a new pro- 
 cedure is adopted in the Revenue Act of 1921 for the notification 
 of the taxpayer of the amount thereof and an appeal (with 
 hearing) by him with regard to the amount of such proposed 
 additional tax. This subject is more fully discussed in subse- 
 quent paragraphs.^" 
 
 Notice and Demand for Tax. The law provides *i for five no- 
 tices and demands upon the taxpayer by the collector. The first 
 is a notice and demand for the whole amount of the tax unpaid, 
 upon default in the payment of any installment. The second is a 
 notice and demand for the difference between the amount of tax 
 computed in the taxpayer's return and the amount recomputed 
 by the Commissioner, termed "deficiency" under the present law. 
 The third is a notice and demand by the collector under a return 
 made pursuant to the revised statutes.*^ The fourth is a notice 
 and demand for any tax remaining unpaid after the date when 
 it is due, ten days after the making of which penalties and 
 interest begin to run. The fifth is the notice and demand im- 
 
 39 See Chapter 37. 
 
 40 See p. 863. 
 
 *l Revenue Act of 1918, §250; Reg. 45, Arts. 1001-1012. 
 42 R. S., §3176, as amended. 
 
856 FEDERAL INCOME TAX 
 
 puted to the taxpayer in respect of the first installment.*^ Under 
 these provisions the treasury department sent out notice and 
 demand (called "Satement of Tax Due") for the tax (Form 
 1123 taking the place of Form 1-17A) sufficiently in advance 
 of June 15, September 15 and December 15 (or the corespond- 
 ing dates in the case of taxpayers making returns on the basis 
 of fiscal years) , to give the taxpayer ten days' notice and demand 
 before each of such dates. In this manner, on the 15th days of 
 June, September and December, the tax is due and the taxpayer 
 has had a notice and demand by the collector ten days pre- 
 viously. If the required installment was not paid by such dates, 
 the penalties and interest provided by the law attached and 
 Form 1-21A was sent out.** In addition, the whole amount 
 of tax unpaid became due and payable upon a further notice 
 and demand by the collector in accordance with the first of the 
 above stated notices and demands. The second and third of 
 the above stated notices and demands both referred to an amount 
 of tax not computed by the taxpayer, but one computed by the 
 treasury department. The second notice and demand was for 
 a tax recomputed by the Commissioner after his examination 
 of the return. The third notice and demand was for a tax 
 assessed after a return made by a collector or the Commissioner 
 in accordance with the revised statutes. Both these notices and 
 demands were for additional taxes or for taxes computed by 
 the treasury department in the absence of any computation 
 by the taxpayer. In such cases, the ten-day period of grace 
 applied, or at least no penalties attached until the additional tax 
 had been demanded.*^ With regard to the first installment of the 
 tax ; the statute" provided that the instructions printed on the 
 return shall be deemed sufficient notice of the date when the tax 
 is due, and sufficient demand, and the taxpayer's computation of 
 the tax on the return shall be deemed sufficient notice of the 
 amount due.*^ If a return was filed without payment of at 
 
 43 See T. D. 3136, T. B. 11-21-1513. The first three notices and demands 
 are covered respectively by subdivisions (a), (b) and (c) ; the fourth and 
 fifth by subdivision (e) of § 250. 
 
 4*T. D. 2840; M. 2784, T. B. 22-21-1666. 
 
 45 See "Notice and Demand for Tax" (Form 1-17) and "Second Notice 
 and Demand for Tax" (Form 1-21), used under the 1918 Law. 
 
 46 Reading this provision in connection with the first sentence of sub- 
 division (e) of § 250, it may be argued that on March 15th the taxpayer 
 has had sufficient notice of the date when the tax is due (March 15th) and 
 of the amount of tax due, and also sufficient demand; that by virtue of the 
 first sentence of subdivision (e) the taxpayer has ten days after such de- 
 mand within which to pay the tax without penalty. On the other hand, 
 
ASSESSMENT AND PAYMENT OF THE TAX 857 
 
 least one-fourth of the tax shown by the return to be due, it 
 was the practice under the 1918 Law to send a notice to the 
 taxpayer covering the correct amount of the first installment, 
 which carried interest from the date on which the return should 
 have been filed up to date on which payment was made. Such 
 taxpayer was also sent a notice and demand for the second, 
 third and fourth installments, and an additional notice and de- 
 mand if the total was not paid within ten days. Such tax- 
 payer lost the privilege of paying the tax in installments.*''^ 
 
 Changes Made By 1921 Law. The present law provides for 
 the notices and demands enumerated in the preceding para- 
 graph.^s II contains the provision for notice and demand in the 
 case of the first installment and provides that in the case of the 
 second, third and fourth installments the collector may, within 
 30 days, and not later than 10 days, before each such installment 
 becomes due, mail to the taxpayer notice of the amount of the 
 installment and the date on which it is due for payment, which 
 notice of the collector will be deemed sufficient notice and de- 
 mand.*^ This provision puts the practice of the department 
 under the 1918 Law into the statute and insures the incidence 
 of penalties and interest from the due date of each installment. 
 The notice and demand required for the payment of any defi- 
 ciency (the second notice and demand referred to in the preced- 
 ing paragraph) must, where the delay will jeopardize the col- 
 lection of tax, await the determination of the hearing and appeal 
 accorded to the taxpayer upon the determination that he owes 
 any tax not paid or any deficiency.^'' 
 
 Service of Notice and Demand. Notice and demand may 
 lawfully be given by mail and when so given is presumed to have 
 been received. The burden rests on the taxpayer to prove the 
 
 it may be argued that the words "sufficient demand" are intended as to 
 the first installment to be paramount in effect, to the first sentence of sub- 
 division (e) ; that is, that the instructions printed on the return constitute 
 sufficient demand in the case of the first installment and that the taxpayer 
 has not ten days after demand within which to pay the tax. The former 
 of these interpretations would make the first due date March 25th, and the 
 latter March 15th. The former seems to be a more reasonable interpre- 
 tation of the language, and the latter to be more consistent with the 
 statute in general. 
 
 47 0. D. 233, T. B. 12-19-408. 
 
 48 It also provides for a notice and demand for the payment of interest 
 and penalties (§ 250 (b) ) . 
 
 49 Revenue Act of 1921, §250 (e). 
 
 50 See Revenue Act of 1921, §250 (d). 
 
858 FEDERAL INCOME TAX 
 
 contrary in order to avoid the penalty .si The time within which 
 the tax must be paid runs from the date of mailing the notice and 
 not of its receipt by the taxpayer.52 The practice of the depart- 
 ment in such cases has been to permit the taxpayer to show, to 
 the satisfaction of the Commissioner, that he did not receive the 
 notice, and upon such showing to give the taxpayer an opportu- 
 nity to pay his taxes without penalty. The record of the collector 
 showing that notice had been duly mailed is considered merely as 
 prima facie evidence that the notice was received.^^ The date 
 appearing on the notice and demand, as the last date on which the 
 tax may be paid without penalty, should be a date ten days sub- 
 sequent to the actual mailing of the notice and not necessarily ten 
 days from the date of the notice. The date of mailing controls.^* 
 
 Notice and Demand to Absentees. By reason of absence 
 from their homes or places of business in foreign countries or in 
 the military or other service of the country and the consequent 
 delay in receiving mail, or by reason of the location of the resi- 
 dence of an individual or of the office of a corporation to which 
 the notice was addressed at a distance from the collector's office, 
 it is impossible for many persons to receive a notice and demand 
 and to make payment of the tax so that such payment may be 
 received by the collector within the ten-day period following the 
 service of notice and demand. In all such cases it has been the 
 practice for the collector to enter on the notice as the date on 
 which the tax becomes due and payable a date as nearly as possi- 
 ble ten days after the time that the notice should be received in 
 the ordinary course of the mails by the taxpayer. In such cases 
 when it appears that a remittance for the tax was placed in the 
 mails within the ten-day period after the date specified in the 
 notice, and in cases where tardiness is occasioned because the 
 notice was not delivered in due time by reason of delay in the 
 mail and satisfactory evidence of that fact is furnished, the pen- 
 alty and interest will not be collected.^s 
 
 Additional Assessment Under 1918 and Prior Laws Prior to 
 Enactment of Present Law. The 1916 Law provided^" that "in 
 cases of refusal or neglect to make a return and in cases of erro- 
 neous, false, or fraudulent returns, the Commissioner shall, upon 
 
 51 U. S. V. General Inspection and Loading Co., 204 Fed. 657; Reg. 45, 
 Art. 1007. 
 
 52 Reg. 45, Art. 1007. 
 
 53 L T. S. 1917, TI2268; Reg. 45, Art 1007. 
 5i T. D. 1659. 
 
 55 Reg. 45, Art. 1007. 
 
 56 Revenue Act of 1916, §§ 9 (a), 14 (a). 
 
ASSESSMENT AND PAYMENT OF THE TAX 859 
 
 the discovery thereof, at any time within three years after the 
 return is due, or has been made, make a return upon information 
 obtained as provided for in the law, or require the necessary cor- 
 rections to be made, and in such cases the assessment made by 
 the Commissioner thereon shall be paid by the taxpayer imme- 
 diately upon notification of the amount of such assessment."^'' 
 The same law provided c^s "jf any person * * * fails to 
 make and file a return or list at the time prescribed by law, or 
 makes, willfully or otherwise, a false or fraudulent return or list, 
 the collector or deputy collector shall make the return or list 
 from his own knowledge and from such information as he can 
 obtain through testimony or otherwise. Any return or list so 
 made and subscribed by a collector or deputy collector shall be 
 prima facie good and sufficient for all legal purposes. * * * 
 The Commissioner of Internal Revenue shall assess all taxes, 
 other than stamp taxes, as to which returns or lists are so made 
 by a collector or deputy collector." The duplication and conflict 
 of these provisions were removed by the Revenue Act of 1918. 
 It was provided by that law :5^ "If any person * * * f^ils 
 to make and file a return or list at the time prescribed by law 
 or by regulations made under authority of law, or makes, will- 
 fully or otherwise, a false or fraudulent return or list, the col- 
 lector or deputy collector shall make the return or list from his 
 own knowledge and from such information as he can obtain 
 through testimony or otherwise. In any such case the Commis- 
 sioner may from his own knowledge and from sibch information 
 as he can obtain through testimony or otherwise, make a return 
 or amend any return made by a collector or deputy collector. 
 Any return or list so made and subscribed by the Commissioner 
 or by a collector or deputy collector and approved by the Com- 
 missioner, shall be prima facie good and sufficient for all legal 
 
 57 The usual ten day period of grace, however, applied to such assess- 
 ments as well as to the regular assessments. 
 
 58 R. S., § 3176, as amended by the Revenue Act of 1916. Although the 
 Commissioner had power summarily to assess the tax upon discovery of 
 income which had not been reported, yet if such discovery was made prior 
 to the day on which the tax was due (June 15th or in the case of the cor- 
 porations filing for their fiscal year 165 days after the closing of the fiscal 
 year) the tax could not be summarily assessed but might be paid at any 
 time before the regular due date vrith an additional period of ten days 
 of grace. (T. D. 2003.) Where a summary assessment was made after the 
 regular due date, the tax was diie immediately upon notice and demand 
 given by the collector. (Reg. 33, Arts. 177 and 184.) 
 
 59 R. S., § 3176, as amended by the Revenue Act of 1918. The amend- 
 ment of this section by the Revenue Act of 1921 is of no consequence. 
 
860 FEDERAL INCOME TAX 
 
 purposes. * * * The Commissioner of Internal Revenue shall 
 determine and assess all taxes other than stamp taxes, as to 
 which returns or lists are so made under the provisions of this 
 section." The Revenue Act of 1918 also provided^" that "except 
 in the case of false or fraudulent returns with intent to evade 
 the tax, the amount of tax due under any return shall be deter- 
 mined and assessed by the Commissioner within five years after 
 the return was due or was made, and no suit or proceeding for the 
 collection of any tax shall be begun after the expiration of five 
 years after the date when the return was due or made. In the 
 case of such false or fraudulent returns, the amount of tax due 
 may be determined at any time after the return is filed, and the 
 tax may be collected at any time after it becomes due." In ad- 
 dition to removing the inconsistency of the two sections provid- 
 ing for summary assessment, the two last quoted provisions make 
 three changes in the law. In the first place, the rule that the 
 limitation of time was upon the discovery of the error by the 
 Commissioner and not upon the making of the additional assess- 
 ment, ^^ was changed, and the limitation fixed upon the making 
 of the assessment.^2 jn the second place, the limitation itself 
 was extended from three to five years.^^ In the third place, the 
 limitation which was held formerly to apply only to summary 
 assessments 8^ was now expressly made also applicable to "suits 
 or proceedings for the collection of any tax."^^ Additional as- 
 sessment might still be made where the erroneous return was 
 due to an honest mistake, and where the mistake was not dis- 
 covered until after the tax had been assessed and paid in the 
 regular course.^^ 
 
 Five-Year Limitation on Summary Assessment. The 1916 
 Law authorized the Commissioner to make a summary assess- 
 
 60 Revenue Act of 1918, §250 (d). 
 
 61 Eliot Nat. Bank v. Gill, 210 Fed. 933, affirmed 218 Fed. 600. 
 
 62 Revenue Act of 1918, §250 (d). 
 
 83 Compare Revenue Act of 1918, §250 (d) with Revenue Act of 1916 
 §§9 (a) and 14 (a). 
 
 64 U. S. V. Minneapolis Threshing Mach. Co., 220 Fed. 1019. 
 
 65 Revenue Act of 1918, §250 (d). Compare this section with Revenue 
 Act of 1916, §§ 9 (a) and 14 (a). Sol. Op. 79, T. B. 49-20-1337. 
 
 66 Eliot National Bank v. Gill, 218 Fed. 600; Woods v. Lewellyn, 252 
 Fed. 106. The same words "false or fraudulent" were still used in R. S., 
 § 3176, as amended by the Revenue Act of 1918, which were held in the 
 above cases to include returns honestly incorrect and thus to give the Com- 
 missioner power to make summary assessments when such returns had 
 been filed. They are still used in R. S., § 3176, as amended by the Revenue 
 Act of 1921. 
 
ASSESSMENT AND PAYMENT OF THE TAX 861 
 
 merit of the tax on undisclosed income, if the discovery was made 
 within three years after the return in which such income should 
 have been reported was due.^'^ The assessment was not required 
 to be made within three years, so long as the discovery was made 
 within that time.^^ The three years' limitation in this provision 
 was not a limitation upon the right of the government to sue for 
 unpaid taxes, but was at most a limitation upon the right of the 
 collecting officers to make assessment and enforce the payment 
 by the summary statutory proceeding.®^ This three-year limita- 
 tion was held still applicable after the enactment of the Revenue 
 Act of 1918 to additional assessments made under the 1909, the 
 1913 and the 1916 Laws.™ It might be waived by a formal state- 
 ment or the filing of amended returns which were held in effect 
 such a waiver. By the Revenue Act of 1918 the period of limita- 
 tion was made five years as to taxes assessed under the Revenue 
 Act of 1918 ; the limitation was upon the making of the assess- 
 ment, and was applicable to the right of the government to sue 
 as well as to make summary assessment.''^ The limitation did not 
 
 67 Revenue Act of 1916, §§ 9 (a) and 14 (a). 
 
 68 Eliot National Bank v. Gill, 218 Fed. 600; O. D. 234, T. B. 12-19-409; 
 Sol. Op. 60, T. B. 36-20-1189; Sol. Op. 92, T. B. 13-21-1534; Sol. Op. 79, 
 T. B. 49-20-1337. While the government was fully authorized under the 
 1916 Law to recover taxes by suit upon discovery of liability to original 
 or additional tax after the three-year period, the treasury department 
 preferred that the collection should be made in the ordinary statutory 
 method, that is, as a result of a formal assessment. In order that this 
 might be done, taxpayers were requested to make amended returns and 
 to execute waivers of the three-year statutory limitation. In executing 
 such waiver, the taxpayers forfeited none of their rights and assumed no 
 liability to any penalty that might not have been enforced against them 
 in the absence of such waiver. If the taxpayer, against whom an additional 
 tax liability was discovered formally accepted the findings of the examining 
 officer and agreed voluntarily to pay the tax, this amounted to a waiver 
 and neither amended returns nor waivers were required. (Mimeograph 
 Letter to Collectors, No. 1192.) There was apparently no objection to a 
 taxpayer signing a waiver where additional tax liability was discovered 
 after the expiiration of the three-year period, providing he did not ques- 
 tion the legality of the assessment. The result of signing a waiver was 
 to compel him to pay the tax under protest and sue for its recovery, while 
 if a waiver was not signed, the government became the plaintiff in an 
 action to collect such tax. Where the limitation of the statute as to assess- 
 ment had run and a written waiver of exemption from assessment was 
 given by the taxpayer, the ad valorem penalty of 50% addition to tax, 
 was not assessed for delinquency in filing a return. (Reg. 33 Rev., Art. 52) . 
 
 69 U. S. v. Grand Rapids & Indiana Ry. Co., 239 Fed. 153 ; Sol. Op. 79, 
 T. B. 49-20-1337. 
 
 70 This period has been extended by the present law. See p. 862. 
 
 71 Sol. Op. 79, T. B. 49-20-133.7. But there is now a limitation on the 
 
862 FEDERAL INCOME TAX 
 
 apply, under the 1918 Law, in the case of false or fraudulent re- 
 turns with intent to evade the taxJ^ 
 
 Computation of Period. In computing the five year period, 
 March 15, the date on which the returns should have been filed, 
 or were filed in due course, should be excluded. The more modern 
 general rule'^s in the interpretation of statutes, where time is to 
 be computed from a particular day, is to exclude the day thus 
 designated and to include the last day of the specified period.'^* 
 It has been held under the 1916 Law that an extension of time 
 granted by the Commissioner to taxpayers for filing their income 
 returns operates to shift the due date for filing returns to the 
 expiration of the period of extension and the three-year limita- 
 tion begins to run from the due date as thus shifted.'^^ 
 
 Additional Assessments; Rules Established by Present Law. 
 Extensive changes have been made by the Revenue Act of 1921 
 in the rules discussed in the foregoing paragraph. The provi- 
 sions of the present law may be summarized as follows : 
 
 (1) The statute of limitations upon the making of assess- 
 ments for any tax due under any return made under the 1921 
 Law is reduced to four years, the period of limitation upon suits 
 or proceedings for the collection of taxes under the 1918 Law 
 being kept at five years. 
 
 (2) The statute of limitations upon suits or proceedings for 
 the collection of taxes due under any return made under the 
 1918 Law is retained at five years ; and it is also extended to all 
 prior income tax laws, and the 1909 Law. As to these laws prior 
 to the 1918 Law there had formerly been no limitation upon suits. 
 
 (3) The statute of limitations of five years upon the making 
 of assessments for any tax due under any return made under the 
 1918 Law, first introduced in the 1918 Law and not formerly 
 applicable to taxes due under any return made under any other 
 law, is made applicable to taxes due under any return filed under 
 all income, excess-profits and war-profits tax laws, as well as the 
 1909 Law, unless both the Commissioner and the taxpayer con- 
 sent in writing to a later determination, assessment and collec- 
 tion of the tax ; the period of limitation upon the making of such 
 assessments of taxes due under laws prior to the 1918 Law hav- 
 
 right to sue for taxes due under the 1916 Law, as well as the right to 
 make assessments. 
 
 72 Revenue Act of 1918, § 250 (d) . 
 
 73 McCullough V. Hopper, 47 N. J. L. 189. 
 
 74 Eliot National Bank v. Gill, 218 Fed. 600; National Bank of Com- 
 merce V. Allen, 223 Fed. 472. 
 
 73 Sol. Op. 92, T. B. 13-21-1534. 
 
ASSESSMENT AND PAYMENT OF THE TAX 863 
 
 ing formerly been three years, but being applicable to the dis- 
 covery of error rather than the assessment of additional tax.™ 
 
 (4) The statutory periods upon the making of assessments 
 do not apply in the case of (a) a false or fraudulent return with 
 intent to evade tax, (b) the failure to file a required return, (c) 
 where tax must be assessed on the final determination of amorti- 
 zation deductions, and (d) where taxes must be assessed upon a 
 final determination of losses and other deductions tentatively al- 
 lowed pending a determination of the exact amount deductible; 
 the amount of tax or deficiency in any of these cases being assess- 
 able and collectible at any time, subject to the right of the tax- 
 payer to a hearing and appeal.'^'' 
 
 Income Received During Lifetime of a Decedent. The 
 Revenue Act of 1921 also provides that in the case of income 
 received during the lifetime of a decedent all taxes due thereon 
 shall be determined and assessed within one year after written 
 request therefor by the executor, administrator, or other fidu- 
 ciary representing the estate of such decedent.''''^ 
 
 Right of Taxpayer to Appeal. The term "deficiency," as used 
 in the present law, refers to any amount of tax found by the 
 Commissioner to be due in excess of that paid by -the taxpayer 
 and not carried by any credits to which the taxpayer is entitled. 
 The Revenue Act of 1921 contains an important new provision 
 that if upon examination of a return made under the Revenue 
 Act of 1916, the Revenue Act of 1917, the Revenue Act of 1918, 
 or this act, a tax or a deficiency in tax is discovered, the tax- 
 payer shall be notified thereof and given a period of not less than 
 30 days after such notice is sent by registered mail in which to 
 file an appeal and show cause or reason why the tax or deficiency 
 should not be paid. Opportunity for hearing will be granted and 
 a final decision thereon must be made as quickly as practicable. 
 Any tax or deficiency in tax then determined to be due will be 
 
 76 It is well that all statutes should run from the making of a return 
 to the making of the assessment rather than to the discovery of error. The 
 time when discovery is made is not always easy to fix, and is peculiarily 
 within the knowledge of the party against whom the statute would run. 
 It seems doubtful, however, whether Congress may revive the power of 
 the Commissioner to make assessments under the 1916 Law in cases in 
 which the discovery was not made within three years, but in which five 
 years have not run since the making of a return. The power to impose 
 a retroactive tax would not seem to support such a provision. However, 
 the government still has the power to sue in such cases, and may impose a 
 limitation of time upon that power. 
 
 7T Revenue Act of 1921, § 250 (d) . 
 
 77a Id. 
 
864 FEDERAL INCOME TAX 
 
 assessed and paid, together with the penalty and interest, if any, 
 applicable thereto, within 10 days after notice and demand by 
 the collector, and in such cases no claim in abatement of the 
 amount so assessed will be entertained. This provision does not 
 apply if the Commissioner believes that the collection of the 
 amount due will be jeopardized by such delay and in such case he 
 may make the assessment without giving such notice or awaiting 
 the conclusion of such hearingjs 
 
 Final Determinations and Assessments. Another new pro^ft- 
 sion introduced by the Revenue Act of 1921 is the provision th^t 
 if after a determination and assessment in any case the taxpayer 
 has without protest paid in whole any tax or penalty, or accepted 
 any abatement, credit, or refund based on such determination 
 and assessment, and an agreement is made in writing between 
 the taxpayer and the Commissioner, with the approval of the 
 secretary, that such determination and assessment shall be final 
 and conclusive, and that (except upon a showing of fraud or 
 malfeasance or misrepresentation of fact materially affecting the 
 determination or assessment thus made) (1) the case shall npt 
 be reopened or the determination and assessment modified by 
 any officer, employee, or agent of the United States, and (2) no 
 suit, action, or proceeding to annul, modify, or set aside such 
 determination or assessment shall be entertained by any court 
 of the United States.™ 
 
 Administrative Review. It is provided by the Revenue Act of 
 1921 that in the absence of fraud or mistake in mathematical 
 calculation, the findings of facts in and the decision of the Com- 
 missioner upon (or in case the secretary is authorized to approve 
 the same, then after such approval) the merits of any claim pre- 
 sented under or authorized by the internal revenue laws shall not 
 
 78 Revenue Act of 1921, §250 (b), (d). The purpose of this provision 
 is to prevent additional assessments made with complete knowledge of all 
 the facts in the case, to hasten the work of audit and examination and to 
 secure prompt departmental decisions in which all questions shall be set- 
 tled at the same time. (Report of Senate Finance Committee on Internal 
 Revenue Bill of 1921, p. 20). 
 
 'i'O Revenue Act of 1921, § 1312. This provision is explained by t'he 
 Senate Finance Committee (Report of Finance Committee on Internal Rev- 
 enue Bill of 1921, p. 31) as follows: "Under the present method of pro- 
 cedure a taxpayer never knows when he is through, as a tax case may 
 be opened at any time because of a change in ruling by the treasury depart- 
 ment. It is believed that this provision will tend to promote expedition in 
 the handling of tax cases and certainty in tax adjustment." 
 
ASSESSMENT AND PAYMENT OP THE TAX 865 
 
 be subject to review by any other administrative officer, em- 
 ployee, or agent of the United States-^" 
 
 Extension of Time for Payment of Tax. The Revenue Act of 
 1918 gave the Commissioner no power to extend the time for 
 payment of any tax, even in cases where it was manifestly to 
 the interest of the government, as well as the taxpayer, to grant 
 such an extension. The recent period of depression has strikingly 
 emphasized the need of such a provision, and the Revenue Act 
 of 1921, recognizing the defect of the previous law in this respect, 
 provides that in the case of any "deficiency" (except where the 
 deficiency is due to negligence or to fraud with intent to evade 
 tax) where it is shown to the satisfaction of the Commissioner 
 that the payment of such deficiency would result in undue hard- 
 ship to the taxpayer, the Commissioner may, with the approval 
 of the secretary, extend the time for the payment of such defi- 
 ciency or any part thereof for such period not in excess of 18 
 months from the passage of the Revenue Act of 1921 (November 
 23, 1921) as the Commissioner may determine. In such case the 
 Commissioner may require the taxpayer to furnish a bond with 
 sufficient sureties conditioned upon the payment of the deficiency 
 in accordance with the terms of the extension granted. There 
 will be added in lieu of other interest provided by law, as a part 
 of such deficiency, interest thereon at the rate of two-thirds of 
 1% per month from the time such extension is granted; except 
 where such other interest provided by law is in excess of interest 
 at the rate of two-thirds of 1% per month. If the deficiency or 
 any part thereof is not paid in accordance with the terms of the 
 extension granted, there shall be added as part of the deficiency, 
 in lieu of other interest and penalties provided by law, the sum 
 of 5% of the deficiency and interest on the deficiency at the rate 
 of 1% per month from the time it becomes payable in accordance 
 with the terms of such extension.^i 
 
 The extension will be granted only in case the taxpayer estab- 
 lishes to the satisfaction of the Commissioner that without such 
 extension undue hardship will result to the taxpayer. The term 
 "undue hardship" means more than an inconvenience to the tax- 
 payer. It is defined as meaning that substantial financial loss or 
 sacrifice will result to the taxpayer from making payment of the 
 deficiency at the due date. This provision of the statute is ap- 
 
 80 Revenue Act of 1921, § 1313. 
 
 81 Revenue Act of 1921, § 250 (f ) as to the acceptance of United States 
 bonds or notes at par in connection with the above bond; see Revenue Act 
 of 1921, § 1329. 
 
866 FEDERAL INCOME TAX 
 
 plicable only to deficiences in taxes which have accrued or may 
 accrue under the Revenue Act of 1917, the Revenue Act of 1918, 
 or the Revenue Act of 1921, and the deficiency referred to is only 
 such deficiency in tax as is revealed on the examination of an 
 income or profits tax return. It has no application to deficiencies 
 in taxes other than deficiencies in income and profits taxes under 
 the three acts named. Any application for the extension must 
 be made under oath on Form 1127 in accordance with instruc- 
 tions printed thereon and must be accompanied by evidence show- 
 ing that undue hardship to the taxpayer would result if the ex- 
 tension were refused. The extension will not be granted on a 
 general statement of hardship, but in each case there must be 
 furnished a statement of the specific facts showing what, if any, 
 financial loss or sacrifice will result if the extension is not 
 granted. The application, with the evidence, must be filed with the 
 collector who will at once transmit it to the Commissioner with 
 his recommendations as to the extension. When it is received 
 by the Commissioner it will be examined and within thirty days 
 either rejected or tentatively approved. The application should, 
 wherever practicable, contain a certified statement of assets and 
 liabilities of the taxpayer. Where the application is tentatively 
 approved and a bond is required it must be filed with the collector 
 within ten days after the notification by the Commissioner that 
 a bond is required. It must be conditioned for the payment of 
 the deficiency and applicable penalties, if any, and interest in 
 accordance with the terms of the extension to be granted, and 
 must be executed by a surety company holding a certificate of 
 authority from the Secretary of the Treasury as an acceptable 
 surety on federal bonds and will be subject to the approval of the 
 Commissioner.82 
 
 Interest on Delinquent Taxes. The Revenue Act of 1921 makes 
 an important change in existing law with regard to interest on 
 delinquent taxes. Under the 1918 Law interest did not usually 
 begin to run upon an additional assessment until ten days after 
 notice and demand for the payment thereof .^s But under the 
 
 82 Revenue Act of 1921, §250 (h), T. D. 3263. Form 1127 has not yet 
 
 been issued. 
 
 83 In the latest edition of article 1001 of Regulations 45, the department 
 asserted the right to collect interest upon additional tax even in cases in 
 which (1) no extension of time was granted, (2) no negligence (without 
 intent to defraud) on the part of the taxpayer was shown, and (3) \(rhen 
 a claim for loss in inventory values was denied. This was hardly justified 
 by the Revenue Act of 1918 which provided for the running of interest 
 (1) where an extension was granted, (2) where there was such negligence, 
 
ASSESSMENT AND PAYMENT OF THE TAX 867 
 
 present law, which terms an additional assessment a "deficiency," 
 interest on an additional assessment runs at the rate of 6% 
 per annum "from the time the tax was due (or, if paid on the 
 installment basis, on the deficiency of each installment from the 
 time the installment was due)."^* With this exception the in- 
 terest provisions of the present law and the 1918 Law are largely 
 the same. Where the time for the payment of any installment 
 of the tax is postponed at the request of the taxpayer, interest 
 at the rate of 6% per annum is added from the original due 
 date.ss If an understatement of the tax in the return is due to 
 the negligence "or the intentional disregard of authorized rules 
 and regulations with knowledge thereof," of the taxpayer, but 
 without intent to. defraud, interest at the rate of 12% per an- 
 num is added to the amount of the deficiency of each installment 
 from the time the installment was due, which interest becomes 
 due on notice £tnd demand.^s jf a^y ^ax remains due and unpaid 
 for ten days after notice and demand by the collector, or in the 
 case of the first installment as computed by the taxpayer remains 
 due and unpaid for ten days, interest at the rate of 12% per 
 annum is added from the due date, except that the interest on 
 any amount which is the subject of a bona fide claim for abate- 
 ment filed within ten days after notice and demand, where the 
 taxpayer has not had a hearing and a decision on an appeal, is at 
 the rate of 6 % per annum, and except that no interest is added in 
 the case of estates of insane, deceased or insolvent persons.^'' 
 Under the 1918 Law interest was to be added in all cases in which 
 the demand of payment was made of the taxpayer personally, 
 although he subsequently died, or became insane or insolvent, 
 so that collection of the tax was made from his estate in the 
 
 and (3) where such a claim was denied. Rather, the statute prescribed 
 (at a point where such interest should have been provided for) that if 
 an understatement "is not due to any fault of the taxpayer, there shall 
 be no penalty". This provision is omitted from the 1921 Law, and it is 
 clear that under that law interest runs from the original due date in all 
 cases of additional taxes, or deficiencies. 
 
 84 Revenue Act of 1921, §250 (b). This provision is natural in view 
 of the new provision of the 1921 Law that interest may be recovered from 
 the government in certain cases. (Revenue Act of 1921, §1324). See 
 Chapter 37. 
 
 83 Revenue Act of 1921, § 250 (a) ; Reg. 45, Art. 1003. 
 
 86 Revenue Act of 1921, § 250 (b) ; Reg. 45, Art. 1003. The quoted 
 words were added by the 1921 Law, but represent the departmental 
 definition of "negligence" made under the 1918 Law. 
 
 87 Revenue Act of 1921, § 250 (e) ; Reg. 45, Art. 1003. The provision 
 for a hearing and appeal are discussed on page 863. 
 
868 FEDERAL INCOME TAX 
 
 hands of his representative.ss Under the 1918 Law permitting 
 the deduction of losses in inventory, if such a loss or any part 
 thereof claimed was disallowed, interest from the original due 
 date at the rate of 12% per annum was added to the tax not 
 abated.s^ When it was found upon filing a complete return that 
 the first installment of tax was underestimated at the time of 
 filing a tentative return under the 1918 Law, interest on the 
 amount by which the tax was underestimated was collected, 
 irrespective of amount.^" Where interest was collectible at the 
 rate of 1 % per month from the due date, interest was collected 
 for the fractional part of a month, where the tax is not paid 
 within 10 days from notice and demand for payment.^^ No 
 interest was collectible on the difference between the amount of 
 tax paid on the basis of an original return and that shown to 
 be due by an amended return if the understatement in the orig- 
 inal return was not due to negligence of the taxpayer.^^ n ^ag 
 been ruled by the treasury department that interest collectible 
 upon the amount of tax due and unpaid ten days after notice and 
 demand by the collector should be computed only upon the 
 amount of tax shown by the return to be due and not upon the tax 
 plus the five per cent, penalty.^* The interest provisions of the 
 Revenue Act of 1918 did not apply to taxes for prior years.^* 
 
 Suits for Collection of Taxes. Prior to the Revenue Act of 
 1918 none of the statutes of limitations, such as the limitation 
 of three years as to summary assessments contained in the vari- 
 ous income tax laws, was applicable to suits by the United States 
 to recover unpaid taxes or the balance of any unpaid tax, but at 
 most was a limitation upon the right of collecting officers to 
 make assessments and to enforce the tax by summary statutory 
 proceedings.95 This rule was changed by the Revenue Act of 
 1918 and the statute of limitation of five years was made ap- 
 plicable by that law to suits, as well as assessments.®^ As to 
 
 88 Reg. 45, Art. 1003. No reason appears for a change in this rule under 
 the 1921 Law. 
 
 89 Reg. 45, Art. 1003. 
 
 80 0. D. 74, T. B. 1-19-106. 
 
 91 0. 884, T. B. 13-19-426. 
 
 92 O. D. 691, T. B. 42-20-1251. This rule is not changed as stated at 
 the beginning of this paragraph. 
 
 93 0. D. 725, T. B. 45-20-1298. The correctness of this ruling may be 
 doubted, since the statute states that the 5% penalty "shall be added as 
 part of the tax". 
 
 94 0. D. 798, T. B. 6-21-1437. 
 
 95 U. S. V. Minneapolis Threshing Machine Co., 229 Fed. 1019. 
 
 96 Revenue Act of 1918, §250 (d) ; Sol. Op. 79, T. B. 49-20-1337; 0. 
 883, T. B. 4-19-235. 
 
ASSESSMENT AND PAYMENT OF THE TAX 869 
 
 taxes which have accrued under the 1916 Law and prior laws the 
 government, prior to the enactment of the Revenue Act of 1921, 
 might bring suit, without limitation as to time, whether the taxes 
 in question had been assessed or not, and whether or not they 
 were assessable. The only qualification upon this right to resort 
 to a plenary suit in the absence of an assessment was that the 
 tax must be ascertainable and determinable, on evidence, by a 
 court, and a tax of fixed percentage on a subject or object which 
 was so definitely described in the statute that its amount or value 
 could be so ascertained or determined, might be recovered in an 
 action though it had never been fixed, by an assessment. The 
 action by the government to recover unpaid taxes took the form 
 of indebitatus assumpsit, or a common-law action of debt,^'^ and 
 was brought in the name of the United States in the district 
 within which the liability to the taxes was incurred or where the 
 party from whom the taxes were due resided at the time of the 
 commencement of the action. Interest on the taxes sued for runs 
 from the time the taxes were due.^^ According to practice no 
 suit for the recovery of unpaid taxes or of any fine, penalty or 
 forfeiture was commenced until the collector had submitted 
 to the Commissioner a full report of all material facts and cir- 
 cumstances in the case and received from him express authority 
 to proceed.99 The fact that an additional assessment of taxes 
 due for 1915 was barred by the statute of limitations was held 
 to have no bearing on a claim for the abatement of 1916 taxes. 
 While the law provided that no sums may be paid from the 
 treasury to any person indebted to the United States, this pro- 
 vision did not apply to the abatement of taxes erroneously 
 assessed for any year, and the government was obliged to pursue 
 its remedy of a suit for the recovery of any amount's due in 
 1915, as it was not justified in collecting taxes for 1916 which 
 were not due for that year.^o" The five-year period of limitation 
 upon governmental suits to recover taxes (as distinguished from 
 assessments first imposed by the Revenue Act of 1918 only as to 
 taxes collectible under that law, is now made applicable to the 
 collection by suit of taxes due under all income, excess-profits, or 
 
 97 U. S. V. Nashville, etc., Ry. Co., T. D. 2697; U. S. v. Grand Rapids, 
 etc., Ry. Co. (and cases cited) 239 Fed. 153; U. S. v. Minneapolis Thresh- 
 ing Mach. Co., 229 Fed. 1019; Dollar Savings Bank v. U. S., 19 Wall. 
 227, 86 U. S. 227; King v. U. S., 99 U. S. 229; U. S. v. Chamberlin, 219 U. 
 S. 250 ; U. S. V. Little Miami Co., 1 Fed. 700. 
 
 98 U. S. V. Erie R. R., 106 U. S. 327. 
 89 Reg. 45, Art. 1008. 
 
 100 A. R. M. 56, T. B. 23-20-984. 
 
870 FEDERAL INCOME TAX 
 
 war-profits tax acts, as well as the 1909 Law, which was not 
 an income tax act, except as to suits or proceedings begun at the 
 time of passage of the Revenue Act of 1921. This statutory 
 period does not apply (1) in the case of a false or fraudulent 
 return with intent to evade tax, (2) in the case of a failure to 
 file a required return, and (3) in the case of tax due on account 
 of amortization deducted by the taxpayer and later disallowed, 
 and (4) in the case of tax due on the final settlement of losses 
 and other deductions tentatively allowed by the Commissioner 
 pending a determination of the exact amount deductible."! 
 
 Suits Against Former Residents Now Abroad. Where a 
 former resident of the United States now residing in British 
 Columbia fails to file his return for 1918 and refuses to file a 
 return upon demand of the American consul in that country, 
 the Commissioner should make a return for him from such 
 information as he can obtain, and if no property is found in this 
 country which will satisfy the tax due, but a judgment for the 
 amount of tax due could be satisfied out of property held by the 
 taxpayer in British Columbia, recourse may be had in the courts 
 of that country for the collection of the tax.io^ 
 
 Lien for Unpaid Taxes. If any person liable to pay any tax 
 neglects or refuses to pay the same after demand, the amount is 
 a lien in favor of the United States from the time when the 
 assessment-list was received by the collector, except when other- 
 wise provided, until paid, with the interest, penalties, and costs 
 that may accrue in addition thereto, upon all property and rights 
 to property belonging to such person.i^s in any case where there 
 has been failure to pay the tax and it has become necessary to 
 seize and sell real estate to satisfy it a bill in equity may be filed 
 in a district court of the United States to enforce the lien of the 
 United States for tax upon any real estate in which the delin- 
 quent has any right, title or interest. This remedy does not 
 supersede distraint, but is cumulative.^"* 
 
 101 Revenue Act of 1921, §250 (d). 
 
 102 S. 1156, T. B. 20-19-516. It is probable that the United States would 
 at least have to waive any penalties if it attempted to collect this tax in 
 the courts of British Columbia, since the courts of no country execute the 
 penal laws of another — even penalties for any violation of statutes for 
 the protection of its revenues. It seems somewhat doubtful whether the 
 courts of British Columbia would entertain an action for the tax itself 
 (Wisconsin v. Pelican Ins. Co., 127 U. S. 265; King of Spain v. Oliver 
 2 Wash. 429; Whart. Confl. L. Paragraph 833; Westlake Internat. L. 
 1st Ed. Paragraph 388; Piggott, Foreign Judg. 209, 210). 
 
 103 R. S. §3186. 
 
 104 Reg. 45, Art. 1010. 
 
ASSESSMENT AND PAYMENT OF THE TAX 871 
 
 Notice of Lien. The government's lien for collection of taxes 
 is not valid as against any mortgagee, purchaser or judgment- 
 creditor, until notice of such lien has been nled by the collector 
 in the office, of the clerk of the district court of the district 
 within vs^hich the property subject to such lien is situated, and is 
 not valid in a state which by appropriate legislation authorizes 
 the filing of such notice in the office of the registrar or recorder 
 of deeds of the counties of that state, unless the notice is filed in 
 the office of such registrar or recorder of deeds of the county (or 
 parish in the state of Louisiana) within which the property 
 subject to the lien is situated.^"^ Where a corporation made an 
 assignment for the benefit of creditors and a trustee was ap- 
 pointed, the third and fourth installments of its income tax for 
 1919 not liaving been paid, and two years prior to the date of 
 assignment a mortgage was executed on the corporate property, 
 consisting solely of stock, furniture, and fixtures, it has been 
 held that if the mortgagee acquired his lien in good faith prior to 
 the time a lien in favor of the government was effected, the gov- 
 ernment's lien for the tax is not superior to the rights of the 
 mortgagee. The collector should, however, file a claim with the 
 trustee for the taxes due and the interest thereon, calling his 
 attention to the statutory provisions,!"*' which make him person- 
 ally liable if he pays out trust funds before he satisfies and pays a 
 debt due to the United States.^"''' A lien for taxes is not similar 
 
 105 Act of March 4, 1913, amending R. S., § 3186. This amendment 
 seems to have been made in response to suggestions of the American Bar 
 Association (Part 1, Proceedings American Bar Ass'n. 106 p. 598) and 
 of the court in U. S. v. Curry, 201 Fed. 371, in which the harshness of 
 enforcing the lien against innocent purchasers without knowledge or notice 
 of the lien was emphasized. (See also U. S. v. Pacific R. R., 1 Fed. 97.) 
 The suggestion was made by Judge Rose in the Curry case in the follow- 
 ing language: "It would seem that by a comparatively slight change of 
 the statute law the rights of the United States could be sufficiently protected 
 without endangering the interests of other persons. The collector of in- 
 ternal revenue at the time he makes a demand upon the taxpayer might be 
 required to transmit a copy of the demand to some office in which judg- 
 ments and other recognized liens upon real estate are recorded and the 
 records of which are consequently carefully examined by conveyancers." 
 The lien was held to be superior to that of any one acquiring any interest 
 in the property after the date of demand and unaffected by the fact that 
 a subsequent purchaser became such without knowledge of the lien or 
 claim of the government in the following cases: U. S. v. Pacific R. R., 
 1 Fed. 97; U. S. v. Turner, 28 Fed. Cas. No. 16,548; U. S. v. Snyder; 149 
 U. S. 210; U. S. V. Blacklock, 208 U. S. 75. 
 
 106 R. S., §3467. 
 
 107 O. D. 770, T. B. 1-21-1379. 
 
872 FEDERAL INCOME TAX 
 
 to the lien of an ordinary incumbrance. It is not displaced by a 
 sale under a pre-existing judgment or decree, unless otherwise 
 directed by statute. It attaches to the res without regard to in- 
 dividual ownership, and when it is enforced by sale pursuant to 
 the statute prescribing the mode of assessing and collecting 
 taxes, the purchaser takes a valid and unimpeachable title."^ 
 The lien may be enforced against any transferee of real or per- 
 sonal property of the taxpayer (except a mortgagee, purchaser 
 or judgment-creditor) with respect to property transferred after 
 the lien attaches, that is, after the filing of the list with the 
 collector, although the transferee had no notice of the lien.^o® 
 To create a lien demand must be made for a specific amount ; all 
 steps required by law must be pursued strictly. The lien requires 
 an assessment, a notice of the tax due, and a specific demand 
 upon the individual taxpayer for payment.!^" The government is 
 not compelled to resort to distraint and sale of chattels and per- 
 sonal effects of a taxpayer, before instituting proceedings to 
 enforce a lien on the taxpayer's real estate and leaseholds.^^^ 
 
 Time When Lien Attaches. The statute expressly provides 
 that a lien for unpaid taxes in favor of the United States shall, 
 attach from the time when the assessment-list was received by 
 the collector, except when otherwise provided.^^^ The Revenue 
 Act of 1921 provides"^ that "all administrative special or stamp 
 provisions of law including the law relating to the assessment of 
 taxes, so far as applicable, are hereby extended to and made a 
 part of this Act." Under the method of collection prescribed by 
 the present law and the 1918 Law it is uncertain when the 
 assessment-list is intended to reach the coUector.^i* j^ the case 
 of a corporation which has distributed its assets prior to the 
 time when a lien would attach thereto, the government may pro- 
 ceed to collect the tax as a general creditor.i^^ 
 
 Priority of Federal Taxes. The government has no priority 
 in the matter of collecting taxes from a bankrupt over the 
 
 108 Osterberg v. Union Trust Co., 93 U. S. 424. 
 
 109 U. S. V. Curry, 201 Fed. 371 (and cases cited) is modified by the 
 amendment of R. S., § 3186. 
 
 110 U. S. V. Pacific R. R., 1 Fed. 97; U. S. v. Allen, 14 Fed. 263. 
 
 lliU. S. V. Curry, 201 Fed. 371; Mansfield v. Excelsior Refining Co., 
 136 U. S. 326; U. S. v. Blacklock, 208 U. S. 75. 
 
 112 R. S., §3186. 
 
 113 Revenue Act of 1921, § 1300. The Revenue Act of 1918 provided 
 likewise (§1305). 
 
 11* Revenue Act of 1921, §250; Revenue Act of 1918, §250. 
 115 See Chapter 10 in vyhich this subject is more fully discussed. 
 
ASSESSMENT AND PAYMENT OP THE TAX 873 
 
 administration expenses of the bankruptcy proceedings, its 
 priority in this respect being limited to creditors of the bank- 
 rupt.iis 
 
 Payment of Tax Where Property Taken Over by Alien Prop- 
 erty Custodian. Where the property of an alien enemy has been 
 taken over by the alien property custodian and the individual 
 has executed a return and has no funds out of which to pay the 
 tax shown, the return should be filed with the collector, but the 
 alien enemy in such case can not be held responsible for failure 
 to pay his tax, which is a debt due the government along with 
 those of other creditors in the final disposition.^" 
 
 Taxes Collectible by Distraint. If any person liable to pay any 
 taxes neglects or refuses to pay the same within ten days after 
 notice and demand, the collector or his deputy colletJtor may col- 
 lect the taxes, with the 5% penalty, and interest at the rate of 
 1% per month, by distraint and sale of the goods, chattels or 
 effects, including stocks, securities, and evidences of debt, of the 
 person delinquent-^^^ Certain property is exempted from dis- 
 traint in the case of the head of a f amily.^^^ Extensive provision 
 is made in the statute for the mode of levying distraint and pro- 
 ceedings on distraint.12** Collectors are enjoined against un- 
 necessary delays in making sales and postponing sales beyond 
 statutory periods; they are also required to make reports 
 promptly.121 Surplus moneys must be deposited as internal rev- 
 enue collections and cannot be returned to the legal owner of the 
 property sold.^^^ The power to distrain personal property for 
 payment of taxes is almost as old as the common law. It is also 
 competent for Congress to apply to realty as well as personalty 
 the power to distrain and sell when necessary to enforce the pay- 
 ment of the tax. It is only the further legitimate exercise of the 
 same power for the same purpose.^^s "When goods, chattels or 
 effects sufficient to satisfy the taxes imposed upon any person 
 are not found by the collector or deputy collector, he is authorized 
 to collect such taxes by seizure and sale of real estate. Distraint 
 
 116 Smietanka v. Zibell, 263 Fed. 883. See also Guaranty Title & Trust 
 Co. V. Title Gu?iranty & Surety Co., 224 U. S. 152. 
 
 117 0. D. 27, T. B. 1-19-78. 
 
 118 R. S., §3187. 
 
 119 Only heads of families are entitled to this exemption. (T. D. 1499.) 
 The state exemption laws are inapplicable to debts due the United States — 
 U. S. V. Howell, 9 Fed. 674. 
 
 120 R. S., §3188 et seq. 
 
 121 T. D. 623, January 23, 1903. 
 
 122 T. D. 1373. 
 
 123 Springer v. U. S., 102 U. S. 586. 
 
874 FEDERAL INCOME TAX 
 
 may also be used against a delinquent coUector.i^* Distraint 
 
 warrants issued for the seizure of property to be sold to satisfy 
 
 such taxes will be deemed to have been served when seizure is 
 
 made of any of the property of the delinquent taxpayer subject 
 
 to distraint by the officer charged with the execution of the 
 warrant.^25 
 
 The property of one spouse is not subject to distraint to en- 
 force payment of an income tax obligation of the other spouse 
 unless there has been a transfer of property from one spouse 
 to the other after a tax has been assessed and demand made for 
 payment thereof.^^e 
 
 Addition of $5 as Part of Tax. The Revenue Act of 1921 
 omits the provision of the 1918 Law that in any case in which, in 
 order to enforce payment of a tax it is necessary for a collector 
 to cause a warrant of distraint to be served, there shall also be 
 added as part of the tax the sum of $5.i27 The addition of $5 
 to the tax where it became necessary for a collector to cause a 
 warrant of distraint to be served was applicable only to income, 
 war-profits and excess-profits taxes.^^s The charge of $5 was 
 held applicable when a warrant of distraint was served irrespec- 
 tive of the fact that the delinquent might be the estate of an 
 insane, deceased, or insolvent person.^^o The charge of $5 was 
 held collectible not upon the issuance but upon the serving of 
 such warrant. If the warrant is placed in the hands of the 
 taxpayer or is read to him personally, it is considered as having 
 been served whether payment of the tax is made at once or is 
 deferred so that it becomes necessary to seize property of the 
 taxpayer.130 
 
 Procedure in Case of Taxpayers Contemplating Removal or 
 Concealment of Property to Defeat Collection of Tax. If the 
 
 Commissioner finds that a taxpayer designs quickly to depart 
 from the United States or to remove his property therefrom, or 
 to conceal himself or his property therein, or to do any other act 
 tending to prejudice or to render wholly or partly ineffectual 
 proceedings to collect the tax for the taxable year then last past 
 or the taxable year then current unless such proceedings be 
 
 124 Reg. 45, Art. 1009. 
 
 125 T. D. 3042, T. B. 7-21-14B4. 
 
 126 0. D. 1056, T. B. 40-21-1856. 
 
 127 Revenue Act of 1918, §250 (f). 
 
 128 T. D. 3126, T. B. 7-21-1454, modifying T. D. 3042; 0. D. 304, T. B. 
 24-19-575; O. D. 652, T. B. 35-20-1175. 
 
 129 O. D. 270, T. B. 18-19-486. 
 
 130 0. D. 442, T. B. 14-20-837. 
 
ASSESSMENT AND PAYMENT OF THE TAX 875 
 
 brought without delay, the Commissioner may declare the tax- 
 able period for such taxpayer immediately terminated and cause 
 notice of su{?h finding and declaration to be given the taxpayer, 
 together with a demand for immediate payment of the tax for 
 the taxable period so declared terminated and of the tax for the 
 preceding taxable year or so much of said tax as is unpaid, 
 whether or not the time otherwise allowed by law for filing 
 return and paying the tax has expired; and such taxes shall 
 thereupon become immediately due and payable. In such a case 
 the taxpayer is entitled to a full personal exemption and credit 
 for dependents, if otherwise allowable. In any action or suit 
 brought to enforce payment of taxes made due and payable by 
 virtue of the provisions of this provision the finding of the 
 Commissioner, whether made after notice to the taxpayer or not, 
 shall be for all purposes presumptive evidence of the taxpayer's 
 design. A person who is not in default in making returns or in , 
 paying other taxes may procure the postponement until the usual 
 time of the payment of taxes declared or declarable to be due as 
 above indicated by depositing with the Commissioner United 
 States bonds of a principal amount double the estimated amount 
 of taxes due from such person for the taxable year or by furnish- 
 ing such other security as may be approved by the Commissioner. 
 The Commissioner may approve and accept in like manner 
 security for return and payment of taxes made due and payable 
 by virtue of the above finding and declaration, provided the tax- 
 payer has paid in full all other income, war-profits, or excess- 
 profits taxes due from him. If security is approved and accepted 
 and such further or other security with respect to the tax or 
 taxes covered thereby is given as the Commissioner shall from 
 time to time find necessary and require, payment of such taxes 
 shall not be enforced by any of the above proceedings prior to 
 the expiration of the time otherwise allowed for paying such 
 respective taxes.^^^ Under this provision it seems to be within 
 the power of the Commissioner to declare the taxable period of 
 a corporation terminated immediately upon its dissolution and 
 to demand immediate payment of the tax for such taxable period 
 and the tax for the preceding. year or to require security for the 
 payment thereof .^^^ 
 
 131 Revenue Act of 1921, § 250 (g) ; Revenue Act of 1918, § 250 (g) ; 
 Reg. 45, Art. 1013, as amended by T. D. 3229, T. B. 39-21-1847, amending 
 T. D. 3216; M. 2195, T. B. 13-19-429. The difference between the present 
 law and the 1918 Law is that under the present law the taxable period may 
 be "immediately" terminated, while under the 1918 Law it could only be 
 terminated at the end of the calendar month then last past. 
 
 132 See Chapter 10. 
 
876 FEDERAL INCOME TAX 
 
 Persons Leaving Country, The present law expressly pro- 
 vides that in the case of a citizen about to depart from the 
 United States the Commissioner may at his discretion waive any 
 or all of the requirements indicated in the foregoing paragraph, 
 but that no alien shall depart from the United States unless he 
 first secures from the collector or agent in charge a certificate 
 that he has complied with all the obligations imposed upon him 
 by the income, war-profits, and excess-profits tax laws.i^s It is 
 probable that the requirements will be waived for the present 
 in the case of citizens. But in the case of aliens the statute 
 requires the Commissioner to enforce the pre-eXisting regula- 
 tions, which are indicated below. 
 
 Aliens Leaving Country. Aliens departing from the United 
 States were required under the 1918 Law to present certificates 
 of compliance with income tax obligations to internal revenue 
 officers at the point of departure. Aliens, whether resident or 
 nonresident, who intended to depart from this country, were 
 required to appear before the collector or deputy collector of 
 internal revenue for the district in which they resided and 
 satisfy all income tax obligations with respect to income received 
 up to and including the calendar month next preceding that of 
 their intended departure. Upon payment of such obligations or 
 upon satisfactory evidence that no tax was due and payable,, 
 the collector or deputy collector issued a certificate of compliance 
 to the applicant. A certificate of compliance issued by a collector 
 or deputy collector was required to be presented at the office 
 of the revenue agent at the point of departure, who issued an 
 income tax clearance which was taken up at the pier. Aliens 
 presenting themselves at the point of departure without such 
 certificates of compliance were examined by internal revenue 
 officers at that point and such taxes as appeared to be due and 
 owing were collected.!^* If any tax had been withheld from the 
 
 133 Revenue Act of 1921, §250 (g). This provision embodies the prac- 
 tice of the treasury department under the 1918 Law (See Reg. 45, Art. 
 1013, as amended by T. D. 3229, T. B. 39-21-1847, amending T. D. 3216). 
 Under the latest ruling under that law the Commissioner waived the re- 
 quirements in the case of citizens. It is to be noted, however, that he may 
 restore the requirement at any time in accordance with the practice in 
 1920 and earlier years. 
 
 134 Reg. 45, Art. 1013, as amended by T. D. 3229, T. B. 39-21-1847, amend- 
 ing T. D. 3216. This ruling apparently required resident aliens leaving 
 the country temporarily to pay all income tax on all income up to the 
 month of departure; they were formerly permitted to make provisions for 
 the payment of installments subsequent to departure, and the filing of re- 
 turns and payment of tax for the succeeding year (0. D. 331, T, B. 28-19- 
 
ASSESSMENT AND PAYMENT OP THE TAX 877 
 
 wages or other income of an alien, credit therefor was given to 
 the alien in computing any balance of tax due the United States 
 government. An alien appearing before the collector was ques- 
 tioned as to his earnings for the current taxable year and prior 
 years.13^ If the name of an alien leaving the country did not 
 appear on any Form 1042 filled by his employer for past years, 
 the collector might, for the purpose of determining the alien's 
 tax liability, require the employer to furnish statements of the 
 alien's earnings for the years in question.^^^ An alien who was 
 a resident during the past year and decided to return to his 
 native country was classified as a nonresident alien for the tax- 
 able period of the present year.i^T For the purpose of the 
 Revenue Act of 1918 the Virgin Islands are foreign territory and 
 a trip to these islands was a departure from the United States. 
 Citizens of the Virgin Islands residing in the United States and 
 planning to go to the islands were treated in the same manner 
 as citizens of the United States in the matter of satisfying 
 income tax obligations before departing from this country .^^^ 
 The above rules with respect to departing aliens did not apply 
 to representatives of foreign countries bearing diplomatic pass- 
 ports.139 The servants of a diplomatic representative of a for- 
 eign country were not examined for income purposes when 
 such servants accompanied the diplomat upon his departure from 
 the United States."o 
 
 Penalty for Violation. If a taxpayer violates, or attempts 
 to violate, the provision discussed in the foregoing paragraphs, 
 in addition to all other penalties there will be added as part of 
 the tax 25 % of the total amount of the tax or deficiency in the 
 tax, together with interest at the rate of 1 per centum per 
 month from the time the tax became due.^^^ 
 
 617). See also 0. D. 131, T. B. 3-19-205; O. D. 840, T. B. 10-21-1501. 
 The ruling rendered inapplicable former rulings regarding American 
 citizens departing from this country. (See M. 2195, T. B. 13-19-429; M. 
 2643, T. B. 51-20-1357; 0. D. 500, T. B. 19-20-923; 0. D. 566, T. B. 27- 
 20-1035. Under the present law income tax obligations up to the day of 
 departure (not up to and including the calendar month next preceding 
 departure) will have to be satisfied. 
 
 135 M. 2195, T. B. 28-19-618. 
 
 138 0. D. 885, T. B. 4-20-709. 
 
 137 M. 2195, T. B. 13-19-429. 
 
 138 0. D. 332, T. B. 28-19-618. 
 , 139 O. D. 271, T. B. 18-19-487. 
 
 140 O. D. 812, T. B. 7-21-1455. 
 
 141 Revenue Act of 1921, § 250 (g) . This penalty provision is new. 
 
878 FEDERAL INCOME TAX 
 
 Medium of Payment of Tax. Collectors may receive, at par 
 with an adjustment for accrued interest, notes' or certificates of 
 indebtedness issued by the United States and uncertified checks 
 in payment of income, war-profits and excess-profits taxes and 
 any other taxes payable other than by stamp, during such time 
 and under such regulations as the Commissioner, with the 
 approval of the secretary, shall prescribe; but if a check so 
 received is not paid by the bank on which it is drawn the person 
 by whom such check has been tendered will remain liable for 
 the payment of the tax and for all legal penalties and additions 
 the same as if such check had not been tendered."2 inasmuch 
 as this provision re-enacts in all essentials the corresponding 
 provisions of the Revenue Act of 1918, the rulings issued 
 under that law will undoubtedly be followed under the present 
 law. These rulings are indicated below. The date on which the 
 collector receives an uncertified check in payment of the tax is 
 considered the date of payment, unless the check is returned 
 dishonored.i*^ The tax may not ordinarily be paid by a check 
 drawn on a foreign bank in foreign funds, but it may be paid 
 by a Canadian postal money order at par.^** If payment is made 
 by check the taxpayer as a precaution should draw the check for 
 such amount as to cover any collection charges by the bank, in 
 order that the net amount received by the government may be 
 the full amount of tax due, that is, checks must be collectible at 
 par, and taxpayers who are not sure that their checks will be 
 paid at par, should write beneath the amount the words "with- 
 out deduction for exchange" or the words "with exchange." A 
 collector is not required to examine all checks to see whether or 
 not they are collectible at par, but will stamp on the face of each 
 
 142 Revenue Act of 1921, §1325; Revenue Act of 1918, §1314; Reg. 45, 
 Arts. 1731, 1732; T. D. 2851; Act of October 3, 1917 (Public No. 50), 
 §1010; Act of March 2, 1911 (36 Stat. 965). Prior to 1917 the treasury 
 department did not specifically authorize the acceptance of any form of 
 exchange in payment of internal revenue taxes, other than currency and 
 certified checks (T. D. 1990). There was no objection to a collector ac- 
 cepting at his own risk, or at the risk of the government depositary, un- 
 certified checks or any other form of exchange, for collection only. (T. D. 
 2158.) Where a form of remittance not authorized by la\v was accepted 
 for collection, the 5% penalty was incurred by the taxpayer, if there was 
 delay in collection and the funds were not actually received by the collector 
 within the time provided by law. Receipt by the government depositary, in 
 the course of collection, was held not to be receipt by the collector, as the 
 depositary is not an agent of the collector or of the government. (T. D. 
 1651.) 
 
 143 Reg. 45, Art. 1733; T. D. 2851. 
 
 144 0. D. 1066, T. B. 42-21-1870. 
 
ASSESSMENT AND PAYMENT OF THE TAX 879 
 
 the words "this check is in payment of an obligation to the 
 United States and must be paid at par. No protest," with his 
 name and title. If the bank on which the check is drawn shouid 
 refuse to pay it at par, it will be returned through the depositary 
 bank and will be treated in the same manner as a bad check. If 
 any check is returned unpaid, it will be held in suspense a few 
 days, during which time the collector will make an effort to 
 recover the amount from the taxpayer. If the amount is recov- 
 ered, the bad check will be returned to the drawer; if it is not 
 recovered, the collector will proceed to collect the taxes by the 
 usual methods, as though no check had been given. All expenses 
 incident to the attempt to collect such a check and the return 
 of it through the depositary bank must be paid by the drawer 
 of the check to the bank on which it is drawn, since no deduc- 
 tion can be made from amounts received in payment of taxes. 
 A taxpayer who tenders a check, whether certified or uncerti- 
 fied, in payment for taxes is also not released from his obliga- 
 tion until the check has been paid.^*^ Where such a check is lost 
 in the mails, a collector is not required, as a condition precedent 
 to the issuing of a duplicate check by the taxpayer, to furnish 
 bond indemnifying him against possible loss in connection with 
 the first check."^ If one check is remitted to cover two or more 
 persons' taxes, the remittance must be accompanied by a letter 
 of transmittal stating (a) the name of the drawer of the check; 
 (b) the amount of the check; (c) the amount of any cash, money 
 order or other instrument included in the same remittance; (d) 
 the name of each person whose tax is to be paid by the remit- 
 tance ; (e) the amount of the payment on account of each person ; 
 and (f) the kind of tax paid.^*^ In the payment of the tax the 
 fractional part of a cent is disregarded unless it amounts to a 
 half cent or more, in which case the fraction is increased to one 
 cent.i*8 
 
 PAYMENT OF TAX BY CERTIFICATES OF INDEBTEDNESS. The 
 
 terms of the acceptance of certificates of indebtedness are pre- 
 scribed from time to time. The amount at par of the certificates 
 of indebtedness presented by any taxpayer in payment of taxes 
 must not exceed the amount of the taxes to be paid by him. Col- 
 lectors are not authorized, unless otherwise notified by the sec- 
 
 145 Reg. 45, Art. 1734; T. D. 2666; T. D. 2851. 
 
 146 0. D. 626, T. B. 32-20-1125. 
 i4TReg. 45, Art. 1733; T. D. 2851. 
 
 148 Revenue Act of 1921, §1306; Revenue Act of 1918, §1313; Reg. 45, 
 Art. 1721; Reg. 33 Rev., Art. 41. The fractional part of a cent is not 
 disregarded in the computation of taxes (T. D. 3250, T. B. 48-21-1955). 
 
880 FEDERAL INCOME TAX 
 
 retary, to receive as payment of income or profits taxes interim 
 receipts issued by federal reserve banks in lieu of the definite cer- 
 tificates of the series. For the purpose of saving taxpayers the 
 expense of transmitting such certificates as are held in federal 
 reserve cities to the oflSce of the collector in vi^hose district the 
 taxes are payable, taxpayers desiring to pay income and profits 
 taxes by treasury certificates of indebtedness acceptable in pay- 
 ment of such taxes, should communicate with the collector of the 
 district in v^hich the taxes are payable and request from him au- 
 thority to deposit such certificates with the federal reserve bank 
 in the city in which the certificates are held. Collectors are 
 authorized to permit deposits of treasury certificates of indebted- 
 ness in any federal reserve bank with the distinct understanding 
 that the federal reserve bank is to issue a certificate of deposit in 
 the collector's name covering the amount of the certificates of 
 indebtedness at par and to state on the face of the certificate of 
 deposit that the amount represented thereby is in pajrment of 
 income and profits taxes. The federal reserve bank should for- 
 ward the original certificate of deposit to the treasurer, with its 
 daily transcript, and transmit to the collector the duplicate and 
 triplicate, accompanied by a statement giving the name of the 
 taxpayer for whom the payment is made in order that the col- 
 lector may make the necessary record and forward the duplicate 
 to the office of the Commissioner.i*^ 
 
 Procedure with Respect to Certificates of Indebtedness. 
 Such certificates of indebtedness may be accepted by the collector 
 prior to the date the tax is due and in that case should be for- 
 warded by the collector to the federal reserve bank to be held for 
 his account until the date the tax is due and for deposit on such 
 date. All coupons maturing on or before the date the tax is due 
 must be detached by the taxpayer and collected in ordinary 
 course, but all other coupons must remain attached to the certifi- 
 cate and be forwarded to the federal reserve bank. Any accrued 
 interest to the date the tax is due, not covered by coupons de- 
 tached as above provided, will be remitted to the taxpayer by the 
 federal reserve bank by check, for which purpose the collector will 
 furnish to the bank the name and address of the taxpayer, the 
 amount and serial numbers of the certificates presented in each 
 case, the date of issue of the certificates, and the date the tax is 
 due. Collectors may in no case pay interest on such certificates 
 nor accept them for an amount other or greater than their face 
 
 149 Reg. 45, Art. 1731, as amended and supplemented by T. D. 3115, T. 
 B. 9-21-1490. See T. D. 3143, T. B. 13-21-1537. 
 
ASSESSMENT AND PAYMENT OF THE TAX 881 
 
 value. Receipts given by collectors to taxpayers should show the 
 amount of certificates of each series received in payment of taxes. 
 For the purpose of saving taxpayers the expense of transmitting 
 such certificates as are held in federal reserve cities to the office 
 of the collector in whose district the taxes are payable, taxpayers 
 desiring to pay taxes by acceptable certificates of indebtedness 
 should communicate with the collector and request from him 
 authority to deposit such certificates to his credit with the federal 
 reserve bank in the city in which the certificates are held.^^" 
 
 To Whom Tax Should Be Paid. The importance of paying 
 taxes by check, or of securing a proper receipt for payment from 
 the deputy collector authorized to receive taxes, is forcibly dem-'' 
 onstrated by a recent case in which it was held that payment of 
 money to a deputy collector other than the one authorized to re- 
 ceive it is not a satisfaction of the tax liability, and does not bind 
 the collector.151 
 
 Receipts for Payment of Tax. Every collector to whom any 
 
 payment of any tax is made is on request required to give to 
 
 the taxpayer a full written or printed receipt, stating the amount 
 
 paid and the particular account for which the payment was 
 made,i52 
 
 FoKM of Receipt. The only ofllcial receipt for taxes that 
 collectors may sign under the law is the form prescribed by the 
 department. However, there is no objection, on the part of the 
 department, to collectors signing commercial receipts or voucher 
 checks, but they should in signing such receipts or vouchers write 
 or stamp across the face thereof "not an official receipt." The 
 oflScial receipt must also be furnished, and an unofficial receipt is 
 not in any manner binding on the government and will not be 
 received by it as evidence of payment of the tax.i^s Deputy col- 
 lectors must give taxpayers, at the time of the payment, a per- 
 sonal receipt stating that the amount of payment has been re- 
 ceived to be forwarded to the coUector.is* In the case of pay- 
 
 150 Reg. 45, Art. 1732, as amended by T. D. 3115, T. B. 9-21-1490. 
 
 151 Hurst V. Lederer, T. D. 3221, T. B. 38-21-1835. In this case the tax- 
 payer claimed to have paid approximately $2,000 to a deputy collector in the 
 collector's oflSce, but this deputy was not authorized to receive payments, and 
 the taxpayer was obliged to pay the tax a second time. 
 
 152 Revenue Act of 1921, §251; Revenue Act of 1918, §251. Prior to 
 the enactment of this section receipts were issued even when they were 
 not requested. With regard to the penalty for the simulation of income 
 tax receipts, see U. S. v. Pittaro, I. T. S. 1921, TI2358; T. D. 2874. 
 
 153 T. D. 2226. 
 
 154 T. D. 2341. 
 
882 FEDERAL INCOME TAX 
 
 ments by check or money order the canceled check or money order 
 receipt is usually a sufficient receipt. In case of payments by 
 cash the taxpayer should in every instance require receipt.^^s 
 
 Taxes Withheld at the Source. Whenever any debtor pays 
 taxes withheld at the source on account of payments made or to 
 be made by him to separate creditors, the collector is required, 
 on request, to give a separate receipt for the tax paid on account 
 of each creditor so that the debtor can conveniently produce such 
 receipts severally to his creditors in satisfaction of their re- 
 spective demands up to the amounts stated in the receipts. Such 
 receipts are sufficient evidence in favor of such debtor to justify 
 him in withholding from his next payment to his creditor the 
 amount stated in the receipt. The creditor may, upon giving the 
 debtor a full written receipt acknowledging the payment to him 
 of any sum actually paid and accepting and specifying the 
 amount of tax paid as a further satisfaction of the debt to that 
 amount, require the surrender to him of the collector's receipt.i^s 
 
 Deposit of United States Bonds or Notes in Lieu of Surety. 
 The Revenue Act of 1921 provides that wherever by the laws of 
 the United States or regulations made pursuant thereto, any per- 
 son is required to furnish any recognizance, stipulation, bond, 
 guaranty, or undertaking, hereinafter called "penal bond," with 
 surety or sureties, such person may, in lieu of such surety or 
 sureties, deposit as security with the official having authority to 
 approve such penal bond, United States Liberty bonds or other 
 bonds or notes of the United States in a sum equal at their par 
 value to the amount of such penal bond required to be furnished, 
 together with an agreement authorizing such official to collect or 
 sell such bonds or notes so deposited in case of any default in the 
 performance of any of the conditions or stipulations of such 
 penal bond. The acceptance of such United States bonds or notes 
 in lieu of surety or sureties required by law has the same force 
 and effect as individual or corporate sureties or certified checks, 
 bank drafts, post-office money orders, or cash, for the penalty or 
 amount of such penal bond. The bonds or notes deposited, and 
 such other United States bonds or notes as may be substituted 
 therefor from time to time as such security, may be deposited 
 with the treasurer of the United States, a federal reserve bank, 
 or other depository duly designated for that purpose by the sec- 
 retary, which will issue receipt therefor, describing such bonds 
 
 155 Reg. 45, Art. 1021. 
 
 156 Revenue Act of 1921, §251; Revenue Act of 1918, §251. See Chapter 
 40. 
 
ASSESSMENT AND PAYMENT OF THE TAX 883 
 
 or notes so deposited. As soon as security for the performance 
 of such penal bond is no longer necessary, the bonds or notes so 
 deposited will be returned to the depositor. This provision 
 neither affects nor impairs the priority of the claim of the United 
 States against the bonds or notes deposited or any right or 
 remedy granted to the United States for default upon any obliga- 
 tion of such penal bond; neither does it affect the authority of 
 courts over the security, where such bonds are taken as security 
 in judicial proceedings, or the authority of any administrative 
 officer of the United States to receive United States bonds for 
 security in cases authorized by existing laws. The secretary 
 may prescribe rules and regulations necessary and proper for 
 carrying this provision into effect.^^''' 
 
 Recovery of Taxes Paid. Taxes erroneously paid or illegally 
 exacted may on occasion be recovered in either of two ways: 
 (1) from the Commissioner, and (2) by an action at law against 
 the government or the collector who received payment thereof. 
 Generally speaking and subject to the exceptions and definitions 
 noted in the following paragraphs, two elements are essential to 
 the taxpayer's right of recovery: (1) he must have protested 
 against the assessment ^^^ or collection of the tax sought to be re- 
 covered, and (2) such tax must have been paid under some form 
 and degree of duress or coercion. 
 
 Recovery of Taxes from Commissioner. The universally 
 recognized principle that an action can not be maintained for the 
 recovery of money paid in discharge of a tax illegally assessed, 
 unless payment was made under protest has been held by the 
 Commissioner and other officers of the department to be too 
 technical and too exacting for application to the refund of taxes 
 under Section 3220 of the Revised Statutes,i59 and it would seem 
 that a protest is not necessary to recover taxes from the Com- 
 missioner. But such a protest is essential if suit is to be main- 
 tained against an adverse decision of the Commissioner.i^o 
 
 Recovery by Action at Law. The two above mentioned 
 essentials or conditions to the right to recover taxes erroneously 
 paid or illegally exacted are ordinarily requisite when recovery 
 
 157 Revenue Act of 1921, § 1329. See also Revenue Act of 1918, § 1320. 
 
 158 It has been held that a protest ag'ainst the assessment is sufficient 
 since any protest against the collection would be unavailing. The law 
 does not require a person to do what can be of no effect. (Adams v. U. S., 
 1 Ct. CI. 306.) But see Rock Island & C. R. Co. v. U. S., 254 U. S. 141. 
 
 199 Real Est. Savings Bank v. U. S., 16 Ct. Cls. 335, Int. Rev. Rec. 154. 
 affirmed 104 U. S. 728; Chesebrough v. U. S., 192 U. S. 253. 
 160 Chesebrough v. U. S., 192 U. S. 253. 
 
884 FEDERAL INCOME TAX 
 
 is sought by means of an action at law, as contradistinguished 
 from an application to the Commissioner for a refund. There is 
 some irreconcilable conflict between various dicta, if not deci- 
 sions, of the Supreme Court and the lower federal courts in con- 
 sidering the nature of and necessity for a protest and duress in 
 regard to the recovery of internal revenue taxes, and while the 
 scope of this book does not permit an exhaustive examination of 
 the authorities, the subject is considered in the following para- 
 graphs in the light of some of the leading cases. 
 
 Payment Under Protest. The ancient principle of the common 
 law is of general application that taxes voluntarily paid can not 
 be recovered back even if they have been illegally laid or the 
 law under which they were laid proves to be unconstitutional. 
 The rule is founded upon the knowledge of law imputed to all 
 taxpayers; it is also said to be one of sound pubUc policy and 
 quiet and good faith, operating to free the courts from the un- 
 doing of the voluntary arrangements of parties not induced by 
 fraud, accident or excusable negligence.!**! When a voluntary 
 payment of taxes is spoken of, the word "voluntary" is not used 
 in its ordinary and popular sense-if^^ The purpose of paying a 
 tax under protest is, briefly, to preserve the taxpayer's rights to 
 recover the tax should the assessment thereof prove to be wrong- 
 ful or excessive, or the law under which it was laid void and un- 
 constitutional. Since it is usually held that the making of a 
 protest and the existence of duress are concomitant conditions to 
 any recovery of taxes which have been paid, the necessity for a 
 protest will be more fully discussed in a later paragraph. It 
 appears that a collector is not personally liable for taxes if no 
 protest or objection is made to their collection by him.^^^ 
 
 Protest at Time of Filing Return. It does not seem essen- 
 tial, although it may be a wise precaution, also to protest at the 
 time of filing the return upon which the assessment is based. 
 
 Form of Protest. There is no statutory requirement that a 
 protest against the assessment and collection of internal revenue 
 taxes be in writing.!^* j^ written protest is, of course, better evi- 
 
 leiCooley on Taxation (Third Edition) Vol. II, Ch. XXIV, p. 495. 
 
 i62 In many of the cases cited hereafter in which the payment involved 
 was held to be voluntary, the payment was most unwillingly and reluctantly 
 made. 
 
 163 Commissioners, etc., v. Buckner, 48 Fed. 533. 
 
 164 Wright v. Blakeslee, 101 U. S. 174; Stewart v. Barnes, 153 U. S. 
 456; Swift v. U. S., Ill U. S. 22; Shaefer v. Ketehum, 21 Fed. Cas. No. 
 12,693. In this respect the rule in regard to internal revenue taxes differs 
 from that in regard to customs in which case a protest must bfe in writing. 
 
ASSESSMENT AND PAYMENT OF THE TAX 885 
 
 dence. A protest against paying the tax includes the penalties 
 without specific mention of the latter.i^^ j^ one case in which a 
 corporation had been assessed for taxes and the same were not 
 paid, a writ of distraint was issued by the collector, and, the cor- 
 poration having been notified that the tax would be collected by 
 levy, the deputy collector counted out and took from a represen- 
 tative of the company a sufficient amount to pay the tax against 
 verbal protest at the time. A written notice of protest was then 
 served in which the corporation denied that it was liable to the 
 tax. The court held that the protest was sufficient.i'^^ Under the 
 1909 Law the treasury department ruled that no form of pro- 
 test was prescribed, that any form of protest would be sufficient 
 if filed before payment of the tax, and that the right of protest 
 was not to be denied.^®'' 
 
 Protest Alone Not Sufficient. A protest is used to give 
 effect to attending circumstances; it gives notice that the pay- 
 ment is not to be considered as admitting the right of the tax- 
 ing power to make demand for or to collect the tax in question. 
 But as appears in the next paragraph, there must usually be 
 duress or coercion, and if payment is made under protest alone 
 without some form or degree of compulsion, the payment may be 
 considered voluntary notwithstanding a protest was made.^^^ It 
 has been stated r^^^ "Though there is some conflict in the dicta 
 of the Supreme Court, the true doctrine seems to be that when 
 taxes are paid under protest or with notice, that the payer con- 
 tends that they are illegal and intends to institute suit to compel 
 their repayment, a sufficient foundation for such a suit to recover 
 has been established." This statement is difficult to reconcile 
 with the authorities cited in the next paragraph. 
 
 Duress. The general rule is that where a party pays an illegal 
 demand, with full knowledge of all the facts rendering it illegal, 
 without an immediate and urgent necessity therefor, to release 
 his person or property from detention, or to prevent an im- 
 
 165 Wright V. Blakeslee, 101 U. S. 174. 
 
 i66Abrast Realty Co. v. Maxwell, 206 Fed. 333. 
 
 107 T. D. 1675. 
 
 lesLamborn v. Comm'rs, 97 U. S. 181; Merck v. Treat, 202 Fed. 133. 
 
 169 Herold v. Kahn, 159 Fed. 608. This remark of the court seems to be 
 mere dictum since, in the first place, the tax involved was paid under a 
 mistake of fact and, in the second place, there was probably duress in the 
 notice sent by the collector stating that unless the tax was paid, "it will 
 be my duty to collect the same with a penalty * " *" (See next par- 
 agraph). The case of Beer v. Moffat, 192 Fed. 984, contains the same 
 doctrine, but recovery was denied because there was no protest or demurrer 
 to the legality of the tax or its payment. 
 
886 FEDERAL INCOME TAX 
 
 mediate seizure of his person or property, such payment must 
 be deemed voluntary, and can not be recovered back."" It will 
 be noted that a voluntary payment is among other things a pay- 
 ment "with full knowledge of all the facts rendering it illegal." 
 A payment made without such knowledge may under certain cir- 
 cumstances be recovered, but not on the theory of duress. The 
 yielding to paramount taxing authority involved in the payment 
 of a tax under duress or coercion is quite different from a pay- 
 ment made under a mistake of fact; that is, a payment made 
 when such full knowledge is wanting. This distinction is illus- 
 trated by a case 1^1 in which at the time certain executors paid an 
 internal revenue , inheritance tax on a life estate under protest, 
 they had no knowledge that the life tenant had died and that the 
 life estate had, therefore, terminated so that it was improper to 
 use life tables to determine the value of such life estate. When 
 knowledge is thus spoken of, however, the reference is to knowl- 
 edge of facts, and not knowledge of law, which all taxpayers are 
 presumed to have."^ jf ^ payment is made under a mistake of 
 law, no relief exists. Thus in one case an importer who formally 
 entered goods imported from Porto Rico and purchased the re- 
 quired stamps without protest or objection or duress in the belief 
 that the tax was lawfully due, although the goods were not in 
 fact lawfully taxable, was held to have made his own interpreta- 
 tion of law and his payment of tax was held voluntary .^'^^ Thus 
 a tax paid under a statute later declared unconstitutional can not 
 be recovered on the theory of mistake if voluntarily paid, since 
 the mistake is one of law.^'''* It has been stated that taxes illegally 
 assessed and paid may always be recovered back if the collector 
 understands from the payer that the taxes are regarded as illegal 
 and that suit will be instituted to compel the refunding of 
 them.1^5 In the case containing this doctrine the tax recovered 
 
 170 Little V. Bowers, 134 U. S. 547; Railroad Co. v. Comm'rs, 98 U. S. 
 541; Lamborn v. Comm'rs, 97 U. S. 181. 
 
 m Kahn v. Herold, 147 Fed. 575, affirmed 159 Fed. 608. 
 
 172 Lamborn v. Comm'rs, 97 U. S. 181. 
 
 173 Newhall v. Jordan, 149 Fed. 586. See, however, Elliott v. Swartout, 
 10 Pet. 137; Bend v. Hoyt, 13 Pet. 263. 
 
 174 Lamborn v. Comm'rs, 97 U. S. 181. In Chesebrough v. U. S., 192 
 U. S. 253, and U. S. v. N. Y. & Cuba Mail S. S. Co., 200 U. S. 488, the 
 constitutionality of the acts imposing the tax was attacked, but the court 
 (except the lower court in the Chesebrough case which was reversed) did 
 not find it necessary to consider such constitutionality since the payments 
 were held to be voluntary and the mistake in making payments, if any, 
 was one of law. (See also Union Pacific Co. v. Dodge, 98 U. S. 541.) 
 
 175 Erskine v. Van Arsdale, 15 Wall. 75. This statement was contained 
 
ASSESSMENT AND PAYMENT OF THE TAX 887 
 
 was one on thimble-skeins and pipe-boxes of iron which were 
 exempt. The tax, therefore, was paid under a mistake of law and 
 although the facts are only briefly reported, there seems to have 
 been an absence of such duress or coercion as to make the pay- 
 ment an involuntary one. The same absence of duress or coercion 
 appears in other early cases.^'^^ In a suit to recover back real 
 property taxes paid by the Union Pacific Railroad Company to 
 Dodge County, Nebraska, it appeared that in due time the tax 
 lists with warrants attached for their collection were delivered 
 to the treasurer of the county. These warrants authorized the 
 treasurer, in order to enforce collection, to seize the personal 
 property of any persons making default in the payment of any 
 taxes charged upon the lists. No demand for taxes was neces- 
 sary, it being the duty of every person subject to taxation to at- 
 tend at the treasurer's office and make payment. The company 
 so attended and made payment filing at the same time a protest 
 in general terms containing no specification of alleged illegality, 
 or designation of particular property as wrongfully included in 
 the assessment. Although the company had personal property 
 in the county which might have been seized, no special effort had 
 been made or active, steps taken to enforce collection, and no 
 other notice given by the taxing authorities than such as the law 
 implied. Three years afterward a case was decided which was 
 
 in a charge of the lower court to the jury which was sustained by the 
 Supreme Court. (See next note.) 
 
 176 Elliott V. Swartout, 10 Pet. 137; Bend v. Hoyt, 13 Pet. 263; Phila- 
 delphia v. CoUector, 5 Wall. 720; Collector v. Hubbard, 12 Wall. 13. In 
 the first two of these cases, which were customs cases, the payments were 
 made to release goods held for duties on imports and the protest became 
 necessary in order to show that the legality of the demand was not admitted 
 when pajrment was made. The recovery rested upon the fact that the 
 payment was made to release property from detention and the protest 
 saved rights which grew out of that fact. The detention of property under 
 such circumstances would seem to constitute duress. (See, however, 
 Newhall v. Jordan, 149 Fed. 586 in which it was conceded that the im- 
 porter could not have obtained possession of the goods without making the 
 payment, recovery being still denied. See also U. S. v. N. Y. & Cuba 
 S. S. Co., 200 U. S. 488.) In the third and fourth of these cases, which 
 were internal revenue cases, recovery was based upon the ground that the 
 several provisions in the acts under which the taxes were imposed warranted 
 the conclusion as a necessary implication that Congress intended to give 
 the taxpayer the remedy to recover, it being expressly so stated in the 
 fourth case. The case of Erskine v. Van Arsdale, 15 Wall. 75, (see note 
 171) probably falls within the same class as the third and fourth cases. It 
 is to be noted that the Court in Herold v. Kahn, 159 Fed. 608, uses Phil- 
 adelphia V. Collector, 5 Wall. 720, as one of its authorities for the state- 
 ment which has been criticised above. (See note 169.) 
 
888 FEDERAL INCOME TAX 
 
 supposed to hold that the particular lands were exempt from 
 taxation, whereupon the company brought suit to recover the 
 taxes involved. It was held that no such immediate and urgent 
 necessity for the payment of the taxes in controversy existed as 
 to imply that such payment was made under compulsion.^" In 
 what is perhaps the leading easels on the subject of duress, 
 stamps were purchased from the collector for the purpose of 
 affixing them to a deed to a building company. The collector was 
 not informed at the time of the purchase of this particular pur- 
 pose and no intimation, written or oral, was given him of any 
 claim by the purchaser of the stamps that the law requiring the 
 affixing of the stamps was unconstitutional and that he was 
 making the purchase under duress. About 19 months after the 
 payment, an application was made to the Commissioner for a re- 
 fund which was denied. It was held that no duress existed. 
 While this case is cited as an authority for the general rule stated 
 at the beginning of this paragraph and does not appear ever 
 to have been questioned, its facts do not even disclose the making 
 of a protest,!™ and the only duress claimed did not come from the 
 government or its agent but from a third party.i^o Beyond this 
 and in the light of its facts it is not, strictly speaking, an au- 
 thority upon the question of duress and the court intimates that 
 the rule as to duress is less rigorous on some occasions than on 
 
 177 Union Pacific Co. v. Dodge, 98 U. S. 541. The provisions of the 
 state statute levying the tax involved in this case do not clearly appear, 
 but it may well be that the rule as to what constitutes duress in cases of 
 real property taxation may vary from the rule in cases arising under the 
 internal revenue laws. For instance, the owner of real property always 
 has his action of ejectment. To the same general effect see Simons v. U. S., 
 19 Ct. Cls. 601, where the taxpayer paid the tax to obtain possession of his 
 property; Christie Street Co. v. U. S., 126 Fed. 991 (internal revenue 
 cases). 
 
 178 Chesebrough v. U. S., 192 U. S. 253. The court cites Little v. Bowers, 
 134 U. S. 547; and Union Pacific Co. v. Dodge, 98 U. S. 541 in support of 
 its conclusion. 
 
 179 The court held that an application to the Commissioner under § 3220 
 was not the statutory equivalent of a common law protest or notice of suit. 
 
 180 It appeared that the vendee was unwilling to accept an unstamped 
 conveyance and that stamps were affixed in order to complete the trans- 
 action and obtain the consideration. But the court said that "if that 
 constituted duress as between Chesebrough and his building company it 
 was a matter with which the collector had nothing to do." 
 
ASSESSMENT AND PAYMENT OF THE TAX 889 
 
 others.^81 jn another case,!*^ however, duress as to the stamp 
 tax on manifests of cargoes was claimed in that clearance papers 
 for vessels bound to foreign ports could not be obtained without 
 stamped manifests without which in turn such vessels would be 
 prevented from sailing and their masters liable to a penalty. 
 The court held that such facts did not constitute duress. Further 
 doubt has been thrown upon this entire question by a com- 
 paratively recent case,^^^ in which the taxing statute in con- 
 troversy contained self -executing or automatic provisions for its 
 enforcement, whereby corporations failing to pay the tax for- 
 feited their rights to do business within the state and incurred 
 a penalty. The court said in part : "It is reasonable that a man 
 who denies the legality of a tax should have a clear and certain 
 remedy. The rule being established that, apart from special 
 circumstances, he can not interfere by injunction with the state's 
 collection of its revenues, an action at law to recover back what 
 he has paid is the alternative left. Of course, we are speaking of 
 those cases where the state is not put to an action if the citizen 
 refuses to pay. In these latter he can interpose his objections by 
 way of defense; but when, as is common, the state has a more 
 summary remedy, such as distress, and the party indicates by 
 protest that he is yielding to what he can not prevent, courts 
 some times, perhaps, have been a little too slow to recognize the 
 implied duress under which payment is made. But even if the 
 state is driven to an action, if, at the same time, the citizen is put 
 
 181 Note the following language of the court: "At the same time, when 
 takes are paid under protest that they are being illegally exacted, or with 
 notice that the payer contends that they are illegal, and intends to institute 
 suit to compel their repayment, a recovery in such suit may, on occasion, 
 be had, although generally speaking, even a protest or notice will not 
 avail if the payment be made voluntarily. * * * As we have said, 
 the purchase of these stamps was purely voluntary, and if, notwithstanding, 
 recovery could be had, it could only be on protest or notice, and there was 
 none such here, written or verbal, formal or informal." 
 
 182 U. S. v. N. Y. & Cuba S. S. Co., 200 U. S. 488. In this case as in 
 Chesebrough v. U. S., 192 U. S. 253, the collector was not informed at 
 the time of the purchase of the particular purpose for which the stamps 
 were to be used, and no intimation was given him, written or oral, that 
 the taxpayer claimed that the law regarding such stamps was unconsti- 
 tutional and that it was making the purchase under duress. The court 
 said that all determining conditions were the same as in the Chesebrough 
 case. 
 
 183 Atchison v. O'Connor, 223 U. S. 280. See also Gaar, Scott, & Co. 
 V. Shannon, 223 U. S. 468, in which the court said in part: "Neither a 
 statute imposing a tax, nor the execution thereunder, nor a mere demand 
 for payment, is treated as duress. It does not necessarily follow that 
 there will be duress of goods." 
 
890 FEDERAL INCOME TAX 
 
 at a serious disadvantage in the assertion of his legal, in this 
 case of his constitutional, rights, by defense in the suit, justice 
 may require that he should be at liberty to avoid those disad- 
 vantages by paying promptly and bringing suit on his side. He 
 is entitled to assert his supposed right on reasonably equal 
 terms." A clearer definition than exists at present of the nature 
 of, and necessity for a protest and duress in regard to the re- 
 covery of internal revenue taxes vs^ould be of material assistance 
 both to the taxpayer and the government, since the present un- 
 certainty, instead of freeing the courts from the undoing of the 
 voluntary arrangements of parties not induced by fraud, acci- 
 dent or excusable negligence, is calculated to fill the courts with 
 questions which do not go to the merits of taxation controversies. 
 The more liberal rule of implied duress suggested by the Supreme 
 Court in the case,i8* referred to above, if properly extended and 
 applied, would relieve many taxpayers objecting in good faith to 
 the imposition of a tax from the risk of incurring a penalty in 
 order to come technically within the present rule as to involun- 
 tary payments.183 
 
 184 Atchison v. O'Connor, 223 U. S. 280. Almost all taxing statutes 
 now contain summary and other drastic remedies for failure to pay the 
 tax at the appointed time. Under the presumption that officers of the 
 law will fulfill their duties a considerable extension of the doctrine of 
 duress implied from a statute imposing a tax might well be made without 
 detriment to the government's interests. It is seldom that the government 
 and the taxpayer are on equal terms or that the latter has any choice but 
 to do what the government officials require. Indeed, the only alternative 
 of a taxpayer may sometimes be as in Swift v. U. S., Ill U. S. 22, to sub- 
 mit to an illegal exaction or discontinue business. It would seem that a 
 clear protest should always be required. 
 
 185 It has been held by a district court in Greenport Basin Co. v. U. S., 
 269 Fed. 58, that under § 252 of the Revenue Act of 1918, a taxpayer is 
 entitled to a refund as a matter of right and that protest and duress are 
 not necessary in order to maintain an action for the recovery of taxes 
 illegally assessed. The soundness of this decision seems extremely doubt- 
 ful. § 252 relates solely to the matter of obtaining a credit or a refund and 
 does not in any way bear upon the question of suing to recover taxes 
 illegally assessed. The section was apparently designed to counteract the 
 effect of § 3228 of the Revised Statutes, which limited refunds to a period 
 of two years after the tax had been paid. There is no clear evidence of 
 congressional intent to abolish the rule hitherto in effect, that in suing 
 the government in the courts for the recovery of taxes erroneously paid, 
 it was necessary to show that the taxes were paid under protest and duress. 
 In other words, it has always been the rule that protest was not necessary 
 in order to take any action within the treasury department by way of 
 abatement or refund and the only effect of § 252 seems to be to extend the 
 period of limitation and to enable the taxpayer to obtain a credit. Tht. 
 court in the same case says that even if protest and duress is necessary 
 
ASSESSMENT AND PAYMENT OF THE TAX 891 
 
 in order to maintain a suit, it is sufficient if the defendant computed the 
 tax "under compulsion of the Regulations and filed a claim for abatement 
 of the taxes assessed before payment". This is said to comply with every 
 requisite of a payment under protest. This statement may also be doubted 
 in view of the decision in Rock Island & C. R. Co. v. U. S., 254 U. S. 141, 
 when it was held that a claim for refund as distinguished from a claim in 
 abatement is necessary as a prerequisite to suit. Mr. Justice Holmes in 
 this case remarked that "men must turn square corners when they deal 
 with the government". The court in the Greenport case also says that 
 it would be "a useless requirement" to make protest at the time of actual 
 payment. It should be noted, however, that a similar argument in the 
 Rock Island case to the general effect that it would be a useless requirement 
 to make a claim for refund after denial of the claim in abatement was un- 
 availing. It also seems doubtful if the only principle underlying protest and 
 duress is to "define the taxpayer's attitude and to notify the government 
 thereof" as stated by the court. This may be true with regard to protest, 
 but the necessity for protest should not be confused with the requirement 
 that taxes cannot be recovered unless they are paid under duress. A 
 claim in abatement or any .statement to the treasury department outlining 
 the taxpayer's objection to tax proposed to be assessed or assessed 
 may constitute a sufficient protest to permit of recovery in the courts and 
 yet the taxpayer may be precluded from recovery because he has paid the 
 taxes in question without the necessary degree of coercion. 
 
 One of the most liberal cases upon the question of duress is the case of 
 Underwood Typewriter Co. v. Chamberlain, (Conn.), 102 Atl. 600, 254 U. 
 S. 113. In this case the state contended that the taxpayer had made a 
 voluntary payment of the tax in question. The statute under which the 
 tax was paid provided that the tax would become due on or before August 
 1; that ten days thereafter and upon notice and demand of payment, 5% 
 of the unpaid tax would automatically be added to it and interest at the 
 rate of three-fourths of one per cent, per month upon such tax from the 
 date the tax became due would also be added; that the unpaid tax became 
 a lien upon the real estate of the company within the state from the time 
 the tax became due and was unpaid and from the filing of certificate 
 signed by the treasurer in the land records of the town. In many respects 
 these penalties closely resemble the penalties imposed for failure to pay 
 the federal income tax. The Connecticut court said: "The company was 
 confronted with this situation: Though it contested the validity of the 
 tax successfully it could not prevent the filing of the lien upon its property. 
 And if it were unsuccessful, no matter what merit its claims possessed 
 the lien would attach, and the 5 per centum penalty and the 9 per centum 
 interest would accrue. The lien might prove a serious burden upon its 
 credit, while the actual pecuniary losses suffered or threatened involved a 
 hardship and loss which no company should be compelled to face. , It could 
 not measure the extent of these penalties, because it could not know the 
 time the tax litigation would take. It would be unfair to it to compel it 
 to take this risk of loss as the condition of its right to test the validity of 
 the tax. It should have that right without condition, and by a clear and 
 certain remedy. This is common practice, and it is sound public policy. 
 It is not to the advantage of the state that those whom it seeks to tax 
 should refuse to pay their taxes in order to test their validity. Such a 
 course if largely followed might cause the state more than an inconvenience 
 in the disturbance of the budget upon which the payment of its gov- 
 
892 FEDERAL INCOME TAX 
 
 Payment After Receipt of Form 1123. Form 1123, which 
 under the 1918 Law was sent out ten days bfefore the second, 
 third and fourth due dates, made "demand" for the tax, but did 
 not contain any threats of penalties to be exacted in the event of 
 nonpayment. Under the strict rule with regard to duress a tax- 
 payer might not safely pay each installment on the 15th day of 
 the various months so far as the technical requirements of a suit 
 to recover taxes are concerned.ise 
 
 Payment After Receipt of First Notice and Demand for 
 Tax. The earlier form is? of notice and demand for tax contained 
 the following language: "Demand is here made for this tax. 
 
 * * * If this tax is not in my hands for deposit before the 
 close of business of the day above specified it will become my 
 duty, under the law, to collect the same together with 5 per 
 centum additional, and interest at 1 per centum per month until 
 paid." The form^^^ in use from 1916 until recently contains the 
 following language : "If payment is not made within ten days 
 from the above date, it will be my duty to collect the same with 
 costs by seizure and sale of property." The form now in use con- 
 tains the language : "Demand is made for the payment of the 
 said tax on or before the date given below. Failure to do so 
 will cause a 5 per cent, penalty to accrue with interest at 1 per 
 cent, per month from due date until paid."^^^ In a case in which 
 a notice very similar in form to the first of the above notices 
 and containing a threat to collect penalties and interest was 
 served upon the taxpayer it was held that payment was clearly 
 
 ernmental obligations depended. The more orderly course is a compliance 
 with the law by a payment, reserving the right to contest the validity of 
 the required payment. The payment of the tax in question was not a vol- 
 untary one; it was in the contemplation of the law a payment under duress 
 of the penalties of the act. And this we hold from a consideration of the 
 provisions of the act and without a consideration of any remedies by way 
 of distress which the state might have for the enforcement of payment 
 of this tax. A pajrment of a tax made to avoid the' onerous penalties of 
 the act imposing the tax for its nonpayment is not a voluntary payment." 
 (See also Home Tel. & Tel. Co. v. Los Angeles, (Gal.), 181 Pac. 815.) 
 
 186 Neither should the tax be paid in advance, if it is objected to as 
 illegal. For instance, payment of the four installments at the time of 
 filing a return would probably preclude a taxpayer from relief in the 
 courts. In Railway Co. v. Humboldt, 87 Kans. 1, 123 Pac. 727, the court 
 stated that the pajrment of the second half of a tax, due in June, prior to 
 December 20 of the preceding year, in order to obtain a rebate, was a vol- 
 untary payment and was therefore not recoverable. 
 
 187 Form 1-17. 
 
 188 Form 1-17. 
 
 189 See Form 1-17 in its latest revision. 
 
ASSESSMENT AND PAYMENT OF THE TAX 893 
 
 involuntary and under duress.^"" In another case ^^^ arising un- 
 der the 1913 Law the Supreme Court allowed recovery when 
 payment was made after receipt by the taxpayer of the first of 
 the above forms of notice. It is a matter of doubt whether the 
 form of notice and demand in use under the 1918 Law and not 
 containing an express threat to collect the 5% penalty and in- 
 terest, and containing no reference to any seizure and sale of 
 property, but containing a statement that such penalty and in- 
 terest would accrue, was sufficient to constitute a payment made 
 thereafter involuntary. 
 
 Payment After Receipt of Second Notice and Demand for 
 Tax. There can be no doubt that payment upon receiving the 
 second notice and demand in use under the 1918 Law was clearly 
 payment under duress, since that notice threatened the seizure 
 and sale of the taxpayer's property to satisfy the tax, penalty, 
 interest and costs.^^^ jf the taxpayer delayed payment until the 
 receipt of such notice, in order that it might be shown that pay- 
 ment was clearly made under duress, penalty and interest was re- 
 quired to be paid. It was a wise precaution to protest not only 
 against payment of the tax but also against payment of such 
 penalty and interest as well. 
 
 Abatement, Credit and Refund. The taxpayer may file a claim 
 for abatemtent of an assessment which he thinks is erroneous 
 after the assessment has been made and before the tax is paid, 
 or may file a claim for refund or credit of a tax which he thinks 
 has been erroneously assessed after the tax is paid. A further 
 discussion of this subject is contained in a later chapter on abate- 
 ment and refund.i®^ 
 
 Committee on Appeals and Review. An advisory tax board 
 was created by the Revenue Act of 1918 for the reasons and with 
 the organization and power indicated elsewhere in this book.^^* 
 The function of the board was to review upon appeal the ad- 
 ministrative decisions of the income tax unit in important in- 
 come and excess-profits tax cases, particularly cases involving 
 
 190 Herold v. Kahn, 159 Fed. 608. 
 
 191 Gulf Oil Co. V. Lewellyn, 248 U. S. 71, reversing 245 Fed. 1, which 
 had reversed 242 Fed. 709. In a case arising under the 1909 Law it was 
 held that payment after a notice to the effect that if the tax together with 
 interest was not paid, the collector would take steps to collect the same 
 with penalties was involuntary. (Cambria Steel Co. v. McCoach, 225 
 Fed. 278.) 
 
 192 See Form 1-21. 
 
 193 See Chapter 37. 
 
 194 See Chapter 1. As to submission of questions and procedure for 
 Advisory Tax Board, See Reg. 45, Arts. 1701-1702, no longer in effect. 
 
894 FEDERAL INCOME TAX 
 
 exceptional or unusual conditions with respect to invested capital, 
 amortization, depletion and depreciation. The committee on ap- 
 peals and review took over this function.i^^ 
 
 Procedure. When an appeal is taken from a ruling of the 
 income tax unit to the committee on appeals and review or a 
 question is certified to that committee at the request of the tax- 
 payer, and an oral presentation is desired, the record must im- 
 mediately be examined to ascertain as to whether there is a ques- 
 tion of law involved. If it is found that a question of law is in- 
 volved, the solicitor must be notified and he will thereupon desig- 
 nate one member of the solicitor's office to sit with the committee 
 and himself for the purpose of hearing the appeal, or if the 
 solicitor finds it inconvenient to sit with the committee he may 
 designate two members of his office to do so. At the hearing be- 
 fore the committee the taxpayer or his attorney or representa- 
 tive will be expected to make his full oral argument on the law as 
 well as the facts, and this presentation will be the only oral pre- 
 sentation except in unusual circumstances, or unless a further 
 argument of the facts or the law is deemed desirable by either the 
 chairman of the committee or the solicitor. The attorney or at- 
 torneys so designated by the solicitor for the hearing will be ex- 
 pected, in conjunction vnth the solicitor and the conference com- 
 mittee in the solicitor's oflSce, if the solicitor so desires, to con- 
 sider the legal aspects of the case, and the solicitor's recommen- 
 dation in the form of an opinion or memorandum will then 
 be made to the chairman of the committee, and thereupon 
 the committee's findings will be prepared and submitted to 
 the Commissioner for his approval. In any case of appeal 
 there must be filed with the committee, either at the time 
 of filing the appeal or on or before the date set for oral 
 presentation, if oral argument is desired, a succinct written 
 statement of the essential facts which the taxpayer desires to 
 have considered in connection with his appeal, duly sworn to. 
 If the taxpayer, his attorney, or representative does not wish an 
 oral argument, his argument may be made in the form of a 
 written statement or brief which should be filed at the time the 
 appeal is submitted to the committee. If an oral presentation is 
 to be made, the taxpayer, his attorney, or representative may in 
 addition thereto file such brief or briefs as he may desire. These 
 briefs, not less than three copies of which should be ' furnished, 
 
 195 I. T. S. 1921, § 2470. 
 
ASSESSMENT AND PAYMENT OF THE TAX 895 
 
 may be either printed or typewritten, and where practicable 
 should be filed not less than three days before the appeal is to be 
 heard. Additional briefs may be filed at the time of or sub- 
 sequent to the hearing within the time prescribed for the par- 
 ticular case by the committee.i^^ 
 
 196 O. D. 709, T. B. 43-20-1272. 
 
CHAPTER 36 
 
 PENALTIES AND COMPROMISES 
 
 Several penalties are contained in the Revenue Act of 1921 for 
 failure to comply with its provisions and for making false and 
 fraudulent returns. The penalties take two general forms : (a) 
 specific penalties of fines with maximum limits and imprison- 
 ment, and (b) penalties of either 5%, 25% or 50% based upon 
 the tax. In the case of individuals specific penalties are held to 
 attach to the person and are unenforceable after the death of 
 such person. Ad valorem penalties (those based upon the tax) 
 are enforceable regardless of the death of the owner of the in- 
 come by which the penalty is measured.^ An ad valorem penalty 
 is assessed and collected as a part of the tax, while a specific 
 penalty is recoverable only by suit.^ In general, the penalties 
 under the 1921 Law are the same as those provided by the 
 Revenue Act of 1918. A 25% penalty is provided in the case of 
 taxpayers violating, or attempting to violate, the provisions of 
 the statute as to the collection of tax from those designing 
 quickly to depart from the United States.^ Certain other changes 
 and additions are noted in the following paragraphs. 
 
 Suit to Enjoin Collection of Penalties. While the prohibition 
 of suits to enjoin the collection of internal revenue taxes* does 
 not specifically include "penalties" as such, yet where penalties 
 are authorized by the statute to be added to the tax and col- 
 lected as a part of the tax, the courts hold that the penalty is 
 a part of the tax, and that its collection can not be enjoined.^ 
 
 Failure to File Return. If an individual, corporation, or part- 
 nership fails to file a return, the specific penalty, where the 
 failure is not wilful, is not more than $1,000.'^ In the case of 
 such failure to file a return within the time prescribed by law, 
 
 iReg. 33 Rev., Art. 51. See U. S. v. Theurer, 213 Fed. 960; U. S. v. 
 Pomeroy,'l52 Fed. 279, reversed on different ground, 164 Fed. 324. 
 
 2 Reg. 45, Art. 1041. 
 
 3 See Chapter 35. 
 
 4 R. S., § 3224. 
 
 SKohlhamer v. Smietanka, 239 Fed. 408. 
 
 6 Revenue Act of 1921, §253; Revenue Act of 1918, §253. The courts 
 are loathe to construe a statute so as to impose a penalty unless there has 
 been a substantial delinquency. (Savings Bank v. Archbold, 104 U. S. 
 708.) Technically this provision imposes a penalty in cases where there 
 has been no substantial delinquency. As a practical matter, such cases 
 are compromised by the payment of nominal penalties (see page 910). 
 
 896 
 
PENALTIES AND COMPROMISES 897 
 
 or by the Commissioner or collector, the Commissioner also adds 
 to the tax 25% of its amount,''' except as set forth in the next 
 paragraph. Two classes of delinquents are liable to the penalty : 
 (a) those who do not file returns and for whom returns are made 
 by the collector or Commissioner; and (b) those who file tardy 
 returns and are unable to show reasonable cause for the delay .^ 
 Exceptions. When a return is filed after the time prescribed 
 by law, and it is shown that the failure to file it was due to a 
 reasonable cause and not to wilful neglect, the addition of 25% 
 of the tax is not made.^ Taxpayers wishing to avoid the penalty 
 must make an affirmative showing of the facts alleged as a rea- 
 sonable cause for failure to make a return on time in the form of 
 an affidavit under oath, which should be attached to the return. 
 If such an explanation is furnished with the return or upon the 
 collector's demand, the collector, unless otherwise directed by 
 the Commissioner, will forward the affidavit with the return, and 
 if the Commissioner determines that the delinquency was due to a 
 reasonable cause, the 25 % penalty will not be assessed. "Reason- 
 able cause" is such a condition of fact that had the taxpayer in 
 default exercised ordinary business care and prudence it would 
 have been impracticable or impossible for him to file a return in 
 the prescribed time.^" Where the attendant and surrounding cir- 
 cumstances have a tendency to cast doubt and suspicion upon a 
 taxpayer, a plea of mere ignorance is not sufficient to constitute 
 a reasonable cause for failure to make and file a return on time.^^ 
 Where the United States, through the proper officer of the Indian 
 Service, files a return of income for a restricted Indian, which is 
 delinquent, no penalty will be asserted for such delinquency since 
 
 T R. S., § 3176, as amended by the Revenue Acts of 1921 and 1918. As 
 this section of the Revised Statutes formerly read (as amended by the 
 1913 Law) a "refusal or neglect" was a condition to the addition of the 
 ad valorem penalty provided. These words were held to mean neither a 
 mere failure to file a return within the time required by law nor a fail- 
 ure to file a return at any time, but something in between these two ex- 
 tremes; that is, where there had been a refusal or inexcusable neglect. 
 (L. O. 1060, T. B. 14-21-1554). The 50% addition to tax, now replaced 
 by a 25% addition, has been held a penalty. (17 Ops. Atty. Gen. 433; 
 23 Ops. Atty. Gen. 398.) 
 
 8 Reg. 45, Art. 1004. With regard to supplemental returns for years 
 ending in 1918, see T. B. R. 31, T. B. 7-19-306. 
 
 9 R. S., § 3176, as amended by the Revenue Acts of 1918 and 1921 ; S. 
 1359, T. B. 18-20-817. 
 
 10 Reg. 45, Art. 1004 ; Reg. 33 Rev., Art. 54. 
 
 11 O. 818, T. B. 3-19-204. 
 
898 FEDERAL INCOME TAX 
 
 it is held that the penalty provisions of the law are inoperative 
 against the governnient.12 
 
 Intentional Neglect or Refusal to Make Returns. Any indi- 
 vidual, corporation or partnership wilfully refusing to make a 
 return is guilty of a misdemeanor and subject to a fine not to 
 exceed $10,000, or to imprisonment not to exceed one year, or 
 both, together with the costs of prosecution.is in case of inten- 
 tional neglect or refusal to make a return, the ad valorem pen- 
 alty of 25% of the tax is also added. The amount so added is 
 collected at the same time and in the same manner and as part of 
 the tax, unless the tax has been paid before the discovery of the 
 neglect, in which case the amount so added is collected in the 
 same manner as the tax.i* 
 
 False Returns. The law provides that if any deficiency in tax 
 is due to fraud with intent to evade tax^ then, in lieu of the 
 penalty provided by the Revised Statutes,^^ as amended, for false 
 or fraudulent returns wilfully made, but in addition to other 
 penalties provided by law for false or fraudulent returns 
 there shall be added as part of the tax 50% of the total amount 
 of the deficiency .18 The 1918 Law imposed the same penalty 
 where the "understatement" was "false or fraudulent with in- 
 tent to evade the tax." The term "understatement" had par- 
 ticular reference to the understatement of the amount of the 
 tax in the return. This was true whether such understatement 
 resulted from the false or fraudulent computation of the tax or 
 
 12 0. D. 1130, T. B. 49-21-1966. 
 
 13 Revenue Act of 1921, §253; Revenue Ac^ of 1918, §253. 
 
 i*R. S., §3176, as amended by the Revenue Acts of 1921 and 1918; 
 Reg. 45, Art. 1004. Under the 1913 Law the ad valorem penalty of 100% 
 vsras added. (T. D. 1950.) The inference of R. S. 3176, as then in force, 
 is clear that for intentional failure to file a return only the 50% penalty 
 should be added, and it is difficult to understand by what authority the 
 100% penalty was added for failure to make any return at all, even 
 though the failure was intentional. 
 
 15 R. S., § 3176, as amended by Revenue Acts of 1918 and 1921. 
 
 16 Revenue Act of 1921, §250; Revenue Act of 1918, §250; O. 1008, T. 
 B. 10-20-782. The law also provides that "in case a false or fraudulent 
 return is wilfully made, the Commissioner shall add to the tax 50 per 
 centum of its amount." The amount so added to any tax shall be collected 
 at the same time and in the same manner and as part of the tax unless the 
 tax has been paid before the discovery of the neglect, falsity or fraud, in 
 which case the amount so added shall be collected in the same manner as 
 the tax. (R. S., §3176, as amended by Revenue Acts of 1921 and 1918. 
 See also Reg. 45, Art. 1005.) Under this provision before the Revenue 
 Act of 1918, it was held that the corresponding penalty should be added 
 to the amount of the tax shown by the correct return. (Reg. 33 Rev., 
 Art. 53.) 
 
PENALTIES AND COMPROMISES 899 
 
 from false or fraudulent misstatements or omissions of items of 
 income or misstatements of items of deduction or from other 
 false or fraudulent entries or omissions.^'' The above provision 
 does not include returns vs^hich are false in the sense of contain- 
 ing mistakes or unintentional misstatements. A return may be 
 false, in the sense used in those sections of the law which permit 
 summary assessments in the case of erroneous, false or fraudu- 
 lent returns without being false in the sense of the section pre- 
 scribing the penalty of 50%. is Under the 1918 Law, if a return 
 made in good faith was false in the sense of being incorrect, 
 but such falsity was due to negligence on the part of the tax- 
 payer, "without intent to defraud," the 50% was not added, but 
 a penalty of 5% of the total amount of any deficiency plus in- 
 terest at 1% per month on the amount of the deficiency of each 
 installment from the time such installment is due, was added. 
 "Negligence on the part of the taxpayer, but without intent to 
 defraud," was presumed to exist in every case in which a deduc- 
 tion had been made or income had been omitted in direct conflict 
 with the specific provisions of the law and regulations, but was 
 not presumed to exist if the understatement might be ascribed 
 to an error of judgment as to some matter not so concluded.^^ 
 Whether it would be held that negligence, without intent to de- 
 fraud could exist where the taxpayer was known to have knowl- 
 edge of the law and regulations, is not clear. Under the present 
 law the 50% penalty is not imposed, but the 5% penalty is im- 
 posed and interest at 1 % per month is added if any part of the 
 deficiency is "due to negligence or intentional disregard of om- 
 thorized rules and regulations with knowledge thereof, but with- 
 out intent to defraud." ^o As indicated above, the treasury de- 
 partment in construing the 1918 Law, arrived at practically the 
 same result as is reached by the more specific provisions of the 
 present law, except that the present law now makes it certain 
 that only the 5% penalty and interest attaches where the de- 
 ficiency is due to intentional disregard of authorized rules and 
 regulations with knowledge thereof. Under the present law, in 
 case of any deficiency, interest will be added at the rate of one- 
 half of 1% per month from the time the tax was due, or if paid 
 on the installment basis, on the deficiency of each installment 
 
 17 0. 1008, T. B. 10-20-782. 
 
 18 Revenue Act of 1918, §250; R. S., §3176, as amended by Revenue 
 Act of 1918. Eliot Nat. Bank v. Gill, 218 Fed. 600; Woods v. Lewellyn, 
 252 Fed. 106. See, however, U. S. v. Nashville etc. Ry. Co., 249 Fed. 678. 
 
 19 Revenue Act of 1918, §250; A. R. M. 23, T. B. 7-20-746. 
 
 20 Revenue Act of 1921, § 250 (b) . 
 
900 FEDERAL INCOME TAX 
 
 from the time the installment was due except that where the de- 
 ficiency is due to negligence or intentional disregard of au- 
 thorized rules and regulations with knowledge thereof, but with- 
 out intent to defraud, interest will be added at the rate of 1 % 
 per month.2i Under the 1918 Law no penalty was imposed in 
 case a return made in good faith was false in the sense of being 
 incorrect, in the absence of fault on the part of the taxpayer,22 
 but this provision is not contained in the present law. Where 
 an amended return showing additional tax liability has been filed, 
 no interest oh the additional tax will be collected unless 10 days 
 after notice and demand by the collector the amount of the addi- 
 tional tax assessed has not been paid, provided there appears to 
 have been no neglect or intent to defraud upon the part of the 
 taxpayer.23 In cases where an addition of 25% or 50% is made 
 to the tax on account of delinquency or fraud, and the taxpayer 
 fails to pay the tax within 10 days after notice and demand from 
 the collector, the 5 % penalty and interest attach not only to the 
 amount of tax shown to be due by the return, but also to the 
 25% or 50% addition to the tax.^* In general, negligence is at- 
 tributable to the taxpayer if he computes the tax in disregard 
 of the instructions on the return form or otherwise incorrectly, 
 unless he can show that his error was due to an honest misunder- 
 standing of the facts or the law of which an average reasonable 
 man might be capable.-^ In addition to the ad valorem penalties 
 above enumerated for making false and fraudulent returns, the 
 making of such returns may subject the taxpayer to a fine of 
 $10,000 and imprisonment for not more than one year, together 
 with the costs of prosecution, for wilfully attempting "in any 
 manner to defeat or evade the tax."26 The penalties applying to 
 false or fraudulent returns apply to amended as well as original 
 returns.2'^ 
 
 Red Cross Contributions. The penalty for negligence was 
 not asserted against a corporation when a deduction was taken 
 for contributions to the Red Cross or similar war works, but 
 such item was specifically and separately listed in the schedules 
 attached to the retum.^s 
 
 21 Revenue Act of 1921, §250 (b). 
 
 22 Revenue Act of 1918, § 250. 
 
 23 O. D. 366, T. B. 2-20-678. 
 
 24 0. B. 441, T. B. 14-20-836. 
 
 25 Reg. 45; Art. 1005. 
 
 26 Revenue Act of 1921, §253; Revenue Act of 1918, §253. 
 
 27 Levy V. U. S., 271 Fed. 942. 
 
 28 A. R. R. 360, T. B. 1-21-1377; T. D. 3105, T. B. 1-21-1385. 
 
PENALTIES AND COMPROMISES 901 
 
 Appreciation in Value of Lumber Properties. A number 
 of taxpayers engaged in the lumber business were advised by 
 counsel that they were entitled to include the appreciation in the 
 value of their properties in invested capital under the 1917 Law. 
 Being also advised that they could not safely make a voluntary 
 return along the lines insisted upon by the treasury department, 
 and wishing to test the matter in the courts, these taxpayers in- 
 cluded such appreciation in invested capital, calling specific at- 
 tention on the returns to the fact that they had done so. Addi- 
 tional taxes were not assessed by the department prior to the 
 making of their 1918 returns, and many of the taxpayers con- 
 strued this failure to assess additional taxes as an acquiescence 
 in the soundness of their position and made 1918 returns on the 
 same basis. It was held that since a complete disclosure was 
 made in the return no penalty should be asserted.^^ 
 
 Tax on Bank Stock. Banks which deducted 1919 taxes 
 assessed against their shareholders on account of their ownership 
 of the shares of stock issued by such banks, have been held guilty 
 of negligence and subject to the 5% penalty .^^ 
 
 Gains from Sales of Capital Assets. Taxpayers omitting 
 to include in gross income gains derived from the sale of capital 
 assets, in reliance upon decisions in the lower federal courts that 
 such gains were not taxable, but making a full disclosure of the 
 facts, were not subjected to the penalties for negligence or 
 fraud.^i 
 
 Fraudulent Returns. Where a false or fraudulent return is 
 made, then, in addition to the other penalties provided by law for 
 false or fraudulent returns, there shall be added as part of the 
 tax 50% of the amount of the deficiency. This increase is only 
 made in case the return is fraudulently false.^^ The Revenue Act 
 of 1921 provides that in such case the whole amount of the tax 
 unpaid, including the penalty so added, shall become due and 
 payable upon notice and demand by the collector.^^ In a case 
 in which a taxpayer in good faith and without any fault on his 
 part failed to report certain items of income in his return and 
 also negligently failed to report other items of income, and also 
 fraudulently and with intent to evade the tax failed to report 
 
 29 A. E. M. 105, T. B. 2-21-1392. 
 
 30 0. D. 944, T. B. 23-21-1677. 
 
 31 M. 2791, T. B. 23-21-1674. 
 
 32 Revenue Act of 1921, §250; Revenue Act of 1918, §250. Nat. Bank 
 of Commerce v. Allen, 228 Fed. 472. 
 
 33 Revenue Act of 1921, § 250. This provision was not contained in the 
 1918 Law. 
 
902 FEDERAL INCOME TAX 
 
 other items of income, it has been ruled that the return is to be 
 dealt with as a whole; that no part of the deficiency or under- 
 statement is free from penalty if a part of the return is tainted 
 with fraud or negligence; that the penalty of 5% of the whole 
 amount of the deficiency does not attach because a greater 
 penalty is provided, the statute making no provision for dividing 
 up the deficiency and applying to various parts of it different 
 penalties; that the penalty of 50% will be applied to the entire 
 amount of deficiency or understatement which is tainted with 
 fraud and not to simply a part thereof.^* A taxpayer who filed 
 a return of income which did not include profit on the sale of 
 certain corporate stock and in reply to an inquiry by an examin- 
 ing officer stated that he had not made any money on outside in- 
 vestments during the year, but in reply to a direct inquiry in re- 
 gard to the sale of the stock, based on confidential information, 
 admitted the sale, but made no explanation of his failure to in- 
 clude the profit on the sale in his return for the taxable year, is 
 held to have filed a false and fraudulent return for the purpose 
 of evading taxation and the 100% additional tax should be 
 assessed.35 
 
 Fine Against or Imprisonment of Officer of Corporation or 
 Member of Partnership or Employee of Either. In case an 
 officer of a corporation or member of a partnership or an em- 
 ployee of either, charged with the duty and responsibility of 
 making a return, paying or collecting the tax, or supplying in- 
 formation at the source, wilfully refuses to make such return, 
 pay or collect such tax, or to supply such information, or at- 
 tempts in any manner to defeat or evade the tax, he is guilty of a 
 misdemeanor and subject to a fine not to exceed $10,000, or to 
 imprisonment not to exceed one year, or both, together with the 
 costs of prosecution.36 
 
 Returns of Information at Source. Any individual, corporation 
 or partnership called upon to supply information at the source, 
 who fails to do so at the time or times specified in each year, 
 when such failure is not wilful, is liable to a penalty of not more 
 than $1,000. If such failure to file information at the source is 
 wilful, the delinquent is guilty of a misdemeanor and subject to 
 a fine not to exceed $10,000, or to imprisonment not to exceed 
 one year, or both, together with the costs of prosecution.^'^ 
 
 34 0. 1028, T. B. 18-20-903. 
 
 35 S. 926, T. B. 1-19-105. This ruling was made under the 1913 Law. 
 
 36 Revenue Act of 1921, §253; Revenue Act of 1918, §253. 
 
 37 Revenue Act of 1921, § 253 ; Revenue Act of 1918, § 253. 
 
PENALTIES AND COMPROMISES 903 
 
 Returns of Withholding Agents. Failure to make and file 
 withholding returns on or before March 1st renders a withhold- 
 ing agent liable to the specific penalty of not more than $1,000 ^® 
 unless the tax is paid by the recipient of the income.^* If the 
 failure of the withholding agent was fraudulent and for the pur- 
 pose of evading the tax, however, he will be guilty of a mis- 
 demeanor and fined not more than $10,000 or imprisoned for 
 not more than one year, or both, together with the costs of 
 prosecution, irrespective of whether or not the tax is paid by the 
 recipient of the income.^" The ad valorem penalties for fraudu- 
 lent returns should be assessed against withholding agents un- 
 der the income-tax provisions of the law. The ad valorem penal- 
 ties for delinquent returns should be assessed against withhold- 
 ing agents, except that if the tax required to be withheld is paid 
 by the recipient of the income, no such penalty should be col- 
 lected from the withholding agent unless his delinquency was 
 fraudulent and for the purpose of evading payment.*^ 
 
 Attempts to Evade the Tax. Any individual, corporation or 
 partnership wilfully attempting in any manner to defeat or evade 
 the tax is guilty of a misdemeanor and may be fined not more 
 than $10,000, or imprisoned for not more than one year, or both, 
 together with the costs of prosecution.*^ This includes a tax yet 
 to be assessed as well as a tax already assessed.*^ The giving of 
 instructions or advice with the purpose and intent of inducing 
 
 38 Revenue Act of 1921, § 253 ; Revenue Act of 1918, § 253. 
 
 39 Revenue Act of 1921, § 221 (e) ; Revenue Act of 1918, § 221 (e) . 
 
 40 Revenue Act of 1918, §§253, 221 (e). 
 
 41 S. 1334, T. B. 8-20-758, apparently overruling Mimeograph Letter to 
 CoUectors, No. 1265. 
 
 42 Revenue Act of 1918, § 253. The following comment of Mr. Justice 
 Holmes in Sullen v. Wisconsin, 240 U. S. 625, is interesting in this con- 
 nection: "We do not speak of evasion, because, vsrhen the law draws a line, 
 a case is on one side of it or the other, and if on the safe side is none the 
 worse legally that a party has availed himself to the full of what the law 
 permits. When an act is condemned as an evasion, what is meant is that 
 it is on the wrong side of the line indicated by the policy if not by the 
 mere letter of the law." The distinction between a legal avoidance and an 
 illegal evasion must be kept in mind (see U. S. v. Isham, 17 Wall. 476, 84 
 U. S. 496; S. 1385, T. B. 19-20-928; L. 0. 1062, T. B. 14-21-1548, over- 
 ruling L. O. 1035, T. B. 40-20-1222). The fact that a transaction has 
 for its purpose the reduction of taxes does not make it illegal if the means 
 employed are in themselves legal. As to taxpayers violating or attempting 
 to violate the provisions of the law respecting taxpayers designing to depart 
 from the United States, see Chapter 35'. 
 
 43 Levy V. U. S., 271 U. S. 942. 
 
904 FEDERAL INCOME TAX 
 
 persons liable to make returns or pay tax to refrain from making 
 returns or paying tax is an attempt to defeat the tax." 
 
 Failure to Pay Tax. Any individual, corporation or partner- 
 ship failing wilfully or otherwise to pay the tax at the time or 
 times required is liable to the same specific penalties which at- 
 tach for failure to make a return accordingly as such failure is 
 or is not wilful.*^ In addition, as set forth in another chapter *^ 
 interest will be added, the tax will become a lien, and the goods, 
 chattels or effects, including stocks, securities and evidences .of 
 debt, of the taxpayer will be subject to distraint and sale. 
 
 Delay in the Payment of the Tax. As a general rule, if 
 any tax remains unpaid after the date when it is due, and for ten 
 days after notice and demand by the collector, there will be 
 added as part of the tax the sum of 5% on the amount due but 
 unpaid, and interest at the rate of 1% per month upon such 
 amount from the time it became due. This penalty and interest 
 do not accrue in case of any tax due from the estates of insane, 
 deceased or insolvent persons. When an assessment has been 
 made for a tax or penalty and a bona fide claim for its abate- 
 ment is filed within ten days after demand for payment, where 
 the taxpayer has not had the benefit of the provision of the 1921 
 Law allowing him 30 days in which to file an appeal, the time 
 ceases to run against the claimant as to the 5% penalty, from 
 the time the tax was due until the claim is decided. 'Upon re- 
 ceipt of a notice of rejection of the claim or so much thereof as 
 is not allowed the collector will notify the claimant and demand 
 payment of the tax. If the tax is not then paid within 10 days, 
 the 5 % penalty will be assessed on the amount of tax not abated. 
 If abatement of the entire tax assessed is not demanded in a 
 claim, and the balance of the tax is not paid within the required 
 10 days, the 5% penalty will immediately accrue on such bal- 
 ance.*^ Under the 1918 Law, interest at the rate of one-half of 
 ] % per month, in any event, ran from the time the tax was due 
 until the claim was decided, notwithstanding that a claim for 
 abatement had been filed.^s Where a warrant of distraint was 
 served, $5 was added.*^ Under the present law interest from the 
 
 44 S. 931, T. B. 1-19-108. 
 
 45 Revenue Act of 1921, § 253 ; Revenue Act of 1918, § 253. 
 
 46 See Chapter 35. 
 
 47 Revenue Act of 1921, § 250 (e) ; Revenue Act of 1918, § 250 (e) ; 
 Reg. 45, Art. 1006; Reg. 14, October 15, 1916; Reg. 1., p. 110. For the 
 rules when property passed into the hands of the alien property custodian 
 prior to the expiration of the 10 days, see O. 1026, T. B. 17-20-876. 
 
 48 Revenue Act of 1918, §250 (e). See Chapter 37. 
 40 Reg. 45, Art. 1006. 
 
PENALTIES AND COMPROMISES 905 
 
 time the amount was due until the claim is decided will be at the 
 rate of one-half of 1% per month on that part rejected.^*' In 
 cases where delinquent returns are filed and the total tax is paid 
 at the time of filing, the penalty of 5% and interest at the rate 
 of 1 % per month attaches only to the amount of any installment 
 overdue.51 
 
 Where a taxpayer filed an amended return showing a lesser 
 amount of tax due than that shown in his original return, but 
 did not file a claim for abatement of the excess tax until after 
 10 days following notice and demand from the collector, assum- 
 ing that the amended return was a substitute for the original re- 
 turn, the claim subsequently being rejected, it has been held 
 that the 5% penalty and the h% interest must be asserted for 
 failure to pay the tax within 10 days after notice and demand. 
 "Reasonable cause" is associated only with the 25% penalty in 
 case of failure to file return within the time prescribed, and will 
 not relieve a taxpayer from penalties incident to failure to pay 
 any tax due within 10 days after notice and demand.^^ But if 
 such claim were allowed, no penalty would be asserted.^^ A tax- 
 payer having filed his return and paid the first installment of tax 
 is aware of his liability to pay the balance of the tax on the re- 
 spective due dates, and failure to receive notice and demand for 
 the payment of the later installments by reason of his absence 
 from this country does not constitute a sufficient cause for 
 waiving the penalty and interest on any installment of the tax 
 not paid when due.^* 
 
 Penalty for Divulging Information. The penalty in the case 
 of any collector, deputy collector, agent, clerk or other officer or 
 employee of the United States who divulges information in his 
 possession and acquired in the performance of his duties, is 
 treated elsewhere in this book.^s 
 
 Statute of Limitations. The Revenue Act of 1921, amending 
 a prior statute, provides ^^ that no person shall be prosecuted, 
 tried or punished for any of the various offenses arising under the 
 internal revenue laws of the United States unless the indictment 
 
 50 Revenue Act of 1921, §250 (e) . 
 
 310. D. 1111, T. B. 47-21-1935, overruling 0. D. 313, T. B. 25-19-588. 
 
 52 0. D. 706, T. B. 43-20-1268. 
 
 53 0. D. 846, T. B. 11-21-1511. 
 
 54 O. D. 408, T. B. 9-20-775. 
 
 55 T. D. 2903; R. S., § 1367, as amended by Revenue Act of 1921; 0. 907, 
 T. B. 18-19-489. See Chapter 34. 
 
 5B Revenue Act of 1921, § 1321, amending the act entitled "An act to limit 
 the time within which prosecutions may be instituted against persons 
 charged with violating internal revenue laws", approved July 5, 1884. 
 
906 FEDERAL INCOME TAX 
 
 is found or the information instituted within three years next 
 after the commission of the offense, except that the time during 
 which the person committing the offense is absent from the dis- 
 trict wherein the same is committed shall not be taken as any part 
 of the time limited by law for the commencement of such pro- 
 ceedings. Where a complaint is instituted by a commissioner of 
 the United States within the period above limited, the time shall 
 be extended until the discharge of the grand jury at its next ses- 
 sion within the district. The above provisions do not apply to 
 offenses committed by officers of the United States.^^ The Re- 
 vised Statutes provide that no suit or prosecution for any .penalty 
 or forfeiture, pecuniary or otherwise, accruing under the laws of 
 the United States, shall be maintained, except in cases where it 
 is otherwise specially provided, unless the same is commenced 
 within five years from the time when the penalty or forfeiture 
 accrued. The statute does not run, however, if the person liable 
 for the penalty is not to be found within the United States so that 
 proper process may be instituted and served against him.^^ The 
 period of limitation applies whether the action is in personam or 
 'in reynP The courts have no power to engraft any exception on 
 this statute in cases of concealed fraud which is not discovered 
 until after the expiration of five years.™ The states can not pass 
 any statute of limitations which will bind the federal govern- 
 ment, or which will furnish the rules for determining whether an 
 action is brought in time, except as Congress has clearly mani- 
 fested its intention" that the United States shall be so bound."! 
 It has been held that where an income tax return under the 
 Revenue Act of 1918 has been found to be false and fraudulent 
 and the additional tax has been assessed and paid at a time when 
 
 57 This act, as amended by the Revenue Act of 1921, also provides that 
 "the provisions of this Act shall not apply to offenses committed prior to 
 its passage" and that "any prosecution or proceeding under an indictment 
 found or information instituted prior to the passage of this Act shall not 
 be affected in any manner by this amendment, but such prosecution or 
 proceedings shall be subject to the limitations imposed by lav? prior to the 
 passage of this act". 
 
 58 R. S., § 1047. Unless tax liability is discovered within three years 
 from the time the returns were due under the 1909, the 1913 and the 1916 
 Laws, the commissioner has no authority to assess the 100% ad valorem 
 penalty for false or fraudulent returns in the absence of a waiver of the 
 rights as to the limitation of assessment of such penalties. (Sol. Op. 60, 
 T. B. 36-20-1189; 0. D. 530, T. B. 22-20-977.) See Chapter 35. 
 
 59 Hatch V. The Boston, 3 Fed. 807, 810. 
 
 CO U. S. V. Maillard, 26 Fed. Cas. No. 15,709. 
 
 siArnson v. Murphy, 109 U. S. 238; U. S. v. Nashville Rd. Co., 118 U. 
 S. 125. 
 
PENALTIES AND COMPROMISES 907 
 
 the grounds for asserting the 50% fraud penalty were fully 
 known to the treasury department, the penalty may still be 
 thereafter assessed.c^ 
 
 There is sufficient valid consideration to support the ac- 
 ceptance of an offer in compromise of a specific penalty made by 
 the taxpayer, even though the action thereon is barred by the 
 statute of limitations.^^ Offers in compromise rest upon the 
 same legal principles as ordinary contracts.^* While there are 
 cases holding that the acceptance of an offer relates back to the 
 date of the offer, the general rule in ordinary cases is that the 
 date of a contract is the date of its acceptance.®^ Therefore, if a 
 claim of the government for penalties is without any foundation 
 at all, either in law or in equity, there is not sufficient considera- 
 tion for compromise. If, on the other hand, the government does 
 surrender its claim and the claim has some foundation, either in 
 law or in equity, there is sufficient consideration. Since the 
 statute of limitations relating to penalties does not extinguish 
 the cause of action but merely bars the remedy of the government 
 and the statute of limitations is not a question of jurisdiction 
 but of personal defense, an offer in compromise may legally be 
 accepted after the expiration of the period of limitation. "^ Con- 
 sequently, when an offer in compromise is made before the ex- 
 piration of the period and is not withdrawn, it has been ruled 
 that the failure to withdraw can be considered as a renewal of 
 the offer to meet changed conditions and may be properly and 
 legally accepted.®'^ 
 
 Compromise of Taxes and Penalties. The Commissioner, with 
 the advice and consent of the Secretary, may compromise any 
 civil or criminal case arising under the internal revenue laws 
 instead of commencing suit thereon; and, with the advice and 
 
 62 Sol. Op. 52, T. B. 36-20-1188. The rule under the 1916 Law was 
 different. Under that law and the Revenue Act of 1917, if the additional 
 tax had been assessed but not paid, or paid but not assessed, the penalty 
 might be asserted; but if it had been both assessed and paid, the pen- 
 alty could not be asserted. Under all three of these acts, if the additional 
 tax has been assessed or paid, or assessed and paid prior to discovery of 
 the fraud, the penalty may be assessed at any time after the discovery 
 and within the statutory period for assessment of taxes. 
 
 63 Sol. Op. 7, T. B. 25-20-1019. 
 
 64 Boughton v. U. S., 12 Ct. CI. 330. 
 
 65 Williston on Contracts, Vol. 1, §§ 96-97. 
 
 66 See Taylor v. Weeks, 129 Mich. 233, 88 N. W. 466 ; Burriss v. Starr, 
 165 N. C. 657, 81 S. E. 929; Herrington v. Davitt, 220 N. Y. 162, 115 N. 
 E. 476, 1 A. L. R. 1700. 
 
 67 Sol. Op. 7, T. B. 25-20-1019. 
 
908 FEDERAL INCOME TAX 
 
 consent of the said Secretary, and the recommendation of the 
 Attorney-general, he may compromise any case after a suit 
 thereon has been commenced. Whenever a compromise is made 
 in any case the opinion of the sohcitor of internal revenue or of 
 the officer acting as such, vv^ith his reason therefor, with a state- 
 ment of the amount of tax assessed, the amount of additional 
 tax or penalty imposed by law in consequence of the neglect or 
 delinquency of the person against whom the tax is assessed, and 
 the amount actually paid in . accordance with the terms of the 
 compromise, must be placed on file in the office of the Com- 
 missioner. Accordingly, the power to compromise extends to 
 (a) both civil and criminal cases; (b) cases whether before 
 or after suit; and (c) both taxes and penalties, except that 
 taxes legally due from a solvent taxpayer may not be com- 
 promised."^ Subject to the limitation that he must act with 
 the advice and consent of the Secretary (and the Attorney-gen- 
 eral, if suit has been commenced) , the Commissioner has power 
 to compromise penalties and interest claims whenever, in his 
 judgment, such a compromise is for the interest of the United 
 States. Congress has not said that such compromises may be 
 made only when in the judgment of the Commissioner more 
 money can thereby be realized than can be realized by com- 
 mencing and prosecuting a suit. It cannot be said, therefore, 
 as a matter of law, that the power to compromise is limited to 
 cases in which either the liability for the penalty or the col- 
 lectibility of the claim is doubtful. The judgment of the Com- 
 missioner as to what is for the interest of the United States 
 is conclusive, and what considerations shall control depend upon 
 his discretion and sound judgment exercised in good faith. 
 It may be that with respect to the amount of tax to be collected 
 or the amount of penalty resulting from wilful fraud, the Com- 
 missioner may never find a case in which he will feel justified 
 in accepting less than can be legally collected, whereas in cases 
 of penalties resulting from accident, negligence, or technical 
 omission he may honestly believe that the interest of the United 
 States will be best served by accepting less than the full penalty. 
 He has the right to compromise upon any ground which in 
 his judgement renders the compromise for the interest of the 
 United States.f'^ The Commissioner has under this section no 
 power to compromise a suit against the government,™ the 
 
 CSR. S. §§3229, 3469; Reg. 45, Art. 1011; S. 1371, T. B. 24-20-1006; 
 0. D. 799, T. B. 6-21-1438. 
 
 69 Op. Atty. Gen., June 3, 1919; I. T. S. 1921, If 2149. 
 
 70 23 Op. Atty. Gen. 507. 
 
PENALTIES AND COMPROMISES 909 
 
 power being limited to suits which the government may prose- 
 cute. A compromise operates for the protection of the offender 
 against subsequent proceedings as fully as a formal conviction 
 or acquittal, and is a bar to further action.'''^ Where an action 
 is brought by the United States against a delinquent taxpayer 
 for having failed to file a return, the verdict must specifically 
 state the amount of the penalty, after which the only remedy of 
 the defendant (other than an appeal) is to apply for a compro- 
 mise J^ Offers in compromise should include payments of costs.'^-'' 
 The amount of the offer should be deposited with the Commis- 
 sioner, but cannot be held or set off against the tax due.''* ■ Re- 
 funds cannot be made of offers in compromise where it is sub- 
 sequently ascertained that no violation of law was involved.''^ 
 
 Specific Penalties. While the sections of the revised stat- 
 utes relating to compromise ''^ do not in express language refer 
 to the compromise of the specific penalty for failure to file the 
 return, neither are they restricted in terms, nor by any reason 
 of public policy, to penalties for the nonpayment of taxes. In 
 the opinion of the Attorney-general the application of these 
 sections to the compromise of penalties for failure to file returns 
 in time is proper, and, further, in such compromises the Com- 
 missioner is authorized to consider not only the pecuniary in- 
 terests of the treasury, but also sreneral considerations of jus- 
 tice, equity and public policy." 
 
 Ad Valorem Penalties. Congress has left it to the judgment 
 and discretion of the Commissioner to determine when it is to 
 the interest of the United States to compromise the ad valorem 
 penalties imposed for failure to file returns, for false and fraud- 
 ulent returns, for nonpayment of taxes when due, and interest, 
 instead of commencing or prosecuting suits therefor. The only 
 limitation placed upon the exercise of this judgment and dis- 
 cretion is that the Commissioner's action shall be with the advice 
 and consent o'f the Secretary (and Attorney-general if suit has 
 been commenced) . Subject to this limitation the Commissioner 
 has power to compromise such penalties and interest, whenever, 
 in his judgment, such a compromise is for the interest of the 
 
 71 U. S. V. Chouteau, 102 U. S. 603; Rau v. U. S., 260 Fed. 131. 
 
 72 U. S. V. Acorn Roofing Co., 204 Fed. 157. 
 
 73 0. 907, T. B. 18-19-489; T. D. 642, March 20, 1903. 
 
 74 Boughton V. U. S., 12 Ct. Cls. 330. 
 
 75 Reg. 45, Art. 1011. 
 
 76 R. S., §§3229, 3469. 
 
 77 29 Op. Atty. Gen. 217. 
 
910 FEDERAL INCOME TAX 
 
 United States.'^'^ Where a liability to an ad valorem fraud 
 penalty exists, it may at any stage be compromised by the Com- 
 missioner and the approving officials, whether or not it has 
 been formally assessed.™ 
 
 Offers in Compromise. Under the 1918 Law, when returns 
 of income or returns of information at the source were filed 
 after their due dates, the specific penalty was asserted unless 
 it could be shown that the delay was due to a reasonable cause, 
 and offers in compromise were accepted in minimum amounts 
 as follows: (1) Delinquent returns of income and information 
 by individuals, $5; and (2) delinquent returns of income by 
 corporations, $10. Such offers were received where the neglect 
 of the taxpayer was not intentional.so Offers in compromise do 
 not receive favorable consideration in cases where returns for 
 the year in question have not been filed, but such offers are 
 accepted "subject to the filing of the return."8i All .delinquents 
 who do not compromise their liabilities to the specific penalty, 
 after ample opportunity, are reported to the United States dis- 
 trict attorney for proceedings.^^ it is the duty of every district 
 attorney to prosecute every case for the collection of a fine, 
 penalty or forfeiture reported to him by any collector, unless, 
 upon inquiry and examination, he decides that such proceed- 
 
 78 Op. Atty. Gen. dated June 3, 1919; I. T. S. 1921, If 2149. See T. D. 
 2871; O. D. 539, T. B. 23-20-990. A penalty (50%) corresponding to the 
 penalty of 25% increase in tax for failure to file returns is found in prac- 
 tically all revenue laws relating to special taxes, and one construction has 
 been that no administrative officer is clothed with authority to compromise 
 such increase in tax. (T. D. 1701.) It has been held that the income tax 
 law is explicit and mandatory in its provisions relative to the additional 
 assessment of 25% of the tax otherwise due, in case of failure to file a 
 return of income within the prescribed time except when a return is filed 
 after such time and it is shown that the failure was due to reasonable 
 cause and not to wilful neglect, does not give discretionary authority for 
 remission of these additional taxes to any officer of the government. Con- 
 gress passed an act providing particularly for the refund of such ad- 
 ditional taxes, assessed under the 1909 Law, for neglect to file returns, 
 but no such statute has been passed with respect to penalties incurred 
 under the 1913, 1916, 1918 or 1921 Laws. (Act of March 3, 1913.) 
 
 79 L. O. 1072, T. B. 41-21-1864. 
 
 80 Mimeograph Letter to Collectors, No. 2077, dated March 13, 1919. 
 Cards, Form 7245A, prepared in the manner indicated in M. 1480, dated 
 February 26, 1917, should accompany every original delinquent return filed 
 after the last dates for filing returns before the specific penalty will be 
 asserted. (See also mimeograph letter to collectors. No. 1480, dated 
 February 26, 1917; T. D. 2311; T. D. 2349.) 
 
 81 T. D. 2311. 
 
 82 T. D. 2311. 
 
PENALTIES AND COMPROMISES 911 
 
 ings cannot properly be sustained, or that the needs of public 
 justice do not require that such proceedings be instituted; in 
 which case he reports the facts to the Commissioner for his 
 direction.83 Under the 1864 Law as amended in 1870 only one 
 penalty was permitted to be recovered for all failures to make 
 a return prior to the commencement of the action for the col- 
 lection of a penalty .8* Where an offer in compromise is ac- 
 cepted by the government, but no release is tendered by the gov- 
 ernment before the death of the taxpayer, his estate is not 
 bound by the contract of compromise.^^ 
 
 Duty of Collector Regarding Violations of the Law. It is the 
 duty of every collector of internal revenue having knowledge 
 of any wilful violation of any law of the United States relating 
 to the revenue, within thirty days after coming into possession 
 of such knowledge, to file with the district attorney of the district 
 in which any fine, penalty or forfeiture may be incurred, a 
 statement of all the facts and circumstances of the case within 
 his knowledge, together with the names of the witnesses, set- 
 ting forth the provisions of law believed to be so violated on 
 which reliance may be had for condemnation or conviction.^'' 
 
 83 R. S., § 838. 
 
 84 U. S. V. Brooklyn etc. Ry. Co., 14 Fed. 284; U. S. v. N. Y. Guaranty 
 Co., 8 Ben. 269. 
 
 85. U. S. V. Richardson, 9 Fed. 804. 
 
 86 R. S., § 3164, as amended by Revenue Act of 1918 and re-enacted as 
 amended by § 1311 of the Revenue Act of 1921. 
 
CHAPTER 37 
 
 ABATEMENT, CREDIT, REFUND AND RECOVERY OF TAXES 
 
 The prompt collection of the revenue and its faithful applica- 
 tion is one of the most vital duties of government. Depending, 
 as the government does, upon its revenue to meet not only its 
 current expenses, but to pay the interest on its debt, it is of the 
 utmost importance that it should be collected with dispatch, and 
 that the officers of the treasury should be able to make a reliable 
 estimate of means in order to meet liabilities. It would be diffi- 
 cult to do this, if the receipts paid into the treasury were liable to 
 be taken out of it, on suits for alleged errors and mistakes, con- 
 cerning which the officers charged with the collection and dis- 
 bursement of the revenue had received no information. To guard 
 against such consequences, Congress has from time to time 
 passed laws on the subject of the revenue, which not only pro- 
 vide for the manner of its collection, but also point out a way in 
 which errors can be corrected. These laws constitute a system 
 which Congress has provided for the benefit of those persons 
 who complain of illegal assessments of taxes and illegal exactions 
 of duties. The party aggrieved can test the question of the 
 illegality of an assessment or collection of taxes by suit ; but he 
 can not do this until he has taken an appeal to the Commissioner. 
 In other words, the person who believes he has suffered wrong at 
 the hands of the collector can appeal to the courts ; but he can not 
 do this until he has taken an intermediate appeal to the Com- 
 missioner, and, in any event, he is barred from bringing a suit, 
 unless he does it within the period limited by law. The object 
 of these different provisions is apparent. While the govern- 
 ment is desirous of securing to the citizen a mode of redress 
 against erroneous assessments or collections, it says to him: 
 "We want all controverted questions concerning the revenue set- 
 tled speedily, and if you have complaint to make, you must let 
 the Commissioner know the grounds of it; but if he decides 
 against you, or fails to decide at all, you can test the question in 
 the courts if you bring your suit within a limited period of 
 time."i The Commissioner, subject to regulations prescribed by 
 
 1 U. S. V. Savings Bank, 104 U. S. 728. See also Nichols v. U. S., 7 Wall. 
 122, modified in regard to its holding that cases under the revenue laws 
 •were not within the jurisdiction of the court of claims in U. S. v. Kaufman, 
 96 U. S. 567 and U. S. v. Savings Bank, 104 U. S. 728. 
 
 912 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 913 
 
 the secretary, is authorized to remit, refund, and pay back all 
 taxes erroneously or illegally assessed, or collected, all penalties 
 collected without authority, and all taxes that appear to be un- 
 justly assessed or excessive in amouutj. or in any manner wrong- 
 fully collected.2 The Revenue Act of 1918 contained a new pro- 
 vision authorizing the crediting against any income, war-proiits 
 or excess-profits taxes due, or any installment thereof, of any 
 amount of income, war-profits or excess-profits taxes paid in 
 excess of that due under the Act of August 5, 1909, the Act of 
 October 3, 1913, the Revenue Act of 1916, as amended, or the 
 Revenue Act of 1917. It also authorized the immediate refund- 
 ing of any balance of such excess payment.^ This provision is 
 amended by the Revenue Act of 1921, as indicated below in this 
 chapter. The principal changes made by the Revenue Act of 
 1921 discussed in this chapter bear upon the statutes of limita- 
 tion upon the recovery of taxes and penalties from the Commis- 
 sioner or in the courts, and the provision allowing interest to the 
 taxpayer in certain cases. 
 
 Who May Claim Recovery of Tax. As a general rule, the tax- 
 payer against whom the tax is assessed and by whom the tax is 
 paid is the one who is entitled to claim abatement or refund or 
 sue for its recovery. If the person against whom the tax is as- 
 sessed is dead, the claim should be made in the name of the ex- 
 ecutor or administrator.* In cases where the tax has been with- 
 held at the source the claim for abatement or refund may be 
 made either by the withholding agent against whom the assess- 
 ment was made or by the person for whose account such taxes 
 were withheld.^ Where one corporation had leased all of its prop- 
 erty to another, a tax being thereafter assessed upon the lessor, 
 and its claim for an abatement being rejected, the tax was paid 
 
 2 R. S., § 3220, as amended by the Revenue Act of 1918 by striking out the 
 words "on appeal made to him (commissioner of internal revenue)." 
 
 3 Revenue Act of 1918, § 252. 
 
 * Reg. 33 Rev., Art. 266. Certified copies of the letters of administration, 
 letters testamentary or other similar evidence should be annexed to the claim 
 in such cases. 
 
 5 Reg. 33, Art. 33. If an individual who received during 1917 interest on 
 bonds containing a tax-free covenant clause was not liable to the payment 
 of normal income tax for that year, the amount of tax paid at the source 
 in his behalf by the debtor corporation is refundable to the debtor corpora- 
 tion, if such tax was not actually withheld from the individual bondholder. 
 The amount of any income or excess-profits taxes, or any installment thereof, 
 shown to be due on the debtor corporation's income and profits tax return 
 may be credited with the amount of the excess tax in question paid at the 
 source. (0. D. 1103, T. B. 46-21-1924.) 
 
914 FEDERAL INCOME TAX 
 
 by the lessee to avoid the penalty threatened by the collector and 
 to avoid distraint and sale of the leased property. The court held 
 that the payment by the lessee was not voluntary and that it was 
 entitled to sue for its rec9very without regard to privity of con- 
 tract between it and the col'lector.e In view of the fact that the 
 statutes of New Jersey under which a merger or consolidation 
 of corporations resulting in the formation of another corpora- 
 tion is accomplished provide, in effect, that the successor cor- 
 poration shall represent predecessor corporations in the enforce- 
 ment of their rights, it is held that the successor corporation is 
 entitled to file claim for credit on account of the overpayment of 
 tax by the predecessor corporation."? A taxpayer, the sole pro- 
 prietor of several enterprises, who in 1917 filed in error partner- 
 ship returns and paid the taxes due thereon in addition to taxes 
 under his individual return, may apply the erroneous payment of 
 taxes due on account of the returns of these nonexistent partner- 
 ships as a credit against taxes due on his amended individual re- 
 turns for 1917 and subsequent years.^ 
 
 Abatement. A claim in abatement is applicable to taxes which 
 have been assessed but not yet paid. The Commissioner obtains 
 jurisdiction to pass upon a claim and the merits of a case come 
 before him only when a proper claim has been made. Under a 
 claim for abatement he can only determine whether or not the 
 assessment should be abated. Any further action would be in 
 violation of the regulations and beyond his jurisdiction.^ The 
 Commissioner possesses no equity powers in case of abatement ; 
 if the tax is a legal one he can not abate it.^" It seems that the 
 Commissioner has no authority to revoke the abatement of a tax 
 once made by him, but he may re-assess the tax." The five- 
 year statutory period of limitations does not apply to claims for 
 abatement.^2 
 
 Effect of Rejection of Claim for Abatement^. It is now 
 settled by the Supreme Court that the rejection of a claim in 
 abatement does not dispense with the necessity of a claim for re- 
 fund as a prerequisite to recovery in the courts, even though it 
 
 6 Cambria Steel Co. v. McCoach, 225 Fed. 278. 
 
 7 O. D. 950, T. B. 24-21-1690. 
 
 8 O. D. 962, T. B. 26-21-1710. 
 
 9 Rock Island etc., Rd. Co. v. U. S., 254 U. S. 141; Hastings v. Harold, 
 184 Fed. 759. 
 
 10 Decision No. 180, 36 Int. Rev. Rec. 13. 
 
 11 U. S. V. Alexander, 110 U. S. 325. 
 
 12 O. 833. T. B. 4-19-235. 
 
ABATEMENT, REFUND AND RECOVERY OF T^XES 915 
 
 may seem a useless form to appeal to the Commissioner for a 
 second time.^^ 
 
 Procedure for Claiming Abatement. Claim for abatement 
 of taxes or penalties erroneously or illegally assessed, or which 
 are abatable under remedial acts, must be made out on the form 
 prescribed by the government i* and must be sustained by the 
 affidavits of the partie's against whom the taxes were assessed, 
 or of other parties cognizant of the facts. is The practice is to 
 obtain the official form from the local collector, prepare it accord- 
 ing to instructions and file it with the local collector. The claim 
 for abatement can only be made between the time the tax is as- 
 sessed and the date it is due. If the claim has not been acted 
 upon within ten days after notice and demand for the tax, 5% 
 penalty for failure to pay the tax will not accrue if the tax is 
 paid within ten days after the claim for abatement is rejected, 
 and interest from the time the amount was due until the claim 
 is decided will be at the rate of 1/2% Pe^ month instead of 1%. 
 The rule waiving penalty and reducing interest obtains only as 
 to any amount of tax which is the subject of a bona fide claim 
 for abatement.!^ When a tax has been assessed and turned over 
 to the collector, the presumption is that the assessment is cor- 
 rect. The burden of proof in rebutting the presumption and 
 showing that it was improperly or illegally assessed, or that 
 relief should be given under a remedial statute, rests upon the 
 applicant for abatement. The affidavits must therefore contain 
 full and explicit statements of all the material facts relating to 
 the claim, in support of which they are offered and to the proper 
 consideration of which they are essential. The filing of a claim 
 for abatement does not necessarily operate as a suspension of the 
 collection of the tax or make it any less the duty of the collector 
 to exercise due diligence to prevent the collection of the tax being 
 jeopardized. Under the Revised Statutes ^''^ every collector is 
 
 13 Rock Island etc., Rd. Co. v. U. S., 254 U. S. 141, affirming the doctrine 
 of Hastings v. Herold, 184 Fed. 759, and overruling Loomis v. Wattles, 
 266 Fed. 876 ; Weaver v. Ewers, 195 Fed. 247 ; Grier v. Tucker, 150 Fed. 658 ; 
 Schwarzchild & Sulzberger Co. v. Rucker, 143 Fed. 656; De Bary v. Dunne, 
 162 Fed. 961 ; San Francisco Society v. Cary, 2 Sawy. 393, and T. D. 1293, 
 T. D. 974. In the Rock Island case the court made the interesting remark 
 that "men must turn square corners V(rhen they deal with the government"- 
 
 14 The form prescribed by the government is known as Form 47. 
 
 is Reg. 45, Art. 1032. Reg. No. 14 Rev. October 15, 1911, as modified by 
 T. D. 2654. 
 
 16 Revenue Act of 1921, § 250 (e) ; Revenue Act of 1918, § 250 (e). 
 
 17 R. S., § 3218. 
 
916 FEDERAL INCOME TAX 
 
 charged with the whole amount of taxes, whether contained in 
 lists transmitted to him by the Commissioner or by other col- 
 lectors, or delivered to him by his predecessor in office, and he is 
 credited only with all payments into the treasury made as pro- 
 vided by law, and with the amount of taxes contained in the 
 lists transmitted by him to other collectors and by them re- 
 ceipted for, and also with the amount of- taxes of such persons 
 as may have absconded or become insolvent prior to the day 
 when the tax ought to have been collected, and with all uncol- 
 lected taxes transferred by him to his successor in office, and 
 this is conditioned upon proof, to the satisfaction of the Com- 
 missioner, that due diligence was used by him in his endeavor to 
 collect the tax. There is no provision of law or of the regulations 
 for crediting a collector with any amount of tax which he might 
 be unable to collect by reason of a decrease in the assets of a 
 taxpayer subsequent to the transmission of the list to him, and 
 in no case is he relieved of liability for the amount of the tax in 
 the absence of due diligence in endeavoring to collect it. While 
 there is no provision of law expressly authorizing the collector 
 to require a bond as a condition of suspending the collection of 
 the tax, he is personally charged with the amount of the assess- 
 ments made against taxpayers in his district and he is required 
 to use due diligence in collecting such taxes. If he fails to exercise 
 due diligence, it is clear that he becomes personally liable for any 
 tax which may be lost through such failure. He may require the 
 tax to be paid and leave the taxpayer to his remedy by a claim 
 for credit or refund, and if he sees fit to suspend the collection 
 of the tax in any case where a final collection may thus be 
 jeopardized, he does it at his own risk. It is within his discre- 
 tion to protect himself by requiring the- taxpayer to execute a 
 bond in the amount of the tax collection of which is postponed.i^ 
 Where property of a corporation is in the hands of a receiver 
 who files a claim for abatement of an additional assessment of 
 income and profits taxes for 1917, no bond will be required as 
 security for the payment of such taxes.^" A claim for abatement 
 of an apparently excessive tax assessed on the basis of a tenta- 
 tive return filed under the Revenue Act of 19,18 would not be con- 
 sidered prior to the filing of a completed return.^" 
 
 18 0. 957, T. B. 31-19-652; Reg. 45, Art. 1032; A. R. R. 331, T. B. 48-20- 
 1323. 
 
 19 0. D. 733, T. B. 47-20-1316. 
 
 20 0. D. 634, T. B. 33-20-1139. 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 917 
 
 PAYMENT Where Claim for Abatement Denied. Where a 
 bona fide claim for abatement or a claim for credit is rejected, 
 the tax which is the subject of the claim is chargeable with inter- 
 est at the rate of one-half of 1 '/ per month from the time the tax 
 was due until the claim is decided adversely to the taxpayer; 
 notice of the adverse decision is sent to the collector who must 
 send to the claimant a notice and demand for payment of the as- 
 sessment; if the tax is paid within the 10-day period following 
 the sending of the notice, the 5% penalty is not collectible, and 
 the only interest collectible is that at the rate of one-half of 1 % 
 per month from the time the tax was due until the date of the 
 Commissioner's decision ; if the tax is not paid within the 10-day 
 period, the 5% penalty attaches in addition to the above interest 
 and also interest at the rate of 1% per month from the date of 
 the adverse decision by the Commissioner to the date of pay- 
 ment.21 
 
 Effect of New Provision for Appeal from Additional Assess- 
 ments. Although retaining the provisions indicated in the fore- 
 going paragraphs that as to any amount which |s the subject of a 
 bona fide claim for abatement interest shall be limited to one- 
 half of 1%, the Revenue Act of 1921 contains a new provision 
 for notification of the taxpayer and an appeal with hearing in 
 regard to additional taxes proposed to be assessed by the Com- 
 missioner. 22 Where the taxpayer has had the benefit of this pro- 
 vision no abatement claim will be entertained.^^ The law, there- 
 fore, limits the rule that interest upon a bona fide abatement 
 claim shall be at the rate of one-half of 1% to ' cases ^ in 
 which the taxpayer has not had the benefit of an appeal 
 and hearing.-^ Such provision limiting the interest in the case of 
 bona fide abatement claims will still apply, however, in cases in 
 which the benefit of an appeal and hearing is withheld because 
 the collection of the tax will be jeopardized by delay, and also to 
 cases in which the taxpayer discovers that he has returned an 
 excessive tax but has not yet paid the whole thereof, and files a 
 claim for abatement against subsequent installments covering 
 such excess. The practice upon the appeal from an additional 
 assessment under the new provision of the 1921 Law above indi- 
 cated must be determined by regulations. It does not seem neces- 
 
 21 Sol. Op. 32, T. B. 31-20-1106. 
 
 22 This provision is discussed in Chapter 35. 
 
 23 Revenue Act of 1921, § 250 (d). 
 
 24 Revenue Act of 1921, § 250 (e). 
 
918 FEDERAL INCOME TAX 
 
 sary to require the filing of abatement claims, since the assess- 
 ment itself is withheld until the determination of the hearing and 
 appeal. 
 
 Credit and Refund. Prior to the passage of the Revenue Act 
 of 1918, the fact that the taxpayer has overpaid his taxes for a 
 previous year could have no effect upon the amount of tax for 
 which he is liable for a different year. Consequently, when such 
 conditions existed the only course which the government could 
 pursue was to collect the present amount in full and permit the 
 taxpayer to file a claim for refund of any amount overpaid. Con- 
 gress, recognizing the injustice and hardship frequently involved 
 in such an awkward procedure, provided for crediting the amount 
 of any overpayment against taxes presently due.^s 
 
 The Commissioner is authorized to allow credits and refunds 
 by virtue of the following provision i^s 
 
 "That if upon examination of any return of income made pur- 
 suant to this Act, the Act of August 5, 1909, entitled 'An Act to 
 provide revenue, equalize duties, and encourage the industries of 
 the United States, and for other purposes,' the Act of October 3, 
 1913, entitled 'An Act to reduce tariff duties and to provide 
 revenue for the government, and for other purposes,' the Revenue 
 Act of 1916, as amended, or the Revenue Act of 1917, it appears 
 that an amount of income, war-profits, or excess-profits tax has 
 been paid in excess of that properly due, then, notwithstanding 
 the provisions of section 3228 of the Revised Statutes, the 
 amount of the excess shall be credited against any income, war- 
 profits, or excess-profits taxes, or installment thereof, then due 
 from the taxpayer under any other return, and any balance of 
 such excess shall be immediately refunded to the taxpayer." 
 
 This provision is supplemental to certain provisions of the 
 Revised Statutes ^^ indicating the policy of Congress regarding 
 refunds. Under the provision just quoted the amount of tax 
 erroneously collected on an income return under the Act of 
 
 25 A. R. M. 46, T. B. 19-20-924. 
 
 26 Revenue Act of 1921, §252; Revenue Act of 1918, §252. Under this 
 provision munitions tax overpayments for one year may not be credited 
 against an additional assessment of munitions taxes for a subsequent or 
 prior year, or against additional assessments of income, excess-profits and 
 war-profits taxes for the same or for any subsequent or prior taxable year 
 (A. R. M. 123, T. B. 18-21-1613). The tax imposed on undistributed net 
 income of corporations by the Revenue Act of September 8, 1916, as 
 amended, is held to be an income tax, and may be credited against an ad- 
 ditional amount of income due from the taxpayer (0. 974, T. B. 1-20-662). 
 
 27 R. S., §3220, as amended by §1315 of the Revenue Act of 1921; 
 3221; 3228, as amended by § 1316 of the Revenue Act of 1921. 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 919 
 
 August 5, 1909, the Act of October 3, 1913, the Revenue Act of 
 1916, the Revenue Act of 1916, as amended by the Revenue Act 
 of 1917, or the Revenue Act of 1918 may, at any time within 
 five years from the time the return was due, be credited against 
 the tax due on any other income return under those Acts whether 
 or not the taxpayer makes a claim for the credit, and the balance 
 of the excessive amount so erroneously collected over and above 
 the amount so credited may be refunded, whether or not a claim 
 for the same is made.^^ 
 
 An assessment made upon an erroneous theory or by mistake 
 will not be remitted or abated because so made, if, at the time 
 its validity is passed on the Commissioner is in the possession 
 of evidence which shows an equivalent amount of tax due in con- 
 nection with the income, transaction or matter upon which the 
 assessment is predicated.^® 
 
 Review of Commissioner's Decision. . Where the Com- 
 missioner, in a case within the scope of his authority and juris- 
 diction, has ordered an abatement, credit or refund, a court can 
 not inquire as to the sufficiency of the evidence before him,^" 
 and neither the comptroller of the treasury nor any accounting 
 officer has authority to review the Commissioner's decision.^i 
 Decisions by the Commissioner, in cases where a refund is di- 
 rected, are binding and, in the absence of fraud, or mistake of 
 calculation, not subject to revision.^^ The Commissioner's de- 
 cision is conclusive as to the questions of fact.^^ His decisions 
 are in the nature of awards made by arbitrators, and generally 
 speaking bind both the claimant and the government. Prior to 
 the enactment of the provision of the present law discussed be- 
 low, refund might be impeached for fraud, want of jurisdiction, 
 mistake apparent in the certificate, or for such irregularities as 
 would avoid an award.^* The Commissioner might recon- 
 sider and revoke an allowance for refund at any time before the 
 allowance was paid, but whether a Commissioner might revoke 
 an allowance made by his predecessor was not clear.^^ where 
 
 28 Sol. Op. 79, T. B. 49-20-1337. 
 
 29 T. D. 3251, T. B. 49-21-1967. 
 
 30 Woolner v. U. S., 13 Ct. Cls. 355. 
 
 31 Bank of Greencastle v. U. S., 15 Ct. Cls. 225. In Sybrandt v. U. S., 19 
 Ct. Cls. 461, it was held that even three adverse decisions of successive secre- 
 taries would not prevent a Commissioner from taking up and allowing a 
 claim for the refund of taxes. 
 
 32 Dugan V. U. S., 34 Ct. Cls. 458. 
 
 33 U. S. V. Wright, 11 Wall. 648. 
 
 34 Dugan v.'u. S., 34 Ct. Cls. 458; Cumming v. U. S., 22 Ct. Cls. 344. 
 
 35 Ridgway V. U. S., 18 Ct. Cls. 707. 
 
920 FEDERAL INCOME TAX 
 
 one Commissioner recommended the allowance of the claim and 
 referred the matter to the secretary for advisement, a succeeding 
 Commissioner to whom the matter was referred back could re- 
 ject the claim.30 The Commissioner was not precluded from 
 allowing a claim for refund because a former Commissioner had 
 rejected a claim for abatement, and he was authorized to recon- 
 sider and allow a claim which he had, through error of law, pre- 
 viously rejected.^^ No equity powers were conferred on the Com- 
 missioner, and the Commissioner was authorized, not obliged, to 
 refund.38 The uncertainties and doubts bearing upon the finality 
 of decisions as to abatement, credit and refund have been con- 
 siderably clarified by a provision of the present law that if after 
 determination and assessment in any case the taxpayer has with- 
 out protest paid in whole any tax or penalty or accepted any 
 abatement, credit or refund based on such determination and 
 assessment, and an agreement is made in writing between the 
 taxpayer and the Commissioner with the approval of the secre- 
 tary, such determination and assessment will be final and con- 
 clusive (except upon a showing of fraud or malfeasance or mis- 
 representation of fact materially affecting the determination or 
 assessment made.) Such a case may not be reopened, or the de- 
 termination and assessment modified, by any officer, employee or 
 agent of the United States, and no suit, action or proceeding to 
 annul, modify or set aside such determination or assessment 
 will be entertained by any United States court.^^ 
 
 Procedure for Handling Abatement, Credit or Refund Claims, 
 Effective December 16, 1921. For the more expeditious handling 
 of refund, credit, and abatement claims, and to provide for the 
 refund or credit of overpayments where no claims have been filed, 
 the following procedure has been established to become effective 
 December 16, 1921 : 
 
 1. Reduction of assessments and adjustments of overpay- 
 ments will be accomplished in one of three ways: 
 
 (a) On the basis of an application submitted by a tax- 
 payer on Form 46, 47 or 47 A, together with appropriate sup- 
 porting evidence to be filed in the office of the collector of the 
 district in which the tax is assessed. 
 
 (b) On the basis of a certificate of overassessment pre- 
 pared by the appropriate administrative unit in the bureau 
 
 30 Stotesbury v. U. S., 23 Ct. Cls. 285. 
 
 37 14 Op. Atty. Gen. 615. 
 
 38 16 Op. Atty. Gen. 667; 13 Op. Atty. Gen. 439. 
 
 39 Revenue Act of 1921, § 1312. See Chapter 35. 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 921 
 
 in each case in which an overassessment of tax is disclosed 
 through the audit of a return. 
 
 (c) On the basis of a blanket claim (Form 751) ; a sched- 
 ule of taxes found to be uncollectible (Form 53) ; or a sched- 
 ule of duplicate payments and overpayments due to obvious 
 error on all forms of taxable returns (blanket form 47 or 
 47B) submitted by a collector. Form 751 will be used only 
 in cases where credit balances exist, regardless of the class 
 of return filed. , 
 
 2. Claims of taxpayers and the items of collectors' blanket 
 claims (if and when found by an administrative unit to be allow- 
 able), and certificates of overassessment (upon final approval), 
 and items credited in account 9 (e) will be scheduled on Form 
 7777 and submitted to the Commissioner for approval. Upon 
 approval by the Commissioner, such schedules will be forwarded 
 to the collectors of the several districts. 
 
 3. Upon receipt of such schedules the several collectors will 
 immediately check the items thereon against the accounts of the 
 several, taxpayers concerned and determine whether the several 
 amounts of overassessments should be abated, refunded, or 
 credited against assessments remaining unpaid. Only overpay- 
 ments of income and profits taxes may be credited against un- 
 paid assessments of such taxes. Whenever, on such examination 
 of a taxpayer's account and of the items in account 9 (e) , a col- 
 lector finds an amount of overpayment, he will examine all ac- 
 counts of the taxpayer for subsequent periods and determine and 
 certify the amount, if any, of such overpayment that should be 
 credited against the taxpayer's account for any subsequent year 
 or years and the amount of such overpayment for which a dis- 
 bursement check should be issued. He will thereupon make ap- 
 propriate entries upon all copies of the schedules and upon the 
 assessment list, indicating the application made by him of the 
 several amounts of overassessment and overpayment (whether 
 by abatement or by credit), and the amounts to be refunded; 
 summarize the amounts applied in abatement, the amounts of 
 overpayment and of credit; certify all copies of the schedule; 
 retain one copy ; and forward the others to the Commissioner at 
 Washington. 
 
 4. The collector will at the same time prepare (in quadrupli- 
 cate) on Form 7777A a schedule of net refundable amounts for 
 which disbursement checks are to be issued; retain one copy of 
 the schedule for his record; certify the other three copies and 
 forward them together with the copies of the schedules on Form 
 7777 to the Commissioner at Washington. 
 
922 FEDERAL INCOME TAX 
 
 5. Upon application of the several amounts of overassessment 
 and overpayment as abatements or credits, and the determina- 
 tion of the amounts to be refunded, the collector will make the 
 appropriate entries upon the certificates of overassessment which 
 will be forwarded to him with the schedules ; and transmit ap- 
 propriate copies of such certificates to the several taxpayers as 
 notification of the action taken by the collector in the way of 
 abatement or credit; provided, however, that in those cases in 
 which any amount of overpayment is to be refunded, the col- 
 lector shall not send the certificate of overassessment to the tax- 
 payer, but shall make the appropriate entries thereon and for- 
 ward such certificates of overassessment with the schedule of 
 refundable amounts to the Commissioner at Washington. 
 
 6. Upon completion and certification of a schedule, the col- 
 lector will credit the accounts with the amounts abated and 
 credited and make proper notations of the refunds. The proper 
 account 6 will be credited, and account 18 will be debited with 
 the total amount abated and applied as credits for the reduction 
 of tax liability. Account 9 (e) will be debited with the total 
 amount apphed as credits from items in account 9 (e) . The pro- 
 ceduire as outlined in Section 583 of the Internal Revenue Manual, 
 in cases of this nature, should be carefully followed. 
 
 7. Upon receipt of properly certified copies of Form 7777 and 
 7777A the Commissioner will cause to be made the necessary en- 
 tries in the control accounts of the bureau of internal revenue, 
 and the necessary allowance documents prepared. Upon receipt 
 of these schedules the accounts unit of the bureau of internal 
 revenue will retain one copy of Form 7777 for its records and 
 forward a copy to the general accounting office of the comp- 
 troller-general as a voucher for the collection of accounts of the 
 collector. He will retain one copy of the schedule of refunds 
 Form 7777A for his records; make the necessary entries upon 
 and forward two copies with the allowance documents to the 
 Commissioner for his approval. 
 
 8. Upon approval of schedules of refunds Form 7777A the 
 Commissioner will forward such schedules with the allowance 
 documents to the disbursing clerk of the treasury department. 
 
 9. Upon, receipt of properly approved schedules and allow- 
 ance documents, the disbursing clerk shall prepare disbursement 
 checks in the amounts of the several net refundable items in 
 favor of the respective taxpayers against whose accounts net 
 refundable amounts shall have been allowed by the Commis- 
 sioner; forward such checks, together with the certificates of 
 overassessment (which will be transmitted to him) to the re- 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 923 
 
 spective taxpayers; retain one copy of this schedule for his 
 record; and transmit the other copy to the general accounting 
 office of the comptroller-general as a voucher for his disburse- 
 ment account.*" 
 
 Procedure for Claiming Refund. The provisions for claiming 
 refund must be strictly complied with.*^^ Claim for the refunding 
 of assessed taxes and penalties must be made out upon the form 
 prescribed by the government (Form 46) . The burden of proof 
 rests upon the claimant. All the facts relied upon in support of 
 the claim must be clearly set forth, under oath.*^ The practice 
 is to obtain a copy of the form from the collector to whom the 
 tax was paid or- the deputy collector of the division of the dis- 
 trict within which the claimant resides, prepare the form accord- 
 ing to instructions thereon, and file it with the local collector for 
 further action.*^ Collectors and revenue officers are forbidden to 
 prepare affidavits for persons claiming remission of taxes or pen- 
 alties under the iijternal revenue law.** An appeal for abatement 
 or refund is imperfect if it does not have endorsed thereon the 
 affidavit of the deputy collector and certificate of the collector 
 required by the regulations,*^ but this is a matter of action with- 
 in the department. A claim should be accompanied by the col- 
 lector's receipt or the cancelled check showing payment of the 
 tax. The affidavit may be made by an agent of the person as- 
 sessed, but in such a case a power of attorney must accompany 
 the claim. Warrants in payment of claims allowed will be drawn 
 in the names of the persons entitled to the money and will, unless 
 otherwise directed, be sent directly to the proper persons or their 
 duly authorized attorneys > or agents. In certain cases of over- 
 payment by taxpayers the collector may repay the excess after 
 allowance by the Commissioner of a claim for refund, made by 
 the collector on Form 751. The cases in which refund is made 
 through collectors are covered by specific provisions and dis- 
 cussed elsewhere.*^ The Commissioner has no authority to re- 
 
 40 T. D. 3260. As to the necessity of filing a claim for credit or refund 
 as a prerequisite to suit, see p. 934. 
 
 *i Public Service Ry. Co. v. Herold, 219 Fed. 301 ; Public Service Gas Co. 
 V. Herold, 227 Fed. 496, 229 Fed. 902. 
 
 42 Reg. 45, Art. 1036, as amended by T. D. 2871. The form to be used in 
 claiming refund is officially known as Form 46. 
 
 *3 0. D. 927, T. B. 21-21-1654. See letter of treasury department dated 
 March 29, 1919; I. T. S. 1921, T[2407, as to forwarding claims directly to 
 the Commissioner. 
 
 a T. D. 2443. 
 
 45 Hastings v. Herold, 184 Fed. 759. 
 
 46 See p. 920. 
 
924 FEDERAL INCOME TAX 
 
 fund on equitable grounds penalties legally collected.*^ Where 
 additional tax liability is discovered on the audit of a taxpayer's 
 return for one year and a refund is found to be due him for a 
 subsequent year, the procedure to be followed is to make an office 
 adjustment to take care of the additional tax and advise the tax- 
 payer to file a claim for refund of the net overpayment. Where 
 additional tax has already been placed on assessment-list, tax- 
 payer will be required to file claim for credit in order to apply 
 against additional tax a corresponding portion of the refund due 
 him.*8 
 
 Powers of Attorney. The department will recognize a gen- 
 eral power of attorney as sufficient authority for the filing of 
 more than one claim for refund on behalf of the grantor of such 
 power. However, special powers are required in certain cases. 
 In cases where a number of claims are to be filed under a general 
 power of attorney the original power should be attached to the 
 first claim filed on behalf of the claimant granting the power, and 
 a copy thereof should be annexed to each succeeding claim, spe- 
 cial reference being made in each copy to the claim to which the 
 original instrument was attached. The bureau does not require 
 that a power of attorney to file a claim for refund be in any spe- 
 cial form. It is merely necessary that the instrument meet the 
 legal requirements of powers of attorney in general.*^ 
 
 Procedure by Collectors Upon Receipt of Claims for Refund or 
 Abatement. The treasury department has prescribed the fol- 
 lowing procedure to be followed by collectors on the receipt of 
 claims for refund or abatement : Claims for refund or for abate- 
 ment, pertaining to tax returns which have not at the time been 
 posted to an assessment-list, will be numbered to agree with, 
 attached to, and made a part of, the original return so that the 
 total tax as posted on the assessment-list will be the admitted tax 
 liability to the taxpayer. If a taxpayer submits an amended re- 
 turn as a claim either for refund or for abatement before the 
 original return has been listed, such amended return will be num- 
 bered to agree with and attached to the original return in the 
 same manner. Similarly, errors or omissions in returns discov- 
 ered by the collector prior to the posting operate as an amend- 
 ment to the amount of tax liability shown by the return. In 
 
 47 Reg. 45, Art. 1036; T. D. 2871. In the case of a taxpayer's death, cer- 
 tified copies of the letters of administration or letters testamentary, or other 
 similar evidence, should be annexed to the claim to show the authority of the 
 administrator or executor. 
 
 48 O. D. 867, T. B. 14-21-1555. 
 
 49 O. D. 927, T. B. 21-21-1654. 
 
ABATEMENT, REFUND AND RECOVERY OP TAXES 925 
 
 other words, all amendments or changes either increasing or de- 
 creasing the amount of tax liability and whether originated by 
 the taxpayer or by the collector will be reflected on the face of 
 the return itself and the posting to the assessment-list will be of 
 the correct amount. Amended returns showing a reduced tax 
 liability will not be acted upon by collectors if the original return 
 has been previously entered on the assessment-list. All claims 
 pertaining to returns which have been listed for assessment must 
 be submitted on Form 46, if the tax has been paid, or on Form 47, 
 if the tax has not been paid. The following classes of claims may 
 be included on Form 751 (if for refund) , or blanket Form 47 (if 
 for abatement). Separate sheets properly designated of Form 
 751 or blanket Form 47 must be prepared for returns on file in 
 the Commissioner's office and those on file in the collector's office : 
 (a) All claims for refund or abatement pertaining to Form 
 1040A income returns for the calendar year 1918, or subsequent 
 years, (b) Errors in computation. (These include only mis- 
 takes in arithmetic.) (c) Errors in specific exemptions on in- 
 come returns. (These include such items as failure to deduct 
 exemptions for dependents; the $2,000 exemption for corpora- 
 tions, etc.) (d) Payments in excess of the total amount of tax 
 due as shown by the return. (These include such cases as a re- 
 mittance of $1,500 covering payment of a tax liability of $1,300, 
 etc.) (e) Amount previously paid on submission of a tentative 
 income return in excess of the total tax liability shown by the 
 final return, (f) Duplicate payments or assessments, (g) All 
 claims for refund on account of nonrevenue remittances for- 
 warded to the collector in error and deposited by him. (These in- 
 clude such items as state or municipal taxes sent to the collector 
 and deposited by him as "unidentified," etc. All claims for refund 
 or abatement other than those enumerated above will be for- 
 warded to the Commissioner for settlement. However, any claim 
 may be so forwarded whenever the collector does not feel abso- 
 lutely certain of the law, regulations or precedent involved, or if 
 his disbursing bond is insufficient to enable him to procure an 
 advance on accountable warrant of the requisite amount of funds 
 from which to make payment. Before forwarding claims to the 
 Commissioner for settlement certification must be made on the 
 claim of the account number, the amount of tax originally due, 
 the dates and amounts of all payments or other transactions 
 affecting such amount, and the balance due as shown by the ac- 
 count on the list. All claims of this nature now on file in the col- 
 lector's office and hereafter as received should be certified and 
 
926 FEDERAL INCOME TAX 
 
 forwarded immediately. Claims submitted by taxpayers direct 
 to the Commissioner will in future be referred to the collector for 
 this certificate as to the status of the account on the assessment- 
 list. Until so certified by the collector such claims will not be 
 settled.50 
 
 Claims for Credit of Taxes Erroneously Collected. To obtain 
 the credit mentioned in the preceding paragraph the taxpayer 
 should proceed as follows : 
 
 (1) Where the credit demanded is eqtuil to or less than any out- 
 standing assessment of tax, a taxpayer desiring to obtain such 
 credit should file with the collector for the district in which his 
 original return was filed a verified claim on Form 47 A, containing 
 the following statements : (a) business engaged in by claimant ; 
 (b) character of assessment; (c) amount of tax paid and for what 
 taxable year; (d) portion of tax under (c) claimed as a credit; 
 (e) unpaid assessment against which credit is asked and for 
 what taxable year ; and (f ) all facts regarding the overpayment. 
 
 (2) where the amount claimed as a credit is greater than the 
 outstanding assessment of tax, a taxpayer desiring to obtain such 
 credit and the refund to which he is entitled should file, in addi- 
 tion to the claim for credit required to be made on Form 47A for 
 the amount of the outstanding assessment, a claim for refund of 
 the overpayment in excess of the credit. This claim for refund 
 may be attached to the claim for credit or it may be separately 
 filed with the Commissioner. All the facts regarding the total 
 overpayment should be stated in the claim for refund and a ref- 
 erence made to such claim in the claim for credit.^i 
 
 Where a corporation filed a return for 1918 with the collector 
 of one district and a return for 1919 with the collector of another 
 district, and subsequently rendered an amended return for 1918, 
 showing less tax liability, together with a claim for credit against 
 the outstanding tax due for 1919, covering the overpayment to 
 the extent shown by the amended return, it should file the 
 amended return with the collector with whom the original return 
 was filed for the year 1918. The claim for credit should be filed 
 with the collector with whom the return for 1919 was filed, who 
 should forward same to the collector with whom the return for 
 1918 was filed, for a notation thereon of the facts required by the 
 certificate on the reverse side as to the assessment overpaid for 
 1918. When this has been done, it will be returned by him to the 
 collector with whom the 1919 return was filed, who will make a 
 
 50 T. D. 2871. 
 
 51 Reg. 45, Art. 1034. 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 927 
 
 notation thereon as to the 1919 assessment to be credited, and 
 forward same to the Commissioner for consideration. In filing 
 the amended return the taxpayer should call attention to the fact 
 that a claim for credit of the overpayment has been filed with 
 the collector with whom the 1919 return was filed, and the col- 
 lector with whom the claim for credit was filed should be notified 
 that an amended return has been filed.^^ 
 
 Action on Claims for Credit. Upon receipt by the collector 
 of a claim for credit on Form 47 A, he will take no action thereon 
 until the following requirements have been met : 
 
 (a) The collector must ascertain from the Commissioner 
 whether a claim for refund for the year or years upon which the 
 claim for credit is based, and upon substantially the same ground, 
 has been filed. If no such claim for. refund has been filed the col- 
 lector may, on notice thereof from the Commissioner, accept for 
 filing the taxpayer's claim for credit. 
 
 (b) When it is known to the collector that a refund claim of 
 the nature referred to above is on file with the Commissioner, 
 and has not been adjusted, he will not accept the taxpayer's claim 
 for credit for the same year or years until the taxpayer has re- 
 quested the Commissioner to reject such claim and has been ad- 
 vised by the Commissioner that such claim has been rejected. 
 Claims for refund may not be converted into claims for credit, 
 except in the manner above mentioned. The substitution of a 
 claim for credit for a refund claim will be expedited by making 
 a direct request to Washington. 
 
 Upon acceptance for filing of a claim for credit on Form 47A 
 the collector will certify thereon the required information con- 
 cerning all outstanding assessments and payments covered there- 
 by and will note on his records that a claim for credit has been 
 filed. He will thereupon transmit the claim to the Commissioner. 
 Due notice will be given the collector and the taxpayer of the 
 action taken on the claim. A schedule of credit claims on Form 
 7220A will be transmitted to the collector once a month and 
 formal credit shall be taken by the collector at that time. If a 
 claim is allowed against additional taxes due for other years, but 
 such other taxes have not yet been assessed, only the amount of 
 the excess of such taxes over the overpayment shall be assessed, 
 or the excess of the overpayment over such taxes due shall be 
 refunded, as the case may be. The effective date of the filing of 
 a claim for credit will be actual date of presentation to the col- 
 lector. The filing of a claim for credit against the tax due under 
 
 52 O. D. 740, T. B. 48-20-1327. 
 
928 FEDERAL INCOME TAX 
 
 another return will be subject to the same rules with respect to 
 the addition of interest and penalties as if the taxpayer had filed 
 a claim for abatement of the tax against which credit is desired. 
 
 Under no circumstances will a taxpayer be permitted to take 
 credit for an alleged refund due for a prior year on any return 
 filed for a subsequent year without filing a formal claim for credit 
 on Form 47 A, under the requirements provided herein. An at- 
 tempt to take a credit contrary to the instructions herein set 
 forth will not be held to be a due filing of a claim.s^ 
 
 Payment Wheke Claim for Credit Denied. Where a claim 
 for credit is rejected, the tax which is the subject of the claim is 
 chargeable with interest at the rate of one-half of 1 % per month 
 from the time the tax was due until the claim is decided ad- 
 versely to the taxpayer; notice of the adverse decision is sent to 
 the collector who must send to the claimant a notice and demand 
 for payment of the assessment; if the tax is paid within the 
 10-day period following the sending of the notice the 5% penalty 
 is not collectible, and the only interest collectible is that at the 
 rate of one-half of 1 % per month from the time the tax was due 
 until the date of the Commissioner's decision; if the tax is not 
 paid within the 10-day period, 5% penalty attaches in addition 
 to the above interest and also interest at the rate of 1% per 
 month from the date of the adverse decision by the Commissioner 
 to the date of payment.-"'* 
 
 Refund of Taxes Collected on Second Assessment. As indi- 
 cated more fully in the preceding paragraphs, a taxpayer has four 
 years after the payment of any tax within which to claim a re- 
 fund, even though more than five years have elapsed since the 
 return was made.™ This ruling has special application to taxes 
 collected on a second assessment, perhaps several years qfter the 
 return was made. When a second assessment is made in case of 
 any list, a statement or return, which in the opinion of the col- 
 lector or deputy collector was false or fraudulent, or contained 
 any understatement or undervaluation, such assessment will not 
 be remitted, nor such taxes collected under such assessment re- 
 funded or paid back or recovered by any suit unless it is proved 
 that such list, statement or return was not wilfully false or 
 
 53 Reg. 45, Art. 1035, as amended by T. D. 3154, T. B. 17-21-1601; letter 
 from treasury department dated November 9, 1921; I. T. S. 1921, 113212. 
 The above treasury decision became effective on April 12, 1921. 
 
 5i Sol. Op. 32, T. B. 31-20-1106. See, however, footnote 83 in Chapter 35. 
 
 55 See 0. 833, T. B. 4-19-235; M. 2764, T. B. 20-21-1642. 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 929 
 
 fraudulent, and did not contain any wilful understatement or un- 
 dervaluation.56 
 
 Statute of Limitations.^'^ Under the Revenue Act of 1921 there 
 are two statutes of limitation with respect to the refund of taxes 
 by the Commissioner. It is provided in the present law that "no 
 credit or refund shall be allowed or made after five years from 
 the date when the return was due, unless before the expiration 
 of such five years a claim therefor is filed by the taxpayer''.^^ 
 The Revised Statutes^s provide as follows : "All claims for the 
 refunding of any internal tax alleged to have been erroneously 
 or illegally assessed or collected, or of any penalty alleged to have 
 been collected without authority, or of any sum alleged to have 
 been excessive or in any manner wrongfully collected, must be 
 presented to the Commissioner of Internal Revenue within four 
 years next after payment of such tax, penalty or sum * * *" 
 
 It will be noted that this statutory period of limitation running 
 from the "payment of such tax, penalty or sum" is equivalent, 
 except in length, to the period in effect under the Revised 
 Statutes before their amendment by the 1921 Law, running from 
 the accural of the cause of action.^" A cause of action for a refund 
 accrued upon payment.^i But the period is now extended from 
 two to four years and the amended four-year period is made 
 retroactive as to claims for refund under the Revenue Act of 
 1916, the Revenue Act of 1917, and the Revenue Act of 1918. 
 The two limitations are expressed negatively; their affirmative 
 implication is that if claims are presented within five years after 
 the making of a return or within four years after the payment 
 of the tax, they are not barred. The five-year period is supple- 
 mental to the four-year period and the provision for the five- 
 year period does not take away any right given the taxpayer 
 under the four-year period. Thus, a taxpayer will be permitted to 
 present a claim with regard to assessments made under the Rev- 
 
 56 R. S., § 3225, as amended by the Revenue Act of 1918 and re-enacted 
 without change by § 1323 of the present law. The 1918 amendment com- 
 bined the former proviso clause of R. S., § 3220 with R. S., § 3225 in its 
 previous form; and also by the insertion of the words "wilful" and "wil- 
 fully" was a statutory enactment of Northwestern Ins. Co. v. Fink, 248 
 Feb. 568. The government withdrew from its position in Camp Bird, Ltd., 
 V. Howbert, 249 Fed. 27, and the case has been dismissed in the Supreme 
 Court. 
 
 5'7 The statute of limitations upon claims for credit or refund must not 
 be confused with the statute upon suits to recover taxes. See p. 919. 
 
 58 Revenue Act of 1921, § 252. 
 
 59 § 3228, as amended by the Revenue Act of 1921. 
 
 60 See R. S., § 2238 before amendment by Revenue Act of 1921. 
 
 61 Kings Co. Savings Inst. v. Blair, 116 U. S. 200. 
 
930 FEDERAL INCOME TAX 
 
 enue Act of 1918, the 1917 Law, and the 1916 Law, at any time 
 within four years after the assessment is paid, even though such 
 period extends beyond five years after the return is made.«2 If 
 at the expiration of five years from the date the return was due, 
 no credit or refund has been allowed by the Commissioner and 
 no claim for either a credit or a refund has been filed by the tax- 
 payer, the taxpayer will be precluded from relief, if more than 
 four years have elapsed since payment of the tax. A claim for 
 abatement does not take the place of a claim for credit or refund; 
 the claims are separate and distinct, and although the result ac- 
 comphshed may be the same upon all these claims, the require- 
 ments of the statute are not satisfied by permitting the use of the 
 claims interchangeably. Neither do amended returns take the 
 place of a claim for credit or refund, and if filed unsupported by 
 such claim or claims, are not in themselves sufficient to warrant 
 the crediting or refunding of any taxes after the expiration of 
 the statutory periods. An application for refund, though informal 
 or defective, may, however, be regarded as a claim so far at least 
 as to permit a formal amendment after the statute of limitations 
 has run.63 Jn an opinion rendered under the 1918 Law, it has 
 been held that an overpayment made for a year for which the 
 return was due within the five-year period may be applied against 
 an additional tax due from the taxpayer for any assessable or 
 nonassessable year; but an overpayment made for a year for 
 which the return was due before such five-year period begins may 
 not be credited against an additional tax due for any year, unless 
 a claim for credit or refund has been filed within five years from 
 the date the return was due. It was held under the 1918 Law 
 that claims for the refund of taxes pending in the Commissioner's 
 oflSce on February 25, 1919 (the date when the Revenue Act of 
 1918 was enacted) but not filed within five years from the date 
 the return was due were not allowable.^* This injustice has now 
 
 62 0. 833, T. B. 4-19-235; M. 2764, T. B. 20-21-1642. 
 
 «3M. 2764, T. B. 20-21-1642; Maryland Casualty Co. v. U. S., 251 U. S. 
 342. 
 
 64 Sol. Op. 79, T. B. 49-20-1337. This decision was necessary in view of 
 the repeal of § 14 (a) of the Revenue Act of 1916. Where jurisdiction to 
 act upon cases has been conferred by an act of Congress and then that act 
 is repealed, all pending suits under the repealed provision must stop. (As- 
 sessor V. Osborne, 9 Wall. 567; S. C. v. Gaillard, 101 U. S. 433; In re Hall, 
 167 U. S. 38; U. S. v. Kelly, 97 Fed. 460.) As to claims pending on Feb- 
 ruary 24, 1919, but not filed within five years from the date the return was 
 due, it has been recommended that Congress remove the bar of the statute 
 of limitations, which has now been done. 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 931 
 
 been remedied by a provision of the Revenue Act of 1921 that 
 the five-year statute shall not bar claims for refund filed prior to 
 the passage of the Revenue Act of 1918 under the Revenue Act 
 of 1916, or filed prior to the passage of the Revenue Act of 1921 
 under the Revenue Act of 1918.^^ The five-year period of limita- 
 tions does not apply to cases in which upon an examination of 
 any return made under the Revenue Act of .1917, the Revenue 
 Act of 1918, or the Revenue Act of 1921, the invested capital of 
 a taxpayer is decreased by the Commissioner, and such decrease 
 is due to the fact that the taxpayer failed to take adequate de- 
 ductions in previous years with the result that an amount of tax 
 in excess of that properly' due was paid in any previous year or 
 years. In such cases the amount of such excess may be credited 
 or refunded at any time without the filing of any claim therefor .^^ 
 
 When a Refund Is Allowed. A refund has been held to be 
 "allowed" when the Commissioner has signed the allowance 
 schedule. The issuance of a warrant by the division of bookkeep- 
 ing and warrants is not essential.^'' 
 
 When a Credit Is Made or Allowed. A statement contained 
 in a letter from the department that a taxpayer is entitled to a 
 credit is clearly not a credit actually made or allowed. Some- 
 thing must be done in a formal way that will amount to a direc- 
 tion to the collector. Prior to such a direction he has nothing to 
 do with the taxpayer's account since it has not assumed the sta- 
 
 63 Revenue Act of 1921, § 252. 
 
 CO Revenue Act of 1921, § 252. See letter from treasury department 
 dated October 9, 1919; L T. S. 1921, 112428. 
 
 67 M. 2764, T. B. 20-21-1642. See, however, T. B. 3260. If a revenue 
 agent's report, or a valuation engineer's report determining an overpay- 
 ment within the five-year period, is not audited until after the five-year 
 period, the auditor is barred from allowing the overpayment as an offset, 
 even though the taxpayer is not in possession of the valuation engineer's 
 finding and in some cases not in possession of the revenue agent's report, 
 and therefore could not have filed claim within the five-year limitation. 
 When an auditor finds an overpayment for 1913 and offsets it in an A-2 
 letter to the taxpayer, dated February 25, 1919, and thereafter on a reaudit 
 made October 10, 1919, a greater depletion is allowed, the additional overpay- 
 ment determined subsequent to the expiration of the five-year period can 
 neither be refunded nor credited. When a revenue agent's report, dated May 
 8, 1919, discovers additional tax for 1913 which was assessed and paid in 
 November, 1919, a waiver having been secured, and upon a reaudit addi- 
 tional depletion is allowed making the tax less than that first assessed, 
 the overpayment for 1913, so paid in 1919, can not be refunded or offset 
 against additional tax for subsequent years, even though the original 1913 
 return reported no tax. But in such case the taxpayer may claim a refund 
 at any time within four years after the tax was paid under R. S. 3228, as 
 amended. 
 
932 FEDERAL INCOME TAX 
 
 tus of an account stated to him. Such direction by the Commis- 
 sioner is usually made by formal assessment-list signed by him. 
 When such a formal statement or direction to the collector is 
 signed by the Commissioner and forwarded to the collector, 
 showing the amount of the tax to be collected over and above the 
 credit, the Commissioner has formally made or allowed the 
 credit. When this is done the credit has been made or allowed, 
 but prior thereto anything that is done in the way of stating the 
 case by employees of the bureau or in the way of statements to 
 the taxpayer in letters from the department can be nothing more 
 than preliminary to the actual making or allowance of the credit 
 by the Commissioner. Where the collector makes the credit 
 without specific instructions from the Commissioner, the credit 
 is actually made or allowed when the collector so records it, and 
 in such a case subsequent action by the Commissioner in the way 
 of a review of the collector's action would not operate to fix the 
 time when the credit was made or allowed, since in such a case 
 the collector had before him the account of the taxpayer and is 
 charged by law and the regulations to enter the credit.^^ 
 
 Credit Equivalent to Payment. The word "paid" as used 
 in the provision ''^ regarding credit and refund has been construed 
 in its broader sense as including a credit duly made. Where there 
 has been an overpayment on a return for a certain year, and 
 within five years from the date the return was due the overpay- 
 ment is credited to taxes due on a return for a subsequent year, 
 such credit constitutes payment or part payment of takes for the 
 year in which it was applied. Where a claim for refund is filed 
 for an overpayment on a return, to which a credit has been pre- 
 viously applied because of a supposed underpayment, the return 
 should be adjusted for the year in which the credit was applied. 
 The fact that no record of a credit appears on the assessment-list 
 for the year in which it was made does not aifect its validity if 
 it was in fact made within the statutory period.™ 
 
 Suits to Recover Taxes. If a claim is rejected by the Commis- 
 sioner, a judicial remedy is given the taxpayer by an action 
 against the collector or the United States. If the claim is allowed 
 by the Commissioner and payment refused by the accounting 
 officers, a suit may be brought directly against the government in 
 the court of claims.'^^ The allowance of the claim by the Com- 
 es Sol. Op. 106, T. B. 23-21-1678. See, however, T. D. 3260. 
 69 Revenue Act of 1921, § 252; Revenue Act of 1918, § 252. 
 TO Sol. Op. 107, T. B. 25-21-1697. See, however, T. D. 3260. 
 71 Edison Electric Co. v. U. S., 38 Ct. Cls. 208. The court of claims has 
 jurisdiction over "all claims except for pensions, founded upon the Consti- 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 933 
 
 missioner is similar to an account stated between private parties 
 and may be used as the basis of an action against the United 
 States in the court of claims, when payment is not made by 
 reason of the refusal of any of the officers of the department to 
 pass or to pay the claim, and it will be prima facie evidence of 
 the amount that is due, and puts on the government the burden 
 of showing fraud or mistakeJ^ The district courts of the United 
 States have original jurisdiction of all cases arising under any 
 law providing for internal revenue, .or from revenue from im- 
 ports or tonnage, except those cases arising under any law pro- 
 viding revenue from imports jurisdiction of which has been con- 
 ferred upon the court of customs appealsJ^ The district courts 
 also had original jurisdiction prior to the Revenue Act of 1921, 
 concurrent with the court of claims, of all claims not exceeding 
 $10,000 founded upon the Constitution, or any law of Congress, 
 or any regulation of an executive department, or upon any con- 
 tract, express or implied, with the government, or for damages, 
 liquidated or unliquidated, in cases not sounding in tort in re- 
 spect to which claims the party would be entitled to redress 
 against the United States, either in a court of law, equity or 
 admiralty, if the United States were suable; and of all set-offs, 
 counterclaims, claims for damages, whether liquidated or un- 
 liquidated, or other demands whatsoever on the part of the gov- 
 ernment against any claimant against the government in such 
 court.''* Such suits are tried by the court without a jury. They 
 were required to be brought (except in the case of certain mar- 
 ried women, minors and incompetents) within six months after 
 the cause of action accrued, but this limitation does not seem to 
 bear upon suits to recover overpayments of taxes or penalties.''^ 
 By the Revenue Act of 1921 district courts are given original 
 jurisdiction concurrent with the court of claims, of any suit or 
 
 tution of the United States, or any law of Congress * * * in respect of 
 which the party would be entitled to redress against the United States, 
 either in a court of law, equity or admiralty if the United States were 
 suable." (Judicial Code, § 145, 36 St. at L. 1087.) 
 
 72 U. S. V. Savings Bank, 104 U. S. 728; Kaufman v. U. S., 96 U. S. 567; 
 Christie-Street Commission Co. v. U. S., 136 Fed. 326. 
 
 73 Judicial Code, §24 (5). This jurisdiction is irrespective of the citizen- 
 ship of the parties (Philadelphia v. Collector, 5 Wall. 720; Schneider v. 
 Barney, Fed, Cas. No. 12,462). ' 
 
 74 Judicial Code, §24 (20). There are certain exceptions to this rule, 
 such as claims arising out of the civil war, claims rejected prior to 1887, 
 pensions, and cases bearing upon compensation of officers of the United 
 States. 
 
 75 See R. S., §§ 3227, 3228, and Revenue Act of 1921, §§ 1318, 1319. 
 
934 FEDERAL INCOME TAX 
 
 proceeding, commenced after the passage of the Revenue Act of 
 1921, for the recovery of any internal revenue taxes alleged to 
 have been erroneously or illegally assessed or collected, or of any 
 penalty claimed to have been collected without authority or any 
 sum alleged to have been excessive or in any manner wrongfully 
 collected, under the internal revenue laws, even if the claim ex- 
 ceeds $10,000, if the collector by whom such tax, penalty, or sum 
 was collected is dead at the time such suit or proceeding is com- 
 menced."™ 
 
 Where an illegal tax is paid, the fact that it was not paid with- 
 in the time allowed by law will not prevent the taxpayer from re- 
 covering a penalty paid by him for the nonpayment of the illegal 
 tax, for, if the tax was illegal, it was never due, and therefore 
 the penalty was as much unauthorized as the tax itself." A per- 
 son can not recover taxes paid which were in fact due, even 
 though the manner of their assessment or collection was unau- 
 thorized.'^s 
 
 Prerequisites to Suit : Statute of Limitations. No suit or 
 proceeding can be maintained in any court for the recovery of 
 any internal revenue tax alleged to have been erroneously or 
 illegally assessed or collected, or of any penalty claimed to have 
 been collected without authority, or of any sum alleged to have 
 been excessive or in any manner wrongfully collected, until a 
 claim for refund or credit has been duly filed with the Commis- 
 sioner. If the Commissioner's decision on a claim for credit or 
 refund is delayed more than six months from the date of filing, 
 suit may be brought without first securing the decision of the 
 Commissioner. Otherwise, the Commissioner's decision is a 
 prerequisite to suit.''^ 
 
 76 Revenue Act of 1921, § 1310 (c). 
 
 77 Camp Bird, Ltd., v. Howbert, 262 Fed. 114. 
 7S Shafer v. Craft, 144 Fed. 907. 
 
 79 R. S. 3226, as amended by § 1318 of the Revenue Act of 1921. In its 
 amended form this section does not affect any suit or proceeding instituted 
 prior to the passage of the 1921 Lavir (November 23, 1921) but applies to 
 all suits and proceedings instituted after such passage. As the provision 
 stood before its amendment by the 1921 Law, the prerequisite to suit was 
 an appeal to the Commissioner. In view of this provision, it does not seem 
 that the taxpayer would be safe in relying upon the procedure now adopted 
 by T. D. 3260 (see p. 920.) In order to establish a basis for recovery iji 
 the courts it is necessary to file a claim for credit or refund, although the 
 department now pays and credits claims without any formal filing. See 
 Rock Island, etc. Rd. Co. v. U. S., 254 U. S. 141, in which this prerequisite 
 to suit is strictly construed (see page 915 above). 
 
ABATEMENT, REFUND AND RECOVERY OP TAXES 935 
 
 Statute of Limitations Upon Suits to Recover Taxes. The 
 Revenue Act of 1921 provides a new statute of limitations with 
 respect to suits or proceedings for the collection of taxes alleged 
 to have been erroneously or illegally assessed or collected. Prior 
 to the re-enactment of the 1921 Law it had been provided that 
 no such suit or proceeding could be maintained in any court unless 
 brought "within two years next after the cause of action ac- 
 crued''.^" If, however, a claim for refund had been filed, the 
 period of limitations would not expire until two years after the 
 Commissioner had denied the claim. The accrual of the cause of 
 action for purposes of a suit against the government or a collector 
 was the date when the Commissioner decided adversely to the 
 taxpayer; that is, the claimant may await the decision of the 
 Commissioner, and if it is adverse, might bring suit within two 
 years thereafter. But he was not required to await such adverse 
 decision; he might at his election bring suit at any time after 
 the expiration of six months from the filing of his claim for 
 refund, if no decision had been rendered by the Commissioner.^! 
 For example, if a tax was paid on June 28, 1919, the claim for 
 refund was required to be filed on or before June 28, 1921.^^ if 
 the claim is filed on June 28, 1921, the taxpayer might commence 
 his action on December 29, 1921, if no decision had been rendered 
 by the Commissioner. If, however, an adverse decision was 
 rendered by the Commissioner on September 21, 1921, the tax- 
 payer might at once institute action but had until September 
 21, 1923, in which to do so. The rejection of a claim by the 
 Commissioner must be on the merits and not for irregularity 
 in the form in order to support an action.^s If. an imperfect 
 claim was filed within two years, it was apparently within the 
 statute, although the corrected application was not made within 
 that time, and if suit was brought within two years after rejec- 
 
 80 R. S. 3227, now repealed by Revenue Act of 1921; Maryland Casualty 
 Co. V. U. S., 251 U. S. 342. 
 
 81 New York Mail and Transportation Co. v. Anderson, 234 Fed. 590; 
 State Line & S. R. Co. v. Davis, 228 Fed. 246; Merck v. Treat, 174 Fed. 388; 
 Farrell v. U. S., 167 Fed. 639; Christie-Street Commission Co. v. U. S., 136 
 Fed. 326; Hicks v. James' Administratrix, 48 Fed. 542, affirmed 110 U. S. 
 272; Cheatham v. U. S., 92 U. S. 85; Kings Co. Inst. v. Blair, 116 U. S. 200. 
 It has been held that the cause of action for purposes of an action against 
 the collector accrued six months after claimant had filed a claim for refund 
 and that the claimant had two years from that date within which to bring 
 suit. (Schwarzchild & Sulzberger v. Rucker, 143 Fed. 656.) This seems to 
 be the view of the treasury department. See Reg. 45, Art. 1037. 
 
 82 New York Mail and Transportation Co. v. Anderson, 234 Fed. 590. 
 
 83 Hicks v. James' Administratrix, 48 Fed. 542, affirmed 110 U. S. 272. 
 
936 FEDERAL INCOME TAX 
 
 tion of the corrected claim, it was within the statute, although 
 more than two years had expired since the first rejection. If 
 the application for refund was filed more than two years after 
 paying the tax, suit could not be maintained, and the fact that 
 the Commissioner rendered an adverse decision on the applica- 
 tion, when filed, did not operate to extend the time.^* 
 
 It was thought that the above rule did not provide a definite 
 time within which suits or proceedings might be begun, since 
 the rule made the limitation depend upon the filing of a claim 
 for refund rather than on the payment of tax.ss For this reason 
 the statute of limitations upon suits or proceedings for the re- 
 covery of any tax alleged to have been erroneously or illegally 
 assessed or collected, or of any penalty claimed to have been col- 
 lected without authority, or of any sum alleged to have been 
 excessive or in any manner wrongfully collected, may not be 
 begun under the Revenue Act of 1921 before the expiration of six 
 months from the time of filing of a claim therefor with the Com- 
 missioner, unless the Commissioner renders a decision within 
 that time, nor after the expiration of five years "from the date 
 of the payment of such tax, penalty or sum."^^ This extension 
 of the period of limitation from two years next after the cause 
 of action accrued to five years from the date of payment does not 
 affect any suit or proceeding instituted prior to the passage of 
 the Revenue Act of 1921, but applies to all suits and proceedings 
 instituted after such passage, whether or not barred by prior 
 acts of congress.^''' 
 
 Protest and Duress. In order to maintain an action for the 
 recovery of taxes it is necessary that the tax shall have been 
 paid under protest and duress.^* 
 
 Suit Against Collectors. The collector who exacted the tax 
 may be sued for the recovery thereof, but an action thereon can- 
 not be commenced against his successor in office. The remedy 
 lies in an action against the collector to whom the tax was paid. 
 
 Si P. S. Ry. Co. V. Herold, 219 Fed. 301. 
 
 85 Report of Senate Finance Committee on Internal Revenue Bill of 1921, 
 p. 32. 
 
 86 R. S. 3226, as amended by § 1318 of the Revenue Act of 1921. § 1319 
 of the Revenue Act of 1921 repeals, except as to suits or proceedings in- 
 stituted prior to the passage of the Revenue Act of 1921, § 3227 of the Re- 
 vised Statutes which provided for a limitation upon such suits of two years 
 next after the cause of action accrued. 
 
 87 R. S. 3226, as amended by § 1318 of the Revenue Act of 1921. 
 
 88 P. S. Ry. Co. V. Herold, 219 Fed. 301. 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 937 
 
 or in an action against the United States.^^ It has been held that 
 an action of assumpsit may be maintained against the collector 
 who actually exacted the tax, and such action can be revived 
 against the personal representative of the deceased collector.^" 
 When once an action has been lawfully commenced against a 
 collector, it does not abate by reason of the expiration of his 
 term, but in such event the court may, under the express provi- 
 sions of a statute, allow the suit to be maintained against his 
 successor.91 Suits against collectors are brought on the theory 
 of money had and received and in such suits the plaintiff may 
 recover only such money as he is in equity entitled to, and as de- 
 fendant is not entitled to retain.^^ Sums due the United States 
 are a valid offset as against amounts found due taxpayers in 
 suits against collectors, though included therein are items 
 which the Commissioner did not claim to be due the United 
 States when considering the return for assessment purposes.^^ 
 
 89 For a discussion of this subject see Chapter 35. 
 
 aoSmietanka v. U. S., decided by U. S. Supreme Court October 24, 1921; 
 Sage V. U. S., 250 U. S. 33; Cinn. Gas & Elec. Co. v. Gillig-an, T. B. 29-21- 
 1738; Philadelphia H. and P. R. Co. v. Lederer, 242 Fed. 492; Roberts v. 
 Lowe, 236 Fed. 604. In the latter case the court said the latter remedy was 
 apparently authorized by the case of U. S. v. Emery, 237 U. S. 28. As to 
 suing a collector personally under a state law for damages in wrongfully 
 collecting taxes, see P. S. Ry. Co. v. Herold, 229 Fed. 902, 910; Patton v. 
 Brady, Executrix, 184 U. S. 608; Smietanka v. Indiana Steel Co., 42 Sup. Ct. 
 Rep. 1; Sage v. U. S., 250 U. S. 33, T. B. 29-21-1738. 
 
 91 Act of February 8, 1899; 30 Stat. L. 822, c. 121; Smietanka v. U. S., 
 decided by U. S. Supreme Court October 24, 1921; Sage v. U. S., 250 U. S. 
 38; Cinn. Gas & Elec. Co. v. Gilligan, T. B. 29-21-1738. 
 
 92 N. Y. Life Ins. Co. v. Anderson, 257 Fed. 576. This case has been re- 
 versed on another point (see 263 Fed. 527). For a history of the equitable 
 action of assumpsit for money had and received see McKyring v. Bull, 16 
 N. Y. 297, and Cary v. Curtis, 3 How. 236 (dissenting opinion by Story, J.). 
 In the latter case the dissenting opinion of Story, J., was confirmed as a 
 correct expression of the Congressional intent by the explanatory act of 
 Congress of February 26, 1845. (See Arnson v. Murphy, 109 U. S. 238.) 
 The case qf International Paper Co. v. Burrill, 260 Fed. 664, which permits 
 an action for recovery of a Massachusetts tax illegally collected against 
 the collector personally, contains a thorough discussion of the subject of 
 actions against collectors and lays down the rule that a void act gives no 
 protection to the collector from such recovery, that the collector is not dis- 
 charged from responsibility by the fact that he deposits the illegal tax 
 with the treasury of the taxing authority, that the taxing authority may 
 not equip officials with apparent power under unconstitutional statutes to 
 obtain money from taxpayers and to retain such money in its treasury 
 unless the legislature of the taxing power should "mercifully" otherwise 
 decide. 
 
 93 T. D. 2882, T. B. 9-19-347. 
 
938 FEDERAL INCOME TAX 
 
 Suits Against the United States. Suit for recovery of 
 taxes alleged to have been wrongfully assessed and collected may 
 be maintained directly against the United States under the so- 
 called Tucker Act.s* In answer to the question, ".Can the plain- 
 tiff bring suit to recover taxes, alleged to have been wrong- 
 fully assessed ^and collected under the corporation tax law, 
 directly against the United States under the Tucker Act, other 
 requirements of law having been complied with, or is its remedy 
 against the collector of internal revenue by whom the assess- 
 ment and collection were made?" it was held that the question 
 was no longer open.^^ The Tucker Act refers to original suits, 
 and does not permit a recovery of demands against the United 
 States on counterclaims."^ 
 
 Claims for Refund of Sums Recovered by Suit. Claims by 
 taxpayers for the amount of a judgment representing taxes or 
 penalties erroneously collected should be made on form 46. The 
 claimant should state the grounds of his claim under oath, giv- 
 ing the names of all the parties to the suit, the cause of action, 
 the date of its commencement, the date of the judgment, the court 
 in which it was recovered, and its amount. To this affidavit there 
 should be annexed a certified copy of the final judgment, a cer- 
 tificate of probable cause, and an itemized bill of the costs paid 
 receipted by the clerk or other proper officer of the court, together 
 with a certified copy of the docket entries of the court in the case, 
 or so much thereof as may be required by the Commissioner. 
 When a recovery is had in any suit or proceeding against a col- 
 lector or other officer of the revenue for any act done by him, or 
 for the recovery of any money exacted by or paid to him and by 
 him paid into the treasury, in the performance of his official 
 duty, and the court certifies that there was probable cause for 
 the act done by the collector or other officer, or that he acted un- 
 der the directions of the Secretary of the Treasury, or other 
 proper officer of the government, no execution will issue against 
 such collector or other officer, but the amount so recovered will, 
 upon final judgment, be provided for and paid out of the proper 
 appropriation from the treasury. If the judgment debtor shall 
 have already paid the amount recovered against him, the claim 
 
 94 Judicial Code, §24, 1120; Ch. 397, 24 Stat. 635 (U. S. Compiled Stats., 
 p. 3635). 
 
 95 Emery, Bird Thayer Realty Co. v. U. S., 198 Fed. 242, citing Christie- 
 Street Commission Co. v. U. S., 136 Fed. 326. 
 
 96 U. S. V. Nipissing Mines Co., 206 Fed. 431. 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 939 
 
 should be made in his name. There should also be a certificate 
 of the clerk of the court in which the judgment was recovered (or 
 other satisfactory evidence) , showing that the judgment has been 
 satisfied and specifying the exact sum paid in its satisfaction, 
 with a detail of all items of costs which were paid by the judg- 
 ment debtor for which he is liable.^''' 
 
 Recovery of Interest. It is a well-settled principle that the 
 United States is not liable to pay interest on claims against it, 
 in the absence of express statutory provision to that effect. It has 
 been established as a general rule in the practice of the govern- 
 ment that interest is not allowed on claims against it, whether 
 such claims originate in contract or in tort ; whether they arise in 
 the ordinary business of administration, or the private acts of 
 relief by congress on special application. The only recognized 
 exceptions arfe where the government stipulates to pay interest, 
 and where interest is given expressly by an act of Congress, 
 either by the name of interest, or damages. Not only is this the 
 general principle and settled rule of the executive department of 
 the government, but it has been the rule of the legislative de- 
 partment, because congress, though well knowing the rule ob- 
 served at the treasury, and frequently invited to change it, has 
 refused to pass any general law for the allowance and payment 
 of interest on claims against the government.''^ Where a person 
 accepts from the government without objection a refund of a sum 
 illegally exacted he gives up his right to sue for interest.^^ The 
 ground for refusal to allow interest is the presumption that the 
 government is always ready and willing to pay its ordinary debts. 
 In a case where there had been a delay of thirty years in prose- 
 cuting a claim to recover internal revenue taxes, interest was not 
 allowed from the date of payment of the taxes, but was allowed 
 from the time of commencing the suit, i"" The present law con- 
 tains a provision for the recovery of interest as indicated in the 
 next paragraph. 
 
 Interest on Eefunds and Judgments Under 1921 Law. 
 Upon the allowance of a claim for the refund of or credit for 
 internal revenue taxes paid, interest is now allowable upon the 
 total amount of such refund or credit at the rate of one-half of 
 one per centum per month to the date of such allowance, as fol- 
 lows: (1) if such amount was paid under a specific protest set- 
 
 97 Reg. 45, Arts. 1031, 1038. 
 
 98 U. S. V. Bayard, 127 U. S. 251. 
 
 99 Stewart v. Barnes, 153 U. S. 456. 
 
 100 Burrough v. Abel, 105 Fed. 366. 
 
940 FEDERAL INCOME TAX 
 
 ting forth in detail' the basis of and reasons for such protest, 
 from the time when such tax was paid, or (2) if such amount was 
 not paid under protest, but pursuant to an additional assessment, 
 from the time such additional assessment was paid, or (3) if no 
 protest was made and the tax was not paid pursuant to an addi- 
 tional assessment, from six months after the date of filing of 
 such claim for refund or credit. The term "additional assess- 
 ment" means a further assessment for a tax of the same charac- 
 ter previously paid in part. No interest will be allowed on any 
 claim up to the time of the rendition of judgment by the court of 
 claims, unless upon a contract expressly stipulating for the pay- 
 ment of interest, except that interest may be allowed in any judg- 
 ment of any court rendered after the passage of the Revenue 
 Act of 1921 against the United States for any internal revenue 
 tax erroneously or illegally assessed or collected, or for any pen- 
 alty collected without authority or any sum which was exces- 
 sive or in any manner wrongfully collected, under the internal 
 revenue laws.^^i 
 
 Recovery Against Collectors. When, however, an illegal 
 tax has been collected, the citizen who has paid it, and has been 
 obliged to bring suit against the collector, is entitled to interest 
 in the event of recovery, from the date of the illegal exaction.102 
 Where judgment is recovered in an action against a collector, 
 interest may be recovered up to the time final judgment is 
 entered and a certificate from the trial court that there was 
 probable cause for the collection of the tax has been given. Upon 
 giving such certificate the claim becomes one against the United 
 States, stopping the right to further interest, unless a review of 
 the judgment by an appellate court is obtained, in which event 
 the judgment upon the mandate of the appellate court will be 
 treated as a final judgment, to the rendition of which interest 
 will be allowed, unless the plaintiff unduly delays the presenta- 
 tion of his claim.ios A suit against a collector is a private suit 
 and there is no claim against the government until a certificate 
 
 101 Revenue Act of 1921, § 1324. This provision was inserted for the 
 purpose of "expediting the refund' of taxes and compelling the government, 
 in the event that such refund is unnecessarily delayed, to pay interest , at 
 the ordinary rate" (Report of Senate Finance Committee on Internal 
 Revenue Bill of 1921, p. 33.) 
 
 i02Erskine v. Van Arsdale, 15 Wall. 75; Old Colony R. Co. v. Gill, 257 
 Fed. 220; Redfield v. Bartels, 139 U. S. 694; N. Y. Life Ins. Co. v. Anderson, 
 263 Fed. 527; N. Y. Mail Co. v. Anderson, 234 Fed. 590; Conant v. Kinney, 
 162 Fed. 581; Park v. Gilligan, Dist. Ct. So. Dist. Ohio; I. T. S. 1921, If 3067. 
 
 103 Klock Produce Co. v. Hartson, 212 Fed. 758. 
 
ABATEMENT, REFUND AND RECOVERY OF TAXES 941 
 
 of probable cause, under the revised statutes,^"* has been obtained 
 from the court, at which time the government assumes a definite 
 liability of the collector, which does not include the payment of 
 interest thereafter ; neither is there any further personal liability 
 on the part of the collector. The interest which may be recovered 
 is that put into the judgment before there is any certificate of 
 probable cause, and if none has been put in, the government 
 assumes no part of the liability of the defendant. The liability 
 assumed by the government includes interest and costs forming 
 part of the recovery, but does not include interest after judg- 
 ment.105 it has been held that where railroads, seeking to re- 
 cover internal revenue taxes illegally assessed, delayed in press- 
 ing their claims on account of an understanding with the col- 
 lectors that the claims should await the decision of other pend- 
 ing cases, but it became apparent that the question of interest 
 could not be adjusted, the railroad's conduct did not disentitle 
 them to interest for any lack of diligence- in prosecution.i"^ 
 
 Costs. The revised statutes authorize the Commissioner 
 to repay to any collector or deputy collector the full amount 
 of such sums of money as may be recovered against him in any 
 court, for any internal revenue taxes collected by him, with the 
 cost and expenses of suit; also all damages and costs recovered 
 against any assessor, assistant assessor, collector, deputy col- 
 lector, agent or inspector in any suit brought against him by 
 reason of anything done in the due performance of his official 
 duty. Under this section costs may be recovered against the 
 collector.io'i' Judgment is usually given in the district court for 
 costs and interest. 
 
 Claims for Abatement of Uncollectible Taxes. "When a tax 
 under the 1918 Law was found to be uncollectible, the collector 
 or deputy collector who made the demand for payment and was 
 conversant with the facts prepared a claim for abatement on 
 form 53. Although credits allowed on account of insolvency or 
 absconding released the collector from the obligation created by 
 his receipt for the amount credited, the obligation to pay still 
 remained upon the person assessed. It was the duty of the col- 
 lector to use the same diligence to collect a tax after it had been 
 abated as uncollectible as before abatement. Collectors kept a 
 
 104 R. S., § 989. 
 
 105 White V. Arthur, 10 Fed. 80. 
 
 106 Boston & P. R. Corp. v. Gill, 257 Fed. 221. 
 
 107 De Bary v. Carter, 102 Fed. 130. However, see Treat v. Farmers 
 Loan and Trust Co., 185 Fed. 760, 763, as to costs in the Supreme Court and 
 Circuit Court of Api)eals. 
 
942 FEDERAL INCOME TAX 
 
 record of all taxes thus credited and of the persons from whom 
 they were due, and enforced payment whenever it was in their 
 power to do so.^os 
 
 Reopening of Gases. Where any case in the bureau of internal 
 revenue has been finally closed after the taxpayer, or other party 
 thereto, has had a hearing or has been afforded by written notice 
 an opportunity to present oral or written arguments or state- 
 ments of fact in support of his contentions, the case will not be 
 reopened except (1) where a showing is made of new and material 
 facts, accompanied by an explanation, satisfactory to the Com- 
 missioner, of the failure to produce such facts prior to the clos- 
 ing of the case, or (2) where the case is materially affected by 
 the change of regulations or by the final decision of another case 
 either by the Commissioner or by a court of competent jurisdic- 
 tion. The application for reopening a case should be addressed 
 to the Commissioner, should state succinctly the facts and the 
 circumstances upon which the application is based, and must be 
 supported by the affidavit of a person having knowledge of the 
 facts. This rule is not to be construed as modifying the regula- 
 tions relating to the filing of claims in abatement or claims for 
 refund, nor as denying the right of a taxpayer to a hearing or 
 to an appeal at any stage of his case until the case has been 
 finally closed. After the taxpayer has exhausted his remedies 
 within the bureau, however, and the case has been finally closed, 
 it will be reopened only under the conditions stated above.^i" 
 
 108 Reg. 45, Art. 1033. 
 
 109 R. S., § 3220, as amended by the Revenue Act of 1918, re-enacted by 
 § 1315 of the Revenue Act of 1921, without change. The 1918 amendment 
 extended the provision to assessors, assistant assessors and agents. 
 
 110 T. D. 3240, T. B. 46-21-1927. 
 
CHAPTER 38 
 
 EXAMINATION OF TAXPAYERS' BOOKS 
 
 The Revenue Act of 1921 and the Revised Statutes contain 
 certain provisions for the examination of taxpayers' books by 
 revenue agents or inspectors, the attendance of witnesses before 
 the Commissioner and the production of books in suits or pro- 
 ceedings arising under the revenue laws which are set forth in 
 the following paragraphs. The Revenue Act of 1921 adds a new 
 provision to guard the taxpayer against unnecessary examina- 
 tions or investigations. 
 
 Examination of Books. For the purpose of ascertaining the 
 correctness of any return or making a return where none has 
 been made, the Commissioner may, by any revenue agent or in- 
 spector designated by him for that purpose, examine any books, 
 papers, records or memoranda bearing upon the matters required 
 to be included in the return.^ A taxpayer is entitled to satisfy 
 himself in a reasonable manner of the official character and 
 authority of any person making request to examine books or 
 accounts of his bank as an official of the internal revenue 
 bureau.2 Under the present law, no taxpayer may be subjected 
 to unnecessary examinations or investigations, and only one 
 inspection of a taxpayer's books of account may be made for each 
 taxable year unless the taxpayer requests otherwise or unless 
 the Commissioner, after investigation, notifies the taxpayer in 
 writing that an additional inspection is necessary.^ 
 
 Requiring Attendance of Witnesses. For the purpose stated 
 in the previous paragraph the Commissioner may require the 
 attendance of the person rendering a return or of any officer or 
 employee of such person of the attendance of any other person 
 having knowledge in the premises* and may take his testimony 
 with , reference to the matters required to be included in such 
 return. The Commissioner, every collector, deputy collector, 
 
 1 Revenue Act of 1921, § 1308; Revenue Act of 1918, § 1305. In relation 
 to the income tax this provision seems to supplant R. S., § 3173, which as 
 amended, omits the second case "in case of income tax on or before the 
 first day of March in each year, or on or before the last day of the sixty-day 
 period next following the closing date of the fiscal year for which it makes 
 a return of its income" and also omits the phrase "amount of annual income 
 charged with a duty or tax." 
 
 2 O. D. 609, T. B. 30-20-1096. 
 
 3 Revenue Act of 1921, § 1309. 
 
 * The italicized words would seem to have been inserted to avoid the effect 
 
 943 
 
944 FEDERAL INCOME TAX 
 
 internal revenue agent, and internal revenue officer assigned to 
 duty under an internal revenue agent is clothed vi^ith power to 
 administer oaths to such person or persons as may be required 
 to attend any hearing before him.^ 
 
 Requiring Production of Books. In all suits and proceedings, 
 other than criminal,^ arising under any of the revenue laws 
 of the United States, the attorney representing the government 
 may, whenever in his belief any business-book, invoice or paper, 
 belonging to or under the control of the defendant or claimant, 
 will tend to prove any allegation made by the United States, 
 make a written motion particularly describing such book, invoice 
 or paper, and setting forth the allegation which he expects to 
 prove; and thereupon the court may, at its discretion, issue a 
 notice to the defendant or claimant to produce the same. Upon 
 failure to do so the allegation stated in the motion is taken as 
 confessed, unless the failure or refusal is explained to the sat- 
 isfaction of the courts This provision applies to proceedings 
 under the internal revenue laws as well as the customs revenue 
 laws.s 
 
 Enforcement of Provisions Requiring Examination, Attend- 
 ance and Production. If any person is summoned to appear, to 
 testify, or to produce books, papers or other data, the United 
 States district court for the district in which such person re- 
 sides is invested with jurisdiction of appropriate means to compel 
 such attendance, testimony, or production of books, papers or 
 other data, and to make and issue, both in actions at law and 
 suits in equity, such writs, orders, judgments, decrees and process 
 as may be necessary or appropriate for the enforcement of any 
 provisions requiring such attendance, testimony or production, 
 but only at the instance of the United States. Any remedy of 
 application to the district court is in addition to and not ex- 
 
 of such decisions as In re Chadwick, 5 Fed. Cas. No. 2,570, 11 Int. Rev. Rec. 
 126,133, which held under a similar statute that the books which the as- 
 sessor has the right to examine are those of the person whose assessment is 
 in question and not those of third persons who have had dealings with him, 
 and consequently that a corporation was not bound to produce its books 
 upon an inquiry into the income of its shareholders. 
 
 5 R. S. 3165, as amended by § 1311 of the Revenue Act of 1921 and by 
 § 1317 of the Revenue Act of 1918. 
 
 6 In Boyd v. U. S., 116 U. S. 616, it was held that proceedings to forfeit a 
 person's goods for an offense against the law, though civil in form, and 
 whether in rem or in personam, was a "criminal" case, within the mean- 
 ing of this provision of law. 
 
 7 Act of June 22, 1874, 18 Stat. 187. 
 
 8 U. S. V. Distillery No. 28, 25 Fed. Cas. No. 14,966. 
 
EXAMINATION OF TAXPAYERS' BOOKS 945 
 
 elusive of any and all remedies of the United States in such 
 courts and otherwise to enforce such provisions.® 
 
 Constitutionality of Statute Providing for Examination and 
 Production of Books. It has been held that (1) the above men- 
 tioned provision of law requiring the production of books is un- 
 constitutional and void as to suits for penalties or to establish a 
 forfeiture, because repugnant to the fourth and fifth amend- 
 ments to the Constitution, which are to be construed in relation 
 to each other; (2) actual entry upon premises and search for 
 and seizure of papers is not required to bring a case within the 
 meaning of the fourth amendment prohibiting unreasonable 
 searches and seizures; (3) a compulsory production of a party's 
 private books and papers to be used against him or his property 
 in a criminal or penal proceeding or proceeding for a forfeiture 
 is within the spirit of such amendment; (4) it is equivalent to 
 compulsory production to make nonproduction a confession of 
 the allegations which it is pretended such books will prove; 
 (5) a proceeding to forfeit goods, though civil in form and 
 whether in rem or in 'personcum, is a criminal case within the 
 meaning of the fifth amendment which declares that no man 
 "shall be compelled in any criminal case to be a witness against 
 himself;" and (6) the seizure or compulsory production of a 
 man's private papers to be used against him is equivalent to 
 compelling him to be a witness. against himself .i" It is doubtful, 
 however, whether this decision and others of a similar purport ii 
 relate to proceedings to assess and recover unpaid taxes, or to 
 discover the extent of a person's tax liability, to accomplish 
 which ends the compulsory production of books and papers may 
 be considered a legitimate and appropriate means within the 
 legislative discretion. The constitutionality of a similar statute 
 for the enforcement of the internal revenue laws has been up- 
 held,^^ and it has been asserted that acts conferring the high 
 
 9 Revenue Act of 1921, § 1310; Revenue Act of 1918, § 1318. 
 
 10 Boyd V. U. S., 116 U. S. 616. 
 
 11 Weeks v. U. S., 232 U. S. 383; In re Pacific Railway Comm., 32 Fed. 241. 
 
 12 In re Strouse, 23 Fed. Cas. No. 13,548; 1 Sawy. 605; 11 Int. Rev. Rec. 
 182. In re Piatt, 19 Fed. Cas. No. 11,212, a distinction is pointed out be- 
 tween the constitutionality of an act and the constitutionality of the manner 
 in which the act is administered in any particular case, as follows: "A 
 search and seizure may be unreasonably conducted, in execution, under the 
 statute authorizing it, and thus the right of security sought to be protected 
 by the fourth amendment may be violated; and, under what is due process 
 of law, as authorized by the statute, a person may be deprived of his prop- 
 erty, when the statute did not contemplate or authorize such deprivation, 
 and thus the fifth amendment may be violated. But these things are not the 
 
946 FEDERAL INCOME TAX 
 
 power upon administrative officers of compelling the production 
 of books and attendance of persons have been acquiesced in for 
 so long a time without serious objection that their constitu- 
 tionality is no longer open to debate.i^ Upon a habeas corpus 
 proceeding in the case of a tobacco manufacturer who was com- 
 mitted for failure to appear and produce books in obedience to 
 a summons, it was held that (1) he must bring the books con- 
 taining the entries relating to his business before the assessor; 
 and (2) he might then be asked to exhibit any entry relating 
 to a particular point and if he should say he could not do so 
 without incriminating himself, he would be protected from ex- 
 hibiting it." In a later easels in the Supreme Court, which sus- 
 tained the validity of the Interstate Commerce Act so far as it 
 gave power to the Commission to require the attendance of wit- 
 nesses and the production of papers, it was held that it was 
 open to each witness to contend that he was protected by the 
 constitution from answering the questions propounded to him, 
 that he was not legally bound to produce the books or papers, 
 and that neither the questions propounded nor the books called 
 for related to the matter under investigation. This authority 
 by analogy would seem to dispose of the argument that informa- 
 tion brought out in a proceeding under the internal revenue laws 
 to ascertain the amount of tax liability of any taxpayer might 
 be used against him in a later criminal proceeding or proceeding 
 for a penalty or forfeiture. While a witness being examined de 
 bene esse under Section 863 of the revised statutes may be com- 
 pelled to produce books and papers which would be material evi- 
 dence for the party calling him upon the trial of the case, he 
 
 fault of the statute as it stands. They grow out of the fact that the statute 
 is administered, in the particular case, in a manner not authorized by the 
 statute. They are violative alike of the statute and of the Constitution, but 
 they have no effect to make the statute unconstitutional." 
 
 13 Perry v. Newsome, 19 Fed. Cas. No. 11,009; 10 Int. Rev. Rec. 20. 
 
 i*In re Lippman, 3 Ben. 95; 15 Fed. Cas. No. 8,382; 9 Int. Rev. Rec. 1. 
 This case arose under § 14 of the Act of June 30, 1864. 
 
 15 Interstate Commerce Commission v. Brimson, 154 U. S. 447; 155 U. S. 3. 
 This argument is disposed of in another manner In re Phillips, 19 Fed. Cas. 
 No. 11097; 10 Int. Rev. Rec. 107. The court makes the following quotation 
 from Peo. v. Haekley, 24 N. Y. 83: "But neither the law nor the Consti- 
 tution is so sedulous to screen the guilty as the argument supposes. If a man 
 can not give evidence upon the trial of another person without disclosing 
 circumstances which will make his own guilt apparent, or at least capable 
 of proof, though his account of the transaction should never be used as 
 evidence, it is the misfortune of his condition and not any want of humanity 
 in the law." 
 
EXAMINATION OF TAXPAYERS' BOOKS 947 
 
 may not be compelled to produce his books and papers merely 
 for the purpose of refreshing his memory.^" The cases upon this 
 point are in some confusion and the distinction between criminal 
 or quasi-criminal proceedings involving penalties and forfeitures 
 and proceedings to ascertain and recover the amount of any tax 
 due, is nowhere clearly drawn. 
 
 Corporations. It will be noted that in .so far as the above men- 
 tioned provisions relating to the examination of witnesses and 
 the production of books and papers have been or may still be 
 declared void, their unconstitutionality is based upon a violation 
 of the fourth and fifth amendments to the Constitution of the 
 United States. It is by no means definitely settled to what extent 
 corporations, which are creatures of the state, are protected and 
 given immunity by virtue of such amendments. In a compara- 
 tively recent case in the Supreme Court ^''^ it was held that cor- 
 porations were not protected by the fifth amendment and that 
 while an individual may lawfully refuse to answer incriminating 
 questions unless protected by an immunity statute, it does not 
 follow that a corporation vested with special privileges and fran- 
 chises may refuse to produce its books and papers, but the court 
 expressly stated that it did not wish to be understood as holding 
 that a corporation is not entitled to immunity under the fourth 
 amendment against unreasonable searches and seizures. 
 
 National Banks. The law under which national banks are in- 
 corporated, which provides for the occasional examination of 
 
 16 U. S. V. Tilden, 28 Fed. Cas. No. 16,522; 10 Ben. 566; 25 Int. Rev. 
 Rec. 352. 
 
 17 Hale V. Henkel, 201 U. S. 43; Nelson v. U. S., 201 U. S. 92. The court 
 was considerably divided in this case. The opinion of the majority was de- 
 livered by Mr. Justice Brown. Mr. Justice Harlan delivered a separate con- 
 curring opinion in which he went further than the majority and stated his 
 opinion that a corporation could not claim immunity under the fourth 
 amendment for the reason that it is not a part of the "people" or embraced 
 by the word "persons" as used in that amendment. Mr. Justice McKenna, 
 also concurring, stated his opinion that corporations had no immunity under 
 the fourth amendment, because as stated in Boyd v. U. S., 116 U. S. 616, the 
 fourth and fifth amendments were complimentary of each other and the 
 denial of the protection of one carried a denial of the protection of the 
 other. Mr. Justice Brewer, with whom the Chief Justice concurred, dis- 
 sented, and stated their opinion that the immunities and protection of the 
 fourth and fifth amendments are available to corporations so far as in the 
 nature of things they are applicable. In International Mining Co. v. Penn- 
 sylvania Railroad Co., 152 Fed. 557, Judge Holland, in holding that a cor- 
 poration may not refuse to produce its books in an action against it to re- 
 cover damages or penalties for a violation of the Interstate Commerce Com- 
 mission Act, expresses the opinion that the question had been practically dis- 
 posed of by the Henkel case. 
 
948 FEDERAL INCOME TAX 
 
 their affairs knd reports of their condition to the national gov- 
 ernment and enacts that they shall not be subject to any visitorial 
 powers other than are authorized by the act or are vested in the 
 courts of justice, does not exempt them from liability to exam- 
 ination.18 
 
 Examination of Books and Papers in the Cases of Special Taxes 
 and Other Cases. In the case of any special tax and in the 
 case of other" taxes it is the duty of any person, partnership, 
 firm, association or corporation liable to make a verified return 
 to the collector where the articles or objects or goods, wares 
 or merchandise charged with the tax are located. In case of 
 failure to make such return, if the person liable consents to 
 disclose the particulars, it is the duty of the collector or deputy 
 collector to make the list or return which, when consented to, is 
 received as the return of such person. If any person, on being 
 notified or required to make his return by the leaving at his 
 place of residence or business with someone of suitable age or 
 discretion or the depositing in the nearest post-office a memoran- 
 dum addressed to him, refuses or neglects to make the return 
 within ten days from the date of the notice, or delivers any 
 return, which in the opinion of the collector is erroneous, false 
 or fraudulent or contains any under-valuation or under-state- 
 ment or refuses to allow a regularly authorized government offi- 
 cer to examine his or its books, the collector may summon such 
 person, partnership, firm, association or corporation or any per- 
 son having possession, custody or care of the books of account 
 containing entries relating to the business of such person, part- 
 nership, firm, association or corporation, or any other person, 
 to appear before him and produce the books and give testimony 
 or answer interrogatories respecting any objects liable to tax or 
 the returns thereof. When the person intended to be summoned 
 does not reside in the state or territory in which the collector's 
 district lies, the collector may enter any collection district where 
 the person may be found and there make the above examina- 
 tion.2o 
 
 Inspection of Government Contracts. The Revenue Act of 
 1918 provided that every person who on or after April 6, 1917, 
 entered into any contract, undertaking, or agreement with the 
 United States or with any department, bureau, officer, commis- 
 
 18 U. S. V. Rhawn, 27 Fed. Cas. No. 16,150. 
 
 19 See note 1. 
 
 20 R. S., § 3173, as amended by Revenue Act of 1921, § 1311, and by 
 Revenue Act of 1918, § 1317. See Reg. 33, Art. 186. 
 
EXAMINATION OF TAXPAYERS' BOOKS 949 
 
 sion, board, or agency under the United States or acting in its 
 behalf, or with any other person having contract relations with 
 the United States, for the performance of any work or the supply- 
 ing of any materials or property for the use of or for the account 
 of the United States, is required, within thirty days after a re- 
 quest of the Commissioner therefor, to file with the Commis- 
 sioner a true and correct copy of every such contract, undertak- 
 ing, or agreement. Failure to comply with such requests of the 
 Commissioner is punishable as a misdemeanor and by a fine of 
 not more than $1,000, or by imprisonment for not more than 
 one year, or both. The Commissioner (when not violative of the 
 technical military or naval secrets of the government) has access 
 to all information and data relating to any such contract, under- 
 taking or agreement, in the possession, control or custody of any 
 department, bureau, board, agency, officer or commission of the 
 United States and may call upon any such department, bureau, 
 board, agency, officer or commission for a full statement and de- 
 scription of any allowance for amortization, obsolescence, depre- 
 ciation or loss, or of any valuation, appraisal, adjustment or final 
 settlement, made in pursuance of any such contract, undertaking, 
 or agreement.21 The above provision is omitted from the present 
 law. 
 
 Instructions to Revenue Agents. The following instructions 
 have been given by the treasury department to revenue agents 
 and examiners: "In conducting their examination the agents 
 will, except in clear cases of misrepresentation, proceed on the 
 assumption that all errors in the returns rendered are uninten- 
 tional ; and they will, so far as possible, make their examination 
 in such manner as not to interfere with the company's business, 
 either as to the use of its books or in the general conduct of its 
 affairs. Contentions with officers, employees or representatives 
 of corporations are to be carefully avoided, and no action that 
 may cause friction, that is not necessary in the proper perform- 
 ance of their duties, must be indulged in by officers making these 
 examinations. Ordinarily no very extended examination of the 
 company's books will be necessary, as the verification of the 
 particular items to which attention has been called will be suffi- 
 cient. Where, however, a thorough examination is found to be 
 necessary, and the accounts are so kept as to involve much labor 
 in their examination, the agent may assign two assistants for 
 this purpose. Where discrepancies between the company's books 
 and the return made are discovered, the officers of the company 
 
 21 Revenue Act of 1918, § 1408. 
 
950 ' FEDERAL INCOME TAX 
 
 should be given full opportunity to explain the same, and to 
 furnish, if so desired, a sworn statement in reference thereto. 
 In such cases the agent will, if deemed necessary, require the 
 attendance of any officer or employee of the company, and there 
 examme such officer or employee respecting the matter under 
 investigation. The witnesses in such cases should be duly sworn 
 by the agent, and in case of refusal of any such officer or em- 
 ployee to testify, or in the case of refusal to produce the books 
 or papers called for, the agent will at once report the fact to 
 this office." 22 
 
 22 T. D. 1617. 
 
CHAPTER 39 
 
 INFQRMATION AT THE SOURCE 
 
 To assist in the administration of the income tax law, certain 
 information is required to be furnished by brokers as to their 
 customers, by corporations as to dividend and interest payments, 
 by first or last banks or collection agencies as to foreign items, 
 and by individuals, partnerships and corporations generally (in- 
 cluding lessees or mortgagors of real or personal property, 
 fiduciaries, and employers) as to payments of income to others, 
 in order that the treasury department may have data on which 
 to audit returns of income.^ The several classes of payments 
 which are required to be reported, and the provisions with re- 
 spect to each, are discussed in the following paragraphs. The 
 Revenue Act of 1921 makes no change in this regard. 
 
 Miscellaneous Income, Gains and Profits. It is provided that 
 payments of interest, rent, salaries, wages, premiums, annuities, 
 compensations, remunerations, emoluments or other fixed or de- 
 terminable gains, profits an'd income of $1,000 or more must be 
 reported by the payor thereof.^ "Fixed or determinable gains, 
 profits and income," as used in the law,^ would seem to include 
 payments of all the kinds expressly enumerated and all pay- 
 ments of a similar nature. In the case of collection at the source 
 payments must be annual or periodical, while in the case of in- 
 formation at the source the law does not contain such a limita- 
 tion. Hence any payments of the kind described in the law, 
 whether made in isolated cases, or from time to time, must be 
 reported.* If the aggregate of several payments made to the 
 same payee equals or exceeds $1,000 in any taxable year, the 
 gross amount should be reported. The payments may be from 
 different forms of income, as for instance, from interest and 
 rent, or interest and salary. In such cases, it seems the total is 
 required by law to be reported, if the aggregate of all payments 
 in the year to the same payee equals or exceeds $1,000. 
 
 1 Revenue Act of 1921, §§254, 255 and 256; Revenue Act of 1918, §§254, 
 255 and 256. These administrative provisions first appeared in the 1916 
 Law by amendment in 1917. 
 
 2 Revenue Act of 1921, § 256; Revenue Act of 1918, § 256. There must be 
 payment. Interest accrued on bank deposits before it has passed to the 
 credit of the depositor need not be reported. (T. D. 2670). 
 
 3 Revenue Act of 1921, § 256; Revenue Act of 1918, § 256. 
 
 * Reg. 45, Art. 1071. Payments made to corporations, associations, and 
 insurance companies for the year 1917 did not require reporting. 
 
 951 
 
952 FEDERAL INCOME TAX 
 
 Salaries, Wages or Compensation. The names of all em- 
 ployees to whom payments exceeding $1,000 a year are made, 
 whether such total sum is made up of wages, salaries, commis- 
 sions or compensation in any other form, must be reported. 
 A domestic corporation employing American citizens in Canada 
 on a commission basis, and paying such commissions weekly in 
 Canadian money, should compute each commission separately 
 in accordance with the rate of exchange in effect on the date of 
 each payment and report the aggregate amount paid during the 
 taxable year.^ Heads of branch offices and subcontractors em- 
 ploying labor, who keep the only complete record of payments 
 therefor, should file returns of information in regard to such 
 payments directly with the Commissioner. When both main 
 office and branch office have adequate records, the return should 
 be filed by the main office. In the case of an employer having 
 a large number of employees who are moved from place to place 
 as the exigencies of the service require, and who consequently 
 has no complete record of annual payments to theni at any one 
 place, the salary of two representative months may be taken to 
 establish a fair monthly wage, and unless the yearly payment 
 based on this estimate in the case of an employee amounts to 
 $1,000 or more, no return of payments to such employee is re- 
 quired.^ When living quarters such as camp^ are furnished for 
 the convenience of the employer, the ratable cost need not be 
 added to the cash compensation of the employee in determining 
 whether it equals $1,000 annually. But where a person receives 
 as compensation for services rendered a salary and in addition 
 thereto living quarters, the value to such person of the quarters 
 furnished constitutes income subject to tax, and a return of 
 information is required in such case where the cash compensa- 
 tion received plus the value of living quarters furnished equals 
 $1,000 for the year.''' The value to a domestic servant of the 
 board and lodging received as part of his compensation for serv- 
 ices rendered is deemed to be the same amount which he would bei 
 required to pay for board and lodging elsewhere than in his em- 
 ployer's household.8 Bills paid to employees for board and lodg- 
 
 5 O. D. 1066, T. B. 42-21-1870. 
 
 6 Reg. 45, Art. 1072. 
 
 7T. D. 2670; Reg. 33 Rev., Art. 34; letter from treasury department dated 
 October 25, 1917; I. T. S. 1921, Ij 1912. See Reg. 45, Art. 33. 
 
 8 0. D. 874, T. B. 15-21-1566. The value of the board and lodging should 
 be entered separately on Form 1099, as evidence of the fact that such value 
 has been considered in computing the total amount received by the servant. 
 
INFORMATION AT THE SOURCE 953 
 
 ing while traveling under orders or when the employee is em- 
 ployed on a salary basis, are not part of the employee's salary.^ 
 Commissions paid to soliciting agents for personal services in 
 securing insurance contracts must be reported at the source, but 
 if the agent conducts a branch office or is employed by the com- 
 pany under a contract that makes it necessary to bear the ex- 
 penses of the branch office and all payments received are intended 
 to cover such expenses, they need not be reported.^" Fees paid 
 by a corporation for professional services should be included in 
 a return of information when the amount paid to any individual 
 or partnership during the calendar year equals or exceeds 
 $1,000.^1 In executing Form 1099 an employer who is required 
 to withhold the tax from an employee under a state income tax 
 law should report the amount of the salary paid to the employee 
 plus the amount of tax withheld. The employee should report 
 the same amount in his return.^^ 
 
 Where a business which had been operated as a partnership 
 was incorporated in June, 1920, and thereafter operated as a cor- 
 poration, there being no interruption to the business, and the 
 employees of the partnership being retained by the corporation, 
 it was held that for administrative purposes it will not be con- 
 sidered that there was a change in employer. Since there was 
 no interruption to business, and the employees of the partnership 
 continued to be the employees of the corporation, only one Form 
 1099 covering the calendar year 1920 was required to be filed in 
 each case where the total amount of payments made equalled or 
 exceeded $1,000.13 
 
 Payments Which Need Not Be Reported. Payments of the 
 following character, although over $1,000, need not be reported 
 in returns of information on Form 1099 (revised) : (a) Pay- 
 ments of interest on obligations of the United States; (b) divi- 
 dends paid by domestic or resident foreign corporations (other 
 than distributions by personal service corporations) ; (c) pay- 
 ments by a broker to his customers ; (d) payments made to cor- 
 porations; (e) bills paid for merchandise, telegrams, telephone, 
 freight, storage and similar charges ; (f ) payments to employees 
 for board and lodging while traveling in the course of their em- 
 
 9 T. D. 2670. 
 
 10 Letter from treasury department dated March 28, 1918; I. T. S. 1921, 
 1[ 1910. See also T. D. 2670 and letter from treasury department dated 
 March 27, 1918; I. T. S. 1919, T[ 1347. 
 
 11 O. D. 416, T. B. 12-20-800. 
 
 12 0. D. 401, T. B. 6-20-733. 
 
 13 0. D. 788, T. B. 5-21-1422. 
 
954 FEDERAL INCOME TAX 
 
 ployment;!* (g) annuities representing the return of capital; 
 (h) payments of rent made to real estate agents (but the agent 
 must report payments to the landlord if they amount to $1,000 
 or more annually) ; (i) payments made by branches of business 
 houses located in foreign countries to alien employees serving 
 in foreign countries; (j) payments made by the United States 
 government to sailors and soldiers and to its civilian employees ;i^ 
 (k) amounts received through accident or health insurance or 
 under workmen's compensation acts, as compensation for per- 
 sonal injuries or sickness, plus the amount of any damages re- 
 ceived, whether by suit or agreement, on account of such injuries 
 or sickness.!® 
 
 A building and loan association which makes payments to the 
 stockholders equal to the matured value of shares of stock is not 
 required to make a return of information unless the net proceeds 
 or income derived by the stockholder from the transaction 
 amounts to or exceeds $1,000 in any taxable year. The portion 
 of the payment of the matured value of the shares of stock, 
 which represents the purchase price of such shares is merely a 
 return of principal or capital and is held not to be income.^''^ 
 Where a lease provides for a payment of rental in crop shares, 
 the landlord and tenant sharing the expenses proportionately, 
 such payments are not fixed or determinable and need not be 
 reported.!** 
 
 Gains and Losses of Customers of Brokers. When directed by 
 the Commissioner, either specially or by general regulation, every 
 person doing business as a broker is required to render a return 
 showing the names and addresses of customers to whom pay- 
 ments were made or for whom business was transacted during 
 the calendar year or other specified period next preceding and 
 giving the other information called for by the form.i" 
 
 14 This is true notwithstanding the fact that part of such payments may 
 be taxable income to the employee (letter from treasury department dated 
 February 5, 1921; I. T. S. 1921, H 2719). 
 
 15 Reg. 45, Art. 1074. 
 
 16 O. D. 858, T. B. 13-21-1535. 
 
 17 0. D. 759, T. B. 52-20-1364. 
 
 18 0. D. 115, T. B. 2-19-172. 
 
 19 Revenue Act of 1921, §255; Revenue Act of 1918, §255; Reg. 45, Art. 
 1061; Reg. 33 Rev., Art. 33. The 1918 and present law omit the clause of the 
 prior law defining brokers, "on any exchange or board of trade or other 
 similar place of business." It will be noted that under this provision the 
 Commissioner is given discretion to require or not to require such returns. 
 Form No. 1100 is to be used in making such returns. 
 
INFORMATION AT. THE SOURCE 955 
 
 Dividends on Stock of Taxable Corporations. When directed 
 by the Commissioner, either specially or by general regulation, 
 every domestic or resident corporation and every personal serv- 
 ice corporation is required to render a return of its payments of 
 dividends, and distributions to stockholders for such period as 
 may be specified, stating the name and address of each stock- 
 holder, the number and class of shares owned by him, the date 
 and amount of each dividend paid him, and when the surplus 
 out of which it was paid was accumulated.^" It will be noted 
 that foreign corporations may be subject to this duty if they are 
 subject to income tax.-^ 
 
 Interest on Obligations of Domestic Corporations. In the case 
 of payments of interest upon bonds, mortgages, deeds of trust, 
 or other similar obligations of domestic or resident corporations, 
 the name of the payee is to be reported regardless of the amount 
 of interest paid.^- 
 
 Interest on Obligations of the United States. The law pro- 
 vides 23 that the officers or employees of the United States having 
 information as to payments of interest, etc., and required by 
 regulations authorized by law to make returns in regard thereto, 
 shall render true and accurate returns, under such regulations 
 and in such form and manner and to such extent as may be pre- 
 scribed by the Commissioner with the approval of the secretary. 
 The department ruled under the 1918 Law, however, that pay- 
 ments of interest on obligations of the United States need not 
 be reported on returns of information.^* 
 
 State and Municipal Bonds. Although interest received" from 
 state and municipal bonds is not subject to tax, the law does not 
 expressly exempt such payments from its requirements as to 
 information at the source ; neither does it expressly include such 
 payments. No express ruling has been made as to the procedure 
 to be followed in this respect. 
 
 20 Revenue Act of 1921, § 254; Revenue Act of 1918, § 254; Reg. 45, Art. 
 1051. This section omits the catch-all phrase in modification of payments 
 of dividends — "Whether made in cash, or its equivalent, or in stock." See, 
 however, the definition of the term "dividend" in Revenue Act of 1918, § 200, 
 and in Revenue Act of 1921, § 201. It will be noted that under this pro- 
 vision the Commissioner is given discretion to require or not to require such ' 
 returns. Form No. 1097 is to be used in making such returns. 
 
 21 See Chapter 12. See also telegram from treasury department dated 
 October 14, 1918; I. T. S. 1918, 113642. 
 
 22 Revenue Act of 1921, §256; Revenue Act of 1918, §256. 
 2» Revenue Act of 1921, § 256; Revenue Act of 1918, § 256. 
 24 Reg. 45, Art. 1074. 
 
956 FEDERAL INCOME TAX 
 
 Return of Information as to Payments to Nonresident Aliens. 
 
 In the case of payments of annual or periodical income to non- 
 resident alien individuals or to foreign corporations not engaged 
 in trade or business within the United States and not having any 
 office or place of business therein, the returns by withholding 
 agents on Forms 1098 (revised) and 1042 (revised) constituted 
 and were treated as returns of information under the 1918 Law.^s 
 
 Foreign Items. The following regulations have been issued 
 under the 1918 Law in regard to foreign items.^e 
 
 Source of Information as to Foreign Items. The term 
 "foreign item," as here used, means any dividend upon the stock 
 of a nonresident foreign corporation or any item of interest upon 
 the bonds of foreign countries or nonresident foreign corpora- 
 tions, whether or not such dividend or interest is paid in the 
 United States or by check drawn on a domestic bank. Wherever 
 a foreign country or nonresident foreign corporation issuing 
 bonds has appointed a paying agent in this country, charged 
 with the duty of paying the interest upon such bonds, such pay- 
 ing agent shall be the source of information. If such foreign 
 country or foreign corporation has no such agent, then the last 
 bank or collecting agent in this country shall be the source of 
 information. In the case of dividends on the stock of a non- 
 resident foreign corporation, however, the first bank or collecting 
 agent accepting such item for collection shall be the source of 
 information.^^ 
 
 Ownership Certificates for Foreign Items. When bonds 
 of foreign countries, or bonds or stocks of nonresident foreign 
 corporations, are owned by citizens or residents of the United 
 States, individual or fiduciary, by domestic or resident foreign 
 corporations, or partnerships, or by personal-service corpora- 
 tions, ownership certificate Form 1001a (revised) should be exe- 
 cuted by the actual owner or by his duly authorized agent when 
 presenting the item for collection, whether such item is a divi- 
 dend or an interest payment, except in the case of a foreign 
 codntry or a foreign corporation having a fiscal agent or a paying 
 agent in this country and issuing bonds which contain a tax-free 
 covenant clause. In such a case the fiscal agent or paying agent 
 is required to withhold the normal tax of 2% from the interest 
 on such bonds and ownership certificate Form 1000 (revised) 
 
 25 Reg. 45, Art. 1076. 
 
 26 See T. D. 2759, amending Reg. 33 Rev., Art. 35, and T. D. 2716 for the 
 rule under the 1916 Law. 
 
 27 Reg. 45, Art. 1077. 
 
INFORMATION AT THE SOURCE 957 
 
 modified to show the name and address of the fiscal agent or the 
 paying agent, should be used, unless the owner (if so entitled) 
 desires to claim exemption, in which case Form 1001a (revised) 
 sihould be filed. When such foreign bonds or stocks are owned 
 by nonresident alien individuals, corporations, or partnerships, 
 ownership certificate Form 1001a (revised) should be used on 
 behalf of such owners by any responsible bank or banker, either 
 foreign or domestic, having knowledge of such ownership. In 
 such a case the bank or banker need not fill in the names of the 
 owners.28 
 
 Nonresident alien individuals, partnerships, and corporations 
 should file Form 1001a properly modified, in connection with in- 
 terest coupons on bonds of a corporation organized in the United 
 States but which transacts no business in the United States and 
 owns no property therein.^^ 
 
 In cases where a foreign corporation is the registered owner 
 of stock of a domestic . corporation and the actual owner is a 
 nonresident alien individual or partnership, disclosure of actual 
 ownership should be made on Form 1087 (revised) in order that 
 a domestic corporation required to render a return of informa- 
 tion as to dividends may have at its disposal information as to 
 actual ownership of the stock. The foreign corporation as the 
 registered holder is not, however, required to render any return 
 or withhold any tax from income paid to the actual owner of the 
 stock, nor is there any provision under the law, whereby any 
 withholding of tax at the source is required by the debtor cor- 
 poration with respect to such income whether actually owned by 
 the registered owner or 'by a third party .^" 
 
 Where an individual, a resident of this country, is entitled 
 to the interest accruing on some German war loan securities 
 which are held for him by a German bank which institution 
 has requested a domestic bank to transmit the amount to the 
 individual, by drawing a check or draft upon the foreign bank, 
 it is held that an ownership certificate is not required until the 
 foreign item is actually collected, either by the cashing or the 
 depositing of the check and no responsibility with respect to 
 requiring an ownership certificate attaches to the domestic bank- 
 ing institution in connection with this transaction unless the 
 individual presents the foreign item to it for collection. When 
 
 28 Reg. 45, Art. 1078, as amended by T. D. 3031. For a full discussion of 
 the subject of ownership certificates see Chapter 40. 
 
 29 O. D. 354, T. B. 31-19-653. 
 
 30 O. D. 162, T. B. 5-19-263. 
 
958 FEDERAL INCOME TAX 
 
 the foreign item is collected the amount should be reported on 
 ownership certificate, Form 1001a (revised) in the equivalent of 
 United States money values, according to the rate of exchange 
 in effect at the time collection is made. The check or draft 
 drawn by the domestic banking institution on the foreign bank- 
 ing institution should bear a notation as to what the payment 
 represents, in order that the first bank making payment of such 
 amount may be enabled to identify the check as a foreign item.^i 
 
 Foreign Items Presented for Collection Unaccompanied 
 BY Ownership Certificates. If the foreign item is an interest 
 coupon detached from bonds containing a tax free covenant 
 clause, issued by a foreign country or corporation having a pay- 
 ing agent in the United States an affidavit and ownership certifi- 
 cate. Form 1000 (revised) , should be f urnished.^^ 
 
 In the case of other foreign items which are received unaccom- 
 panied by an ownership certificate and the owner is unknown, an 
 aflSdavit is required of the payee, showing the name and address 
 of the payee, the name and address of the debtor organization, 
 the date of the dividend check or the maturity of the interest 
 coupon, the name and address of the person from whom the divi- 
 dend check or interest coupon was received, and a statement that 
 the owner of the securities is unknown to the payee. The first 
 bank receiving such foreign item should prepare a certificate of 
 ownership. Form 1001a (revised), crossing out the word "owner" 
 and substituting therefor the word "payee." The first bank 
 should stamp or write across the face of the certificate "affidavit 
 furnished," adding the name of the bank. Thereupon the affi- 
 davit and certificate should be forwarded to the Commissioner.^^ 
 
 Return of Information as to Foreign Items. In the case 
 of collections of foreign items, regardless of amount, the original 
 ownership certificates, when duly filed, will constitute and be 
 treated as returns of information, (a) In the case of dividends, 
 as to which the first bank or collecting agent is the source of 
 information, it shall detach the ownership certificate and indorse 
 on the item the words, "Certificate detached and information 
 furnished," adding its name and address. When foreign items 
 have been indorsed as above prescribed, the certificates must be 
 forwarded to the Commissioner (sorting division) on or before 
 the 20th day of the month following that during which the items 
 
 31 0. D. 641, T. B. 34-20-1150. 
 
 32 See Reg. 45, Art. 368. 
 
 33 Reg. 45, Art. 1078 (a), added by T. D. 3030; O. D. 377, T. B. 3-20-694. 
 The affidavit and certificate are forwarded as provided in Article 1079 of 
 Regulations 45. 
 
INFORMATION AT THE SOURCE 959 
 
 were accepted, accompanied by a return on Form 1096a showing 
 the number of certificates and the aggregate amount of foreign 
 items, disclosed thereon. An annual return on Form 1096b must 
 be forwarded to the Commissioner not later than March 15 of 
 each year, on which shall be given a summary of the monthly re- 
 turns, (b) In the case of interest items, as to which the paying 
 agent or the last bank or collecting agent in this country is the 
 source of information, the ownership certificate must accompany 
 the coupon to such agent or source of information, who must for- 
 ward the ownership certificate to the Commissioner in the same 
 manner as above provided with respect to dividend items. Where 
 ownership certificate Form 1000 (revised) is used, a monthly 
 return must be made on Form 1012 (revised) and an annual 
 return on Form 1013 (revised) . Forms 1012 (revised) and 1013 
 (revised), when so used, should be modified to show the name 
 and address of the paying agent. The use of substitute certifi- 
 cates is not permitted in the collection of foreign items.^* The 
 procedure as set forth above with respect to the return of in- 
 formation regarding the collection of foreign interest items is 
 applicable as well to the interest on foreign registered bonds.^^ 
 
 License. The law provides that all individuals, corporations, 
 or partnerships, "undertaking as a matter of business or for 
 profit the collection of foreign payments of interest or dividends 
 by means of coupons, checks or bills of exchange shall obtain a 
 license from the Commissioner, and shall be subject to such regu- 
 lations enabling the government to obtain the information re- 
 quired (under this title) , as the Commissioner, with the approval 
 of the secretary, shall prescribe ; and whoever knowingly under- 
 takes to collect such payments without having obtained a license 
 therefor, or without complying with such regulations, shall be 
 guilty of a misdemeanor and shall be fined not more than $5,000, 
 or imprisoned for not more than one year, or both."^^ Foreign 
 items should not be accepted for collection by any bank or col- 
 lecting agent so licensed unless properly indorsed or accompanied 
 by proper ownership certificates giving all the information called 
 for by such certificate.^''^ Application for a license for the collec- 
 tion of foreign items should be made to the collector of the dis- 
 trict in which the business is to be carried on. Upon the accept- 
 ance of such application the collector will issue to the applicant, 
 
 34 Reg. 45, Art. 1079. 
 
 35 O. D. 675, T. B. 39-20-1216. 
 
 36 Revenue Act of 1921, § 259; Revenue Act of 1918, § 259. 
 
 37 Reg. 45, Art. 1111. 
 
960 FEDERAL INCOME TAX 
 
 without cost, a license which will continue in force until revoked 
 or cancelled.^s Where the collector is not sufficiently informed as 
 to the entire responsibility of the applicant, or where in any case 
 he deems it advisable, the Commissioner may, upon recommenda- 
 tion of the collector, require of the applicant a bond in duplicate 
 with satisfactory sureties in a penal sum at least equal to the 
 estimated amount of tax to be withheld by such applicant during 
 any one year; such bond, however, may not be less than $1,000 
 nor more than $100,000.39 This bond, if required, must be re- 
 newed annually before January 1 of each year.*** United States 
 bonds or notes may be deposited under the law, in lieu of 
 a bond with sureties.'*! 
 
 Procedure in Paying Income. In order that the payor of the 
 income required by the law to be reported may obtain the neces- 
 sary information, the law expressly provides, except in the case 
 of reports of dividend payments and reports by brokers, that the 
 name and address of the recipient of income shall be furnished 
 upon demand to the individual, corporation, or partnership pay- 
 ing the income.'*- All payors of income should obtain in some 
 form the name and address of the recipient of such payments. 
 When the person receiving a payment falling within the pro- 
 visions of law for information at the source is not the actual 
 owner of the income received, the name and address of the ac- 
 tual owner must be furnished upon demand of the individual, 
 corporation, or partnership paying the income, and in default 
 of a compliance with such demand the payee becomes liable to 
 a penalty of not more than $1,000, Unless the failure to comply 
 is wilful, in which event the payee will be guilty of a misde- 
 meanor and will be fined not more than $10,000, or imprisoned 
 for not longer than one year, or both, together with the costs of 
 prosecution.*^ The law imposes no duty, however, upon the 
 payor of the income to inquire upon his own initiative as to the 
 ownership thereof, and it would seem that such payor is fully 
 
 38 T. D. 2759. Application for such license is made on Form 1017. A 
 license is issued on Form 1010. 
 
 89 Reg. 33, Art. 56, January 5, 1914. No bond is required in connection 
 ■with the issuance of Form 1010, license to collect foreign items, if the col- 
 lector is satisfied as to the responsibility of the applicant for the license. 
 (O. D. 653, T. B. 35-20-1176.) 
 
 40 T. D. 1909. 
 
 « Revenue Act of 1921, § 1329. 
 
 42 Revenue Act of 1921, § 256; Revenue Act of 1918, § 256. 
 
 43 Reg. 45, Art. 1080; Reg. 33 Rev., Art. 36. See also Revenue Act of 
 1921, § 253; Revenue Act of 1918, § 253. 
 
INFORMATION AT THE SOURCE 961 
 
 protected by reporting in good faith the name and address of the 
 one to whom the income is paid. 
 
 Returns of Information at the Source. Returns of information 
 at the source must be made as indicated in the following para- 
 graphs. 
 
 Miscellaneous Income, Gains and Profits. All persons 
 making payment to another person of fixed or determinable in- 
 come of $1,000 or more in a taxable year must render a return 
 thereof to the Commissioner (sorting division) for the preceding 
 calendar year on or before March 15 of each year. The return 
 must be made in each case on Form 1099 (revised) , accompanied 
 by a letter of transmittal on Form 1096 (revised) showing the 
 number of returns filed and the aggregate amount represented 
 by the payments. The street and number where the recipient of 
 the payment lives and whether he is single, married or head of 
 a family should be stated, if possible. Where no present address 
 is available, the last known post-office address must be given.** 
 
 Return of Information by Partnerships, Personal Serv- 
 ice Corporations and Fiduciaries. Partnerships and personal 
 service corporations are required to prepare reports on Form 
 1099 (revised) for each member of the partnership or personal 
 service corporation, and fiduciaries must prepare such reports 
 for each beneficiary of the estate or trust, showing in every case 
 the distributive shares of the members or beneficiaries, whether 
 or not actually distributed. If the books of account of a partner- 
 ship, personal service corporation, or fiduciary are kept on the 
 basis of a fiscal year, the returns of information, Form 1099 (re- 
 vised) , showing the distributive shares of the members or bene- 
 ficiaries must be rendered on a fiscal-year basis. Such returns, 
 accompanied by Form 1096 (revised), must be filed on or before 
 the fifteenth day of the third month following the close of the 
 fiscal year. All other returns of information, Form 1099 (re- 
 vised) , required to be filed by a partnership, personal service cor- 
 
 44 Revenue Act of 1921, §256; Revenue Act of 1918, §256; Reg. 45, Art. 
 1071. In the case of payments to nonresident alien individuals or to foreign 
 corporations not engaged in trade or business within the United States and 
 not haying any office or place of business therein, the returns by withholding 
 agents on Forms 1098 (revised) and 1042 (revised) constituted and were 
 treated as returns of information under the 1918 Law. (Reg. 45, Art. 1076.) 
 The law does not require a return of information with respect to the in- 
 come of nonresident aliens which is not fixed or determinable. If a with- 
 holding agent files Forms 1098, revised, and 1042, revised, in connection 
 with payments of annual or periodical income to nonresident alien indi- 
 viduals, it will not be necessary to file Form 1099. (0. D. 673, T. B. 39-20- 
 1215.) 
 
962 FEDERAL INCOME TAX 
 
 poration, or a fiduciary must be rendered on a calendar-year 
 basis, regardless of the fact that its books of account are kept on 
 a fiscal-year basis. Such returns, accompanied by Form 1096 (re- 
 vised) , must be filed on or before March 15 of the year following 
 that for which the returns are made.^s The above information 
 must be furnished on Forms 1099, reporting the payments indi- 
 vidually, and a summary prepared on Form 1096. These forms 
 should not be attached to and filed with Forms 1041 and 1065, 
 but forwarded direct to the Commissioner of Internal Revenue, 
 Sorting Section, Washington, D. C, in time to be received not 
 later than March 15.*'' 
 
 Gains and Losses of Customers of Brokers. The law pro- 
 vides that the return to be made by brokers, if required by the 
 Commissioner, shall state the names of customers (and impliedly 
 their addresses) for whom such brokers have transacted any 
 business, with such details as to profits, losses, or other informa- 
 tion as the Commissioner may require as to each of such cus- 
 tomers.*'' It is ruled that the addresses of customers must be 
 stated in such returns.** 
 
 Dividends on Stock of Taxable Corporations. With re- 
 spect to dividend payments of corporations, the law provides that 
 the return to be made by the corporation if required by the Com- 
 missioner, shall state the names and addresses of the stockhold- 
 ers, the number of shares owned by each, and the amount of divi- 
 dends paid to each during the period covered by the report.*^ 
 
 45 Reg. 45, Art. 1073, as amended by T. D. 3210, T. B. 34-21-1785; 0. D. 
 885, T. B. 16-21-1585. 
 
 46 M. 2708, T. B. 8-21-1469. 
 
 47 Revenue Act of 1921, §255; Revenue Act of 1918, §255; Reg. 45, Art. 
 1061. Two forms of return were contemplated for the reporting by brokers 
 of the gains and losses of their customers. One form (Form 1100, never 
 issued) shows the total gains and losses of each customer. The other (Form 
 1096) is merely a letter of transmittal under oath, to be used in forwarding 
 the several Forms 1100 to the Commissioner. 
 
 48 Reg. 45, Art. 1061. 
 
 49 Revenue Act of 1921, § 254; Revenue Act of 1918, § 254. Two forms of 
 return were contemplated, under the 1918 Law, which contained the same 
 provision for the reporting of dividends paid by taxable corporations. 
 Form 1097 (revised) gives the required information separately with regard 
 to each stockholder, and must, if required, be forwarded to the Commissioner 
 within ten days from the receipt of notice demanding it. Form 1096 (re- 
 vised) is merely a letter of transmittal under oath, to be used in forwarding 
 the several Forms 1097 to the Commissioner. Reporting at the source by 
 corporations may be required specially or by general regulation (Reg. 45, 
 Art. 1051). 
 
information at the source 963 
 
 Interest on Obligations op Domestic or Resident Corpora- 
 tions. In the case of payments of interest, regardless of amount, 
 upon bonds and similar obligations of domestic or resident for- 
 eign corporations, the original ownership certificates, when duly 
 filed, constitute and are treated as returns of information. If a 
 bondholder files no ownership certificate in the case of payments 
 of interest on registered bonds, the withholding agent is required, 
 to make out such a certificate in each instance and file it.™ 
 
 Exempt Corporations. Exempt corporations are required to 
 furnish information at the source in the same manner and ac- 
 cording to the same rules as taxable corporations.^^ 
 
 Affiliated Corporations. Affiliated corporations will not be 
 permitted to file a consolidated return of information at the 
 source. Each corporation must file a separate return of infor- 
 mation.52 
 
 Department of Municipal Government. A department of a 
 municipal government is required to file a return of information, 
 excluding, however, payments made as salary or wages to officials 
 or employees of the state or political subdivision thereof, and 
 payments of interest on obligations of a state or political sub- 
 division thereof.^ 
 
 50 Reg. 45, Art. 1075. Monthly return is made on Form No. 1012 (revised). 
 See also Reg. 33 Rev., Art. 43; T. D. 2769. 
 
 51 T. D. 2693. 
 
 52 O. D. 469, T. B. 16-20-268. 
 
 53 O. D. 470, T. B. 16-20-869. 
 
CHAPTER 40 
 
 COLLECTION OF THK TAX AT THE SOURCE 
 
 The Revenue Act of 1921 provides for withholding at the 
 source on payments of fixed or determinable annual or periodical 
 gains, profits, and income, to any nonresident alien individual 
 or partnership composed in whole or in part of nonresident 
 aliens except income received as dividends of the class allowed 
 as a credit against the normal tax by the law, and interest on 
 deposits with persons carrying on the banking business paid to 
 persons not engaged in business in the United States and not 
 having an oflSce or place of business therein, at the rate of 8%, 
 except if the income is from bonds and mortgages, deeds of 
 trust, or similar obligations, of a corporation, containing a 
 covenant to pay any portion of the tax for the bondholder, in 
 which case withholding shall be at the rate of 2%.^ It is also 
 provided that payments of fixed or determinable annual or 
 periodical gains, profits, and income (with the same exceptions) , 
 to any foreign corporation not engaged in trade or business 
 within the United States and not having an office or place of 
 business therein shall be withheld at the rate of 12V^ % (but dur- 
 ing the calendar year 1921 at the rate of only 10%) except in 
 cases where the income is from bonds, mortgages, or deeds of 
 trust or other similar obligations of a corporation containing a 
 covenant to pay any portion of the tax for the bondholder, in 
 which case withholding shall be at the rate of 2 % .^ The provision 
 
 1 Revenue Act of 1921, § 221. 
 
 2 Revenue Act of 1921, §237. The 1913 Law provided for withholding 
 at the source of the normal tax {!%) on payments of fixed or determinable 
 annual or periodical income to individuals, whether citizens, residents or 
 nonresident aliens. (Act of October 3, 1913, § D.) The 1916 Law pro- 
 vided also for withholding at the source of the normal tax (2%) on pay- 
 ments of similar income to individuals. (Revenue Act of 1916, §9 (b), 
 (c), (d), (e).) But by the amendment of October 3, 1917, the law was 
 changed so as to require withholding only (a) on payments of fixed or 
 determinable annual or periodical income (except dividends) to non- 
 resident aliens at the rate of 2%; (b) on payments of interest upon bonds 
 of domestic or other resident corporations to foreign corporations not en- 
 gaged in trade or business within the United States and not having an 
 office or place of business therein, at the rate of 6%; (c) on payments 
 of dividends of domestic or other resident corporations to foreign cor- 
 porations not engaged in trade or business within the United States and 
 not having an office or place of business therein, at the rate of 2%; (d) 
 at the rate of 2% on payment of interest on bonds, mortgages, deeds of 
 
 964 
 
COLLECTION OF THE TAX AT THE SOURCE 965 
 
 of the 1921 Law exempting interest on deposits from withhold- 
 ing was not contained in the 1918 Law. Under the Revenue 
 Act of 1918 no withholding was required on payment of fixed or 
 determinable income to partnerships whether resident or non- 
 resident, or whether or not having any nonresident alien mem- 
 bers. No withholding is required under either law on payments 
 to citizens or residents, except in case of payments of interest 
 upon bonds, mortgages, deeds of trust, or other similar obliga- 
 tions, of a corporation containing a covenant to pay the tax, in 
 which case withholding is required at the rate of 2%.^ In no case 
 is any tax withheld at the source on payments to domestic corpo- 
 rations or to foreign corporations engaged in trade or business 
 within the United States or having an office or place of business 
 in the United States. Personal service corporations may, after 
 receiving notice from the Commissioner that they have been 
 recognized as such, but not before, proceed as though they were 
 partnerships.* 
 
 Definition. For convenience, certain terms used in this chapter 
 are here defined. A nonresident foreign corporation is one not 
 engaged in trade or business within the United States and not 
 having any office or place of business therein.^ A foreign cor- 
 poration not engaged in trade or business within the United 
 States, which has a fiscal agent in the United States, 
 is not a resident corporation.^ The term "withholding 
 agent" means any person required to deduct and withhold any 
 tax required to be deducted and withheld by the law.'^ A with- 
 
 trust and similar obligations, of corporations to individuals, citizens, res- 
 idents or aliens, if such bonds, mortgages, deeds of trust and similar ob- 
 ligations contained a covenant to pay any portion of the income tax for 
 the bondholder, or to pay the interest without deduction for any tax which 
 the corporation might be required or permitted to pay thereon or to retain 
 therefrom under any law of the United States, and (e) at the rate of 6% 
 where the owner of bonds, mortgages, deeds of trust, or similar obligations, 
 was not known (Revenue Act of 1916, as amended, §§9 (b), (c), (g), 13 
 (e), (f).) The amendment was retroactive to January 1, 1917, and any 
 normal tax withheld from income paid to citizens or residents in 1917, 
 other than interest described in (d) above, was required by the law to be 
 released and paid over to the persons from whose income such tax was with- 
 held. (Revenue Act of 1917, §§ 9 and 1212.) 
 
 3 Revenue Act of 1921, § 221 ; Revenue Act of 1918, § 221 ; Reg. 45, Art. 
 361. 
 
 * Letter from treasury department dated November 20, 1919 ; I. T. S. 
 1921, T[1848; 0. D. 339, T. B. 29-19-628. 
 
 5 Revenue Act of 1921, § 237 ; Revenue Act of 1918, § 237. 
 
 6 0. D. 144, T. B. 4-19-225. 
 
 7 Revenue Act of 1921, § 200 ; Revenue Act of 1918, § 200. 
 
966 FEDERAL INCOME TAX 
 
 holding agent may be a corporation with bonds outstanding, 
 a trustee under a corporate mortgage, or any corporation, part- 
 nership or private individual.^ The term "bond interest" does 
 not include interest payments on ordinary bankable commercial 
 paper of corporations or ordinary promissory notes of corpora- 
 tions not exceeding one year in time." The term "covenant to 
 pay the tax," means a covenant, contract or provision in the 
 bonds, mortgage, deed of trust or other similar obligations of a 
 corporation by which the obligor agrees to pay any portion of the 
 income tax imposed upon the obligee, or to reimburse the obligee 
 for any portion of the tax, or to pay the interest without deduc- 
 tion for any tax which the obligor may be required or permitted 
 to pay thereon or to retain therefrom under any law of the 
 United States.io 
 
 Appointment of Withholding Agent. A debtor corporation, 
 which has appointed a withholding agent, should file with the 
 collector for the district in which the debtor corporation is 
 located notice of such appointment, giving the name and address 
 of the withholding agent. Only one copy is required and no 
 special form is prescribed.!^ 
 
 Fixed or Determinable Annual or Periodical Income. The 
 phrase "fixed or determinable annual or periodical" income ex- 
 pressly includes interest (except interest on deposits as indicated 
 in a preceding paragraph), rent, salaries, wages, premiums, 
 annuities, compensations, remunerations, emoluments, but ex- 
 pressly excludes income received as dividends of the class al- 
 lowed as a credit against the normal tax. It also expressly ex- 
 cludes interest on bonds, mortgages or similar obligations of 
 corporations containing covenants to pay any portion of the 
 tax.i2 Only (a) fixed or determinable (b) annual or periodical 
 income is subject to withholding. Included in such income, 
 giving an idea of the general character of income intended, the 
 statute specifies interest, rent, salaries, wages, premiums, an- 
 nuities, compensations, remunerations and emoluments. But 
 other kinds of income may be included. Income is fixed when 
 it is to be paid in amounts definitely pre-determined. On the 
 other hand, it is determinable whenever there is a basis of calcu- 
 lation by which the amount to be paid may be ascertained. The 
 income need not be paid annually if it is paid periodically, that is 
 
 8 Reg. 45, Art. 1533. 
 
 9T. D. 2090; T. B. "B", p. 31. 
 
 10 Revenue Act of 1921, §221; Revenue Act of 1918, §221. 
 
 110. D. 207, T. B. 19-19-359; T. B. "B", p. 31. 
 
 12 Revenue Act of 1921, §221; Revenue Act of 1918, §221. 
 
COLLECTION OF THE TAX AT THE SOURCE 967 
 
 to say, from time to time, whether or not at regular intervals. 
 That the length of time during which the payments are to be 
 made may be increased or diminished in accordance with some- 
 one's will or with the happening of an event does not make the 
 payments any the less determinable or periodical.^^ In the fol- 
 lowing paragraph the term is defined in its various aspects. 
 
 Salaries. Per diem salaries paid on a straight basis of com- 
 pensation for services rendered are fixed or determinable annual 
 or periodical income, unless the employee is required by the 
 terms of his employment or contract to pay therefrom his own 
 traveling and other legitimate expenses incident to the business 
 of his employment.^* It is held that salaries, wages and com- 
 missions, paid by domestic business enterprises to nonresident 
 alien employees for service rendered entirely in a foreign coun- 
 try are not income in the hands of the recipient as from a source 
 within the United States. They are, therefore, not subject to 
 withholding at the source.i^ 
 
 Partnership Salaries. Salaries stipulated by contract or 
 articles of agreement between partnership members constitute 
 fixed or determinable and annual or periodical income. But 
 where, by agreement or otherwise, members of a firm are per- 
 mitted to draw either stated or unstated sums in advance of an 
 annual or periodical determination of partnership profits, no 
 withholding is required, as these sums do not represent fixed or 
 determinable income within the meaning of the law.^^ With- 
 holding seems to be required against nonresident alien partners 
 on payment of the net distributive shares of the income of a 
 partnership although the regulations do not expressly so state. 
 Commissions. A salesman working by the month for a com- 
 mission on sales, which is paid or credited monthly, receives de- 
 ls Reg. 45, Art. 362; Revenue Act of 1921, §§221, 256; Revenue Act of 
 1918, §§ 221, 256. Income of farmers, merchants, agents (unless the com- 
 pensation is in the form of commissions), lawyers (except annual retainers), 
 doctors, authors, inventors, and other professional persons, whose income 
 is irregular or indefinite, is not fixed or determinable and annual or peri- 
 odical and is not, therefore, subject to withholding. (T. D. 1890; T. D. 
 2090.) Although payments of income which is not fixed or determinable 
 and annual or periodical are not subject to withholding, a resident in 
 this country having the receipt, control, or custody of such income may 
 be required, as agent for the nonresident principal owner, to report the 
 amount of such income and to account for any and all tax, normal and 
 additional thereon. (Reg. 45, Art. 404.) See Chapter 5. 
 
 14 T. D. 2135. 
 
 15 Reg. 45, Art. 92; Reg. 33 Rev., Art. 32. 
 
 16 Memorandum ftom treasury department, L T. S. 1917, 112282. See 
 Reg. 45, Art. 362. 
 
968 FEDERAL INCOME TAX 
 
 terminable periodical income." A commission paid on account 
 of a single transaction is not fixed or determinable annual or 
 periodical income.^^ Where a corporation engaged in business 
 as ship-chandlers in accordance with the well recognized prac- 
 tice of the trade, in order to secure the trade of certain ships' 
 captains sells bills of goods and supplies to a ship's captain at a 
 marked price, the invoice showing goods sold in this amount, 
 but accepts as payment in full from the ship's captain a smaller 
 amount, the difference between the two amounts being in the 
 nature of discount or commissions and operating to reduce the 
 price of the goods and supplies sold, it is held that the corpora- 
 tion is not the payor of fixed or determinable annual or period- 
 ical income.i^ 
 
 Profit Shakings. Payments constituting a share of the 
 profits of the employer are fixed or determinable and annual 
 or periodical income.^" The share of profits of a foreign corpora- 
 tion under an arrangement with a domestic corporation whereby 
 the latter purchased goods from the former at a minimum price 
 for resale in the United States, the domestic corporation re- 
 ceiving a commission in the event of resale in excess of the 
 minimum price, and the balance of the excess (after the deduc- 
 tion of certain expenses) being divided between the two cor- 
 porations, represents income from sources within the United 
 States, but is not subject to withholding since it is not fixed 
 or determinable income.^i 
 
 Bonus. A bonus paid in addition to salary is fixed or deter- 
 minable income,22 unless it is a mere gift or gratuity. 
 
 Dividends. The withholding of the tax at the source is not 
 required in the case of income received as dividends of the class 
 allowed as a credit against the normal tax in the case of indi- 
 viduals and as a deduction to corporations. Distributions by a 
 personal service corporation, are, however, subject to the deduc- 
 tion of the tax at the source.^^ 
 
 Insurance. If a nonresident alien beneficiary of an insurance 
 policy is given the option of accepting the principal of the policy 
 or of allowing it to remain with the insurance company, subject 
 
 17 Reg. 45, Art. 362. 
 
 18 O. D. 907, T. B. 19-21-1623. 
 
 19 A. R. R. 265, T. B. 40-20-1225. 
 
 20 T. D. 2090. 
 
 210. D. 384, T. B. 4-20-708. 
 
 22 T. D. 2135. 
 
 23 Revenue Act of 1921, §§221 and 237; Revenue Act of 1918, §§221 and 
 237; Reg. 45, Arts. 361, 363. 
 
COLLECTION OF THE TAX AT THE SOURCE 969 
 
 to quarterly installment payments of interest, the installment 
 payments are taxable income and are subject to "withholding, but 
 if the beneficiary has no option in the matter and is required to 
 accept the installment payments, the principal being payable to 
 another person at his death, such payments are held to be a part 
 of the proceeds of the policy. Under the latter circumstances it 
 follows that no withholding would be required, since the pay- 
 ments made to the nonresident alien beneficiary would not con- 
 stitute taxable income.^* 
 
 Interest. Interest, as a general rule, is held to be fixed or 
 determinable and annual or periodical income and subject to 
 withholding.25 
 
 Interest on call loans made by a domestic bank for the account 
 of a foreign bank is subject to withholding. While the actual 
 amount of interest may vary daily on account of the fluctuation 
 of the principal, the rate of interest is fixed and the amount of 
 interest therefore determinable. The total amount of interest 
 credited to the account of the foreign bank during the calendar 
 year is the amount subject to withholding.^^ Profits derived by 
 a nonresident foreign corporation from the purchase and sale 
 through an agent in this country of bank acceptances at a cer- 
 tain rate of discount are based on interest as accrued and such 
 interest, being fixed or determinable income, is subject to with- 
 holding.27 A domestic corporation owning a majority of the 
 stock of a foreign corporation should withhold the tax on interest 
 credited to the latter.^s Interest on bonds is treated in a sub- 
 sequent paragraph. The Revenue Act of 1921 provides^s that 
 interest on deposits with persons carrying on the banking busi- 
 ness paid to persons not engaged in business in the United States 
 and not having an office or place of business therein shall not be 
 subject to withholding. Any tax withheld since January 1, 1921, 
 on interest on such deposits should be released and credited to 
 such accounts.^" No such exception appeared in the 1918 Law 
 
 24 0. D. 767, T. B. 1-21-1374. 
 
 25 Letter from treasury department dated April 22, 1919; I. T. S. 1921, 
 ^1755; Telegram from treasury department dated May 23, 1919; I. T. S. 
 1921, Tf 1763; Reg. 33, Art. 67. 
 
 Reg. 33, Art. 67. 
 
 26 0. D. 549, T. B. 24-20-1007. 
 
 27 0. D. 221, T. B. 11-19-387. 
 
 28 O. D. 330, T. B. 28-19-616. 
 
 29 Revenue Act of 1921, §§221 (a) and 237. 
 
 30 Telegram from treasury department dated November 30, 1921 ; I. T. 
 S. 1921, 113253, 
 
970 FEDERAL INCOME TAX 
 
 and banks were required to withhold the tax on interest paid to 
 nonresident alien individuals or nonresident foreign corpora- 
 tions.si In many cases the accounts of foreign banks having 
 balances on deposit in domestic banks are at times overdrawn 
 and instead of crediting interest to their accounts the domestic 
 bank is obliged to debit interest for the money temporarily ad- 
 vanced to the foreign bank. In some cases foreign banks have 
 two accounts with domestic banks, one a deposit account, and 
 the other a borrowing account. In such cases domestic banks 
 were required to deduct and withhold the tax from the entire 
 amount of interest credited to foreign banks upon their deposits 
 in the domestic banks regardless of the amount of interest 
 charged the foreign banks on money advanced to them through 
 loans on borrowed accounts or on account of overdrafts or other- 
 wise. However, if the foreign banks rendered returns of their 
 total income from all sources within the United States they 
 might deduct in such returns the interest charged upon the 
 money advanced to them by the domestic banks to the extent 
 allowed by the Revenue Act of 1918.^2 j^ gygji cases the foreign 
 bank was required to include in its gross income the entire 
 amount of the income from which the tax was withheld and 
 paid at the source, as well as income from all other sources 
 within the United States, without deduction for the tax so paid, 
 but any tax actually so withheld was to be credited against the 
 total tax as computed in this return. In the event that the 
 amount of tax so paid at the source by the withholding agent 
 was in excess of the total tax liability of the foreign bank a 
 claim for refund might be filed for the amount overpaid.^^ 
 
 31 Letter from treasury department dated April 22, 1919; I. T. S. 1921, 
 If 1755. T. D. 2652 ; letter from treasury department dated February 4, 
 1918; L T. S. 1918, 1[3077. Although these rulings expressly stated that 
 withholding was required only with respect to interest paid to nonresident 
 aliens, the reason for limiting the rulings to individuals did not exist 
 under the 1918 Law. (Telegram from treasury department dated May 
 23, 1919; I. T. S. 1921, 111763.) The long established rule that banks were 
 not required to withhold on interest paid or accruing oh deposits (see letter 
 from treasury department dated June 29, 1917; L T. S. 1918,. H 177) was 
 revoked by T. D. 2652. It seems that the word "paid," as used therein, 
 is intended to include interest which is actually paid and also interest that 
 is credited to the account of nonresident alien individuals, that is, de- 
 duction was to take place when the interest was placed at the depositor's 
 credit. 
 
 32 See Revenue Act of 1918, §§ 214 (a) 2, 234 (a) 2. 
 
 33 Letter from treasury department dated July 26, 1919; I. T. S. 1921, 
 H 1764. 
 
COLLECTION OF THE TAX AT THE SOURCE 971 
 
 Equipment Trust Certificates. Where a trust company, 
 a domestic corporation, entered into an agreement with a for- 
 eign railway company by which the trust company leased to 
 the railway company certain railroad equipment and rolling 
 stock for a term of years, the privilege being reserved to the 
 lessee at the expiration of the lease and upon meeting all obliga- 
 tions therein stipulated, to purchase the property for a nominal 
 consideration, the trust company at the same time entering into 
 an agreement with another domestic trust company under which 
 the first trust company was constituted trustee for the sub- 
 scribers obtained by the second trust company to a fund to be 
 used for the purchase of the railroad equipment and rolling 
 stock which was the subject of the rental agreement, the agree- 
 ment further providing that the first trust company should issue 
 to the subscribers of the fund equipment trust certificates with 
 semi-annual dividend warrants attached payable only out of 
 rentals paid to the trustee under the lease agreement, it has 
 been held that the obligation to pay the principal of the certifi- 
 cates and the semi-annual dividends thereon is that of the first 
 trust company and that the income derived from such certificates 
 should, therefore, be treated as a domestic item. Although the 
 term "dividends" is used, such payments are in reality interest 
 or compensation at a fixed rate payable at a fixed date for money 
 loaned and are not a dividend declared upon the net earnings of 
 the first trust company. Neither the lease, the equipment trust 
 nor the certificates contain a tax-free covenant clause. The divi- 
 dends should be reported on ownership certificates. Form 1000, 
 revised, or Form 1001, revised, depending upon whether or not 
 the owners of the certificates are nonresident aliens.^'' 
 
 Mercantile Accounts Current. Interest accruing on mer- 
 cantile accounts current for nonresident alien individuals, part- 
 nerships composed in whole or in part of nonresident aliens, or 
 nonresident foreign corporations, if the principal amounts so 
 due as well as the interest are at all times subject to call and 
 payable on demand, is fixed or determinable and annual or peri- 
 odical income and should be deducted at the source.^^ 
 
 RACE Track Winnings. Winnings of horses at a race track 
 credited by the racing association to a nonresident alien owner 
 and trainer of the horses winning such amounts are not fixed 
 
 34 0. D. 689, T. B. 42-20-1249. 
 
 35 Letter from treasury department dated April 22, 1919 ; I. T. S. 1921, 
 % 1755 ; see telegram from treasury department dated May 23, 1919 ; I. T 
 S. 1921, H 1763. 
 
972 , FEDERAL INCOME TAX 
 
 or determinable annual or periodical income and no withholding 
 by the racing association is necessary.'"' 
 
 Rent. Rent is fixed or determinable and annual or periodical 
 income subject to withholding, and this is true whether payment 
 is made in cash or in notes.^'^ Where permanent improvements 
 are made by a tenant under the terms of a lease the value thereof 
 is considered income to be accounted for by the landlord, but 
 the amount is not fixed or determinable income.-^s Rent paid by 
 domestic business enterprises to nonresident aliens for property 
 located in a foreign country is not subject to tax as income from 
 sources within the United States and is, therefore, not subject 
 to collection at the source.^s 
 
 Royalties. Where royalties or rentals accrue under the terms 
 of a lease or agrement, as for instance, royalties for the right 
 to mine or remove minerals or other natural deposits, the royal- 
 ties or rentals are not fixed or determinable and annual or 
 periodical income if they represent a partial return of capital 
 originally invested in the lands by the lessor.*" 
 
 Promissory Notes. When a note is given in payment of fixed 
 or determinable and annual or periodical income the duty of 
 withholding the tax is imposed upon the maker of the note.*^ 
 
 Exempt Income. Although exempt income may be fixed or 
 determinable and annual or periodical, no withholding is re- 
 quired upon the payment thereof .^^ Thus, an annuity paid by a 
 domestic corporation to a nonresident alien individual is not 
 subject to withholding except to the extent that the aggregate 
 amount of the payments to the annuitant exceeds the amount 
 paid to purchase the annuity.*^ 
 
 Bond Interest. The rate of tax to be withheld and the duty of 
 withholding upon the payment of bond interest to nonresident 
 aliens, partnerships composed in whole or in part of nonresident 
 alien individuals, and nonresident foreign corporations depends 
 upon whether the bonds upon which the interest is paid contain 
 or do not contain a covenant to pay the tax, and upon whether 
 
 36 S. 975, T. B. 2-19-157. 
 
 37 T. D. 2090. 
 
 38 T. D. 2442. See Chapter 18 as to when such Income is to be reported 
 by the landlord. 
 
 39 Reg. 45, Art. 92; Reg. 33 Rev., Art. 32. 
 
 40 Letter from treasury department dated March 10, 1916; I. T. S. 
 1919, 11571; T. B. R. 29, T. B. 7-19-303. 
 
 « Reg. 33, Art. 68. 
 
 42 T. D. 1890; O. D. 628, T. B. 33-20-1129. 
 
 43 O. D. 1086, T. B. 44-21-1898. 
 
COLLECTION OF THE TAX AT THE SOURCE 973 
 
 the owner of the bonds in question is known. The rates of tax 
 and the rules respecting the withholding of interest paid upon 
 both classes of bonds are given in the following paragraphs. 
 
 Interest Upon Bonds Not Containing Tax-Free Covenant. 
 Interest paid in 1918 and thereafter upon bonds not containing a 
 tax-free covenant is subject to withholding at the rate of 8% in 
 the case of nonresident aliens , or partnerships composed in 
 whole or in part of nonresident alien individuals and 10 % in the 
 case of nonresident foreign corporations except that for the 
 calendar year 1922 and subsequent years the rate is Viy^% in 
 the case of such corporations. No tax was required to be with- 
 held, under the 1918 Law, from such interest when the bonds 
 in question were owned by nonresident foreign partnerships.** 
 The tax should be withheld from such interest payments at the 
 rates in force for the year in which payment is actually made, 
 notwithstanding the interest represents income for the year in 
 which the coupons become due and payable. This is true even 
 though interest coupons which have matured but which have not 
 been cashed represent gross income for the year of maturity 
 because the Revenue Act of 1918 provided that the withholding 
 agent must withhold at the rates prescribed by that law in the 
 case of every payment made after February 24, 1919, and the 
 tax was required to be withheld from the whole payment, not 
 merely that part which applied to the period after February 24, 
 1919. In case an amount of tax is withheld beyond the tax 
 liability of the taxpayer the excess will be refunded upon appli- 
 cation.*5 No tax is required to be withheld from payments of 
 interest upon bonds due prior to March 1, 1913, but paid sub- 
 
 4* Letter from treasury department dated April 18, 1919; I. T. S. 1919, 
 11 3318. 
 
 45 Letter from treasury department dated . September 23, 1919; I. T. S. 
 1921, T[ 1778, modifying letter from treasury department dated September 
 5, 1919; I. T. S. 1919, T[ 3551; O. D. 167, T. B. 6-19-277. See also telegram 
 from treasury department dated June 9, 1919; I. T. S. 1919, 113431; tele- 
 gram from treasury department dated September 8, 1919; I. T. S. 1921, 
 iy 1777. Owing to the German occupation of Belgium during the war and 
 to the general unsettled conditions in different parts of Europe, it was 
 impossible for foreign owners of American securities to deposit coupons 
 for collection when they became due during the years 1915, 1916, 1917 and 
 1918. Such coupons were presented for collection in large quantities in 
 the year 1919. In such cases the amount of the coupons should have been 
 entered as income on the returns of the various recipients for the years in 
 which coupons matured, but the withholding agent was required to withhold 
 the tax from these coupons at the rate in force at the time of payment. 
 (Letter from treasury department dated September 23, 1919; I. T. S. 
 1921, 111778.) 
 
974 FEDERAL INCOME TAX 
 
 sequently to that date.*" Bonds not containing a tax-free cove- 
 nant are not permitted to be considered tax-free bonds at the 
 option of the issuing corporations, and the issuing corporations 
 are prohibited from paying the tax on interest derived from 
 such bonds, w^hen they are owned by citizens or residents of the 
 United States.*^ 
 
 In a case in which a company was trustee for the debenture 
 holders of a banking corporation under an agreement whereby 
 the trustee was to hold the collateral deposited to secure pay- 
 ment of the principal of the bonds and interest, the bonds did 
 not contain a tajj-free covenant clause. Since the insolvency of 
 the banking co]T)oration in 1914 the trustee was engaged in 
 liquidating the collateral and applying the proceeds in payment 
 of the debentures. The principal of the collateral having proved 
 insufficient to cover the principal of the debentures, a part of the 
 interest collected on the collateral was applied in payment of the 
 debenture principal and the question was presented whether, 
 with respect to payments to nonresident alien bondholders, the 
 tax should be withheld and paid on the collateral interest ac- 
 cepted in part satisfaction of the debt, and whether the trustee 
 should withhold and pay a tax of 8% on the amounts paid during 
 1920 as arrears of interest. It was held that no tax was due on 
 the interest from the collateral security applied in satisfaction 
 of the debenture principal, but the trustee was required to 
 withhold and pay a tax of 8% on the amounts paid in 1920 to 
 nonresident aliens on account of arrears of interest.*^ 
 
 Interest Upon Bonds Containing a Tax-Free Covenant. 
 In any case where bonds, mortgages, deeds of trust, or other 
 similar obligations of a corporation ^^ contain a covenant, con- 
 tract, or provision by which the obligor agrees to pay any por- 
 tion of the income tax imposed upon the obligee, or to reimburse 
 the obligee for any portipn of the tax, or to pay the interest 
 
 *6 Telegram from treasury department dated August 26, 1919 ; I. T. S. 
 1919, 113547. 
 
 47 Telegram from treasury department dated June 2, 1919 ; I. T. S. 
 1921, II 1779. 
 
 48 O. D. 624, T. B. 32-20-1120. 
 
 49 These provisions are not applicable to bonds containing a tax-free 
 covenant clause issued by a partnership. No tax is required to be with- 
 held from the interest on bonds issued by an obligor other than a corporation 
 unless the interest is paid to nonresident alien individuals, partnerships 
 composed in whole or in part of nonresident alien individuals or non- 
 resident foreign corporations, in which case the normal tax of 8% or a 
 tax of 10% or 12i%, is required to be withheld. (0. D. 713, T. B. 44-20- 
 1278.) 
 
COLLECTION OF THE TAX AT THE SOURCE 975 
 
 without deduction for any tax which the obligoi; may be required 
 or permitted to pay thereon or to retain therefrom under any 
 law of the United States, the corporation or its withholding 
 agent is required to deduct and withhold a tax equal to 2% 
 of the interest if paid to (a) an individual whether citizen or 
 resident or nonresident alien, (b) a partnership, whether domes- 
 tic or foreign, resident or nonresident, and (c) a nonresident 
 foreign corporation. s" In all such cases the tax to be withheld 
 is at the rate of 2 % of the interest paid regardless of the status 
 of the payee. Although the law requires the deduction of the 
 tax at higher rates in the case of payments of other income to 
 nonresident aliens, partnerships with nonresident alien members 
 and nonresident foreign corporations, only 2% is withheld and 
 the recipient of the interest is required to account in his personal 
 return for the remainder of the tax that may be due thereon. 
 The corporation is relieved from withholding in the case of 
 interest payments on such bonds only when the citizen or resi- 
 dent entitled to receive such interest files with the withholding 
 agent on or before February 1, of the year following that in 
 which the interest is received, a signed notice in writing claim- 
 ing the benefit of the personal exemption or credit for depend- 
 ents specified in the law, or both. In the case of nonresident 
 aliens withholding, under the 1918 Law, was required regard- 
 less of whether or not the nonresident alien might in his personal 
 return be allowed to claim the personal exemption.^i The prac- 
 tical effect of these provisions of the law is that where a cor- 
 poration has issued bonds containing a covenant to pay the tax, 
 it will be required to go through the motions of withholding 2 % 
 on all payments to bondholders other than domestic corporations 
 and resident foreign corporations, unless in the case of citizens 
 or residents a certificate is filed claiming exemption from the 
 tax on such income. No tax will actually be withheld, since the 
 interest will be paid in full under the terms of the covenant, and 
 the corporation will pay a tax equivalent to the amount theo- 
 retically withheld. The recipient of the interest will report in 
 his return of income the full amount of the interest received but 
 he will deduct from the amount of tax otherwise payable thereon 
 a sum equal to 2% of the total amount of such interest. The 
 
 50 Revenue Act of 1921, §§221 and 237; Revenue Act of lfll8, §§221 
 and 237. This provision is inserted in the laW for the purpose of shifting 
 the burden of the tax from the bondholder to the debtor corporation, a bur- 
 den the corporation would generally not be required to assume were it 
 not for the withholding provision. 
 
 51 Revenue Act of 1918, § 221; Reg. 45, Art. 362. 
 
976 FEDERAL INCOME TAX 
 
 rulings under the 1918 Law also required that he add to his 
 income the amount of the tax so pajd for him on the theory that 
 it is additional interest.^^ but the Revenue Act of 1921 specifical- 
 ly provides that it shall not be so included.^s if a citizen or resi- 
 dent is not subject to the income tax by reason of the personal 
 exemption to which he is entitled, he should file with the debtor 
 corporation on or before February 1, of the year following that 
 in which the interest was paid, a certificate claiming exemption, 
 as otherwise he will subject the paying corporation to the ex- 
 pense of 2% of the amount of the interest paid him, although 
 no tax is due thereon. 
 
 Where a domestic corporation issues tax-free bonds which 
 contain an agreement to pay to the bearer at maturity of the 
 coupons the sum of 5 pounds sterling at the London office of a 
 domestic bank, or $24.34 in gold coin of the United States at a 
 bank in the foreign country in which the debtor corporation is 
 engaged in business, and a citizen of Great Britain elects to 
 accept payment in pounds sterling and receives the equivalent of 
 $19.75 according to the rate of exchange upon the date he 
 receives payment in London, it has been ruled that the debtor 
 corporation is required to withhold the normal tax of 2% on 
 the amount of $19.75, if that amount is the equivalent of 5 
 pounds when actually received by the nonresident alien indi- 
 vidual.5* 
 
 Car-Trust Certificates. Car-trust certificates are held to be 
 obligations similar to corporate bonds and mortgages. The trus- 
 tees are, therefore, required to withhold the tax at the rate of 
 2% if the certificates contain a covenant, contract, or provision 
 by which the obligor agrees to pay any portion of the income 
 tax imposed upon the obligee, or to reimburse the obligee for 
 any portion of the tax, or to pay the interest A/dthout deduction 
 for any tax which the obligor may be required or permitted to 
 pay thereon or to retain therefrom under any law of the United 
 States.55 
 
 Unknown Owners. Withholding in all cases at the highest 
 applicable rate is required from interest on bonds or other 
 securities where the owner of such securities is unknown to the 
 withholding agent.^^ The "highest applicable rate" is (a) 2% 
 
 52 Reg. 45, Art. 31. 
 
 53 Revenue Act of 1921, § 234 (a) 3. 
 
 54 O. D. 700, T. B. 43-20-1262. 
 
 55 Reg. 33 Rev., Art. 188. 
 3«Reg. 45, Art. 361, 
 
COLLECTION OF THE TAX AT THE SOURCE 977 
 
 in the case of interest upon bonds or other obligations of domes- 
 tic or resident foreign corporations containing a tax-free cove- 
 nant clause, (b) 8% in the case of fixed or determinable annual 
 or periodical income (other than dividends allowed as a credit 
 and interest on corporate bonds containing a tax-free covenant) 
 payable to an unknown owner.^''' 
 
 Scrip. Scrip issued by a corporation to bondholders in pay- 
 ment of interest upon its bonds is equivalent to cash and is 
 subject to withholding. When a corporation which defaulted 
 in the payment of bond interest is reorganized and the new 
 corporation issues scrip in exchange for the coupons represent- 
 ing the defaulted interest, ownership certificates are required 
 to be filed by the owners covering the face value of the coupons 
 exchanged, the form of certificate depending upon whether or 
 not the bonds are tax-free and whether or not the owner claims 
 exemption from having tax paid at the source. The withholding 
 requirements of the law are not applicable to the interest paid 
 by the terms of the scrip on the defaulted bond interest, unless 
 the scrip is held by nonresident aliens.^^ Where as a result of 
 the reorganization of a domestic corporation in 1919, bonds and 
 stocks were issued to holders of securities of that corporation, 
 certain of the holders, due to limited participation, receiving 
 scrip certificates, which, when presented with others aggregat- 
 ing a certain amount entitled the holder to a bond of a stated 
 value, together with interest thereon from June, 1919, bonds 
 equal to the aggregate of scrip issued being certified by the trus- 
 tee under the mortgage and issued to tlie treasurer of the corpo- 
 ration in trust for the holders of the scrip and the interest cou- 
 pons of these bonds, which do not contain a tax-free covenant 
 clause, being presented from time to time by the treasurer for 
 payment, accompanied by ownership certificates. Form 1001, 
 revised, he holding the interest so collected in trust to be paid 
 over to the scrip holders ; no interest being paid to scrip holders 
 except when in accordance with the above plan they present 
 scrip and receive in exchange a bond together with accrued 
 interest thereon, it has been held that the scrip holders can not 
 
 57 Letter from treasury department dated June 2, 1919 ; I. T. S. 1919, 
 T[3383; letter from treasury department dated April 18,' 1919; L T. S. 
 1919, 113318; O. D. 517, T. B. 21-20-956. This ruling seemed to ignore the 
 fact that 10% should have been withheld if the owner is a foreign cor- 
 poration, which rate might well be taken to be the "highest applicable 
 rate" as to all income subject to withholding, except interest on tax-free 
 povenant bonds. 
 
 .58 0. D. 279, T. B. 30-19-512; Q, D. 562, T. B. 26-20-1032. 
 
978 FEDERAL INCOME TAX 
 
 be considered owners of the bonds until the bonds are actually 
 delivered in exchange for the scrip. The accrued interest due 
 the scrip holders is, in effect, interest on the scrip and not in- 
 terest on the bonds ; consequently, no ownership certificates are 
 required to be filed by the scrip holders when receiving the ac- 
 crued interest upon exchanging their scrip for bonds. When 
 bonds are exchanged for scrip held by nonresident alien individ- 
 uals, partnerships with nonresident alien members or nonresi- 
 dent alien corporations, the normal tax of 8% or 10% or 121/2% 
 should be withheld from the accrued interest and returned in 
 the manner prescribed by law.^^ 
 
 Against Whom the Tax Is Withheld. Although the foregoing 
 paragraphs indicate the classes of taxpayers against whom a tax 
 is withheld the law will be restated under this heading for the 
 sake of convenient reference. 
 
 Citizens and Residents. No tax is withheld on payments 
 to citizens and residents except in cases where interest is paid 
 upon any bonds, mortgages, deeds of trust, or similar obliga- 
 tions of corporations containing covenants to pay the tax, in 
 which case the tax is required to be withheld at the rate of 2 % . 
 
 Citizens of United States Possessions. The income of a 
 citizen of a possession of the United States, who is not otherwise 
 a citizen or a resident of the United States, from sources within 
 the United States, is subject to withholding.^" 
 
 Nonresident Aliens. In the case of payments of interest 
 upon bonds of corporations containing covenants to pay the tax, 
 the tax is withheld at the rate of 2%. In all other cases where 
 payment is made of fixed or determinable annual or periodical 
 income the tax is withheld at the rate of 8%. A withholding 
 agent is not relieved from obligation to pay to the federal gov- 
 ernment the amount of tax correctly withheld from the income of 
 a nonresident alien by reason of the fact that the nonresident 
 alien has filed a return showing no tax liability .^^ A domestic 
 corporation is not relieved from withholding on royalties paid 
 to a nonresident alien by reason of the fact that the alien has 
 appointed a domestic banker to act as his agent for the purpose 
 of paying his taxes in the United States. "^ 
 
 Fiduciaries. The tax is withheld on payments of bond inter- 
 est to fiduciaries who are citizens or residents of the United 
 States and who have an office or place of business therein in the 
 
 59 O. D. 680, T. B. 41-20-1233. 
 
 60 Reg. 45, Art. 1121. 
 
 «l O. D. 985, T. B. 31-21-1756. 
 62 0. D. 1087, T. B. 44-21-1899. 
 
COLLECTION OF THE TAX AT THE SOURCE 979 
 
 same manner and to the same extent as in the case of citizens 
 and residents, whether the fiduciary is an individual or corpora- 
 tion. The tax is withheld on payments to foreign fiduciaries in 
 the same manner and to the same extent as in the case of non- 
 resident aliens whether the fiduciary is an individual or a cor- 
 poration. Fiduciaries are subject to all the provisions of the law 
 which apply to individuals.^'' Bond interest paid to a nonresident 
 alien fiduciary is subject to withholding even though the bene- 
 ficiaries of the income are citizens or residents of the United 
 States.^* 
 
 Partnerships. On payments to partnerships, whether do- 
 mestic or foreign, resident or nonresident, of interest upon bonds 
 of corporations containing covenants to pay the tax, the tax is 
 withheld at the rate of 2%. Under the 1918 Law, no tax was 
 withheld on payment of any other form of income,^^ but under 
 the present law withholding is required against partnerships 
 composed in whole or in part of nonresident alien individuals to 
 the same extent as against nonresident alien individuals.^^ Pend- 
 ing the issuance of regulations on this subject income subject to 
 withholding should be withheld when paid to any partnership."'' 
 
 Personal Service Corporations. Personal service corpora- 
 tions, after receiving notice from the Commissioner that their 
 returns as personal service corporations have been approved, but 
 not before, may for purposes of withholding proceed as partner- 
 ships in claiming exemptions and in obtaining the benefit of 
 having the tax paid for them under tax-free covenants.^^ 
 
 Corporations. No tax is withheld in any case on payment of 
 income to domestic corporations or to resident foreign corpora- 
 tions. In the case of nonresident foreign corporations the tax is 
 withheld at the rate of 2% on all payments of interest upon 
 bonds of corporations containing covenants to pay the tax ; and 
 at the rate of 10% on all other fixed or determinable annual or 
 periodical income regardless of the fact that the corporation has 
 filed or intends to file a return covering its income from all 
 
 63 Revenue Act of 1921, §§ 225 and 221; Revenue Act of 1918, §§ 225 and 
 221; Reg. 45, Art. 374; 0. D. 1085, T. B. 44-21-1897. 
 
 64 0. D. 670, T. B. 39-20-1212. 
 
 65 Revenue Act of 1918, § 221 ; Reg. 45, Art. 361. 
 
 66 Revenue Act of 1921, § 221. 
 
 67 Telegram from treasury department dated December 2, 1921; I. T. S. 
 1921, If 3254. It would seem, however, that withholding against partner- 
 ships is unnecessary if the payor satisfies himself that the partnership 
 has no nonresident alien members. 
 
 68 Letter from treasury department dated November 20, 1919; I. T. S. 
 1921, H 1848. 
 
980 FEDERAL INCOME TAX 
 
 sources, within the United States.''** For the calendar year 1922 
 and subsequent years the rate is 121/2 9'- For the purpose of 
 withholding, a Porto Rican corporation is a foreign corpora- 
 tion.TO 
 
 Agents. The fact that an individual, partnership or cor- 
 poration may have an agent within this country to collect and 
 receive income, does not operate to prevent withholding of the 
 tax on payments of income to such agent in cases where pay- 
 ments direct to the principal would be subject to withholding. 
 The appointment of an agent in this country does not, in itself, 
 establish the residence of the principal in this country, for the 
 purpose of the income tax, nor does such appointment exempt 
 a nonresident foreign corporation from the withholding pro- 
 visions unless, in addition to the appointment of the agent, the 
 corporation is engaged in business in this country or has an office 
 or place of business herein. The appointment of an agent in 
 this country will exempt a nonresident foreign corporation from 
 the withholding provisions of the statute provided the agent 
 furnishes the person otherwise obliged to withhold with a cer- 
 tificate stating that the foreign corporation has an office or place 
 of business in the United States and that he will make all neces- 
 sary returns and pay all taxes shown to be due.''^ Agents of 
 nonresident aliens, foreign partnerships or foreign corporations 
 subject to the withholding provision should proceed, in collecting 
 income from their principals, in the same manner as the princi- 
 pals would proceed in acting for themselves. 
 
 Who Are Required to Withhold Tax. Under the 1921 Law and 
 the 1918 Law it is required that all individuals, corporations and 
 partnerships, in whatever capacity acting, including lessees or 
 mortgagors of real or personal property, fiduciaries, employers, 
 and all officers and employees of the United States, having the 
 control, receipt, custody, disposal, or payment, of interest, rent, 
 salaries, wages, premiums, annuities, compensations, remunera- 
 tions, emoluments, or other fixed or determinable annual or 
 periodical gains, profits, and income shall withhold the tax, 
 when withholding is required by reason of the status of the 
 recipient of the income.'^^ n has been held that a foreign cor- 
 es Revenue Act of 1921, §§221 and 237; Revenue Act of 1918, §§221 and 
 237; Reg. 45, Art. 361; 0. D. 910, T. B. 19-21-1627; O. D. 858, T. B. 12- 
 21-1523. 
 
 TO Revenue Act of 1921, § 237; Reg. 45, Art. 1133. 
 710. D. 358, T. B. 1-20-661. 
 
 72 Revenue Act of 1921, §§221 and 237; Revenue Act of 1918, §§221 
 and 237. 
 
COLLECTION OF THE TAX AT THE SOURCE 981 
 
 poration having a fiscal agency in this country is required to 
 withhold a tax of 2% upon the interest upon its tax-free cove- 
 nant bonds.'^^ 
 
 Duty of Employer to Determine Status of Alien Em- 
 ployees. Employers are responsible for the deduction of the 
 tax at the source on payments of salary or compensation to non- 
 resident alien employees.'^* Aliens employed in the United 
 States are 'prima facie regarded as nonresidents for the purpose 
 of vsrithholding.'''5 If wages are paid without withholding the 
 tax, the employer should be provided with written proof of facts 
 which overcome the presumption that the alien is a nonresi- 
 dent.™ Such presumption may be overcome as outlined in an- 
 other chapter.'?'^ The employer may rely upon the evidence of 
 residence afforded by the fact that the alien has filed Form 1078 
 (revised) or an equivalent certificate establishing residence.''^ 
 A record of such forms of certificates should be kept by every 
 employer and the certificates forwarded to the Commissioner 
 (Sorting Division, Washington, D. C.) not later than the twen- 
 tieth day of the month succeeding that during which they were 
 
 T3 Reg. 45, Art. 361 ; letters from treasury department dated July 9, 
 1918; (L T. S. 1918, T|3612) and July 18, 1918; (I. T. S. 1918, T[3613); 
 O. D. 561, T. B. 26-20-1030. 
 
 74 Letter from treasury department dated May 21, 1919; I. T. S. 1919, 
 113394. This was first required in September, 1915. (See T. D. 2242.) 
 Withholding after February 25, 1919, should be at the rate of 8 per cent. 
 Although nonresident aliens were subject to a normal tax of 12 per cent 
 for 1918, only 2 per cent was required to be withheld during that year, 
 the balance due to be accounted for in the individual income tax returns. 
 
 75 Reg. 45, Art. 313, as amended by T. D. 3155, T. B. 17-21-1599. 
 
 76 Reg. 45, Art. 315, as amended by T. D. 3155, T. B. 17-21-1599. See 
 Reg. 45, Art. 316, however. 
 
 77 See Chapter 3. 
 
 78 Reg. 45, Art. 315, as amended by T. D. 3155, T. B. 17-21-1599. If an 
 officer, qualified to administer oaths, is not reasonably accessible. Form 1078 
 (Revised), will be accepted if signed in the presence of an official of the 
 employer company under whose supervision the employee's duties are 
 performed, and one other credible witness. (Letter from treasury depart- 
 ment dated September 20, 1919; I. T. S. 1919, 113612.) Having secured 
 such evidence from the alien, the employer may rely thereon unless the 
 statement of the alien was false and the employer has reasonable cause 
 to believe it false, and may continue to rely thereon until the alien ceases 
 to be a resident. It is not necessary to secure new certificates for each 
 taxable year. (Letter from treasury department dated July 9, 1919; I. T. 
 S. 1921, 11 525. An alien who has established a residence in the United States 
 continues to be a resident until he or his family evidence an intention to 
 change their residence to another country by starting to remove.) (Reg. 
 45, Art. 314, as amended by T. D. 3155, T. B. 17-21-1599; T. D. 2794.) 
 
982 FEDERAL INCOME TAX 
 
 received.™ An employer who seeks to account for failure to 
 withhold the required tax and who did not at the time secure 
 Form 1078 (revised) or its equivalent, is permitted to prove the 
 former status of the alien by any material evidence-^" The burden 
 of proof in such cases is on the employer and such proof must 
 be in writing. Hence the name and address of employees should 
 be secured, regardless of the fact that for the convenience of the 
 employer the individual is known by number.^i In the case of 
 alien seamen, the regulations provide that residence may be 
 established on a vessel regularly engaged in coastwise trade.^^ 
 This provision, however, merely places alien seamen employed 
 on a vessel regularly engaged in coastwise trade on the same 
 footing with an alien employed within the United States for pur- 
 poses of proving residence within the United States. The em- 
 ployer should, therefore, be governed by the above requirements 
 with respect to the necessity for filing Form 1078 (revised).^ 
 
 Employees of Mining Contractors — "Back Hands." It is 
 customary in a great many mining districts to let out a certain 
 portion of a mine to some miner who is usually termed a con- 
 tractor, who employs additional labor for the production of coal 
 for the section of the mine assigned to him. These men, usually 
 termed "back hands," sometimes do not appear upon the pay-roll 
 and are very frequently not officially known to an operator or 
 employer. The operator frequently does not know the amount 
 of earnings of the "back hand" or laborer employed by the 
 contractor and the latter usually keeps no books of account. In 
 such cases the duty of withholding the tax at the source is that 
 of the contractor and not of the corporation.^* 
 
 Change of Status of Employee. Where the status of an 
 alien changes during the year from that of resident to that of 
 nonresident, or from that of a nonresident to that of resident, 
 the status which exists at the end of the taxable year is the one 
 which determines his right to exemption as to the whole year. 
 Where an employer has withheld wages from a nonresident alien 
 
 79 Letter from treasury department dated May 21, 1919; I. T. S. 1921, 
 H 527 ; Letter from treasury department dated July 9, 1919 ; I. T. S. 1919, 
 113492; O. D. 143, T. B. 4-19-224. 
 
 80 Reg. 45, Art. 1315, as amended by T. D. 3155, T. B. 17-21-1599. 
 
 81 Reg. 45, Art. 315; T. D. 2794; Letter from treasury department dated 
 May 26, 1919; I. T. S. 1921, 111740; 0. D. 175, T. B. 7-19-298. 
 
 82 Reg. 45, Art. 312. 
 
 83 Letter from treasury department dated September 20, 1919; I. T. S. 
 1921, nil 520, 1694. 
 
 84 Letter from treasury department dated May 26, 1919; I. T. S. 1921, 
 If 1740; 0. D. 175, T. B. 7-19-298. 
 
COLLECTION OF THE TAX AT THE SOURCE 983 
 
 during part of the year and thereafter the employee becomes 
 a resident (before the employer has paid over to the United 
 States the amount of tax withheld) , the employer is authorized 
 on receiving proof of the change, to refund to the employee the 
 amounts which had been withheld from him during the earlier 
 part of the taxable year, while his status was that of a ndn- 
 resident. As a condition precedent to a refund an employer 
 should require the employee to return the receipts shdwing the 
 amount of tax previously withheld before making the refund.*^ 
 If the status of a resident employee changes to that of a non- 
 resident alien, the employer should withhold the tax at the rate 
 of 8 % from all wages or compensation paid to such employee on 
 and after the date on which the employer has knowledge of the 
 change. Although an employee in such case will be taxable as 
 a nonresident alien for the entire taxable year during which his 
 status is changed from that of a resident to that of a non- 
 resident alien, the employer will not be held liable for the de- 
 duction of the tax with respect to wages paid prior to the 
 knowledge of the employer as to the change in status.^^ 
 
 Duties of Assignees. Where in connection with the sale of 
 its property, payment of the bonds or other obligations of a 
 corporation is assumed by the assignee, such assignee, whether 
 an individual, partnership, corporation, or a state or political 
 subdivision thereof, must deduct and withhold such taxes as 
 would have been required to be withheld by the assignor had 
 no such sale and transfer been made.^'^ 
 
 Exemption From Withholding. Withholding from interest on 
 bonds or other obligations containing a tax-free covenant will 
 not be required in the case of a citizen or resident alien individ- 
 ual if he files with the withholding agent when presenting inter- 
 est coupons for payment, or not later than February first fol- 
 lowing the taxable year, an ownership certificate on Form 1001 
 (revised) claiming a personal exemption or credit for depend- 
 ents. To avoid inconvenience a resident alien individual should 
 file a certificate of residence on Form 1078 (revised) with with- 
 holding agents, who should forward such certificates to the Com- 
 missioner t Sorting Division) with a letter of transmittal.^s The 
 
 85 0. D. 302, T. B. 24-19-569. 
 
 86 Letter from treasury department dated August 6, 1919; I. T. S. 
 1921, 1[ 1751 ; letter from treasury department dated June 12, 1919 ; I. T. 
 S. 1921, 111749; 6. D. 128, T. B. 3-19-196; 0. D. 302, T. B. 24-19-569; 0. 
 D. 254, T. B. 15-19-447. 
 
 87 Reg. 45, Art. 364. 
 
 88 Reg. 45, Art. 363. 
 
984 FEDERAL INCOME TAX 
 
 extent to which nonresident aliens may secure exemption from 
 withholding as against any income from sources within the 
 United States up to the amount of any personal exemption and 
 credit for dependents which may be allowed to them under the 
 similar credit provision of the statute is discussed elsewhere.^" 
 Tax erroneously withheld from the wages of a nonresident 
 alien seaman who can not now be located for the purpose of 
 making refund should be reported on the annual list return, 
 Form 1042, and paid to the government, and when the seaman 
 is located he should be advised of his right to file claim for 
 refund.^o 
 
 Ownership Certificates. The owners of bonds or other obli- 
 gations, whether or not containing a tax-free covenant, issued by 
 domestic or resident foreign corporations, when presenting in- 
 terest coupons for payment, are required to file a certificate of 
 ownership for each issue of bonds, showing the name and ad- 
 dress of the debtor corporation, the name and address of the 
 owner of the bonds, the nature of the obligations, the amount 
 of interest and its due date, and the amount of any tax withheld. 
 No ownership certificates need be filed in the case of interest 
 payments on bonds the income from which is not included in 
 gross income, nor in the case of any obligation of the United 
 States.''^ All the information called for by ownership certifi- 
 cates is necessary for the efficient administration of the Rev- 
 enue Act. Debtor corporations will be held responsible for the 
 proper execution of certificates, but not as to misstatements by 
 bond owners. Ownership certificates should not be accepted and 
 payments should be refused unless all information called for 
 thereon is shown.^^ Ownership certificates executed by the owner 
 must indicate whether or not he is married or the head of a 
 family .93 g^^ interrogatories as to the marital status on owner- 
 ship certificates need not be answered when certificates are ex- 
 empted by nonresident alien individuals.^* But if he states that he 
 
 89 See Chapter 31. 
 
 90 0. D. 258, T. B. 16-19-463. 
 
 91 Reg. 45, Art. 364. Bonds of the war finance corporation are held not 
 to be government bonds. (O. D. 284, T. B. 21-19-527.) Debentures may 
 be the equivalent of bonds so that ownership certificates are necessary in 
 connection vidth payments thereon (0. D. 1060, T. B. 41-21-1861). 
 
 92 M. 2725, T. B. 11-21-1514. Telegram from treasury department dated 
 April 7, 1919 ; I. T. S. 1921, H 1814 ; telegram from treasury department 
 dated February 28, 1918; I. T. S. 1918, 113146; O. D. 615, T. B. 31-20-1104. 
 
 93 Letter from treasury department dated March 26, 1918; L T. S. 
 1921, U 1824. 
 
 94 Telegram from treasury department dated May 23, 1918; I. T. S. 
 1918, 113880. 
 
COLLECTION OF THE TAX AT THE SOURCE 985 
 
 is married it is not also necessary that he state that he is head 
 of a family."*' The address may be omitted from owners*hip 
 certificates in the case of prominent corporations and in its place 
 a description of the bond issue may be inserted.^^ Separate 
 ownership certificates will be required for each interest coupon 
 of different maturity date even though of the same issue.^^ 
 The official position of the person authorized to sign owner- 
 ship certificates in behalf of a corporation and the identity of the 
 person signing in behalf of a partnership is required to be dis- 
 closed on the certificates. 'J" Pending a decision by the United 
 States Supreme Court on the taxability of interest on joint-stock 
 land bank bonds, no ownership certificates are required in col- 
 lecting interest on such bonds.i^o in the case of interest pay- 
 ments on overdue bonds, the interest coupons of which have 
 been exhausted, ownership certificates are required to be filed 
 when collecting the interest in the same manner as if interest 
 coupons were presented for collection.^"! 
 
 Where Conditions Change Between Interest Dates. 
 Where an interest coupon is presented for payment of interest 
 upon a bond which has been sold between interest dates, the 
 coupon should be accompanied by the ownership certificate of 
 the purchaser only, and the certificate should cover the full 
 amount of the coupon. The purchaser may, if he does not claim 
 exemption from having the tax paid at the source, take credit 
 in his return for the tax paid at the source on the entire amount 
 of interest represented by the coupon. The discrepancy between 
 the amount of bond interest reported in the purchaser's return 
 in such cases, and the amount of interest shown by his owner- 
 ship certificates to have been collected by him should be ex- 
 plained by a statement attached to and made a part of the 
 return, showing the total amount of interest collected and the 
 
 96 Letter from treasury department dated March 30, 1918; I. T. S. 1919, 
 1[671. 
 
 97 Telegram from treasury department dated February 11, 1918; I. T. 
 S. 1921, T[ 1817. 
 
 98 Telegram from treasury department dated June 24, 1919 ; I. T. S. 
 1921, T[1822. 
 
 99 Telegram from treasury department dated June 16, 1921 ; I. T. S. 
 1921, 113065. 
 
 100 O. D. 758, T. B. 52-20-1363. 
 
 101 0. D. 392. T. B. 5-20-719. 
 
986 FEDERAL INCOME TAX 
 
 amount of interest accrued on the bond to the date of purchase."^ 
 Certain bonds contain the privilege of being converted into the 
 stock of the corporation which issued the bonds. If the owner 
 of the bonds exercises his privilege of conversion between inter- 
 est dates and is allowed accrued interest, he is required to file 
 an ownership certificate covering such accrued interest when 
 it is paid.i''^ 
 
 Forms of Ownership Certificates. The following is a list 
 of the latest revisions of ownership certificates: 
 
 Form 1000 Revised January, 1921 
 
 1001.. 
 lOOlA 
 1058.. 
 1059.. 
 1087 . . 
 
 January, 1921 
 
 January, 1921 
 
 January, 1921 
 
 January, 1921 
 
 April, 1919 
 
 Form 1071 is now obsolete. Form lOOlA being used in its place. 
 
 Rules for Use of Forms. As a general rule. Form 1000 
 is used when withholding is required and Form 1001 is used 
 when no withholding is required. Forms 1058 and 1059 are 
 substitute certificates to be used as indicated below in the place 
 of the original ownership certificates which are sent to Wash- 
 ington. Form 1058 is used in lieu of original ownership cer- 
 tificate Form 1001, and Form 1059 is used in lieu of original 
 ownership certificate Form 1000. The use of Form 1087 is 
 indicated in Chapter 5. Form lOOlA is used in connection with 
 foreign items, as defined above. The following is a table indicat- 
 ing the particular form of ownership or substitute certificates 
 to be used in particular cases as stated in the text following 
 the table : 
 
 102 O. D. 830, T. B. 9-21-1483; Letter from treasury department dated 
 February 16, 1921; I. T. S. 1921, 1[2724, revoking letters from treasury de- 
 partment dated July 21, 1920, and August 17, 1920; I. T. S. 1921, HH 1880- 
 1893. 
 
 103 0. D. 949, T. B. 24-21-1689. 
 
COLLECTION OP THE TAX AT THE SOURCE 
 
 987 
 
 Table for Use of Ownership and Substitute Certificates.^ 
 
 
 OWNISRSHIP CERTIFICATES 
 
 SUBSTITUTE 
 CERTIFICATES 
 
 CLASSIFIQATION 
 OF 
 
 Bonds of Domestic or 
 
 Resident Foreign 
 
 Corporations 
 
 Foreign 
 Items 2 
 
 With 
 Tax-Free 
 Covenant 
 
 
 OWNBB 
 
 Witll 
 Tax-Free 
 Covenant 
 
 Without 
 Tax-Free 
 Covenant 
 
 Without 
 Tax-Free 
 Covenant 
 
 Citizen or Resident — 
 
 Individual or fiduciary claiming ex- 
 
 10018 
 
 1000 
 
 1000 
 1001 
 
 1000 
 
 1000 
 
 1000 « 
 
 1000 
 
 1001 
 1000 
 
 1001 
 
 1001 
 1001 
 
 1000 
 
 1001 
 
 1000 
 
 1000 
 
 1001 
 1000 
 
 (1000 or 
 1001 A)3 
 (1000 or 
 1001 A)3 
 (1000 or 
 1001 A)3 
 (1000 or 
 1001 A)3 
 1001 A 
 
 1001 A 
 
 1001 A 
 
 (1000 or 
 1001 A)i 
 (1000 or 
 1001 A)» 
 
 1068 
 1059 
 
 1059 
 
 1058 
 
 None 
 Permitted 
 
 None 
 Permitted 
 
 None 
 Permitted 
 
 1058 
 
 Individual or fiduciary not claiming 
 
 1058 
 
 Partnersiiip and Personal Service 
 
 1058 
 
 
 1058 
 
 
 None 
 
 
 Permitted 
 
 Partnership 
 
 None 
 Permitted 
 
 None 
 Permitted 
 
 Banl(s receiving coupons not accompanied 
 by Ownersiiip Certificates — Owner- 
 
 
 
 
 
 
 Foreign Cliaritable or Exempt Corporations 
 
 
 1 See Reg. 45, Arts. 365-7, 1078; letter from treasury department dated 
 May 20, 1919; L T. S. 1919, 113338; telegram from treasury department 
 dated July 7, 1919; I. T. S. 1919, 113474. 0. D. 144, T. B. 4-19-225; 0. D. 
 520, T. B. 21-20-958. 
 
 2 The term "foreign item'', as here used, means any dividend upon the 
 stock of a nonresident foreign corporation or any item of interest upon 
 the bonds of foreign countries or nonresident foreign corporations, 
 whether or not such dividend or interest is paid in the U. S. or by check 
 drawn on a domestic bank. (Reg. 45, Art. 1077.) 
 
 3 1000 is used in this instance if the foreign country or foreign corporation 
 has a fiscal agent in this country and if the bonds contain a tax-free cov- 
 enant clause, unless exemption is claimed. (Reg. 45, Art. 1078; letter from 
 treasury department dated May 20, 1919; I. T. S. 1919, 113338.) 
 
 4 1001 A is used in this instance if the owner is known to be a nonresident 
 alien individual, corporation, or partnership, and in the case of bonds not 
 containing a tax-free covenant and stocks of foreign corporations. 
 
 5 A foreign corporation not engaged in trade or business within the U. 
 S., which has a fiscal agent in the U. S., is not a resident corporation. 
 (Letter from treasury department dated May 20, 1919; I. T. S. 1919, 
 If 3338.) 
 
 6 In the case of registered bonds having a tax-free covenant 1000 is 
 used by the withholding agent if the owner files no certificate. That is, 
 if the owner files no certificate the vnthholding agent must presume that 
 he does not claim exemption from withholding. (Reg. 45, Art. 369.) 
 
 7 Before a corporation can be regarded as a personal service corporation 
 it must have received notice from the Commissioner that its claim to be 
 regarded as a personal service corporation has been approved. (Letter 
 from treasury department dated November 20, 1919; I. T. S. 1921, 
 If 1848.) Personal service corporations are to be treated, so far as prac- 
 ticable, on the same basis as partnerships. Corporations which have re- 
 ceived notice that their returns as personal service corporations have been 
 approved may thereafter, and not before, issue Form 1000 in collecting 
 interest from bonds or other obligations of a corporation containing a so- 
 
988 FEDERAL INCOME TAX 
 
 called tax-free covenant clause in the same manner and to the same ex- 
 tent that partnerships are authorized to use that form. The form should 
 bear the stamped or written notation "approved by the treasury department 
 as personal service corporation on (date)." (0. D. 339, T. B. 29-19-628.) 
 
 8 A foreign corporation, notwithstanding it claims to be exempt, is re- 
 quired to file Form 1000 (revised) in collecting interest on bonds issued 
 by domestic or resident corporations, and the debtor corporation, or its 
 withholding agent, is required to pay the tax due. Such foreign corporation, 
 however, has the privilege of establishing its exemption. When a debtor 
 corporation has assumed the payment of the 2% normal tax on the inter- 
 est derived from its tax-free bonds, owned by an exempt foreign cor- 
 poration, it may file a claim for refund accompanied by the proof of 
 exemption submitted by the foreign corporation. Otherwise, the foreign 
 corporation should file a claim for refund accompanied by the required 
 proof. (O. D. 616, T. B. 31-20-1105.) 
 
 9 Income payable to a foreign government is not subject to tax, but 
 should be reported on line 6 of Form 1001-A, crossing out the word "cor- 
 poration" and substituting "foreign government". With respect to foreign 
 items presented for collection unaccompanied by an ownership certificate, 
 if the item is a coupon detached from a bond containing a tax-free cov- 
 enant clause and the debtor organization has a paying agent in the United 
 States, line 6 of Form 1000 is the proper place for reporting such income. (O 
 D. 520, T. B. 21-20-958.) 
 
 Form of Certificate Where Withholding Required. Form 
 1000 (revised) should be used (a) by citizens or residents of 
 the United States when no personal exemption or credit is 
 claimed against interest on bonds containing a tax-free cove- 
 nant; (b) by nonresident alien individuals and nonresident for- 
 eign corporations, vs^hether or not such bonds contain a tax-free 
 covenant; (c) by partnerships, and personal service corpora- 
 tions, resident or nonresident, in the case of bonds containing 
 a tax-free covenant, and (d) where the owner is unknown to 
 the withholding agent."* When a debtor corporation fails to 
 withhold the 2% tax where its bonds contain a tax-free clause, 
 and the owner has filed Form 1000, there is no obligation on 
 the bank first receiving the coupons to withhold the tax, as 
 assessment will be made against the debtor or its disbursing 
 agent based on the tax liability as disclosed by Form lOOO.^"-'' 
 
 Form of Certificate Where No Withholding Required. 
 Form 1001 (revised) should be used (a) by citizens or resi- 
 dents of the United States when personal exemption is claimed 
 against interest on bonds containing a tax-free covenant and 
 when presenting coupons from bonds not containing a tax-free 
 covenant; (b) by domestic corporations; (c) by partnerships, 
 
 104 Reg. 45, Art. 365. 
 
 105 O. D. 56, T. B. 1-19-76. 
 
COLLECTION OP THE TAX AT THE SOURCE 989 
 
 resident or nonresident, in the case of bonds not containing a 
 tax-free covenant; and (d) by resident foreign corporations, 
 whether or not such bonds contain a tax-free covenant ; and (e) 
 for foreign governments, whether or not the bonds contain a 
 tax-free covenant. In case a citizen or resident alien individual 
 receives interest on bonds containing a tax-free covenant in 
 excess of the amount of personal exemption which the individual 
 may claim, any such excess must be reported on Form 1000 (re- 
 vised) .1"'' That is, he cannot claim exemption from withholding 
 with respect to an amount greater than his personal exemption 
 even though he may want to relieve the paying corporation of 
 the contract duty to assume the burden of the tax on his behalf.- 
 Where a corporation sets aside certain amounts in a sinking 
 fund under the control of a trustee and such fund is invested 
 by the trustee in whole or in part in bonds, the trustee when 
 presenting coupons from the bonds for payment is required to 
 file ownership certificates. Form 1001, revised, whether or not 
 the bonds contain a tax-free covenant clause.^oT 
 
 Use of Substitute Certificates. Resident collecting agents, 
 responsible banks and bankers, receiving interest coupons for 
 collection with ownership certificates attached, may present the 
 coupons with the original certificates to the debtor corporation 
 or its duly authorized withholding agent for collection or may 
 detach and forward the original certificates direct to the Com- 
 missioner, provided each such collecting agent shall substitute 
 for such original certificates its own certificates — Form 1058 
 (revised) or Foim 1059 (revised) — and shall keep a complete 
 record of each transaction, showing (a) serial number of item 
 received; (b) date received; (c) name and address of person 
 from whom received; (d) name of debtor corporation; (e) class 
 of bonds from which coupons were cut (whether containing a 
 tax-free covenant or not) ; and (f ) face amount of coupons. 
 
 The original certificate for which the certificate of the col- 
 lecting agent is substituted should be indorsed, preferably with 
 a rubber stamp, by the collecting agent as follows : 
 
 Owner's certificate No 
 
 (Name of collecting agent.) 
 
 19.... 
 
 (Give date of certificate.) 
 The counterpart of the within certificate bearing like number was attached 
 to the coupons within mentioned for delivery to the debtor or withholding 
 agent, by whom the coupons are payable. 
 
 106 Reg. 45, Art. 366. 
 
 107 Reg. 45, Art. 541 (a) added by T. D. 3056, T. B. 35-20-1173. 
 
990 FEDERAL INCOME TAX 
 
 Where substitute certificates are used, the name of the bank 
 or collecting agent may be printed or stamped and the fac- 
 simile of the signature of the person authorized to sign the 
 substitute certificate for the bank or collecting agent may also 
 be printed or stamped on the certificate. However, in all cases 
 the bank must first file with the Commissioner of Internal 
 Revenue, sorting division, a certificate of its authorization in 
 substantially the following form : 
 
 (City.) (Date.) 
 
 The Commissioner of Internal Revenue, Washington, D. C. 
 
 The undersigned hereby authorizes the use of the facsimile 
 signature shown below upon all substitute income-tax certifi- 
 cates issued in its name until this authorization is revoked by 
 written notice to you. 
 
 (Name of bank or collecting agent.) 
 
 By : 
 
 (Signature of person authorized to sign.) 
 
 (OflScial position.) 
 
 (Facsimile signature of person authorized to sign.) 
 
 As a convenience to banks and trust companies having a 
 large number of ownership certificates to execute in the col- 
 lection of interest on bonds, it has been provided that the name 
 of the bank or trust company may be printed or stamped and 
 the facsimile of the signature of the person authorized to sign 
 for the bank or trust company in executing the said ownership 
 certificates may be printed or stamped on the certificate; pro- 
 vided that in all cases the bank or trust company shall first file 
 with the Commissioner (sorting division) a certificate of 
 authorization in substantially the following form i^o^ 
 
 (City.) (Date.) 
 
 The Commissioner of Internal Revenue, Washington, D. C. : 
 
 108 T. B. "B", p. 28. 
 
COLLECTION OF THE TAX AT THE SOURCE 991 
 
 The undersigned hereby authorizes the use of the facsimile 
 signature shown below upon all income tax ownership certifi- 
 cates issued in its name until authorization is revoked by writ- 
 ten notice to you. 
 
 (Name of bank or trust company.) 
 
 By 
 
 (Sig. of person authorized to sign.) 
 
 (Official position.) 
 
 (Facsimile signature of person 
 authorized to sign.) 
 
 For the purpose of identification the substitute certificates 
 should be numbered consecutively and corresponding numbers 
 given the original certificates of ownership. The use of sub- 
 stitute certificates by collecting agents, banks and bankers is not 
 permitted, in the case of ownership certificates presented with 
 coupons for collection by nonresident alien individuals, partner- 
 ships, or corporations.!"^ Substitute certificates may be used 
 in connection with payments of income made to the alien prop- 
 erty custodian.iio 
 
 Interest Coupons Without Ownership Certificates. 
 Whei'e interest coupons are received unaccompanied by certifi- 
 cates of ownership the first bank should require of the payee an 
 affidavit showing the name and address of the payee, the name 
 and address of the debtor corporation, the date of the maturity 
 of the interest, the name and address of the person from whom 
 the coupons were received, the amount of the interest, and a 
 statement that the owner of the bonds is unknown to the payee. 
 Such affidavit should be forwarded to the collector with the 
 monthly return on Form 1012 (revised) . The first bank re- 
 ceiving such coupons should also prepare a certificate on Form 
 1000 (revised), crossing out "owner" and inserting "payee" 
 and entering the amount of interest on line six and should 
 stamp or write across the face of the certificate "Affidavit fur- 
 nished," adding the name of the bank.^ 
 
 109 Reg. 45, Art. 367, as amended by T. D. 2967, T. B. 6-20-732; T. B. "B," 
 p. 28. 
 
 110 Letter from treasury department dated June 6, 1918; I. T. S. 1919, 
 Tf 1522. 
 
 111 Reg. 45, Art. 368, as amended by T. D. 3018, T. B. 22-20-973. 
 
992 FEDERAL INCOME TAX 
 
 In a case in which a foreign bank placed in the mails to be 
 transmitted to an American firm, a package containing coupons 
 clipped from bonds of a domestic corporation, the ship upon 
 which the package was forwarded was sunk by a submarine and 
 the insurance company which had insured the foreign bank 
 against loss paid to it the face value of such coupons. The 
 insurance company filed an indemnity bond, but settlement of 
 the claim for an amount representing the face value of the cou- 
 pons was deferred by the debtor corporation, pending the re- 
 ceipt by it of an ownership certificate from the insurance com- 
 pany, covering the amount of the claim. It was held that the 
 amount representing the face value of the coupons did not con- 
 stitute income to the insurance company, but was nevertheless 
 income of the bondholders. The insurance company was re- 
 quired to obtain ownership certificates from the owners of the 
 bonds and forward them to the debtor corporation with the 
 claim. If the bondholders were unknown, the insurance com- 
 pany, as payee, was required to furnish a certificate on Form 
 1000 (revised)."- Ownership certificates are required to be 
 filed with respect to interest payments upon first-mortgage par- 
 ticipation bonds issued by a trust company and secured by a 
 real estate mortgage deposited with the trustee. In cases whert 
 coupons of the bonds are not accompanied by ownership certifi- 
 cates, the first bank is required to furnish a certificate. Where 
 no ownership certificates are filed in connection with interest 
 upon such registered bonds, the withholding agent will be re- 
 quired to prepare certificates.^!^ 
 
 Interest on Registered Bonds. Where a bondholder files no 
 ownership certificate in the case of payments of interest on 
 registered bonds the withholding agent should make out such a 
 certificate in each instance (a) on Form 1000 (revised) if the 
 bondholder is a citizen or resident of the United States or a 
 resident or nonresident partnership or a personal service cor- 
 poration and the bonds contain a tax-free covenant, or if the 
 bondholder is a nonresident alien individual or a nonresident 
 foreign corporation, and (b) on Form 1001 (revised) in all 
 
 112 0. D. 633, T. B. 33-20-1136. Since the insurance company paid to 
 the foreign bank the face value of the coupons, without deduction for 
 tax due the United States, the recovery of the excess amount paid was held 
 to be a matter to be adjusted between the insurance company and the 
 bondholders, and between the bondholders and the corporation issuing 
 the bonds. 
 
 113 T. B. "B", p. 31. 
 
COLLECTION OP THE TAX AT THE SOURCE 993 
 
 other cases. When so used Forms 1000 (revised) and 1001 
 (revised) need not be signed.^^* 
 
 Return of Tax Withheld. Every withholding agent is re- 
 quired to make an annual return to the collector of the tax with- 
 held from interest on corporate bonds or other obligations on or 
 before March 1 on Form 1013 (revised) . He is also required to 
 make a monthly return on Form 1012 (revised) on or before the 
 20th day of the month following that for which the return is 
 made. If there is not sufficient space on Form 1012, it should 
 be continued on Form 1012-A. Remittances frequently accom- 
 pany this return. This is improper and should be avoided. 
 The original ownership certificates, or the substitute certifi- 
 cates, where authorized, must be forwarded to the collector 
 with the monthly return. Every person required to deduct and 
 withhold any tax from income other than such bond interest 
 must make an annual return thereof to the collector on or before 
 March 1 on Form 1042 (revised) , accompanied by a separate 
 report on Form 1098 (revised), for each nonresident alien in- 
 dividual, partnership composed in whole or in part of non- 
 resident alien individuals or nonresident foreign corporation to 
 whom income other than bond interest was paid during the 
 previous taxable year. In every case of both classes the tax 
 withheld must be paid on or before June 15 of each year to the 
 collector.115 
 
 Release of Excess Tax Withheld. Any sum withheld for 
 tax in excess of the aggregate amount required under the law 
 will be released by the withholding agent and paid over to the 
 person from whom it was withheld or his proper representative. 
 With reference to how a debtor corporation may release and pay 
 over the amount of tax so withheld in a case where a bank or 
 other collection agency detached the ownership certificate which 
 accompanied an interest coupon and substituted its own certifi- 
 cate (Form 1059), which does not disclose the name and ad- 
 dress of the bond owner, in such cases the withholding agent 
 should request the bank or collection agency to disclose the name 
 and address of the owner of the bonds, as shown by the original 
 certificate, and it shall be the duty of the bank or collection 
 agency to make such disclosure to the withholding agent. Where 
 withholding agents have so released any excess of tax, an item- 
 ized statement showing the names, addresses and amounts re- 
 funded should be attached to the annual list returns (Form 
 
 114 Reg. 45, Art. 369. 
 
 115 Reg. 45, Art. 370; T. B. "B", p. 32. 
 
994 FEDERAL INCOME TAX 
 
 1013), in order to reconcile any discrepancy between the aggre- 
 gate amount of taxes returned as shown by the monthly list 
 returns (Form 1012) and the aggregate amount as shown by the 
 annual list return.i^" 
 
 Use of Information Return Where No Actual With- 
 holding. Where a debtor corporation or its duly authorized 
 withholding agent has made payments of interest on its bonds, 
 but in certain instances has been required to withhold no tax, 
 the ownership certificates on Form 1001 (revised) filed in con- 
 nection with such payments should be transmitted directly to 
 the Commissioner (sorting division) , accompanied by a return 
 on Form 1096-A showing the number of ownership certificates 
 thus transmitted and the total amount of interest paid. This 
 return shall be made by the 20th day of each month following 
 that for which the return is made and need not be sworn to. 
 An annual return shall be forwarded to the Commissioner not 
 later than March 15 of each year on Form 1096-B, on which 
 phall be given a summary of the monthly returns. To the extent 
 that there has been actual withholding of the tax, returns should 
 be made.ii''' 
 
 Ownership Certificates in the Case of Fiduciaries and 
 Joint Owners. When fiduciaries have the control and custody 
 of more than one estate or trust, and such estates and trusts 
 have as assets bonds of corporations and other securities, a 
 certificate of ownership shall be executed for each estate or 
 trust, regardless of the fact that the bonds are of the same 
 issue. Separate ownership certificates are not required for each 
 beneficiary."'* When bonds are owned jointly by several per- 
 sons, a separate ownership certificate must be executed in be- 
 half of each of the owners."^ 
 
 Withholding in the Case of Enemies. Payments made after 
 October 6, 1917, to the Alien Property Custodian are in the 
 same category as payments made to or for citizens or residents 
 of the United States. Withholding at the source is accordingly 
 unnecessary except in the case of interest payments on corporate 
 bonds or other obligations containing a tax-free covenant where 
 
 116 Reg. 45, Art. 372. The 2% tax withheld on dividends of domestic 
 corporations in 1918 should be released in this manner. (Letter from treas- 
 ury department dated March 24, 1919; I. T. S. 1919, H 3283.) 
 
 ii'' Reg. 45, Art. 373. Return is made in this case in accordance with 
 Reg. 45, Art. 370. 
 
 118 Reg. 45, Art. 374 ; letter from treasury department dated November 
 17, 1921; L T. S. 1921, 113223. 
 
 119 Reg. 45, Art. 374. 
 
COLLECTION OF THE TAX AT THE SOURCE 995 
 
 no exemption is claimed. The Alien Property Custodian should 
 use Form 1000 (Revised) in collecting interest on bonds con- 
 taining a tax-free covenant and in all other cases should use 
 Form 1001 (Revised), except that in cases in which the Alien 
 Property Custodian shall, under the Trading-With-the-Enemy 
 Act, demand payment to himself of interest accrued upon bonds 
 or other securities not yet reduced to his custody (even though 
 they be registered in the name of an enemy, ally of an enemy, or 
 his agent or trustee) , the corporation paying such income to the 
 Alien Property Custodian is authorized' to accept from the Alien 
 Property Custodian ownership certificates, Forms 1000 (Re- 
 vised) and 1001 (Revised) , altered by the substitution (in lieu 
 of the certificate required thereon) of a certificate that the Alien 
 Property Custodian is entitled to the interest entered therein 
 with or without deduction of tax, as the case may be. No dis- 
 tinction is to be made between payments directly to the Alien 
 Property Custodian and to his depositaries and between interest 
 on registered bonds and interest on coupon bonds. In the case 
 of enemies or allies of enemies holding a license granted under 
 the provisions of the Trading-With-the-Enemy Act, withholding 
 is required as in the case of any nonresident alien not an enemy 
 or ally of enemy .^^o ^^y ^^x erroneously withheld after October 
 6, 1917, will be deemed to have been erroneously withheld, up 
 to the time of restoration of the property to the original owners 
 by the Alien Property Custodian, but, after the restoration of 
 the property, the tax so withheld if otherwise properly with- 
 held in accordance with the Revenue Act of 1916, as amended, 
 if not in excess of the tax liability of such alien will be deemed 
 to have been properly withheld and, if returned and paid to the 
 government as income tax, may be taken as a credit against the 
 tax shown to be due by the return required for the respective 
 year to be submitted at or after the restoration of the property 
 by the Alien Property Custodian.^^i 
 
 Return of Income From Which Tax Withheld. The entire 
 amount of the income from which the tax was withheld should be 
 included in gross income without deduction for such payment 
 of the tax. But any tax actually so withheld will be credited 
 against the total tax as computed in the taxpayer's return. If 
 
 120 Reg. 45, Art. 375, as amended by T. D. 2969, T. B. 7-20-742. For 
 the rule with respect to withholding on income paid to or for alien enemies 
 see T. D. 2673. This ruling is not revoked by the attorney-general's opin- 
 ion of June 21, 1920, published in T. B. 30-20-1092. 
 
 1210. D. 657, T. B. 36-20-1185. 
 
996 FEDERAL INCOME TAX 
 
 the tax is paid by the recipient of the income or by the with- 
 holding agent it will not be re-collected from the other, re- 
 gardless of the original liability therefor, and in such event no 
 penalty will be asserted against either person where no fraud 
 or purpose to evade payment is involved.122 The amount of nor- 
 mal income tax paid at the source by a debtor corporation in be- 
 half of a bondholder may be credited against the total tax due 
 from the bondholder even though he may be liable to surtax 
 only.123 
 
 122 Reg. 45, Art. 376. 
 
 123 o. D. 423, T. B. 13-20-812. 
 
CHAPTER 41 
 
 COVENANTS TO PAY TAXES 
 
 Covenants to pay taxes are contained in bonds, mortgages, 
 notes, leases, and similar instruments whereby it is stipulated, 
 in general, that the debtor, lessee, or other payor shall pay the 
 interest, rent, or other income without deduction for taxes. 
 Many such covenants became operative under the 1913 Law, and 
 the 1916 Law prior to its amendment by the act of October 3, 
 1917, by reason of the requirement in those laws that the normal 
 tax should be withheld at the source. They operate under the 
 1916 Law as amended and under the present law and the 1918 
 Law only in certain cases and to a limited extent. Such covenants 
 for the purpose of this discussion may be divided into two classes ; 
 (1) Those which are contained in bonds, mortgages, or deeds of 
 trust, or other similar obligations of a corporation, and (2) those 
 contained in other instruments. Those contained in the second 
 class operate only when the payee is a nonresident alien or a 
 nonresident foreign corporation, unless the covenant is so broad 
 that it imposes an obligation on the payor notwithstanding that 
 the interest, rent, or other payments thereunder are made in 
 full without deduction of any tax at the source. Covenants of 
 the first class stated above may be of two kinds: (a) Those 
 which agree to assume the tax of the payee only to the extent 
 that the interest specified in the obligation shall be paid in full, 
 and (b) covenants which may be- so broad in their terms as to 
 obligate the debtor to reimburse the creditor for any tax which 
 may be imposed upon him with respect to the interest after it 
 has been received in full by the creditor. Covenants broad 
 enough to fall within the second class are very unusual and are 
 not covered by the discussion in this chapter. Those covenants 
 to pay the tax which are embraced within the language of the 
 statute! and discussed in this chapter are only those which have 
 all the following qualifications : (a) They must be made by cor- 
 porations; (b) they must be contained in bonds, mortgages, 
 deeds of trust, or other similar obligations, and (c) they must 
 be such as to bind the debtor corporation to pay some portion 
 of the tax imposed by the Revenue Act of 1921 on the creditor, 
 or to reimburse the creditor for any portion of the tax, or to 
 
 1 Revenue Act of 1921, § 221 (b) ; Revenue Act of 1918, § 221 (b). O. D. 
 519, T. B. 21-20-957. 
 
 997 
 
998 FEDERAL INCOME TAX 
 
 pay the interest without deduction for any tax which the debtor 
 may be required or permitted to pay thereon, or to retain there- 
 from, under any law of the United States. Where payment of 
 interest is made under such covenants a tax equal to 2% of the 
 interest is required to be withheld at the source if the owner 
 of the obligations is (a) an individual, whether he is a citizen or 
 alien, resident or nonresident; (b) a partnership, whether do- 
 mestic or foreign, resident or nonresident; (c) a nonresident 
 foreign corporation.^ Withholding at the highest applicable 
 rate is required from interest on bonds or other securities where 
 the owner of such securities is unknown to the withholding 
 agent. The term "highest applicable rate" means 2% in the 
 case of tax-free covenant bonds and 8 % in the case of bonds not 
 containing such covenants.^ The tax is not required to be with- 
 held on payments to domestic corporations or to resident foreign 
 corporations. It is required to be withheld on payments to a 
 fiduciary although the fiduciary may be a corporation. The tax 
 cannot be withheld except against payees specified in the statute. 
 If the bond contains a covenant to pay the tax but the mortgage 
 does not, or vice versa, the tax must be withheld under this 
 provision. Where neither bonds nor the trust deeds given by 
 the obligor to secure them contain a tax-free covenant, supple- 
 mental agreements executed by the obligor corporation and the 
 trustee containing a tax-free covenant and which modify the 
 original trust deeds to that extent are of the same effect from 
 the date of their proper execution as if they had been part of 
 the original deeds of trust, provided proper authority exists for 
 the modification of the trust deeds in this manner. The authority 
 must be contained in the original trust deeds or actually secured 
 from the bondholders.* 
 
 Foreign Corporations — Definition. The term "nonresident for- 
 eign corporation" is used in this chapter to include corporations 
 not engaged in trade or business within the United States and 
 not having any office or place of business therein. Foreign cor- 
 porations which are either engaged in business within the country 
 
 2 Revenue Act of 1921, §§221, 237; Revenue Act of 1918, §§221, 237; 
 Reg. 45, Art. 361. 
 
 3 Reg. 45, Art. 361 ; Mimeograph letter from treasury department, No. 
 2143, dated June 2, 1919; I. T. S. 1921, jl 1775. This is the ruling notwith- 
 standing that 10% is withheld in some cases against nonresident foreign 
 corporations for the year 1921 and 12%% for subsequent years. 
 
 4 0. D. 414, T. B. 12-20-797. 
 
COVENANTS TO PAY TAXES 999 
 
 or have an office or place of business therein are referred to as 
 "resident foreign corporations."^ 
 
 Rate of Tax to Be Withheld. If the covenant specifies that a 
 tax of 1% will be paid, 2% must nevertheless be withheld; 1% 
 being assumed by the debtor corporation and the other 1% by 
 the bondholder. In such cases only 99% of the full amount of 
 interest should be paid to the bondholder. If the covenant speci- 
 fies that more than 2% will be paid by the debtor corporation, 
 only 2% may be withheld, the covenant being inoperative under 
 the law with respect to any additional amount specified therein. 
 In the case of payments to nonresident aliens or nonresident 
 foreign corporations, only 2% may be withheld on obligations 
 containing tax-free covenants, notwithstanding that on other 
 income 8%, 10% or 12V^% is required to be withheld in such 
 cases. Obligations of individuals or partnerships, whether or 
 not containing tax-free covenants, do not require withholding at 
 the 2% rate or at any rate against citizens, residents, domestic 
 corporations, or resident foreign corporations. If the bond, mort- 
 gage, deed of trust, or similar obligation does not contain a con- 
 tract or provision obligating the debtor (a) to pay some portion 
 of the tax imposed by the Revenue Act of 1921 on the creditor, 
 or (b) to reimburse the creditor for any portion of the tax, or 
 (c) to pay the interest without deduction for any tax which the 
 debtor may be required or permitted to pay thereon, or to retain 
 therefrom, under the laws of the United States, the debtor cor- 
 poration can not voluntarily undertake to withhold the tax under 
 this provision and thereby assume the tax for its bondholders. 
 Obligations of corporations other than bonds, mortgages, deeds 
 of trust or similar obligations do not require withholding at the 
 2% rate or at any rate against citizens, residents, domestic cor- 
 porations or resident foreign corporations.'' A domestic corpo- 
 ration owning no property and doing no business in the United 
 States issuing bonds containing a tax-free covenant, is not ab- 
 solved from the withholding requirements in the case of bond- 
 holders who are citizens or residents of the United States. The 
 situation is not analogous to that of interest from nonresident 
 corporations paid to nonresident alien individuals. Such income 
 is not taxable gross income and need not be reported by the 
 nonresident alien individual. Such interest, however, paid to 
 citizens and residents of the United States is taxable gross in- 
 
 5 See Revenue Act of 1921, §237 and Revenue Act of 1918, §237; Reg 
 45, Art. 1509. 
 
 6 Telegram from treasury department dated June 2, 1919; I. T. S. 1921, 
 1[ 1779. 
 
1000 FEDERAL INCOME TAX 
 
 come, must be reported by the taxpayer, and a tax upon such 
 income is due the United States. No exception as to withholding 
 requirements may be made even though the amount of tax with- 
 held and paid to the United States possession or foreign country 
 is claimed by the bondholder as a credit against his income tax 
 liability to the United States government.'^ 
 
 Object of Withholding Provision in Case of Tax-Free Covenant 
 Bonds. Withholding the tax at the source at the rate of 2% on 
 interest paid upon obligations containing tax-free covenants is 
 not a measure designed or intended to insure the collection of 
 revenue, as is withholding at the source generally. It is a 
 measure whereby corporations may be compelled to pay a part 
 of the tax which would otherwise be imposed upon the bond- 
 holder. The provision is inserted in the law on the theory that 
 since corporations have issued bonds, mortgages, deeds of trust, 
 or similar obligations, agreeing to pay interest thereon in full 
 without deduction for any tax which might be required to be 
 withheld at the source and that this provision has presumably 
 influenced either the price at which the bonds or obligations 
 were sold or their rate of interest, the law should compel the 
 corporation to assume some part of the tax of the bondholder. 
 Apparently the entire normal tax was deemed to be too great a 
 burden and 2% was considered appropriate. No reason is ad- 
 vanced, however, for excluding domestic corporation bondholders 
 from the benefits accruing to individual or partnership bond- 
 holders under "tax-free covenants." In the case of savings 
 banks and insurance companies the advantage if given would 
 inure ultimately to the benefit of depositors or policyholders. 
 
 Procedure of Corporation Issuing Tax-Free Covenant Bonds. 
 Since there is a requirement in the law that a 2% tax be assumed 
 by the corporation on interest paid to a large proportion of its 
 bondholders where the bond contains a tax-free covenant, it be- 
 comes a matter of importance to officers of corporations to deter- 
 mine whether or not the covenants in the bonds, mortgages, deeds 
 of trust, or similar obligations of their respective corporations 
 are broad enough in general language, or specific enough, to 
 require the assumption of the burden under the Revenue Acts 
 of 1918 or 1921. Unless there is a legal obligation to pay the 
 tax, or any part thereof, for the bondholder, the officers of the 
 corporation may incur personal liability in making such pay- 
 ments, since the payment of the tax of a bondholder without 
 legal compulsion would constitute a diversion of the funds of the 
 
 7 0. D. 455, T. B. 15-20-852. 
 
COVENANTS TO PAY TAXES 1001 
 
 corporation to which stockholders and creditors may object. 
 Furthermore, the corporation may incur liability for not with- 
 holding the proper amount of tax on payments to nonresident 
 aliens or nonresident foreign corporations. The law requires 
 that if the bond contains a covenant to pay the tax, only 2% 
 shall be withheld, and that if the bond or obligation does not 
 contain 8 such a covenant, 8% shall be withheld on payments to 
 nonresident aliens. There is no authority in the law for with- 
 holding 8% and assuming to pay all or only 2% for the bond- 
 holder. Either the obligation is one which requires withholding 
 at the rate of 2% and the assumption of the tax by the corpo- 
 ration, or it is one which requires withholding at the rate of 8% 
 on payments of interest to nonresident aliens and the assumption 
 of no part of the tax by the corporation. An examination of 
 the covenant in each mortgage or issue of corporate bonds or 
 similar obligations is therefore essential. 
 
 Examples of Covenants to Pay Taxes. A covenant reading as 
 follows does not require or authorize the corporation to assume 
 any part of the income tax of its bondholders : "Both principal 
 and interest of this bond are payable without deduction for any 
 taxes, assessments or other governmental charges which the 
 company may be required to pay thereon or authorized to retain 
 therefrom under any present or future law or requirement of 
 the United States of America (except any federal income tax) 
 or any state, county, municipality or other governmental sub- 
 division thereof." 9 Many covenants to pay taxes were entered 
 into prior to the enactment of the 1913 Law, and without con- 
 templation of an income tax law requiring collection at the source. 
 In such covenants no specific reference is made to an income tax 
 and the force of the covenant with respect to the present income 
 tax depends upon the general language used therein. One typical 
 form reads as follows: "Both the principal and interest of this 
 bond are payable without deduction for any tax or taxes, assess- 
 ment or assessments, or other governmental charges, which the 
 company may be required or permitted to pay thereon, or to re- 
 tain therefrom, under any present or future law of the United 
 States, or of any state, county, municipality or other lawful tax- 
 ing authority thereof." Whether this form of covenant requires 
 the corporation to pay the income tax of the bondholder, or only 
 such taxes as are imposed on the bond or interest, as such, is 
 an unsettled question. In a recent case it was held that a clause 
 
 8 Revenue Act of 1918, § 221 ; Revenue Act of 1921, § 221. 
 
 9 Letter from treasury department dated November 21, 1917; I. T. S. 1921, 
 If 1802. 
 
1002 FEDERAL INCOME TAX 
 
 in bonds issued by a corporation promising payment "without 
 deduction from either such principal or interest, for any tax or 
 taxes, which the Marion Hotel Company may be required to pay 
 or retain therefrom, under any present or future law, the Marion 
 Hotel Company agreeing to pay such tax or taxes," did not re- 
 quire the corporation to pay the federal income tax of the bond- 
 holder which it retained from the payment of interest on the 
 bonds, since the tax is not a tax on the bond, but a personal 
 obligation of the bondholder, arising out of the possession of an 
 income in excess of the exemptions and deductions allowed by 
 such law.i" The Supreme Court of Massachusetts in deciding 
 whether the income tax came within the terms of a covenant by 
 a lessee to pay "all taxes and assessments * * * upon or in 
 respect of the rent * * * howsoever and to whomsoever as- 
 sessed," held that the 1913 Law imposed the tax "in respect of 
 the rent" and held that the language quoted was effective to 
 compel the tenant to assume the tax of the landlord to the extent 
 that the law required the amounts thereof to be withheld at the 
 source.ii Other covenants provided that the debtor "will pay the 
 principal and interest of these bonds without deduction for 
 taxes." It is questionable whether or not covenants of this kind 
 are broad enough' to include taxes upon the bondholder as well 
 as taxes assessed against the corporation upon the mortgage or 
 bond or interest. Where a lease provided that the lessee should 
 "pay all taxes and assessments — upon the yearly payments herein 
 
 10 Urquhart v. Marion Hotel Co., 128 Ark. 283, 194 S. W. 1. The court 
 referred to the early cases of Haight v. Railroad Co., 6 Wall. 15 ; Baltimore 
 V. Baltimore R. R., 10 Wall. 543. 
 
 llSuter V. Jordan-Marsh Company, 225 Mass. 34, 113 N. E. 580. The 
 court seemed to rest its decision in this case on the conclusion that the tax 
 was levied upon the separate sources from which a part of the net income 
 was derived. This conclusion appears to be against the weight of authority 
 that the tax is on the person and not on his property. If such conclusion 
 had been reached by the court the decision might have been different. See, 
 however, Catawissa R. R. Co. v. Phila. & Reading Co., 255 Pa. 269, 99 Atl. 
 807, where the court held that the income tax was "imposed upon rental 
 received by the lessor from the lessee." See Codman v. Amer. Piano Co., 229 
 Mass., 285, 118 N. E. 344. In this case it was held that where a lessee 
 which covenanted to pay all taxes and assessments whatsoever which 
 might be payable "for or in respect of" the leased premises during the term, 
 except assessments for benefits, was not liable to its lessors for the 
 amount of federal income tax on the amount of rent reserved in the lease, 
 since while the taxes on real estate itself came within the terms of the 
 covenant, taxes on the rentals as income did not. Taxes "for or in re- 
 spect of" the leased premises were held to mean taxes relating directly to 
 the premises themselves and not to the rent which, when due, was a separate 
 and independent estate. 
 
COVENANTS TO PAY TAXES 1003 
 
 agreed to be made by the party of the second part to the party 
 of the first part — for the payment or collection of which taxes 
 or assessments the said party of the first part would otherwise 
 be liable or accountable under any lawful authority whatever"; 
 and that the lessee "should pay all taxes, charges, levies, claims, 
 liens and assessments of any and every kind, which during the 
 continuance of the term hereby demised, shall, in pursuance of 
 any lawful authority, be assessed or imposed upon the demised 
 premises, or any part thereof — all payments required to be made 
 by the party of the first part during the term of this indenture — 
 shall be assumed and discharged by the party of the second part 
 as if the party of the second part were primarily liable for 
 same," it was held that the lessee was liable for the income tax 
 of the lessor on the ground that it was the apparent intention of 
 the parties that the lessor should receive the amounts stipulated 
 as rent without deduction by reason of any tax, charge or assess- 
 ment of any kind and that the language was sufficiently broad 
 to cover the federal income tax although not enacted at the time 
 the lease was made.^^ jn another case where a covenant provided 
 that the specified rent should be paid "without any deduction, 
 defalcation or abatement for any tax, charges or assessments 
 whatsoever, * * * it being the express agreement of the said 
 parties that the said covenantor, his heirs and assigns, shall pay 
 all taxes whatsoever that shall hereafter be laid, levied or as- 
 sessed by virtue of any law whatever, as well oh the said hereby 
 granted lot and buildings thereon erected or to be erected as on 
 the said yearly rental now charged thereon," it was held that 
 the covenant did impose an obligation upon the lessee to pay the 
 federal income tax since it was manifestly the intention of the 
 parties, by this covenant, to secure to the grantor the full pay- 
 ment of the yearly rent without any deduction, defalcation or 
 abatement for any taxes, charges or assessments whatsoever.^^ 
 Again, where a lease provided that the lessee should "pay all 
 taxes, charges and assessments * * * imposed under any exist- 
 ing or future law on the demised premises, or any part thereof, 
 or on the business there carried on, or on the gross receipts or 
 net, derived therefrom, or upon the capital stock of 'the lessor' 
 or the dividends thereon, or upon the franchises of the said com- 
 pany, for the payment or collection of any of which said taxes 
 
 12 Northern Pennsylvania R. R. Co. v. Philadelphia & Reading Ey. Co. 
 43 Pa. C. C. 150; aff'd 249 Pa. 326, 94 Atl. 834. See also Philadelphia 
 City P. Ry. Co. v. Philadelphia R. T. Co., 263 Pa. 561, 107 Atl. 329. 
 
 13 Van Beil v. Brogan, 65 Pa. Super. 384, reversing 23 D. R. 1055 (Dau- 
 phin County Court, Pa. 1914). Ehrlich v. Brogan, 262 Pa. 362. 
 
1004 FEDERAL INCOME TAX 
 
 the 'lessor' may otherwise become liable," it was held that the 
 lessee was not required to pay the federal income tax on the 
 rental received by the lessor on the ground that such tax was 
 not expressly mentioned and the covenant was not broad enough 
 to discharge all liability for taxes of every kind for which the 
 lessor should become primarily liable.^* The cases referred to 
 above are cases which have been decided under the 1913 or 1916 
 Laws. Other cases arising under different statutes are referred 
 to in the foot note.^s Where lessees covenant to pay all taxes 
 which during the term of a lease may be lawfully levied, laid or 
 assessed against the rent payable, whether levied or assessed on 
 the same as rental or as income of any person entitled thereto, 
 such lessees are liable to reimburse the lessor not only for the 
 normal federal income tax, but also for the surtax paid by him 
 on rentals received although such surtax did not come into exist- 
 ence until after the date of the lease, the surtax being a direct 
 tax which may be assessed on rentals when received as income.^^ 
 Under a clause which provided that the lessee should pay "one- 
 third of all taxes or assessments, special or otherwise, and public 
 charges of every kind or nature that shall or may be taxed or 
 assessed against the Des Moines company or its property during 
 the aforesaid term of years" it has been held that the lessee was 
 under no obligation to pay federal income tax imposed pursuant 
 to the 1913, 1916 and 1918 Laws upon sums received by the 
 lessor. In making this decision the court treated the fact that 
 at the time the covenant was made no such taxes were levied, 
 or were apparently to be anticipated, as bearing on the intent 
 of the parties, and held that an intent to include all possible 
 
 14 Little Schuylkill, etc. Co. v. Philadelphia & Reading Ry. Co., 44 P. A. 
 County Court, Rep. 197, aff'd 69 Pa. Super. 122. Allocatur to the Supreme 
 Court has been denied. It seems in this case the intention of the lessor 
 was to have the lessee pay any and all taxes so that the net amount of the 
 rental could be distributed without diminution to the stockholders, but the 
 court held that the language of the covenant was not broad enough to ac- 
 complish this purpose. 
 
 15 Northern Trust Co. v. Buck, 263 111. 222, 104 N. E. 1114; Pettebone v. 
 Smith, 150 Pa. 118, 24 Atl. 693; Chicago, etc., Ry. v. Kansas City N.' W. R. 
 R., 75 Kans. 167, 88 Pac. 1085; Erie, etc., R. R. v. Pennsylvania R. R., 208 
 Pa. 506, 57 Atl. 980; Clopton v. Phila. & Reading R. R. Co., 54 Pa. 356, 
 Northern Central R. R. Co. v, Jackson, 7 Wall. 262; U. S. v. Baltimore & 
 Ohio R. R. Co., 17 Wall. 322. See also article in Illinois Law Review, 
 January, 1915. Phila., G. & N. R. Co., v. Phila. & R. Ry. Co., 265 Pa. 325, 
 108 Atl. 528. 
 
 16 Kimball v. Cotting, 234 Mass. 172, 125 N. E. 551. 
 
COVENANTS TO PAY TAXES 1005 
 
 forms of taxation is not conclusively established by the use of 
 sweeping general terms, if by a proper application of the rule of 
 ejusdem generis, or other recognized canon, the covenant may 
 be satisfied by a less burdensome construction." 
 
 17 Des Moines Co. v. Chicago Gt. West. Ry. Co., 177 N. W. 90, 188 Iowa 
 1019. 
 
CHAPTER 42 
 CONSTITUTIONALITY OF THE LAW 
 
 It is not the purpose of this chapter to discuss exhaustively 
 the constitutional questions which may exist with respect to the 
 present internal revenue laws, but to point out certain features 
 of such laws with respect to which questions of constitutionality 
 have been raised, and also to point out briefly a few general prin- 
 ciples which may have a bearing upon the constitutionality of 
 provisions of the Revenue Act of 1921 and the Revenue Act of 
 1918. It is a long established principle vital to our constitutional 
 system that a court is not authorized to adjudge a statute uncon- 
 stitutional where the question as to its constitutionality is at all 
 doubtful, and that unless the statute is plainly and palpably un- 
 constitutional, it will be upheld. Instead of seeking for excuses 
 for holding acts of the legislative power void by reason of their 
 conflict with the constitution the effort should be made to recon- 
 cile them, if possible, and not to hold the laws invalid unless the 
 opposition between the constitution and the laws be such that the 
 court feels a clear and strong conviction of their incompatibility 
 with each other.^ Unless it be impossible to avoid it, a general 
 revenue statute should never be declared inoperative in all its 
 parts because a particular part relating to a distinct subject, is 
 invalid. It is an elementary principle that the same statute may 
 be in part constitutional and in part unconstitutional, and that 
 if the parts are wholly independent of each other that which is 
 constitutional may stand when that which is unconstitutional is 
 rejected. It is only when different clauses of an act are so de- 
 pendent upon each other that it is evident the legislature would 
 not have enacted one of them without the other — as when the two 
 things provided are necessary parts of one system — ^that the 
 whole act will fall with the invalidity of one clause. When there 
 is no such connection and dependency, the act will stand, though 
 different parts of it are rejected. A different rule might be dis- 
 astrous to the financial operation of the government and produce 
 the utmost confusion in the business of the entire country.^ It 
 
 1 Booth V. Illinois, 184 U. S. 431; Fletcher v. Peck, 6 Cranch 87; Brown 
 V. Walker, 161 U. S. 591 ; U. S. v. Delaware & H. Co., 213 U. S. 366. 
 
 2 Field V. Clark, 143 U. S. 649; Rainey v. U. S., 232 U. S. 310; Under- 
 wood Tjrpewriter Co. v. Chamberlain, 92 Conn. 199, 102 Atl. 600, 254 
 U. S. 113; State ex rel. Manitowoc Gas Co. v. Wis. Tax Commission, 161 Wis, 
 111, 152 N. W. 848; Robertson v. Pratt, 13 Haw. 590; Alpha Portland 
 
 1006 
 
CONSTITUTIONALITY OF THE LAW 1007 
 
 will be noted that the Revenue Act of 1921 provides expressly 
 that if any provision or the application thereof to any person or 
 circumstances is held invalid, the remainder of the act and the 
 application of such provision to other persons or circumstances 
 shall not be affected.^ 
 
 Construction of Constitutional Provisions. Constitutions are 
 designed by their framers and accepted by the people as enduring 
 instruments so comprehensive and general in their terms that a 
 free, intelligent and moral body of citizens may govern them- 
 selves under their beneficent provisions through radical changes 
 in social, economic and industrial conditions. They declare only 
 fundamental principles as to the form of government and the 
 mode in which it shall be exercised. Certain great powers are 
 conferred and some limitations as to their exercise are estab- 
 lished. The amendments to a constitution together with the 
 original constitution form one instrument which is to be inter- 
 preted in the light of the conditions under which its several parts 
 were framed, the ends which it was designed to accomplish, the 
 benefits which it was expected to confer, and the evils which it 
 was hoped to remedy. It is a grant from the sovereign in the 
 exercise of a delegated power. It is a statement of general 
 principles and not a specification of details. Amendments to 
 the constitution ought to be construed in the same spirit and 
 according to the same rules as the original, and, in regard to 
 questions of taxation, in connection with the taxing clauses of 
 the original constitution, and tlie effect attributed to them be- 
 fore the amendment was adopted. The constitution is to be 
 interpreted as the constitution of the sovereign state and not as 
 a statute or an ordinary piece of legislation. Its words must 
 be given a construction adapted to carry into effect its purposes.* 
 
 Power of Congress to Levy Income Taxes. The Sixteenth 
 Amendment to the Federal Constitution authorized Congress "to 
 lay and collect taxes on incomes from whatever source derived, 
 without apportionment." As Chief Justice White has said,^ this 
 
 Cement Co. v. Knapp, 230 N. Y. 48, 231 N. Y. 8". In income tax cases, 148 
 Wis. 456, 134 N. W. 673, 135 N. W. 164, the court in pursuance of this 
 rule discussed only the contentions in regard to the constitutionality of the 
 Wisconsin Income Tax Law which might be considered as going to the 
 validity of the whole act and declined to express any opinion as to the 
 "minor provisions which are probably to be regarded as matters of detail." 
 
 3 Revenue Act of 1921, § 1403; Revenue Act of 1918, § 1402. 
 
 4Trefry v. Putnam, 227 Mass. 522, 116 N. E. 904; Eisner v. Macomber, 
 252 U. S. 189. 
 
 ■■' Brushaber v. Union Pacific R. R. Co., 240 U. S. 1. 
 
1008 FEDERAL INCOME TAX 
 
 amendment does not confer power to levy income taxes in a 
 generic sense or to limit and distinguish between one kind of 
 income tax and another, but the whole purpose was to relieve 
 all income taxes, when imposed, from apportionment; in short, 
 the purpose was to do away with the principle upon which the 
 case^ holding the 1894 Law unconstitutional was decided. The 
 amendment places no limitation as to the nature and character 
 of the income taxes which it authorizes. Congress derives from 
 the Constitution'^ its powers "to lay and collect taxes, duties, im- 
 posts and excises." This power is exhaustive and embraces every 
 conceivable power of taxation, limited only by the constitutional 
 provisions that "all duties, imposts, and excises shall be uniform 
 throughout the United States," « that "direct taxes shall be appor- 
 tioned among the several states" » and that "no capitation or other 
 direct tax, shall be laid, unless in proportion to the census." ^o 
 The Sixteenth Amendment removed the limitation of appor- 
 tionment, but did not enlarge the power of Congress. 
 
 Taxing Gains and Profits From Sale of Property. The question 
 whether Congress has power to tax gains and profits arising 
 from the sale of capital assets, viz., whether the word "income," 
 as used in the Sixteenth Amendment, embraced such gains and 
 profits, has now been definitely settled by the Supreme Court. In 
 a number of cases recently decided ^^ that court held such gains 
 and profits to be taxable, and that no distinction existed between 
 gains from capital realized by a single isolated sale of property 
 and gains from capital realized by sales by one engaged in buy- 
 
 6 Pollock V. Farmers Loan & Trust Co., 157 U. S. 429, 158 U. S. 601. 
 
 7 Constitution of the United States, Art. 1, § 8. 
 Sid. Art. 1, §8, CI. 1. 
 
 9 Id. Art. 1, § 2, CL 3. 
 
 10 Id. Art. 1, § 9, CI. 4. 
 
 "Walsh V. Brewster, 41 Sup. Ct. Rep. 392, T. B. 16-21-1573; Goodrich v. 
 Edwards, 41 Sup. Ct. Rep. 390, T. B. 16-21-1572; Eldorado Coal Co. v. Mager, 
 65 L. Ed. 449, T. B. 16-21-1571; Merchants Loan & Trust Co. v. Smietanka, 
 41 Sup. Ct. Rep. 386, T. B. 16-21-1570. The Court brushed aside the case of 
 Lynch v. Turrish, 247 U. ^. 221, on the ground that there was no increase 
 after March 1, 1913, and the case of Gray v. Darlington, 15 Wall. 63, also 
 much relied on, by referring to the difference in the statute under which 
 the case was decided, the expressions relied on not being necessary to a 
 decision. As bearing upon the taxation of capital gains, see generally: 
 Trefry v. Putnam, 227 Mass. 522, 116 N. E. 904; Hays v. Gauley Mountain 
 Coal Co., 247 U. S. 189; Doyle v. Mitchell Bros., 247 U. S. 179; Eisner v. 
 Macomber, 252 U. S. 189; U. S. v. Cleveland C. C. & St. L. Ry. Co., 247 
 U. S. 195; Stratton's Independence v. Howbert, 231 U. S. 399; Scott v. 
 Schwab, 255 Fed. 57. 
 
CONSTITUTIONALITY OF THE LAW 1009 
 
 ing and selling as a business — a merchant, real estate agent or 
 broker. 
 
 Requiring Disclosure of Interest on State and Municipal Obli- 
 gations. Although the Revenue Act of 1918 expressly exempts 
 from taxation interest upon the obligations of a state or any 
 political subdivision thereof, presumably because a tax on such 
 interest would be unconstitutional, it requires any person owning 
 such obligations to submit a statement showing the number and 
 amount thereof and the income received therefrom, in such 
 manner and form and with such information as the commission- 
 er shall require.^2 n ^as been asserted that this provision is 
 unconstitutional in that it imposes the burden upon state and 
 municipal obligations of compelling the owner to make a compu- 
 tation and disclosure of his income therefrom — a burden which 
 if admitted in principle, could be stretched to such an extent 
 that the owner would prefer to pay the tax in order to escape the 
 greater burden of supplying the government with a mass of de- 
 tail in regard to his ownership of such securities. Congress 
 seems to have no general power to make inquiry into the affairs 
 of a citizen or to investigate the affairs of citizens as a mere 
 matter of private concern or governmental curiosity,i^ and an 
 individual may refuse to answer an unauthorized inquiry.^* 
 Regarding the question from the standpoint of individual liberty 
 and privacy or from the standpoint of authority in a particular 
 case to make inquiry and compel answer, it is difficult to see in 
 the above inquiry introduced by the Revenue Act of 1918 as to 
 state and municipal obligations any legitimate purpose connected 
 with the raising of revenue or any other function of the federal 
 government. It does not seem that taxpayers should be obliged 
 to speculate as to a possible undisclosed purpose on the part of 
 Congress which might render the provision authorized and 
 proper. The provision has been withdrawn in the Revenue Act 
 of 1921. 
 
 Want of Due Process of Law. The due process clause of the 
 Fifth Amendment to the Federal Constitution which provides 
 that "nor (shall any person) be deprived of life, liberty, or prop- 
 erty without due process of law," is not a limitation upon the 
 taxing power conferred upon Congress by the Constitution ; in 
 
 12 Revenue Act of 1918, § 213 (a) 4. 
 
 13 See Interstate Commerce Commission v. Brinson, 154 U .S. 447, 478; 
 In re Chapman, 166 U. S. 661, 668; Kilbourn v. Thompson, 103 U. S. 168; 
 Harriman v. Interstate Commerce Commission, 211 U. S. 407; In re Pacific 
 Ry. Commission, 32 Fed. 241. 
 
 14 Boyd V..U. S., 116 U, S, 616. 
 
1010 FEDERAL INCOME TAX 
 
 other words, the Constitution is not self -destructive and does 
 not conflict with itself by conferring on the one hand a taxing 
 power and taking the same away on the other by the limita- 
 tions of the due process clause. To make a tax statute uncon- 
 stitutional the seeming exercise of the taxing power of the act 
 must be so arbitrary as to constrain to the conclusion that it is 
 not the exertion of taxation, but a confiscation of property, that 
 is, a taking of the same in violation of the Fifth Amendment, 
 or, what is equivalent thereto, that the statute is so wanting in 
 basis for classification as to produce such a gross and patent 
 inequality as to inevitably lead to the same conclusion. In 
 other words, the Constitution simply requires that a statute shall 
 operate on all alike under the same circumstances.^^ The judicial 
 department cannot prescribe to the legislative department lim- 
 itations upon the exercise of its acknowledged powers. The 
 power to tax may be exercised oppressively upon persons; but 
 the responsibility of the legislature is not to the courts but to 
 the people by whom its members are elected. A tax will, there- 
 fore, not be held void because it is deemed to be too high.^^ In 
 a case arising under the 1909 law it has been held that the 
 provision limiting the interest deduction of a corporation to 
 the amount of "paid-up capital stock * * outstanding 
 at the close of the year" was not unconstitutional because it 
 denied equal protection of the law to the corporation issuing its 
 stock at a premium. Congress may impose different specific 
 taxes upon different trades and professions and vary the rates 
 of excises upon various products. It may tax real estate and 
 personal property in a different manner. It may allow deduc- 
 tions for indebtedness or not allow them. Such regulations of 
 this character, so long as they proceed within reasonable limits 
 . and general usage, are within the discretion of Congress. There 
 is no precise application of the rule of reasonableness of classi- 
 fication and the rule of equality permits of many practical in- 
 equalities. The rule of equality under the Constitution only 
 requires that the law imposing it shall operate on all alike under 
 the same circumstances.i''^ In a case arising under the 1913 Law^^ 
 the Supreme Court enumerated a number of features of the 1913 
 Law which, it had been alleged, constituted a violation of the 
 due process clause, and dismissed them with the statement that 
 
 15 Brushaber v. Union Pacific R. R. Co., 240 U. S. 1, see next paragraph 
 on Uniformity. 
 
 WMcCray v. U. S., 195 U. S. 27; Spencer v. Merchant, 125 U. S. 345. 
 
 17 N. Y., N. H. & H. R. R. Co. v. U. S., Ct. D. 3, T. B. 3-21-1400. 
 
 18 Brushaber v. Union Pacific R. R. Co., 240 U. S. 1. 
 
CONSTITUTIONALITY OF THE LAW 1011 
 
 none in the remotest degree presented such questions. Among 
 such objections were the following: (1) that the progressive rate 
 and exemption features of the law were based on wealth alone 
 and were wanting in due process of law,i" (2) that the duty 
 cast upon corporations of collecting the tax at the source was 
 wanting in due process of law, (a) because of the cost to which 
 they were subjected, (b) because of the resulting discrimina- 
 tion between corporations indebted upon coupon and registered 
 bonds and corporations not so indebted, (c) because of the 
 further discrimination in the case of corporations so indebted 
 which had assumed the payment of taxes on their bonds, (d) 
 because of the further discrimination against corporate bond- 
 holders in the deprivation of the use of their money between the 
 deduction and payment of the tax withheld, (e) because of the 
 further discrimination against corporate bondholders in the fact 
 that they might be obliged to pay the tax a second time if the 
 corporation should fail after deduction, and (f) because of a 
 further discrimination against bondholders in that they were 
 not relieved of the duty of reporting bond income by payment 
 at the source, the result being a double payment of the tax, 
 labor and expense in obtaining a refund and deprivation of the 
 use of their money in the meantime; (3) that the liniitation on 
 the amount of interest deductible by corporations was wanting in 
 due process; (4) that the privilege granted to individuals of de- 
 ducting dividends for purposes of normal tax was a discrimina- 
 tion against corporations ;2o (5) that the deduction of $3,000 
 
 19 Speaking of the progressive feature of the Wisconsin Income Tax Law, 
 the Wisconsin Court said in the Income Tax Cases, 148 Wis. 456, 134 N. W. 
 673, 135 N. W. 164: "With regard to the progressive feature, it is aptly 
 said in Knowlton v. Moore, 178 U. S. 41, at p. 109, 20 Sup. Ct. 747, by the 
 present chief justice, that 'taxes imposed v?ith reference to ability of the 
 person upon virhom the burden is placed to bear the same have been levied 
 from the foundation of the government. So, also, some authoritative thinkers, 
 and a number of economic writers, contend that a progressive tax is more 
 just and equal than a proportional one. In the absence of constitutional 
 limitation, the question whether it is or is not is legislative and not ju- 
 dicial.' " 
 
 20 In holding that the application of a different rate in the case of cor- 
 porations and individuals was permissible, the Wisconsin Court said in the 
 Income Tax Cases, 148 Wis. 456, 134 N. W. 673, 135 N. W. 164: "The cor- 
 porate privileges, which are exclusively held by corporations, and the real 
 differences between the situation of a corporation and an individual, among 
 which may be mentioned the fact that the corporation never is obliged to 
 pay an inheritance tax, plainly justify a difference of treatment in the levy- 
 ing of the income tax. Were the income tax a tax upon property, there 
 could be no difference in rate, for taxation of property must still be on a 
 
1012 FEDERAL INCOME TAX 
 
 or $4,000 to those who pay the normal tax and not to those with 
 incomes over $20,000 was wanting in due process; 21 (6) that the 
 discrimination between married and single people and between 
 husbands and wives living together and husbands and wives not 
 living together was wanting in due process ;22 (7) that the law 
 involved a discrimination and want of due process in favor of 
 house owners living in their own houses who were not com- 
 pelled to estimate the rental value against those who paid rent 
 and were not allowed to deduct it and in favor of farmers who 
 might deduct products of the farm used by them in sustaining 
 their famihes whereas family expenses might not, as a rule, be 
 deducted. In another easels it was held there exists a substantial 
 difference between the carrying on of business by corporations 
 and the same business by a private firm or individual, and the 
 1909 Law was, therefore, not unconstitutional on the ground 
 of arbitrary discrimination. In another case the court held 
 that the fact that the tax was levied on the income of mining 
 companies without making adequate allowance for depletion did 
 not amount to the taking of property without due process of 
 law.2* In a easels arising under the law taxing foreign-built 
 yachts it was stated by the court that the distinction between 
 
 uniform rule, but, as has been heretofore noted, it is not a tax upon prop- 
 erty within the meaning of our Constitution." 
 
 21 In Campbell v. Shaw, 11 Haw. 112, it was held that the Hawaiian In- 
 come Tax Act of 1896 was unconstitutional by reason of the fact that it 
 allowed an exemption of $2,000 on incomes under $4,000, whereas no such 
 exemption was allowed on incomes over $4,000. In Robertson v. Pratt, 13 
 Haw. 590, it was decided tjiat an exemption of incomes to the amount of 
 $1,000 was not invalid on the ground that it was excessive. See also Pea- 
 cock V. Pratt, 121 Fed. 772; In re Income Tax Act, 10 Haw. 317. 
 
 22 With regard to the provision of the Wisconsin Income Tax Law that the 
 income of a wife living with her husband shall be added to the income of the 
 husband, the Wisconsin court said in the Income Tax Cases, 148 Wis. 456, 
 134 N. W. 673, 185 N. W. 164: "This is another case of classification, and 
 it is only justifiable in case there is some substantial difference of situation 
 which suggests the advisability of difference of treatment. We think there 
 clearly is such a difference, in this, that experience has demonstrated that 
 otherwise there will be many opportunities for fraud and evasion of the law, 
 which the close relationship of husband and vrife or parent and child makes 
 possible, if not easy. The temptation to make colorable shifts and transfers 
 of property in order to secure double or even triple exemptions, if there were 
 not some provision of this kind in the law, would ilnquestionably be very 
 great. There is no such temptation or opportunity in the case of the single 
 man, or the man and wife who are living separately." 
 
 23 Flint V. Stone-Tracy Co., 220 U. S. 107. 
 
 24 Stanton v. Baltic Mining Co., 240 U. S. 103. 
 
 25 Billings V. U. S., 232 U. S. 261. 
 
CONSTITUTIONALITY OF THE LAW 1013 
 
 things foreign and things domestic, and their use, was apparent 
 on the face of things and to tax them separately was not an 
 arbitrary discrimination. 
 
 Uniformity. The provision of the Fifth Amendment to the 
 Constitution of the United States which prescribes that "nor 
 (shall any person) be deprived of life, liberty, or property 
 without due process of law" is not an equal protection clause 
 and should not be confused with the Fourteenth Amendment 
 which prescribes that "nor (shall any state) deny to any per- 
 son within its jurisdiction the equal protection of its laws." 26 
 The only uniformity prescribed with reference to duties, imposts 
 and excises is a geographical or territorial uniformity.^'' In a 
 recent case the Supreme Court has held that the provisions of 
 the 1917 Excess-Proiits Tax Law defining invested capital ac- 
 cording to original cost of property instead of present value, 
 does not render the act "glaringly unequal" and of "doubtful 
 constitutionality." 28 In this case the Supreme Court said : "The 
 difficulty of adjusting any system of taxation so as to render it 
 precisely equal in its bearing is proverbial, and such nicety is 
 not even required of the states under the equal protection clause, 
 much less of Congress under the more general requirement of 
 due process of law in taxation. Of course, it will be understood 
 that Congress has very ample authority to adjust its income taxes 
 according to its discretion within the bonds of geographical un- 
 iformity." 
 
 Exempting Certain Corporations from Tax. The provision of 
 the Sixteenth Amendment authorizing a tax on incomes "from 
 whatever source derived" does not require that the tax must be 
 imposed upon all sources of income nor does it exclude the power 
 to exempt certain classes of corporations.^^ 
 
 Retroactive Features. The right of Congress to impose a tax 
 by a new statute, although the measure of the tax is governed by 
 
 26 See Constitution of the United States, Art. 14, § 1. 
 
 27 See Constitution of the United States, Art. 1, § 8. See also La Belle 
 Iron Works v. United States, 41 Sup. Ct. Rep. 528, T. B. 23-21-1680; Knowl- 
 tdn V. Moore, 178 U. S. 41; Patton v. Brady, 184 U. S. 608; Flint v. Stone- 
 Tracy Co., 220 U. S. 107; Billings v. U. S., 232 U. S. 261; Brushaber v. 
 Union Pacific R. R. Co., 240 U. S. 1. 
 
 28LaBelle Iron Works v. U. S., 41 Sup. Ct. Rep. 528. In Ehret Co. v. 
 Lederer, 273 Fed. 689, it was held that the Commissioner's construction of 
 § 201 of the 1917 Law, particularly the phrase "the amount of the net in- 
 come in excess of the deduction," was not unconstHnitional. (See Chap- 
 ter 43.) 
 
 29 Brushaber v. Union Pacific R. R. Co., 240 U. S. 1. 
 
1014 FEDERAL INCOME TAX 
 
 the income of the past year cannot be doubted ; much less can it 
 be doubted that Congress may impose a tax on income of the cur- 
 rent year, though part of that year has elapsed when the statute 
 is passed.^" A statute imposing a tax upon all income of a pre- 
 vious year, although one tax on that income has already been 
 paid, is valid.31 
 
 SOBrushaber v. Union Pacific R. R. Co., 240 U. S. 1; Billings v. U. S., 232 
 U. S. 261 ; Stockdale v. Insurance Companies, 20 Wall. 323 ; Schuylkill Nav. 
 Co. V. Elliott, 21 Fed. Case. No. 12, 497 ; Brady v. Anderson, 240 Fed. 665, 
 writ of certiorari denied, 244 U. S. 654, T. B. 2494; U. S. v. McHatton, 266 
 Fed. 602; A. R. R. 565, T. B. 29-21-1737. With regard to the retroactive 
 feature of the Wisconsin Income Tax Law the Wisconsin court in the in- 
 come tax cases, 148 Wis. 456, 134 N. W. 673, 185 N. W. 164, overruled ob- 
 jection "without comment, for the reason that it seems very unsubstantial." 
 
 31 Stockdale v. Insurance Companies, 20 Wall. 323. 
 
CHAPTER 43 
 WAR-PROFITS AND EXCESS-PROFITS TAX 
 
 The Revenue Act of 1921 re-enacts without change, the excess- 
 profits tax imposed by the 1918 Law, but provides for its repeal 
 as of December 31, 1921.i Certain provisions of the 1918 Law 
 referring only to the war-profits tax for the year 1918 are 
 omitted from the Revenue Act of 1921, and the 1921 Law con- 
 tains provisions made necessary by the limitation of the tax to 
 the calendar year 1921. These provisions are set forth in the 
 appropriate paragraphs of this chapter. It is to be noted that 
 the excess-profits tax is upon net income as computed under the 
 1921 Law, which because of changes made in the income tax may 
 be different from net income as computed under the 1918 Law. 
 This will, of course, make a difference between the excess-profits 
 tax imposed by the 1918 Law and that imposed by the 1921 Law. 
 Other changes made by the 1921 Law occur by reason of changes 
 made in respect to the income tax. Among such changes are the 
 classification of certain domestic corporations as foreign cor- 
 porations and a modification of the definition of inadmissible 
 assets. 
 
 The repeal of the excess-profits tax was stated by the senate 
 finance committee to be "because of its inequalities and difficulty 
 of administration and because of the manner in which it dis- 
 criminates against corporations with small invested capital." ^ 
 Many other criticisms have been leveled at this tax and it was 
 also found that it was rapidly losing its productivity. 
 
 The Act of March 3, 1917, was the first excess-profits tax law 
 enacted in this country.^ It was applied only to corporations and 
 partnerships and imposed a tax of 8 % on all net income in excess 
 of the sum of $5,000 plus 8 % of the actual capital invested.* A 
 small amount of tax was collected under this statute for cor- 
 
 1 This repeal is accomplished by limiting the tax to the calendar year 
 1921. Title III of the Revenue Act of 1921 takes effect as of January 1, 
 1921 (§338). 
 
 2 Report of senate finance committee on the revenue bill of 1921, p. 23. 
 
 3 39 Stats, at Large 1000. 
 
 * The statute defined the term "actual capital invested" to mean (1) 
 actual cash paid in; (2) the actual cash value at the time of payment 
 of assets other than cash paid in, and (3) paid in or earned surplus and 
 undivided profits used or employed in the business; but to exclude money 
 or other property borrowed. 
 
 1015 
 
1016 FEDERAL INCOME TAX 
 
 porations whose fiscal years ended in the succeeding months but 
 any amounts so collected were credited or refunded to the tax- 
 payers. The next law, enacted October 3, 1917, imposed a tax on 
 the net income of individuals, partnerships and corporations, de- 
 rived from any business or trade. This latter statute (referred 
 to in this Chapter as the 1917 Law) was retroactive to January 
 1, 1917, and covered the period during which the Act of March 3, 
 1917, had been in effect. The rates of the 1917 Law as applied to 
 corporations having invested capital were 20% of that part of 
 the net income which exceeded the excess-profits deduction and 
 did not exceed 15% of the invested capital; 25 %o of that part of 
 the net income which exceeded 15% of the invested capital and 
 did not exceed 20% of the invested capital; 35% of the net in- 
 come which exceeded 20% of the invested capital and did not ex- 
 ceed 25% of the invested capital; 45% of that part of the net 
 income which exceeded 25% of the invested capital and did not 
 exceed 33% of the invested capital; and 60% of that part of the 
 net income which exceeded 33% of the invested capital.^ In, the 
 case of a trade or business which had no invested capital or not 
 more than a nominal capital, the excess-profits tax was 8% of 
 the entire net income in excess of $3,000 in the case of a domes- 
 tic corporation, and $6,000 in the case of a domestic partner- 
 ship, or a citizen or resident of the United States. In the case of 
 a foreign corporation or partnership or a nonresident alien this 
 rate was imposed upon the entire net income without deduction.® 
 The Act of February 24, 1919, (referred to in this chapter as 
 the Revenue Act of 1918 or the 1918 Law) imposed a tax on 
 income received during the year 1918 in lieu of the tax imposed 
 by the 1917 Law. In view of the increased individual normal 
 and surtax rates upon the income of individuals and partner- 
 ships, which in most cases made the income taxes paid by such 
 individuals as high as the income and excess-profits or war- 
 profits taxes paid by corporations engaged in similar business, 
 and in view of the difficulty in administering an excess-profits 
 tax applicable to individuals, it was decided by Congress that 
 the war and excess-profits taxes should apply to corporations 
 only.''' It was also recognized that there exists a class of corpora- 
 tions which require very little or no invested capital and whose 
 income is derived mainly from the personal services of the 
 
 5 Revenue Act of 1917, § 201. 
 
 6 Revenue Act of 1917, §209. 
 
 7 Report of the committee on ways and means on the Revenue Bill of 1918, 
 September 3, 1918. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1017 
 
 stockholders. Examples of such corporations are corporations 
 composed of engineers or accountants, who might as readily have 
 formed partnershijis to carry on their business. Such corpora- 
 tions are called "personal service corporations" and were treated 
 as though they were partnerships. No excess-profits tax was 
 imposed upon their net income but the stockholders of the per- 
 sonal service corporation were taxable upon the entire net in- 
 come of the year, whether or not such income is distributed in the 
 form of dividends. The tax imposed by the 1918 Law combined 
 two general principles of taxation : (a) that of a war-profits tax, 
 which is usually considered to be a tax on the excess of profits 
 made during the years of the war period over the normal profits 
 of the years prior to the war and (b) an excess-profits tax, 
 which is considered as a tax upon the profits in excess of a 
 specified percentage representing an approximate normal return 
 on the invested capital. The law, however, did not adhere to a 
 clear distinction between war-profits and excess-profits since 
 the war-profits tax combined a feature of the excess-profits tax 
 in that a minimum deduction of 10% of the invested capital was 
 allowed regardless of the earnings of the corporation during the 
 pre-war period. Under the excess-profits method of computing 
 the tax the rate of 1918 was 30% of that part of the net income 
 which exceeded the excess-profits deduction and did not exceed 
 20 % of the invested capital and 65 % of that part of the income 
 which exceeded 20% of the invested capital. The war-profits 
 tax rate was a single rate of 80% in excess of the war-profits 
 credit.^ This combination of principles applied generally, how- 
 ever, only to income of the year 1918. For subsequent years 
 the war-profits tax is discarded and the excess-profits tax alone 
 imposed, except as to income received from government con- 
 tracts, as more fully stated in a following paragraph. The rate 
 of the excess-profits tax for the taxable years 1919, 1920 and 
 1921 is 20% on that part of the net income which exceeds the 
 excess-profits credit and does not exceed 20% of the invested 
 capital, and 40% on the remaining net income.^ 
 
 8 Revenue Act of 1918, §301 (a). It has been estimated that under 
 the 1917 Law, the average amount of excess-profits tax was about 30% 
 of the net income of taxable corporations for the year 1917. It has been 
 conjectured that the war-profits and excess-profits taxes absorbed on an 
 average about 45% of the 1918 income. In addition the income tax absorbed 
 12% of the remainder so that probably about one-half of the net income 
 of corporations for the year 1918 was paid to the federal government by 
 way of war-profits, excess-profits and income taxes. 
 
 9 Revenue Act of 1921, § 301 (a) ; Revenue Act of 1918, § 301 (b). 
 
1018 FEDERAL INCOME TAX 
 
 Individuals. Individuals are not subject to the excess-profits 
 tax. Since individuals vs^ere not allowed to file returns on the 
 basis of their fiscal years under the 1917 Law, no individual 
 paid a tax on 1918 income under the 1917 Law, and, therefore, 
 the 1918 Law contains no provision with respect to individuals 
 such as the provision i" with respect to partnerships for rede- 
 termining the tax due on 1917 income. 
 
 Individuals Under 1917 Law. Under the Revenue Act of 
 1917, individuals were subject to excess-profits tax if they had 
 an aggregate net income in excess of $6,000 ($3,000 in the case 
 of nonresident aliens) from trades, businesses, occupations 'or 
 professions.il 
 
 In the case of an individual, the terms "trade," "business," and 
 "trade or business" were held to comprehend all his activities 
 for gain, profit, or livelihood, entered into with sufficient fre- 
 quency or occupying such portion of his time or attention as to 
 constitute a vocation, including occupations and professions. 
 When such activities constituted a vocation they were construed 
 to be a trade or business whether continuously carried on during 
 the taxable year or not, and all the income arising therefrom 
 was subject to excess-profits tax. 
 
 In the following cases the gain or income was not subject to 
 excess-profits tax, and the capital from which such gain or in- 
 come is derived could not be included in "invested capital": (a) 
 Gains or profits from transactions entered into for profit, but 
 which are isolated, incidental, or so infrequent as not to con- 
 stitute an occupation, and (b) the income from property arising 
 merely from its ownership, including interest, rent, and similar 
 income from investments except in those cases in which the 
 management of such investments really constitutes a trade or 
 business.i2 
 
 10 Revenue Act of 1918, §335 (c). 
 
 11 Revenue Act of 1917, §§201, 202 and 203; Reg. 41, Art. 12-13. The 
 term "trade or business" is also defined in Chapters 25 and 44. 
 
 12 Reg. 41, Art. 8. This ruling has received the attention of the court 
 in Cadwalader v. Lederer, 273 Fed. 879, in a decision in which it was held 
 that commissions received by a lawyer as executor and trustee of the 
 estate of a friend were not subject to the 1917 excess-profits tax, where it 
 appeared that the lawyer did not make a general practice of so acting, 
 the court says in this case that it cannot "grasp the thought of a distinction 
 between such isolated things, growing out of the importance of the thing 
 done or the demands which it makes upon the time of the person doing 
 it". It then explains article 8 of regulations 41, as follows: "The whole 
 thought is conveyed in an expression which is not uncommon when a person 
 is asked to do something which, as another expression goes, is 'out of line'. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1019 
 
 Several cases arose under the Revenue Act of 1917 in defini- 
 tion of the terms "trade" and "business" a few of which are 
 given below: 
 
 (1) An expert oil man who devoted his time and money to the 
 purchase and sale of oil and gas leases and to the promotion of 
 corporations developing such leases, and who in 1917 disposed of 
 his entire holdings of the capital stock of certain corporations in 
 which he owned all but the qualifying shares and of which he 
 was an active officer, was held subject to the 1917 excess-profits 
 tax on the profits realized in 1917 from the sale of his interests 
 in such companies.12 
 
 (2) The sale of rights acquired through the ownership of 
 stock in any corporation in which an individual was not a man- 
 aging officer or agent was considered an isolated transaction 
 and any profit derived therefrom was not subject to the 1917 
 excess-profits tax.^* 
 
 (3) Likewise profits realized from the sale of fractional in- 
 terests in various vessels by an individual having no control of 
 the management of such vessels were not subject to the 1917 ex- 
 cess-profits tax unless such individual gave enough time and at- 
 tention to the buying and selling thereof as to constitute a 
 trade or business.^^ 
 
 (4) A physician who owned a farm and a part interest in cer- 
 tain oil interests, but who spent practically his entire time in 
 1917 in the practice of his profession, the farm being rented out 
 on a cash rental basis and the management of the interest in the 
 oil leases being in the hands of another individual was held not en- 
 gaged in the business of farming or the purchase, promotion or 
 sale of oil properties in 1917, and consequently not subject to the 
 
 The expression first referred to is, 'I don't make a business of doing this, 
 but I will do it for you'. The doing of it may result in such person de- 
 voting practically his whole time to it, without involving the thought of 
 making it his business. There is much the same distinction made between 
 amateurs and professionals in athletics, although the test usually applied 
 there is the commercial test. Nevertheless the distinction referred to 
 exists. The amateur does not make, as the professional ex vi termini 
 does, the sport his trade, occupation, business, or profession, even although 
 he, as he not infrequently does, devotes more time in developing and per- 
 fecting skill in it than the avowed professional does. The difference is 
 suggestive of a difference in motive, but there is the other thought also." 
 
 13 A. R. M. 41, T. B. 16-20-871. The decisive point in this decision 
 seems to have been the fact that the taxpayer was the managing officer 
 of the corporations. 
 
 1*A. R. M. 41, T. B. 16-20-871. 
 
 i-^A. R. R. 65, T. B. 16-20-870. 
 
1020 FEDERAL INCOME TAX 
 
 1917 excess-profits tax with respect to a profit derived from the 
 sale of the farm and the interest in the oil leases.^^ 
 
 (5) Amounts received for professional and literary work have 
 been held to be income arising from a vocation." 
 
 (6) Profits realized by an individual also engaged in farming 
 derived from trading in grain futures have been held to con- 
 stitute income from a trade or business.i^ 
 
 (7) Royalties received under a license contract by a taxpayer 
 engaged in the automobile business who had patented certain 
 automobile improvements have been held to be derived from a 
 trade or business and not the mere ownership of property, where 
 the taxpayer devoted a considerable part of his time and atten- 
 tion to the invention. 18 
 
 (8) Profits derived from a cattle feeding venture have been 
 held subject to the excess-profits tax imposed by the 1917 Law.^o 
 
 Partnerships Under 1918 and Present Laws. Partnerships 
 are not subject to the excess-profit tax under the 1918 or the 
 present law. 
 
 Partnerships Under 1917 Law. Partnerships were subject 
 to the 1917 excess-profits tax, if they had a net income of $6,000 
 or more ($3,000 or more in the case of a foreign partnership ).2i 
 A partnership which was dissolved in July, 1917, was held not 
 to be relieved from such tax on the ground that its dissolution 
 antedated the passage of the act.22 
 
 The definition of partnerships has been covered in full in an 
 earlier chapter.^^ It has been held in connection with the 1917 
 Law that several persons who contributed severally to a fund 
 used to develop and operate an oil field with an agreement that 
 they were to share pro rata in the profits did not constitute a 
 
 16 a. R. M. 40, T. B. 17-20-879. 
 
 17 A. R. R. 247, T. B. 34-20-1155. But the estate of a deceased literary 
 man would not be liable for excess-profits tax on royalties received (0. 
 D. 760, T. B. 52-20-1365). 
 
 ISA. R. R. 636, T. B. 41-21-1865. 
 
 19 A. R. R. 425, T. B. 42-21-1874. See also Delaski & Thropp Co. v. 
 Iredell, 268 Fed. 377. 
 
 20 A. R. R. 629, T. B. 40-21-1850. See Chapter 8. 
 
 21 Revenue Act of 1917, §§201, 202 and 203; Reg. 41, Art. 11. Partner- 
 ships doing the same kind of business as exempt corporations were exempt 
 (Reg. 41, Art. 13). See Chapter 13. 
 
 22 A. R. R. 43, T. B. 12-20-794; Reg. 41, Art. 5. The act was passed on 
 October 3, 1917, and made retroactive as of January 1, 1917. 
 
 23 This chapter does not attempt to cover this subject in full and Chap- 
 ter 8 should be consulted. 
 
WAE-PROFITS AND EXCESS-PROFITS TAX 1021 
 
 partnership.2* A taxpayer and his wife who both contributed 
 equally to a fund placed in the hands of a brokerage firm for 
 dealing in grain futures have been held to be a partnership, 
 where it was understood by the brokerage' firm that there was to 
 be an equal sharing of profits and losses between the taxpayer 
 and his wife on the transaction. ^s A partnership which dis- 
 solved about 1902 and whose quick assets, good will and firm title 
 were sold to an individual who carried on business thereafter 
 for its individual account under the old firm name, was held sub- 
 ject to the 1917 excess-profits tax with respect to the profits de- 
 rived from certain transactions in 1917 involving the purchase 
 and sale of sugar.^s 
 
 Partnerships Which Paid a Tax on 1918 Income. If a 
 partnership made a return under the 1917 Law for a fiscal year, 
 beginning in 1917 and ending in 1918, and paid the tax, a cer- 
 tain proportion thereof was subject to refund. This amount to 
 be refunded was to be determined by taking the same proportion 
 of the tax so paid which the proportion of the fiscal year falling 
 in 1918 was to the entire fiscal year. Thus, if one-fourth of 
 the fiscal year fell in 1917 and three-fourths in 1918, three- 
 fourths of the tax which had been paid was subject to refund.^'^ 
 
 Personal Service Corporations. Personal service corpora- 
 tions are not subject to the excess-profits tax, but are taxed as 
 partnerships.28 Such corporations are described in a preced- 
 ing chapter.29 
 
 Personal Service Corporations Under 1917 Law. The 
 1917 Law imposed a tax of 8% upon a trade or business having 
 no invested capital or not more than a nominal capital, and 
 upon the salaries, wages and fees of individuals.^" This pro- 
 
 24 Sol. Op. 117, T. B. 33-21-1772. 
 
 25 A. R. E. 636, T. B. 41-21-1865. Checks for profits were made to the 
 husband In this case as agent for the wife, but were invested in liberty bonds 
 which were equally divided and registered in their separate names. 
 
 26 A. R. R. 211, T. B. 31-20-1108. 
 
 27 Revenue Act of 1918, §335 (c). See Chapter 37. Excess-profits tax 
 paid by partnership with respect to income received during 1918 can not 
 be applied as credit to tax due from individual members for taxable year 
 1918. In such cases claim for refund should be filed by the partnership. 
 (0. D. 180, T. B. 7-19-310.) 
 
 28 Revenue Act of 1921, §§800 and 200; Revenue Act of 1918, §§300 
 and 200. 
 
 29 See Chapter 11. Personal service corporations are abolished as of 
 December 31, 1921, but the excess-profits tax is repealed as of the same date. 
 
 30 Revenue Act of 1917, § 209; Reg. 41, Arts. 14, 15. 
 
1022 FEDERAL INCOME TAX 
 
 vision was omitted from the 1918 Law, but in its place were the 
 provisions respecting personal service corporations. Under the 
 1917 Law it was held that business concerns which rendered 
 professional or personal services would not be taxed on the 
 basis of invested capital merely because of the capital, if the 
 employment of such capital was necessitated by delay and irregu- 
 larity in the receipt of fees, etc., or if such capital was wholly or 
 mainly used as a fund from which to advance salaries, wages, etc., 
 or provide office furniture, accommodations and equipment, nor 
 because of the form of organization, whether corporation or 
 partnership, nor in the case of a partnership because of the 
 number of partners. Agents and brokers were held to be tax- 
 able at the graduated rates with reference to invested capital 
 if they employed a substantial amount of capital whether to 
 lend to principals or to carry goods on their own account, but 
 otherwise were taxable only at the flat rate of 8 % .^i In determin- 
 ing whether a concern was taxable at the 8% rate no weight 
 was given to the fact that it was carried on by means of per- 
 sonal service, unless the principal owners were regularly en- 
 gaged in the active conduct of the trade or business.^^ It was 
 held that the term nominal capital meant, in general, a small 
 or negligible capital the use of which was incidental. The fol- 
 lowing trades or businesses were held to employ more than a 
 nominal capital: 
 
 (a) A business which, because of conditions arising from the 
 war or exceptional opportunities for profits, earned a dispro- 
 portionately high rate of profit during the taxable year, if it 
 belonged to a class necessarily and customarily requiring capital 
 for its operation, stress to be laid in doubtful cases upon the 
 nominal relation of net income to capital during pre-war years. 
 
 (b) Corporations which, although their capitalization was 
 nominal, in fact employed a substantial capital in their business. 
 
 (c) A business having a substantial capital, which by the ordi- 
 nary rules and restrictions governing the computation of in- 
 vested capital was reduced to a nominal amount; e. g., where 
 capital consisting originally of a small amount of cash paid in 
 had since appreciated in value, or where capital was largely 
 covered by indebtedness or consisted principally of tax-free se- 
 curities or intangible assets built up or developed by expendi- 
 tures regularly deducted as business expense.^^ 
 
 31 Reg. 41, Arts. 72, 73. 
 
 32 Reg. 41, Art. 71. 
 
 33 Reg. 41, Art. 74. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1023 
 
 The following concerns and businesses have been held taxable 
 under the 1917 Law in the ordinary way, because they employed 
 more than a nominal capital i^* 
 
 (1) A company which had never owned any lands, timber, 
 plant, mill or yard, and which had never done any manufacturing 
 or carried any stock of manufactured lumber, but whose principal 
 business consisted of buying lumber from mainufacturers and 
 reselling the same to its own customers, such business being 
 conducted by the partners personally with the assistance of a 
 small clerical office force of one bookkeeper and two stenog- 
 raphers.23 
 
 (2) A company organized with a small amount of capital 
 stock, none of which was paid up, and which later secured a lease 
 to wharf property, no bonus being paid for the lease, the business 
 of the company being subletting this leased property, its income 
 being held derived chiefly from the possession of a capital asset 
 which was not capital in name only, but a real tangible asset-^*! 
 
 (3) A retailing corporation, the stock of which was owned by 
 two stockholders who were actively engaged in the business 
 and were the principal salesmen, and which employed no capital 
 except in paying for merchandise consigned to it by the factory 
 and for the payment of the freight charges thereon, even though 
 the capital used was small in amount and even though the direct 
 use of capital by the corporation could have been avoided by 
 having the purchasers make the customary deposits when plac- 
 ing their orders, no stock being carried by the corporation other 
 than that passing through the shop for test before delivery.^''' 
 
 (4) A corporation which had spent its earnings in improving 
 a secret chemical process (admitted to be an intangible asset) 
 the increased value of which process was due to the improvement 
 being in effect "earned surplus used in the business," where the 
 improvement was originally paid for with borrowed money and 
 
 34 This chapter does not attempt to cover this subject in full and Chap- 
 ter 8 should be consulted. 
 
 35 Cartier-Holland Lumber Co. v. Doyle, U. S. Dist. Ct., W. Dist. Mich. 
 So. Div.; T. D. 3080. In making this decision, the court said: "They buy 
 and sell lumber and undertake and assume all the risks and enjoy all the 
 benefits of a merchandising business. They employ a large amount of cap- 
 ital; their income is dependent upon their personal services and efforts only 
 in the same way that the farmer, who works his own farm, or the merchant 
 who conducts his own store derives his income from his individual en- 
 deavors" 
 
 36 A. R. R. 315, T. B. 46-20-1307. 
 
 37 T. B. R. 58, T. B. 19-19-492. 
 
1024 FEDERAL INCOME TAX 
 
 subsequent earnings were sufficient to repay the borrowed money 
 and to create an "earned surplus" before the beginning of the 
 year.ss 
 
 A corporation engaged in the business of negotiating sales of 
 real estate for clients and the collection of rents of properties 
 listed with it for renting, its total income being derived from 
 commissions on such business, the corporation not owning any 
 real estate and all its stockholders devoting their entire time and 
 attention to the business with the exception of one stockholder 
 owning 10 shares out of 500 (who devoted part of his time in the 
 business) and employing two salesmen on the basis of commis- 
 sions on the sales made by them, but only a small proportion of 
 the net income being due to the activities of these salesmen, has 
 been held taxable at the 8% rate.^^ 
 
 Personal Service Corporations Which Paid a Tax on 1918 
 Income. If any corporation which under the 1918 Law was held 
 to be a personal service corporation filed a return and paid a tax 
 under the 1917 Law for a fiscal year beginning in 1917 and end- 
 ing in 1918, a portion of the tax so paid was subject to refund. 
 The amount to be refunded was determined by taking the same 
 proportion of the tax so paid which the proportion of the fiscal 
 year falling in 1918 was to the entire fiscal year. Thus, if five 
 months of the fiscal year fell in the calendar year 1918, five- 
 twelfths of the tax paid on the income of the full fiscal year 
 was subject to refund.*" 
 
 Corporations Engaged Partly in Personal Service Business. 
 Where a part of the net income of a corporation is derived (1) 
 from a trade or business (or a branch thereof) in which the 
 employment of capital is necessary and (2) a part (constitut- 
 ing not less than 30% of its total net income) is derived from 
 a separate trade or business which, if it constituted the sole 
 trade or business, would bring the corporation within the class 
 of personal service corporations, the tax upon that part of the 
 
 38 Lincoln Chemical Co. v. Edwards, 272 Fed. 142; T. D. 3183, T. B. 
 29-21-1740. In this case Judge Hand assumed, without deciding, that 
 "nominal capital" meant "nominal invested capital". The term "nominal 
 capital" is a relative term. In this case the value of the process in 1917 
 was shown to be only over $10,000, but this was, to use the language of 
 the court in regard to an earned surplus of $2,000, "in view of the size 
 of the business" more than nominal. 
 
 39 A. R. R. 210, T. B. 31-20-1097. No attempt is made in this chapter 
 to cover all the rulings in this connection. Chapter 11 should be con- 
 sulted. 
 
 40 Revenue Act of 1918, §335 (c). See Chapter 37. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1025 
 
 net income which is derived from the use of capital is sepa- 
 rately computed (allowing in such computation only the same 
 proportionate part of the war-profits and excess-profits credits) 
 and the tax upon the second part of the net income is the same 
 percentage thereof as the tax computed upon the first part of the 
 net income is of such first part.*i This provision will apply 
 in the case of partial personal service corporations until the 
 point is reached where the nonpersonal-service element becomes 
 negligible, under which conditions such corporations would 
 make returns as personal service corporations.*^ Where a cor- 
 poration doing a commission and brokerage business satisfies 
 the requirements of a personal service corporation, except that 
 it in part employs capital, surplus, and borrowed funds to make 
 large advances to customers and receives more interest than it 
 pays as a result of such transactions, it should be assessed un- 
 der this provision. The income from commissions and brok- 
 erage should be considered as arising from personal service, 
 and the remainder of the income as derived from the use of 
 capital.*^ 
 
 Apportionment^ of Invested Capital and Net Income. 
 For the purpose of determining whether or not a corporation 
 partly partaking of the nature of a personal service corporation 
 is within the scope of the statute and also for the purpose of 
 establishing the basis for the computation of the tax, the cor- 
 poration is required to apportion or allocate its invested capital 
 between each trade or business or branch thereof as nearly as 
 may be in accordance with the actual facts, and to submit with 
 its return an explanatory statement setting forth the manner 
 in which the apportionment of the invested capital employed in 
 the production of each part of its net income has been de- 
 termined. There must be assigned to any personal service trade 
 or business or branch thereof an amount of invested capital 
 at least as great as that which would ordinarily be employed 
 by a personal service corporation of similar size and standing 
 for the payment of salaries and ofiice expenses, maintenance 
 of library and equipment, credit advances to clients, etc.** 
 
 Computation of Tax Upon Net Income. (1) The tax 
 upon the nonpersonal service part of the net income is computed 
 
 41 Revenue Act of 1921, §303; Revenue Act of 1918, §303. 
 
 42 0. D. 79, T. B. 1-19-114. 
 
 43 T. B. M. 50, T. B. 12-19-410. 
 
 44 Reg. 45, Art. 741. For the method of determining the portion of the 
 net income from each trade or business or branch thereof see p. 1030. 
 
1026 FEDERAL INCOME TAX 
 
 upon the basis of (a) such part of the entire average net income 
 for the prewar period as was derived from the same trade or 
 business or branch thereof; (b) such part of the entire average 
 invested capital for the prewar period as was employed in the 
 production of the part of the net income for that period de- 
 termined under (a) ; (c) such part of the entire invested capital 
 for the taxable year as has been employed iri the production of 
 the net income upon which the tax is being computed; and (d) 
 the same proportion of the specific exemption and credits as 
 the proportion which the part of the net income upon which the 
 tax is being computed is of the entire net income. If the cor- 
 poration was in existence during the prewar period, but did 
 not conduct this trade or business or branch thereof during that 
 period, the war-profits credit is 10% of the invested capital for 
 the taxable year. (2) The tax upon the personal service part of 
 the net income is the same percentage thereof as the tax com- 
 puted under (1) is of the nonpersonal service part of the 
 net income. The tax under this paragraph may in no case be 
 less than 20% of the personal service part of the entire net in- 
 come, unless the tax upon the entire net income if computed in 
 the ordinary way would be less than 20% of such entire net 
 income. In that event, and in any case in which the amount of 
 the total tax as computed above is the same as or greater than 
 the tax as computed in the ordinary way, the tax must be com- 
 puted as if all the income was derived from the use of capital.*^ 
 
 Corporations. All corporations except those expressly exempt 
 by the statute are subject to the excess-profits tax. The term 
 "corporations" includes associations, joint-stock companies 
 and insurance companies.*'' A corporation dissolved prior to 
 February 25, 1919, when the 1918 Law went into effect, but 
 which was in receipt of income after January 1, 1918, was sub- 
 ject to the tax imposed'by the 1918 Law for the reason that the 
 law was retroactive to the first day of January, 1918.*^ 
 
 Exempt Corporations. Corporations exempt from the in- 
 come tax are also exempt for the purpose of excess-profits tax.^s 
 
 45 Reg. 45, Art. 742. See illustration No. 5, appendix to the 1920 edition. 
 
 46 See letter from treasury department dated November 17, 1917 ; W. 
 T. S. 1919, 11757. 
 
 47 See Chapter 10. Every corporation was taxable under the 1917 Law 
 if it had a net income of more than $3,000, or in the case of a foreign 
 corporation of $3,000 or more from sources vdthin the United States 
 (Revenue Act of 1917, §§201, 202 and 203; Reg. 41, Art 10). 
 
 48 Revenue Act of 1921, §304; Revenue Act of 1918, §304 (a). See 
 Chapter 13 for a list of exempt corporations under the income tax law. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1027 
 
 In addition, any corporation whose net income for the full tax- 
 able year of twelve months is less than $3,000 is exempt from 
 this tax. If the taxable period is less than twelve months the 
 corporation is exempt from the tax, if its net income for the 
 period is less than the same proportion of $3,000 as the num- 
 ber of months in the period is of twelve months, any fractional 
 part of a month being counted as the number of days in such 
 part of a month divided by 30.*^ 
 
 Corporations Deriving Income from Government Con- 
 tracts. Special provisions apply to corporations deriving in- 
 come from government contracts as defined in the following 
 paragraph. For the taxable year 1919 and thereafter every 
 corporation which derives in such year a net income of more 
 than $10,000 from any government contract or contracts made 
 between April 6, 1917, and November 11, 1918, both dates in- 
 clusive, will be required to pay the tax at the 1918 rates on the 
 net income attributable to such government contracts, such tax 
 to be computed according to the rule stated in a subsequent 
 paragraph.50 Corporations which have no prewar period and 
 which were in receipt of 50% or more of gross income during 
 the taxable year from gains, profits, commissions of other in- 
 come derived from a government contract or contracts made 
 between April 6, 1917, and November 11, 1918, both dates in- 
 clusive, will be limited to a war-profits credit of 10% of the in- 
 vested capital of the taxable year.si although other corporations 
 (other than corporations a majority of whose stock at any time 
 during the taxable year is owned or controlled, directly or in- 
 directly, by a corporation which was in existence during the 
 whole of at least one calendar year during the prewar period) 
 which had no prewar period may claim a higher deduction if 
 the earnings of similar corporations during the prewar period 
 were more than 10%. Corporations 50% or more of whose gross 
 income for the taxable year consists of gains, profits, commis- 
 sions or other income derived on a cost-plus basis from a govern- 
 ment contract or contracts made between April 6, 1917, and 
 November 11, 1918, both dates inclusive, will not be allowed to 
 avail themselves of the remedial provision which will permit 
 other corporations to be assessed on the basis of the tax paid by 
 
 49 Revenue Act of 1921, § 304 (b) ; Revenue Act of 1918, § 304 (b) ; Reg. 
 45, Art. 751. 
 
 50 Revenue Act of 1921, §301 (b) ; Revenue Act of 1918, §301 (c). 
 See p. 1036 and illustration No. 4, appendix of 1920 edition. 
 
 51 Revenue Act of 1918, §311 (d). 
 
1028 FEDERAL INCOME TAX 
 
 representative corporations.52 it is to be noted that the first 
 two provisions refer to government contracts generally while 
 the third provision is limited to cost-plus contracts. A corpora- 
 tion organized after August 1, 1914, and not a successor to a 
 then existing business, 50 % or more of whose gross income con- 
 sists of gains, profits, commissions or other income derived from 
 government contracts made between April 6, 1917, and Novem- 
 ber 11, 1918, both dates inclusive, can not be considered as 
 affiliated with any other corporation for the purpose of making 
 consolidated returns.^^ 
 
 If in 1919 a corporation derives a profit in excess of $10,- 
 000 from government contracts, but sustains a net loss on other 
 operations, it may deduct the amount of such loss in ascertaining 
 its net income subject to tax. If the amount of the excess- 
 profits credits exceeds the company's total net income from all 
 sources for 1919 no tax will be imposed upon the portion of its 
 net income for that year which was derived from government 
 contracts.^* 
 
 Government Contracts. A government contract is defined 
 in the law to be (a) a contract made with the United States, 
 or with any department, bureau, officer, commission, board, or 
 agency, under the United States and acting in its behalf, or with 
 any agency controlled by any of the above if the contract is for 
 the benefit of the United States, or (b) a subcontract made with 
 a contractor performing such a contract if the products or 
 services to be furnished under the subcontract are for the benefit 
 of the United States. The term "government contract or con- 
 tracts made between April 6, 1917, and November 11, 1918, both 
 dates inclusive," when applied to a contract of the kind referred 
 to in clause (a) of this paragraph, includes all such contracts 
 which, although entered into during such period, were originally 
 not enforceable, but which have been or may become enforceable 
 by reason of subsequent validation in pursuance of law.^^ The 
 same applies to procurement orders issued after November 11, 
 1918, in confirmation of informal orders entered into prior to 
 November 12, 1918.56 The term "contract" has a definite com- 
 
 52 Revenue Act of 1918, §327 (d). See p. 1116. 
 
 53 Revenue Act of 1918, §240 (a). See p. 1132. 
 
 54 0. D. 532, T. B. 22-20-979. Since the company's net income included 
 an item of net profit from government contracts in excess of $10,000, it 
 will be required to supply fully all of the data called for by the supporting 
 schedules of form 1120-S. 
 
 55 Revenue Act of 1918, § 1 ; Revenue Act of 1921, § 200. 
 
 56 0. D. 394, T. B. 5-20-721. 
 
WAR-PEOFITS AND EXCESS-PROFITS TAX 1029 
 
 mercial meaning and is broad enough to include any reciprocal 
 promise or engagement whether or not evidenced by a formally 
 executed document. It may be either oral or written, and a con- 
 tract entered into with an agent is binding upon the principal. 
 The fact that a formal contract was executed after November 
 11, 1918, would not affect the status of the original contract un- 
 less such contract was thereby revoked or supplanted, but would 
 be further evidence of the contract and in confirmation of it. 
 The fact that a formally executed contract bears a date sub- 
 sequent to the date of offer and acceptance, if that be the case, 
 will not change this conclusion. It is held, therefore, that the 
 acceptance of an award by an agent for a principal constitutes 
 a government contract even though the formal contract bears a 
 date subsequent to November 11, 1918.5''' Contracts with the 
 American Red Cross are considered government contracts.^^ 
 The term "government contract" includes contracts relating to 
 sales of standard goods and services at open market prices as 
 well as those of a special nature,59 and includes contracts made 
 with the United States, even though not connected with the 
 prosecution of the war.^ 
 
 Amended Government Contracts. A government contract 
 entered into in 1917, amended as to some of its provisions in 
 1918, and further modified in 1919, is in effect the same con- 
 tract as entered into in 1917 if the original contract has not been 
 revoked or supplanted by a new contract.^i 
 
 Contracts Under the Naval Appropriation Acts. Con- 
 tracts entered into pursuant to the Naval Appropriation Acts of 
 March 4, 1917, and July 1, 1918, if entered into between April 
 6, 1917, and November 11, 1918, are "government contracts," 
 even though these acts by their terms made obligatory com- 
 pliance with all orders placed by the President, and authorized 
 the President to take immediate possession of a factory upon 
 failure to comply, allowing such reasonable compensation as he 
 should determine. Such contracts are not to be placed in a 
 category different from other contracts merely because they 
 were given under the authority of a statute providing a penalty 
 for failure to comply therewith.^^ 
 
 57 O. D. 540, T. B. 24-20-993. 
 
 58 O. D. 261, T. B. 17-19-468. 
 
 59 O, 916, T. B. 21-19-519. 
 
 60 O. D. 677, T. B. 41-20-1228. 
 
 61 0. D. 295, T. B. 24-19-557; O. D. 1063, T. B. 42-21-1867. 
 
 62 0. D. 477, T. B. 17-20-889. 
 
1030 FEDERAL INCOME TAX 
 
 What Are Not Government Contracts. Contracts en- 
 tered into between a taxpayer and the Knights of Columbus or 
 the Young Men's Christian Association are not considered gov- 
 ernment contracts.63 A contract entered into on May 1, 1918, 
 with the Director-General of Railroads for certain cars for the 
 account, use and benefit of various railroads under federal con- 
 trol is not "a government contract" for the reason that the cars 
 are not for the use or for the account of the United States.^* 
 Sales of goods from existing stocks where delivery is immediate 
 are not government contracts.^^ 
 
 Subcontractors. A corporation which contracted with an- 
 other corporation to manufacture and deliver machinery to be 
 used in manufacturing ammunition, but did not produce or fur- 
 nish ammunition or any component part thereof, nor perform 
 any direct service in connection with the production of ammuni- 
 tion manufactured by another corporation under contract for 
 the United States government, is not a subcontractor. ^^ A sub- 
 contract entered into subsequent to November 11, 1918, based 
 on a principal contract to furnish a product for the benefit of 
 the United States entered into between April 6, 1917, and 
 November 11, 1918, is held to constitute a government contract.®'^ 
 
 Gold-Mining Corporations. In the case of a corporation 
 engaged in the mining of gold, that portion of its net income 
 derived from the mining of gold is exempt from excess-profits 
 tax. The tax on the remaining portion of its net income is com- 
 puted in the following manner: The tax is first computed on 
 the entire net income but only such proportion thereof as the 
 proportion of net income derived from sources other than gold 
 mining bears to the entire net income, is taken to be the amount 
 due.88 
 
 Allocation of Net Income to Particular Source. In the case 
 of corporations deriving income from government contracts, 
 or from mining or from personal service trade or business, and 
 in any other cases where it is necessary to determine the por- 
 tion of the net income derived from or attributable to a par- 
 ticular source, the corporation is required to allocate to the 
 gross income derived from such source, and to the gross in- 
 
 63 0. D. 261, T. B. 17-19-468. 
 
 64 0. D. 224, T. B. 12-19-394. 
 
 65 0. 916, T. B. 21-19-519. 
 
 66 0. D. 359, T. B. 2-20-666. 
 
 67 0. D. 662, T. B. 38-20-1200. 
 
 68 Revenue Act of 1921, §304; Revenue Act of 1918, §304. See illus- 
 tration No. 6, appendix to 1920 edition. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1031 
 
 come derived from each other source, the expenses, losses and 
 other deductions properly appertaining thereto, and to apply 
 any general expenses, losses and deductions (which can not 
 properly be otherwise apportioned) ratably to the gross income 
 from all sources. The gross income derived from a particular 
 source, less the deductions properly appertaining thereto and 
 less its proportion of any general deductions, is the net income 
 derived from such source.^s If exact determination of income 
 arising from government contracts distinctly from other 
 income is impossible, an approximation based on the proportion 
 which sales to the government bears to other sales should 
 be used only in case approximations based on the respective 
 cost and selling price are inapplicable. The approximation 
 should be based upon the allocation of costs. and allocation of 
 selling price, in the most accurate manner possible from avail- 
 able records. Amortization is not to be charged exclusively 
 against income from government contracts, and selling and 
 administrative expenses not applicable to the government con- 
 tracts should not be so charged.™ The corporation must sub- 
 mit with its return a statement fully explaining the manner in 
 which such expenses, losses and deductions were allocated or 
 distributed. 
 
 Advertising Expenses. Advertising and sales promotion 
 are not a part of the necessary expenses of government con- 
 tracts, except as relating to such contracts, and are not proper 
 deductions from the gross income derived from government 
 sales. Such expenditures, if entered into on a large scale at a 
 time when the government was doing practically no commer- 
 cial business, may be treated either as an expense of the year 
 in which incurred and deducted from the commercial income 
 only, or they may be treated as deferred items in the balance 
 sheet and set up as good will thereon, being in the nature of 
 expenditures for the building up of future business and not 
 for the business secured during the taxable year in which such 
 expenditures were incurred.'''^ 
 
 Inventories op Government Contract Material. In so 
 far as stock purchased for government contracts is used or 
 useful for commercial purposes no separate inventory thereof 
 need be made for government contract accounting, such inven- 
 
 69 Reg. 45, Art. 715. 
 
 70 A. R. M. 1, T. B. 26-19-597. See paragraph below on "Advertising 
 Expenses." 
 
 71 O. D. 394, T. B. 5-20-721. 
 
1032 FEDERAL INCOME TAX 
 
 tories being treated as commercial inventories in the ordinary 
 course at the close of the taxable year 1919. If, however, a 
 portion of such goods purchased is useful only for government 
 contracts and is still on hand at the close of the taxable year 
 1919, such goods should be inventoried at the then value if 
 lower than cost and assigned to the government contract sec- 
 tion of the income statement for that year.'^^ 
 
 Taxable Year. The term "taxable year" means the calendar 
 year or the fiscal year ending during such calendar year, upon 
 the basis of which net income is computed for the purpose of 
 the income tax. The first taxable year under the Revenue Act 
 of 1918 was the calendar year 1918, or any fiscal year ending 
 during the calendar year 1918. The first taxable year under 
 the Revenue Act of 1921 is the calendar year 1921, or any fiscal 
 year ending during the calendar year 1921.''3 
 
 Fiscal Year. The term "fiscal year" means an accounting 
 period of twelve months ending on the last day of any month 
 other than December.^'' If a corporation keeps its accounts on 
 the basis of a fiscal year, the law requires that it report its 
 income on that basis, and not at its option either on that basis 
 or on the basis of the calendar year as was the rule formerly .'^^ 
 
 Prewar Period. The term "prewar period" means the calen- 
 dar years 1911, 1912 and 1913, or, if a corporation was not in 
 existence during the whole of such period, then as many of 
 such years during the whole of which the corporation was in 
 existence. Thus, if a corporation was in existence during the 
 entire year 1913, that year becomes its prewar period, but if 
 in existence only a part of the year 1913, it is deemed to have 
 no prewar period and becomes taxable under the provisions 
 applying to corporations formed after the prewar period.'^*' 
 
 Statement of the Tax. The tax imposed by Title III of the 
 Revenue Act of 1921 is in lieu of the tax imposed by Title III of 
 the Revenue Act of 1918, which was in lieu of the tax imposed 
 
 72 0. D. 394, T. B. 5-20-721. 
 
 T3 Revenue Act of 1918, §§300, 200; Revenue Act of 1921, §§300, 200. 
 
 74 Revenue Acts of 1918 and 1921, §§ 300, 200. 
 
 75 Revenue Acts of 1918 and 1921, §§ 232, 212 (b) and 200. 
 
 76 Revenue Act of 1918, §310; Reg. 41, Art 6. Under the 1917 Law 
 the earnings of the pre-war period determined the amount of the excess- 
 profits deduction, between the limits of 7% and 9% of the invested cap- 
 ital. Under the 1918 Law no reference was made to the pre-war period 
 in ascertaining the excess-profits credit, since that credit is 8% of the 
 invested capital regardless of the pre-war earnings. But the pre-war 
 earnings and pre-war invested capital were used in computing the war- 
 profits credit under the Revenue Act of 1918. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1033 
 
 by Title II of the Revenue Act of 1917, but in addition to the 
 other taxes imposed by the Revenue Act of 1918. The excess- 
 profits tax imposed by the present law is hkewise in addition 
 to the other taxes imposed by the Revenue Act of 1921.'^7 The 
 war-profits and excess-profits tax is imposed upon the net income 
 of every corporation, whether or not derived from a business 
 or trade or from investment or otherwise.'^^ Briefly stated, 
 the excess-profits tax is computed on the entire net income of 
 the taxable year after deducting the excess-profits credit, at the 
 rates specified in the statute. For the taxable year 1918 the 
 war-profits tax was computed on the entire net income in excess 
 of the war-profits credit at the rate specified in the act, and 
 whichever of the two taxes (the excess-profits or war-profits) 
 was the greater was assessed. The rates of tax, net income, in- 
 vested capital, excess-profits credit and war-profits credit are 
 more fully discussed in the following paragraphs. 
 
 Rates of Tax for 1917. The rates of tax imposed by the 1917 
 Law are given in the introductory paragraph of this chapter.'^^ 
 The statute provided for the taxation of "the amount of the net 
 income in excess of the deduction" at twenty per centum.^". 
 This phrase was held by the Commissioner to mean that the 
 first of the graduated percentages of invested capital (fifteen per 
 centum) was first to be ascertained and that the deduction was 
 to be made from the amount thereof; and if the deduction 
 was not in excess of fifteen per centum of the invested capital, the 
 difference between the amount of the deduction and the fifteen 
 per centum of invested capital was to be taxed at twenty per cen- 
 tum. This construction has been sustained by the court in pref- 
 erence to the construction that the deduction was to be made 
 from the whole of the net income, and that out of the balance of 
 
 77 Revenue Act of 1921, § 301 (a) ; Revenue Act of 1918, § 301 (a) . 
 
 78 See Revenue Act of 1918, §§213 (a), 233 (a). Under the 1917 Law, 
 in the case of a partnership or corporation, all income was deemed to be 
 received from its trade or business, and the terms "trade," "business," 
 and "trade or business" included all- sources of income (Reg. 41, Art. 7). 
 All trades or businesses engaged in by a corporation or partnership were 
 treated as a single trade or business, and its entire income was deemed 
 to be of the class of its principal trade or business (Reg. 41, Art. 14). 
 
 79 Some concerns were taxable at a flat rate of 8%. (See p. 1016.) As 
 to the rates prescribed for the individual or concern not so taxable see 
 Reg. 41, Arts. 14, 16, 17. As to the computation of the tax in the case of 
 a partnership or corporation or partnership with a fiscal year ending 
 in 1917, see Reg. 41, Art 19; and as to the computation of the tax for a 
 period of less than 12 months, see Reg. 41, Art. 20. 
 
 80 See Revenue Act of 1917, § 201. 
 
1034 FEDERAL INCOME TAX 
 
 net income remaining an amount not in excess of fifteen per 
 centum of the invested capital was to be taxed at twenty per 
 centum.81 
 
 Rates of Tax for 1918. The rates of tax are stated in the 
 form of three brackets as follows: S2 pirst bracket, 30% of the 
 amount of net income in excess of the excess-profits credit and 
 not in excess of 20% of the invested capital. If the excess- 
 profits credit equalled or exceeded 20% of the invested capital, 
 no tax was imposed under this bracket. The second bracket 
 provided a rate of 65% of the amount of net income in excess 
 of 20% of the invested capital. If, however, the excess-profits 
 credit exceeded 20% of the invested capital, this rate was ap- 
 plied only to the amount of net income in excess of such 
 excess-profits credit.^s The third bracket provided that there 
 should be added to the tax computed under the first and second 
 brackets the sum, if any, by which 80% of the amount of net 
 income in excess of the war-profits credit exceeded the amount 
 of tax computed under the first and second brackets. As a 
 practical matter, if 80% of the amount of net. income in excess 
 of the war-profits credit was greater than the tax computed 
 under the first and second brackets, the 80% tax became the 
 tax due from the corporation and the computation under the 
 first and second brackets might be disregarded.^* 
 
 Rates of Tax for 1919, 1920 and 1921. In the case of all 
 corporations other than those referred to in the following para- 
 graphs, the rates for 1919 and subsequent years computed under 
 the first bracket as above indicated are 20% instead of 30% 
 and under the second bracket are 40% instead of 65%. No tax 
 is imposed under the third bracket.^s 
 
 SiEhret Magnesia Co. v. Lederer, 273 Fed. 689; T. D. 3200, T. B. 32- 
 21-1764; Greenport Basin Co. v. U. S., 269 Fed. 58; T. D. 3137, T. B. 14- 
 21-1556. 
 
 82 Revenue Act of 1918, §301 (a). 
 
 83 Revenue Act of 1918, §301 (d). See illustration No. 2, appendix to 
 1920 edition. 
 
 84 This device of adding the excess amount of the war-profits tax over 
 the excess-profits tax to such excess-profits tax was invented by the senate 
 to overcome the objection to the provision in the bill as originally drafted, 
 which expressly provided for an alternative excess-profits or war -profits 
 tax, the larger of the two being the amount assessed. The change made by 
 the Senate did not in substance change the tax and it was still a tax com- 
 puted by two alternative methods, the one productive of the greater amount 
 of revenue being applied to the taxpayer. 
 
 85 Revenue Act of 1918, §301 (b) ; Revenue Act of 1921, §301. See 
 illustration No. 1, appendix to 1920 edition. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1035 
 
 Fiscal Year Ending in 1919. If a corporation makes a return 
 for a fiscal year beginning in 1918 and ending in 1919 the tax 
 for such fiscal year is determined as follows: The amount of 
 tax for the entire fiscal year computed at the 1918 rates is first 
 determined and such proportion thereof as the part of the 
 fiscal year falling in 1918 bears to the entire fiscal year is 
 assessed as a portion of the tax. Similarly the 1919 rates are 
 applied to the entire net income for the fiscal year and such 
 portion assessed as the proportion of the fiscal year in 1919 bears 
 to the full fiscal year.^^ The sum of the two portions thus 
 ascertained is the tax for the fiscal year. 
 
 Fiscal Year Ending in 1921. Since the excess-profits tax is 
 imposed upon the net income as computed for the purpose of the 
 income tax and the Revenue Acts of 1918 and 1921 contain dif- 
 ferent provisions regarding what constitutes gross income and 
 allowable deductions, it is necessary to provide a special rule 
 for the computation of the excess-profits tax of a corporation 
 (other than a personal service corporation) making a return for 
 the fiscal year beginning in 1920 and ending in 1921. The tax 
 of such a corporation for the taxable year 1920 consists of the 
 sum of (1) the same proportion of the tax for the entire period 
 computed under the Revenue Act of 1918 which the portion of 
 such period falling within the calendar year 1920 is of the entire 
 period, and (2) the same proportion of the tax for the entire 
 period computed under the Revenue Act of 1921 which the por- 
 tion of such period falling within the calendar year 1921 is of 
 the entire period. Any amount paid on account of the tax im- 
 posed for such taxable year by the Revenue Act of 1918 will 
 be credited towards the payment of the tax as above computed, 
 
 86 Revenue Act of 1918, § 335 (b) ; illustration No. 8, appendix to 1920 
 edition. The same principles governed the computation of the tax for a 
 corporation with a fiscal year beginning in 1917 and ending in 1918. 
 (Revenue Act of 1918, § 335.) Any amount paid on account of the tax 
 imposed for such fiscal year by the Revenue Act of 1917, was to be credited 
 toward the payment of the tax so computed, and if the amount so paid 
 exceeded the amount of tax so computed, the excess was to be credited or 
 refunded to the corporation. In cases in which corporations whose fiscal 
 years ended in 1918, filed a return and paid the tax for the full fiscal year 
 under the provisions of the Revenue Act of 1917, the tax was to be re- 
 computed in the manner indicated and from the amount so found to be 
 due there was deducted the amount of excess-profits tax paid on the basis 
 of the full fiscal year. It followed that the income tax for the same period 
 must also be computed according to the rule in § 205 (a) of the 1918 Law. 
 after having deducted the excess-profits taxes as recomputed. 
 
1036 
 
 FEDERAL INCOME TAX 
 
 and if in excess of such tax as above computed, such excess will 
 be credited or refunded to the taxpayer.s^ 
 
 Fiscal Year Ending in 1922. Except in the case of a personal 
 service corporation the Revenue Act of 1921 makes provision 
 for the case of a corporation making a return for a fiscal year 
 ending in 1922 for the reason that the excess-profits tax is 
 repealed as of December 31, 1921. The war-profits and excess- 
 profits taxes for the portion of such fiscal year falling within 
 the calendar year 1921 consists of an amount equivalent to the 
 same proportion of the tax for the entire period computed under 
 Title III of the Revenue Act of 1921 which the portion of such 
 period falling within the calendar year 1921 is of the entire 
 period.88 
 
 Corporations Deriving Income From Government Contracts. 
 
 For the taxable year 1919, and each taxable year thereafter, 
 the rates to be applied to corporations which derive in such 
 year a net income of more than $10,000 from any government 
 contract or contracts made between April 6, 1917, and November 
 11, 1918, both dates inclusive, are determined as follows: (1) the 
 tax will be computed at the 1918 rates on the entire net income 
 of the corporation, in the computation of which the excess-profits 
 credit and war-profits credit applicable to the taxable year s^ will 
 be used, and (2) the tax will also be computed on the entire net 
 income of the taxable year at the 1919 rates. The sum of (a) 
 such portion of the tax computed under (1) as the net income 
 attributable to such government contract or contracts bears to 
 the entire net income and (b) such portion of the tax com- 
 puted under (2) as the part of net income not attributable to 
 such government contract or contracts bears to the entire in- 
 come will be the amount to be paid by the corporation.^" The 
 method of computing the tax is illustrated below .^^ In the case 
 of a fiscal year corporation this computation should be based 
 
 87 Revenue Act of 1921, §335 (a). This provision is in accordance 
 with the principles governing computation of taxes in the case of a cor- 
 poration with a fiscal year ending in 1918 and in 1919 (See Revenue Act 
 of 1918, §335). 
 
 88 Revenue Act of 1921, §335 (b). Since personal service corporations 
 are exempt from excess-profits tax of the year 1921, and are abolished as 
 of the end of that year, no provision is necessary for the computation of 
 the tax of personal service corporations with fiscal years ending in 1922. 
 
 89 0. D. 378, T. B. 3-20-695. 
 
 90 Revenue Act of 1918, §301 (c) ; Revenue Act of 1921, §301 (b). 
 See p. 1030 for rule as to allocation of income. 
 
 91 See illustration No. 4, appendix to 1920 edition. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1037 
 
 on the entire net income for the fiscal year even though no part 
 of the income from government contracts was derived after Jan- 
 uary 1, 1919. It is a fundamental principle that no adjustment 
 will be made even though it can be definitely shown what pro- 
 portion of the' income was derived during each portion of the 
 fiscal year.92 If a corporation has a net income from a govern- 
 ment contract and sustains a net loss from other operations, 
 in the submission of a fiscal year return for a period ending 
 in 1919 the loss may be deducted from the income from the 
 government contract.^^ 
 
 Maximum Limit of Tax, The Eevenue Act of 1918 for the 
 first time fixes a maximum limit of tax. In no case will the tax 
 imposed on the net income for the taxable year 1919 or subse- 
 quent years, be more than 20% of the amount of net income 
 in excess of $3,000 and not in excess of $20,000, plus 40% of 
 the amount of net income in excess of $20,000. On income of 
 the year 1918 the maximum was 30% of the amount of net 
 income in excess of $3,000 and not in excess of $20,000, plus 
 80% of the amount of net income in excess of $20,000. In the 
 case of corporations deriving more than $10,000 of net income 
 from government contracts in 1919 or subsequent years, these 
 limits will apply to the respective amounts of tax computed 
 under the 1918 and 1919 rates, by reason of the provision tax- 
 ing 1919 income from government contracts at 1918 rates. 
 Thus, on that part of the net income derived from government 
 contracts the maximum limit of 30% and 80% will apply while 
 to that not derived from government contracts the maximum 
 limit of 20% and 40% will apply. This limit is not intended 
 to increase the tax but to reduce it in cases where the tax 
 calculated in the ordinary manner is greater than the maxi- 
 mum computed according to the rule stated in this paragraph.^* 
 The limitation will generally operate only in the case of corpo- 
 rations with very small invested capital.^^ It is applied to the 
 
 92 T. B. M. 4, T. B. 1-19-113. 
 
 93 A. R. M. 5, T. B. 26-19-620. 
 
 94 Revenue Act of 1918, §302; Revenue Act of 1921, §302. See illus- 
 tration in Art. 733 of Reg. 45, as amended by T. D. 3245, T. B. 48-21-1953. 
 In calculating this maximum limit it is to be noted that foreign corporations 
 receive the benefit of a specific exemption of $3,000, even though they are 
 not accorded such exemption ordinarily (Revenue Act of 1918, §312; O. 
 D. 402, T. B. 6-20-735). This conclusion is rendered inescapable by the 
 use of the words "in no case'' in § 302. 
 
 95 An invested capital of less than $71,428.58. 
 
1038 FEDERAL INCOME TAX 
 
 consolidated net income of affiliated corporations and may not 
 be construed to apply separately to the net income of each unit 
 included in the return.s^ 
 
 Limitation When Return for Fractional Part of Year. 
 When a return is rendered for a fractional part of a year, the 
 limitation is to be computed in the same manner as if the period 
 covered by the return were a full taxable year.^'^ 
 
 Sale of Mines, Oil or Gas Wells^ In the case of a bona fide 
 sale of mines, oil or gas wells, or any interest therein, where 
 the principal value of the property has been demonstrated by 
 prospecting or exploration and discovery work done by the tax- 
 payer, the portion of the war-profits and excess-profits tax at- 
 tributable to such sale cannot exceed 20% of the selling price of 
 such property or interest.^^ To apply this provision to a par- 
 ticular case the corporation should compute the war-profits 
 and excess-profits taxes in the ordinary way upon its net in- 
 come, including its net income from any such sale. The pro- 
 portion of the total tax indicated by the ratio which the tax- 
 payer's net income from the sale of the property, allocated to 
 such source by the proper method,^^ bears to its total net 
 income is the portion of the tax attributable to such sale, and 
 if it exceeds 20% of the selling price of the property, such 
 portion of the tax will be reduced to 20 % of such selling price.^"" 
 The fact that a company is entitled to the benefit of this 
 limitation will not disqualify it for special assessment by refer- 
 ence to representative corporations,^"^ neither can the fact that 
 it is entitled to the benefit of the limitation be used as a basis 
 for claiming special assessment. If a corporation falls within 
 the class specified in the statute as being entitled to special 
 assessment, the tax will be determined by this method. The 
 
 96 0. D. 80, T. B. 1-19-115. 
 
 97 Reg. 45, Arts. 732, 733, as amended by T. D. 3245, T. B. 48-21-1953. 
 The latter article gives an illustration of this computation. 
 
 98 Revenue Act of 1921, §337; Revenue Act of 1918, §337. This limi- 
 tation cannot be applied to the assessment of 1917 taxes (T. B. M. 60, 
 T. B. 15-19-454). 
 
 99 See Reg. 45, Art. 715. See p. 1030. 
 
 100 Reg. 45, Art. 971. See illustration No. 7, appendix to 1920 edition. 
 It will be noted that the government ruling requires the total tax to be 
 apportioned for the purpose of applying the limitation. The statute pro- 
 vides that the "portion" of the tax attributable to such sale shall not 
 exceed 20% of the selling price, and the difference between the amount of 
 tax computed on the total income and the amount computed on the income 
 excluding the profit on the sale seems intended by the law to be the amount 
 which shall not exceed 20% of the selling price. 
 
 101 See Revenue Acts of 1918 and 1921, §§ 327-8. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1039 
 
 effect of the limitation is to limit the amount of tajf attributable 
 to the profit made on the sale of mines, oil and gas wells dis- 
 covered by the taxpayer and can only be applied after the tax 
 computed on such profit has been computed without the bene- 
 fit of this provision.102 
 
 Invested Capital for 1917. The invested capital of a tax- 
 payer for 1917 was determined in large part in the same man- 
 ner as invested capital for 1918, as outlined in the paragraphs 
 following. Where differences as to the method of computing 
 invested capital existed, they are pointed out in connection with 
 the statement of the 1918 rule.ios The chief difference between 
 the two statutes was occasioned by the fact that the 1917 Law 
 taxed individuals and partnerships while the 1918 Law and the 
 present law does not. The invested capital of partnerships was 
 computed, however, under the 1917 Law under the same regula- 
 tions which governed the computation of the invested capital 
 of corporations.!"* Rulings particularly applicable to the com- 
 putation of invested capital of individuals under the 1917 Law 
 are indicated below. 
 
 The invested capital of individuals consisted of the total of: 
 (1) actual cash paid into the trade or business; (2) tangible 
 property paid into the trade or business, and (3) intangible 
 property paid into the trade or business.i"^ Subject to the mak- 
 ing of an adequate allowance for depreciation, obsolescence and 
 depletion, tangible property was valued according to the follow- 
 ing rules: 
 
 In the case of tangible property purchased with cash, the 
 valuation will be based upon the cost (estimated if not known) 
 in cash at the time purchased. 
 
 In the case of tangible property paid in as such prior to Janu- 
 ary 1, 1914, the valuation will be based upon its actual cash 
 value as of that date. Adequate evidence of such value must 
 be furnished by the taxpayer. 
 
 102 O. D. 395, T. B. 5-20-723; T. B. M. 60, t. B. 15'19-454. 
 
 103 Cf . Revenue Act of 1918, § 326 ; Revenue Act of 1917, § 207. 
 
 104 Reg. 41, Arts. 53, 65. See Revenue Act of 1917, § 207. It has been 
 held under the Revenue Act of 1917 that stocks owned by Individual part- 
 ners could not be recognized as invested capital of the partnership even 
 though purchased from profits distributed by the partnership and pur- 
 chased for the purpose of advancing the interests of the partnership. 
 (A. R. R. 17, T. B. 3-20-696; A. R. R. 619, T. B. 39-21-1848.) 
 
 105 Reg. 41, Art. 66. 
 
1040 FEDERAL INCOME TAX 
 
 In the case of tangible property paid in on or after January 
 1, 1914, the valuation will be based upon its actual cash value 
 at the time of payment-^^s 
 
 The 20 7o limitation based upon capital was, of course, not 
 applied to individuals in the case of intangible property. Such 
 property might be included in invested capital at a value not 
 exceeding the cash paid therefor, or the cash value at the time 
 of payment of tangible property paid therefor, but only if 
 bona fide payment was specifically made therefor.io'^ 
 
 Profits earned during the taxable year might be included in 
 the invested capital of individuals, and were deemed to have 
 arisen ratably throughout the year. The capital at the begin- 
 ning of the year was increased by the total amount of such 
 profits remaining in the trade or business averaged monthly 
 over the year.^o^ 
 
 Where an individual kept books of account, his invested capital 
 was found in his capital account (under whatever name it might 
 be called) after making therein any required adjustments or 
 corrections, provided the assets other than those not allowed 
 to be included equaled or exceeded the amount of such capital 
 account. Otherwise the invested capital was the amount of 
 such assets. 
 
 Where an individual did not keep books of account he was 
 required to prepare and preserve a statement as at the begin- 
 ning of the taxable year and as at the end of the taxable year, 
 showing in full all his assets valued in accordance with the rules 
 stated above, and all his liabilities. The excess of such assets 
 over such liabilities at the beginning of the year and again at 
 the end of the year constituted the invested capital of the indi- 
 vidual on those dates, respectively, provided that in each case the 
 assets other than those not allowed to be included equaled or ex- 
 ceeded the amount of such excess. Otherwise, the invested capi- 
 tal was the amount of such assets. The amount of the difference 
 between the capital thus shown as at the beginning of the year 
 and at the end of the year, in the absence of evidence to the 
 contrary, was deemed to have arisen ratably throughout the 
 year, and the capital at the beginning of the year was increased 
 
 106 Reg. 41, Art. 67. The presumption was that tangible assets employed 
 in the trade or business were acquired with cash derived from earnings, 
 but the taxpayer was entitled to show that such assets were paid in as 
 tangible property. 
 
 107 Reg. 41, Art. 68. 
 lOSReg. 41, Art. 69. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1041 
 
 or decreased, as the case might be, by such amount averaged 
 monthly over the year. 
 
 If an individual was engaged in more than one trade or busi- 
 ness having invested capital, then his invested capital for the 
 purposes of computing the deduction and applying the rates 
 of taxation was determined by taking the total invested capital 
 of all such trades or businesses.^o^ 
 
 Value of Property as of January 1, 1914. Under the 1917 
 Law the value of tangible property as of January 1, 1914, could 
 be taken in the case where such property had been paid in for 
 stock or shares prior to that date, but not in excess of the par 
 value of the stock or shares. No such provision appears in the 
 1918 Law and the value must in all cases be determined as of the 
 time of acquisition.!!" 
 
 Invested Capital for 1918, 1919, 1920 and 1921.i" "Invested 
 capital" is the value of the capital and surplus of the taxpayer 
 determined in accordance with rules laid down in the statute. 
 It does not mean the par value of the issued and outstanding 
 stock or the value of the capital stock as fixed by the treasury 
 department for the purpose of the capital stock tax. It does 
 not mean the book value of the assets, or the present net worth 
 of the assets as shown by an appraisal or in any other manner.^^^ 
 Generally speaking, it means the amount of cash or the cash 
 value of the property contributed to the corporation by the stock- 
 holders and the amount of earnings of the, corporation which 
 have been left in the business. Money or other property bor- 
 rowed is not invested capital.!!^ The cash value of the prop- 
 erty contributed by the stockholders to the corporation may in 
 some cases exceed the value allowed by the law for purposes of 
 invested capital, since the restrictive rules of the statute limit 
 the inclusion in invested capital of capital stock representing 
 intangible property. Further, capital may be contributed to the 
 business of a corporation in a form originally permitting its in- 
 clusion in invested capital at its full value (cash, for instance) 
 
 109 Reg. 41, Art. 70. The terms "assets" and "liabilities", as used above, 
 related only to assets or liabilities of the trade or business. 
 
 110 Cf . Revenue Act of 1917, § 207 and Revenue Act of 1918, § 326. See 
 Reg. 41, Art. 55; 0. D. 89, T. B. 1-19-128; A. R. R. 376, T. B. 5-21-1423; 
 A. R. R. 337, T. B. 50-20-1347; 0. D. 1097, T. B. 45-21-1916. 
 
 111 As to affiliated corporations see p. 1132. 
 
 112 Reg. 45, Art. 831. See La Belle Iron Works v. U. S.', 41 Sup. Ct. 
 Rep. 528, 65 L. Ed. 604; T. B. 23-21-1680. This case is fully reviewed on 
 p. 1087. See also Reg. 41, Art. 42. 
 
 113 Reg. 45, Art. 831. 
 
1042 FEDERAL INCOME TAX 
 
 but may lose some of its value for purposes of invested capital 
 by being invested in stocks of other corporations (the dividends 
 of which are not included in net income) ^i* or by being invested 
 in state, municipal or other bonds, the interest on which is 
 exempt from income tax. In this respect the law makes an 
 exception of bonds or other obligations of the United States, 
 which may be included in invested capital although the inter- 
 est therefrom may in some cases be excluded from gross 
 income.115 Surplus and undivided profits are recognized as part 
 of invested capital, if they represent assets actually existing 
 and owned by the corporation.ii^ Rentals on the property of a 
 corporation charged while the property is used for construction 
 work of the corporation are mere bookkeeping entries and may 
 not be included in invested capital.^^'^ 
 
 The amount of taxes withheld at the source to be later paid 
 over to the government is not an asset of the withholding 
 agent and cannot be included in invested capital.iis The surplus 
 and undivided profits accounts may be reduced below the 
 amounts at which they are carried on the books, if full recogni- 
 tion has not been given by the corporation to expenses incurred 
 and losses sustained from the original organization down to 
 the taxable year, including among such expenses and losses 
 a reasonable allowance for depletion, depreciation or obsolescence 
 of property originally acquired for cash or stock, or in any other 
 manner. The value of the assets of th# company are required 
 in all instances to be taken as of the time of acquisition, although 
 they may have increased in value since that date. 
 
 In a case in which the charter of a Georgia corporation ex- 
 pired by limitation and some time after its expiration, the fact 
 being called to the stockholders' attention, a new corporation 
 was organized, which new corporation issued new shares of 
 capital stock in exchange for all the property and assets and all 
 the interest of the stockholders in the old company, it has 
 been held under the Georgia statutes that for purposes of in- 
 
 114 Reg. 45, Art. 815. 
 
 115 The purpose of permitting- bonds of the United States to be included 
 in invested capital, although the interest may be excluded in whole or in 
 part from gross income, is to provide an incentive to invest in and hold 
 such bonds. 
 
 118 Reg. 41, Art. 42. A corporation may not report its income on a cash 
 receipts and disbursements basis and compute its invested capital on an 
 accrual basis (0. D. 1007, T. B. 34-21-1787). 
 
 UTO. D. 811, T. B. 7-21-1453; O. D. 1061, T. B. 41-21-1862. 
 
 118 O. D. 202, T. B. 9-19-350. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1043 
 
 vested capital a new and distinct corporation was created, the 
 invested capital of which should be computed accordingly.ii^ 
 
 The fair market value of the assets as of March 1, 1913, has 
 no bearing on invested capital.i^o if values have been marked 
 up on the books of the corporation a deduction must be made 
 in respect of such book appreciation. Full effect must also be 
 given to any liquidation of original capital at any time prior 
 to or during the taxable year.i^i in the case of a reorganization, 
 consolidation or change of ownership of a trade or business 
 after January 1, 1911, the invested capital of the predecessor 
 for the prewar period is deemed to be the invested capital for 
 such period of the new organization now engaged in the busi- 
 ness. In the case of a reorganization, consolidation or change 
 of ownership of a trade or business, or change of ownership of 
 property after March 3, 1917 (if 50% or more of the interest or 
 control remains in the same persons), the assets so transferred 
 will not be allowed a higher valuation in determining invested 
 capital than under the previous ownership. If the previous 
 owner was not a corporation, the value of the assets in the 
 hands of the present owner will be taken at the cost to the 
 previous owner when acquired by him. The law contemplates 
 that the invested capital shall be the average amount employed 
 for a full year and if a corporation makes a return for a period 
 less than twelve months the invested capital must be prorated 
 accordingly. Thus although a corporation actually had an in- 
 vested capital of $100,000 and was in existence for six months 
 of the year 1918, for the purpose of this tax its invested capital 
 would be considered as being only $50,000.1^2 with respect to 
 the value to be placed upon the several classes of assets of a 
 corporation, such assets are divided into three clasess: (1) cash 
 
 119 A. R. R. 268, T. B. 41-20-1238. See Terry v. Merchants & P. Bk., 
 66 Ga. 177; Logan v. W. A. R. Co., 87 Ga. 533, 13 S. E. 516; Bertram v. 
 Collins Mfg. Co., 69 Ga. 751; Rau v. Union Paper Mill Co., 95 Ga. 208, 22 
 S. E. 146; Venable v. Southern Granite Co., 135 Ga. 508, 69 S. E. 822; 
 Stearns Coal Co. v. Van Winkle, 221 Fed. 590; Pewabic Min. Co. v. Mason, 
 145 U. S. 349, 12 Sup. Ct. 887. 
 
 120 Reg. 45, Art. 831. 
 
 121 See Reg. 41, Art. 42. 
 
 122 See letter from treasury department dated March 20, 1918; W. T. 
 S. 1919, H 764. This amounts to an assumption that if the corporation 
 had been in business for the full year it would have earned twice the amount 
 it did during the six months period. If it can be shown that by the very 
 nature of its business no more income would have been earned had the cor- 
 poration been in existence for the full year, it would seem that the case 
 is one for remedial action under § 327. See p. 1116. 
 
1044 FEDERAL INCOME TAX 
 
 paid in ; (2) tangible property paid in, and (3) intangible prop- 
 erty paid in. Regardless of the character of the asset when paid 
 in a further distinction is made with respect to the character of 
 the asset during the taxable year. For this purpose the assets 
 are divided into two classes: (1) admissible assets, and (2) inad- 
 missible assets. The several classes and the adjustments re- 
 quired to be made with respect to each and to all as a whole 
 are discussed in the following paragraphs. 
 
 No Par Value Stock. The par value of stock or shares 
 in the case of stock or shares issued at a nominal value or 
 having no par value is deemed to be the fair market value as 
 of the date said stock or shares are issued.^^s 
 
 Cash Paid In. The amount of cash paid to a corporation in 
 exchange for its stock is invested capital and remains such 
 whether used for the purpose of acquiring tangible or intangible 
 property .124 Amounts paid in for stock become invested capital 
 when the cash is actually received and not when stock, which 
 is paid for in installments, is issued.^^s Thus, if the stock- 
 holders of a corporation have actually and in good faith paid in 
 cash for its stock, such cash may be used to purchase good will, 
 patents, copyrights, trade-marks or trade brands, and the intan- 
 gible assets so acquired may be included in invested capital to 
 the extent of their cost. It is only when such intangible assets 
 are acquired in exchange for stock that the restrictive provi- 
 sions of the statute limiting the amount of intangible assets 
 which may be included in invested capital apply. If, however, 
 the cash is used to acquire inadmissible assets, the invested 
 capital will be reduced accordingly. But if the vendors of the 
 property retain an interest or control of 50% or more in the 
 property and it was transferred after March 3, 1917, the value 
 for invested capital is limited as indicated below, whether the 
 property is tangible or intangible.i^s 
 
 Stock Sold at a Discount — Brokers' Commissions. 
 Reasonable commissions or other forms of compensation law- 
 fully paid by the corporation for the sale of its capital stock 
 are not to be deducted in computing invested capital.^^T 
 
 123 Revenue Acts of 1918 and 1921, § 325. The same principle has been 
 followed under the 1917 Law (T. B. R. 38, T. B. 11-19-390; A. R. R. 520, 
 T. B. 44-21-1893). See O. D. 348, T. B. 30-19-644. 
 
 124 Revenue Acts of 1918 and 1921, §326 (a). 
 
 125 O. D. 991, T. B. 32-21-1765. 
 
 126 See Revenue Acts of 1918 and 1921, § 331. See p. 1053. 
 
 127 T. B. R. 4, T. B. 11-19-391 overruling a letter from the Treasury 
 Department dated April 14, 1919; W. T. S. 1919, 1| 1041. This rule is a 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1045 
 
 Bonus Stock. Capital stock issued as a bonus in con- 
 nection with the sale of a corporation's bonds may not be 
 included in invested capital, unless the corporation proves to the 
 satisfaction of the Commissioner that such stock bonus enabled 
 the corporation to secure a higher price for the bonds than it 
 could otherwise have secured. Whenever this fact is estab- 
 lished, bonus stock may be included in invested capital to the 
 extent of the difference between the selling price of the bonds 
 and the price at which they could have been sold if issued with- 
 out such stock bonus. The excess of the face value of such bonds 
 over the price at which they could have been sold if issued with- 
 out the stock bonus is deemed discount and is subject to 
 amortization.128 
 
 Stock Issued for Services. Shares of stock distributed 
 by a corporation to its employees in payment of services ren- 
 dered, where the amount is not excessive, may be included in 
 invested capital to the extent of the actual cash value of the 
 services rendered.^^^ 
 
 Tangible Property Paid In. When stock or shares have been 
 issued for tangible property, the actual cash value of the tangi- 
 ble property at the time it is paid in becomes invested capital.^^o 
 If the actual cash value of such tangible property exceeds the 
 par value of the stock issued therefor,i3i the excess over the par 
 value may be treated as paid-in surplus, provided it is shown 
 to the satisfaction of the Commissioner that the value of the 
 property was clearly and substantially in excess of the par 
 value of the stock. Evidence offered to support a claim for a 
 paid-in surplus must be as of the date of the payment, and 
 may consist among other things of (a) an appraisal of the 
 property by disinterested authorities made on or about the 
 
 corollary of the rule that such commissions may not be deducted in com- 
 puting net income. See Chapter 22. 
 
 128 Reg. 45, Art. 832. 
 
 129 O. D. 248, T. B. 13-19-431. 
 
 130 While the fact that a company may have defective accounting records, 
 and can not accurately compute its invested capital, may under certain 
 circumstances justify an assessment under § 210 of the Revenue Act of 
 1917, or § 328 of the Revenue Acts of 1918 and 1921, it does not permit 
 valuation of assets as at a time subsequent to the date on which they were 
 paid in for stock for computing invested capital. The assets of a cor- 
 poration can not be valued as of March 1, 1913, for the purpose of com- 
 puting invested capital. (T. B. M. 57, T. B. 14-19-440.) 
 
 131 The par value of stock or shares, in the case of stock or shares issued 
 at a nominal value or having no par value, is deemed to be the fair market 
 value as of the date such stock or shares are issued (Revenue Acts of 
 1918 and 1921, §325). 
 
1046 FEDERAL INCOME TAX 
 
 date of the transaction; (b) certification of the assessed value 
 in the case of real estate; and (c) proof of a market price in 
 excess of the par value of the stock or shares. The additional 
 value allowed in any case is confined to the value definitely 
 known or accurately ascertainable at the time of the payment. 
 No claim will be allowed for a paid-in surplus in a case in 
 which the additional value has been developed or ascertained 
 subsequently to the date on which the property was paid in to 
 the corporation, or in respect of property which the stock- 
 holders or their agents on or shortly before the date of such 
 payment acquired at a bargain price, as for instance, at a re- 
 ceiver's sale. Generally, allowable claims of this character 
 will arise out of transactions in which there has been no sub- 
 stantial change of beneficial interest in the property paid in to 
 the corporation, and in all cases the proof of value must be 
 clear and explicit.^^^ j^ j^gg^j jjot consist of an appraisal made on 
 the date of acquisition, but the evidence must be "as of" that 
 date, that is, in the light only of knowledge or facts ascertainable 
 on that date and not in the light of subsequent happenings.^^s 
 The following rulings have also been made as to the extent to 
 which a paid-in surplus may be claimed: 
 
 (1) Where a corporation is one of the parties to a contract, 
 it cannot be held to be paid-in surplus. Contracts which may 
 be regarded as tangible assets can only constitute paid-in sur- 
 
 132 Reg. 45, Art. 836; A. R. R. 390, T. B. 9-21-1487. In 1917 the rule 
 was: Where it can be shown by evidence satisfactory to the Commissioner 
 that tangible property has been conveyed to a corporation or partnership 
 by gift or at a value, accurately ascertainable or definitely known as at 
 the date of conveyance, clearly and substantially in excess of the cash or 
 the par value of the stock or shares paid therefor, then the amount of the 
 excess shall be deemed to be paid-in surplus. The adopted value shall 
 not cover mineral deposits or other properties discovered or developed 
 after the date of conveyance, but shall be confined to the value accurately 
 ascertainable or definitely known at that time. Evidence tending to sup- 
 port a claim for a paid-in surplus under these circumstances must be as 
 of the date of conveyance, and may consist, among other things, of (1) 
 an appraisal of the property by disinterested authorities, (2) the assessed 
 value in the case of real estate, and (3) the market price in excess of the 
 par value of the stock or shares. (Reg. 41, Art. 63. See A. R. R. 161, 
 T. B. 28-20-1064.) This ruling was supported by the language of the 
 1917 Law (§207 (a)) which permitted the inclusion of "the actual cash 
 value of tangible property paid in * * * at the time of such payment." 
 133 A. R. R. 161, T. B. 28-20-1064. It may not be reached by the empirical 
 process of adjusting values reached several years later (A. R. R. 358, T. 
 B. 2-21-1393). See Chapter 17 for a full discussion of the valuation of 
 property. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1047 
 
 plus, if they were made between outside parties and the rights 
 of either of the parties is then transferred to a corporation 
 without adequate consideration.^^* 
 
 (2) Where bondholders purchased at a foreclosure sale the 
 property covered by the mortgage securing the bonds, and then 
 transferred the property to a new corporation in exchange for 
 its total authorized stock issue, the invested capital of the new 
 corporation will be the value of the property as of the date of 
 transfer to the corporation.i^^ 
 
 (3) Where a corporation exchanges its stock for the assets 
 of a partnership, which are greatly in excess of the par value of 
 the stock, and there is no written obligation to the partners as 
 to the payment of the excess, the taxpayer is entitled to submit 
 evidence in support of a claim for paid-in surplus; however, if 
 the corporation is obligated to the partners for any portion of 
 the excess, a claim can not be sustained.^^^ 
 
 (4) Where a corporation purchases for its own stock the 
 property of another corporation (through a purchase of capital 
 stock furthered by a merger) at a bargain as shown by an 
 appraisal, it may not include the excess of the value over 
 the purchase price in invested capital as paid-in surplus. Paid-in 
 surplus does not contemplate an excess value of property pur- 
 chased in a bona fide sale over the purchase price thereof.^^^ 
 
 (5) A paid-in surplus may consist of claims against a corpora- 
 tion owed to and cancelled by creditor stockholders.i^s 
 
 Record to Be Kept. The Commissioner is required to keep 
 a record of all cases in which tangible property is included in 
 invested capital at a value in excess of the par value of the 
 stock issued therefor, containing (a) the name and address of 
 the taxpayer; (b) the business in which it is engaged; (c) the 
 amount of invested capital and net income shown by the re- 
 turn; (d) the value of the tangible property at the time it was 
 paid in ; (e) the par value of the stock specifically issued there- 
 for, and (f) the amount included as paid-in surplus. He is 
 also required to furnish a copy of such record and other detailed 
 information with respect to such cases when required by resolu- 
 tion of either House of Congress without regard to the restric- 
 
 134 A. E. R. 233, T. B. 40-20-1227. 
 
 135 T. B. R. 32, T. B. 8-19-334. 
 
 136 0. D. 249, T. B. 13-19-432. 
 
 137 0. D. 813, T. B. 7-21-1457. 
 
 138 A. R. R. 678, T. B. 47-21-1936. 
 
1048 FEDERAL INCOME TAX 
 
 tions ordinarily imposed on him with respect to making public 
 the contents of tax returns.i^a 
 
 Definition of Tangible Property. The term "tangible prop- 
 erty" means stocks, bonds, notes and other evidences of indebted- 
 ness, bills and accounts receivable, leaseholds, and other prop- 
 erty other than intangible property."" A contract may be 
 treated as tangible property only after the submission of a 
 full statement as to its exact nature showing to the satis- 
 faction of the Commissioner that it relates to rights in tangible 
 property to such an extent that its value arises chiefly there- 
 from.i« 
 
 Evidences of Indebtedness. Enforceable notes or other 
 evidences of indebtedness, either interest bearing or non-inter- 
 est bearing, of the subscriber received by a corporation upon a 
 subscription for stock may be considered as tangible property 
 in computing its invested capital to the extent of the actual 
 cash value of such notes or other evidences of indebtedness at 
 the time when paid in, but only (a) if such notes or evidences 
 of indebtedness could under the laws of the jurisdiction in 
 which the corporation was organized legally be received in pay- 
 ment for stock, and (b) if they were actually received by the 
 corporation as absolute, and not as conditional, payment in 
 whole or in part of the stock subscription.i*^ Notes received 
 from employees in payment of stock, title to which will re- 
 vert to the corporation if the employee severs his connection 
 with the corporation and to be paid out of earnings accruing 
 on stock for which they are ostensibly given, while tangible 
 property in a strict sense, add nothing to the resources of 
 the corporation and are not "bona fide paid in" within the 
 meaning of the statute. Even if an increase in working capi- 
 tal were achieved by the discounting of or borrowing on such 
 notes, such increased capital would constitute borrowed capital 
 which may not be included in invested capital.i*^ Stock sub- 
 scribed for by employees under an agreement permitting pay- 
 ments in cash, part cash and part deferred payments, or all 
 deferred payments, subject to conditions that payment of sub- 
 
 139 Revenue Acts of 1918 and 1921, § 326 (a). 
 
 140 Revenue Acts of 1918 and 1921, §325 (a). The 1917 Law contained 
 no definition of tangible property, but the treasury department held that 
 the term included stocks, bonds, bills and accounts receivable, notes and 
 other evidence of indebtedness and leaseholds. (Reg. 41, Art. 47.) 
 
 141 Reg. 45, Art. 811. 
 
 142 Reg. 45, Art. 833. 
 
 143 S. 1391, T. B. 22-20-980. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1049 
 
 scriptions should be in weekly installments; that deferred 
 payment should bear interest; and that the agreement might 
 be canceled either upon request of the employee, failure to 
 make payments, any attempt of the purchaser to sell his stock 
 or agreement, or resignation or dismissal of the employee prior 
 to the expiration of five years ; in the event of any cancellation 
 the employee to receive the full amount of all payments with 
 interest, and, dependent upon the time held more than one 
 year, certain percentages of the difference between the sub- 
 scription and market price of the stock; dividends to be 
 credited to the subscriber's account as additional payments, 
 except in case of cancellation, in which case the subscriber 
 incurs no charge for interest upon deferred payments may be 
 recognized as invested capital only in so far as the subscription 
 payments have been actually received by the company .1** 
 
 Intangible Property. Intangible property may be included in 
 invested capital, when it has been acquired by direct purchase, 
 at a value not in excess of the cash or the value of the tangible 
 property specifically paid therefor.i^^ n j^ay be included in in- 
 vested capital only to the extent permitted by the rules set forth 
 in the following paragraphs, if paid for with stock or shares. 
 Good will cannot be allowed as invested capital under a claim 
 that a price paid to stockholders was in excess of the corporate 
 book value of the stock, because such price was incident to a 
 collateral transaction.i*^ Earned surplus once acquired may be 
 expended for intangible property without being subject to any 
 limitation upon its inclusion in invested capital, provided the 
 expenditure is properly capitalized. Thus, it has been held in 
 the case of taxpayers engaged in the publication of news- 
 papers, that moneys expended out of earned surplus or current 
 earnings for the sole purpose of building up the circulation 
 structure may be added to capital invested when proper proof 
 of such expenditures is made and amended returns for prior 
 years have been filed, and that the circulation structure so 
 built up is intangible property .i*''^ 
 
 Definition. The term "intangible property means patents, 
 copyrights, secret processes and formulae, good will, trade- 
 
 144 A. R. R. 10, T. B. 1-20-664. 
 
 145 See Reg. 41, Art. 6J). 
 
 146 A. R. R. 413, T. B. 10-21-1502. 
 
 147 A. R. M. 141, T. B. 47-21-1937. See also A. R. R. 611, T. B. 32-21- 
 1766. 
 
1050 FEDERAL INCOME TAX 
 
 marks, trade brands, franchises and other like property."^ 
 Most contracts are intangible property and in the absence of 
 a specific ruling by the Commissioner to the contrary should be 
 so regarded. Contracts relating to or representing rights in 
 tangible property are regarded as tangible property "^ but only if 
 bona fide paid in for stock or shares.i^o An unperformed con- 
 tract to furnish manufactured products represents no rights in 
 tangible property which would entitle it to be regarded as de- 
 riving its value chiefly therefrom. On the contrary, the value 
 of the contract is of an intangible nature, contingent upon the 
 performance of its terms and the realization of the anticipated 
 profit.i^i Associated Press, and similar franchises, and sub- 
 scription lists and mailing lists are intangible property.i^z The 
 actual cash value of intangible property paid in for stock or 
 shares must be determined in the light of the facts in each 
 case.153 Among the factors to be considered are (a) the earn- 
 ings attributable to such intangible assets while in the hands 
 of the predecessor owner; (b) the earnings of the corpora- 
 tion attributable to the intangible assets after the date of their 
 acquisition; (c) representative sales of the stock of the cor- 
 poration at or about the date of the acquisition of the intangible 
 assets; and (d) any cash offers for the purchase of the busi- 
 ness, including the intangible property, at or about the time of 
 
 148 Revenue Acts of 1918 and 1921, §325 (a); A. R. R. 29, T. B. 9-20- 
 776. In the 1917 Law patents were not defined as intangible property. 
 (Revenue Act of 1917, § 207.) Under the 1917 Law the term "other in- 
 tangible property" as used in § 207 was construed to mean property of 
 a character similar to good will, trade-marks and the other specific kinds 
 of property enumerated in the same clause. Property not clearly of such 
 character might be held to be tangible within the meaning of the law. 
 (Reg. 41, Art. 47.) Patents had a status intermediate between tangible 
 and intangible property. (Reg. 41, Art. 56; T. B. M. 17, T. B. 3-19-208.) 
 When acquired for stock their values must be determined in the light of 
 their cost to incorporators just prior to incorporation (A. R. R. 396, T. 
 B. 8-21-1471). It was held that patentable ideas and formulas — embryo 
 patents — should be treated as patents already secured in A. R. R. 328, 
 T. B. 48-20-1329. 
 
 149 Reg. 45, Art. 811. 
 
 150 O. D. 306, T. B. 24-19-578. 
 
 151 0. D. 635, T. B. 33-20-1140. In the case stated in this decision 
 there would seem to have been a mixed aggregate of tangible and intangi- 
 ble property within the meaning of § 327. 
 
 152 Reg. 45, Art. 811. 
 
 153 See Chapter 17 for a full discussion of the valuation of intangible 
 property. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1051 
 
 its acquisition. A corporation claiming a value for intangible 
 property paid in for stock or shares should file with its return 
 a full statement of the facts relating to such valuation.i^* 
 
 It has been held that where a corporation controlled by a 
 few individuals uses part of its profits to pay notes of its prin- 
 cipal stockholders previously given as part of the purchase 
 price of the stock of retiring stockholders, the amount of which 
 notes being equal to the excess of the agreed price of such 
 stock over its par or book value, such is not payment made 
 bona fide specifically as such in cash or tangible property for 
 good will or other intangible property, even though the retiring 
 stockholders had in the contract of sale of stock agreed tb re- 
 frain from entering into the business conducted by the corpora- 
 tion for a specified number of years.^^^ In cases where stock has 
 been issued for intangible property the following rules apply: 
 
 Intangible Property Paid in Prior to March 3, 1917. 
 Where intangible property was paid in prior to March 3, 1917, 
 such intangible property becomes invested capital in an amount 
 not exceeding (a) the actual cash value of the property at the 
 time paid in, (b) the par value of the stock or shares issued 
 therefor ^°^ or (c) in the aggregate 25 % of the par value of the 
 total stock or shares of the corporation outstanding on March 
 3, 1917,^5'^ Whichever is the lowest.^^^ 
 
 154 See Reg. 45, Art. 851. See Chapter 17. 
 
 155 In its recommendation the committee referred to the definitions of 
 the term good will contained in the following cases : Boon v. Moss, 70 N. Y. 
 465; Lane v. Smythe, 46 N. J. Eq. 443, 19 Atl. 199; Crutwell v. Lye, 17 
 Ves. Jr. 335; Dodge Stationery Co. v. Dodge, 145 Cal. 380, 78 Pac. 879. 
 
 136 Xhe par value of stock or shares in the case of stock or shares issued 
 at a nominal value or having no par value, is deemed to be the fair market 
 value as of the date such stock or shares are issued. (Revenue Acts of 
 1918 and 1921, §325.) 
 
 157 Under the 1917 Law it was held that tangible property bona fide 
 purchased prior to March 3, 1917, with stock having no par value could be 
 included in invested capital at a value not exceeding the actual cash value 
 of such intangible property at the time of the purchase or in an amount 
 not exceeding 20% of the total shares of stock outstanding on March 3, 
 1917, measured by their value as at the date or dates of issue. (Reg. 41, 
 Arts. 57, 58.) 
 
 158 Revenue Acts of 1918 and 1921, §326 (a) 4, 5. In the case of a 
 reorganization in which the capital stock is increased but the control of 
 the business remains in the same hands the value of the stock issued for 
 intangible property must be determined with reference to the capitaliza- 
 tion of the old company and not the capitalization of the new company. 
 (Letter from treasury department dated March 14, 1918.) 
 
1052 FEDERAL INCOME TAX 
 
 Illustration: assume the par value of the capital stock of a 
 corporation issued and outstanding on February 1, 1917, was 
 $100,000. On February 2, 1917, it issued an additional $100,000 
 par value of stock for intangible property having a cash value 
 of $100,000. Applying the foregoing rule, (a) equals $100,000 ; 
 (b) equals $100,000 and (c) equals 25% of $200,000 (the par 
 value of the stock outstanding on March 3, 1917). Therefore 
 (c) , or $50,000, is all that may be considered as invested capital 
 representing such intangible property. A further limitation 
 on the inclusion in invested capital of capital stock represent- 
 ing intangible property paid in both before and after March 3, 
 1917, is discussed in a later paragraph.^^g 
 
 Intangible Property Paid in On or After March 3, 1917, 
 Where the intangible property was paid in after March 
 3, 1917, such intangible property becomes invested capital in an 
 amount not exceeding (a) the actual cash value of the property 
 at the time paid in, (b) the par value of the stock or shares 
 issued therefor, or (c) 25% of the par value of the total stock 
 or shares of the corporation outstanding at the beginning of 
 the taxable year, whichever is lowest. 
 
 Illustration : assume a corporation has $200,000 par value of 
 capital stock outstanding on December 30, 1917. On December 
 31, 1917, it issues an additional $100,000 of capital stock for 
 intangible property having a cash value of $100,000. Apply- 
 ing the foregoing rule : (a) equals $100,000 ; (b) equals $100,000, 
 and for the taxable year 1918 (c) equals 25% of $300,000. 
 Therefore, the invested capital representing such intangible prop- 
 erty is $75,000. But if the same intangible property had been 
 acquired on January 2, 1918, instead of December 31, 1917, the 
 invested capital for 1918 representing the same value of intan- 
 gible property would be only $50,000 instead of $75,000, since 
 in that case the par value of the capital stock outstanding at the 
 beginning of the taxable year would have been only $200,000.^®° 
 
 A further limitation on the inclusion in invested capital of 
 capital stock representing intangible property paid in both be- 
 fore and after March 3, 1917, is discussed in the following 
 paragraph. 
 
 Where Intangible Property Has Been Paid in Both 
 Before and After March 3, 1917. Where intangible prop- 
 erty has been paid into a corporation before and also after 
 March 3, 1917, a further limitation is imposed upon the value 
 
 159 See p. 1053. 
 
 160 Revenue Acts of 1918 and 1921, § 326 (a) 4, 5. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1053 
 
 of the invested capital to represent in the aggregate all such 
 intangible property. The law provides that in no case shall 
 the total amount of invested capital representing intangible 
 property paid in both before and after that date exceed in 
 the aggregate 25% of the par value of the total stock or shares 
 of the corporation outstanding at the beginning of the taxable 
 year. 1^1 
 
 Illustration: assume the par value of the capital stock out- 
 standing February 1, 1917, was $100,000 and that $100,000 
 additional was issued for intangible property of the same cash 
 value on February 2, 1917, and a further issue of $100,000 par 
 value on December 31, 1917, for intangible property also hav- 
 ing an equal cash value. Applying the first and second rules 
 stated in the preceding paragraphs it is found that the invested 
 capital with respect to the first intangible property is $50,000 
 and with respect to the second intangible property is $75,000, 
 making the total for both $125,000. But applying the third 
 rule the total invested capital representing both the property 
 acquired on February 2, 1917, and that acquired on December 
 31, 1917, is reduced in the aggregate to $75,000. If the second 
 property had been acquired on January 2, 1918, instead of 
 December 31, 1917, the invested capital representing both prop- 
 erties would be reduced even lower, namely to $50,000, which 
 amount would then represent 25% of the par value of the capital 
 stock of the corporation outstanding January 1, 1918.^^2 
 
 Stock or Shares Outstanding on March 3, 1917. Where 
 since the organization of a corporation its capital stock has been 
 increased or reduced and such change represents an actual ac- 
 quisition of new property for stock or an actual impairment of 
 original properties, the 25% limitation will be based on the par 
 value of the total stock outstanding on March 3, 1917.^*^^ 
 
 No Paid-in Surplus as to Intangible Property. No paid- 
 in surplus may be included in invested capital by reason of any 
 excess in the actual value of intangible property at the date of ac- 
 quisition over the par value of the stock or shares issued there- 
 for. On the contrary, such intangible property is subject to the 
 25 % limitation stated in the preceding paragraphs, whatever its 
 actual value may be.^^* 
 
 161 Revenue Acts of 1918 and 1921, § 326 (a) 5. 
 
 162 As to affiliated corporations see p. 1132. 
 
 163 T. B. M. 5, T. B. 1-19-120. 
 
 164 A. R. M. 80, T. B. 37-20-1196; A." R. R. 307, T. B. 44-20-1282. 
 
1054 
 
 FEDERAL INCOME TAX 
 
 Intangible Property Acquired for Tangible Property. In- 
 tangible property when acquired for tangible property other 
 than stock must be taken into account at the value of such in- 
 tangible property at the date of acquisition. Such value is 
 measured by the fair market value of the tangible property ex- 
 changed therefor at^ the date of the transaction and not by the 
 original cost of such tangible property.^s 
 
 Mixed Aggregates of Tangible and Intangible Property. The 
 statute "« provides that vs^here a mixed aggregate of tangible 
 property and intangible property has been paid in for stock or 
 for stock and bonds and the Commissioner is unable satisfacto- 
 rily to determine the respective values of the several classes of 
 property at the time of payment, or to distinguish the classes of 
 property paid in for stock and for bonds, respectively, the cor- 
 poration shall be assessed by reference to representative cor- 
 porations engaged in a like or similar trade or business."^ 
 Where stock or shares and bonds or other obligations have been 
 issued for a mixed aggregate of tangible and intangible prop- 
 erty, it will be presumed in the absence of satisfactory evidence 
 to the contrary that the bonds were issued for tangible property 
 and that the stock was issued for the balance of the tangible 
 property, if any, and for the intangible property. Where stock 
 or shares have been issued for a mixed aggregate of tangible 
 and intangible propert;y and certain liabilities have been assumed 
 in connection with the transaction, it will be presumed that 
 such liabilities are to be charged against the tangible property 
 and the intangible property in the order named unless it is 
 shown by evidence satisfactory to the Commissioner that this 
 presumption is not in accordance with the facts.^^^ Where a 
 
 165 A. R. M. 131, T. B. 25-21-1698. This ruling did not involve the 
 question of appreciation because it was not the value of the tangible prop- 
 erty itself which was written upon the books of the corporation. An ex- 
 change of the tangible property for a cash equivalent would have determined 
 a profit over original cost. This profit would have been refiected in sur- 
 plus. In a similar manner the excess of the value of the intangible prop- 
 erty acquired over the cost of the tangible property given in exchange 
 therefor was a proper credit to the surplus of the corporation. The 
 determination of a current value had no relation to original cost because 
 tangible property before and after transfer had an immediate realizable 
 value. (See also Reg. 41, Art. 60.) See Chapter 17 for a discussion of 
 the valuation of property. 
 
 166 Revenue Acts of 1918 and 1921, § 327 (c) . 
 
 167 See Revenue Acts of 1918 and 1921, § 328. 
 
 168 Reg. 45, Art. 835. Under the 1917 Law it was held that where stock 
 or shares (or stock or shares and bonds or other obligations) have been 
 issued for a mixed aggregate of: (a) tangible property, (b) patents and 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1055 
 
 mixed aggregate of tangible and intangible property is acquired 
 for stock and no provision is made that the intangibles shall 
 be specifically paid for as such, in order that such intangibles 
 may be included in invested capital it is only necessary to shovsr 
 the relative values of the tangibles and intangibles for which 
 stock was issued, subject to the 20% or 25% limitation.is^ 
 
 Surplus and Undivided Profits of Foreign Branch Office. 
 In order to determine the amount of surplus attributable to a 
 foreign branch office the amounts remitted by it to the home 
 office should be taken into earned surplus at their value in 
 American currency at the time of the remittances, and the bal- 
 ance of the net profits of the branch office not remitted to the 
 home office should be converted into American currency at the 
 rate of exchange as at the end of the taxable year.i™ 
 
 Surplus and Undivided Profits. Paid-in or earned surplus 
 and undivided profits at the beginning of the taxable year may 
 be included as invested capital. Surplus and undivided profits 
 earned during the year may not be included.^'^^ Appreciation in 
 
 copyrights, and (c) good will or other intangible property, the following 
 rules would govern: (1) in the absence of satisfactory evidence to the con- 
 trary, it was presumed in the case of a corporation, that its stock was 
 issued for the following purposes in the order named: (a) good will or 
 other intangible property, (b) patents and copyrights, and (c) tangible 
 property. (2) Upon the production by the taxpayer of evidence satisfactory 
 to the Commissioner as to the actual values at the date of acquisition of 
 
 (a) the tangible property and (b) the patents and copyrights, the sum 
 of these two items could be applied against the total par value of the se- 
 curities issued and the remainder was then deemed to represent the par 
 value of the securities issued for the good will or other intangible property. 
 
 (3) Cases where mixed aggregates of tangible and intangible property 
 have been paid in for stock and bonds were, if the Commissioner was unable 
 to determine satisfactorily the respective values of the several classes of 
 property at the time of payment, treated as coming under the head of 
 cases where the invested capital could not be satisfaqtorily ascertained and 
 the tax was assessed accordingly. (Reg. 41, Art. 59; T. B. E. 49, T. B. 
 16-19-467; A. R. R. 459, T. B. 15-21-1568.) 
 
 169 A. R. M. 80, T. B. 37-20-1196. See A. R. R. 307, T. B. 44-20-1282. 
 
 170 O. D. 618, T; B. 31-20-1109; O. D. 550, T. B. 25-20-1009. 
 
 171 Revenue Acts of 1918 and 1921, § 326 (a). Under the 1917 Law some 
 doubt existed as to whether or not surplus earned during the taxable year 
 and actually employed in the business during a part of that year could 
 not be included in invested capital. The treasury department ruled that 
 it could not in the case of corporations and partnerships (Reg. 41, Art. 
 61) even though invested in bonds of the United States (T. D. 2541) or 
 set up as "surplus" on the books or distributed in the form of stock div- 
 idends (Reg. 41, Art. 61) but that profits earned during the year could be 
 included as invested capital of individuals (Id. Art. 69). The 1917 Law 
 also provided that surplus or undivided profits in order to be included in 
 
1056 FEDERAL INCOME TAX 
 
 values due to reappraisement can not be regarded as paid-in or 
 earned surplus,"^ even though income tax has been erroneously 
 paid thereon.i'^s 
 
 REPLACEMENT FUND. It vv^as held under the 1918 Lav/ that 
 so much of a replacement fund for steamers lost as represents 
 excess of the amount of insurance received over the book value 
 of the steamers at the time of their destruction may not be in- 
 cluded in invested capital for the purpose of war and excess- 
 profits taxes, even though the interest received from the in- 
 vestment of such excess is reported as taxable income, because 
 such excess is not "paid-in or earned surplus."^'''* 
 
 Paid-in Surplus. Where it is shown by evidence satisfactory 
 to the Commissioner that tangible property has been paid in by 
 a stockholder ^^^ to a corporation as a gift or at a value definitely 
 known or accurately ascertainable as of the date of such pay- 
 invested capital should be "used or employed in the business," but the dis- 
 tinction, if any exists, between assets used and assets not used in the bus- 
 iness of a corporation was too fine for practical purposes, and since the 
 law elsewhere provided that all the income of a corporation should be 
 deemed to be received from its trade or business, the Treasury Department 
 ruled that all surplus or undivided profits would be deemed to be employed 
 in the business, unless invested in inadmissible assets (Id. Art. 62). 
 
 1T2 A. R. R. 29, T. B. 9-20-776; A. R. R. 71, T. B. 18-20-906; letter from 
 treasury department dated March 5, 1918. 
 
 173 T. B. M. 41, T. B. 7-19-308. 
 
 1T4 0. D. 417, T. B. 12-20-801. See also Reg. 45, Art. 50, and a dis- 
 cussion of replacement funds in Chapter 20, particularly the new pro- 
 vision in regard thereto in the Revenue Act of 1921, which differs from the 
 previous practice of the department. 
 
 I'i's The property must be paid in by a stockholder. A claim for paid- 
 in surplus will not be allowed in the case of the appreciated value of a lease- 
 hold acquired by a company as original lessee without cost and which was 
 not paid in at a fixed value for stock or shares (A. R. R. 86, T. B. 19-20- 
 925). In a case arising under the 1917 Law two stockholders owning most 
 of the stock of a company invented certain machinery for which patents 
 were issued to them. The company paid the cost of the patents and 
 used them as though it owned them without compensation to the inventors. 
 In 1916 the patents were put upon the books of the company at a certain 
 value and a stock dividend was declared. The committee held that, even 
 assuming the patents not to have been formally assigned to the com- 
 pany until 1916, they were not paid for by the issuance of stock or by any 
 payment of cash, for which reason the amount placed upon the corporate 
 books as the value of the patents could not be included in invested capital 
 (A. R. R. 9, T. B. 1-20-665). It is difficult to see why such patents should 
 not be included in invested capital as paid-in surplus on the theory that 
 they constituted tangible property (under the 1917 Law) paid in by stock- 
 holders as a gift. The stock dividend, in such event, merely capitalize the 
 paid-in surplus. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1057 
 
 ment clearly and substantially in excess of the cash or other con- 
 sideration paid by the corporation therefor, then the amount of 
 the excess will be deemed to be paid-in surplus. Substantially 
 the same kind of evidence will be required to show the value in 
 this case as is required in the case of tangible property paid in 
 
 at a value greater than the par value of the shares issued there- 
 for."6 
 
 Oil Leases Informally Transferred to Corporation. It is 
 held that where certain commercial leases of oil lands are in- 
 formally transferred to a corporation formed by the lessees for 
 the purpose of taking over sucih leases, no consideration being 
 paid for such transfer, it will be deemed that the transfer was 
 made at the time of taking possession, and the addition to in- 
 vested capital of the corporation upon such transfer is the fair 
 market price or value of the leases at the time possession is so 
 taken by the corporation.^''"^ 
 
 Earned Surplus."** Only true earned surplus and undivided 
 profits can be included in the computation of invested capital, 
 and if for any reason the books do not properly reflect the true 
 surplus such adjustments must be made as are necessary in 
 order to arrive at the correct amount. Any portion of surplus 
 or undivided profits representing unearned interest or discount 
 which has not been reported as taxable income must be excluded 
 in the computation of invested capital for war profits and ex- 
 cess-profits purposes.^™ In the computation of earned surplus 
 and undivided profits full recognition must first be given to all 
 expenses incurred and losses sustained from the original or- 
 ganization of the corporation down to the taxable year, including 
 among such expenses and losses reasonable allowances for de- 
 preciation, obsolescence, or depletion of property (irrespective 
 of the manner in which such property was originally acquired) , 
 and for the amortization of any discount on its bonds. There 
 can of course be no earned surplus or undivided profits until 
 any deficit or impairment of paid-in capital due to depletion, 
 depreciation, expense, losses, or any other cause has been made 
 good. Where adequate evidence is presented that the amounts 
 written off or deducted in previous returns of net income are in 
 the aggregate incorrect or unreasonable, adjustments must be 
 made, and the taxpayer will be allowed a refund in respect of 
 
 176 Reg. 45, Art. 837. 
 ms. 1387, T. B. 21-20-965. 
 
 178 This subject is more fully discussed on p. 1080. 
 
 179 O. D. 91, T. B. 1-19-130. 
 
1058 FEDERAL INCOME TAX 
 
 any taxes overpaid in prior years, or in the case of an underpay- 
 ment of taxes will be additionally assessed.i^" Unrealized ap- 
 preciation in the value of assets can not be taken into considera- 
 tion for the purpose of offsetting a decrease by reason of de- 
 preciation, obsolescence or depletion.isi 
 
 Installment Sales. If a taxpayer reports profits on install- 
 ment sales on the basis of the proportionate part of each in- 
 stallment received representing profit, his surplus account as 
 at the beginning of the taxable year must be reduced in com- 
 puting invested capital to the extent that the surplus account in- 
 cludes profit on such sales which has not been reported as tax- 
 able income.182 Where a corporation changes its method of re- 
 porting the profit from installment sales from the basis of re- 
 porting the entire profit at the date of the sale to the basis of 
 reporting the profit as being realized as at the date of the col- 
 lection of the outstanding accounts, any part of the unliquidated 
 installment sales contracts at the date the new basis is adopted 
 is to be carried to accounts receivable on the balance sheet at 
 the beginning of the taxable year in which the change is made. 
 But this does not require the corporation to exclude from sur- 
 plus any amount represented by such contracts which has al- 
 ready been returned as income for the prior years.^^^ 
 
 Purchase of Stock with Cash and Patents. Where a do- 
 mestic corporation exchanges patent rights and cash for stock 
 in a foreign corporation which derives no income from sources 
 within the United States, the shares of stock so received con- 
 stituted admissible assets under the 1918 Law.^^* Such stock 
 was to be valued in determining the invested capital of the do- 
 mestic corporation under the 1918 Law at the amount of cash 
 paid therefor, plus the value of the patent rights at the time 
 of the purchase, such value not to be taken as exceeding the 
 value of the shares of stock received in exchange for the patent 
 rights. The effect of the transaction might be to increase or de- 
 crease the surplus and undivided profits of the domestic corpora- 
 tion though the cash and patent rights remain the same. Such 
 increase or decrease was due to such a change in the situation 
 as amounted to a realization of gain or loss. Any gain so 
 realized was earned surplus; as any loss so realized effected a 
 
 ISO Reg. 45, Art. 838. 
 
 181 A. R. R. 71, T. B. 18-20-906. 
 
 182 0. D. 92, T. B. 1-19-131. 
 
 183 0. D. 793, T. B. 6-21-1428. 
 
 184 For the rule under the present law see p. 1076. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1059 
 
 decrease in earned surplus. In determining invested capital, 
 earned surplus was considered regardless of the time when 
 earned, and it is therefore immaterial that the gain or loss 
 realized from the transaction was due to appreciation or de- 
 preciation which in part occurred prior to March 1, 1913.1^^ 
 
 Reserves. The amounts shown on the balance sheet as re- 
 serves may or may not be included as invested capital according 
 to the character of the reserve.^^^ Some reserves are merely 
 subdivisions of the surplus account and are true surplus or un- 
 divided profits. Such reserves are, for instance, reserves for 
 bad debts, reserves for contingencies, reserves for self-in- 
 surance, and reserves for federal income and excess-profits tax. 
 Any reserve the additions to which can not be deducted as an 
 expense in the return of income, may be considered as a part 
 of the surplus and undivided profits for the purpose of invested 
 capital. On the other hand, with perhaps only two exceptions, 
 reserves, the additions to which may be deducted in ascertain- 
 ing net income, can not be included as invested capital. Among 
 such reserves are reserves for depreciation (which are presumed 
 to offset the loss in the assets) and reserves for state or local 
 taxes in cases where the corporation reports on an accrual basis 
 and the amounts carried to such reserves have been deducted. An 
 exception to this general rule would appear to exist in the case of 
 reserves for depreciation or depletion based upon the value of 
 the property as of March 1, 1913, or in the case of depletion 
 
 185 T. B. R. 67, T. B. 22-19-538. In this respect the principles applicable 
 to the determination of invested capital differ from those applicable to the 
 computation of taxable income, for while such part of the realized ap- 
 preciation, if any, as is attributable to the period after March 1, 1913, 
 constitutes taxable income such part as is attributable to the period before 
 March 1, 1913, though considered in the computation of invested capital, 
 escapes taxation. 
 
 1S6 "Reserves" have been variously classified by accountants. They are 
 classified by Mr. Esquerre in "Applied Theory of Accounts" as follovirs: 
 "1. Reserves for depreciation; 2. operating reserves; 3. reserves for 
 surplus contingencies; 4. reserves for redemption of debt; 5. secret re- 
 serves; and 6. reserves for exhaustion of physical assets." Reserves are 
 classified by Mr. Hatfield in "Modern Accounting" as follows: "1. reserves 
 created to provide a permanent increase of capital, (a) as an additional 
 guaranty to creditors, (b) to provide for extension of its fixed or other 
 assets; 2. reserves created to provide an additional capital which can be 
 used to cover unusual losses or to provide for other emergencies without 
 encroaching on the nominal capital; 3. reserves created to provide for 
 equalizing dividends by retaining part of one year's profit to be used to 
 make up scanty profits for other years." 
 
1060 FEDERAL INCOME TAX 
 
 based on the value of a mine or oil or gas property thirty days 
 after discovery. These exceptional cases are referred to in the 
 following paragraphs. 
 
 Reserves for Taxes. Reserves set aside out of surplus or 
 undivided profits of preceding years for payment of federal 
 taxes or state taxes not yet due can be included in invested cap- 
 ital for the taxable year if, and to the extent that, such taxes 
 were not allowable deductions in computing net income for the. 
 preceding taxable years. Inasmuch as federal income and excess- 
 profits taxes are not deductible in computing net income subject 
 to such taxes, reserves set aside for the payment of such taxes 
 may be included in invested capital.i'^" But amounts payable on 
 account of income and excess-profits taxes for any year may be 
 included in computing the surplus and undivided profits for the 
 succeeding year only for the proportionate part of the year rep- 
 resented by the period of time between the close of the taxable 
 year and the date or dates on which such taxes become due and 
 payable.iss a deduction from the invested capital as of the begin- 
 ning of the taxable year must therefore be made for such taxes 
 or any installment thereof, averaged for the proportionate part 
 of the taxable year after the date when the tax or the installment 
 is due and payable. Where as a result of an audit by the Com- 
 missioner, or the acceptance of an amended return, or for any 
 other reason, the amount of any such tax for the preceding year 
 is subsequently changed, a corresponding adjustment will be 
 made in the invested capital for the taxable year upon the same 
 basis as if the corrected amount of the tax for the preceding 
 year had been used in the original computation of the invested 
 capital for the taxable year.i® 
 
 Reserve for Depreciation or Depletion. If any reserves 
 for depreciation or for depletion are included in the surplus ac- 
 count it should be analyzed so as to separate such reserves and 
 leave only real surphis. Reserves for depreciation or depletion 
 
 isi Letter from treasury department dated March 20, 1918; W. T. S. 
 1918,11911. 
 
 188 Reg. 45, Art. 845; T. D. 2791. Prior to this treasury decision it was 
 uncertain whether or not a corporation which indicated on its books of 
 account that the excess-profits tax imposed on the income for 1917 was 
 paid out of the earnings of 1918 need reduce its invested capital by reason 
 of such payments. It was argued that the corporation had the option of 
 paying the tax from either the income of 1917 or the income of 1918. This 
 ruling is intended to apply a uniform rule in all cases regardless of 
 whether or not the corporation set up a part of its surplus as reserves 
 for federal taxes. 
 
 189 Reg. 45, Art. 845. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1061 
 
 can not be included in the computation of invested capital, except 
 to the following extent : (1) Excessive depletion or depreciation 
 included therein and which if charged off could be restored may- 
 be included in the computation of invested capital i''*' and (2) 
 where depreciation or depletion is computed on the value as of 
 March 1, 1913, or as of any subsequent date, the proportion of 
 depreciation or depletion representing the realization of appre- 
 ciation of value at March 1, 1913, or such subsequent date, may 
 if undistributed and used or employed in the business be treated 
 as surplus and included in the computation of invested capital. 
 For the purpose of computing invested capital, depreciation or 
 depletion computed on the value as of March 1, 1918, or as of any 
 subsequent date must, if such value exceeded cost, be deemed a 
 pro rata realization of cost and appreciation and be apportioned 
 accordingly. Except as above provided, value appreciation 
 (even though evidenced by an appraisal) which has not been ac- 
 tually realized and, in respect of amounts accrued since March 
 1, 1913, reported as income for the purpose of the income tax 
 can not be included in the computation of invested capital, and 
 if already reflected, in the surplus account it must be deducted 
 therefrom.i^i 
 
 Patents. From the standpoint of assets a patent, or more 
 particularly a group of patents, is closely analogous to good will. 
 Their value is contingent upon and measured by their earning 
 power. While patents have a definite life there is a common 
 tendency to extend that life by improvements upon the original, 
 and in a successful business the patent value merges more or 
 less completely into a trade name or other form of good will. 
 Therefore, while deductions in respect to the depreciation of 
 patents based upon a normal life period of seventeen , years are 
 allowable in computing net income for the purpose of the income 
 tax, such deductions are not obligatory, but are optional with 
 each taxpayer. Where since January 1, 1909, a corporation has 
 exercised that option to its own benefit in computing its taxable 
 net income the amount so deducted can not now be restored in 
 computing invested capital.^^^ Thus, a corporation owning pat- 
 ents covering certain inventions made by its employees, the cost 
 of securing and the salaries of such employees being paid by the 
 corporation and charged to expense account, may not include 
 in its invested capital any amount representing either the cost 
 
 190 See Keg. 45, Art. 840. 
 
 191 Reg. 45, Art. 844. 
 
 192 Reg. 45, Art. 843. 
 
1062 FEDERAL INCOME TAX 
 
 of the patents or appreciation in their value.is^ Where, however, 
 the cost of patents has been charged against surplus or other- 
 wise disposed of in such a manner as not to benefit the corpora- 
 tion in computing its taxable net income since January 1, 1909, 
 any amount so written off may be restored in computing in- 
 vested capital, if it be shown to the satisfaction of the Com- 
 missioner that the amount so written off represented a mere 
 book entry ascribable to a conservative policy of management 
 or accounting and did not represent a realized shrinkage in the 
 value of such assets. Any amount so restored may not be 
 written off by way of deductions from taxable net income in 
 any subsequent year or years. Where a corporation has charged 
 to current expenses the cost of developing or protecting patents, 
 no amount in respect thereof expended since January 1, 1909, 
 can be restored in computing invested capital. In respect of ex- 
 penditures made before January 1, 1909, a corporation now 
 seeking to restore them must be prepared to show to the satis- 
 faction of the Commissioner that all such items are proper cap- 
 ital expenditures. It can not be said that the correct computa- 
 tion of surplus and undivided profits necessarily requires a de- 
 duction in respect of the expiration of patents. It follows, 
 therefore, that where a corporation in the exercise of its option 
 has not written down the cost of patents, it is not ordinarily 
 necessary to reduce the surplus and- undivided profits in com- 
 puting invested capital, whether the patents have been acquired 
 for stock or shares or for cash or other tangible property. Due 
 consideration will be given to the facts in any case in which this 
 rule seems obviously unreasonable.^^* 
 
 Property Taken for Debt. Real or personal property taken 
 by a corporation in payment or satisfaction of a debt, or prop- 
 erty received in exchange for other property, will be an admis- 
 sible asset at its fair market value upon receipt. The profit or 
 loss, if any, resulting from the transaction will not be reflected 
 in invested capital until the succeeding taxable year.^^^ 
 
 Discount on Sale of Bonds. Discount allowed on the sale of 
 bonds is in effect an advance on account of interest, so that the 
 effective rate of interest in such a case is equal to the sum of 
 the nominal rate plus the rate necessary to amortize the dis- 
 count over the life of the bonds. Where, under incorrect ac- 
 counting practices, the discount on bonds has been charged to a 
 
 193 A. R. R. 71, T. B. 18-20-906. 
 
 194 Reg. 45, Art. 843; A. R. R. 436, T. B. 13-21-1536. 
 
 195 Reg. 45, Art. 847. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1063 
 
 property account or otherwise carried as an asset, and is so re- 
 flected in the surplus account, it is necessary in computing in- 
 vested capital to make an adjustment in respect of such dis- 
 count.196 
 
 Bank Discount. Only the amount of discount which has ac- 
 tually been reported by a bank in a prior year as taxable in- 
 come and credited to surplus account may be included in surplus 
 as of the beginning of the taxable year.^^''' 
 
 Current Profits. Profits earned during any year can not be 
 included in the computation of invested capital for that year, 
 even though during the year such profits are set up as surplus on 
 the books or assumed to be distributed in the form of stock div- 
 idends. If a dividend is declared and paid during any year out 
 of the profits of that year and the stockholders pay back into 
 the corporation all or a substantial part of the amount of such 
 dividends, the amount so paid back can not be included in the 
 computation of invested capital unless the corporation shows by 
 evidence satisfactory to the Commissioner that the dividends 
 were paid in good faith and without any understanding, ex- 
 press or implied, that th,ey were to be paid back.^^^ 
 
 Surrender Value of Insurance Policies. Premiums paid by a 
 corporation for insurance on the lives of its officers and em- 
 ployees payable to it can not be deducted as expenses in comput- 
 ing taxable income. Such insurance policies are considered 
 tangible property and may be included as invested capital of 
 the corporation at their cash surrender value at the beginning 
 of the taxable year. The whole amount of -premiums paid on 
 such insurance can not be included in surplus, but the surplus 
 will be considered as increased as of the beginning of each tax- 
 able year by the amount added to the cash surrender value of the 
 policy.i^^ If the policy has no cash surrender value, its loan 
 value as of the beginning of the year is an admissible asset and 
 may be included in invested capital.^oo The cash surrender value 
 of a life insurance policy which constitutes surplus as at the 
 beginning of the taxable year for invested capital purposes re- 
 tains its character as surplus, even though the policy constitut- 
 ing the admissible asset upon the basis of which the surplus was 
 determined is terminated and paid.^oi But where the insurance 
 
 196 Reg. 45, Art. 848. 
 
 197 Reg. 45, Art. 849. 
 
 198 Reg. 45, Art. 850. 
 
 199 Reg. 45, Art. 846; A. R. R. 229, T. B. 41-20-1239. 
 
 200 O. D. 745, T. B. 49-20-1338. 
 
 201 0. D. 179, T. B. 7-19-309. 
 
1064 FEDERAL INCOME TAX 
 
 policy is on the life of a guarantor of accounts of the corpora- 
 tion, the surrender value of the policy may not be included in in- 
 vested capital, since the premiums thereon are deductible from 
 gross income as business expenses.202 
 
 Additions to Surplus Account. A corporation's books of ac- 
 count w^ill be presumed to show the facts.^o^ if it claims that 
 its capital or surplus account is understated the burden of proof 
 will rest upon it. Additions to such accounts will be accepted 
 to the following extent: (1) Excessive depreciation heretofore 
 charged off on property still owned and in use, if it is now 
 shown by satisfactory proof to have been excessive and such ex- 
 cess is substantial in amount, whether or not disallowed by the 
 Commissioner as a deduction from gross income, may be re- 
 stored to the surplus account. No such amount may be restored, 
 however, unless it is shown that adequate depreciation has been 
 deducted upon all other property of the corporation still in use, 
 nor in any case in which such amount has been allowed as a de- 
 duction for amortization or in which the cost of the property has 
 been recovered through being included in the price of goods or 
 services, as for example, in the case of patterns, dies, plates, 
 special tools, etc., or under a munition contract with a foreign 
 government; (2) Amounts which have been expended before 
 January 1, 1917, for the acquisition of plant, equipment, tools, 
 patterns, furniture, fixtures or like tangible property, having 
 a useful life extending substantially beyond the year in which 
 the expenditure was made, and which have been charged as 
 current expense, rtiay (less proper deductions for depreciation 
 or obsolescence) be added to the surplus account when such 
 assets are still owned and in active use by the corporation during 
 the taxable year. Special tools, patterns and similar assets will 
 not be assigned any value if their cost has been recovered 
 through having been included in the price of goods. If their 
 cost has not been so recovered and they are held for only oc- 
 casional use, they will not be assigned a value in excess of the 
 fair value based upon the earnings actually arising from their 
 current use, and in no case will such value be more than the cost 
 less depreciation. Assets of this kind not in current use will 
 not be valued at more than their nominal or scrap value.^"* 
 (3) Amounts which have been expended in the past for intangible 
 property of any kind can be restored to capital or surplus ac- 
 
 2020. D. 1109, T. B. 47-21-1938. 
 
 203 o. D. 1104, T. B. 46-21-1926. 
 
 204 Reg. 45, Art. 840; 0. D. 901, T. B. 18-21-1615. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1065 
 
 count only to the extent that the corporation specifically paid 
 such amounts for the intangible property as such.^o^ (4) Ad- 
 justments necessary to correct other errors found in the books 
 of account may be made.^"" 
 
 Limitation of Additions to Surplus. Additions to surplus 
 which a corporation may desire to make under the preceding 
 paragraph fall broadly into two classes : ( 1 ) To correct returns 
 of income for prior years in which actual errors have been made, 
 as for example where excessive depreciation has been deducted, 
 additions to plant and equipment or other capital charges have 
 been charged off as an expense, inventories have been taken upon 
 a wrong basis of valuation, etc.; (2) To reinstate in surplus 
 deductions from income which are as a matter of good account- 
 ing to some extent optional, such as experimental expenses, 
 patent litigation, development of good will through advertising 
 or otherwise, etc. Adjustments falling in class (1) will be per- 
 mitted for all years, whether before or after March 1, 1913, pro- 
 vided amended returns of income are filed for each year in 
 which an erroneous return has been made. Due consideration 
 will be given to the assessment of penalties in any case in which 
 a fraudulent return has been made. Adjustments falling in 
 class (2) can not be permitted, as in such cases it is considered 
 that the corporation has exercised a binding option in deduct- 
 ing such expenses from income. An election of this sort which 
 was made concurrently with the transaction can not now be re- 
 vised, and amended returns in respect thereof can not be ac- 
 cepted.20''^ The purpose of this rule is to prevent the inclusion 
 in surplus or invested capital of amounts theretofore charged 
 to expenses when an intent to evade taxation may be inferred. 
 The doctrine of election will not be applied to transactions ac- 
 complished and consummated before the incidence of the 1909 
 Law, as in such cases the capitalization of items formerly 
 charged to expense can not be impeached as an attempt to evade 
 taxation.208 The mere fact that a corporation did not follow 
 
 205 A. R. M. 141, T. B. 47-21-1937; A. R. R. 32-21-1766; A. R. R. 409, 
 T. B. 11-21-1512. It was also held under the 1917 Law that although 
 large sums may have been spent in advertising and thereby an extensive 
 good will may have been created, the sums so spent could not be considered 
 as amounts paid for good will if the amounts were charged to general ex- 
 pense from time to time. Good will could be included only when bought 
 and paid for specifically as such. (Letter from treasury department 
 dated March 6, 1918.) 
 
 206 Reg. 45, Art. 840; Reg. 41, Art. 64. See T. B. R. 6, T. B. 2-19-151. 
 20TReg. 45, Art. 841; Reg. 41, Art. 64; 0. D. 901, T. B. 18-21-1615. 
 208 A. R. M. 134, T. B. 27-21-1719. 
 
1066 FEDERAL INCOME TAX 
 
 the more generally approved accounting method in charging 
 items to expense will not entitle it to capitalize items and file 
 amended returns. Thus, a corporation which issued bonds at a 
 discount in January, 1900, and elected then to charge such dis- 
 count to profit and loss for the year of issue and the next two 
 succeeding years, may not now revise its accounts and file 
 amended returns for the purpose of reinstating to invested 
 capital the unexpired portion of such discount and claiming as 
 a deduction from income that portion applicable to each year.^os 
 A corporation is required to submit with its return a statement 
 of the additions proposed, specifying the kinds and amounts of 
 property involved, the years in which the expenditures were 
 made, and the method followed in distinguishing between capital 
 outlays and current expenses, and showing that adequate pro- 
 vision has been made for depreciation, obsolescence and deple- 
 tion of such of the assets affected by the additions as are subject 
 to recognized depreciation, obsolescence or depletion. In any 
 case in which there is an operating deficit, amounts restored 
 must first be set off against the deficit and only the excess can 
 be actually included in the computation of invested capital.^w 
 
 Property Paid in and Subsequently Written Off. Where 
 tangible or intangible property has been paid in to a corpora- 
 tion for stock or shares or as paid-in surplus, and has subse- 
 quently been in whole or in part written off the books, the 
 amount so written off may upon evidence satisfactory to the 
 Commissioner be restored to the capital or surplus account sub- 
 ject to the following limitations : (1) The amount restored must 
 be reduced by a proper deduction for any depreciation, obsoles- 
 cence or depletion; and (2) the aggregate amount included in 
 computing invested capital on account of such property must 
 not exceed the amount which might have been included if such 
 property had not been written off.^n 
 
 Borrowed Capital. The term "borrowed capital" means 
 money and other property borrowed, whether represented by 
 bonds, notes, open accounts, or otherwise.212 Invested capital 
 
 209 A. E. R. 394, T. B. 8-21-1472. 
 
 210 Keg. 45, Art. 841. 
 
 211 Reg. 45, Art. 842. 
 
 212 Revenue Acts of 1918 and 1921, §325 (a). Under the 1917 Law it 
 was held that the term "money or other property borrowed" included not 
 only cash or other borrowed property which could be identified as such, but 
 current liabilities and temporary indebtedness of all kinds, and any per- 
 manent indebtedness upon which the taxpayer was entitled to an interest 
 deduction in computing net income. A corporation which was allowed to 
 
WAE-PROFITS AND EXCESS-PROFITS TAX 1067 
 
 does not include borrowed capital.^is Where the amount of bor- 
 rowed capital is abnormal, however, the taxpayer may apply for 
 assessment by reference to representative corporations.^^* 
 Stockholders have no vested right in the surplus of a corpora- 
 tion. A corporation can not, without consideration, issue notes 
 to its stockholders for the amount of its surplus, except by dec- 
 laration of dividends pro rata according to stockholdings. Treas- 
 ury demand notes (never delivered) drawn by order of the 
 president of a corporation payable to its stockholders, but not in 
 proportion to stockholdings, do not constitute a liability of the 
 corporation, even though such notes are charged against surplus 
 on the company's books.^^^ items such as deposits or amounts 
 due to other banks shown in the balance sheet of a bank, unex- 
 pired subscriptions shown in the balance sheet of a publishing 
 concern, etc., are deemed liabilities and can not be included in 
 computing invested capital.^is Any interest in a corporation rep- 
 resented by bonds, debentures or other securities, by whatever 
 name called, including so-called preferred stock, if with respect 
 to the payment of either interest or principal it ranks with or 
 prior to the interest of the general creditors, is borrowed cap- 
 ital and can not be included in computing invested capital. 
 Any such preferred stock, may, however, be so included if it is 
 deferred with respect to the payment of both interest and prin- 
 cipal to the interest of the general creditors.^i^ Preferred stock 
 if in the records of the corporation it is declared to be part of its 
 capital stock though convertible into first-mortgage bonds of 
 even date therewith, is inferior, on a distribution of assets to 
 pay debts, to the rights of general creditors, and is to be treated 
 
 deduct only' a part of the interest paid on its indebtedness might include 
 in invested capital such proportion of its permanent indebtedness as the 
 amount of interest upon such indebtedness which the corporation was not 
 allowed to deduct bore to the total amount of interest paid upon such in- 
 debtedness during the taxable year. (Reg. 41, Art. 44.) 
 
 213 Revenue Acts of 1918 and 1921, §326 (b). 
 
 214 See p. 1116. 
 
 215 A. R. R. 473, T. B. 17-21-1602. 
 
 216 Reg. 45, Art. 814. 
 
 217 Reg. 45, Art. 812. Where the principal stockholder of a corporation 
 loans money to the corporation and, in order to protect the credit of the 
 corporation, an agreement is signed to the effect that the lender shall be 
 deferred to all other creditors and shall receive one per cent, additional 
 interest in consideration thereof, which interest is not deducted by the 
 corporation as expense, the amount of the loan cannot be included in in- 
 vested capital as preferred stock. (Telegram from Treasury Department 
 dated April 4, 1919; W. T. S. 1919, 1[1021.) 
 
1068 FEDERAL INCOME TAX 
 
 as invested capital so long as it is not converted.^is The ques- 
 tion is not what the parties call an instrument but what the 
 facts and circumstances require it to be called. The courts are 
 not influenced by mere names but look beyond names and give 
 to the subject dealt with the character and status which its 
 properties denote it possesses.^ia The term "debenture" is well 
 known in England to describe any instrument issued by a cor- 
 poration which creates or acknowledges a debt. As stated by 
 Lindley, debenture stock is of the same nature as ordinary 
 debentures, except that instead of each bond securing a definite 
 amount, the whole sum secured is treated as a single stock, the 
 bonds are issued declaring the holder to be entitled to a definite 
 sum, part of this stock. This sum is not necessarily a round 
 sum, but may be for any number of pounds, it may include frac- 
 tions of a pound unless limitation is made in that respect. A 
 debenture stock may be repayable at a fixed date, or may be ir- 
 redeemable, according to the deed creating it, and may be se- 
 cured in any manner in which a debenture may be secured.^^" 
 Irredeemable notes or bonds are not so well known in this coun- 
 try. There are instances, however, of such perpetual debts and 
 it has been held that the character of such obligations is not 
 affected by the fact that they are not redeemable at a fixed 
 time.221 Certificates stating that a corporation is indebted in a 
 specified amount to the holders thereof payable at the expiration 
 of corporate existence, the payment of the principal being sub- 
 ordinated to other indebtedness, may still be regarded as a debt 
 and consequently as borrowed capital. Such certificates do not 
 constitute preferred stock. The term "stock" does not mean a 
 debt but refers to an interest in a corporate enterprise.222 
 
 21s S. 1200, T. B. 27-19-609. 
 
 219 Spencer v. Smith, 201 Fed. 647 ; Heller v. National Marine Bank, 89 
 Md. 601, 43 Atl. 800. 
 
 220 Lindley's Company Law, 195. 
 
 221 Philadelphia & Reading R. Co. v. Stichter, 11 Weekly Notes of Cases, 
 Pennsylvania, 325. 
 
 222 It should be noted that the instruments under consideration in this 
 ruling afforded some security to the holders thereof by a provision pre- 
 venting the corporation from mortgaging its property or franchises with- 
 out the written consent of at least two-thirds of the holders. There were 
 no indications that the parties intended the holders to be stockholders, the 
 certificates having been issued under a clause in the charter granting 
 power to borrow money and not to issue stock. The certificates provided 
 specifically for the payment of interest at a specified rate per annum. 
 There was no qualification in the charter or by-laws of the company limit- 
 ing this obligation and no reason appeared why the holders of such cer- 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1069 
 
 Whether or not amounts received by a corporation upon the sale 
 of so-called debenture stock constitute invested capital or bor- 
 rowed capital depends upon the rights and powers enjoyed by 
 the holders of such stock and the obligations with respect there- 
 to undertaken by the corporation; where so-called debenture 
 stock is issued by a corporation for cash or property under a 
 power granted by the charter to borrow money, and the cer- 
 tificates of such stock contain an agreement on the part of the 
 corporation to repay the face amount thereof upon dissolution, 
 and to pay interest thereon from time to time, at a certain rate 
 per cent, per annum ; and where it appears that the claim of such 
 debenture stockholders will, upon dissolution of the corporation, 
 be subordinate to the claims of general creditors but superior to 
 the claims of the ordinary stockholders ; and where it further 
 appears that the holders of such certificates exercise no voice in 
 the control or management of the corporation, the amounts re- 
 ceived for the sale of such stock constitute borrowed capital, 
 and the interest paid thereon, from time to time, by the cor- 
 poration is properly deductible as a business expense.--^ Where 
 upon the organization of a corporation bonds were issued for 
 the tangible property received and interest was paid to the own- 
 ers of such bonds up to the year 1917 (paid and deducted by the 
 corporation to the year 1917) it has been held under the Rev- 
 enue Act of 1917 that the amount of such bonds is borrowed 
 capital and can not be included in invested capital even though 
 the minutes of the organization meeting of the corporation con- 
 tained a resolution providing that the bonds should be "subject 
 to all rights of creditors of said corporation now existing and 
 at all times existing during the terms of said bonds" and even 
 though in 1918 the bondholders turned in their bonds in ex- 
 change for preferred stock. It' was held that the fact that the 
 corporation did not deduct Interest on the bonds in filing its 1917 
 returns was not sufficient to change or fix the status for pur- 
 
 tificates could not sue for the interest if default in payment was made. 
 These considerations were foreign to the idea of preferred stock since a 
 preferred stockholder is not a creditor of the corporation (Warren v. 
 King, 108 U. S. 389, 2 Sup. Ct. 789) and cannot sue for dividends unless 
 they are declared. Moreover, there was no indication in the charter or by- 
 laws of an intent that the holders of the certificates should share in the 
 corporate assets over and above the first amount of their interest. 
 
 223 A. R. R. 237, T. B. 33-20-1142. Upon the question of including deben- 
 ture stock in invested capital see also Doershuck v. U. S., U. S. Dist. Ct. 
 E. D. N. Y.; T. D. 3170, T. B. 24-21-1681. 
 
1070 FEDERAL INCOME TAX 
 
 poses of invested capital nor was the subordination of the liens 
 of the bonds to the claims of general creditors.224 
 
 Amounts Paid into or Left in Business. Whether a given 
 amount paid into or left in the business of a corporation con- 
 stitutes borrowed capital or paid-in surplus is largely a question 
 of fact. Thus, indebtedness to stockholders actually canceled 
 and left in the business would ordinarily constitute paid-in sur- 
 plus, while amounts left in the business representing salaries of 
 officers in excess of their actual withdrawals or deposit accounts 
 in favor of partners in a partnership succeeded by the corpora- 
 tion, will be considered paid-in surplus or boi-rowed capital accord- 
 ing to the facts of the particular case. Where a valid obliga- 
 tion on the part of a corporation to pay salaries to officers exists, 
 and the officers waive their rights to a part of such salaries, 
 the amount waived constituted paid-in surplus.225 The general 
 principle is that if interest is paid or is to be paid on any such 
 amount, or if the stockholdes' or officers' right to repayment 
 of such amount ranks with or before that of the general 
 creditors, the amount so left with the corporation must be con- 
 sidered as borrowed capital.226 Special accounts of stockholders 
 created because of amounts left in the business by certain of the 
 stockholders only and represented by interest-bearing notes in 
 favor of such stockholders, cannot be considered invested capital, 
 even though such notes carry a condition that demand for pay- 
 ment will not be made until all general creditors are satisfied.^^^ 
 In 1915 the principal stockholders paid into a company a sum 
 of money, no stock being issued therefor, no interest charged, 
 and no action was taken by the corporation to indicate the nature 
 of the payment except that it was entered as a contribution to 
 capital and was never treated as an account payable. The sum 
 was repaid in 1917, there being no evidence as to the nature of 
 the payment nor how it was treated by the corporation. It 
 was held that the payment was in the nature of a voluntary 
 assessment; that the repayment must be deemed to be out of 
 undivided profits or earned surplus so far as possible ; that such 
 repayment could not be treated as a return of capital unless 
 the undivided profits and earned surplus accumulated since 
 March 1, 1913, were first distributed as dividends; that the 
 corporation should be permitted to include the amount in its 
 
 224 A. E. R. 116, T. B. 21-20-962. 
 
 225 0. D. 1034, T. B. 37-21-1821. 
 
 226 Reg. 45, Art. 813. 
 
 227 A. R. R. 356, T. B. 52-20-1366; A. R. R. 102, T. B. 21-20-963. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1071 
 
 invested capital for 1917 as paid-in surplus, proper adjustment 
 being made for any distributions of dividends in excess of 
 available net earnings .228 
 
 In a case arising under the 1917 Law, an amount was paid in 
 to a corporation regularly by its stockholders under a resolution 
 making an assessment upon such stockholders. This amount 
 was entered on the corporation's books as a capital reserve fund 
 and in 1917 was carried as "advances by stockholders." No 
 stock was issued for the amount and no notes were given by 
 the corporation acknowledging its indebtedness to the stock- 
 holders therefor. Interest was paid upon the advance and was 
 deducted by the corporation regularly each year in computing 
 net income. The treasury department held this advance by 
 the stockholders not to constitute borrowed capital and per- 
 mitted its inclusion in invested capital on the theory that the 
 stockholders would *not be entitled to repayment before the 
 general creditors had been satisfied. The interest paid by the 
 corporation was regarded as in the nature of a dividend upon 
 preferred stock.229 
 
 Dividends Credited to Stockholders. Where a corporation 
 by the consent of all the stockholders, declares dividends, but 
 through lack of cash with which to make actual payment credits 
 the amount of the dividends to the accounts of the shareholders, 
 such dividends being treated as liabilities of the corporation and 
 no interest being paid or accrued thereon, it has been held that 
 the effect on the corporation's surplus and the rights of the 
 stockholders are the same as if the dividend had been formally 
 declared and paid. The corporation, while having the use of the 
 amounts so credited, is at all times liable for them to the stock- 
 holders and must treat such amounts as borrowed capital.^so 
 
 Informal Dividends; Credit Balances to Stockholders' 
 Accounts. Where a corporation notes and credits to its stock- 
 holders their proportionate shares of each year's earnings to 
 which they would be entitled under a dividend declaration, and 
 such stockholders return such credited earnings and pay income 
 tax thereon, but no interest is paid upon the amounts stand- 
 ing to the credit of the stockholders and no formal dividend 
 declaration is made by the board of directors, the amounts 
 so credited may be regarded as a part of earned surplus, pro- 
 vided that under the state law the stockholders do not rank 
 
 228 T. B. M. 82, T. B. 23-19-552. 
 
 229 A. R. M. 44, T. B. 18-20-9,05. See also A. R. R. 78, T. B. 18-20-904. 
 
 230 0. D. 1006, T. B. 34-21-1786. See p. 1066. 
 
1072 FEDERAL INCOME TAX 
 
 with general creditors in respect of such credits.^si But in a 
 case arising under the 1917 Law 232 very similar in its facts ex- 
 cept that the balances standing to the credit of the stockholders 
 were not in proportion to their stockholdings a diiferent con- 
 clusion was reached. The corporation involved had three stock- 
 holders. During the lifetime of these stockholders no distri- 
 bution of profits was made and the earnings were allowed to 
 accumulate from year to year. At the death of one stock- 
 holder, in 1907, the board of directors passed a resolution order- 
 ing the reserve fund to be prorated and credited to the deposit 
 accounts of the three principal stockholders, which was done. 
 None of these profits was withdrawn; the business pro- 
 ceeded as before and the profits were allowed again to accumu- 
 late until 1909, when a second stockholder died, and the same 
 procedure was taken as in 1907. From the inception of the 
 business no dividend was ever declared nor were any of the 
 profits withdrawn from the business or segregated from sur- 
 plus except as above stated; but against the accounts credited 
 comparatively small charges were made from time to time to 
 cover living expenses of two of the stockholders. Substantially 
 all of the profits thus credited, by verbal agreement were left 
 in the corporation funds for the conduct of its business ; on the 
 amounts so credited no interest was ever paid by the corpora- 
 tion nor were notes issued therefor, for the reason that they 
 were never considered as obligations of the corporation ; but, on 
 the contrary, as funds left in the business to be used as capi- 
 tal; and banks and other large creditors of the corporation 
 were cognizant of this verbal agreement, and by reason of it 
 extended credit to the corporation on these funds considered 
 as capital. It was admitted that the credits were not "surplus" 
 in the sense that all the stockholders had a right to share in 
 them ratably. The committee on appeals and review ruled 
 that the credits ranked, in law, with the claims of other gen- 
 eral creditors; even though by the good faith and honor of the 
 three stockholders, they would be voluntarily deferred until 
 the claims of the other general creditors had been liquidated in 
 full and that the corporation was not being penalized merely 
 because of its failure to have made a "book entry" converting 
 these credits into capital stock because the credits, being a 
 direct and fixed obligation of the corporation, had not the same 
 
 231 A. R. M. 71, T. B. 29-20-1081. 
 
 232 The 1917, 1918 and 1921 Laws are not distinguishable in their pro- 
 visions governing the point. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1073 
 
 status among the corporation's liabilities as would have been 
 the case had they, by formal action of the board, been con- 
 verted into capital stock and certificates issued therefor, or had 
 the interested stockholders waived all proprietary rights to 
 them and thus actually contributed them to surplus.^ss 
 
 Conversion of Bonds into Stock. Where bonds are ex- 
 changed for stock in the same corporation under the terms of 
 a convertible trust deed, it will be presumed, for the purpose 
 of computing invested capital, that the value of the bonds is 
 equivalent to the value of the stock. The addition to invested 
 capital would accordingly be the amount for which the bonds 
 were originally sold.^s* 
 
 Computing Invested Capital. In computing invested capital 
 the first step is to add together the paid-in capital and paid-in 
 or earned surplus and undivided profits (under whatever name 
 the same may be called) as shown by the books at the begin- 
 ning of the taxable year. The total thus obtained is to be ad- 
 justed for any asset or item which it covers that is not car- 
 ried on the books at the valuation prescribed by law.^ss After 
 the various adjustments are made the adjusted total of the 
 capital and surplus account will represent the invested capital 
 at the beginning of the taxable year. If there has been any 
 change made during the taxable year in the amount of in- 
 vested capital, the reduction or increase must be noted in order 
 to average the invested capital for the year. Whenever any 
 corrections are made in respect of the capital stock or surplus, 
 corresponding corrections ftiust be made in the respective asset 
 items in the balance sheet of the taxpayer accompanying the 
 retum.236 But it is not necessary that the books also be changed, 
 provided some permanent record of the adjustments is kept.^^^ 
 
 Admissible Assets. The term "admissible assets" means all 
 assets other than inadmissible assets. Organization expenses 
 and deferred charges against future income are admissible assets. 
 Admissible assets must be valued in accordance with the pro- 
 visions of the law regarding invested capital.^^s Thus, for 
 example, intangible property paid in for stock or shares is an 
 admissible asset, but it cannot be valued at an amount in excess 
 of that at which it may be included in computing invested 
 
 233 A. R. R. 102, T. B. 21-20-963. 
 
 234 0. D. 306, T. B. 24-19-577. 
 
 235 This was the rule' under the 1917 Law. See Reg. 41, Art. 53. 
 
 236 Reg. 41, Art. 53. 
 
 237 Letter from treasury department dated March 19, 1918. 
 
 238 Revenue Acts of 1918 and 1921, § 325. 
 
1074 FEDERAL INCOME TAX 
 
 capital under the provision of law limiting such amount to 25% 
 of the par value of the total stock or shares of the corporation 
 outstanding on March 3, 1917, or at the beginning of the tax- 
 able year accordingly as such property v?as paid in prior to or 
 on or after March 3, 1917.239 
 
 School District Warrants. Warrants drawn by a school 
 district on the superintendent of schools for a county in favor 
 of the teachers of public schools of a district and cashed by a 
 bank, but returned by the superintendent with a notation of 
 "no funds" and carried by the bank without any remuneration 
 in the form of interest or discount are admissible assets, since 
 obligations to be inadmissible must be potentially interest-bear- 
 ing or dividend-producing securities. 2*0 
 
 Insurance Policies. Insurance policies on the lives of 
 officers are admissible assets, as indicated elsewhere in this 
 chapter.2*i 
 
 Inadmissible Assets. The term "inadmissible assets" means 
 stocks, bonds, and other obligations (other than obligations of 
 the United States) the dividends or interest from which are 
 not required to be included in computing net income.^*^ Where, 
 however, the income derived from such assets consists in part 
 of gain or profit derived from the sale or other disposition 
 thereof, or where all or part of the interest derived from such 
 assets is in effect included in the net income because of the 
 limitation upon the deduction of interest,^*^ the corresponding 
 part of such assets is not deemed to Jbe inadmissible.^** A cor- 
 poration cannot by including the income from inadmissible assets 
 as taxable income create the right to have such assets con- 
 sidered admissible assets.^*^ Inadmissible assets will for the 
 
 239 Reg. 45, Art. 818. Revenue Acts of 1918 and 1921, § 326 (a) 4, 5. 
 Good will so far as it is built up and developed by advertising not charged 
 to expense may be included in invested capital. A corporation may in the 
 future exercise an option and, if it so desires, treat advertising as a capital 
 item, not deducting it as an expense, in which case it may become entitled 
 to include a pro tanto amount of good will in its invested capital and make 
 an addition to surplus accordingly. 
 
 240 O. D. 1096, T. B. 45-21-1915. 
 
 241 See p. 1063. 
 
 242 Under the 1917 Law inadmissible assets were such stock, bonds or 
 other assets the income of which was not subject to the excess-profits tax, 
 (Reg. 41, Art. 44.) 
 
 243 See Revenue Acts of 1918 and 1921, § 234 (a) 2. 
 
 244 Revenue Acts of 1918 and 1921, §325. 
 
 245 Reg. 45, Art. 815. 
 
WAR-PBOFITS AND EXCESS-PROFITS TAX 1075 
 
 purpose of discussion in the following paragraphs be divided 
 into three classes, (1) stocks of domestic corporations; (2) 
 stocks of foreign corporations, and (3) bonds and other 
 obligations. 
 
 Stock in Federal Reserve Bank. Federal Reserve Bank 
 stock, held by a member bank, is an inadmissible asset in de- 
 termining invested capital.^^s 
 
 Stock of Domestic Corporations. The statute apparently 
 intends that stocks of domestic corporations are ipso facto in- 
 admissible assets in computing the invested capital of the stock- 
 holder. The law provides that the term "inadmissible assets" 
 means "stock * * * ^^j^g dividends * * * from which 
 is [are] not included in computing net income." 2*7 Hence it 
 follows that it is immaterial whether the corporation whose 
 stock is held actually pays dividends thereon or not, or 
 whether its operations are carried on within or without the 
 jurisdiction of the United States. Although many corpora- 
 tions find it necessary for business reasons to hold stock in 
 other corporations which do not pay dividends and such invest- 
 ment is in fact a necessary and proper investment, as for in- 
 stance where several corporations may own the stock of storage, 
 warehouse or terminal companies for their joint benefit (such 
 jointly held corporations not being intended to pay dividends) 
 the stock is nevesrtheless inadmissible under a literal interpreta- 
 tion of the law. To hold that stock of a domestic corporation 
 is admissible if the corporation paid no dividends, during the 
 taxable year, but inadmissible if the corporation paid dividends 
 and the same were not included in the net income of the stock- 
 holder, would be to establish an impracticable rule, and one 
 plainly not intended by the language of the law. Hence it has 
 been ruled that the failure to pay or to receive dividends does 
 not change the status of stock as an inadmissible asset.^^^ 
 Apparently the only way that stock of a domestic corpora- 
 tion can become an admissible asset is by selling the stock, 
 in which case the profit is included in net income and all or a 
 portion of the value of the stock becomes an admissible asset, 
 as is more fully stated in a subsequent paragraph. 
 
 Stock of Domestic Corporations Deriving Substantial 
 Income from Possessions of the United States. The Rev- 
 enue Act of 1921 provides for the taxation of domestic corpora- 
 
 246 Letter from treasury department dated March 13, 1919; W. T. S. 
 1921, 11744; 0. D. 81, T. B. 1-19-118. 
 247 Revenue Acts of 1918 and 1921, §325 (a). 
 248 Reg. 45, Art. 815. 
 
1076 FEDERAL INCOME TAX 
 
 tions only with respect to income from sources within the United 
 States, if such domestic corporations derive 80% of their gross 
 income for a three-year period preceding the close of the 
 taxable year from sources within a possession of the United 
 States (excluding the Virgin Islands), and 50% of their gross 
 income for such period from the active conduct of a trade or 
 business within a possession of the United States.^^s Dividends 
 on the stock of such corporations are not deductible from the 
 gross income of corporations, and such stock is, therefore, an 
 admissible asset.^™ 
 
 Stock of Foreign Corporations. If a foreign corporation 
 paid an income tax to the United States on any part of its 
 income, its dividends were not taxed under the 1918 Law when 
 received by a domestic corporation ; ^si and it followed that the 
 stock of such foreign corporation was an inadmissible asset.^^^ 
 On the other hand, if such foreign corporation paid no income 
 tax to the United States its stock was an admissible asset.^^^ 
 This rule is changed by the Revenue Act of 1921. Dividends 
 from a foreign corporation are free from tax under the present 
 law, when received by a corporation only if it is shown that more 
 than 50% of the gross income of such foreign corporation, for 
 the three-year period ending with the close of the taxable year 
 preceding the declaration of dividends, was derived from sources 
 within the United States.354 The stock of foreign corpora- 
 tions with respect to which this can be shown will be inadmis- 
 sible assets under the present law; the stock of other foreign 
 corporations will be admissible assets.^^^ 
 
 •Bonds or Other Obligations. The bonds or other obliga- 
 tions which are inadmissible assets are only those "the interest 
 
 249 Revenue Act of 1921, § 262. 
 
 250 Revenue Act of 1921, §§234 (a) 6, 325 (a). 
 
 231 Letter from treasury department dated June 9, 1919; I. T. S. 1919, 
 H 3427. See Chapter 19. 
 
 252 0. D. 305, T. B. 24-19-576. 
 
 253 The rule was different under the 1917 Law. See Reg. 41, Arts. 27 
 and 46. But it seems that the rule stated in the text is applicable to assess- 
 ments under that law as well as the present law. Formerly in the case 
 of a domestic corporation or partnership and of citizens or residents hold- 
 ing stock in a foreign corporation part of whose net income was subject 
 to tax, there might be included in invested capital such proportion of the 
 value of the stock as the net income of such foreign corporation from 
 sources outside the United States was of its entire net income. (Reg. 41, 
 Art. 46.) 
 
 254 Revenue Act of 1921, § 234 (a) 6. 
 
 255 Revenue Act of 1921, §325 (a). 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1077 
 
 from which is not included in computing net income." ^se Bonds 
 and securities of industrial or railroad corporations — domestic 
 or foreign — are admissible, even though the bond may have a 
 so-called "tax-free covenant." Bonds issued by exempt cor- 
 porations are admissible assets. Bonds and obligations of the 
 United States are admissible, even if the interest is exempt. 
 Such bonds, however, are only bonds of the federal government 
 and not of its possessions. Bonds and obligations which are 
 inadmissible assets are those issued by a state or territory (or 
 a political subdivision of either, i. e., county, city, township, 
 etc.), the District of Columbia and the possessions of the United 
 States, and also securities issued, uifder the provisions of the 
 Federal Farm Loan Act of July 17, 1916.25^ Bonds of the 
 War Finance Corporation are admissible if the income there- 
 from is subject to the tax, but that part of the principal amount 
 of such bonds with respect to which interest may be exempt 
 from excess-profits tax is inadmissible. Thus, bonds of the 
 War Finance Corporation the principal of which does not exceed 
 $5,000 are inadmissible assets, and bonds of the War Finance 
 Corporation the principal of which exceeds $5,000 are admis- 
 sible assets.^^^ Since the income derived from Porto Rico and 
 Hawaii bonds is not subject to tax, the bonds are inadmissible 
 assets and can not therefore be included in invested capital.^sa 
 Four per cent, bonds of the government of the Philippine Islands 
 are also inadmissible assets.^so The conversion of certificates of 
 indebtedness purchased by a corporation in 1918 into Victory 
 Liberty Loan notes of the same value does not affect invested 
 capital.^®^ In computing the amount of admissible assets, the 
 total cost of bonds subscribed for, whether fully paid or not, 
 may be included in admissible assets.^^^ Federal land bank 
 bonds 2^^ and school warrants issued by a county of a state 2®* 
 have also been held to be inadmissible assets. Where 
 a corporation engaged in paving work for municipalities in a 
 state, the statutes of which provide that municipal improve- 
 ments shall be paid for by assessments issued to the contractor, 
 
 256 Revenue Acts of 1918 and 1921, §325 (a). 
 
 257 Reg. 45, Arts. 815-816. 
 
 258 Official announcement by the bureau of internal revenue dated April 
 5, 1919; 0. 781, T. B. 1-19-116. 
 
 259 0. D. 86, T. B. 1-19-125; O. D. 1044, T. B. 38-21-1836. 
 
 260 0. D. 1057, T. B. 40-21-1857. 
 2610. D. 93, T. B. 1-19-132. 
 
 ' 262 0. D. 28, T. B. 1-19-40. 
 
 263 0. D. 1069, T. B. 42-21-1875. 
 
 264 o. D. 929, T. B. 21-21-1656. 
 
1078 
 
 FEDERAL INCOME TAX 
 
 such assessments bearing interest from the date of acceptance 
 of the work by the city engineer and the contractor receiving 
 interest from this source from the date of acceptance to the date 
 of delivery of the certificates of indebtedness (which were 
 assigned to a bank under an agreement for the advance of operat- 
 ing expenses, a discount being paid the bank in addition to ac- 
 crued interest on the funds advanced for the prosecution of 
 the work) it has been held that the interest received by the 
 contractor is exempt and therefore the principal upon which 
 such interest accrued is an inadmissible asset.^^s 
 
 Inadmissible Assets May Become Admissible. Under two 
 conditions assets which are otherwise inadmissible become in 
 whole or in part admissible: (1) Where the inadmissible asset 
 has been sold during the year and the profit thereon is in- 
 cluded in net income, and (2) where inadmissible assets have 
 been purchased or carried during the year with borrowed money 
 and the interest paid on such borrowed money is not allowed 
 to be deducted in ascertaining the net income.^es Where inad- 
 missible assets have been sold or otherwise disposed of, the 
 total income from such assets including the profit on the sale 
 and the interest or dividends received during the year is first 
 ascertained. Secondly, the percentage of the entire net income 
 attributable to the profit on the sale of the asset is ascertained 
 and the same percentage of the intangible asset becomes in- 
 vested capital for the length of time such asset was owned ' 
 by the corporation.267 in the second class of cases it seems 
 that the interest received from the inadmissible asset should 
 be compared with the interest paid upon the money borrowed 
 to purchase or carry such asset. Thus, if the interest received 
 is $100 and the interest paid on the borrowed money is $75, 
 three-fourths of the inadmissible asset becomes admissible 
 (since three-fourths of the interest is in effect included in tax- 
 able income). This applies separately to each issue or class of 
 inadmissible securities held by a corporation. For example, 
 it may hold A company stock costing $100,000 and B com- 
 
 265 o. D. 999, T. B. 34-21-1778. 
 
 266 See Revenue Acts of 1918 and 1921, § 234 (a) 2, also Chapter 23. 
 
 267 Under the 1917 Law it was held that wherever income consisted partly 
 of gains or profits subject to the excess-profits tax arising from trading 
 in stocks, bonds, etc., the dividends or interest on which were not subject 
 to such tax, and partly from such dividends or interest, there could be 
 included in the invested capital an amount which bore the same ratio to 
 the total amount invested in such stock or bonds as the amount of such 
 trading profits bore to the total amount of trading profits and dividends or 
 interest. (Reg. 41, Art. 45.) 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1079 
 
 pany stock costing $200,000. During the year it receives $8,000 
 in dividends from A company and $5,000 from B company, 
 and on September 30 sells part of its B company stock at a 
 profit of $3,000. For the period from January 1 to September 
 30, $75,000 of its holdings of B company stock becomes admis- 
 sible. After September 30 its remaining holdings of B company 
 stock are inadmissible, but the proceeds of the sale are ad- 
 missible unless invested in inadmissibles.^Bs 
 
 Reduction of Invested Capital by Inadmissible Assets. 
 From invested capital must be deducted a percentage thereof 
 equal to the percentage which the amount of inadmissible assets 
 is of the amount of admissible and inadmissible assets held 
 during the year.^s^ In other words, after the invested capital 
 has been determined without reference to inadmissible assets 
 but eliminating borrowed capital, the invested capital so deter- 
 mined is reduced by taking a percentage equal to the percent- 
 age of inadmissible assets to all the assets held during the 
 taxable year.^™ For the purpose of ascertaining the deductible 
 percentage the amount of inadmissible assets held during the 
 year may ordinarily be determined by dividing by two the sum 
 of the amount of such assets held at the beginning of the year 
 and the amount held at the end of the year. The total amount 
 of admissible and inadmissible assets held during the year may 
 ordinarily be determined by dividing by two the sum of the 
 amount of such assets held at the beginning of the year and 
 the amount at the end of the year. If at any time a substan- 
 tial change has taken place either in the amount of inadmis- 
 sible assets or in the total amount of admissible and inadmissible 
 assets, the effect of such change should be averaged exactly 
 from the date on which it occurred. In any case where the 
 Commissioner finds that either amount determined as above 
 provided does not substantially reflect the average situation 
 
 268 Reg. 45, Art. 817. 
 
 289 Revenue Acts of 1918 and 1921, §326 (b). When invested capital 
 was determined under the 1917 Law irrespective of admissibles and in- 
 admissibles the adjusted total of capital and surplus represented invested 
 capital at the beginning of the taxable year, except that where admissible 
 assets were less than the amount of such adjusted total, a further reduction 
 was necessary to an amount equal to the sum of the admissible assets. 
 If there had been any change during the year in- the amount of invested 
 capital, the monthly average was taken (Reg. 41, Art. 53). 
 
 270 Under the 1917 Law it was ruled that only so much of the admis- 
 sible assets as exceeded the borrowed money need be deducted from invested 
 capital. See letter from Treasury Department dated April 2, 1918; W. T. 
 S. 1918, 11923 and letter dated May 17, 1918, Id. T| 955. 
 
1080 FEDERAL INCOME TAX 
 
 throughout the year, and that the amount of each kind of assets 
 held on a given day of each month throughout the year or 
 at more frequent regular intervals can he determined, the 
 amount of inadmissible assets and the amount of both kinds 
 of assets held during the year will be determined by averaging 
 the amounts held at such several tiriies. In making these com- 
 putations the valuation at which each asset is carried must be 
 adjusted in accordance with the provisions of the statute and 
 of the regulations relating T;o the valuation of assets for the 
 purpose of computing invested capital including in such adjust- 
 ment the amount of reserves for depreciation, depletion, 
 amortization and other reserves which represent the valuation 
 of assets. It is immaterial whether any asset was acquired 
 out of invested capital, or out of profits earned during the year, 
 or borrowed capitaL^'^'^ 
 
 Adjustments Which Increase Book Values of Assets. The 
 adjustments which may increase the book value of the assets 
 representing capital and surplus at the beginning of the year 
 (and thus increase the surplus for purposes of invested capi- 
 tal) are stated in the preceding paragraphs.^^^ Briefly sum- 
 marized they are (a) the value of tangible property paid in in 
 excess of the par value of the stock issued therefor; (b) addi- 
 tions to the capital account due to restoring to the capital 
 account the value of assets the cost of which has been charged 
 to expense; (c) reinstating the value of assets which has been 
 unduly reduced on the books of the company, and (d) the in- 
 clusion of reserves or such parts of reserves as are in fact 
 surplus or undivided profits. In support of the claim for addi- 
 tional invested capital with respect to any of these items it is 
 necessary to file statements showing the information indicated 
 in the respective paragraphs above. 
 
 Adjustments Which Reduce the Book Value of Assets. Assets 
 may be carried on the books at a valuation greater than 
 that which the law expressly allows or contemplates. In such 
 cases the value of such assets must be reduced to within the 
 
 271 Reg. 45, Art. 852. As to affiliated corporations see -p. 1132. Under 
 the 1917 Law, if admissible assets were in excess of adjusted capital and 
 surplus, no further deduction was required because of inadmissible assets; 
 in other words, only the excess of inadmissible assets over total indebtedness 
 was required to be deducted from adjusted capital and surplus (A. R. R. 
 Ill, T. B. 21-20-964). This ruling is inapplicable under the present statute, 
 which provides for the deduction of a percentage of inadmissibles. 
 
 272 See p. 1064. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1081 
 
 limit allowed by law and the capital, surplus or undivided profits 
 of a company reduced accordingly. Cases in which adjustment 
 must be made to reduce the book value are stated in the follow- 
 ing paragraphs. 
 
 As TO Value of Intangible Assets. As stated above in 
 the paragraphs relating to intangible property paid in 273 the 
 value thereof must be reduced to the lowest of three values: 
 (a) the actual cash value at the time of acquisition; (b) the 
 par value of the stock issued therefor, or (c) 25% of the par 
 value of the stock outstanding on March 3, 1917, or at the be- 
 ginning of the taxable year as the case may be. The difference 
 between such minimum value and the value at which the assets 
 are carried on the books of the company is the amount to be 
 deducted in this adjustment. 
 
 As to Treasury Stock. When any treasury stock is re- 
 turned to the corporation as a gift or for a consideration sub- 
 stantially less than its par value, the stock so returned may 
 not be treated as a part of the stock issued or exchanged for 
 property. The proceeds derived in cash or its equivalent from 
 the resale of such treasury stock should however be included 
 in the invested capital, if retained and employed in the busi- 
 ness.2''* The difference between the par value of the treasury 
 stock so returned as a gift and the amount of cash or its 
 equivalent which was derived from the resale of such stock is 
 required to be deducted from invested capital.^^s Where a cor- 
 poration either directly or indirectly, as for example through 
 a trustee, has prior to the taxable year bought its own stock, 
 either for the purpose of retirement or of holding it in the 
 treasury or for other purposes, the entire cost of such stock 
 must be deducted from the aggregate invested capital as of 
 the beginning of the taxable year, if such deduction has not 
 already been made. Where such stock is purchased during 
 the taxable year a deduction from the invested capital as of 
 the beginning of the taxable year and effective from the date 
 
 273 See p. 1049. 
 
 274 Reg. 45, Art. 861 ; Reg. 41, Art. 54. 
 
 275 See Form 1120 for 1918, Schedule G3. There may be cases, how- 
 ever, where the subsequent return of stock to the corporation is in fact 
 equivalent to an additional contribution of capital equal to the amount 
 received by the corporation on the resale of such stock. Where stock 
 has been issued for property and a part of the stock is returned to the 
 treasury of the corporation, the presumption is that the property was 
 consciously overvalued, but this presumption cannot stand if contrary to 
 fact. 
 
1082 
 
 FEDERAL INCOME TAX 
 
 of such purchase is required only to the extent that such stock 
 has not been purchased out of the undivided profits of the 
 taxable year. The full amount derived in cash or its equivalent 
 from the resale of such stock may be included in invested capi- 
 tal from the date of such resale, unless such stock had been 
 purchased out of earnings of the taxable year.^^s 
 
 As TO Value of Assets Acquired in Reorganization. In the 
 case of a reorganization, consolidation or change of owner- 
 ship of a trade or business, or change of ownership of prop- 
 erty, after March 3, 1917,277 certain reductions may be necessary 
 in the book values of the new owner, if such book values re- 
 flect the value of the property at the time it was acquired by 
 such new owner. Such reduction is necessary only- in cases 
 where 50% or more of the interest or control in such trade 
 or business or property remains in the same persons, or any 
 of them. In such cases no asset so acquired will, for the pur- 
 pose, of determining invested capital, be allowed a greater 
 value than would have been allowed in computing the invested 
 capital of the previous owner if such asset had not been so 
 transferred to the new owner. In other words, if the previous 
 owner was a corporation and 50% or more of the interest or 
 control of the new corporation remains in the hands of any of 
 those who controlled the old corporation, the intent of the stat- 
 ute seems to be that the invested capital of the new corpora- 
 tion cannot be increased as to such property beyond the amount 
 which would have been allowed to the old corporation had it 
 retained the assets. This is true whether or not the assets 
 were paid for by the new corporation in stock or in cash.^^s If 
 the previous owner was not a corporation, then the value of 
 any asset so transferred mu?t be taken at its cost of acquisi- 
 tion (at the date when acquired by such previous owner) with 
 proper allowance for depreciation, impairment, betterment or 
 development, but no addition to the original cost may be made 
 
 2T6 Reg. 45, Art. 862. 
 
 277 This restriction only applies in the case of a reorganization or change 
 of ownership after March 3, 1917 (0. D. 1097, T. B. 45-21-1916). It applies 
 whether property transferred is tangible or intangible (A. R. R. 383, T. B. 
 8-21-1470). 
 
 278 Under the 1917 Law this restriction on the value of assets acquired 
 on a reorganization after March 3, 1917, applied only to cases where the 
 asset was not paid for specifically as such in cash or tangible property, 
 (Revenue Act of 1917, §208; Reg. 41, Art. 50) but under the present law 
 it applies also to cases where payment may have been made in cash or by 
 tangible property. (Revenue Acts of 1918 and 1921, § 331.) 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1083 
 
 for any charge or expenditure deducted as expense, or other- 
 wise, on or after March 1, 1913, in computing the net income 
 of such previous owner for purposes of taxation.^™ In all such 
 cases the reduction to be made is the difference between (a) the 
 book value of such assets, and (b) in case the previous owner 
 was a corporation, the value at which the asset would have 
 been considered invested capital to it, or (c) in case the pre- 
 vious owner was an individual the cost of such asset to such 
 owner, as indicated above. 
 
 It will be noted that the Revenue Act of 1918 in its provi- 
 sion regarding reorganizations extends the corresponding pro- 
 vision of the Revenue Act of 1917 to include a "change of 
 ownership of property after March 3, 1917." ^so 
 
 A new corporation which raises a certain sum from the sale 
 of its capital stock as a condition precedent to taking over 
 from the creditors of a defunct corporation the old corpora- 
 tion's assets and assuming its liabilities will not be allowed as 
 invested capital the amount which the old corporation could 
 have claimed. It is limited to the amount received from the 
 sale of its capital stock. The value of the property received 
 on condition of the assumption of the unpaid liabilities of the 
 old corporation is borrowed capital.^^^ In this case the old cor- 
 poration had gone into the hands of a receiver and its property 
 sold to its creditors who were not stockholders. The transac- 
 tidn was closed and completed so far as the old corporation and 
 its stockholders were concerned. The fact that the stockholders 
 of the old and new corporations were identical does not affect 
 the question. 
 
 Definition. Where under the laws of a state a charter 
 granted to a corporation is limited to a period of years, the 
 renewal of such charter merely prolongs the existence of the 
 original corporation and does not of itself constitute a reorgani- 
 zation within the meaning of the excess-profits tax laws.^sa 
 
 The expression "remains in control" has been construed to 
 cover a case in which the assets of a partnership were taken 
 over by a corporation, the former partners receiving approxi- 
 mately 49% of the capital stock of the new corporation, but 
 
 279 Revenue Acts of 1918 and 1921, §331; A. R. R. 393, T. B. 8-21-1470; 
 A. R. R. 618, T. B. 39-21-1849; 0. D. 789, T. B. 5-21-1424. Cost may in- 
 clude expenditures for good will not charged to expense, even though 
 written off the books prior to the change of ownership. 
 
 280 A. R. R. 285, T. B. 42-20-1252. 
 
 281 T. B. M. 49, T. B. 11-19-389. 
 
 282 0. D. 930, T. B. 21-21-1657. 
 
1084 FEDERAL INCOME TAX 
 
 becoming the principal officers thereof. The decision was founded 
 upon the consideration that upon the reorganization the partners 
 received all the stock of the new corporation, 51% of which 
 they then disposed of to the public.sss it has been held that 
 where the owner of a business turned the business over to a 
 corporation practically all the stock of which was issued to his 
 children and close connections, an interest or control of 50% 
 or more did not remain in the same persons; the offer to sell 
 the assets of the business was construed as an enforceable agree- 
 ment based upon a valid consideration for the benefit of third 
 persons.28* 
 
 Reorganizations Entitling Corporations to Revaluation. 
 The provision referred to in the preceding paragraph pro- 
 vides negatively that in the case of a reorganization, consolida- 
 tion or change of ownership of a trade or business or change 
 of ownership of property after March 3, 1917, if an interest or 
 control in such trade or business or property of 50% or more 
 
 283 A. R. R. 409, T. B. 11-21-1512. The validity of this ruling seems ex- 
 tremely doubtful. It is founded upon the technical argument that the 
 "proceeds from the sale of any or all of the stock passed to the partner- 
 ship. Out of these proceeds the partners paid to the corporation such 
 amount or amounts as the partners had agreed to pay in part consideration 
 for the stock received by them. In other words, the transaction was between 
 the corporation and the partners and the latter named the proportion in 
 which they desired the stock distributed to them and to their nominees. 
 Hence, the partners did remain in control. They exercised this control 
 in naming their nominees. It is immaterial that this stock control was 
 not continuing — that it immediately passed by a small fraction into other 
 hands". It would seem material under the statute whether the control 
 is continuing. The word "remains" might well be given a broader construc- 
 tion than that above indicated in which it is limited to conditions imme- 
 diately before and after the change of ownership. Moreover, to say that 
 the partners exercised their control by naming nominees is utterly to de- 
 feat the statute. In all cases of a reorganization or change of ownership 
 the old stockholders or owners do this, and if it is to preclude an increase 
 of invested capital, the statutory provision might as well include all re- 
 organizations and changes of ownership, rather than those only in which 
 a 50% interest or control remains in the same persons. 
 
 284 A. R. R. 645, T. B. 42-21-1890. This was an absolutely bona fide 
 transaction, and there was no doubt that the issuance of the stock to the 
 children was unconditional. The father was actuated by a desire to pro- 
 vide for his children during life and then retire from active business. 
 On the point that where two parties enter into an agreement under which 
 third persons are to receive a benefit, the contract is enforceable, see 
 Cobb V. Heron, 180 111. 49, 54 N. E. 189, aff'd 78 111. App. 654; Deen v. 
 Walker, 107 111. 540; Bay v. Williams, 112 111. 91; Hartman v. Pistorious, 
 248 111. 568, 94 N. E. 131; Searls v. Flora, 225 111. 167, 80 N. E. 98; Harms 
 V. McCormick, 132 111. 104, 22 N. E. 511. 
 
WAK-PROFITS AND EXCESS-PROFITS TAX 1085 
 
 remains in the same persons, or any of them, then no asset 
 transferred or received shall be allowed a greater value in 
 determining invested capital than would have been allowed to 
 the previous owner. Two inferences are to be fairly drawn 
 from this provision: (1) assets in the case of reorganization 
 prior to March 3, 1917, should be valued as of the date of 
 transfer to the new corporation for the purpose of determining 
 the invested capital of such corporation for the taxable year ; ^ss 
 (2) assets in the case of a reorganization after March 3, 1917, 
 should be valued as of the date of the transfer to the new cor- 
 poration for the purpose of determining the invested capital 
 of such corporation for the taxable year, if an interest or 
 control in the trade, business or property transferred upon the 
 reorganization does not remain to the extent of 50% or more 
 in the same persons. In cases arising upon this side of the 
 question a revaluation of assets has been permitted for pur- 
 poses of determining invested capital. It has been expressly 
 ruled that in a case falling under (1) above a revaluation of 
 assets is to be permitted for purposes of invested capital where 
 there was a change of corporate entity prior to March 3, 1917, 
 even though there was no change of officers, or directors, or 
 proportions of stockholders. Inasmuch as the treasury depart- 
 ment treats the stockholders of a reorganized corporation, who 
 surrender their stock, as liable to income tax if the value of 
 the stock received is in excess of the cost of the stock surren- 
 dered, or its value on March 1, 1913, it feels bound to permit 
 the new corporation to obtain the benefit of a revaluation of 
 corporation assets for purposes of invested capital.^ss 
 
 Where two corporations are engaged in different branches 
 of the same business and the certificate of incorporation of one 
 is amended so as to change its name and increase its capital 
 stock, which new stock is issued prior to March 3, 1917, in 
 exchange for the stock of the two original companies, the 
 invested capital of the coiporation whose certificate has been 
 so amended will be determined by adding to such corporation's 
 oi-iginal invested capital prior to the transaction the appre- 
 ciated value (as of the date of the exchange of stock) of the 
 assets of the other corporation the control of which had been 
 transferred. No appreciation of value for purposes of in- 
 vested capital is allowable with respect to the corporation 
 
 285 A. R. R. 268, T. B. 41-20-1238; A. R. M. 60, T. B. 25-20-1022. 
 
 286 A. R. M. 60, T. B. 25-20-1022. 
 
1086 FEDERAL INCOME TAX 
 
 which amended its certificate since there was no change of 
 identity on the part of this corporation.287 Where a corpora- 
 tion transfers its property to an association composed of its 
 stockholders and the association after January 1, 1914, but 
 prior to March 3, 1917, transfers substantially the same assets 
 to a new corporation, the fair market value of such assets 
 when transferred to the new corporation should be included 
 in determining the invested capital of the latter.^ss The re- 
 valuation of assets upon a reorganization may not always re- 
 sult in an appreciated value. The invested capital of a corpo- 
 ration is measured by the original capital contribution of the 
 stockholders and need not be reduced by any subsequent 
 deficit in the nature of an operating loss. Likewise, deprecia- 
 tion and depletion of capital assets need only be applied against 
 earned surplus and need not be applied against capital on paid- 
 in surpVus."^^^ In the case of a corporation the capital of which 
 has been impaired by losses or by depletion or depreciation not 
 properly allowed for, a reorganization may result in a capital 
 contribution to the new corporation smaller than the original 
 capital contribution of the stockholders of the old corporation. 
 In the case of such a reorganization prior to March 3, 1917, or 
 after that date, provided the interest or control of the assets 
 is changed, the reorganized corporation may by virtue of the 
 reorganization be obliged in effect to reduce what would have 
 been the invested capital of the old corporation by the amount 
 of any such loss, depletion or depreciation. The mere change 
 of domicile of a corporation without change as to capital and 
 surplus does not affect invested capital even though the new 
 corporation is an entity distinct from the old. In such case the 
 charter issued in one state has merely been surrendered in ex- 
 change for a new charter in another state without change in 
 the business or amount of capital and surplus and the new cor- 
 poration is entitled to the same invested capital as the old-^^o 
 
 As TO Values Marked Up on thS Books of Account. In- 
 vested capital cannot be based upon an appraisement showing 
 
 287 0. 872, T. B. 10-19-365; see A. R. R. 285, T. B. 42-20-1252; Sol. Op. 
 41, T. B. 34-20-1159. This decision is silent as to whether the corporation 
 whose assets were appreciated for purposes of invested capital was sub- 
 jected to income tax to the extent of such appreciation. 
 
 288 Sol. Op. 41, T. B. 34-20-1159. 
 
 289 Reg. 45, Art. 860; A. R. R. 436, T. B. 13-21-1536; letter from Treas- 
 ury Department dated March 19, 1918; letter from Treasury Department 
 dated April 14, 1916; W. T. S. 1919, 111042. 
 
 290 A. R. R. 16, T. B. 3-20-697. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1087 
 
 the value as of any date subsequent to the date of acquisition.^^! 
 Therefore, if a corporation has marked up the value of any of 
 its assets the amount by which the original book values have 
 been so increased must be deducted. This doctrine has now 
 been established by a leading case in the Supreme Court,^^^ de- 
 cided under the 1917 Law. In this case a corporation acquired 
 ore lands in 1904 for $190,000. Extensive explorations and 
 developments between that year and 1912 gave the lands an 
 actual cash value of upwards of $10,000,000 in 1912, which 
 value extended through 1917. This appreciation in value was 
 capitalized by the issue of a stock dividend in 1912. In its 
 1917 invested capital the corporation included the ore lands 
 at their appreciated value so capitalized. Invested capital was, 
 of course, reduced to this extent by the Commissioner, and re- 
 covery of the additional tax paid as a result of the decrease of 
 invested capital was sought in court. The contention of the 
 corporation was that the increased value of the ore lands was 
 "paid-in or earned surplus and undivided profits; that under 
 the phrase "the actual cash value of tangible property paid in 
 other than cash, for stock or shares in such corporation" the 
 stock issued as a dividend was fully paid for either (a) by 
 the tangible assets including the ore properti-es, at their in- 
 creased value, or (b) by the surrender of certificates represent- 
 ing the old stock of the corporation in exchange for new stock 
 including the stock dividend. These contentions were overruled 
 by the Supreme Court.^ss 
 
 iiSi Reg. 45, Art. 831; Reg. 41, Art. 42. Letter from Treasury Department 
 dated March 5, 1918. 
 
 292 La Belle Iron Works v. U. S., 41 Sup. Ct. Rep. 528, 65 L. Ed. 604; 
 T. B. 23-21-1680. See also A. R. R. 337, T. B. 50-20-1347; A. R. M. 413, 
 T. B. 10-21-1502. 
 
 293 The court made the following comments on the 1917 Law in this case : 
 "Reading the entire language of § 207 in the light of the circumstances 
 
 that surrounded the passage of* the act, we think its meaning as to 'in- 
 vested capital' is entirely clear. The great war in Europe had been in prog- 
 ress since the year 1914, and the manufacture and export of war supplies 
 and other material for the belligerent powers had stimulated many lines 
 of trade and business in this country, resulting in large profits as com- 
 pared with the period before the war, and as compared with ordinary re- 
 turns upon the capital embarked. The United States had become directly 
 involved in the conflict in the spring of 1917, necessitating heavy increases 
 in taxation ; at the same time manufactures and trade of every, description 
 were rendered even more active, and in certain lines more profitable, than 
 before, so that the unusual gains derived therefrom formed a natural 
 subject for special taxation. * * * A scrutiny of the particular pro- 
 visions of § 207 shows that it was the dominant purpose of Congress to 
 
1088 FEDERAL INCOME TAX 
 
 All taxpayers who, in the preparation of their tax returns 
 for 1917 and subsequent years, have used appreciated or in- 
 flated values in determining the amount of their invested capi- 
 tal are required to file with the collector amended returns for 
 each of such years, in which the invested capital should be com- 
 puted without the use of appreciated or inflated values. It 
 is not required that such amended returns shall include the 
 figures shown in the original returns which are unaffected by 
 this decision. Only such figures as are necessary to show the 
 
 place the peculiar burden of this tax upon the income of trades and busi- 
 nesses exceeding what was deemed a normally reasonable return upon the 
 capital actually embarked. But if such capital were to be computed accord- 
 ing to appreciated market values based upon the estimates of interested 
 parties (on whose returns perforce the government must in great part rely), 
 exaggerations would be at a premium, corrections difflcult, and the tax 
 easily evaded. § 207 shows that Congress was fully alive to this and de- 
 signedly adopted a term — 'invested capital' — and a definition of it, that 
 would measurably guard against inflated valuations. The word 'invested' 
 in itself imports a restrictive qualification. When speaking of the capital 
 of a business corporation or partnership, such as the act deals with, 'to 
 invest' imports a laying out of money, or money's worth, either by an in- 
 dividual in acquiring an interest in the concern with a view to obtaining 
 income or profit from the conduct of its business, or by the concern itself 
 in acquiring something of permanent use in the business; in either case 
 involving a conversion of wealth from one form into another suitable for 
 employment in the making of the hoped-for gains. See Webster's New 
 Internat. Diet., 'invest,' 8; Century Diet., 'invest,' 7; Standard Diet., 'in- 
 vest,' 1. 
 
 "In order to adhere to this restricted meaning and avoid exaggerated 
 valuations, the draftsman of the act resorted to the test of including noth- 
 ing but money, or money's worth, actually contributed or converted in 
 exchange for shares of the capital stock, or actually acquired through the 
 business activities of the corporation or partnership (involving again a 
 conv^sion) and coming in ab extra, by way of increase over the original 
 capital stock. How consistently this was carried out becomes evident as 
 the section is examined in detail. Cash paid in, and tangible property paid 
 in other than cash, are confined to such as were contributed for stock or 
 shares in the corporation or partnership; and the property is to be taken 
 at its actual cash value 'at the time of such payment' — distinctly negativing 
 any allowance for appreciation in value. * * * xhe provision of clause 
 (3) that includes 'paid in or earned surplus and undivided profits used or 
 employed in the business' recognizes that in some cases contributions are 
 received from stockholders in money or its equivalent for the specific pur- 
 pose of creating an actual excess capital over and above the par value 
 of the stock; and, in view of the context, surplus 'earned' as well as that 
 'paid in' excludes the idea of capitalizing (for the purposes of this tax) a 
 mere appreciation of values over cost. 
 
 "The same controlling thought is carried into the proviso, which relates 
 to the valuation of patents, copyrights, trade-marks, good will, franchises, 
 and similar intangible property. Every line shows evidence of a legis- 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1089 
 
 correct values used in the computation of invested capital and 
 such totals as are necessary to a redetermination of the tax 
 need be shown. Payment of the additional tax shown to be 
 due on such amended returns must also be made at the time 
 the returns are filed.^^* 
 
 Inventories must be valued at cost, or cost or market, which- 
 ever is lower.295 
 
 As TO INADEQUATE ALLOWANCE FOR DEPRECIATION OR DE- 
 PLETION. Where the corporation has not duly marked down 
 the value of its property subject to depreciation, or set up a 
 depreciation reserve to provide for replacement of values lost 
 by depreciation, from the time the property was acquired 
 down to the beginning of the taxable year, the proper amount 
 of depreciation suffered during that period must be computed 
 and deducted from the value of the assets in order to reach 
 their present value at the beginning of the taxable year.^ss 
 
 lative purpose to confine the account to such items as were paid in for stock 
 or shares, and to their values 'at the time of such payment'; * * * 
 
 "It is clear that clauses (1) and (2) refer to actual contributions of 
 cash or of tangible property at its cash value contributed in exchange for 
 stock or shares specifically issued for it; and that neither these clauses, nor 
 clause (3) which relates to surplus, can be construed as including within 
 the definition of invested capital any marking up of the valuation of assets 
 upon the books to correspond with increase in market value, or any paper 
 transaction by which new shares are issued in exchange for old ones in 
 the same corporation, but which is not in substance and effect a new ac- 
 quisition of capital property by the company. 
 
 "It is clear enough that Congress adopted the basis of 'invested capital' 
 measured according to actual contributions made for stock or shares and 
 actual accessions in the way of surplus, valuing them according to actual 
 and bona fide transactions and by valuations obtaining at the time of ac- 
 quisition, not only in order to confine the capital, the income from which was 
 to be in part exempted from the burden of this special tax, to something 
 approximately representative of the risks accepted by the investors in 
 embarking their means in the enterprise, but also in order to adopt tests 
 that would enable returns to be more easily checked by examination of 
 records, and make them less liable to inflation than if a more liberal mean- 
 ing of 'capital and surplus' had been adopted; thus avoiding the necessity 
 of employing a special corps of valuation experts to grapple with the many 
 difficult problems that would have ensued had general market values been 
 adopted as the criteria". 
 
 294 T. D. 3220, T.' B. 37-21-1822. Such amended returns were required 
 by November 24, 1921. This date has now been extended to January 
 15, 1922. (See T. D. 3243.) As to penalties for failure to file amended 
 returns on or before such date, see R. S. 3176. (See M. 2848; W. T. S. 
 1921, If 985.) Collectors are not allowed to extend this period. 
 
 295 A. R. R. 517, T. B. 22-21-1667. 
 
 296 See Reg. 41, Art. 42; A. R. R. 384, T. B. 7-21-1456. 
 
1090 FEDERAL INCOME TAX 
 
 Such depreciation cannot be offset by any unrealized appre- 
 ciation.297 Since the law contemplates that the invested capital 
 shall be measured by the value of the original contribution of 
 the stockholders to the corporation, paid-in surplus represent- 
 ing tangible property need not be reduced by reason of depre- 
 ciation. All adjustments necessary on account of inadequate 
 or excessive depreciation should be made in connection with 
 earned surplus or undivided profits. Therefore, if a corpora- 
 tion is properly entitled to add to its invested capital in the 
 form of paid-in surplus an amount representing excess in value 
 of property, over the consideration paid therefor, such paid-in 
 surplus need not be reduced on account of depreciation of the 
 property on which the excess value is claimed. It should be 
 borne in mind, however, that while paid-in surplus, as ■ indi- 
 cated above, need not be reduced on account of depreciation, 
 such adjustment must be made in earned surplus or undivided 
 profits, and the computation must be based not on the cash paid 
 or stock issued for the property but on its actual value at the 
 time acquired for the purpose of computing the allowable addi- 
 tion to paid-in surplus.^^s Similar reduction must also be made 
 in case of inadequate allowance for depletion.^^a Amounts 
 charged off for depletion during prior years and disallowed may 
 not, merely because of the disallowance, be restored to in- 
 vested capital.^"" 
 
 Depletion, like depreciation, must be recognized in all cases in 
 which it occurs. Depletion attaches to each unit of mineral or 
 other property removed, and the denial of a deduction in com- 
 puting net income under the Act of August 5, 1909, or the limi- 
 tation upon the amount of the deduction allowed under the Act 
 of October 3, 1913, does not relieve the corporation of its ob- 
 ligation to make proper provision for depletion of its property 
 in computing its surplus and undivided profits. Adjustments 
 in respect of depreciation or depletion in prior years will be 
 made or permitted only upon the basis of affirmative evidence 
 that as at the beginning of the taxable year the amount of de- 
 preciation or depletion written off in prior years was insuflS- 
 cient or excessive, as the case may be. Where deductions for 
 depreciation or depletion have either on the books of the cor- 
 
 297 A. R. R. 71, T. B. 18-20-906. 
 
 298 A. R. R. 436, T. B. 13-21-1536. Letter from Treasury Department 
 dated April 14, 1919; W. T. S. 1919, 111042; 6. D. 90, T. B. 1-19-129. 
 
 299 A. R. R. 517, T. B. 22-21-1667. 
 
 300 0. D. 833, T. B. 9-21-1489. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1091 
 
 poration or in its returns of net income been included in the 
 past in expense or other accounts, rather than specifically as 
 depreciation or depletion, or where capital expenditures have 
 been charged to expense in lieu of depreciation or depletion, a 
 statement indicating the extent to which this practice has been 
 carried should accompany the return .^^i 
 
 The Commissioner has issued a statement interpreting the 
 above regulation. He states that it was the intention of the 
 department that a corporate surplus account is not to be dis- 
 turbed lightly and that no change should be made in it either 
 by the government or by the taxpayer except upon adequate 
 evidence that the surplus account was incorrect. Unless the 
 taxpayer can show a state of error the government should deny 
 a claim for an increase in the surplus shown by the taxpayer's 
 books ; conversely, before a deduction can be made from the tax- 
 payer's surplus account, the government must show that such 
 an adjustment is necessary to correct the account. Such proof 
 must be in the form of affirmative evidence ; it can not rest upon 
 mere assertion or the working out of the theoretical formula. 
 A taxpayer's corporate surplus should not be reduced by the 
 arbitrary adjustment of depreciation and depletion for past 
 years. Surplus accounts should, however, always be carefully 
 E-crutinized and checked up for the purpose of preventing the 
 inclusion therein of appreciated values of property. In case of 
 doubt in such case the burden should be cast upon the taxpayer 
 to prove that no appreciated values were included in the surplus. 
 A presumption should always exist that a taxpayer's books of 
 account reflect actual facts. The burden of proof is upon any 
 one who attempts to impugn the correctness of the books of 
 account — upon the government if it seeks to reduce its surplus 
 account by charging off depreciation and depletion which have 
 not been claimed by the taxpayer and upon the taxpayer where 
 he claims that too much depreciation and depletion have been 
 charged off in prior years.302 There is no warrant for reducing 
 earned surplus because of alleged failure to charge off sufficient 
 depreciation in the past, unless the depreciable assets of the 
 corporation are valued on its books at the beginning of the tax- 
 able year at an amount in excess of their actual value at that 
 time.^''^ The words "actual value" mean "sound value," which 
 
 301 Reg. 45, Art. 839. 
 
 302 0. D. 1104, T. B. 46-21-1926; A. R. M. 106, T. B. 18-21-1614. 
 
 303 A. R. M. 106, T. B. 18-21-1614. See also A. R. R. 390, T. B. 9-21-1487. 
 
1092 FEDERAL INCOME TAX 
 
 is "original cost" (or value as of March 1, 1913, if applicable, 
 including additions and betterments charged to capital account 
 less depreciation sustained). Any action on the part of a par- 
 ticular taxpayer which extends the useful life of a depreciable 
 asset beyond the normal or usual term, and any circumstance 
 which serves to increase the salvage value of a depreciable asset, 
 operates to justify a reduction in the normal rate of deprecia- 
 tion. The depreciation of an asset is arrested where it is main- 
 tained at a high standard of efficiency either by the exercise of 
 unusual care in its use or by unusual maintenance expenditures. 
 The exhaustion of capital through use, wear and tear has, for 
 the purpose of computing invested capital, the same effect as an 
 operating loss, and unless this loss is properly taken care of out 
 of earnings in one way or another earned surplus must be ad- 
 justed in accordance with the regulations. There are two ways 
 of taking care of this loss out of income. One *is by charging 
 ordinary repairs directly to expense and setting up a deprecia- 
 tion reserve against which are properly chargeable all renewals 
 and replacements; the other is where renewals and replace- 
 ments, as well as repairs, have been charged directly against 
 gross income. Either way has the effect of reducing the amount 
 added during the year to earned surplus. Consequently, the 
 mere fact that no depreciation, or a minimum depreciation, has 
 been charged as such is not sufficient reason for reducing the 
 earned surplus where renewals and replacements sufficient to 
 care for the decrease in value of capital assets have been charged 
 directly to expense, or where for any other reason less than 
 the normal rate of depreciation is properly chargeable. When 
 a taxpayer makes this claim there are two methods of verifying 
 it. One is by determining the plant efficiency and the other is 
 by determining the value of the capital assets remaining. From 
 an administrative standpoint the latter is probably more prac- 
 tical even though it may be said that the former is more ac- 
 curate. 
 
 Many cases arise where corporations have been in existence 
 for a long period of years, sometimes several times the ordinary 
 estimated life of the depreciable assets, and yet those assets are 
 today in first-class condition and worth the figure at which they 
 are carried on the books, although no depreciation has been 
 charged as such and no additions to capital account have been 
 made. In such cases it is obvious that depreciation has been 
 adequately cared for by charges to expense, although it fre- 
 quently happens that it is impossible at this late date to segre- 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1093 
 
 gate and specify such charges and there is no warrant in the 
 law or the regulations for requiring the depreciable assets in 
 such cases to be written down below the figure at which they 
 are carried on the books, since to do so is to reduce earned sur- 
 plus twice, once through the original charge to expense (whether 
 proper or improper) and again through an arbitrary deprecia- 
 tion charge set up against earned surplus for the purpose of 
 computing invested capital. The controlling rule in this matter 
 is stated above to the effect that adjustments in respect of de- 
 preciation or depletion in prior years will be made or permitted 
 only upon the basis of affirmative evidence that as at the begin- 
 ning of the taxable year the amount of depreciation or depletion 
 written off in prior years was insufficient or excessive, as the 
 case may be. Mere failure in prior years to have written off on 
 the books the maximum or ordinary rate of depreciation is not 
 in itself "affirmative evidence."^"'* 
 
 As TO Losses. Where a loss has taken place, and the value 
 of the asset has not been marked down accordingly, the amount 
 of such loss must be deducted in this adjustment. But where 
 a loss has taken place it will be taken into account only to the 
 extent that it has wiped out earned surplus. The amount of 
 the original capital contributed by the stockholders is not re- 
 duced by reason of the loss, but no new surplus can be included 
 as invested capital until the full loss chargeable against the 
 capital account has been made good.^"^ Capital or surplus ac- 
 tually paid in is not required to be reduced because of an impair- 
 ment of capital in the nature of an operating deficit, except 
 where there has been directly or indirectly a liquidation or re- 
 turn of their investment to the stockholders, in which case full 
 effect must be given to any liquidation of the original capitaL^o^ 
 Good will created to offset impaired capital has no effect on in- 
 vested capital. Subsequent earnings must be used first to restore 
 impaired capital, excess may be added to original investment as 
 invested capitaL^^''^' A corporation to which a certain amount of 
 capital was once contributed, and which has not paid back any 
 part thereof to its stockholders, either directly or indirectly, is 
 allowed to claim the entire amount originally contributed as 
 invested capital, regardless of losses which may have impaired 
 
 304 A. R. M. 106 explained, T. B. 30-21-1748. 
 
 30SA. R. R. 436, T. B. 13-21-1536. Letter from treasury department 
 dated March 19, 1918; Reg. 45, Art. 860. 
 
 306 Reg. 45, Art. 860; A. R. R. 436, T. B. 13-21-1536. 
 
 307 0. D. 82, T. B. 1-19-121. 
 
1094 FEDERAL INCOME TAX 
 
 such capital, provided the corporation has no surplus against 
 which the loss can be charged. In other words, a corporation 
 which has a deficit instead of a surplus may disregard the 
 deficit in the computation of its invested capital. Losses which 
 must be taken into consideration under this adjustment are 
 those which have been actually sustained. The mere deprecia- 
 tion in market \alje ct tts''tG s n:,- f /'H -'.'-l .1 i i oj ' ijss im- 
 pairing invested capital. Thus, stock of other corporations may 
 have been purchased at par and at the beginning of the taxable 
 year may have a market value of only 75. Nevertheless, until 
 the stock is sold, it may for purposes of invested capital be car- 
 ried at its original cost, and if the corporation has marked the 
 value down to market, it may restore the value to original cost. 
 On the other hand, such marking down of assets to market (ex- 
 cept in the case of dealers who inventory their stock) does not 
 create a loss which may be deducted in computing the net income. 
 In the case of dealers who inventory their stock, the inven- 
 tory value would govern and the cost value cannot be restored. 
 Allowance for Amortization Under Munition Manufac- 
 turer's Tax. The munition manufacturer's tax was laid upon 
 the entire net profits actually received or accrued, from the sale 
 or disposition of specific munitions, and it was provided in Sec- 
 tion 302 "That in computing net profits under the provisions of 
 this title, for the purpose of the tax there shall be allowed as 
 deductions from the gross amount received or accrued for the 
 taxable year from the sale or disposition of such articles manu- 
 factured within the United States, the following items ; * * * 
 (f ) A reasonable allowance according to the conditions peculiar 
 to each concern^ for amortization of the values of buildings and 
 machinery, account being taken of the exceptional depreciation 
 of special plants." It is apparent from this language that the 
 amortization allowance in question was authorized for the pur- 
 pose of computing "net profits," not "net income." The right 
 to make a deduction for amortization in computing net income 
 for the income tax did not exist and was repeatedly denied by 
 the treasury department prior to the passage of the Revenue 
 Act of 1918. It is to be noted further that the taxes imposed 
 by Title II of the Revenue Act of 1917 and Title III of the 
 Revenue Act of 1918 were explicitly laid upon "net income," and 
 were in a variety of ways impressed with the stamp and char- 
 acter of an income rather than a munition manufacturer's tax. 
 They are in no sense mere continuations or expansions of the tax 
 imposed by Title III of the Revenue Act of 1916. It follows. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1095 
 
 therefore, that the deduction for amortization under the muni- 
 tion manufacturer's tax law was not allowed for income tax pur- 
 poses and should not now be permitted to affect the surplus or 
 any other element entering into the "invested capital" em- 
 ployed for purposes of the war-profits and excess-profits taxes. 
 In ruling upon a particular case the treasury department 
 stated: "This conclusion is supported by the character of the 
 amortization allowance in question. It was in many respects 
 quite dissimilar from the depreciation and depletion allowances. 
 It was not based upon the fact that plant and equipment ac- 
 quired in the year 1916 or earlier for the manufacture of muni- 
 tions, actually depreciated in use or market value during the tax- 
 able year 1916. There was in general no such depreciation in 
 value or impairment of useful life. Account was taken 'of the 
 exceptional depreciation of special plants' but the principal al- 
 lowance was 'for the amortization of the values of buildings and 
 machinery,' whether those values increased or decreased in the 
 immediate future. The principal amortization allowance looked 
 to the establishment of a special fund to recoup exceptional war 
 costs when war uses had ceased ; it did not imply that there had 
 been or would be any immediate impairment of physical assets, 
 such as is covered by the depletion allowance, or any immediate 
 exhaustion, wear, tear or obsolescence in excess of the amount 
 covered by the depreciation allowance. It was, as stated, a 
 special allowance peculiar to this tax, designed possibly to mod- 
 erate the (then) exceptionally high rates of the munition man- 
 ufacturer's tax." 308 
 
 As TO Inadmissible Assets. The adjustment by way of re- 
 duction of invested capital which must be made with respect to 
 inadmissible assets is indicated in an earlier paragraph on that 
 subject.^o^ In the case of a corporation which has no borrowed, 
 money the reduction will equal the value of the inadmissible 
 assets. In case the corporation has borrowed money the amount 
 to be deducted is arrived at by deducting such proportion of the 
 invested capital (excluding borrowed capital) as the proportion 
 of inadmissible assets is to the total of inadmissible and ad- 
 missible assets.3^° Under the 1917 Law adjustments for inad- 
 missible assets were made on the theory that the borrowed 
 money was used to purchase or carry the inadmissible assets and 
 
 308 Letter from treasury department dated August 13, 1919; W. T. S. 
 1921, 11763; T. B. M. 56, T. B. 15-19-452. 
 
 309 See p. 1079. 
 
 310 Revenue Acts of 1918 and 1921, § 326 (c). 
 
1096 FEDERAL INCOME TAX 
 
 only the excess of such assets over the borrowed money was de- 
 ducted from invested capital. Under the present law, the ad- 
 justment seems to be on the theory that capital, surplus and 
 borrowed money are represented by the inadmissible assets in 
 proportion to the amount that each bears to the aggregate cap- 
 ital, surplus and borrowed money. 
 
 Adjustments Due. to Changes in the Taxable Year. After the 
 invested capital has been ascertained as at the beginning of the 
 year certain adjustments may be necessary to ascertain the 
 average invested capital during the year, which is the amount 
 contemplated by the law.^^^ The invested capital as of the be- 
 ginning of any period of one year or less should be adjusted by 
 an appropriate addition or deduction for each change in invested 
 capital during the period. The amount so added or deducted in 
 each case is the amount of the change averaged for the time re- 
 maining in the period during which it is in effect.^^'- The frac- 
 tion used in finding such average is the number of days re- 
 maining in the period (including the day on which the change 
 occurs) over the number of days in the period. Thus, if a re- 
 turn is made for the calendar year ending December 31, 1918. 
 and if $100,000 of additional capital was paid in on February 17. 
 1918, this addition to the invested capital is in effect for 318 
 days, and the amount to be added to the invested capital as of 
 the beginning of the year would be 318/365 of $100,000 or $87,- 
 123.29. If $50,000 of this amount was withdrawn on October 31, 
 ] 918, the amount to be deducted would be 62/365 of $50,000, or 
 $8,493.15.313 
 
 311 Revenue Acts of 1918 and 1921 §326 (d). 
 
 312 The 1917 Law provided that the invested capital should be "averaged 
 monthly'' but the treasury department instead of adopting a monthly 
 average required the invested capital to be averaged from the day on 
 which the change took place. (See form 1103 for 1917, Schedule D.) 
 Under that law the following rules were made for ascertaining the 
 average invested capital: (a) Add the capital for each of the several 
 months during which no change occurs, and the average capital (ascer- 
 tained as provided in subdivision (b) above) for each month in which 
 a change occurs and divide the total by the number of months in the 
 year or period. (b) To ascertain the capital for any month in which 
 a change occurs multiply the capital as of the first day of the month 
 by the number of days it remains constant and the capital after each 
 change by the number of days (including the day on which the change 
 occurs) during which it remains constant, add the products and divide 
 the sum by the number of days in the month. (Reg. 41, Art. 43.) 
 
 313 Reg. 45, Art. 853. Adjustments for 1920 — a leap year — should be 
 made on the basis of 366 days. (0. D. 822, T. B. 8-21-1473.) 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1097 
 
 Dividends Paid from Surplus. The law expressly provides 
 that any distribution of dividends made during the first 60 days 
 of the year shall be deemed to have been made from the earnings 
 or profits accumulated during the preceding taxable years.^^* A 
 dividend other than a stock dividend affects the computation of 
 invested capital from the date when the dividend is payable and 
 not from the date when it is declared, except that where no date 
 is set for its payment the date when declared will be considered 
 also the date when payable. For the purpose of computing in- 
 vested capital a dividend paid after the expiration of the first 60 
 days 'of the taxable year will be deemed to be paid out of the 
 net income of the taxable year to the extent of the net income 
 available for such purpose on the date when it is payable. The 
 method of determining available net income is stated in the next 
 paragraph. The surplus and undivided profits as of the begin- 
 ning of the taxable year will be reduced as of the date when the 
 dividend is payable by the entire amount of any dividend paid 
 during the first 60 days of the taxable year and by the amount 
 of any other dividend in excess of the current net income avail- 
 able for its payment. In the case of a dividend paid during the 
 first 60 days of a taxable year which exceeds in amount the sur- 
 plus and undivided profits as of the beginning of the taxable year 
 the excess will be deemed to be paid out of earnings of the tax- 
 able year available at the date when the dividend is payable, and 
 to the extent that such earnings are insuificient it will be deemed 
 to be a liquidation of paid in capital or surplus. From the date 
 when a dividend is payable the amount which the several stock- 
 holders are entitled to receive will be treated as if actually paid 
 to them, whether or not it is so paid in fact, and the surplus and 
 undivided profits, either of the taxable year or of the preceding 
 years, will in accordance with the foregoing provisions be 
 deemed to be reduced as of that date by. the full amount of the 
 dividend. Amounts paid to stockholders in anticipation of divi- 
 dends, or amounts withdrawn by stockholders in excess of divi- 
 dends declared, will in computing invested capital have the same 
 effect as if actually paid as dividends.^^s Where a corporation 
 issues interest-bearing notes to its stockholders in lieu of a cash 
 dividend, invested capital should be reduced as of the date of the 
 
 314 Revenue Act of 1918, §201 (e). This provision vsrill not be in effect 
 after December 31, 1921, because of the repeal of the excess-profits 
 tax (Revenue Act of 1921, §201 (f)). 
 
 315 Reg. 45, Art. 858. See paragraphs above "amounts paid into or left in 
 business," and "dividends credited to stockholders," p. 1070. 
 
1098 FEDERAL INCOME TAX 
 
 notes, provided the dividend was not declared from current 
 eamings.^i*' It is contemplated that a dividend must not affect 
 the computation of invested capital, except from the date when 
 the dividend is payable. The expression "except where no date 
 is set for its payment the date when declared will be considered 
 also the date when payable" assumes that the corporation has re- 
 sources to pay and does immediately intend to pay. When the 
 corporation can conveniently pay the dividend so declared is a 
 matter of administrative decision by the officers of the company 
 and until such decision, as a condition precedent, is reached there 
 is, in effect, no dividend to be paid and no reciprocal right on 
 the part of stockholders to immediately exact payment.^^'^ 
 
 Method of Determining Available Net Income. Whether 
 at the time of any payment made during the taxable year there 
 is sufficient income of the taxable year available for such pay- 
 ment, or whether the surplus or undivided profits as of the be- 
 ginning of the taxable year must be reduced by the amount of 
 such payment, will be determined according to the following 
 principles : 
 
 (1) The aggregate amount of earnings of the taxable year 
 available for all purposes up to any given date will be determined 
 upon the basis of the same proportion of the net income for the 
 taxable year (as finally determined for the purpose of income 
 and excess-profits taxes) as the part of the year already elapsed 
 is of the entire year, unless the corporation shows from its 
 books or other records that a greater proportion of its earnings 
 for the year was available on such date. A fairly accurate in- 
 formal approximation of monthly earnings, made for the use of 
 the officers of a corporation which did not close its books each 
 month is insufficient to overthrow the general presumption in, 
 favor of the average or prorating method of ascertaining 
 whether at the time of any payment made during the taxable 
 year there is sufficient income of the taxable year available for 
 such payment.318 
 
 (2) The aggregate amount available will be deemed to be ap- 
 plied for the following purposes in the order in which they are 
 stated : (a) accrued federal income and war-profits and excess- 
 
 316 0. D. 1070, T. B. 42-21-1876; A. R. R. 356, T. B. 52-20-1366; A. R. R. 
 102, T. B. 21-20-963. 
 
 317 A. R. R. 408, T. B. 9-21-1488. But if a dividend is credited to 
 stockholders' accounts with an agreement that it will not be drawn against, 
 it effects a reduction of invested capital from the date so credited. (0. 
 D. 1006, T. B. 34-21-1786.) 
 
 318 T. B. R. 54, T. B. 18-19-491. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1099 
 
 profits taxes for the taxable year, and (b) dividends paid after 
 the expiration of the first 60 days of the taxable year and other 
 corporate purposes, including the purchase of outstanding stock 
 of the corporation previously issued.^^^ In some cases the above 
 computation would be indeterminate ; for instance, in any case in 
 which the amount distributed as a dividend exceeds the earn- 
 ings of the taxable year to the date of the dividend payment plus 
 the accrued federal income and profits taxes on such earnings. 
 In such cases the amount of invested capital for the purpose of 
 this computation may be deemed to be the invested capital as of 
 the beginning of the taxable year, plus any additional capital 
 paid in during such year and minus any specific withdrawal or 
 liquidation of capital during such year.^^o 
 
 The entire amount of federal income, war-profits, and excess- 
 profits taxes accrued for the taxable year remains a part of in- 
 vested capital for the succeeding year (since it is not deductible 
 from gross income in returns) until the taxes become due in the 
 succeeding year. Accrual of taxes for the taxable year does 
 not affect invested capital for the taxable year, except to the 
 extent that the accrual of such taxes will cause dividend pay- 
 ments to draw on surplus as at the beginning of the year.^si 
 
 Effect of Stock Dividend. The payment of a stock dividend 
 has no effect upon invested capital. The distribution of a stock 
 dividend is in effect a capitalization of current earnings or of 
 earned surplus on hand at the beginning of the year. The cap- 
 italization of current earnings does not increase the invested cap- 
 ital, and the capitalization of surplus on hand at the beginning 
 of the year does not decrease the invested capital.322 Such items 
 as appraised value of good will, appreciation in value of real es- 
 tate or other tangible property, etc., although carried to surplus 
 and distributed as stock dividends, can not in this manner be 
 capitalized and included in computing invested capital. If a 
 corporation has paid a stock dividend in excess of its true sur- 
 plus, it can not be deemed to have any greater invested capital 
 than could have been computed had no such stock dividend been 
 paid.323 
 
 319 Reg. 45, Art. 857. 
 
 320 Reg. 45, Art. 857; 0. D. 619, T. B. 31-20-1110. 
 3210. D. 85, T. B. 1-19-124; 0. D. 982, T. B. 30-21-1749. 
 
 322 T. B. R. 3, T. B. 1-19-7. 
 
 323 Reg. 45, Art. 859; T. B. R. 3, T. B. 1-19-7. See paragraph above "aa 
 to values marked up on books of account," p. 1086. 
 
1100 FEDERAL INCOME TAX 
 
 Effect of Liquidating Dividend. An amount taken from 
 capital or paid-in surplus to meet dividend requirements is 
 deemed a liquidation of capital to that extent and necessitates 
 a reduction in the invested capital.^^* Thus, if a company pays a 
 dividend declaring it to be out of earnings accumulated prior to 
 March 1, 1913, and the excess of depletion allowable for 1917 
 upon the basis of the value of the company's property as of 
 March 1, 1913, over the depletion actually estimated on the basis 
 of cost, exceeds the dividend payment, the di-^idend payment will 
 nevertheless be held to constitute an impairment of invested cap- 
 ital, even though the appreciation in value as of March 1, 1913, 
 was converted into cash and reflected on the company's books 
 during the current year. This appreciation, although it may 
 have taken place prior to March 1, 1913, was not income until 
 realized in the taxable year.^^s Under the excess-profits tax the 
 earnings of the taxable year are not to be included in earned 
 surplus and undivided profits, and the appreciation, therefore, 
 can not be taken into consideration to reduce or affect the im- 
 pairment of invested capital occasioned by the dividend pay- 
 ment.326 
 
 Increase of Capital Stock. If the capital stock is in- 
 creased during the taxable year, the invested capital will be 
 considered to have been increased from and after the dates on 
 which the cash or property for which such stock is issued are 
 paid in.227 
 
 Reduction of Capital Stock. If the capital stock is re- 
 duced during the year, the invested capital will be considered to 
 be reduced accordingly from and after the dates on which the 
 assets representing such reduction of capital stock are paid to 
 the stockholders.-'^-^ The' mere reduction of the authorized cap- 
 ital without a distribution of the assets will not affect the in- 
 vested capital. 
 
 Payment of Preceding Year's Excess-Profits Tax. The 
 amounts payable on account of income and excess-profits taxes 
 for any year may be included in computing surplus and un- 
 divided profits for the succeeding year only for the proportion- 
 ate part of the year represented by the period of time between 
 
 324 O. 942, T. B. 26-19-598. 
 
 325 Baldwin Locomotive Works v. McCoach, 221 Fed. 59. See chapters 
 19 and 33. 
 
 326 A. R. M. 51, T. B. 20-29-43. 
 
 327 See p. 1096. 
 
 328 See p. 1096. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1101 
 
 the close of the taxable year and the date or dates upon which 
 such taxes become due and payable.^^o The date when the 1918 
 taxes were actvMly paid has no bearing on the computation of 
 the invested capital of a corporation for the year 1919, inas- 
 much as the controlling factor is the date when such taxes were 
 due and payable, and not the date when they were actually paid. 
 In other words, the amount of each installment of the tax for 
 1918 will remain a part of the invested capital for 1919 until 
 such installment is due and payable, and when such installment 
 is due, an adjustment should be made in the nature of a reduc- 
 tion of the book value of assets.^^" Income and excess-profits 
 taxes are deemed to have been paid out of the net income for the 
 taxable year for which such taxes' are levied and it is immaterial 
 whether or not a reserve was set up for such taxes and if set up, 
 whether such taxes when paid have actually been charged 
 against such reserves.^^^ It seems immaterial whether or not 
 sufficient earnings of the current year were on hand when such 
 taxes were actually paid. In the case of corporations having a 
 fiscal year, the federal income and excess-profits taxes for the 
 taxable year 1918 will, for tl>e purpose of computing invested 
 capital for the taxable year 1919, be deemed to become due and 
 payable as follows: (a) As to such amounts as became due and 
 payable prior to February 25, 1919, under the Revenue Act of 
 1916, such law shall govern; (b) In all other respects the Rev- 
 enue Act of 1918 shall govern except that the installments which 
 would become due prior to February 25, 1919, shall be deemed 
 to become due and payable on that date; (c) Any amounts 
 which became due and payable under the Revenue Act of 1916 
 prior to February 25, 1919, shall, so far as possible, be deemed 
 to cancel the earlier installments payable under the Revenue 
 Act of 1918.332 
 
 329 Reg. 45, Art. 845; T. D. 2791. 
 
 330 Letter from treasury department dated September 22, 1919 ; W. 
 T. S. 1921, H 785. 
 
 331 Reg. 45, Art. 845; T. D. 2791; O. D. 222, T. B. 11-19-392. 
 
 332 T. D. 2931; Reg. 45, Art. 845 (a); A. R. R. 81, T. B. 45-20-1299. 
 See Revenue Acts of 1918 and 1921, §250; Revenue Act of 1916, §14 (a). 
 Under the Revenue Act of 1916, in the case of a fiscal year corporation, 
 return was due within 60 days after the close of the fiscal year and tax 
 was due within 105 days after the last due date of the return (not 
 after the date of filing) , hence, for the fiscal year ended August 31, 
 1918, the return was due on or before October 30, 1918, and the tax 
 on or before February 12, 1919, or on or before the 165th day after 
 August 31, 1918. The provisions of the above ruling (Reg. 45, Art. 845 (a)) 
 apply solely for the purpose of computing invested capital and do not 
 
1102 FEDERAL INCOME TAX 
 
 Where a corporation has filed a claim for assessment of its 
 1918 tax by reference to representative corporations and has 
 made payments on the basis of 50% of the net income, the 
 claim not having been acted upon when its 1919 return is due, 
 the invested capital for 1919 should be adjusted on the basis of 
 the tax payments actually made, subject, however, to read- 
 justment when the correct amount of tax for 1918 is de- 
 termined.^^^ 
 
 Effect of Additional Assessment. The rule stated in the 
 previous paragraph is in general applicable to additional assess- 
 ments. It is the essence of any system of accrued accounting 
 that items of income and outgo be estimated as they accrue and 
 that the proper entries be made upon the books at that time. 
 The books for any fiscal period are deemed to clearly reflect the 
 history of that period and are not changed even though sub- 
 sequent events demonstrate that certain accruals, to a minor de- 
 gree, were incorrectly estimated. The necessary adjustments 
 to correct such errors are made in the current accounts. It is 
 only where major adjustments are necessary that it is good ac- 
 counting practice to make adjustments for past errors in the 
 surplus account. For these reasons it has been recommended 
 that additional assessments of income and excess-profits taxes, 
 for prior years which are relatively small or unimportant be 
 considered paid from current earnings; but that where the ad- 
 ditional assessment is relatively large and important such assess- 
 ment be considered a liability of the taxable year in question 
 and that the necessary adjustments of the surplus account be 
 made. In such cases the phrase "due and payable" means the 
 due date for taxes of the taxable year and not the date fixed for 
 
 affect the provisions of T. D. 2797 in regard to the time and manner 
 of paying taxes where corporations have filed returns for fiscal years 
 ending in 1918. The rule stated in the text is illustrated as follows: 
 For example, a corporation whose fiscal year ended August 31, 1918, 
 is assessed a total income and profits tax under the 1917 Law of $250,000 
 and an additional tax under the 1918 Law of $110,000. The total tax 
 of $360,000 would for the purpose of computing invested capital, be 
 deemed to become due and payable as follows: February 12, 1919, 
 $250,000; May 15, 1919, $20,000; August 15, 1919, $90,000. If, assum- 
 ing the same taxes, the fiscal year ended September 30, 1918, the total 
 tax would for the purpose of computing invested capital, be deemed 
 to become due and payable as follows: February 25, 1919, $90,000; 
 March 15, 1919, $90,000; June 15, 1919, $90,000; September 15, 1919, $90,000. 
 (See letter from treasury department dated October 27, 1919; W. T. S. 
 1921, II 784.) 
 
 333 o. D. 410, T. B. 11-20-788. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1103 
 
 the payment of the additional assessment. In all cases in which 
 the additional assessment is less than 5 % of the original assess- 
 ment or is less than $5,000 it will be considered paid out of 
 current earnings and no adjustment of invested capital need 
 be made.23* 
 
 Effect of Refund. Where a taxpayer made an oA'^erpayment 
 of income taxes for the year 1917 in 1918, which amount was re- 
 funded to him in the year 1921, it is held that the amount of tax 
 overpaid for 1917 and refunded may be included in the invested 
 capital of the taxpayer for 1918 and subsequent years.^^^ 
 
 Reduction of Reserves. If payments are made out of any 
 reserves set up on the books of the company, which reserves are 
 in fact a part of the surplus and have been included as invested 
 capital at the beginning of the year, the invested capital is not 
 reduced by such payments, if the payments are such as may 
 properly be charged against the net income for the current 
 year under the law. Thus, if a corporation is carrying a self- 
 insurance reserve and sustains a loss in 1919 due to fire or other 
 casualty, it may deduct that loss against the 1919 income al- 
 though on its books the loss may be charged against the re- 
 serve. In such case the reserve is not reduced for purposes of 
 invested capital. If, however, payment is made out of the re- 
 serve for any expenditure which is not deductible from the 1919 
 income and does not represent investment in a new asset the 
 reserve is reduced for purposes of invested capitaL^^^ 
 
 Invested Capital for Fractional Part of Year. In the case of 
 a corporation making a return for a full year of 12 months, its 
 invested capital for the year is the average invested capital for 
 the year. In the case of a corporation making a return for a 
 fractional part of a year, its invested capital for such period is 
 the same fractional part of the average invested capital for such 
 period.33'^ To illustrate: A corporation was organized July 1, 
 1918, and makes a return for the six months ending December 
 31, 1918. The invested capital consists of $100,000 paid in on 
 July 1 and $100,000 paid in on October 1. The average invested 
 capital for such period would be $100,000 plus 92/184 (not 
 92/365) of $100,000 or $50,000, a total of $150,000. The in- 
 
 334 T. B. M. 51, T. B. 12-19-411. 
 
 335 o. D. 1079, T. B. 43-21-1889. 
 
 336 See Reg. 45, Arts. 884, 860. 
 
 337 For the purpose of §311 (a) (2) of the 1918 Law it is the full 
 average invested capital for the period. 
 
1104 FEDERAL INCOME TAX 
 
 vested capital for the period for the purpose of the tax would, 
 however, be 184/365 of $150,000, or $75,616.44.^38 
 
 Invested Capital for Prewar Period. The invested capital for 
 the prewar period should in general be determined in the same 
 manner as for the taxable year.^^^ The determination of in- 
 vested capital for the prewar period is important for pur- 
 poses of computing the war-profits credit.^^o Since the war- 
 profits tax is only temporary, being in force for the year 1918, 
 except in the case of corporations deriving a net income of more 
 than $10,000 from any government contract or contracts made 
 between April 6, 1917, and November 11, 1918, both dates in- 
 clusive,^*! the following discussion of invested capital for the 
 prewar period relates only to the war-profits tax imposed on all 
 corporations for the year 1918 and on corporations deriving in- 
 comes from government contracts, as above indicated, for 
 subsequent years. 
 
 Adjustment for Assets Differently Valued in Prewar 
 Invested Capital.^*^ j^ ^ny case in which as a result of a re- 
 organization or for any other reason any asset in existence both 
 during the taxable year and any prewar year is included in com- 
 puting the invested capital for the taxable year, but is not in- 
 cluded in computing the invested capital of such prewar year, 
 or is valued on a different basis in computing the invested capital 
 for the two years, the difference resulting therefrom may not be 
 included in determining the difference, 10% of which is added 
 to or deducted from the war-profits credit. In any such case 
 the corporation is required to make the readjustment required 
 by the statute, and submit with its return a full statement of 
 the difference in such valuations and of the facts which give rise 
 to such difference.3*3 This provision of the statute may operate 
 in a case where a corporation was reorganized after the be- 
 ginning of the prewar period, or consolidated with another, as a 
 
 338 Reg. 45, Art. 855, 856. In computing the tax under a return for a 
 fractional part of a period the same purpose may sometimes be more 
 readily effected by using the full invested capital and taking a fractional 
 part of the result, as in schedule III of form 1120. In schedule IV of 
 the same form, however, the fractional part of the full average in- 
 vested capital for the period should be used. 
 
 339 Reg. 41, Art. 51; as to affiliated corporations see p. 1132. 
 
 340 Revenue Act of 1918, § 311. 
 
 3« Revenue Act of 1918, § 301 (c). 
 
 342 The Revenue Act of 1917 was silent on this subject, and such adjust- 
 ment was less important under that law. 
 
 343 Revenue Act of 1918, § 330 ; Reg. 45, Art. 934. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1105 
 
 result of which good will, patents or other assets owned during 
 the prewar period may have been capitalized for the first time, 
 or the capital value of which may have been increased. 
 
 Reorganization After January 1, 1911. In the case of the 
 reorganization, consolidation or change of ownership after Jan- 
 uary 1, 1911, of a trade or business carried on during the taxable 
 year by a corporation, the corporation will, for the purpose of 
 determining invested capital for the war-profits credit, be 
 deemed to have been in existence prior to that date and the net 
 income and invested capital of such predecessor for all or any 
 part of the prewar period up to the organization of the corpora- 
 tion now carrying on such trade or business will be deemed to 
 have been the net income and invested capital of such corpora- 
 tion. If the predecessor trade or business was carried on by a 
 partnership or individual, the corporation must make its return 
 of the net income and invested capital of such trade or business 
 as nearly as may be in the same manner as if such trade or busi- 
 ness had been carried on by a corporation. It should submit 
 with its return a statement setting forth (a) the manner in 
 which such trade or business was carried on and (b) the points, 
 if any, in which the provisions of the statute and of the regula- 
 tions are not fully applicable to the determination of the net in- 
 come or invested capital of the predecessor trade or business for 
 the prewar period. In no case shall the deduction from gross 
 income for salary or compensation for personal services exceed 
 the salaries or compensation customarily paid at that time by 
 corporations or partnerships of similar size and standing en- 
 gaged in similar trades or businesses for similar services under 
 like responsibilities.^** 
 
 344 Revenue Act of 1918, §330; Reg. 45, Art. 932. This provision is 
 not contained in the present law. The 1917 Law contained a similar 
 provision applicable to "a trade or business carried on by a corpora- 
 tion, partnership, or individual, although formally organized or reorganized 
 on or after January 2, 1913, which is substantially a trade or business 
 carried on prior to that date." A company ovming a mill, some real 
 estate and some water power rights and with two outstanding issues of 
 bonds, became insolvent and stopped operations in June, 1914. The 
 corporation was declared bankrupt in September, 1914. In March, 1915, 
 a sale under the first mortgage was held and the property acquired on be- 
 half of the first mortgage bondholders and a new corporation formed 
 by the first mortgage bondholders which took over the assets of the 
 old corporation from the trustee, the stock of the new corporation being 
 divided among the first mortgage bond owners in proportion to their 
 ownership of bonds. It was held that the business of the new company 
 was substantially a continuation of the trade or business carried on by 
 
1106 FEDERAL INCOME TAX 
 
 In the case of a reorganization, the new corporation is re- 
 quired to base its invested capital on the adjusted balance sheet 
 of its predecessor as of the date of reorganization. Appreciation 
 in the value of the assets so transferred from the old organiza- 
 tion to the nevi^ can not be included in the invested capital of 
 the new corporation. The statute, however, does not prohibit 
 the treatment of the date of reorganization as the beginning of a 
 new taxable year. Consequently, it does not require the ex- 
 clusion from the invested capital of the new corporation of sur- 
 plus and undivided profits earned between the beginning of the 
 then taxable year of the predecessor corporation and the be- 
 ginning of the taxable year of the new corporation .s*^ 
 
 Average Invested Capital for Prewar Period. The aver- 
 age invested capital for the prewar period is determined by 
 first ascertaining the average invested capital for each year dur- 
 ing the whole of which the corporation was in existence and 
 averaging the sums so obtained.3*6 
 
 Invested Capital of Insurance Companies. The reserve funds 
 of insurance companies the net additions to which are deductible 
 from gross income^*'' can not be included in computing in- 
 vested capital.3*8 The like reserve funds of insurance companies 
 
 its predecessor because of the fact that the product manufactured by 
 the new company was sold under the same trade name and produced in 
 the same location, although the new company had made extensive changes 
 in the water power and machinery, had installed at considerable expense 
 some new machinery, had changed practically the entire system of produc- 
 tion, had formed new banking connections, and had acquired additional 
 funds through these connections for the purpose of securing additional 
 working capital. (A. E. R. 221, T. B. 32-20-1124.) 
 
 345 T. B. R. 2, T. B. 1-19-137. 
 
 346 Revenue Act of 1918, §326 (d). 
 
 347 Revenue Act of 1918, § 234. 
 
 348 Revenue Act of 1918, §§ 325, 326 (b) ; Reg. 45, Arts. 870, 569, as 
 amended by T. D. 3153, T. B. 17-21-1600. Under the 1917 Law it was 
 hfeld that the invested capital of a mutual insurance company would be 
 deemed to consist of the sum of (1) any surplus or contingent reserves 
 maintained for the general use of the business, plus (2) any legal re- 
 serves the net additions to which are included in the net income subject 
 to the tax, making due allowance for inadmissible assets as required by 
 the law. The invested capital of a stock insurance company was deemed 
 to consist of its capital stock, paid-in or earned surplus and undivided 
 profits, subject to the restrictive provisions regarding inadmissible assets, 
 and computed in accordance with the provisions applying to the computa- 
 tion of invested capital of corporations. (Reg. 41, Art. 65.) 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1107 
 
 other than life insurance companies may be included in com- 
 puting invested capital.^*^ 
 
 Invested Capital of Foreign Corporations. Inasmuch as the 
 war-profits and excess-profits tax in the case of a foreign cor- 
 poration is not based on the invested capital of the corpora- 
 tion, but such corporations are assessed on the basis of repre- 
 sentative corporations,^5° the rules for determining invested cap- 
 ital 351 have no application to foreign corporations. For the 
 same reason, when rendering a return of income on Form 1120 
 for a foreign corporation, no entry of invested capital should 
 be made thereon.^s^ 
 
 Invested Capital of Domestic Corporations Deriving Substan- 
 tial Income from Possessions of the United States. The Rev- 
 enue Act of 1921 provides for the taxation of domestic corpora- 
 tions only with reference to income from sources within the 
 United States. If such domestic corporations derive 80% of 
 their gross income for a three year period preceding the close 
 of the taxable year from sources within a possession of the 
 United States (excluding the Virgin Islands) and 50% of their 
 gross income for such period from the active conduct of a trade 
 or business within a possession of the United States,^^^ such 
 corporations are taxable under the Revenue Act of 1921 in the 
 
 349 Reg. 45, Art. 870, as amended by T. D. 3153, T. B. 17-21-1600. See 
 also Reg. 45, Art. 549, as amended by T. D. 3153. This ruling was made 
 under the 1918 Law. Life insurance companies are now taxed in a differ- 
 ent manner for 1921 and insurance companies other than life insurance 
 companies and mutual insurance companies are now taxable in a different 
 manner for 1922. Chapter 11 should be consulted in this connection. 
 
 350 See Revenue Acts of 1918 and 1921, §§ 327, 328. 
 
 351 Revenue Acts of 1918 and 1921, §326; Reg. 45, Arts. 831-870. 
 
 352 Reg. 45, Arts. 871, 962. The 1917 Law provided that the invested 
 capital of a foreign corporation, or a foreign partnership or nonresident 
 alien, would be determined by taking that proportion of the entire invested 
 capital, as defined and limited by the law, which the net income from 
 sources within the United States bore to the entire net income. (Revenue 
 Act of 1917, §207; Reg. 41, Art. 48.) As a practical matter the treasury 
 department found it extremely difficult to ascertain the invested capital 
 of foreign corporations in this manner, and ruled that where upon appli- 
 cation by a foreign taxpayer it was found that the expense of securing 
 the data necessary for the computation of the invested capital would be 
 unreasonable in view of the amount of tax involved, or that it was im- 
 practicable to determine either the "entire invested capital" or the "entire 
 net income," assessment would be made under § 210 of that law (Reg. 
 41, Art. 52) as a case in which the invested capital could not be satis- 
 factorily determined. 
 
 353 Revenue Act of 1921, § 262. 
 
1108 FEDERAL INCOME TAX 
 
 same manner as has been stated of foreign corporations in the 
 preceding paragraph.^^ 
 
 War-Profits Credit.*^^ In the case of all domestic corpora- 
 tions the war-profits credit includes a specific exemption of 
 $3,000. 
 
 354 Revenue Act of 1921, §327 (b). 
 
 355 Revenue Act of 1918, §311; Reg. 45, Arts. 781-785. The war-profits 
 credit, in that it depends to some extent upon income and invested capi- 
 tal in the prewar period, corresponds somewhat to the deduction allowed 
 under the 1917 Excess-Profits Law. Under that law, except when the 
 income for the prewar period could not be satisfactorily determined, or 
 was low, or when there was no such net income, the deduction in the 
 case of a domestic corporation consisted of a sum of (1) an amount 
 equal to the same percentage of invested capital for the taxable year 
 which the average amount of net income during the prewar period was 
 of the invested capital for the prewar period (except 7% was used if 
 such percentage was less than 7%, and 9% was used if such percentage 
 was more than 9%, and 8% was used if a corporation was not in existence 
 during at least one calendar year during the prewar period). To this 
 sum was added the sum of $3,000. The same deduction was allowed 
 domestic partnerships and citizen or residents except that such taxpayers 
 received a specific exemption of $6,000. Foreign corporations and partner- 
 ships and nonresident aliens received no specific exemption (see Reg. 
 41, Art. 21; Revenue Act of 1917, §§203-205). Where a corporation 
 was not in existence during the prewar period the Commissioner had no 
 discretion, but was obliged to compute a deduction of 8% (A. R. R. 499, 
 T. B. 20-21-1644). In the case of a trade or business formally organized 
 or reorganized on or after January 2, 1913, but which was substantially 
 a continuation of a trade or business carried on prior to that date, 
 the corporation or partnership was deemed to have been in existence, 
 or the individual was deemed to have been engaged in trade or business, 
 prior to that date; and for the purpose of computing the deduction, the 
 net income and invested capital of the predecessor was deemed to be 
 the net income and invested capital of the present owner for the prewar 
 period. (Reg. 41, Art. 22.) When the average amount of income for 
 the prewar period could not be satisfactorily determined, the deduction 
 allowed under the 1917 Law consisted of an amount equal to the per- 
 centage of invested capital for the taxable year which the average de- 
 duction (determined as above indicated, without including the specific 
 exemptions of $3,000 or $6,000) for the taxable year of representative 
 corporations, partnerships or individuals was of their average invested 
 capital for such year, plus $3,000 in the case of a domestic corporation, 
 and $6,000 and in the case of a domestic partnership or citizen or resi- 
 dent. The same computation of the deduction was used where the net 
 income for the prewar period was low or where there was no net 
 income for the prewar period. In any of the above cases the taxpayer 
 claiming the benefit of such a deduction was required to file a claim 
 in abatement of the amount by which the tax assessed on the 7% 
 basis exceeded the tax upon the basis of the deduction finally determined, 
 and payment of the amount covered by the abatement claimed was not 
 required until the decision thereon. The Commissioner might, however. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1109 
 
 Minimum War-Profits Credit. In all cases the minimum 
 war-profits credit is an amount equal to 10% of the invested 
 capital for the taxable year plus the specific exemption. This 
 minimum exemption is allowed to any corporation which had 
 no net income for the prewar period or whose net income for 
 the prewar period was less than 10%.35^ 
 
 Where Income in Prewar Period was More than 10%. If 
 the net income of a corporation for the prewar period was more 
 than 10%, the average net income, determined by taking the 
 total net income for the prewar period and dividing by the num- 
 ber of years during the whole of which the corporation was in 
 existence, even though there may have been no net income for 
 one or more of such years, will be taken as a part of the war- 
 profits credit. To this is added or deducted (depending upon 
 whether or not the capital has been increased or reduced) 10% 
 of the difference between the average invested capital for the 
 prewar period and the invested capital for the taxable year.^s'' 
 
 Corporations Which Had no Prewar Period. If a corpora- 
 tion had no prewar period, the war-profits credit is the specific 
 exemption plus an amount equal to the same percentage of the 
 invested capital of the taxpayer for the taxable year as the aver- 
 age percentage of net income to invested capital, for the prewar 
 period, of corporations engaged in a trade or business of the 
 same general class as that conducted by the taxpayer (but not 
 less than 10% of the invested capital of the taxpayer for the 
 taxable year). Such average percentage is to be determined 
 by the Commissioner on the basis of data contained in the ex- 
 cess-profits tax returns filed under the Revenue Act of 1917. As 
 such average percentage had not been determined and published 
 at least thirty days prior to the time when the 1918 return of the 
 taxpayer was due, such return was made up by using 10% as a 
 deduction, but such average percentage when determined is to be 
 used by the Commissioner in fixing the correct amount of the 
 tax.358 The average percentages of prewar income to prewar in- 
 vested capital of general classes of corporations, grouped as to 
 trades or businesses, has now been published and is known as the 
 
 require a bond covering the payment of such difference. (Reg. 41, Arts. 23, 
 49.) The provisions of this article were waived in A. R. R. 547, T. B. 
 27-21-1718. 
 
 356 Reg. 45, Art. 782. 
 
 357 Reg. 45, Art. 781; see illustration No. 1, Appendix to 1920 edition. 
 
 358 Revenue Act of 1918, §311 (c). 
 
1110 FEDERAL INCOME TAX 
 
 "Median."359 This median is final and relief will not be granted 
 by way of special assessment with reference to representative 
 corporations 360 merely for the reason that the application of the 
 median does not fix the relief to which taxpayers think they are 
 entitled.361 jf ^Yiq majority of the stock of any corporation which 
 had no prewar period is owned or controlled at any time during 
 the taxable year by a corporation which had a prewar period, 
 this provision does not apply and the war-profits credit will 
 consist of the sum of the specific exemption of $3,000 and an 
 amount equal to 10% of the corporation's invested capital for 
 the taxable year.s62 
 
 Corporations Deriving Income from Government Con- 
 tracts. In the case of a corporation which had no prewar 
 period and 50% or more of whose gross income consists of gains, 
 profits, commissions, or other income derived from government 
 contracts made between April 6, 1917, and November 11, 1918, 
 both dates inclusive, the war-profits credit will consist of the 
 sum of tl^e specific exemption and an amount equal to 10 % of the 
 invested capital for the taxable year.^ss 
 
 Apportionment of War-Profits Credit in Case of Cor- 
 poration Reporting for Part of Year. If a return is made 
 for a period of less than twelve months, the amount equal to the 
 average net income for the prewar period plus or minus 10% of 
 the difference between the average invested capital for the pre- 
 war period and the invested capital for the taxable year will be 
 reduced to the same proportion thereof as the number of months 
 in the period is of twelve months;364 
 
 Fiscal Year Corporations. In calculating a corporation's 
 war-profits credit in the case of a fiscal year the starting point 
 
 359 See the Appendix to the 1920 edition. The average known as the 
 median is by the statute required to be used. It is not an arithmetical 
 average, but is found by taking the middle figure of a series or array 
 of figures arranged in order from the lowest to the highest. 
 
 360 Under §§327-328. 
 
 361 A. E. R. 36, T. B. 10-20-783. 
 
 362 Revenue Act of 1918, § 311 (d) ; Reg. 45, Art. 784. 
 
 363 Revenue Act of 1918, § 311 (d) ; Reg. 45, Art. 784. It should 
 be noted that this provision applies to all corporations which had no pre- 
 war period and one-half of whose income is derived from government 
 contracts or subcontracts. In § 327 of the law, the restriction is limited 
 to cases where the government contracts provided for payment on a cost- 
 plus basis. See p. 1119. 
 
 364 Reg. 45, Art. 781. The same result is reached in schedule IV of 
 return form 1120 by computing the war-profits credit for a full year 
 and taking a fractional part of the result. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1111 
 
 for each year is the beginning of the fiscal year ending in 1911, 
 1912 and 1913, respectively, and the invested capital should be 
 ascertained as at those dates. To these sums should be added 
 any contributions of capital between the beginning of each such 
 fiscal year and January 1, 1911, 1912 and 1913, respectively, 
 and corresponding deductions should be made in respect of any 
 dividends and any refunds of capital during those respective 
 periods. To these balances should be added a pro rata share 
 of the earnings of the respective fiscal years, and the totals thus 
 arrived at will be deemed to be the invested capital of the tax- 
 payer at January 1, 1911, 1912 and 1913, respectively. Tax- 
 payers should file with their returns copies of their balance 
 sheets at the beginning of each fiscal year and a schedule for 
 each year showing the adjustments made in computing the in- 
 vested capital as at the beginning of each calendar year during 
 the prewar period. Where a taxpayer has such accounting 
 records as will enable him to prepare an accurate balance sheet 
 showing the true surplus and undivided profits at the beginning 
 of each one of the prewar calendar years and an accurate income 
 account for such years, he may make the computation upon this 
 basis and explain the method used in such details as will enable 
 the Commissioner to determine whether such basis is proper. 
 Where a taxpayer has not been in business during the whole of 
 the prewar period, the above methods will be applicable to such 
 full calendar years during the whole of which years the tax- 
 payer was in business.^^^ 
 
 Excess-Profits Credit. The excess-profits credit in the case of 
 a domestic corporation consists ■ of the specific exemption of 
 $3,000 plus an amount equal to 8 % of the invested capital for the 
 taxable year.^*^^ 
 
 Specific Exemption. Domestic corporations are allowed a 
 specific exemption of $3,000 to be deducted from the net income, 
 but if the tax is computed for a period of less than 12 months the 
 specific exemption is reduced in proportion.^^T The specific ex- 
 emption of $3,000 is apportioned only in the case where a return 
 is made covering a period of less than 12 months. In such a 
 case the specific exemption is the same proportion of $3,000 as 
 
 365 T. B. R. 16, T. B. 5-19-264. 
 
 366 Revenue Act of 1918, §312; Reg. 45, Art. 791. This is the credit 
 still used in the present law. (Revenue Act of 1921, § 312.) But a 
 domestic corporation taxable under § 262 is not entitled to the credit 
 or exemption of $3,000. 
 
 367 Revenue Acts of 1918 and 1921, § 305. See footnote 366 as to domes- 
 tic corporations taxable under § 262 of the present law. 
 
1112 FEDERAL INCOME TAX 
 
 the number of months in the period is of 12 months, any frac- 
 tional part of a month being counted as the number of days in 
 such part of a month divided by 30. Thus, in the case of a cor- 
 poration organized May 12, 1918, and making a return for the 
 period ending December 31, 1918, the exemption is $1,916.67, 
 that is, the same proportion of $3,000 as 7 20/30 months is of 
 12 months. This provision is inapplicable where the return is 
 made for a full fiscal year beginning prior to January 1, 1918, 
 and ending after that date, even though the income for such 
 fiscal year is not subject to full taxation under the present 
 statute. In the case of affiliated corporations only one specific 
 exemption is allowed.^^s 
 
 Net Income. Net income for this tax is ascertained in general 
 upon the same basis and in the same manner as for the purpose 
 of the income tax, except as noted in this and the following 
 paragraphs.3^^ Thus, when a corporation may deduct the amount 
 of its net operating loss for the calendar year 1919, which is in 
 excess of the net income for the calendar year 1918, in com- 
 puting net income for the calendar year 1920, the excess-profits 
 tax is upon the net income so determined.^™ Reference to the 
 rules for estimating income for the prewar period is given as 
 well as the rules applying to the taxable year. Under the excess- 
 profits tax, however, no attention need be paid to income during 
 the prewar period but the rules for that period are given be- 
 cause they still apply to such corporations as by reason of de- 
 riving income from government contracts of the kind hereinbe- 
 fore indicated continue to be subject to the war-profits tax if 
 their income from such contracts exceeds the sum of $10,000 in 
 the taxable year. Corporations are not allowed at this late date 
 to adjust salaries paid during the prewar period, when such ad- 
 justment is made solely for the purpose of increasing the war- 
 profits credit for the taxable year.^^i Value appreciation of 
 property taken up on the books of the taxpayer and returned as 
 part of his taxable income for the year in which the appreciation 
 was written up must be excluded in computing prewar income, 
 
 368 Reg. 45, Art. 761. On return form 1120 this apportionment is 
 taken care of by prorating items 3 and 8 of schedule III. 
 
 369 It should be noted that the Revenue Act of 1921 in many respects 
 provides different rules for the calculation of gross income, the deduc- 
 tions, and therefore net income. Net income for the excess-profits tax 
 imposed by the Revenue Act of 1921 is the net income as computed 
 under that act. 
 
 370 o. D. 928, T. B. 21-21-1655. 
 
 371 T. B. M. 50, T. B. 12-19-410; O. D. 184, T. B. 8-19-319. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1113 
 
 even though an income tax has been paid on it.s'^^ -pj^g j.yig ^jj^t 
 taxes are deemed to be paid out of earnings for the year for 
 which levied, applies to any year of the prewar period as well as 
 to the taxable year. In such cases the amount or amounts pay- 
 able in a succeeding year on account of such taxes hiay be in- 
 cluded in the computation of invested capital until due and pay- 
 able.373 
 
 For the Years 1911 and 1912. The net income for these 
 years is determined upon the same basis and in the same man- 
 ner as provided in the 1909 I^aw except that the tax as imposed 
 by that law and paid by the corporation within the year shall 
 be included.*'^* Including such taxes for the years 1911 and 
 1912 is a slight advantage to the corporation in that it in- 
 creases the net income for the prewar period for the purpose 
 of the war-profits credit. 
 
 For the Year 1913. The net income for the year 1913 is 
 ascertained on the same basis and in the same manner as pro- 
 vided in the 1913 Law, except that the taxes imposed by the 1909 
 Law on the corporation on its income for 1912 and paid by the 
 corporation in 1913 may be included, and amounts received by it 
 as dividends upon the stock or from the net earnings of other 
 corporations subject to the tax imposed by the 1913 Law, must 
 be deducted.^''" 
 
 Average Net Income for the Prewar Period. The average 
 net income for the prewar period is determined by dividing the 
 number of years within that period during the whole of which 
 the corporation was in existence into the sum of the net in- 
 come for such years, even though there may have been no net 
 income for one or more of such years.^'^^ Thus, if a corpora- 
 tion was in existence during 1912 and 1913 but derived no in- 
 come in 1912, its income for the year 1913 must be divided by 
 two in order to ascertain the war-profits credit. But, on the 
 
 372 T. B. M. 42, T. B. 8-19-335. 
 
 373 See Reg. 45, Art. 845; 0. D. 222, T. B. 11-19-392. 
 
 374 Revenue Act of 1918, §320 (a) 1; Reg. 45, Art. 801. The net 
 income, under the 1917 Law, of corporations for the years 1911 and 1912 
 was computed in the same manner. (Reg. 41, Art. 29). The net income 
 of partnerships and individuals for 1911, 1912 and 1913 was determined 
 in the same manner as for the taxable year, except that dividends from 
 taxable corporations were deducted (Reg. 41, Arts. 31, 36). 
 
 375 Revenue Act of 1918, §320 (a) 2; Reg. 45, Art. 801. Under the 
 1917 Law taxes paid under Sections II or IV of the 1913 Law were also 
 included; otherwise the rule was the same (Reg. 41, Art. 29). 
 
 376 Letter from treasury department dated March 24, 1919 ; W. T. S. 
 1921, H 687. 
 
1114 FEDERAL INCOME TAX 
 
 other hand, if the corporation had a deiicit for the year 1912 
 and income for the year 1913, the amount of the deficit need 
 not be deducted from the net income of 1913 in order to ascertain 
 the average net income for the prewar period.^''''^ The three 
 years must be used for the purpose of establishing prewar in- 
 come, even though they represent a period of depression in the 
 particular trade or business involved.^'^s 
 
 For the Taxable Year. Net income for the taxable year is 
 computed upon the same basis and in the same manner as pro- 
 vided for income tax purposes under the income tax law.^'^^ The 
 law expressly provides that the net income of a corporation 
 which is subject to the income tax shall also be subject to the ex- 
 cess-profits tax. This would include income derived from the 
 sales or dealings in the capital assets of the taxpayer,38o but in 
 the case of the sale of mines, oil and gas wells a limitation is 
 placed upon the amount of the excess-profits tax to be assessed 
 with respect thereto.^si 
 
 3V7 Letter from treasury department dated February 21, 1918. As to 
 the prewar income of aflBliated corporations, see p. 1135. 
 
 378 A. R. R. 618, T. B. 39-21-1849. Special assessment by reference 
 to representative corporations may be granted in such a case, however, 
 if the depression constituted an abnormal condition affecting the prewar 
 period. See p. 1119. 
 
 379 Revenue Act of 1918, § 320 (a) ; Reg. 45, Art. 801. See .footnote 369. 
 
 380 Letter from treasury department dated February 21, 1918. 
 
 381 See p. 1038. Under the 1917 Law the net income for purpose of 
 income tax and excess-profits tax were not identical, since for the pur- 
 pose of the latter tax corporations were expressly allowed to deduct divi- 
 dends. (Reg. 41, Art. 28.) Since the 1917 Law provided an excess- 
 profits tax at lower rates on salaries than on income from a business 
 employing invested capital, the treasury department held that where 
 a corporation had paid its officers only nominal salaries, a reasonable 
 allowance for salaries could be deducted for any period prior to March 
 1, 1918, if a satisfactory explanation was given. (Letter from treas- 
 ury department dated March 11, 1918.) Under the present law there 
 seems to be no need for rulings of this character since an excess-profits 
 tax law has been in force for a length of time sufficient to enable cor- 
 porations to adjust salaries and other items which in the past may 
 have been merely nominal by reason of the relation of the corporation to 
 its stockholders. The income of partnerships for the taxable year was 
 ascertained by deducting from the net income as computed under the 
 1916 Law (including interest on United States obligations not exempt 
 from excess-profits tax) (1) dividends from taxable corporations and 
 interest paid to aji individual partner upon a bona fide loan, but not 
 "so-called interest upon capital." (Reg. 41, Arts. 30, 33; A. R. R. 619, 
 T. B. 39-21-1848.) Partnerships were also allowed a reasonable deduction 
 for salaries to individual partners for any period prior to March 1, 1918, 
 regardless of whether a previous agreement had been made, such" salaries 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1115 
 
 Exemption Granted by Merchant Marine Act. The Merchant 
 Marine Act of 1920 provides that the owner of a vessel doc- 
 umented under the laws of the United States, and operated in 
 foreign trade, shall, for each of the ten taxable years while so 
 operated, beginning with the first taxable year ending after 
 June 5, ,1920, be allowed as a deduction in computing net income 
 subject to the war-profits and excess-profits taxes, an amount 
 equivalent to the net earnings of such vessel during such tax- 
 able year determined in accordance with rules and regulations to 
 be made by the United States shipping board. No such owner 
 is entitled to such deduction, unless during the taxable year he in- 
 vests or sets aside in a trust fund for investment in the building 
 of shipyards in the United States of new vessels of a type and 
 kind provided by the shipping board, an amount to be determined 
 by the secretary of the treasury and certified by him to the ship- 
 ping board, equivalent to the war-profits and excess-profits taxes 
 that would have been payable but for such deduction. At least 
 
 being taxable to the partners at the 8% rate. (Reg. 41, Art. 32.) If 
 the deductions for salaries or interest paid to individual partners were 
 availed of, corresponding deductions were required to be made for the 
 prewar period (Reg. 41, Art. 34). Individuals employing merely a 
 nominal capital were required to compute their net income for the tax- 
 able year by adding together all salaries, wages, etc., constituting income 
 from a business with merely a nominal capital (Reg. 41, Art. 35). Indi- 
 viduals employing more than a nominal capital ascertained their net 
 income for the taxable year by deducting from their net income from 
 all sources a deduction for salaries paid to themselves and any contribu- 
 tions made by a trade or business (as distinguished from those made in 
 a personal capacity) . If a salary deduction was made for the taxable 
 year, it was required to be made for the prewar period. An individual 
 member of a partnership need not, however, include his share of the 
 partnership profits, but must include any salary deducted by the partner- 
 ship. A dealer in securities was required to include interest on United 
 States obligations not exempt from excess-profits tax and a proportion of 
 dividends from foreign corporations (Reg. 41, Arts. 35-41). In the case 
 of nonresident aliens, and foreign partnerships and corporations, there was 
 included only income from sources within the United States (Reg. 41, Art. 
 26). Income derived from the business of life, health, and accident insurance 
 combined in one policy issued on a weekly premium payment plan was 
 exempt from the 1917 Excess-Profits tax, as was also compensation to 
 officers and employees of the United States, any state, territory, or the 
 District of Columbia, and the income generally exempt from income 
 tax (Reg. 41, Art. 25). An individual engaged in more than one busi- 
 ness the income from which was taxable under different provisions of 
 the law and regulations, might not deduct losses sustained in the one 
 from gains or profits made in the conduct and operation of the other 
 for the purpose of computing the excess profits tax for 1917. (A. R. M. 
 96, T. B. 48-20-1328.) 
 
1116 FEDERAL INCOME TAX 
 
 two-thirds of the cost of any vessel so constructed must be paid 
 for out of the ordinary funds or capital of the person having 
 such vessel constructed. During the period of ten years sub- 
 sequent to June 5, 1920, any citizen of the United States vrho 
 may sell a vessel documented under the laws of the United 
 States, and built prior to January 1, 1914, is exempt from all 
 income, war-profits, and excess-profits taxes imposed by the Rev- 
 enue Act of 1918 that would be payable upon the proceeds of such 
 sale, if the entire proceeds thereof are invested in the building 
 of nev^f ships in American shipyards, such ships to be doc- 
 umented under the laws of the United States and to be of a type 
 approved by the shipping board.^^^ 
 
 Assessment Without Reference to Invested Capital. In cer- 
 tain cases it is found difficult or impossible to determine the in- 
 vested capital of a corporation. In such cases and in cases of 
 "abnormal conditions affecting the capital or income of a cor- 
 poration," without reference to the difficulty or impossibility of 
 determining invested capital in the ordinary manner, the excess- 
 profits tax will be computed on the basis of the returns of rep- 
 resentative corporations engaged in a like or similar trade or 
 business.^^ Four cases in which the tax will be so determined 
 are enumerated in the law and are discussed in the paragraphs 
 below. 
 
 382 Merchant Marine Act, 1920, §23; W. T. S. 1921, 11869. 
 
 383 Revenue Act of 1918, § 327. In many cases in which personal service 
 classification has been claimed under the 1918 Law or assessment as a 
 concern with merely nominal capital under the 1917 Law, these claims 
 have been denied, but special assessment under § 210 of the Revenue 
 Act of 1917 or §§ 327, 328 of the Revenue Act of 1918 has been granted 
 (See Chapter 9 in connection -with, these cases). Sections 327 and 328 of 
 the 1918 Law correspond to the famous § 210 of the 1917 Law which 
 provided that when the invested capital could not be satisfactorily de- 
 termined the corporation was entitled to an excess-profits deduction of 
 an amount equal to the same proportion of its net income for the taxable 
 year as the proportion which the average deduction (excluding the specific 
 sum of $3,000) for the corresponding year of representative corpora- 
 tions bears to the total income of such representative corporations plus, 
 in the case of domestic corporations, the sum of $3,000. This section 
 applied also to partnerships and individuals under the 1917 Law. In 
 determining this proportion the net incomes of representative corpora- 
 tions for the calendar year or for fiscal years ending in the calendar 
 year were taken. In ease the corporation whose invested capital could 
 not be satisfactorily determined made a return for its own fiscal year 
 the propo!rtion determined for the calendar year ending during such 
 fiscal year was used. (Reg. 41, Art. 24.) The rulings provided for a 
 computation of constructive invested capital in ord^er to apply the rates 
 to a corporation whose invested capital could not be determined. (Reg. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1117 
 
 Election of Taxpayer. It has been held under the cor- 
 responding section ^84 of the Revenue Act of 1917 that while a 
 strict and literal interpretation of the language gives the treas- 
 ury department the right to determine that invested capital can 
 not be satisfactorily determined, and therefore that the taxpayer 
 should be assessed without reference to invested capital, it is 
 manifestly the intent of the law that the taxpayer shall have a 
 deduction upon all the statutory invested capital which he can 
 establish, and if in any case the taxpayer is able to show that it 
 has statutory invested capital in excess of constructive capital 
 found upon application of the special relief section the taxpayer 
 should not be deprived of the right to have assessment based 
 upon such statutory capital because there are other items of in- 
 vested capital which can not be determined and which the tax- 
 payer concedes the right of the treasury department to Ignore. 
 This rule would seem to apply under the Revenue Act of 1918 
 and the present law, except with regard to foreign corpora- 
 tions.^s^ 
 
 Where Commissioner Is Unable to Determine Invested Capital. 
 The first case is where the Commissioner is unable to determine 
 invested capital as defined in the law. Such cases exist, for 
 example, where the books of account of the company have not 
 been kept in proper form or where it is impossible to ascertain 
 the values of assets at the time of acquisition. ^se Where the 
 books of a corporation have been carefully kept and it is possible 
 to ascertain what amounts previously charged off as excessive 
 depreciation may be restored, the corporation is not entitled to 
 special assessment on the ground that the Commissioner is un- 
 
 41, Art. 18.) Under the 1918 and 1921 Laws there is no need for con- 
 structive capital in such cases since the tax is now based upon the ratio 
 »/ the amount of tax to the amount of net income of representative cor- 
 porations. 
 
 384 Revenue Act of 1917, § 210. 
 
 385 A. R. R. 209, T. B. 31-20-1111. 
 
 386 Revenue Acts of 1918 and 1921, §327 (a). A. R. R. 636, T. B. 
 41-21-1865; A. R. R. 338, T. B. 51-20-1359. This rule has special applica- 
 tion where tangible property of a value substantially in excess of the par 
 value of the stock paid therefor is turned over to a company, but the 
 evidence as to the exact value of such property at the date of acquisi- 
 tion is difficult or impossible to obtain (A. R. R. 556, T. B. 37-21-1817). 
 The 1917 Lavir (§ 210) provided a method which should be followed in 
 all cases in which the Commissioner was unable satisfactorily to deter- 
 mine the invested capital. In the language of the 1918 and the present 
 Law the word "satisfactorily" was omitted. 
 
1118 FEDERAL INCOME TAX 
 
 able to determine invested capital or on the ground that any ab- 
 normal condition affects capital or income.^s? 
 
 Inventions Turned Over to Corporation Without Con- 
 sideration. In a case in which the principal stockholder turned 
 over, without consideration, to a close corporation an invention 
 in respect to which a patent was subsequently granted after 
 some litigation, it has been ruled that the company was entitled 
 to assessment with reference to representative corporations on 
 the ground that the value of the invention at the time turned 
 over and before commercial development could not be sat- 
 isfactorily determined. Had it been possible satisfactorily to 
 determine such value, the proper procedure would have been to 
 recognize such value as paid-in surplus.^^^ 
 
 In the Case of Foreign Corporations. The Revenue Act of 
 1921 and the 1918 Law provide that, in the case of foreign cor- 
 porations, the tax shall be determined without reference to in- 
 vested capital as defined in the law.^*^ In the case of a foreign 
 corporation carrying on all of its business in the United States it 
 does not seem that the law should prevent the corporation from 
 obtaining such benefits as may accrue to it from a computation 
 of the credits with reference to an invested capital determined 
 in the ordinary manner, but the language of the provision that 
 the tax shall be assessed by reference to representative corpora- 
 tions indicates an intent that this method of assessment shall 
 apply to all foreign corporations, and the treasury department 
 has so ruled.33" 
 
 Where Stock Has Been Issued for a Mixed Aggregate of Tangi- 
 ble and Intangible Property. The provision of the law that the tax 
 shall be assessed by reference to representative corporations 
 where a mixed aggregate of tangible property and intangible 
 property has been paid in for stock or for stock and bonds, does 
 not apply in all cases where a mixed aggregate of tangible and 
 intangible property has been paid in for stock or for stock and 
 bonds, but only in such cases where the Commissioner is unable 
 satisfactorily to determine the respective values of the several 
 
 387 A. R. R. 599, T. B. 37-21-1823. 
 
 388 A. R. R. 70, T. B. 17-20-882. 
 
 3S9 Revenue Act of 1918, 326. See A. R. R. 397, T. B. 9-21-1486. The 
 same rule applies to domestic corporations taxable under § 262 of the 
 Revenue Act of 1921. 
 
 390 Revenue Act of 1918, §327; Reg. 45, Art. 871. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1119 
 
 classes of property at the time of payment, or to distinguish the 
 classes of property paid in for stock and for bonds re- 
 spectively.^^^ 
 
 Cases of Abnormal Conditions Affecting Capital or Income. 
 
 In cases of abnormal conditions affecting the capital or income 
 of a corporation, assessment without reference to invested capi- 
 tal is intended to operate as a remedial measure as distinguished 
 from cases where it is difficult or impossible to determine in- 
 vested capital. Such assessment is made only upon application 
 by the corporation in cases where. Upon such application, the 
 Commissioner finds (and so declares of record) that the tax if 
 determined without the benefit of this section would, owing to 
 abnormal conditions affecting the capital or income of the cor- 
 poration, work upon the corporation an exceptional hardship 
 evidenced by gross disproportion between , the tax computed 
 without the benefit of this section and the tax computed by 
 reference to representative corporations. This provision does 
 not apply to any case (1) in which the tax based upon the cor- 
 poration's invested capital is high merely because the corpora- 
 tion earned a high- rate of profit upon a normal invested capital 
 nor (2) in which 50% or more of the gross income of the cor- 
 poration for the taxable year consists of gains, profits, commis- 
 sions or other income derived on a cost phis basis from a gov- 
 ernment contract or contracts made between April 6, 1917, and 
 November 11, 1918, both dates inclusive.292 j^ may apply, how- 
 
 391 Revenue Acts of 1918 and 1921, §327 (c). This provision of the 
 law seems to be a statutory declaration of the rule adopted by the treas- 
 ury department as a matter of practice, under the 1917 Law. This 
 rule was applied under the 1917 Law in A. R. R. 459, T. B. 15-21-1568. 
 Under that law it was ruled that assessment would be made under § 210 
 of that law in cases where the Secretary was unable to determine satis- 
 factorily the respective values of the several classes of property at the 
 time of payment. (Reg. 41, Art. 52.) 
 
 392 Revenue Acts of 1918 and 1921, §327 (d). The limitation stated 
 in (1) above is applicable to assessments under § 210 of the 1917 Law 
 (T. B. M. 7, T. B. 1-19-119). Under the 1917 Law the following were 
 held to be exceptional cases which warranted assessment under § 210 of 
 that law. 
 
 (1) Where, through defective accounting or lack of adequate data, 
 it was impossible accurately to compute invested capital. 
 
 (2) Where upon application by a foreign taxpayer the Secretary of 
 the Treasury found that the expense of securing the data necessary for 
 the computation of the invested capital would be unreasonable in view 
 of the amount of tax involved, or that it was impracticable to deter- 
 mine either the "entire invested capital" or the "entire net income." 
 
 (3) Long established business concerns which by reason of ultra- 
 
1 120 FEDERALr INCOME TAX 
 
 ever, to a corporation deriving income from government con- 
 tracts on the "per unit" basis.3»3 The limitation stated in (2) 
 above has been held to be designed to cover cases in which a con- 
 tractor was assured of a profit irrespective of cost and in which 
 the government, rather than the contractor, assumed the risk 
 of loss. Where the unfinished work of a contractor was com- 
 mandeered by the government and it was agreed that he should 
 receive the same compensation as he would have received under 
 the private contract, the fact that he was subsequently compen- 
 sated on a cost-plus basis after the work was completed does 
 not, in the opinion of the committee, operate to change the legal 
 situation in this respect.^^* 
 
 The tax will not ordinarily be assessed under this provision 
 of law merely because the corporation's form or manner of 
 organization, or the limitations as to invested capital result in a 
 greater tax than would otherwise be payable. 
 
 Referring to the legislative history of the Revenue Act of 
 1918, it will be noted that this provision of the statute, as 
 enacted by the Senate, read as follows : 
 
 "(e) Where the invested capital is materially disproportion- 
 ate to the net income as compared with representative corpora- 
 tions engaged in a like or similar trade or business because: 1. 
 The capital employed, although a material income-producing 
 
 conservative accounting or the form and manner of their organization 
 would otherwise be placed at a serious disadvantage in competing with 
 representative concerns in a like or similar trade or business. 
 
 (4) Where the invested capital was seriously disproportionate to 
 the taxable income. Such cases it was held might arise through (a) the 
 realization in one year of the earnings of capital unproductively in- 
 vested during a period of years or the fruits of activities antedating 
 the taxable year; or (b) inability to recognize or properly allow for 
 amortization, obsolescence, or exceptional depreciation due to the war, 
 or to the necessity in connection with the war of providing plant which 
 would not be wanted for the purpose of the business after the termina- 
 tion of the war. (Reg. 41, Art. 52.) The uses enumerated in this 
 article are not to be regarded as exclusive, but the class of cases 
 therein referred to is limited to the cases enumerated or those "similar 
 in character." (T. B. M. 58, T. B. 14-19-441.) Under the 1918 and the 
 present law the conditions described in 1 and 2 are expressly provided 
 for; 3 and 4 (a) will be considered as creating "abnormal conditions 
 affecting the capital or income" within the meaning of § 327 (d) and 
 therefore entitle the corporation to relief. The condition stated in 4 (b) 
 no longer exists as the taxpayer is now enabled to recognize and properly 
 allow for amortization, obsolescence or exceptional depreciation. 
 
 393 0. D. 321, T. B. 26-19-599. 
 
 394 A. R. M. 89, T. B. 45-20-1288. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1121 
 
 factor, is very small or is in large part borrowed. 2. There are 
 excluded from the irlvested capital as computed under the pro- 
 visions of Section 326, intangible assets of recognized and sub- 
 stantial value built up or developed by the taxpayer. 3. The 
 net income for the taxable year is abnormally high due to the 
 realization in one year of (a) gains, pr6fits, or income earned 
 or accrued during a period of years or (b) extraordinary gains 
 or profit derived from the sale of property the principal value 
 of which has been demonstrated by prospecting or exploration 
 and discovery work done by the taxpayer. When the tax is de- 
 termined under this paragraph proper allowance shall be made 
 for the taxes which would have been payable in prior years if 
 the gains, profits, or income earned or accrued in such years had 
 been taxed at the rates then applicable. 4. Proper recognition or 
 allowance can not be made for amortization, obsolescence, or 
 exceptional depreciation due to the present war, or to the neces- 
 sity in connection with the present war, of providing plant 
 which will not be wanted for the purpose of the trade or busi- 
 ness after the termination of the war." 
 
 This provision was stricken out by the conference committee 
 and in its place is inserted the vague phrase "abnormal condi- 
 tions affecting the capital or income of a corporation." ^^^ It 
 seems probable that the instances enumerated in the Senate bill 
 as above quoted are contemplated by the phrase of the law as 
 finally passed — abnormal conditions affecting the capital or in- 
 come of the corporation — and that the conference committee 
 used the broad language enacted in the statute as finally passed 
 because of the possibility that in defining the operation of the 
 provisions for assessment of the excess-profits tax by reference 
 1 to representative corporations it would be limiting the Commis- 
 sioner in the exercise of his discretion and possibly preventing 
 him from granting relief in many ca'Ses which could not be 
 exactly anticipated or defined by Congress at the time the law 
 was enacted. It is a well-established principle of statutory con- 
 struction that where the language of the statute is ambiguous 
 and its meaning doubtful, the bill as introduced and changes 
 made in the frame of the bill in the course of its passage may 
 be resorted to upon questions of legislative intent.^^^ The above 
 
 393 This provision was in large part a statutory enactment of the treas- 
 ury department's previous liberal construction of § 210 of the Revenue 
 Act of 1917. Compare the provision with the regulation quoted in note 
 392. 
 
 396 U. S. V. St. Paul M. R. Co., 247 U. S. 310, 318; Atl. C. L. R. Co. v. 
 Riverside Mills, 219 U. S. 196, 200. See also cases cited in Chapter 47. 
 
1122 FEDERAL INCOME TAX 
 
 language of the Senate bill should be consulted in connection 
 with applications for relief by way of assessment with reference 
 to representative corporations. 
 
 Where Intangible Assets of Substantial Value Are Ex- 
 cluded FROM Ordinary Invested Capital. Under the Revenue 
 Act of 1917 relief was given to many long established business 
 concerns which, by reason of ultra-conservative accounting Or 
 the form and manner of their organization, would otherwise 
 have been placed at a serious disadvantage in competing with 
 representative concerns in a like or similar trade or business.^^^ 
 As stated in the foregoing paragraph, the fact of ultra-conserv- 
 ative accounting and the form and manner of the corporation's 
 organization will not ordinarily entitle a taxpayer to special as- 
 sessment.398 it seems clear, however, that the Revenue Act of 
 1918399 contemplates that relief be granted where such factors 
 misrepresent a corporation's true invested capital. Thus, cases 
 in which large sums have been spent in advertising, thus creat- 
 ing a good will or earning capacity far in excess, of recognizable 
 invested capital are to be regarded as cases in which there are 
 abnormal conditions affecting invested capital.*™ A corporation, 
 the capitalization of which did not represent or include the value 
 of certain good will or patents actually turned over to the com- 
 pany and actually earning income on which the corporation was 
 paying a tax, has been held taxable under the provisions of Sec- 
 tion 210 of the Revenue Act of 1917.*"^ A corporation which 
 clearly shows substantial intangible value in a business with 
 small capitalization, the success of which business is not de- 
 pendent on personal services, except as may be normally re- 
 quired for the management of the property of any company, has 
 been held entitled to special assessment under the Revenue Act 
 of 1917.*°2 But the mere fact that the taxpayer can not be 
 allowed to include in statutory invested capital the full amount 
 of good will appearing upon its books, even though such good 
 will is less than the actual value of the good will at the time 
 acquired, does not create such an abnormal condition as to en- 
 title a corporation to special assessment.*"^ 
 
 397 See Reg. 41, Art. 52; A. R. R. 464, T. B. 17-21-1588. 
 
 398 See Reg. 45, Art. 901. 
 
 399 §327 (d) 
 
 400 A. R. M. 12, T. B. 2-20-679; A. R. R. 338, T. B. 51-20-1359. 
 
 401 A. R. R. 110, T. B. 20-20-945. 
 
 402 A. R. R. 332, T. B. 50-20-1348. 
 
 403 A. R. R. 599, T. B. 37-21-1823. In this case, however, the good will 
 appearing on the books of the corporation represented a considerable 
 
war-profits and excess-profits tax 1123 
 
 Where Abnormal Profits Are Thrown into a Single Tax- 
 able Year. The artificiality of the taxable year as a unit of 
 time for tax purposes is generally conceded. The year is taken 
 as a matter of necessity because the very nature of income de- 
 mands that it be measured by reference to time.*"* The taxable 
 year works fairly well as a time unit in the majority of cases. 
 The injustices, inequalities and absurdities resulting in extra- 
 ordinary cases, however, are generally conceded.*"s It is well 
 known that one of the purposes of provision for assessment by 
 reference to representative corporations is to provide for cases 
 in which a hardship of this kind occurs. Such hardship may 
 occur, broadly speaking, in one of two ways. 
 
 In the first place, it may occur when the income of the taxable 
 year represents the "realization in one year of the earnings of 
 capital unproductively invested for a period of years, or the 
 fruits of activities antedating the taxable year."*"^ The receipt 
 by a corporation of the proceeds of a life insurance policy upon 
 the life of the sole owner of its stock has been held to create 
 an abnormal condition affecting the income of the corporation 
 for the year of receipt.*"^ But the realization of greater profits 
 in the taxable year than had been realized in prior years does not 
 in itself indicate the excess of an abnormal condition affecting 
 the income of the taxable year, and this is particularly true as 
 to the taxable years 1917 and 1918 when profits were due in 
 large measure to war conditions.^^^ Inefficient management dur- 
 ing previous years followed by efficient management in the tax- 
 increase over the good will which had appeared upon the books of a 
 predecessor corporation upon a reorganization, and no evidence appeared 
 that the corporation as reorganized possessed assets tangible or intangible 
 of greater value than the old corporation. 
 
 40* No one has income at any one point of time ; he has income only 
 hy reference to a fixed period (Trefry v. Putnam, 227 Mass. 522, 116 N. E. 
 904). 
 
 *05 See letter of former secretary of treasury to committee on ways 
 and means of house of representatives (66th congress, 1st session) 
 dated November 3, 1919, in which it is said that the annual accounting 
 period, the striking of a balance of gain or loss every twelve months, 
 is merely an approximation resting upon convenience and fiscal neces- 
 sity, and that the result shown is frequently unreal, for if a business 
 concern makes $20,000 in 1918, loses $10,000 in 1919, and makes $5,000 
 in 1920, it has not earned profits of $25,000 in the three-year period, 
 but only $15,000. 
 
 406 A. R. R. 538, T. B. 28-21-1730. 
 
 407 A. R. R. 335, T. B. 50-20-1345. 
 
 408 A. R. R. 599, T. B. 37-21-1823; A. R. R. 518, T. B. 22-21-1668. 
 
1124 FEDERAL INCOME TAX 
 
 able year does not create an abnormal condition.*09 This kind 
 of a case was specifically provided for in the regulations issued 
 under the Revenue Act of 1917.*io 
 
 In the second place, it may also occur when the income of the 
 taxable year represents temporally earnings inevitably to be re- 
 duced by then indeterminable losses inseparably connected with 
 the production of such income. While this class of cases has 
 nowhere been enumerated in a formal regulation, it seems to 
 be clearly analogous in principle to the class of cases described in 
 the above quotation and must have arisen in the case of many 
 corporations operating under long-term, fixed-price contracts 
 during the last few years when the cost of labor and materials 
 was constantly rising. It might also arise in the case of a com- 
 pany which liquidated all its business in a particular year unless 
 the liquidation did not result in a tax abnormally high as com- 
 pared with taxes imposed upon representative concerns in the 
 same line of business.*ii 
 
 Payment of Inadequate Salaries to Officers. It has 
 been held under the Revenue Act of 1917 that failure to pay 
 salaries to officers, or the payment of unusually low salaries in 
 comparison with salaries paid to the officers of competing con-' 
 cerns, may create an abnormality of income which will entitle a 
 corporation to special assessment.*!^ 
 
 Abnormal Conditions Affecting Prewar Period. The 
 statutory provision in regard to "abnormal conditions" is not 
 in terms limited in its application to cases arising out of ab- 
 normal conditions afl^ecting the capital or income of the cor- 
 poration for the taxable year. The words "capital or income of 
 the corporation" are general words applicable to the income or 
 capital of any year and can not be limited by construction unless 
 there is a clear, necessary, and irresistible implication from 
 other parts of the statute that such a limitation should be 
 made.*i3 Furthermore, in the same subdivision Congress has in 
 two instances specified that the income or profits referred to is 
 that of the taxable year, although the context made that mean- 
 ing clear without specification. The. use of such a limiting clause 
 
 409 A. R. R. 338, T. B. 51-20-1539. 
 
 «0 Reg. 41, Art. 52. 
 
 *11T. B. M. 53, T. B. 15-19-453; O. D. 969, T. B. 27-21-1720; see O. D. 
 395, T. B. 5-20-723 and T. B. M. 60, T. B. 15-19-454 in which it is said that 
 the abnormal income may arise through a sale of capital assets. 
 
 412 A. R. R. 326, T. B. 47-20-1318; A. R. R. 538, T. B. 28-21-1730. 
 
 413 Faw V. Marsletter, 3 Cranch. 10, 23; U. S. v. Coombs, 12 Peters 
 72, 80. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1125 
 
 in two instances and the absence of it in the third instance indi- 
 cates that the words were there used without limitation. There- 
 fore, unless there is some clear and necessary inference from 
 the other parts of the statute, it seems evident that subdivision 
 (d) includes cases of hardship caused by abnormal conditions 
 affecting the capital or income for the prewar period. The pre- 
 war data is used in computing the war profits credit which may' 
 consist of (a) $3,000 plus the average net income for the prewar 
 period with an adjustment for change in capital; or (b) $3,000 
 plus a percentage of the invested capital for the taxable year 
 based on the median average established by the prewar ex- 
 perience of a general class of trade or business. This credit is 
 used by concerns having no prewar period; or (c) a minimum 
 war-profits credit of $3,000 plus 10% of the invested capital for 
 the taxable year.*i* The minimum war-profits credit will not 
 raise a presumption that Congress intended to include in Section 
 311 all relief which should be granted because of abnormal con- 
 ditions existing in the prewar period, and that there is a clear 
 and necessary inference that Congress did not intend to grant 
 further relief of the same nature under Section 327 on account 
 of the same conditions. The relief granted by the maximum 
 war-profits credit and special assessment are not of the same 
 nature. The minimum war-profits credit establishes certain 
 rules applicable to general classes and which apply in all cases 
 whether hardship actually exists or not. It gives relief to indus- 
 tries which passed through a period of depression in the prewar 
 years. It also applies to concerns which earned less than 10% 
 in the prewar period, even though their tax is not grossly dispro- 
 portionate to that of their competitors. The "abnormal condi- 
 tions" provision, on the other hand, deals not with general classes 
 but with specific instances and grants relief in special cases ac- 
 cording to the facts of each case where, without such relief, there 
 would be a hardship as compared with representative concerns 
 because of some abnormal condition affecting the capital or 
 income of the corporation. The two provisions are of a different 
 nature. The one would give no relief to a corporation belonging 
 to a class which normally earned 20% if that corporation, due 
 to some abnormal condition affecting the income of the prewar 
 period, earned only 12% during the prewar period. Such con- 
 cerns do not receive even partial relief under the minimum war- 
 profits credit and should be granted relief under the "abnormal 
 
 «4 Revenue Act of 1918, §311. 
 
1126 FEDERAL INCOME TAX 
 
 conditions" provision.^is It has been held under the 1917 Law 
 that a corporation, which in 1911 commenced the erection and 
 operation of a refinery, the building of which and the experi- 
 mental operation and development work connected with which 
 extended over several years, requiring the withdrawal fr6m 
 other lines of the corporation's business of a large share of its 
 ■ available capital, thus temporarily curtailing its earning power 
 and reducing its profits, and thus rendering the prewar period 
 abnormal and not a true measure of the corporation's normal 
 average business, should be assessed under the provision requir- 
 ing the excess-profits deduction to be an amount equal to the 
 same percentage of invested capital for the taxable year which 
 the average deduction for such year of representative corpora- 
 tions is of the average invested capital for such year plus, in the 
 case of a domestic corporation, $3,000.*i^ Under the Revenue 
 Act of 1918 this kind of relief would seem to be contemplated 
 under the general provision for assessment by reference to rep- 
 resentative corporations on the ground that abnormal condi- 
 tions affected the capital or income of the prewar period. 
 
 Statement to Be Filed. A corporation the income or cap- 
 ital of which is affected by abnormal conditions may make ap- 
 plication for assessment by reference to representative corpora- 
 tions, which application should be attached to its return in the 
 form of a statement setting forth in full: (a) the reasons why 
 the tax should be so determined; (b) the facts upon which such 
 reasons are based; (c) an exact description of each trade or 
 business or important branch of a trade or business carried on 
 by it; (d) a statement of the invested capital and net income for 
 each year since the beginning of the prewar period; and (e) a 
 statement showing the amount of gains, profits, commissions or 
 other income derived on a cost plus basis from government con- 
 tracts made after April 5, 1917, and before November 12, 1918, 
 and showing the percentage which such income is of the total 
 income of the corporation. *i'^ 
 
 Method of Assessment. Under the method of assessment by 
 reference to representative corporations the tax will be an 
 amount which bears the same ratio to the net income of the 
 taxpayer (in excess of the specific exemption of $3,000) for 
 the taxable year, as the average tax of representative corpora- 
 tions engaged in a like or similar trade or business, bears to 
 
 415 O-IOOO-A, T. B. 19-20-922, reversing O-IOOO. 
 
 416 Revenue Act of 1917, § 205; A. R. R. 104, T. B. 20-20-944. 
 «7Reg. 45, Art. 901. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1127 
 
 their average net income (in excess of the specific exemption of 
 $3,000) for such year. In the case of a foreign corporation the 
 tax is computed without deducting the specific exemption of 
 $3,000 either for the taxpayer or the representative corpora- 
 tions. ^^^ Illustration : If the average net income of representa- 
 tive corporations is represented by $100,000: the net income in 
 excess of the specific exemption would be $97,000. If the aver- 
 age tax is found to be $38,800, the rate to be applied to domestic 
 corporations will be 38,800^97,000 or 40%. Thus, a domestic 
 corporation having a net income of $60,000 will deduct the 
 specific exemption of $3,000, leaving $57,000—40% of which is 
 $22,800, the amount of tax due under this section. But if the 
 corporation is a foreign corporation and has an income of 
 $60,000 the tax rate will be determined by dividing 38,800 by 
 100,000 which decreases the percentage to 38.8%. But this is 
 applied to the entire net income, $60,000, making the tax due 
 from the foreign corporation $23,280, or $480 more than that 
 imposed on a domestic corporation with the same net income. 
 
 In the case of a corporation with a fiscal year ending in 1918, 
 the tax is computed first as if the entire income had been earned 
 during the calendar year 1917 and second as if such entire 
 income had been earned during the calendar year 1918. The 
 proper proportions of the resulting taxes are used to determine 
 the tax for the fiscal year. "Constructive" invested capital is 
 used only with respect to the first computation, the method with 
 respect to the second computation being to fix a tax bearing the 
 same ratio to net income as the taxes of representative corpo- 
 rations.*^^ 
 
 Representative Corporations. The representative corporations 
 with respect to which the tax is to be computed under this sec- 
 
 «8 Revenue -Acts of 1918 and 1921, §328 (a). This method is much 
 simpler than that prescribed by § 210 of the 1917 Law and reaches ap- 
 proximately the same result. 
 
 «9 Revenue Act of 1918, § 335 (a) ; T. B. M. 30, T. B. 6-19-285. The 
 provisions of § 210, as interpreted by Article 52 of Regulations 41, and 
 § 327 are somewhat different and it is possible that a corporation may be 
 entitled to special assessment under the 1917 Law and not under the 
 1918 Law, or vice versa. In such case it would seem that the tax would 
 be computed as follows: First, as if the entire net income had been 
 earned during the calendar year 1917, the tax being computed thereon 
 under § 210 ; second, as if the entire net income had been earned during 
 1918, the tax thereon being computed under § 301. These taxes, one 
 computed by special assessment and the other computed in the ordinary 
 manner, would then be divided into their proper proportions to determine 
 the tax for the fiscal year. 
 
1128 FEDERAL INCOME TAX 
 
 tion are those corporations whose invested capital can be satis- 
 factorily determined in the ordinary manner and which are, as 
 nearly as may be, similarly circumstanced with respect to gross 
 income, net income, profits per unit of business transacted and 
 capital employed, the amount and rate of war-profits or excess- 
 profits, and all other relevant facts and circumstances.^^o In 
 each case the Commissioner will determine, as nearly as may be, 
 the group or class of corporations with which the corporation 
 should be compared.*^! 
 
 Ratio Between Average Tax and Average Net Income. The 
 ratio between the average tax and the average net income of 
 representative corporations is to be determined by the Commis- 
 sioner in accordance with regulations prescribed by him with 
 the approval of the secretary.*-- 
 
 Payment of 1918 Tax by Corporations Applying for Special 
 Assessment. In cases in which the tax was to be computed with- 
 out reference to the invested capital, the corporation was re- 
 quired to pay its tax for 1918 in installments without the benefit 
 of special relief, if the tax as so computed was less than 50 % of 
 the net income of the taxpayer. But if the tax so computed was 
 507c or more of the net income, the installments to be paid by 
 the corporation were required to be computed in the first instance 
 upon the basis of a tax equal to 50 % of the net income. The 
 actual ratio when ascertained was to be used in determining the 
 correct amount of the tax. If the correct amount of the tax 
 when determined exceeded 50 % of the net income, any excess 
 of the correct installments over the amounts actually paid became 
 due and payable ten days after notice and demand together with 
 interest at the rate of one-half of 1% per month on such excess 
 from the time the installment was due. If, on the other hand, the 
 amount of the tax was less, upon correct determination, than the 
 amount on which installments had been paid, the law impliedly 
 provided that the amount so paid should either be credited to the 
 installments falling due after final determination, or if all the 
 
 420 Revenue Acts of 1918 and 1921, §328 (a). 
 
 421 Reg. 45, Art. 911. It seems that the following should be considered 
 in selecting representative corporations: (1) a representative corpora- 
 tion should be fairly representative of all corporations engaged in the 
 same general line of business, as that of the corporation seeking the 
 assessment under this provision of the law; (2) it should operate in 
 the same general vicinity; (3) it should approximate in gross sales, 
 gross earnings, and net earnings; (4) it should approximate as to man- 
 ner and form of organization, especially financing; and (5) it should 
 have been in business for approximately the same length of time. 
 
 422 Revenue Acts of 1918 and 1921, §328 (b). 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1129 
 
 installments had been paid before the tax was finally determined, 
 the amount would be refunded in the usual manner.^^s jsjo in- 
 terest, however, was payable to the taxpayer on excess amounts 
 paid in the first instance. It was not permissible to file a bond in 
 lieu of cash payments on a 50 % basis, pending final determination 
 of tax due.*2* The treasury department required every corpo- 
 ration of the class claiming special assessment subsequently to 
 assessment in the ordinary manner to file a claim for abatement 
 on Form 47 for the excess of 50% of its net income. No such 
 abatement claim was required, if special assessment was claimed 
 when the return was filed.^^s 
 
 Determination of First Installment of Tax for 1919 in Special 
 Cases. For 1919 and subsequent taxable years, in the case of any 
 corporation other than a foreign corporation, the installments 
 should be determined upon the basis of an excess-profits tax equal 
 to 20% of the net income in excess of $3,000, but not in excess 
 of $20,000, plus 40% of the net income in excess of $20,000. In 
 any other special assessment case other than the case of a for- 
 eign corporation, but including a case where the invested capital 
 for the taxable year can not be accurately determined, but where 
 a minimum amount of invested capital, as to which there is no 
 question, can be determined, the installments should in the first 
 instance be determined upon the basis of a war-profits and excess- 
 profits tax computed by using the minimum invested capital, the 
 tax in any such case not to exceed an amount equal to 50% of 
 the net income, and for 1919 and subsequent taxable years not 
 to exceed 20% of the net income in excess of $3,000, but not in 
 excess of $20,000, plus 40% of the net income in excess of 
 
 $20,000,426 
 
 Determination of Installments of Tax in the Case of Foreign 
 Corporation. In the case of A foreign corporation the install- 
 ments of the tax should in the first instance be determined upon 
 the basis of a war-profits and excess-profits tax computed by 
 
 423 Revenue Act of 1918, §328; Reg. 45, Art. 914. The treasury depart- 
 ment also permitted the tax to be computed in the first instance upon 
 the basis of a minimum amount of invested capital as to which there was 
 no question, if this could be determined and was no less than 50% of 
 the net income (Reg. 45, Art. 912, amended by T. D. 3235, T. B. 42-21-1877) . 
 
 424 0. D. 94, T. B. 1-19-136. 
 
 425 0. D. 356, T. B. 31-19-655, modifying letter from treasury depart 
 ment dated October 15, 1919; W. T. S. 1919, H 1058. Interest would now 
 seem payable by the- government on overpayments (Revenue Act of 1921, 
 §1324). 
 
 426 Reg. 45, Art. 912, as amended by T. D. 3235, T. B. 42-21-1877. 
 
1130 FEDERAL INCOME TAX 
 
 using its invested capital for the taxable year 1917, such tax for 
 any taxable year not to exceed an amount equal to 50% of the 
 net income, and for 1919 and subsequent taxable years not to 
 exceed 20% of the net income not in excess of $20,000, plus 40% 
 of the net income in excess of $20,000. The invested capital for 
 1917 should be adjusted for any subsequent changes in its amount 
 due to cash or property paid in or withdrawn or to surplus or 
 undivided profits of prior years retained in the business and 
 properly attributable to its business within the United States. 
 If the tax for 1917 was determined by special assessment the 
 constructive capital which would result in a tax equivalent to the 
 tax so determined should be used. In the case of a foreign cor- 
 poration which was organized subsequent to the taxable year 
 1917, or which had no income from sources within the United 
 States during 1917, the installments of the tax should in the first 
 instance be determined upon the basis of a war-profits and excess- 
 profits tax equal to 50% of the net income, except that for 1919 
 and subsequent taxable years such installments be determined 
 upon the basis of an excess-profits tax equal to 20% of the net 
 income not in excess of $20,000, plus 40% of the net income in 
 excess of $20,000,427 
 
 No Credit Allowable on Account of Estimate of Excess Pay- 
 ment When Special Relief Undetermined. No claims for credit 
 may be applied under any circumstances against taxes due until 
 a definite determination has been made by way of special relief 
 and the amount of tax due by reference to representative cor- 
 porations fixed.*28 
 
 Commissioner to Keep Record. The Commissioner is required 
 to keep a record of all cases in which the tax is determined with- 
 out reference to invested capital containing the name and address 
 of the taxpayer, the business in which engaged, the amount of 
 
 427 Reg. 45, Art. 913, as amended by T. D. 3235, T. B. 42-21-1877. The 
 validity of this ruling seems doubtful in so far as it requires payment of 
 the 1919 excess-profits tax by a foreign corporation upon the maximum 
 basis provided by § 302 or upon the basis of constructive invested capital 
 for 1917. The statute does not provide for the advance payment of any 
 excess-profits tax for 1919 and subsequent years, the 50% provisions being 
 limited to 1918. All foreign corporations are taxable by reference to rep- 
 resentative corporations, and it seems doubtful whether they should be re- 
 quired to pay any excess-profits tax for 1919 and subsequent years until 
 assessment has been made by the Commissioner. This ruling will apply 
 under the 1921 Law to domestic corporations taxable under § 262 of that law. 
 
 428 Letter from treasury department dated March 23, 1921; W. T. S. 
 1921, 11892. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1131 
 
 invested capital and net income shown by the return.^^a The 
 Commissioner is required to furnish a copy of such record and 
 other detailed information with respect to such cases when re- 
 quired by resolution of either house of Congress without regard 
 to the restrictions usually imposed upon him with respect to di- 
 vulging information contained in income tax returns.*^" 
 
 Incorporation of Business of Partnership or Individual. In the 
 case of the organization as a corporation before July 1, 1919,*^^ 
 of any business in which capital is a material income-producing 
 factor and which was previously owned by a partnership or indi- 
 vidual, the net income of such trade or business from January 1, 
 1918, to the date of such reorganization might at the option of 
 the individual or partnership be taxed under the Revenue Act 
 of 1918 as the net income of a corporation for income tax, excess- 
 profits and war-profits tax purposes. No taxpayer was entitled 
 to this benefit unless a corporation de jure or 'de facto came into 
 existence prior to July 1, 1919.*32 jf the individual or partner- 
 ship chose to adopt this method of taxation the net income and 
 invested capital was computed as if the corporation had been in 
 existence on and after January 1, 1918, and in such cases, (1) 
 amounts distributed on or after January 1, 1918, from the earn- 
 ings were taxed to the recipients as dividends; (2) all the pro- 
 visions of the income tax and the war-profits and excess-profits 
 tax sections of the law relating to corporations were applied, so 
 far as practicable, to such trade or business; (3) the trade or 
 business was subject to the capital stock tax imposed by the 
 Revenue Act of 1917 and the Revenue Act of 1918, as if such 
 taxpayer had been a corporation on and after January 1, 1918, 
 with a capital stock having no par value; (4) the undistributed 
 profits or earnings of such taxpayer were not subject to the 
 surtax. The adoption of any other date than January 1, 1918, 
 for such purpose was not permissible. This option to be taxed 
 
 429 The law also requires this record to show the amount of invested 
 capital as determined under subdivision (a) of § 328, but that subdi- 
 vision does not call for a determination of invested capital and hence this 
 requirement is meaningless. 
 
 430 Revenue Acts of 1918 and 1921, §328 (c). 
 
 431 The treasury department had no authority to extend the time within 
 which to effect this reorganization (0. D. 223, T. B. 11-19-393). 
 
 432 0. 1023, T. B. 16-20-872. The intention to incorporate, the execution 
 and mailing of the articles of incorporation to the Secretary of State on 
 June 30, 1919, the opening of corporate books as at June 30, 1919, and the 
 manufacturing -for one day under the same name used hitherto, in the 
 absence of other proof of user prior to July 1, 1919, does not justify the 
 inference that a corporation de facto existed before July 1, 1919. 
 
^132 ' FEDERAL INCOME TAX 
 
 as a corporation did not apply to any trade or business the net 
 income of which for the taxable year 1918 was less than 20% of 
 its invested capital for such year.^ss in a case in which the part- 
 nership net income was more than 20% of its invested capital 
 but the net income of the partnership, taken together with the 
 net income of three corporations, 99 7o of the stock of which was 
 owned by the partnership, was not over 20% of the invested 
 capital of the partnership and the corporation, but the partner- 
 ship was not denied the benefit of this provision.*^* Partnership 
 net income, as above contemplated, meant net income after de- 
 ducting salaries of partners.*35 This provision did not apply 
 retroactively under the 1917 Law.^^e 
 
 Conditional Liberty Bond Exemption of Reorganized 
 Corporation. If a partnership was an "original subscriber" to 
 Liberty bonds of the fourth series and was reorganized as a cor- 
 poration prior to July 1, 1919, and elected to be taxed as a corpo- 
 ration from January 1, 1918, it was considered as an "original 
 subscriber" to such Liberty bonds within the meaning of the 
 $45,000 exemption "conditional on original subscription to, and 
 continued holding at the date of the tax return of, two-thirds as 
 many bonds of the Fourth Liberty Loan." The same considera- 
 tions applied to the $20,000 exemption "conditional upon original 
 subscribing to, and continued holding at the date of the tax re- 
 turn of, one-third as many notes of the Victory Liberty Loan."*^'? 
 
 Affiliated CorpOrations.*38 The invested capital of affiliated cor- 
 porations for the taxable year is the invested capital of the entire 
 group treated as one unit operated under a common control. As 
 a first step in the computation a consolidated balance sheet should 
 be prepared in accordance with standard accounting practices, 
 which will reflect the actual assets and liabilities of the affiliated 
 group. In preparing such a balance sheet all intercompany items, 
 such as intercompany notes and accounts receivable and payable, 
 should be eliminated from the assets and the liabilities, respec- 
 tively, and proper adjustments should be made in respect of inter- 
 
 433 Revenue Act of 1918, §330; Reg. 45, Art. 933. This provision is not 
 contained in the Revenue Act of 1921 in regard to the excess-profits tax, but 
 that law contains a similar provision as to the income tax. (Revenue Act 
 of 1921, § 229.) 
 
 434 T. B. R. 27, T. B. 6-19-286. 
 
 435 0. D. 95, T. B. 1-19-1381. 
 
 436 A. R. R. 618, T. B. 39-21-1849. 
 
 437 o. D. 211, T. B. 11-19-373. See also Reg. 45, Art. 79. 
 
 438 Under the Revenue Act of 1921, the filing of consolidated returns is 
 optional with the taxpayer. (See Chapter 10.) 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1133 
 
 company profits or losses reflected in inventories which at the 
 beginning or end of the taxable year contain merchandise ex- 
 changed between the corporations included in the affiliated group 
 at prices above or below cost to the producing or original owner 
 corporation. Such consolidated balance sheet will then show (a) 
 the capital stock of the parent or principal company in the hands 
 of the public ; (b) the consolidated surplus belonging to the stock- 
 holders of the parent or principal company ; and (c) the capital 
 stock, if any, of subsidiary companies not owned by the parent or 
 principal company, together with the surplus, if any, belonging 
 to such minority interest. In computing consolidated invested 
 capital the starting point is furnished by the total of the amounts 
 shown under (a), (b) and (c) above. This total must be in- 
 creased or diminished by any adjustments required to be made 
 under the provisions relating to invested capital.*^^ 
 
 Intangible Property Paid in. The following rules govern 
 the inclusion of intangible property in invested capital of affil- 
 iated corporations: (1) in respect of corporations whose affil- 
 iation is in the nature of parent and subsidiary companies, (a) 
 in the case of intangible property bona fide paid in for stock 
 or shares prior to March 3, 1917, there may be included in in- 
 vested capital an amount not exceeding the actual cash value 
 of such property at the time paid in or the par value of the 
 stock or shares issued therefor, or in the aggregate 25 per cent, 
 of the par value of the total stock or shares of the consolidation 
 outstanding on March 3, 1917 (determined as indicated in 
 items (a) and (c) of the preceding paragraph), or in the aggre- 
 gate 25 per cent, of the par value of the total stock or shares 
 shown on the consolidated balance sheet, being the amount of the 
 capital stock included in items (a) and (c) in the preceding 
 paragraph, at the beginning of the taxable year, whichever is 
 lowest; and (b) in the case of intangible property bona fide 
 paid in for stock or shares on or after March 3, 1917, there may 
 be included in invested capital an amount not exceeding the 
 actual cash value of such property at the time paid in, or the 
 par value of the stock or shares issued therefor, or in the ag- 
 gregate 25 % of the par value of the total stock or shares shown 
 by the consolidated balance sheet, being the amount of the capi- 
 tal stock included in" items (a) and (c) in the preceding para- 
 graph outstanding at the beginning of the taxable year, which- 
 ever is lowest, (c) When intangible property has been ac- 
 
 439 Reg. 45, Art. 864. 
 
1134 FEDERAL INCOME TAX 
 
 quired in part before and in part after March 3, 1917, the 
 amounts shall be ascertained, respectively, under (a) and (b) 
 above and in the aggregate shall in no case exceed 25% of the 
 par value of the total stock or shares outstanding at the begin- 
 ning of the taxable year shown in the consolidated balance sheet, 
 being the amount of the capital stock included in items (a) and 
 (c) in the preceding paragraph. (2) In respect of corporations 
 affiliated by reason of ownership by the same interests, the 
 limitations with respect to the inclusion of intangible property 
 in invested capital set forth in paragraphs (4) and (5) of sub- 
 division (a) of Section 326 of the statute shall be applied to each 
 corporation separately and the aggregate of the intangible prop- 
 erty, so valued, shall be included in invested capital in the con- 
 solidated return. In respect of each of the affiliated corpora- 
 tions the aggregate of the amounts ascertained under the pro- 
 visions of paragraphs (4) and (5) shall in no case exceed 25% 
 of the outstanding capital stock of such corporation at the be- 
 ginning of the taxable year.**'' 
 
 Inadmissible Assets. Where adjustment is required in re- 
 spect of inadmissible assets, such adjustment must be made on 
 the basis of the consolidated balance sheet with due regard to 
 the adjustments and eliminations set forth in the preceding 
 paragraphs and the general provisions relating to inadmissible 
 assets.**! 
 
 Stock of Subsidiary Acquired for Cash. When all or sub- 
 stantially all of the stock of a subsidiary corporation was ac- 
 quired for cash, the cash so paid will be the basis to be used in 
 determining the value of the property acquired.**^ 
 
 Stock of Subsidiary Acquired for Stock. Where stock of 
 a subsidiary company was acquired with the stock of the parent 
 company, the amount to be included in the consolidated invested 
 capital in respect of the company acquired will be computed in 
 the same manner as if the net tangible assets and the intangible 
 assets had been acquired instead of the stock. If in accordance 
 with such acquisition a paid-in surplus is claimed, such claim 
 must be supported by substantially the same sort of evidence 
 as is required in the case of a claim for paid-in surplus in re- 
 spect of tangible property paid in by a stockholder to a cor- 
 poration as a gift or at a value definitely known or accurately 
 
 440 Reg. 45, Art. 865. 
 
 441 Reg. 45, Art. 866. 
 
 442 Reg. 45, Art. 867; T. D. 2901, modifying T. D. 2662. 
 
WAR-PROFITS AND EXCESS-PROFITS TAX 1135 
 
 ascertainable as of the date of payment clearly and substantially 
 in excess of the cash or other consideration paid by the corpora- 
 tion therefor.**'^ 
 
 Invested Capital for Prewar Period. The invested capi- 
 tal of affiliated corporations for the prewar period will be com- 
 puted on the same basis as the invested capital for the taxable 
 year, except that where any one or more of the corporations in- 
 cluded in the consolidation for the taxable year were in existence 
 during the prewar period, but were not then affiliated, then the 
 average consolidated invested capital for the prewar period will 
 be the average invested capital of the corporations which were 
 affiliated in the prewar period plus the aggregate of the average 
 invested capital for each of the several corporations which were 
 not affiliated during the prewar period.*** The intent of this 
 ruling is to determine affiliation of the prewar years by the 
 affiliation of the taxable years .**3 
 
 Prewar Net Income of Affiliated Corporations. The con- 
 solidated net income of affiliated corporations for the prewar 
 period will be the average consolidated net income for the pre- 
 war years of such of the several corporations included in the 
 consolidation for the taxable year as were affiliated during the 
 prewar period plus the aggregate of the average net income for 
 each of the corporations not affiliated during the prewar period 
 which were in existence during all of the prewar period or dur- 
 ing at least one full year within the prewar period. The net 
 income of a subsidiary corporation organized during the prewar 
 period by an existing corporation should also be included.**^ 
 The expression "such of the several corporations included in the 
 consolidation for the taxable year as were affiliated during the 
 prewar period" identifies the affiliated corporations of the pre- 
 war period and clearly determines that the corporate entities 
 of the consolidated unit for each of the prewar years are those 
 corporate entities affiliated in the taxable year.**'^ 
 
 National Bank Stockholders' Trustee Accounts. It is 
 the custom of national banks to declare dividends which instead 
 of being paid to stockholders, are carried with their consent 
 
 443 Reg. 45, Art. 868; T. D. 2901, nio,difying T. D. 2662. See also Reg. 45, 
 Art. 837; T. B. E. 49, T. B. 16-19-467. 
 
 444 Reg 45, Art. 869. Full recognition, however, must be given to the pro- 
 visions of § 330 of the 1918 Law, particularly the last paragraph thereof, 
 and of articles 931-934 of Regulations 45. 
 
 445 A. R. M. 116, T. B. 12-21-1526. 
 
 446 Reg. 45, Art. 802. 
 
 447 A. E. M. 116, T. B. 12-21-1526. 
 
1136 FEDERAL INCOME TAX 
 
 to a stockholders' liability account in the name of a trustee. 
 This account may be used for investment in deals not coun- 
 tenanced by the comptroller of the currency. Although such 
 trustee account is a liability to the individual stockholders and, 
 therefore, from a technical viewpoint, not a part of the invested 
 capital of the bank, even though the bank include income from 
 the reserve in its gross income, the stockholders constitute an 
 "association" in affiliation with the national bank. The amount 
 of the reserve is therefore to be included in consolidated invested 
 capital.448 
 
 Balance Sheet. Every corporation is required to submit a bal- 
 ance sheet as of the first day of the taxable year and also a 
 balance sheet as of the close of the taxable year. Balance 
 sheets are required to be made in accordance with the books of 
 the taxpayer and changes in respect of any items therein made 
 pursuant to the regulations are to be explained in a separate 
 statement attached to the balance sheet to which it relates.**^ 
 
 Returns. Every corporation not expressly exempt from tax 
 and every personal service corporation must make a return re- 
 gardless of the amount of its net income.^^o Corporations 
 which have no taxable income for the year have been required 
 to fill out only Schedules A and B of Form 1120, which relate to 
 the income tax, and the schedules in support thereof, and are 
 not required to furnish the other information called for by this 
 form.*5i Excess-profits tax returns are now a part of the income 
 tax returns of corporations, and are governed by the same rules 
 as to time, place and manner of filing. 
 
 «S A. R. M. 43, T. B. 17-20-881, overruling O. D. 260, T. B. 16-19-466. Of 
 course, as a practical matter the national bank simply includes such reserve 
 in its own invested capital. 
 
 449 Reg. 41, Art. 54. As to the preparation of consolidated balance sheets, 
 see Chapter 10. 
 
 450 Revenue Act of 1921, § 239 ; Reg. 45, Art. 621. Under the 1917 law no 
 return of information with respect to prewar invested capital and net income 
 was required if the 7% deduction was accepted, and in the case of individ- 
 uals or concerns with only a nominal capital. A married woman might make 
 a separate return (Reg. 41, Arts. 75, 76). A husband and wife might file 
 separate excess-profits tax returns for 1917, in which the community income 
 might be divided between them. The invested capital of either the husband 
 or the wife was computed by adding that portion of the invested capital 
 which was his or her separate property to one-half of that portion of the 
 invested capital which was community property. The full amount of the 
 specific exemption authorized by the statute might be claimed by each. 
 (O. D. 881, T. B. 16-21-1581.) See Chapter 3. 
 
 451 Letter from treasury department dated March 24, 1919 ; W. T. S. 1921, 
 1[851. 
 
WAR-PROFITS AND EXCESS- PROFITS TAX 1137 
 
 Returns in Special Cases. Where a corporation computes 
 its war-profits credit upon the basis of the sum of (a) the 
 specific exemption and (b) an amount equal to 10% of the in- 
 vested capital for the taxable year, the items on Form 1120, 
 which relate solely to the net income or to the invested capital 
 for the prewar period, need not be filled in.*^^ where a cor- 
 poration enters on its return a war-profits and excess-profits 
 tax equal to the amount of the maximum tax, the items on Form 
 1120, which relate solely to the net income for'the prewar period 
 and the items which relate to the invested capital for the pre- 
 war period and for the taxable year, need not be filled in. Like- 
 wise, in the case of a foreign corporation the same items may be 
 disregarded, except that all of schedule I on Form 1120 should 
 be filled in and balance sheets as of the beginning and the end 
 of the taxable year for the entire business of the corporation, 
 both within and without the United States, should be submitted. 
 Corporations which have no taxable income for the year are re- 
 quired to fill out only schedules A and B and the schedules in 
 support thereof on their (separate or consolidated) returns 
 (Form 1120) and are not required to furnish the other informa- 
 tion called for by these returns.*^^ The Commissioner may at 
 any time specifically call for all or any part of the information 
 which is not so required to be entered on the return. In any 
 case, however, where a claim is made for assessment by refer- 
 ence to representative corporations other than in the case of a 
 foreign corporation, the corporation should fill out all items of 
 the return so far as possible and submit a statement explaining 
 why it is impracticable to fill out the entire return.*^* 
 
 Time and Manner of Paying Tax. The war-profits and excess- 
 profits taxes are to be paid at the same times and places, in the 
 same manner, and subject to the same conditions, as provided in 
 the case of payments of income tax ; that is, the tax will be paid 
 in installments on the dates specified with reference to the in- 
 come tax.*^5 
 
 452 Telegram from treasury department dated April 10, 1919 ; W. T. S. 
 1919, If 1022. Under the 1917 Law it was held that a return of information 
 as to invested capital and net income for the prewar period would not be 
 required if the taxpayer accepted the minimum percentage of 7% as a 
 deduction. 
 
 453 Letter from treasury department dated March 24, 1919; W. T. S. 1921, 
 II 851. 
 
 454 Reg. 45, Art. 962. 
 
 455 Revenue Acts of 1918 and 1921, § 336. As to the time and manner of 
 paying income taxes see Chapter 85. 
 
1138 FEDERAL INCOME TAX 
 
 Penalties. All the provisions of the income tax law not in- 
 applicable, including the provisions relating to penalties, are 
 made applicable to the filing of returns and payment of war- 
 profits and excess-profits taxes.*^^ 
 
 Administrative Provisions. In general, the administrative 
 provisions applicable to the income tax law are also applicable to 
 the administration of the war-profits and excess-profits tax 
 law.457 
 
 456 Revenue Acts of 1918 and 1921, § 336. 
 
 457 Revenue Acts of 1918 and 1921, § 336; Reg. 41, Art. 79. 
 
CHAPTER 44 
 THE CAPITAL STOCK TAX 
 
 This tax is popularly known as the Capital Stock Tax although 
 the statute describes it as "a special excise tax with respect to 
 carrying on or doing business." The present law ^ describes the 
 tax in the same manner as did the 1916 Law 2 and 1918 Law ^ and 
 imposes a tax on and after July 1, 1922, in lieu of the tax imposed 
 by the 1918 Law. The tax is imposed upon every domestic * cor- 
 poration 3 and upon every foreign ^ corporation doing business in 
 the United States. The Revenue Act of 1921 in imposing this tax 
 does not, like the 1916 Law, limit the corporations taxed to those 
 organized "for profit" and apparently applies to every corpo- 
 ration having capital stock whether organized for profit or not, 
 except those exempt from income tax under section 231 of the 
 Revenue Act of 1921 and except such insurance companies as are 
 subject to the tax imposed by sections 243 and 246 of the same 
 law.'^ The tax is imposed "with respect to carrying on or doing 
 business" and is payable in advance by every taxable corporation 
 engaged in business during any part of the preceding year. 
 
 Definitions. The word "corporation" is used in this chapter, 
 unless otherwise stated, in the sense defined in the Revenue Act 
 of 1921, and includes a corporation, association, joint-stock com- 
 pany, or insurance company .^ The phrase "taxable year," as used 
 
 1 Revenue Act of 1921, § 1000. 
 
 2 Act of September 8, 1916, § 407. It has been held that the 1916 capital 
 stock tax is an excise tax upon a corporation with respect to the carrying 
 on or doing business by the corporation, which is a proper subject of taxa- 
 tion on the part of the government (Washington Water Power Co. v. U. S., 
 decided by the Court of Claims, Feb. 14, 1921; T. D. 3160). 
 
 3 Revenue Act of 1918, § 1000. 
 
 * The term "domestic" when applied to a corporation, means "created or 
 organized in the United States," (Revenue Act of 1921, § 2), including only 
 the states, the territories of Alaska and Hawaii, and the District of Colum- 
 bia. (Reg. 50 Rev., Art. 8.) 
 
 5 The term "corporation" includes "associations, joint-stock companies and 
 insurance companies." (Revenue Act of 1921, § 2.) 
 
 6 The term "foreign," when applied to a corporation, means created or 
 organized outside the United States. (Revenue Act of 1921, § 2.) 
 
 7 Revenue Act of 1921, § 1000. The 1916 Law provided expressly that cor- 
 porations exempt under the provisions of § 11 of the 1916 income tax law 
 were also exempt for purposes of the capital stock tax. 
 
 8 Revenue Act of 1921, § 2 ; Reg. 50, Art. 11. 
 
 1139 
 
1140 FEDERAL INCOME TAX 
 
 in this chapter, means the fiscal year of the government be- 
 ginning on the first day of July of each calendar year and ending 
 on the last day of June the year following. The phrases "preced- 
 ing year" and "preceding taxable year" mean the twelve-month 
 period ending immediately prior to the "taxable year" as above 
 defined. 
 
 Domestic Corporations. The tax applies to a domestic corpo- 
 ration if (a) it is carrying on or doing business ; (b) has capital 
 stock; (c) was engaged in business for some part of the pre- 
 ceding year ending June 30th, and (d) is neither a corporation 
 enumerated as exempt for purpose of income tax, under section 
 231 of the Revenue Act of 1921, nor an insurance company of a 
 kind subject to the tax imposed by sections 243 and 246 of the 
 same Act. The 1916 Law provided that the corporation should 
 be organized for profit and have a capital stock represented by 
 shares. In this respect the 1921 Law and the 1918 Law are 
 broader and a corporation is liable to tax, whether it is a creature 
 of statute or of contract and whether or not it is organized for 
 profit or has a capital stock represented by shares.^ 
 
 Associations. It should be noted that the law applies not 
 only to corporations but also to all associations "organized in 
 the United States," and in this respect seems to be broader in its 
 scope than the 1909 Law, which was construed to apply only to 
 corporations, joint-stock companies or associations "organized 
 under the laws of the United States or of any state or territory 
 of the United States or under the Acts of Congress applicable to 
 Alaska or the District of Columbia." " Apparently it was the 
 intent of Congress to make the present as well as the former 
 capital stock tax law apply to associations which were held not to 
 be taxable under the 1909 Law, because not organized*under some 
 statute. The treasury department has ruled that associations and 
 joint-stock companies include organizations by whatever name 
 known, which act or do business in an organized capacity, whether 
 created under and pursuant to state laws, agreements, declara- 
 tions of trust, or otherwise, the net income of which, if any, is 
 distributed or distributable among the members or shareholders 
 on the basis of the capital stock which each holds or, where 
 
 » Revenue Act of 1921, § 1000. 
 
 10 It was the intention of Congress to embrace within the 1909 Law only 
 such corporations and joint-stock associations as were organized under some 
 statute or derived from that source some quality or benefit not existing at 
 the common law. (Eliot v. Freeman, 220 U. S. 178.) This was a case in- 
 volving a so-called "Massachusetts Real Estate Trust" which was held not 
 to be taxable under the 1909 Law but which would seem to be taxable under 
 the capital stock tax law. 
 
THE CAPITAL STOCK TAX 1141 
 
 there is no capital stock, on the basis of the proportionate share 
 of capital which each has or has invested in the business or 
 property of the organization.^^ 
 
 Association Distinguished From Partnership. An organ- 
 ization the membership interests in which are transferable with- 
 out the consent of all the members, however the transfer may be 
 otherwise restricted, and the business of which is conducted by 
 trustees or directors and officers without the active participation 
 of all the members as such, is an association and not a part- 
 nership.i2 A partnership bank conducted like a corporation 
 and so organized that the interests of its members may be trans- 
 ferred without the consent of the other members is a joint-stock 
 company or association within the meaning of the statute. A 
 partnership bank the interests of whose members can not be so 
 transferred is a partnership.^^ 
 
 Association Distinguished From Trust. The test of lia- 
 bility in all cases involving trusts of the Massachusetts type is 
 whether the cestuis que trmtent have by the terms of the trust 
 agreement a voice in the management or control of the trust. 
 Where the trustees are in complete control of the business, the 
 beneficiaries having no control except the right of filling vacancies 
 among the trustees or of consenting to a modification of the terms 
 of the trust or of dissolving the trust, no association exists. If, 
 however, the cestuis que trustent have a voice in the control or 
 management of the business of the trust, whether through the 
 right to elect trustees periodically or to remove the trustees or 
 to restrict the trustees as to the management of the trust or 
 otherwise, the trust is an association within the meaning of the 
 statute. Where the trustees hold in their own right a sufficient 
 number of the certificates of beneficial interest to constitute con- 
 trol as between the beneficiaries, the trust will be held to be an 
 association regardless of the powers conferred upon the trustee 
 by the instrument creating the trust.^* 
 
 Limited Partnership as Partnership. So-called limited 
 partnerships of the type authorized by the statutes of New York 
 and most of the states are partnerships and not corporations 
 within the meaning of the statute. Such limited partnerships, 
 which cannot limit the liability of the general partners, although 
 the special partners enjoy limited liability so long as they observe 
 
 11 Reg. 50 Rev., Art. 3. 
 
 12 Reg. 60 Rev., Art. 3. 
 
 13 Reg. 50 Rev., Art. 6. 
 
 14 Reg. 50 Rev., Art. 7. See Crocker v. Malley, 249 U. S. 223. See Chapter 
 10 for a full discussion of this subject. 
 
1142 FEDERAL INCOME TAX 
 
 the statutory conditions, which are dissolved by the death or at- 
 tempted transfer of the interest of a general partner, and which 
 cannot take real estate or sue in the partnership name, are so 
 like common-law partnerships as to render impracticable any dif- 
 ferentiation in their treatment for tax purposes. Michigan and 
 Illinois limited partnerships are partnerships. A California spe- 
 cial partnership is a partnership.^^ 
 
 Limited Partnership as Corporation. On the other hand, 
 limited partnerships of the type of partnerships with limited lia- 
 bility or partnership associations authorized by the statutes of 
 Pennsylvania and of a few other states are only nominally part- 
 nerships. Such so-called limited partnerships, offering opportu- 
 nity for limiting the liability of all the members, providing for 
 the transferability of partnership shares, and capable of holding 
 real estate and bringing suit in the common name, are more truly 
 corporations than partnerships and must pay the tax as corpora- 
 tions. In all doubtful cases limited partnerships will be treated 
 as corporations unless they submit satisfactory proof that they 
 are not in effect so organized. Michigan partnership associations 
 are corporations. The liability of Virginia limited partnerships 
 is determined in each case from a consideration of the certificate 
 of partnership and all pertinent facts relative thereto.i^ 
 
 Foreign Corporations. A foreign corporation is taxable if it 
 (a) is "carrying on or doing business in the United States" during 
 the taxable year; (b) was engaged in business in the United 
 States during some part of the preceding year ending June 30th ; 
 (c) is not a corporation enumerated in section 231 of the 
 law as exempt from income tax, or an insurance company 
 other than a mutual insurance company and (d) has capital em- 
 ployed in the transaction of its business in the United States." 
 It is to be noted that a foreign corporation is not subject to this 
 tax merely because it receives income from sources within this 
 country. To be taxable, a foreign corporation must be carrying 
 on or doing business in the United States and must have capital 
 employed in the transaction of such business. The chapter on 
 foreign corporations, in the foregoing part of this book, contains 
 decisions and rulings which define what is "doing business" by 
 foreign corporations, and such decisions and rulings have appli- 
 cation to this tax. It should be borne in mind, however, that some 
 of the rulings with respect to the taxability of foreign corpora- 
 is Reg. 50 Rev., Art. 5. See Chapter 8 for a full discussion of this subject. 
 
 16 Reg. 50 Rev., Art. 4. See Chapter 8 for a full discussion of this subject. 
 
 17 Revenue Act of 1921, § 1000. 
 
THE CAPITAL STOCK TAX 1143 
 
 tions under the income tax law have no application to this law, 
 since this tax is imposed only when the foreign corporation is 
 carrying on or doing business in this country and has capital 
 employed in the transaction of such business.^^ 
 
 Basis and Rate of Tax. The basis of the capital stock tax dif- 
 fers accordingly as the taxable corporation is domestic or foreign . 
 or is an insurance company. 
 
 Domestic Corporations. The basis of the tax in the case of all 
 domestic corporations is "the fair average value of its capital 
 stock for the preceding year ending June 30th." The rate of tax 
 is $1 for each full $1,000 of the fair average value of the capital 
 stock in excess of the prescribed deduction. The tax is not upon 
 the par value of the capital stock but upon its fair average value 
 for the preceding year ending June 30, or for the period during 
 which it has been issued if less than a year, of the capital stock 
 outstanding at the date of the incidence of the tax. It is on an 
 entirely different basis from the excess-profits tax which is con- 
 cerned with invested capital, and not with the present fair value 
 of the capital stock. Stock in the treasury of a corporation is 
 not regarded as outstanding, unless pledged as security for a 
 debt. No deduction is allowed corporations organized in the 
 United States for capital invested outside the United States. If 
 such a corporation is doing any business it is taxed on its entire 
 capital, even though most of it may not be employed in the busi- 
 ness.19 From the total fair average value of the capital stock, the 
 sum of $5,000 is deductible, and the tax is upon each full $1,000 of 
 any balance. Accordingly, corporations the fair value of whose 
 capital stock is not more than $5,000 are not subject to any tax. 
 However, for the purpose of avoiding errors, every corporation 
 must file a return, even though the par value or the fair average 
 value of its capital stock does not exceed $5,000.2" 
 
 Fair Average Value of Capital Stock. The law provides 
 that the surplus and undivided profits must be included in esti- 
 mating the fair average value of the capital stock ; that is to say, 
 the capital stock representing the entire ownership of the prop- 
 erty of the corporation necessarily includes the surplus and un- 
 divided profits. If the fair average value is determined from the 
 book value they are included in the assets ; if from sales, they are 
 necessarily taken into consideration in establishing the market 
 price; and if from net income, they are more or less reflected 
 
 18 Laurentide Co., Ltd. v. Durey, 231 Fed. 223, and Bryant & May, Ltd. v. 
 Scott, 226 Fed. 875, are cases in point. See page 1155. 
 
 19 Reg. 50 Rev., Art. 13. 
 
 20 Rieg. 50 Rev., Art. 16. 
 
1144 FEDERAL INCOME TAX 
 
 through the earnings.21 Corporations are now required to make 
 three exhibits : Exhibit A being a condensed balance sheet ; Ex- 
 hibit B, quotations or outside sales prices ; and Exhibit C, the an- 
 nual income for a period of five years. The fair average value of 
 the capital stock for the purpose of determining the amount of 
 the capital stock tax must not be confused with the market value 
 of the shares of stock where it may be necessary to determine 
 such value under other provisions of the revenue laws. The fair 
 average value of the capital stock, the statutory basis of the tax, 
 is not necessarily the book value or the value based on prices 
 realized in current sales of shares of stock or even the value, 
 determined by capitalization of earnings, although it may be 
 more directly dependent upon the last. It should usually be 
 capable of appraisal by officers of the corporation having a 
 special knowledge of the affairs of the corporation and general 
 knowledge of the line of business in which it is engaged. Pro- 
 vision is accordingly made in Exhibit C of Form 707 (Revised) 
 for the tentative determination of the fair value of the capital 
 stock by capitalizing the net earnings of the corporation on a 
 percentage basis fixed by its officers as fairly representing the 
 conditions obtaining in the trade and in the locality. But such 
 fair value, except in the case of insurance companies, must not 
 be set at a sum less than the reconstructed book value shown 
 by Exhibit A, unless the corporation is materially affected by 
 extraordinary conditions which support a lower valuation. In 
 any such case a full explanation must accompany the return. 
 The commissioner will estimate the fair value of the capital stock 
 in cases regarded as involving any understatement or undervalu- 
 ation.22 
 
 Exhibit A: Condensed Balance Sheet. This exhibit fur- 
 nishes a condensed balance sheet as of the closing date of a fiscal 
 year ending on June 30, or on some date between July 1 and 
 June 30, of the preceding year. In one column the value shown 
 on the books of account is required to be stated and in a parallel 
 
 21 Reg. 50 Rev., Art. IB. 
 
 22 Reg. 50 Rev., Art. 14.' See Form 707 revised. Prior to July 1, 1918, 
 it was the practice of the treasury department to determine the fair aver- 
 age value of capital stock by means of either (a) the average price at which 
 stock had sold during the preceding year or (b) by estimating the value 
 of the capital stock, taking into consideration the surplus and undivided 
 profits for the preceding fiscal year as well as the nature of the business, 
 its earning capacity and average dividends paid from profits earned during 
 the preceding five years. Only in exceptional cases where the corporation had 
 no net income or only occasional incomS was the value of the capital stock 
 predicated upon the value of the assets of the corporation. 
 
THE CAPITAL STOCK TAX 1145 
 
 column adjustment may be made for any overstated or under- 
 stated values shown on the books of account. In a third column 
 the taxpayer is required to show the difference between the 
 book values and the "fair value." Any material difference is to be 
 explained in such manner as to enable the commissioner to de- 
 termine if the "fair value" is proper and acceptable. In making 
 adjustments from book values to fair value it is not necessary 
 for the taxpayer to make corresponding adjustments on its books 
 of account. In the event that the taxpayer holds in its treasury 
 any of its own stock or bonds it is required that advice be given 
 as to whether such stock or bonds are pledged or unpledged. 
 
 Exhibit B : Quotations or Outside Sales Prices. In this 
 exhibit the taxpayer is required to show prices quoted on a recog- 
 nized stock exchange or on the New York Curb, or the prices at 
 which outside sales were made if the stock was not listed, for the 
 period of twelve months ending with the close of the taxpayer's 
 last fiscal year. A statement of the number of shares involved 
 and the conditions under which sales were made at other than 
 exchange quotations must accompany the return. Sales to em- 
 ployees or directors for qualifying shares, or sales which were 
 restricted as to resale, or sales at prices otherwise specially in- 
 fluenced, are not considered representative of the fair value of 
 the entire capital stock and should not be reported. 
 
 Exhibit C : Annual Income. In this exhibit the taxpayer is 
 required to furnish data for the five fiscal years, ended with the 
 close of the taxpayer's last fiscal year or for the period during 
 which the corporation had been engaged in business, if for a 
 shorter period. The net income reported for the purpose of the 
 income tax is required to be stated in this exhibit. Such net in- 
 come, however, may be adjusted by deductions or additions in 
 order to reach the actual operating income. Among the prin- 
 cipal items which may require adjustment are stated: income 
 taxes not deductible in computing income subject to tax; losses 
 not fully deductible; dividends from other corporations not in- 
 cluded in computing income subject to tax; income exempt for 
 purpose of the income tax; expenditures made for additions or 
 betterments, or reserves for such purposes, made against in- 
 come whether directly or through expenses. The adjusted in- 
 come will be averaged for the years reported and such average 
 income capitalized at such percentage as the officers of the com- 
 pany making the return from their special familiarity with the 
 business know representative enterprises in their line in their 
 locality must earn in order to maintain their stock at par. In 
 other words, if enterprises engaged in a similar business find it 
 
1146 FEDERAL INCOME TAX 
 
 necessary on the average to earn 8% on their issued capital 
 stock to keep the value of their stock at par, the net income of 
 the corporation making the report is to be capitalized by dividing 
 it by .08.23 
 
 Foreign Corporations. The tax is at the rate of $1 for each 
 full $1,000 of the capital of a foreign corporation actually em- 
 ployed in the transaction of its business in the United States, 
 and is in all cases to be computed on the basis of the average 
 amount of capital so employed during the preceding year ending 
 June 30. The basis of the tax is accordingly different from 
 that in the case of domestic corporations, which pay a tax meas- 
 ured by the fair average value of their capital stock. No de- 
 duction from the total fair average value is allowed in com- 
 puting the tax.2* The "capital employed in the transaction of its 
 business in the United States" means that portion of the total 
 capital, surplus and undivided profits of the foreign corporation 
 utilized for the purpose of doing business in the United States.^s 
 The tax is imposed upon capital employed irrespective of its 
 nature, whether borrowed, paid in, or earned.^^ Any surplus or 
 undivided profits invested in United States bonds or other se- 
 curities having no connection whatever with the actual busi- 
 ness of the corporation transacted in this country is not "cap- 
 ital employed in the transaction of its business in the United 
 States." 27 Bank accounts carried by a foreign corporation in this 
 country are to be considered in computing the amount of capital 
 employed therein if the money is carried on the books of the cor- 
 poration as capital invested in its business in this country, but 
 not if the money is kept here merely for convenience or invest- 
 ment.-* A foreign corporation may have income from sources 
 within the United States for the purpose of the income tax and 
 
 23 See Form 707. It has been held that income and excess-profits taxes 
 may be properly deducted from net income, as reported under Exhibit C, 
 even though not actually paid, if the amount has been definitely determined 
 and explanations are submitted for consideration in the final audit. (Tele- 
 gram from treasury department dated July 10, 1919; W. T. S., 1(3126.) In 
 capitalizing average net income under Exhibit C, no attention must be paid 
 to changes in amount of issued stock during income producing period. 
 (Telegram from treasury department dated July 27, 1920; W. T. S. 1921, 
 H 3101.) 
 
 24 Reg. 50 Rev., Art. 20. 
 
 25 Reg. 50 Rev., Art. 18. 
 
 2B Telegram from treasury department dated October 30, 1919 ; W. T. S. 
 1921, If 3045. 
 
 27 T. D. 2467. 
 
 28 Letter from treasury department dated February 10, 1917; W. T. S. 
 1918, T[ 3131. 
 
THE CAPITAL STOCK TAX 1147 
 
 yet not have capital employed in the transaction of business here 
 for the purpose of the capital stock tax. A foreign corporation 
 actually itself not doing business in the United States is not sub- 
 ject to the tax, and accordingly the investment of a part of its 
 funds in United States stocks and securities would not constitute 
 capital employed in its business in the United States. But if a 
 corporation does business here, then, although the mere invest- 
 ment of funds in United States securities is not such a taxable 
 employment of capital, such investment will constitute capital 
 employed in the transaction of business in the United States if 
 made in a subsidiary corporation which the foreign corporation 
 uses as an instrumentality for the successful conduct of its own 
 business here. Thus, funds of a foreign corporation invested in 
 the purchase of facilities, though apparently independent, for 
 the purpose of its business here, or the purchase of stock and 
 securities of a subsidiary corporation for the same purpose, will 
 constitute capital employed in the transaction of business in the 
 United States. A foreign corporation may not escape taxation 
 by organizing or purchasing stock of another corporation to own 
 the facilities which the taxpayer needs in its business. A 
 foreign corporation may employ capital in the transaction of its 
 business in the United States in various ways, as for example, in 
 the investment of funds in property in the United States used 
 in its business, in stocks, and securities of subsidiary corpora- 
 tions as explained above, in bills and accounts receivable repre- 
 senting business done in the United States, in merchandise kept 
 here for sale, in materials manufactured here, and in deposits 
 in United States banks maintained for use in business here, and 
 not merely for convenience or investment. In general, approxi- 
 mately such proportion of the entire capital of a foreign corpo- 
 ration will probably be employed in the transaction of its busi- 
 ness in the United States as the gross amount of its business in 
 the United States bears to its total gross business, but this is 
 not always true, for a corporation may conceivably transact a 
 greater or less volume of business in one country than in an- 
 other on the same amount of capital.^^ The basis of the tax is 
 the average amount of capital employed in the transaction of 
 business in the United States during the preceding fiscal year. 
 
 29 Reg. 50 Rev., Art 18 and 19. In the case of a foreign corporation it is 
 often just as diflScult to estimate the "gross amount of business in the 
 United States" for the purpose of calculating the proportion of its entire 
 capital employed here as it will be to determine in the first instance the 
 proportion of capital employed in the transaction of business in the United 
 States. 
 
1148 FEDERAL INCOME TAX 
 
 It will usually be sufficient to determine the amount of capital 
 so employed at the beginning of such year and the amounts so 
 employed at the end of such year and to divide the sum of such 
 amounts by two. However, where there have been material 
 changes in the amount of capital the average amount should 
 be determined with due regard to the times at which such 
 changes occurred. The foreign corporation may, if desired, 
 compute the average amount of capital employed on a monthly 
 basis.^" 
 
 Insurance Companies. The present law provides that the cap- 
 ital stock tax shall not apply to "any insurance company subject 
 to the tax imposed by section 243 or 246." The former section 
 imposes a tax "upon the net income of every life insurance com- 
 pany" and the latter section imposes a tax "upon the net income 
 of every insurance company (other than a life or mutual in- 
 surance company) ." The result appears to be that all insurance 
 companies are exempt from capital stock tax under the Revenue 
 Act of 1921, except mutual insurance companies.^i The follow- 
 ing paragraphs describe the taxation of the capital stock of 
 insurance companies under the Revenue Act of 1918. 
 
 30 Reg. 50 Rev., Art. 21. One of the rules prescribed by the treasury 
 department for determining capital employed in the transaction of business 
 of a foreign corporation in the United States for the year ending June 30, 
 1S17, was as follows: (1) Take the entire invested capital of the corpo- 
 ration, as shown by its last return within the year ending June 30 for the 
 purpose of the excess-profits tax imposed by the Act of October 3, 1917, or 
 if no such excess-profits tax return has been made by the corporation, com- 
 pute the invested capital for its- fiscal year ending within the year ending 
 June 30 in accordance with the excess-profits tax regulations. (2) Find 
 the proportion, expressed in percentage, which the net income from sources 
 within the United States bears to the entire net income for the fiscal year 
 ending within the year ending June 30, such income being ascertained upon 
 the same basis and in the same manner as for the income and excess-profits 
 taxes. (3) Apply the percentage found in (2) to the average invested 
 capital ascertained in (1), the result being the amount of capital invested 
 in the United States. (Reg. 38 Rev., Art. 20.) 
 
 31 Revenue Act of 1921, § 1000 (b). 
 
 The nature of mutual insurance is indicated by the following language 
 of Lord Herschel, quoted in Mutual Insurance Co. v. Herold, 198 Fed. 199, 
 209. 
 
 "In the case before us, certain persons have associated themselves together 
 for the purpose of mutual insurance; that is to say, they contribute annu- 
 ally to a common fund out of which payments are to be made in the event 
 of death to the representatives of persons thus associated together. Those 
 persons are alone the owners of the common fund, and they alone are en- 
 titled to the management of it." 
 
 The following statements are also pertinent: 
 
THE CAPITAL STOCK TAX 1149 
 
 Stock Insurance Companies Under 1918 Law. Insurance com- 
 panies having a capital stock as distinguished from mutual in- 
 surance companies are taxable upon the same basis as other 
 corporations, whether domestic or foreign, except that in com- 
 puting the tax such reserve funds, which include deposits, as 
 they are required by law or contract to maintain or hold for the 
 protection of, or payment to, or apportionment among, policy- 
 holders, are not to be included. In the case of such companies 
 the tax will be computed by deducting from the total book value 
 of the assets the amount of the actual liabilities and legal re- 
 serves, unless the facts in the case indicate that the book value 
 of the assets is substantially different from their fair market 
 value, in which case it is permissible to make proper adjustment. 
 In a case requiring such adjustment the market value of the 
 shares of stock as shown by Exhibit B or the net earnings of 
 the company as shown by Exhibit C in Form 707 (Revised) 
 should be considered, as well as the fair value of the assets.^^ 
 
 Mutual Insurance Companies Under 1918 Law. The tax ap- 
 plies to domestic and foreign mutual insurance companies. A 
 mutual protective association organized under a statute, whose 
 
 "The theory of a mutual insurance company, Is that the premium paid by 
 each member for the insurance of its property constitutes a common fund, 
 devoted to the payment of any losses that may occur." (Union Insurance Co. 
 V. Hoge, 21 How. 35, 64.) 
 
 "The principle of mutuality exists when the persons constituting the com- 
 pany contribute through cash or assessable premium notes, or both, as the 
 plan of transacting business may provide, to a common fund out of which 
 each is entitled to indemnity in the case of loss * * *_ Persons so 
 associated are said to be members of the company. They have, or may have, 
 a voice in the management of its affairs, and are practically both insurers 
 and insured." (Spruance ex rel. v. Farmers & Merchants Insurance Com- 
 pany, 10 Pac. 285, 287. See also State v. Willett, 171 Ind. 296, 86 N. E. 
 68, 70.) 
 
 "It is of the essence of mutual insurance that the excess in the premium 
 over the actual cost as later ascertained shall be returned to the policy- 
 holders * * *. Mutual fire, mutual marine, and mutual life insurance com- 
 panies are analogous in that each performs the service called insurance 
 wholly for the benefit of the policyholders and not, like stock insurance com- 
 panies, in part for the benefit of persons who as stockholders have pro- 
 vided working capital on which they expect to receive dividends repre- 
 senting profits from their investment. In other words, these mutual com- 
 panies are alike in that they are co-operative enterprises." (Penn. Mutual 
 Life Insurance Co. v. Lederer, 252 U. S. 523.) See also L. O. 1063, T. B. 
 19-21-1626. Of course, certain kinds of mutual insurance companies are 
 exempt under the provisions of §231 (10). See §§1000 (b) and 231 (10) 
 of the Revenue Act of 1921. 
 
 32 Reg. 50 Rev., Art. 22. 
 
1150 FEDERAL INCOME TAX 
 
 only source of revenue is the assessments paid by its members 
 and whose net income for each year is paid into a reserve fund, 
 constituting the sole resource of the company, aside from current 
 assessments for the payment of losses, is an insurance company 
 within the meaning of the statute. A voluntary unincorporated 
 association of employees formed for the purpose of relieving 
 sick and aged members and the dependents of deceased members 
 is an insurance company, whether the fund for such purpose is 
 created wholly by membership dues or partly by contributions 
 from the employer.^^ An organization doing business on the 
 "inter-indemnity" or "reciprocal insurance" plan through an 
 attorney-in-fact subject to direction of an advisory board of 
 policyholders, which requires advance deposits to cover the cost 
 of the insurance and maintains investments or deposits from 
 which substantial income is derived is a mutual insurance com- 
 pany subject to capital stock tax and payment of tax on issuance 
 of insurance policies.^^ 
 
 Domestic Mutual Insurance Companies. Under the 1918 
 law the tax is $1 for each full $1,000 of the excess over $5,000 
 of the sum of (a) the surplus or contingent reserves maintained 
 for the general use of the business and (b) any reserves the net 
 additions to which are included in net income for the purpose 
 of the income tax, in both cases figured as of the close of the last 
 taxable year of the company. The net addition required by law 
 to be made within the taxable year to reserve funds, including 
 in the case of assessment insurance companies the actual deposit 
 of sums with state or territorial officers pursuant to law as addi- 
 tions to guarantee or reserve funds and, in the case of corpora- 
 tions issuing policies covering life, health and accident insurance 
 combined in one policy issued on the weekly premium payment 
 plan continuing for life and not subject to cancellation, including 
 such portion of the net addition not required by law made within 
 the taxable year to reserve funds as is needed for the protection 
 of the holders of such combination policies, is not included in net 
 income for the purpose of the income tax.^^ 
 . Foreign Mutual Insurance Companies. Under the 1918 
 law the tax is $1 for each full $1,000 of the same proportion of 
 
 33 Reg. 50 Rev., Art. 23. Revenue Act of 1918, § 1000 (c) . Under the 
 1916 capital stock tax law it was held that mutual insurance companies 
 and other associations not having capital stock represented by shares would 
 be held exempt from the tax in the absence of a basis for the computa- 
 tion thereof under that law. (T. D. 2364.) 
 
 34 L. O. 1063, T. B. 19-21-1626. 
 
 35 Reg. 50 Rev., Art. 24. 
 
THE CAPITAL STOCK TAX 1151 
 
 the sum of (a) and (b) in the last paragraph which the reserve 
 fund upon business transacted within the United States is of the 
 total reserve upon all business transacted, calculated as of the 
 close of the last taxable year of the company. ^s. 
 
 Corporations Engaged in Business During Preceding Year and 
 During Taxable Year. The tax being payable in advance does 
 not apply to any corporation which was not engaged in business 
 during any part of the fiscal year preceding the year for which 
 the tax is due, but if it was in business even one day of the pre- 
 ceding year and one day of the taxable year it is subject to the 
 tax. There is no relation between the amount of the tax payable 
 and the length of time the corporation was in business. A cor- 
 poration engaged in business during a part of the preceding year, 
 but not engaged in business at the beginning of the taxable year, 
 is not required to make any return if it is dissolved or in process 
 of dissolution, but if it is only temporarily inactive and subse- 
 quently during the year re-engages in business it should file a 
 return in the month in which it recommences business and pay 
 the tax due from the first of such month to the end of the taxable 
 year. A corporation organized and beginning corporate activities 
 on or after July 1 is not subject to tax for the remainder of the 
 taxable period in which the company was organized, unless, as of 
 July 1, it takes over the business of an organization which was 
 subject to capital stock tax, in which event the new corporation 
 is required to file a return and pay the tax. In the case of foreign 
 corporations "engaged in business," means the transaction of 
 any business within the United States.^'^ 
 
 Inactive Corporations. A domestic corporation is not taxable 
 unless it carries on or does business in the taxable year. But if 
 such corporation has paid the special excise tax at the beginning 
 of the taxable year and ceases to do business before the close of 
 that year, no refund is allowed for that portion of the year in 
 which the corporation does no business.^^ The same rule applies 
 in respect of foreign corporations, except that the business in 
 question must be engaged in or carried on or done in the United 
 States. 
 
 Carrying On or Doing Business. The basis of the tax in the 
 case of a domestic corporation is "carrying on or doing business" 
 in the capacity of a corporation, association, or insurance com- 
 pany. The words "carrying on or doing business" must be given 
 
 36 Reg. 50 Rev., Art. 35. 
 
 37 Reg. 50 Rev., Art. 26. 
 
 38 Reg. 50 Rev., Art. 1. 
 
1152 FEDERAL INCOME TAX 
 
 their ordinary and natural signification. "Business" is a very- 
 comprehensive term and embraces whatever occupies the time, 
 attention or labor of men for the purpose of livelihood or profit. 
 In other words, business necessarily involves the idea of gain. 
 The true basis of distinction is, in the first instance, between — 
 
 (a) A corporation organized for the purpose of doing business 
 
 as above defined, and 
 
 (b) A corporation organized for the sole purpose of owning 
 
 and holding property and distributing its avails ; 
 and, in the second instance, between — 
 
 (c) A corporation of Class (a) which is continuing the body 
 
 and substance of the business for which it was organ- 
 ized or is still active and maintaining its organization 
 for the purpose of continued efforts in the pursuit of 
 profit or gain, and 
 
 (d) A corporation which, although included in Class (a), has 
 
 substantially retired from the business for which it was 
 organized and has reduced its activities to the mere own- 
 ership and holding of property, distributing its avails, 
 and doing only the acts necessary to the maintenance 
 of its corporate existence and the private management 
 of its purely internal affairs. 
 The distinction in each case must depend upon the peculiar 
 facts in the case. Corporations of Class (a) will be presumed to 
 be subject to the tax unless they submit proof, satisfactory to 
 the commissioner, that they are not actually carrying on or doing 
 business. If a corporation claim exemption on the ground that 
 it belongs to Class (b) , it will be required to file an excerpt from 
 its charter setting forth its corporate powers together with a 
 full and comprehensive statement showing the nature of the 
 activities in which it is and has been actually engaged. If it 
 claim exemption on the ground that it belongs to Class (d), it 
 will be required to furnish a copy of any amendment of its char- 
 ter, resolution of its board of directors, or other evidence, satis- 
 factory to the commissioner, showing that it has reduced its ac- 
 tivities to the mere ownership of property, receipt of its avails, 
 and the doing of only what is necessary to the maintenance of its 
 corporate existence.^^ 
 
 39 Reg. 50 Rev., Art. 10. Von Baumbach v. Sargent Land Co., 242 U. S. 
 503. It was held in Associated Pipe Line Co. v. U. S., 258 Fed. 800, that 
 the amount of business done is immateriaL On the other hand, it has been 
 held that the existence of occasional and isolated transactions does not con- 
 stitute the doing of business (Lewellyn v. Pittsburg Co., 222 Fed. 177; 
 Penn. Collieries v. McKeever, 183 N. Y. 98). 
 
THE CAPITAL STOCK TAX 1153 
 
 The meaning of the term "engaged in business" in relation to 
 domestic corporations was defined by a number of decisions 
 under the 1909 law, with particular reference to cases where 
 corporations had ceased to do business. Thus, it was held that 
 where a corporation, originally organized for the purpose of 
 owning and renting an office building, leased its property for 130 
 years, its sole authority under its charter thereafter being to 
 hold the title subject to the lease and to receive and distribute 
 the rentals which might accrue under the terms of the lease, or 
 the proceeds of any sale of the land should it be sold, it was not 
 engaged in business within the meaning of that law.*'' The 
 actual terms of the lease will assist in deciding a question of this 
 kind. In another case, it was held that a railroad corporation 
 which had leased its property for a term of years, and parted 
 with its control and management, maintaining, however, its cor- 
 porate organization, collecting rentals from the lessee, and dis- 
 tributing the same among its stockholders, was not engaged in 
 business. The mere receipt of interest and dividends from in- 
 vested funds, bank balances, and the like, and the distribution 
 among the stockholders of a corporation, amount to no more 
 than receiving the ordinary fruits that arise from the ownership 
 of property and do not constitute doing business. The mere 
 ownership of undeveloped coal or timber lands, without operat- 
 ing them, does not constitute doing business.*^ Where, however, 
 a corporation was organized to build and lease property, the fact 
 that it had leased all of its property and did nothing except col- 
 lect and distribute the rents, did not exempt it from the tax, 
 since such collection and distribution of rents from the leased 
 property was the business for which it was organized.*^ A com- 
 pany whose activities include something more than the mere 
 holding of property and the distribution of the receipts thereof 
 is "doing and engaging in business." ^^ These and other deci- 
 de Zonne V. Minneapolis Syndicate, 220 U. S. 187. 
 
 tiMcCoach V. Mine Hill & Schuylkill Haven R. R. Co., 228 U. S. 295; 
 West End Street Ry. Co. v. Malley, 246 Fed. 625. Reg. 50, Art. 19. 
 
 42 Rio Grande Junction Ry. Co. v. U. S., 51 Ct. Cls. 274. It will not be 
 found easy to reconcile this case with the case of U. S. v. Emery, 237 U. S. 
 28, where a corporation was organized for the very purpose of ovsnning and 
 leasing a specific piece of property and of receiving and distributing the 
 rents therefrom, yet was held not to be doing business. 
 
 43 Von Baumbach v. Sargent Land Co., 242 U. S. 503. The activities re- 
 ferred to in this case included selling and leasing property, selling stumpage, 
 making explorations, and employing another company to see that mining 
 operations were properly carried on and that the lessees lived up to their 
 engagements. 
 
1154 FEDERAL INCOME TAX 
 
 sions** will be followed by the treasury department where the 
 decisions are by the United States Supreme Court or, if by the 
 lower courts, have been acquiesced in by the department. 
 
 The treasury department has held the following corporations 
 to be doing business: (1) Corporations organized for the pur- 
 pose of and actually engaged in such activities as buying, selling, 
 or dealing in mineral or timber land, or other real estate ; leasing 
 property, collecting rents, managing office buildings, making 
 investments of profits; leasing lands and collecting royalties, 
 managing wharves, dividing profits ; and in some cases investing 
 the surplus; (2) A corporation organized for the purpose of, 
 and actually engaged in, buying mineral or timber land or other 
 real estate and holding it with a view to future sale at an ad- 
 vance; (3) A corporation organized for the purpose of owning 
 and leasing real estate which has leased all of the property under 
 its control under the terms of its lease, unless its activities have 
 been reduced to the mere receipt and distribution of the avails of 
 the leases at the actual cost of so doing. (If it is still maintaining 
 its organization for the purpose of continued effort in the pur- 
 suit of profit and gain it is doing business.) (4) A corporation 
 owning or managing real estate which leases all of its property 
 but under the terms of the lease is required to maintain or keep 
 the property in repair; (5) A corporation engaged in mining 
 or in developing and speculating in mineral lands; (6) A cor- 
 poration engaged in buying and selling securities or other prop- 
 erty even though for a period it makes no purchases or sales 
 because of unfavorable market conditions; (7) A corporation 
 formed to take over miscellaneous stocks, bonds or other prop- 
 erty (as of an estate) , to negotiate sales of various items from 
 time to time as opportunity and judgment dictate, and to dis- 
 tribute the profits from time to time as liquidation is effected, 
 
 44 Other cases arising under the 1909 Law are : Anderson v. Morris & 
 Essex R. R. Co., 216 Fed. 83; Cambria Steel Co. v. McCoach, 225 Fed. 278; 
 Jasper, etc., Ry. Co. v. Walker, 238 Fed. 533; Lewellyn v. Pittsburg, etc. 
 R. R. Co., 222 Fed. 177; McCoach v. Continental Passenger Ry. Co., 233 Fed. 
 976; Miller v. Snake River Valley R. R. Co., 223 Fed. 946; New York Cen- 
 tral V. Gill, 219 Fed. 184; New York Mail, etc., Co. v. Anderson, 234 Fed. 
 590; Philadelphia, etc., R. R. Co. v. Lederer, 242 Fed. 492; Philadelphia 
 Traction Co. v. McCoach, 224 Fed. 800 ; Public Service Electric Co. v. Herold 
 229 Fed. 902; Traction Companies v. Collector of Internal Rev., 223 Fed. 
 984; Wilkes-Barre, etc., Traction Co. v. Davis, 214 Fed. 511; Boston Ter- 
 minal Co. V. Gill, 246 Fed. 664; Old Colony R. Co. v. Gill, 257 Fed. 220; As- 
 sociated Pipe Line Co. v. U. S., 258 Fed. 800; State Line & S. R. Co. v. 
 Davis, 228 Fed. 246; Waterbury Co. v. Walsh, 228 Fed. 54; West Ry. Co. 
 v. Malley, 246 Fed. 625; Chemung Iron Co. v. Lynch, 269 Fed. 368; Flint 
 V. Stone-Tracy Co., 220 U. S. 107; U. S. v. Nipissing Mines Co., 206 Fed. 431. 
 
THE CAPITAL STOCK TAX 1155 
 
 while so engaged; (8) A parent corporation which finances 
 or manages the operations of its subsidiaries; (9) A so-called 
 holding company which, under its charter, is authorized to and 
 does, in addition to receiving and distributing the avails of the 
 property or securities, held by it, finance the operations of its 
 subsidiaries; (10) A corporation organized for the purpose of 
 taking over and holding securities, timber land, coal lands, or 
 other real estate, if it makes investments or reinvestments of 
 its surplus income or funds in excess of an amount necessary 
 to maintain its original investments.*^ 
 
 Not "Do'ing Business." Holding companies as distinguished 
 from parent corporations, and corporations all of whose prop- 
 erty and business is operated by, or is in the hands of, a receiver 
 or the alien property custodian, are. not doing business. A hold- 
 ing company is defined as one whose corporate powers are lim- 
 ited to the mere owning and holding of property and distribution 
 of its avails, or one which, although incorporated for the purpose 
 of doing business as defined in the preceding paragraph, has 
 substantially retired from the business for which it was organ- 
 ized and has reduced its activities to the mere ownership and 
 holding of property, distributing its avails, and doing only such 
 acts as are necessary to the maintenance of its corporate exist- 
 ence and the private management of its purely internal affairs. 
 A holding company, as above defined, will not be considered to 
 be doing business by reason of the reinvestment of its surplus 
 income or funds to the extent only of maintaining its original 
 investments. *s 
 
 Doing Business by Foreign Corporations. A foreign corpora- 
 tion is "carrying on or doing business" in the United States if it 
 maintains agents or an office or warehouse here, or in the case of 
 an insurance company writes insurance policies here or in any 
 other way enters the United States for the purpose of its busi- 
 ness. The purchase of supplies in the United States in the fur- 
 therance of continued efforts in the pursuit of profit or gain is 
 carrying on or doing business in the United States.*'' The mean- 
 
 *5 Reg. 50 Rev., Art. 11. The question of "doing business'' by a railroad 
 corporation under federal control is treated in Reg. 50 Rev., Arts. 20 and 
 21. See also T. D. 3156; also 1920 Edition, p. 730. 
 
 46 Reg. 50 Rev., Art. 12. See also Reg. 50 Rev., Art. 19. Reg. 38 Rev., 
 Art. 6. These regulations reversed the earlier holding of the treasury de- 
 partment and were probably based upon the case of Butterick Co. v. U. S., 
 240 Fed. 539. 
 
 *7 Reg. 50 Rev., Art. 17. 
 
1156 FEDERAL INCOME TAX 
 
 ing of the term in relation to foreign corporations has been 
 referred to in a previous paragraph.^^ 
 
 Exempt Corporations. The special excise tax is expressly- 
 made inapplicable to any corporation exempted for income tax 
 purposes.*^ As foreign corporations falling within the classes 
 enumerated as exempt in the income tax law (except in the case 
 of building and loan associations and co-operative banks) are 
 exempt for income tax purposes,5o they are also exempt from 
 this tax, if falling within such enumerated classes. All insur- 
 ance companies, except mutual companies, are exempt under the 
 present law.^i However, mutual hail, cyclone or fire insurance 
 companies, or like organizations of a purely local character, the 
 income of which consists solely of assessments, dues and fees 
 collected from members for the sole purpose of meeting expenses, 
 are also exempt.^^ But if a mutual insurance company derives 
 substantial income from investments of savings on premiums, 
 it is not exempt under the provisions of section 231 (10) because 
 in such a case its income does not consist "solely of assessments, 
 dues and fees."^^ A corporation paying this tax is not on that 
 account exempt from any occupational tax.^^ 
 
 Tax Due. This tax is an excise tax on the privilege of doing 
 business, similar to occupational taxes imposed on individuals. 
 Being a privilege or occupational tax, it is payable annually in 
 advance for each year beginning July 1. Special taxes, of which 
 this is one, become due on the first day of July in each year, or 
 on commencing any trade or business on which such tax is 
 imposed.55 The tax is payable to the collector at any time after 
 such due date, but penalties for non-payment do not attach until 
 ten days after notice and demand therefor have been served by 
 the collector upon the taxpayer.^^ 
 
 Returns. Returns are required to be filed on or before the 
 31st of "July of each year with the collector of the district in 
 which the principal place of business of the corporation is lo- 
 
 48 See pp. 1142 and 1147. 
 
 49 Revenue Act of 1912, § 1000 (b). 
 
 50 Letter from treasury department dated December 6, 1916 ; I. T. S. 1918, 
 1[ 1182 ; Reg. 38 Rev., Art. 12. This decision was of course under the 1916 
 Law, but there seems no reason for reaching a different conclusion under 
 this law. 
 
 51 Revenue Act of 1921, § 1000 (b). See pp. 1148 and 1150. 
 
 52 Revenue Act of 1921, § lOOO" (b) and 231 (10). 
 
 53 L. O. 1063, 19-21-1626. 
 
 54 Reg. 50 Rev., Art. 41. 
 
 55 Reg. 50 Rev., Art. 1. 
 
 5C See T. D. 2423 and Chapter 35 for ruling as to notice and demand. 
 
THE CAPITAL STOCK TAX 1157 
 
 cated.5'^ Forms will be sent to taxable corporations known to 
 collectors, but failure to receive a blank form will not relieve a 
 corporation from the penalties prescribed by law for failure to 
 make the return within the time required. All the information 
 called for in the forms must be given in every case where it is 
 procurable.ss 
 
 In What Cases Required. A return is required of every 
 domestic corporation engaged in business, regardless of the par 
 value, or the actual value, of its capital stock, unless such corpo- 
 ration was not engaged in business during the preceding taxable 
 year, in which case it proceeds as indicated in a paragraph 
 below.^^ 
 
 Extension of Time. If failure to file a return is due to sick- 
 ness or absence, the collector may allow such further time, not 
 exceeding 30 days, for making and filing the return as he deems 
 proper.^" There is no authority in the law for granting an ex- 
 tension for any reason beyond 30 days from July 31 and a cor- 
 poration with a fiscal year ending on June 30 will be obliged to 
 file its capital stock return on or before August 30, even though 
 it has not yet filed its income tax return. Such corporations 
 should complete their capital stock returns insofar as practicable 
 and file with them a statement that unavailable data will be 
 furnished in a supplemental report as soon as possible. This 
 procedure will obviate any assertion of penalties and any ques- 
 tion as to what constitutes a reasonable cause.®^ 
 
 Returns to Be Public Records. Returns filed pursuant to 
 the special excise tax law constitute public records, and are open 
 to inspection in all respects the same as income tax returns. ®2 
 
 Tentative Returns. If for reasons, other than absence or 
 sickness, beyond the control of the officers making the return, 
 
 57 Reg. 50 Rev., Art. 33; See R. S. 3173 as re-enacted by §1311 of the 
 Revenue Act of 1921. 
 
 58 Reg. 50 Rev., Art. 31. 
 
 59 Reg. 50, Art. 23 ; Reg. 38 Rev., Art. 18. If a corporation claims exemp- 
 tion on the ground that it is not doing business, it should complete the first 
 five lines of Form 707, attaching comprehensive explanation of such grounds. 
 (Telegram from treasury department dated July 25, 1919; W. T. S. 1919, 
 113127.) 
 
 60 Reg. 50 Rev., Art. 33. It was decided under the 1916 capital stock tax 
 law that the tax was not illegal because assessed and collected in advance 
 (Washington Water Power Co. v. U; S., decided by Court of Claims, Feb. 
 14, 1921, T. D. 3160). 
 
 61 Letter from treasury department dated July 11, 1919; W. T. S. 1919, 
 ITU 3121-3125. 
 
 62 Revenue Act of 1921, § 1000 (c) ; Reg. 50 Rev., Art. 30; See Chapter 34. 
 
1158 FEDERAL INCOME TAX 
 
 it becomes impossible to file a completed return within the time 
 prescribed by law, a tentative return may be filed, thus avoiding 
 penalty for failure to file within the prescribed time. The filing 
 of a tentative return will avoid the penalty for delinquent filing, 
 but does not authorize the withholding of the tax. The regulations 
 do not permit the filing of a tentative return to stay indefinitely 
 the filing of a completed return and the collection of the tax due ; 
 therefore, a tentative return clearly marked "Tentative return" 
 should be prepared in as complete a manner as possible, includ- 
 ing, among other information, a basis for the computation of the 
 tax — ^that is, an estimate by the officers of the corporation of the 
 approximate fair value of the capital stock in order that an 
 initial assessment may be made. When the completed return is 
 filed, it should be clearly marked "Completed return," showing 
 that a tentative return was filed. Such action will prevent dupli- 
 cate assessments and ordinary penalties. In every case a state- 
 ment should be attached to the tentative return, indicating the 
 approximate date the completed return may be expected. Upon 
 receipt of the completed return any adjustment necessary in the 
 assessment of the correct tax due will be made.^^ 
 
 Return by Corporation Claiming Exemption. Where the 
 officers of a corporation are of the opinion that it is exempt be- 
 cause of being an exempt organization under the income tax law, 
 or on account of not being engaged in business. Form 707 (Re- 
 vised) should be filled out and filed with the collector, together 
 with a comprehensive statement of the reasons for claiming 
 exemption. In such case the fair value should be reported on 
 page 1 of the form, but the tax not computed, notation "Exemp- 
 tion claimed" being made instead. If exemption has been al- 
 lowed for the preceding taxable year and there has been no 
 change in the status or conditions of the company then the first 
 14 lines of Form 707 (Revised) should be completed and a state- 
 ment attached to the effect that exemption is claimed for the 
 same reasons as for the previous year and that the same status 
 and conditions of the company exist for the taxable period in 
 question. In this way the records of the collectors' offices will 
 be complete and corporations will avoid requests for the filing 
 of returns and unnecessary correspondence. The determination 
 of liability rests in the first instance with the commissioner 
 and without complete information it is impossible to make a 
 decision.^* 
 
 63 Reg. 50 Rev., Arts. 33 and 34. 
 
 64 Reg. 50 Rev., Art. 28. 
 
THE CAPITAL STOCK TAX 1159 
 
 Return by Affiliated Corporation. Although under the 
 income tax law consolidated returns may be filed in the case of 
 affiliated corporations for the purpose of capital stock tax each 
 corporation m/ust render a separate return in complete form. 
 So-called subsidiary corporations, all or a part of the stock of 
 which is owned by another corporation, must render separate 
 returns, the same as every other corporation.. No deductions 
 from the assets are permitted on account of inter-company bal- 
 ances, and the shareholdings must be reported in the "Fair 
 value" column at their actual worth at the time of making the 
 return. No deduction is allowed in the return of one corpora- 
 tion for the tax paid by another. If the fair value is determined 
 by any method other than by Exhibits A, B and C, the following 
 requirements must be complied with : (a) The parent company 
 must submit with its return a list of all subsidiaries and the 
 districts in which the returns were filed; (b) the return of the 
 subsidiary company must show the name of the parent company 
 and the district in which the return was filed; (c) the method 
 of determining the fair value, if other than by Exhibits A, B 
 and C, must be fully explained; (d) a copy of 'any agreement 
 existing between parent company and subsidiary must be fur- 
 nished, or a statement made that none exists; and (e) a com- 
 bined balance sheet and a combined net income statement must 
 be submitted for consideration in connection with any estimate 
 of fair value made on behalf of the reporting corporation. ^^ 
 
 Returns of Affiliated Corporations Based upon Consoli- 
 dated Report. In many cases, as for instance, in the case of 
 selling agencies separate corporations are formed in order prop- 
 erly to handle certain business under various state laws and in 
 reality are branches or departments of the parent corporation. 
 The business is controlled by the parent corporation and the 
 result of operations is a matter of bookkeeping. The capital stock 
 tax being imposed upon the fair value of the capital stock of cor- 
 porations, it makes little difference by what method such fair 
 value is determined. Therefore, if the fair value of the capital 
 stock of affiliated corporations cannot be determined independ- 
 ently and such corporations are best able to determine the fair 
 value of the respective companies through a consolidated report, 
 such privilege is permitted by the department, but it seems pref- 
 erable to leave this to the corporations interested subject to ap- 
 proval by the commissioner rather than attempt to outline a spe- 
 
 65 Reg. 50 Eev., Art. 35. 
 
1160 FEDERAL INCOME TAX 
 
 cific method that would apply to all. Under all circumstances, 
 however, separate returns are required of all affiliated corpora- 
 tions, regardless of the basis used in arriving at fair value.^^ 
 
 Returns by Foreign Corporations. A return is required of every 
 foreign corporation engaged in business in the United States, 
 irrespective of the amount of capital employed in this country in 
 the transaction of its business. The capital actually employed in 
 the transaction of the business of the foreign corporation in the 
 United States and the tax payable thereon should be calculated 
 in accordance with the instructions on the form (Form 708) .^^ 
 
 Payment of the Tax. All assessments are made by the com- 
 missioner. The collector, within ten days after receiving any list 
 of taxes from the commissioner, gives notice to each corporation 
 liable to pay any tax stated therein, to be left at its place of busi- 
 ness or to be sent by mail, stating the amount of such tax and de- 
 manding payment thereof. All taxes are payable directly to the 
 collector who has no authority to extend time for the payment of 
 the tax. The collector may accept payment of the tax when the 
 return is filed as an "advance collection," subject to any adjust- 
 ment later found necessary, but no corporation is required to pay 
 the tax until within ten days after notice and demand. The tax 
 due from a corporation is legally collectible from the stockholder 
 or others who have received its assets on liquidation.ss 
 
 Penalties. Any corporation carrying on business without 
 having paid the tax therein provided is subject to a penalty of 
 not more than $1,000, besides being liable for the payment of 
 such tax.^9 
 
 Administration of the Law. All administrative or special pro- 
 visions of the internal revenue laws including the laws relating to 
 the assessment of taxes, so far as applicable, are extended to and 
 made a part of the Revenue Act of 1921 (including the Special 
 
 66 Letter from treasury department dated June 2, 1919; W. T. S. 1919, 
 Ti 3120 ; letter from treasury department dated November 11, 1919 ; W. T. S. 
 1919, 113129. 
 
 6T Reg. 50 Rev., Art. 32. 
 
 68 Reg. 50 Rev., Art. 36. For the proyisions relating to payment by 
 uncertified checks and the procedure with respect to dishonored checks, see 
 Chapter 35 and Reg. 50 Rev., Arts. 39 and 40. 
 
 69 Revenue Act of 1921, §1004; Reg. 50 Rev., Art. 41. As to penalties 
 for failure to make returns, for making false returns, and for delay in pay- 
 ing the tax, see § 1302 of the Revenue Act of 1921, and R. S. 3176 (as 
 re-enacted by §1311 of the Revenue Act of 1921), a discussion of which 
 sections will be found in Chapter 36. See also Reg. 50 Rev., Arts. 42 and 43. 
 
THE CAPITAL STOCK TAX 1161 
 
 .Excise Tax) and every corporation liable to the tax considered in 
 this chapter is required to keep such records and render, under 
 oath, such statements and returns, and comply with such regu- 
 lations as the commissioner may prescribe.™ 
 
 70 Revenue Act of 1921, § 1300. Title XIII of the Revenue Act of 1921 
 contains general administrative provisions, most of which apply to the capi- 
 tal stock tax as well as to the income and other taxes. This is true, for 
 example, of § 1303 giving the commissioner general power to make necessary 
 regulations, §§ 1308 and 1309 dealing with examination of books and wit- 
 nesses ; § 1310 respecting jurisdiction of courts ; § 1315 dealing with refunds, 
 etc. Inasmuch as reference to these sections will be found in other parts of 
 this volume, no special discussion of them is included at this place. 
 
CHAPTER 45 
 
 THE STAMP TAX 
 
 The present stamp tax is imposed under Title XI of the Rev- 
 enue Act of 1921, the date of incidence of which, that is, the 
 first day on which the tax applied, was January 1, 1922. This 
 title is practically a re-enactment of Title XI of the Revenue Act 
 of 1918 (referred to in this chapter as the "former" or 1918 
 Law) , except that the tax no longer applies to bonds of indemnity 
 and surety, or to parcel-post packages. Various other changes 
 of less importance will be noted in the paragraphs of this chap- 
 ter to which they are applicable. The taxes imposed by the 
 Revenue Act of 1921 are, in the case of any article upon which 
 a corresponding stamp tax was hitherto imposed by law, in lieu 
 of such tax.i Title XI of the Revenue Act of 1918 became 
 effective on April 1, 1919,2 and was to some extent a re-enact- 
 ment of the War Stamp Tax Act of 1917 (Title VIII of the Act 
 of October 3, 1917, referred to in this chapter as the 1917 Law), 
 but the two acts differ in certain respects.^ The Revenue Act of 
 1918, like the 1917 Law, did not contain Schedule B of the Aci 
 of October 22, 1914 (referred to in this chapter as the 1914 
 Law), which provided for a tax on perfumery, cosmetics and 
 similar articles and chewing-gum or substitutes therefor. The 
 1914 Law was preceded by the Act of June 13, 1898 (referred 
 to in this chapter as the 1898 Law) .* 
 
 General Scope of Present Law. The present law taxes the fol- 
 lowing subjects: Bonds of indebtedness, the original issue of 
 certificates of stock or of profits or interest in property or accu- 
 mulations of corporations, the sale or transfer of shares or 
 certificates of stock or of profits or of interest in property or 
 accumulations in corporations, sales of produce on exchange, 
 drafts or checks (payable otherwise than at sight or on demand) , 
 promissory notes, conveyances, entries of goods at custom house, 
 entry for withdrawal of goods from custom bonded warehouse, 
 
 1 Revenue Act of 1921, § 1100. 
 
 2 Revenue Act of 1918, § 1100. 
 
 3 The 1917 Law went into effect on December 1, 1917, except as to the tax 
 on playing cards which became effective on October 4, 1917. 
 
 4 Other Stamp Tax Acts will likewise be referred to in this chapter for 
 the sake of brevity by the years of their respective enactments. For an 
 historical discussion of stamp tax legislation in the United States, see 
 Edwards v. Wabash Ry. Co., 264 Fed. 610. 
 
 1162 
 
THE STAMP TAX 1163 
 
 passage tickets on vessels to foreign countries (except Canada 
 or Mexico), proxies, powers of attorney, playing cards and cer- 
 tain insurance policies.^ The several subjects appear below in 
 alphabetical order, together with the rates applicable to each 
 and rulings with respect to each. This list includes a number 
 of instruments not taxable under the present law to which refer- 
 ence is made for the convenience of the reader who may be 
 searching for positive assurance that a particular instrument 
 need not be stamped. 
 
 General Exemptions. The following are not subject to stamp 
 tax : (a) bonds, notes, or other instruments issued by the United 
 States, or by any foreign government, or by any State, Territory, 
 or the District of Columbia, or local subdivision thereof, or 
 municipal or other corporation exerdsing the taxing power; (b) 
 bonds of indemnity required to be filed by any person to secure 
 payment of any pension, allowance, allotment, relief, or insur- 
 ance by the United States, or to secure a duplicate for, or the 
 payment of, any bond, note, certificate of indebtedness, war- 
 savings certificate, warrant or check, issued by the United 
 States ;® (c) stocks and bonds issued by co-operative building and 
 loan associations which are organized and operated exclusively 
 for the benefit of their members and make loans only to their 
 shareholders, or by mutual ditch or irrigation companies.'^ Spe- 
 cial exemptions applying to various instruments specified in the 
 law are referred to in the paragraphs dealing with such 
 instruments. 
 
 Stamps. Stamps are kept on sale by collectors, and stamp 
 deputy collectors of internal revenue and postmasters in the 
 United States,^ and are also on sale at United States depositaries.^ 
 Stamps issued under the 1914 and 1917 Laws were permitted to 
 be used in paying stamp taxes pursuant to the Eevenue Act of 
 1918.1** Documentary Stamps only must be used upon papers, 
 documents and instruments subject to tax except as provided in 
 the regulations relating to stamp taxes on issue and transfers of 
 stock and sales of products for future delivery .^i Ordinary post- 
 
 5 Revenue Act of 1921, Title XI, Schedule A. 
 
 6 Revenue Act of 1921, § 1101. Since bonds of indemnity and surety are 
 no longer subject to stamp tax, paragraph (b) of the text above now seems 
 superfluous. 
 
 7 Revenue Act of 1921, § 1101. 
 
 8 Revenue Act of 1921, § 1106; Reg. 55 Rev., Arts. 176-7. 
 
 9 Revenue Act of 1921, § 1107; Reg. 55 Rev., Art 177. 
 
 10 Reg. 55 Rev., Art. 182. 
 
 11 Reg. 65 Rev., Art. 181. 
 
1164 FEDERAL INCOME TAX 
 
 age stamps cannot be used for the payment of any internal 
 revenue taxes.^^ Where documentary stamps are rendered useless 
 by gumming or sticking together in transit or otherwise without 
 the fault of the purchaser, they may be exchanged by a collector 
 for other stamps of exactly the same quantity and denomi- 
 nation.13 
 
 Where Stamps Are Affixed. As a rule, stamps are affixed to 
 the taxable document or instrument, but in some instances a dif- 
 ferent rule prevails, as will appear in the following paragraphs. 
 Stamps to be affixed to articles manufactured in a foreign coun- 
 try and imported into the United States may be purchased and 
 forwarded to the place of manufacture and there affixed to the 
 articles before the same are packed for importation.^* 
 
 Who Affixes Stamps. Sit is contemplated that stamps shall 
 be affixed by the person issuing the document or instrument. 
 Thus, the maker of a promissory note is primarily obliged to 
 affix the proper stamp thereto, and likewise, the obligor should 
 affix the proper stamp to a bond. However, it is secondarily the 
 duty of a person accepting or receiving any such document or 
 instrument to affix a stamp thereto and he is subject to penalty 
 if he does not do so.^^ It has been held that it makes no differ- 
 ence who affixes the stamp, as long as a stamp of the proper de- 
 nomination is affixed to the instrument. Both parties to a 
 taxable instrument are responsible to the Government for affix- 
 ing and cancelling stamps in the required amount. The law does 
 not prohibit parties in interest from entering into an agreement 
 as to which of them shall actually pay same.^^ 
 
 Cancellation of Stamps. Stamps are cancelled by the per- 
 son using or affixing the stamp, by writing or stamping thereon 
 or causing to be written or stamped thereon in ink his initials 
 and the day, month, and year on which the stamp is used or 
 affixed, or by cutting, and cancelling the stamp with a machine or 
 punch which will affix the initials and date as aforesaid and so 
 deface the stamp as to render it unfit for reuse. In addition, 
 stamps of the value of 10 cents or more are required to be can- 
 celled by three parallel incisions made by some sharp instrument 
 lengthwise through the stamp after the stamp has been attached 
 to the instrument, except that this is not required where stamps 
 are cancelled by perforation. The cancellation by either method 
 
 12 Reg. 55 Rev., Art. 183. 
 
 13 Reg. 55 Rev., Art. 184. 
 1* Reg. 55 Rev., Art. 178. 
 
 15 Revenue Act of 1921, § 1102 (a). 
 
 16 Reg. 55 Rev., Art 171. 
 
THE STAMP TAX 1165 
 
 should not so deface the stamp as to prevent its denomination 
 and genuineness from being readily determined." The perforat- 
 ing machine may also imprint the initials and date or outline the 
 same in small perforations, thus effecting complete cancellation, 
 or the initials and date may be written on the stamp, and several 
 perforations, sufficient to prevent washing and resale of the 
 stamp may be made with an ordinary hand punch before fixing 
 the stamp to the document.^s Where the initials of a person, 
 firm or corporation have been perforated on the stamps before 
 being used it is sufficient when the stamps are actually attached 
 to the document to stamp the same with the full initials and date. 
 Where the initials of a firm or company have been stamped or 
 written on a stamp it is not required that the individual employee 
 affixing the stamp shall also place his own initials thereon.^^ It 
 has been held that stamps on promissory notes were properly 
 cancelled when they were so used and defaced that they could 
 never be legally used again.^o It has also been held that the 
 failure to write the initials of the payee's name on a promissory 
 note, when he was affixing a stamp and cancelling the same in 
 the presence of the court before offering the note in evidence, 
 did not affect its sufficiency .21 In a case decided in 1865,^2 it was 
 held that when a bond was executed by two obligors, it was suffi- 
 cient if the stamp was attached and cancelled by one of them. 
 A stamp affixed to an instrument and cancelled can not lawfully 
 be removed therefrom and affixed to another instrument requir- 
 ing a stamp. Amounts paid for stamps used in excess, or on 
 instruments not actually effective and for which a substitute is 
 prepared and stamped, or on instruments not subject to tax, may 
 be refunded, upon claim properly presented to the collector.^s 
 
 17 Revenue Act of 1921, § 1104; Reg. 55 Rev., Arts. 179, 180. 
 
 18 T. D. 2098. 
 
 19 Letter from treasury department dated December 9, 1914. 
 
 20 Taylor v. Duncan, 33 Tex. (1870) 440. 
 
 21 Foster v. Holley's Adm'rs, 49 Ala. (1873) 593. The court in this case 
 does not decide the question whether an improperly stamped note could be 
 excluded from evidence in the state courts. 
 
 22 Teagarden v. Garver, 24 Ind. 399. In this case, the court says : "The 
 object of the Act of Congress is to raise revenue, and the stamps are required 
 to be cancelled to prevent their use a second time. This was fully accom- 
 plished by one of the obligors cancelling it, as required by the Act of Con- 
 gress.'' The court referred to the doubtful character of the power of the 
 federal government to make a rule excluding improperly stamped instru- 
 ments from evidence in the state courts, and the court's opinion indicates 
 that this doubt was a factor in its decision. See p. 1242. 
 
 23 Reg. 55 Rev., Art. 170. 
 
1166 FEDERAL INCOME TAX 
 
 Bonds of Indebtedness. Bonds, debentures or certificates of 
 indebtedness, however termed, issued on and after April 1, 1919, 
 by any person,^* are taxable at the rate of 5 cents on each $100 
 of face value or fraction thereof .^s 
 
 Where Stamps Are Affixed. The necessary revenue stamps 
 may be affixed either to the bonds or to the indenture under 
 which the bonds are issued. If the stamps are affixed to the 
 indenture, the bonds must bear a legend showing that the proper 
 revenue stamps have been aflSxed to the indenture and duly can- 
 celled. If the indenture provides for the issue of bonds over a 
 period of years, the necessary stamps may be affixed at the time 
 of each issue.^^ If temporary bonds or interim certificates are 
 first issued, to be later exchanged for permanent or definitive 
 bonds, the stamps may be affixed to the indenture, in which case 
 a statement that the stamps were affixed to the indenture must be 
 printed or engraved on each bond.^^ No additional tax is re- 
 quired on the definitive or permanent bonds which, however, 
 should bear notation of the fact that stamps in the proper amount 
 were duly attached to the indenture or the interim certificates.^^ 
 
 It has been held that no stamp tax is due on the issue of 
 definitive bonds after the incidence of the stamp tax where 
 temporary bonds evidencing the loan receivable in two install- 
 ments were issued and delivered before the incidence of the tax 
 to the trustee pending payment of the two installments, receipts 
 being given to individual creditors on payment of the first in- 
 stallment, the second installment being paid after the incidence 
 of the tax.29 
 
 Definitions. Under the 1914 Law the tax was imposed only 
 on bonds issued by corporations or associations. It is to be 
 noted that the present act imposes the tax on bonds issued by 
 persons which teirm includes corporations and partnerships as 
 well as individuals.^" There is no clear distinction between 
 bonds of indebtedness and promissory notes, and it is sometimes 
 difficult to determine whether an instrument should be taxed 
 under the higher rate applying to bonds of indebtedness or the 
 lower rate applying to promissory notes. An instrument which 
 
 24 The term person includes partnerships and corporations as well as in- 
 dividuals. (Revenue Act of 1921, § 2) . 
 
 25 Revenue Act of 1921, Title XI, Schedule A-1. 
 
 26 Reg. 55 Rev., Art 6 ; letter from treasury department dated May 24, 
 1919; W. T. S. 1919, §3777. 
 
 27 Reg. 55 Rev., Art. 7. 
 
 28 T. D. 2164; T. D. 2220. 
 
 29 Edwards v. Chile Copper Company, 273 Fed. 452. 
 
 30 Revenue Act of 1921, Title XI, Schedule A-1. 
 
THE STAMP TAX 1167 
 
 is styled a "bond" and which is under seal will be held subject to 
 tax as a bond unless it is shown affirmatively that it is not a bond.^i 
 If the instrument is called a note, but contains features not usual 
 in or recognized as appertaining to the promissory note gener- 
 ally known to commerce, it is held in department practice to be 
 taxable as a bond. Thus, under the 1914 Law it was held that 
 an instrument designated as a "gold note" issued in the amount 
 of $1,000, with interest coupons attached, and containing a prom- 
 ise by a corporation to pay a certain sum of money to the holder 
 thereof under certain terms and conditions prescribed by the 
 indenture of trust, was more in the nature of a bond or certificate 
 of indebtedness than a promissory note and was, therefore, held 
 taxable as a bond.^^ instruments containing the essential fea- 
 tures of a promissory note, but issued by corporations in series 
 under a trust indenture, either in registered form or with 
 coupons attached, embodying provisions for acceleration of ma- 
 turity in the event of any default by the obligor, for optional 
 registration in the case of bearer bonds, for authentication by the 
 trustee, and sometimes for redemption before maturity, or simi- 
 lar provisions, are held to be bonds within the meaning of the 
 statute, whether called bonds, debentures or hotes.^^ The tax 
 applies to bonds of indebtedness executed by the obligor and 
 delivered to a bank or trust company as security for the payment 
 of an obligation.^* Bonds issued by life insurance companies in 
 satisfaction of insurance policies are subject to tax.^s 
 
 Bonds Given in a Penal Sum. An instrument under seal 
 conditioned in a penal amount for the payment of a sum of 
 money, such as often accompanies mortgages, is a bond for stamp 
 tax purposes.^^ When a bond conditioned for the repayment or 
 payment of money is given in a penal sum gre9,ter than the debt 
 secured, the tax is based upon the amount secured and not upon 
 the amount of the bond.^^ 
 
 Business Property Investment Bonds. Certificates com- 
 monly known as business property investment bonds are not 
 subject to tax as bonds, debentures, or certificates of indebted- 
 ness, but are taxable as certificates of interest in property.^^ 
 
 31 Reg. 55 Rev., Art. 10. 
 
 32 T. D. 2257. See definition under Promissory Notes, p. 1213. 
 
 33 Reg. 55 Rev., Art. 8; T. D. 2713. 
 
 34 Reg. 55 Rev., Art. 16. 
 
 35 Reg. 55 Rev., Art. 18. 
 
 36 Reg. 55 Rev., Art 3 ; T. D. 2713. 
 
 37 Revenue Act of 1921, Title XI, Schedule A-1. 
 
 38 Reg. 55 Rev., Art. 11. See pp. 1175. and 1189. 
 
1168 FEDERAL INCOME TAX 
 
 Exempt Bonds. An instrument which merely represents the 
 assignment of interest in a bond accompanying a mortgage is not 
 taxable.38 Bonds issued by school districts for school purposes 
 are exempt from tax.*" Certificates of deposit issued by banks 
 and trust companies are held not to be taxable.*^ 
 
 Issue of Bonds. Delivery is essential to constitute an issue 
 of bonds.*2 It seems generally that the delivery of the bond 
 establishes the date of issue. Thus, it v^^as held under the 1914 
 Law that bonds certified and delivered by a trustee after the 
 incidence of the tax were taxable although subscribed and paid 
 prior thereto. Under the 1898 Law it seems to have been held 
 that a bond was issued when delivery was made and the corpora- 
 tion received a benefit or a consideration therefor.*^ The date 
 of renewal would be the date of issue for the purpose of the tax 
 on a renewal of bonds.** Bonds issued by a domestic corporation 
 in this country for sale to purchasers in a foreign country have 
 been held to be issued here for the purpose of the tax, but bonds 
 issued and sold by a domestic corporation in a foreign country 
 have not been required to be stamped on the ground that the 
 Government had no means of enforcing the statute in such case.*^ 
 It has been ruled that bonds executed by a foreign corporation in 
 a foreign country, certified to by a trustee in the United States, 
 given for part of the purchase price of timber located in the 
 foreign country, and delivered in the United States are subject 
 to tax.*6 
 
 Transfer of Bonds. No tax is imposed upon the transfer of 
 bonds, debentures or certificates of indebtedness from one holder 
 to another. 
 
 Renewal of Bonds. Every renewal of a bond, debenture or 
 certificate of indebtedness is taxed as a new issue.*'' A renewal 
 after April 1, 1919, of an instrument, issued prior thereto, will 
 
 39 Reg. 55 Rev., Art. 12. 
 
 io Reg. 55 Rev., Art. 19. 
 
 *l Reg. 55 Art. 13; T. D. 2054; letter from treasury department dated 
 November 16, 1917; W. T. S. 1919, H 3550. Such certificates were not taxed 
 under the 1914 Law. See p. 1189. 
 
 42 Reg. 55 Rev., Art. 1. 
 
 ♦3 Volume 1, Treasury Decisions. No. 20156. 
 
 44 Every renewal is taxed as a new issue. Revenue Act of 1921, Title XI, 
 Schedule A-1. 
 
 45 Letter from treasury department dated May 15, 1915. 
 
 46 Reg. 55 Rev., Art. 17. 
 
 47 Revenue Act of 1921, Titfe XI, Schedule A-1. 
 
THE STAMP TAX 1169 
 
 require the necessary revenue stamps.*^ An agreement extend- 
 ing a mortgage upon maturity, where a bond is secured by the 
 mortgage and such agreement operates to renew the bond, sub- 
 jects the latter to stamp tax as a renewal.*^ An agreement be- 
 tween the holder of a bond and the present owner of a parcel of 
 real estate, extending maturity of a mortgage bond executed by 
 a former owner, operates as a renewal, and such renewal is 
 subject to tax. If in addition a new bond is given for the same 
 indebtedness, it also is subject to tax.^o 
 
 Bonds of Indemnity and Surety. Bonds of indemnity and 
 surety are not subject to stamp tax under the Revenue Act of 
 1921. For a discussion of the taxation of such bonds under the 
 1918 Law the reader is referred to the 1920 edition of this book. 
 
 The following is the provision of the 1918 Law^^ taxing such 
 bonds : 
 
 Bonds, indemnity and surety: On all bonds executed for in- 
 demnifying any person who shall have become bound or engaged 
 as surety, and on all bonds executed for the due execution or 
 performance of any contract, obligation, or requirement, or the 
 duties of any office or position, and to account for money received 
 by virtue thereof, and on all policies of guaranty and fidelity in- 
 surance, including policies guaranteeing titles to real estate and 
 mortgage guarantee policies, and on all other bonds of any de- 
 scription, made, issued, or executed, not otherwise provided for 
 in this schedule, except such as may be required in legal proceed- 
 ings, 50 cents : Provided, That where a premium is charged for 
 the issuance, execution, renewal or continuance of such bond the 
 tax shall be 1 cent on each dollar or fractional part thereof the 
 premium charged: Provided further, That policies of reinsur- 
 ance shall be exempt from the tax imposed by this subdivision. 
 
 Building and Loan Associations. Stocks and bonds issvjjed by 
 co-operative building and loan associations which are organized 
 and operated exclusively for the benefit of their members and 
 make loans only to their shareholders, are not subject to the 
 tax.s2 This provision of the law seems to exempt stock of such 
 associations from the tax on original issue and also from the tax 
 
 *8 Reg. 65 Rev., Art. 2 ; Letter from treasury department dated December- 
 11, 1917; W. T. S. 1919, H 8548. 
 
 49 Reg. 55 Rev., Art. 4. See Appeal of C. Bolte, 18 Haw. 241 ; In re. 0. R. & 
 L. Co., 19 Haw. 544. 
 
 50 Reg. 55 Rev., Art. 5. 
 
 51 Revenue Act of 1918, Title XI, Schedule A-2. 
 
 52 Revenue Act of 1921, § 1101 ; Reg. 40 Rev., Art. 5. 
 
1170 FEDERAL INCOME TAX 
 
 on sales or transfers. Any instruments other than certificates 
 of stock and bonds are not exempt.s^ 
 
 Bonds Given by United States, Foreign Governments and 
 Political Subdivisions. All bonds given by the United States, 
 or by any Foreign Government, or by any state, territory, or the 
 District of Columbia, or local subdivision thereof, or municipal 
 or other corporation exercising the taxing power are exempt 
 from taxation.5* 
 
 Capital Stock, Issue. Although the heading of this paragraph 
 is that used in the statute, the language of the law is that the tax 
 shall be imposed "on each original issue, whether on organization 
 or reorganization, of certificates of stock, or of profits, or of 
 interest in property or accumulations, by any corporation." The 
 rate is 5 cents on each $100 of face value or fraction thereof 
 except where the certificate is issued without face value, in which 
 case the tax is 5 cents per share unless the actual value is in 
 excess of $100 per share, in which case the tax is 5 cents on each 
 $100 of actual value or fraction thereof, or unless the actual value 
 is less than $100 per share, in which case the tax is 1 cent on 
 each $20 of actual value, or fraction thereof .^s The stamps rep- 
 resenting this tax must be ordinary documentary stamps and are 
 required by the law to be attached to the stock books and not to 
 the certificates where issued.^^ Where the blank stock certifi- 
 cates are not kept in a stock certificate book the stamps should 
 be affixed to the books of record in which the issue of stock is 
 recorded.5'^ 
 
 Contract to Issue Stock. It has been held by the Treasury 
 Department that no stamps are required to be affixed to a con- 
 tract or agreement by a corporation to issue stock.^^ Under a 
 later ruling, however, stock is deemed to be issued when it is 
 subscribed for and the subscription is accepted by the corpora- 
 tion regardless of the time of delivery of the certificate.^^ It is 
 
 53 Under the 1914 Law it was held that notes given to or by such associa- 
 tions were taxable (T. D. 2112). 
 
 54 Revenue Act of 1921, § 1101. See T. D. 2072. 
 
 55 Under the 1918 Law, where certificates were issued without face value 
 the tax was 5 cents per share, unless the actual value was in excess of $100 
 in which case they were taxed as under the present law (Revenue Act of 
 
 1918, Title XI, Schedule A-3). 
 
 56 Revenue Act of 1921, Title XI, Schedule A-4; Reg. 40 Rev., Arts. 2, 3, 
 7, 8, 37. 
 
 57 Letter from treasury department dated November 20, 1917; W. T. S. 
 
 1919, H 3589. 
 
 58 T. D. 2599. 
 
 59 Reg. 40 Rev., Arts. 1, 33; Letter from treasury department dated March 
 25, 1920; W. T. S. 1921, TI3614. 
 
THE STAMP TAX 1171 
 
 to be noted that the statute fixes a tax upon the issue of certifi- 
 cates of stock, etc., and the later ruling of the Treasury Depart- 
 ment indicated above seems to be an unwarranted construction 
 of the act.™ It has been held that the "issue" of stock generally 
 means the issue of the certificates.*^! But the word "issued" has 
 been held in other connections to have no technical meaning, and 
 stock has been held to be "issued" even though no certificates 
 therefor have been made out or delivered.®^ 
 
 Original Issue. The tax on the issue of capital stock is laid 
 upon an excise or privilege of the corporation employed for its 
 benefit.^^ The tax is laid upon the stock which a company origi- 
 nally issued and not upon certificates creating no addition to the 
 total stock liability of the company. Where stock is issued with 
 the right of conversion, and upon the exercise of this right stock 
 of a different kind is issued to the stockholder so that in a sense 
 the capitalization of the company is reclassified, no benefit ac- 
 crues to the company and the transaction constitutes essentially 
 nothing but an adjustment among the existing stockholders of 
 rights which always attached to the original stock issue by virtue 
 of the privileges of the charter of the corporation. 
 
 The issue by a corporation of certificates of preferred stock in 
 lieu of outstanding certificates of common stock, or vice versa, or 
 the issue of certificates of preferred stock of one kind in lieu of 
 certificates of preferred stock of another kind, without other 
 consideration and without change in the amount of the author- 
 ized capital stock of the corporation, is not subject to tax.^* In 
 
 60 See Malley v. Bowditch, 259 Fed. 809, in which the court says in sus- 
 taining the constitutionality of the 1914 Law that "the stamp tax is con- 
 tingent upon the original issue of a certificate of stock, just as a stamp tax 
 on checks is contingent upon the issuing of checks." See also Edwards v. 
 Wabash Ry. Co., 264 Fed. 610. 
 
 61 Edwards v. Wabash Ry. Co.,, 264 Fed. 610. 
 
 62 Flour City Nat. Bank v. Shire, 88 (N. Y.) App. Div. 401, 84 N. Y, 
 Supp. 810, affirmed 179 N. Y. 587, 72 N. E. 1141; Amer. Pig Iron Co. 
 V. State Board, 56 N, J. L. 389, 29 Atl. 160. In the latter case the court 
 said: "The word 'issued,' as used in this connection, has no technical mean- 
 ing. 'To issue,' as defined by lexicographers, signifies to send out; to put 
 in circulation. In a popular sense, a corporation engaged in organization 
 is said to issue stock when It obtains subscriptions for it, and in the construc- 
 tion of tax laws words are to be interpreted in their popular sense." 
 
 63 It has been stated that the 1914 stamp tax law is not a franchise tax or 
 a corporation tax, but a stamp tax or document tax. (Malley v. Bowditch, 
 259 Fed. 809, approved in Edwards v. Wabash Ry. Co., 264 Fed. 610.) 
 
 64 Reg. 40 Rev., Art. 5, as amended by T. D. 3118. 
 
1172 FEDERAL INCOME TAX 
 
 other words, upon any reorganization,^^ only an original issue 
 creating a new and further stock liability is subject to the stamp 
 tax upon the issue of capital stock. The tax is designed to 
 apply to the privilege of issuing stock in return for property 
 against which the stock is first put out as an equivalent, and not 
 to apply to subsequent issues based upon mere conversions, sub- 
 divisions, or re-classifications of the original total.*'^ 
 
 A corporation had an original authorized capital stock of 
 $7,000,000 divided as follows : First preferred stock of $1,000,- 
 000, second preferred stock of $1,500,000 and common stock, 
 
 65 The term "reorganization" includes those business arrangements where- 
 by the stock and bonds of a corporation are readjustment as to amount, in- 
 come, or priority, or the property is sold to a new corporation for new stock 
 and bonds, or is sold by the foreclosure of a mortgage upon it to a purchaser 
 who buys for himself and his associates, and tl\e various proceedings and 
 transactions by which a succession of corporations is brought about, and also 
 the proceedings by which existing corporations are continued under a differ- 
 ent organization without the creation of a new corporation. (Reg. 40 Rev., 
 Art. 33, as amended by T. D. 3118; See also Sol. Op. 71; W. T. S. 1921, 
 1[4114.) 
 
 6fi Reg. 40 Rev., Arts. 4 and 5 ; Wabash Railroad Co. v. Edwards, 264 
 Fed. 610. The decision in this case was based upon the 1917 Law and over- 
 ruled T. D. 2752 dated August 20, 1918, by which it was held that the tax 
 applied in the cases stated in the text above, and also that it applied to the 
 issue of preferred and common stock whether or not exchanged for old 
 stock upon a reorganization of a corporation, under § 24 of the New York 
 Stock Corporation Law for the purpose of issuing stock without par value. 
 The decision would not seem to affect that part of T. D. 2752 or that part of 
 Reg. 40 Rev., Art. 4, which ruled that the tax applied to the issue of stock 
 of either corporation in addition to its already existing stock upon a merger 
 of trust companies under §§ 487 to 496 of the New York Banking Law, and 
 to the new issue of stock by a consolidated corporation in exchange for stock 
 of the consolidating corporations. The broad statement in Reg. 40 Rev., 
 Art. 4, that the issue of certificates of stock upon reorganization by a cor- 
 poration is subject to tax, is modified by this decision. The court found its 
 decision largely upon the statutory rule of construction that a taxable 
 statute is to be strictly construed against the government and in favor of 
 the taxpayer. (See p. 1268.) And upon the further consideration that the 
 1917 Law was a re-enactment of a statute which had received a settled ad- 
 ministrative construction by virtue of T. D. 20694, dated February 7, 1899, 
 issued under the Spanish War Revenue Act of June 13, 1898, followed for 
 many years until the enactment of T. D. 2752. In its opinion the court said: 
 "And ths tax is laid, not on each stock certificate that is issued, but on each 
 original issue of certificates. The language is used to indicate the first issu- 
 ance of the stock, and this is emphasized by the use of the words, in the 
 same connection 'whether on organization or reorganization.' When a corpo- 
 ration issued for the first time a certificate of the stock, that certificate is 
 an original issue. The tax is placed on the original issue. The word 'orig- 
 inal' is defined by Webster as 'pertaining to the origin or beginning; pre- 
 ceding all; first in order.' " 
 
THE STAMP TAX 1173 
 
 $4,500,000. In March, 1920, the charter was amended to reduce 
 the authorized capital stock of $5,250,000, divided as follows: 
 Preferred stock, $1,500,000 ; common stock, $3,750,000, and new 
 certificates were prepared showing the change in capitalization. 
 At this time all of the first preferred stock had been retired, 
 and there was outstanding of the original issue $4,500,000, made 
 up as follows: Second preferred stock, $1,500,000; common 
 stock, $3,000,000. The outstanding second preferred stock was 
 non-cumulative and bore 6 per cent, interest and had a par value 
 of $50 per share. The outstanding common stock also had a par 
 value of $50 per share. The new preferred stock was 8 per cent, 
 cumulative stock and had a par value of $100 per share, and the 
 new common stock was of a par value of $100 per share. The 
 new preferred stock was exchanged for the outstanding second 
 preferred stock at the ratio of 1 share for 2, and the new com- 
 mon stock was exchanged for the old at the same ratio. The 
 Treasury Department took the view that the new issue was 
 subject to stamp tax. The new stock issued was stock which 
 had never before been issued and was under an authorization not 
 theretofore existing, but which arose out of the amendment of 
 the charter. It constituted an original issue on reorganization. 
 The total authorized capitalization of the corporation was 
 changed and each share of the new stock, whether common or 
 preferred, represented a fractional interest in a different capital 
 stock. A new series of certificates was issued showing the 
 change in the authorized capitalization and substituted for the 
 outstanding certificates of the former corporation. The new pre- 
 ferred stock was cumulative convertible stock bearing 8 per cent, 
 interest; the stock for which it was substituted was non-cumu- 
 lative convertible stock bearing 6 per cent, interest; and the 
 common stock in the reorganized corporation was issued subject 
 to these different charges.^'' 
 
 Stock certificates issued in lieu of original certificates in a case 
 where a corporation had changed its name are not taxable as an 
 original issue,^^ and temporary or interim stock certificates 
 issued before the permanent issues are taxable as original issue, 
 but the subsequent exchange of such temporary certificates for 
 definitive stock certificates to the same owner is not subject to 
 any tax.^^ The issue of certificates of stock of a smaller denomi- 
 nation in exchange for outstanding certificates, where there is 
 
 67 Sol. Op. 71; W. T. S. 1921, 114007. 
 
 68Eeg. 40 Rev., Art. 5. 
 
 69 Reg. 40 Rev., Art. 5; T. D. 2584- Reg. 40 Rev., Art. 4. 
 
1174 FEDERAL INCOME TAX 
 
 no change in ownership or in the total amount of stock issued, is 
 not subject to tax J" 
 
 The issue upon a merger of corporations of certificates of stock 
 of the same kind in substitution for the old certificates of stock 
 is not subject to taxJ^ The foregoing regulation has been held to 
 exempt stock of the merging corporation (continuing corpora- 
 tion) from the original issue tax when exchanged for the old cer- 
 tificates of stock of such corporation, but not when exchanged 
 for the old certificates of stock of the merged corporation or cor- 
 porations J^ 
 
 It was held under the 1914 Law that where bonds had been 
 issued with the privilege of exchanging same for certificates of 
 stock and the option was exercised after the incidence of the tax, 
 the stock certificates then issued were taxable as original issue 
 unless prior to the incidence of the tax the certificates in question 
 had been issued and were held in trust for the purchaser of the 
 bonds, in which case the rate of tax on transfers of stock was 
 applicable.'^^ 
 
 Certificates of Stock. The present law applies to the issue 
 of (1) certificates of stock, (2) certificates of profit, and (3) cer- 
 tificates of interest in property or accumulations, issued by any 
 corporation J* The 1917 Law applied only to certificates of stock. 
 Under the 1914 Law, which taxed certificates of profit "or any 
 certificate or memorandum showing an interest in the property 
 or accumulations of any association, company or corporation, 
 * * * " it was held that certificates issued by trustees to per- 
 sons who had deposited certain securities, such certificates issued 
 by the trustees showing such persons to be entitled to a part of 
 the dividends, etc., accruing on account of the securities depos- 
 ited, were taxable as certificates of profits.''^^ Under the present 
 law it seems that certificates evidencing an interest in profits or 
 accumulations are not taxable unless issued by a "corporation," 
 as that term is used in the law, but the Treasury Department has 
 ruled that the issue to the beneficiary of- certificates covering 
 shares in the nature of shares of stock, where a number of per- 
 sons pool their individual properties and appoint trustees having 
 a definite term of office for the purpose of managing it and retain 
 
 70 Reg. 40 Rev., Art. 5. 
 Ti Reg. 40 Rev., Art. 5. 
 
 72 O. D. 83 ; Ruling No. 198, March, 1921 ; W. T. S. 1921, H 4030. 
 
 73 T. D. 2155. 
 
 74 Revenue Act of 1921, Title XI, Schedule A-2; see Reg. 40 Rev., Art. 33. 
 
 75 Reg. 40 Rev., Art. 4 ; Letter f rorii treasury department dated July 26, 
 1916; W. T. S. 1916, p. 353. 
 
THE STAMP TAX 1175 
 
 certain rights of control over the property and a voice in the 
 selection of the trustees who are authorized to issue the certifi- 
 cates, is subject to taxJ^ 
 
 Issued by Any Corporation. The term "corporation," as 
 defined in Section 2 of the law, includes associations, joint-stock 
 companies, and insurance companiesJ'^ It has been held that the 
 tax applies to the issue of certificates of shares in so-called Mas- 
 sachusetts trusts and other unincorporated associationsJ® 
 
 Stock of Domestic Corporations. The tax attaches to the 
 issue of certificates of stock by a domestic corporation, no matter 
 where the certificates are actually delivered.™ 
 
 Stock of Foreign Corporations. Certificates of stock of for- 
 eign corporations sold or delivered within the United States are 
 subject to the same tax as certificates of stock of domestic cor- 
 porations. Stock of a corporation organized in a foreign coun- 
 .try, issued in the United States, is subject to the tax on original 
 issue.s" 
 
 Business Property Investment Bonds. The issue by a cor- 
 poration of business property investment bonds, or other instru- 
 ments, wherein it is certified that the holder thereof is the owner 
 of an interest in specified real property the legal title to which 
 
 76Eeg. 40 Rev., Art. 4. 
 
 77 See Reg. 40 Rev., Art. 4. 
 
 78 T. D. 2752. It has been held that the 1914 Law does not impose a fran- 
 chise tax or a corporation tax but imposes a stamp or document tax; 
 that it follows from this consideration that whether the share capital is 
 fixed by agreement or under statutory authority is immaterial and that the 
 tax applies to certificates of shares issued by a manufa<;turing company 
 organized in the form of a trust under the common law and deriving none 
 of its rights, benefits or qualifications from any statute, and which was not 
 an ordinary common law real estate trust. In other words, the word "stock" 
 is to be interpreted in connection with the accompanying words of the statute 
 "association, company, or corporation." It is a term not peculiar to corpo- 
 rations, but equally applicable to the share capital or fund created by or in 
 accordance with an agreement for the formation of an unincorporated asso- 
 ciation or company. The difference between corporations and unincorpo- 
 rated associations being immaterial to the imposition of a stamp tax on 
 documents, the different modes of realizing on the shares by the certificate 
 holders is also immaterial. (Malley v. Bowditch, 259 Fed. 809; Edwards 
 V. Wabash Ry. Co., 264 Fed. 610.) See also Crocker v. Malley, 249 U. S. 
 223. For a full discussion of the distinction between a "trust" and an "as- 
 sociation," see Chapter 10. 
 
 79 Keg. 40 Rev., Art. 4 ; Letter from treasury department dated July 24, 
 1918; W. T. S. 1919, T[ 3588. This ruling was made in the case of stock issued 
 in Cuba by a Delaware corporation, all of whose operations were carried on 
 in Cuba. See p. 1168 as to bonds. 
 
 80 T. D. 2073. 
 
1176 FEDERAL INCOME TAX 
 
 has been previously conveyed to a trustee and whereby the cor- 
 poration issuing the same agrees to manage the property and 
 distribute the proceeds in a certain manner is subject to tax.^i 
 
 Joint-Stock Land Banks. The issue of certificates of stock 
 by joint-stock land banks is subject to the stamp tax.^^ 
 
 Purchasing Business or Assets. The issue by a corporation 
 of stock in exchange for property, real or personal, or for the 
 purpose of purchasing the business or assets of another concern, 
 is subject to tax.^s 
 
 Stock Dividends and Fractional Scrip Certificates. The 
 issue of stock dividends and fractional scrip certificates is subject 
 to tax.8* Where scrip certificates for fractional shares of stock 
 having a par value of $100 per share are issued the tax is at the 
 rate of five cents for each certificate issued and not at the rate of 
 five cents for each share of the total number of shares repre- 
 sented by the aggregate. amount of scrip certificates issued.^^ 
 
 Federal Land Banks. The issue of certificates of stock by 
 Federal Land banks is not subject to tax.^s 
 
 Rights to Subscribe to Stock. The issue of "rights" to sub- 
 scribe for the stock by any corporation, joint-stock company or 
 association evidenced by warrants is not subject to tax.*'^ 
 
 Voting Trust Certificates. The tax does not apply to the 
 issue of voting trust certificates representing stock certificates 
 already issued.^s 
 
 Measure of Tax. The tax is measured, not by the amount 
 paid in on, or for the stock, but by the face or par value of the 
 stock, in the case of shares having a face or par value. The tax is 
 imposed on the face or par value of the certificate and not upon 
 the par value of each share. Thus, a certificate representing 10 
 shares of a par value of $10 each would be taxable as having a 
 face or par value of $100. In the case of shares having no face 
 or par value the tax is 5 cents per share, unless the actual value 
 is in excess of $100 per share, in which case the tax is 5 cents on 
 each $100 of actual value or fraction thereof, or unless the actual 
 
 81 Reg. 40 Rev., Art. 4. 
 
 82 Reg. 40 Rev., Art. 4. 
 
 83 Reg. 40 Rev., Art. 4. 
 
 84 Reg. 40 Rev., Art. 4. 
 
 85 Telegram from treasury department dated January 9, 1920; W. T. S. 
 1921,113565. 
 
 86 Reg. 40 Rev., Art. 5. 
 
 87 Reg. 40 Rev., Art. 5. 
 
 88 Reg. 40 Rev., Art. 5; T. D. 2752. 
 
THE STAMP TAX 1177 
 
 value is less than $100 per share, in which case the tax is 1 cent 
 on each $20 of actual value or fraction thereof.*^ 
 
 Shares Without Par Value. The actual value of shares 
 without par or face value is a question of fact. For the purpose 
 of this tax it may be determined by the statement of the company 
 and the consideration involved in the issue of such stock.^" or 
 may be determined by the market price or otherwise.^^ 
 
 It has been ruled under the former law that the issue of a 
 greater number of shares of no par value stock in lieu of a 
 smaller issue of such shares, previously made, without any 
 change in the amount of the capital assets of the issuing corpora- 
 tion, is subject to stamp tax in the amount of the difference be- 
 tween the tax computed upon such issue and the tax computed 
 upon the issue which it replaces.^^ The issue on reorganization 
 of a number of shares of no par value for each share of par 
 value stock outstanding, without change in the amount of the 
 authorized working capital, is subject to stamp tax in the amount 
 of the difference between the tax computed upon such issue and 
 the tax computed upon the issue which it replaces.^^ 
 
 Capital Stock, Sales and Transfers. The law provides for a 
 tax on (a) all sales, (b) agreements to selP* or memoranda of 
 
 89 Revenue Act of 1921, Title XI, Schedule A-2. Under the 1918 Law, 
 in the case of certificates issued without face value the tax was 5 cents per 
 share unless the actual value was in excess of $100 per share in which case 
 the tax was 5 cents on each $100 of actual value or fraction thereof (Reve- 
 nue Act of 1918, Title XI, Schedule A-3). 
 
 90 Letter from treasury department dated November 26, 1917 ; W. T. S. 
 1 919, 1[ 3592 ; Reg. 40 Rev., Art. 3. 
 
 91 T. D. 2752. 
 
 92 Reg. 40 Rev., Art. 4, as amended by T. D. 3118. 
 
 93 Telegi-am from treasury department dated February 21, 1921 ; W. T. S. 
 1921, If 4003. 
 
 94 The term "agreement to sell" includes options, calls in "puts and calls," 
 offers, indemnities and privileges, and contracts, either in writing or by 
 parol, to sell on the deferred or partial payment plan (Reg. 40 Rev., Art. 
 33). In holding that a "call" was an "agreement to sell" under the' 1898 Law 
 the Supreme Court in Treat v. White, 181 U. S. 264, pointed out the dis- 
 tinction between an "agreement to sell" and an "agreement of sale" as fol- 
 lows : "That there is a difference between an agreement to sell and an agree- 
 ment of sale is clear. The latter may imply, not merely an obligation to sell, 
 but an obligation on the part of the other party to purchase, while an agree- 
 ment to sell is simply an obligation on the part of the vendor or promisor to 
 complete his promise of sale. That congress recognized the difference be- 
 tween these two terms is evident, because in the very next paragraph of 
 Schedule A it provides, in reference to merchandise, for a stamp 'upon each 
 sale, agreement of sale, or agreement to sell.' That no stamp duty was im- 
 posed on agreements to buy (or, in the vernacular of the stock exchange, 
 
1178 FEDERAL INCOME TAX 
 
 sales or deliveries of or transfers of legal ^^ title to shares or cer- 
 tificates of stock in any association, company or corporation.^^ 
 The tax is imposed whether or not the stock is represented by 
 certificates,^''^ and also whether or not the sale or transfer is 
 shown by the books of the association, company or corporation, 
 or is made by assignment in blank, or by any delivery, or by any 
 paper or agreement or memorandum or other evidence of trans- 
 fer or sale, whether entitling the holder in any manner to the 
 benefit of such stock ^s or not. In the case of stock having a par 
 or face value, the amount of the tax is 2 cents on each $100 or 
 fraction thereof of the total par or face value of the shares or 
 certificates involved in the sale or agreement to sell, whether 
 such aggregate par or face value is greater or less than $100; 
 e. g., where the total par or face of the shares involved in the 
 transaction is $100 or less, the tax is 2 cents ; where such value 
 is in excess of $100, the tax is 2 cents on each $100 or fraction 
 thereof. Where one certificate represents several shares (how- 
 ever large the number of shares) on the transfer of such certifi- 
 cate the tax is computed upon its face value and not on the face 
 value of each separate share of stock, or of profits, or of interest 
 in property or accumulations ; e. g., on the transfer of one certifi- 
 cate representing 500 shares, par value $5, the face value of the 
 certificate being $2,500, the stamp tax is 50 cents.^^ 
 
 In the case of shares of stock without par or face value, the 
 tax is 2 cents on the transfer or sale of, or agreement to sell, each 
 share. The tax is measured, not by the amount paid in, on, or 
 for, the stock, but by the face or par value of the stock in the 
 case of shares having a face or par value, and by the number of 
 shares in the case of shares having no face or par value.^"" 
 
 'puts') furnishes no ground for denying the validity of the stamp duty on 
 agreements to sell." 
 
 85 The word "legal" was first introduced in the 1917 Law and was not con- 
 tained in the Act of October 22, 1914. (See Reg. 40 Rev., Art. 33.) Cf. 
 § 270 of the New York State Tax Law and the case of Travis v. Ann Arbor 
 Co., 180 N. Y. App. Div. 799, 168 N. Y. Supp. 53, affirmed 227 N. Y. 640, 
 126 N. E. 923. 
 
 96 The law uses the word "corporation" but see the definition of this term 
 in Revenue Act of 1921, § 2. 
 
 97 Reg. 40 Rev., Art. 12 ; T. D. 2752. 
 
 98 The Act of October 22, 1914, also read : "or to secure the future pay- 
 ment of money or for the future transfer of any stock." 
 
 99 Reg. 40 Rev., Art. 11. 
 
 100 Revenue Act of 1921, Title XI, Schedule A-3. Under the 1918 Law, 
 where the actual value of shares without par or face value was in excess 
 of $100, the tax was 2 cents on each $100 of actual value or fraction thereof. 
 (Revenue Act of 1918, Title XI, Schedule A-4.) 
 
THE STAMP TAX 1179 
 
 Affixing and Cancellation of Stamps. In the case of the 
 issue of shares of stock, whether on organization or reorganiza- 
 tion, the stamps representing the tax should be affixed to the 
 stock books and not to the certificates issued. In the case of a 
 sale before certificates are issued, where the evidence of transfer 
 is shown only by the books of the corporation, the stamps should 
 be placed on such books. In case the change of ownership is 
 effected by transfer or delivery of the certificate, i. e., where the 
 name of the transferee is inserted in the indorsement or power 
 of attorney on the back of the certificate, the stamp should be 
 affixed to such certificate and cancelled by the person making the 
 sale. In case of agreement to sell, or where the transfer is by 
 delivery of the certificate assigned in blank, the stamp should be 
 affixed to the bill, memorandum, or agreement to sell, and can- 
 celled by the seller.^oi 
 
 It has been held by a state court under both the New York 
 State tax on transfers of stock and the Federal Act on stock 
 transfers that in the case of an agreement to transfer stock such 
 laws are complied with if the requisite stamps be affixed and can- 
 celled at the time the transfer is accomplished.i''^ 
 
 In no event should any transfer agent or corporation accept or 
 transfer any shares of stock or certificates unless stamps for all 
 transfer tax required thereon have been properly affixed either to 
 the certificates of stock or memoranda of sale, as the case may 
 be, and duly cancelled. The person using or affixing the stamp 
 should write or stamp thereon, in ink, his initials and the day, 
 month, and year on which the same shall be affixed, or, by cutting 
 or cancelling with a machine or punch, affix his initials and the 
 date as aforesaid, and so deface such stamp as to render it unfit 
 for reuse." In addition to the foregoing, stamps of the value of 10 
 cents or more should have three parallel incisions made with 
 some sharp instrument lengthwise through the stamp after the 
 same has been attached to the certificate, or bill, or memoran- 
 dum, or other evidence of sale or transfer, unless the stamps are 
 cancelled by perforation. The cancellation by either method 
 should not so deface the stamp as to prevent its denomination 
 and genuineness from being readily determined.^"^ 
 
 101 Reg. 40 Rev., Art. 37. 
 
 l02Smythe v. Pure Ice Co., 193 App. Div. (N. Y.) 479; Phelps-Stokes 
 Estates v. Nixon, 22 N. Y. 93, 118 N. E. 241 ; Waddle v. Cabana, 220 N. Y. 
 18, 114 N. E. 1054; Bean v. Flint, 204 N. Y. 153, 97 N. E. 490. 
 
 103 Reg. 40 Rev., Art. 37 ; Letter from treasury department dated May 22, 
 1918; W. T. S. 1919, T[ 3600. 
 
1180 FEDERAL INCOME TAX 
 
 Shares Without Par Value. The law provides that the tax 
 shall be imposed at the rate of 2 cents a share on shares without 
 par or face value.^"* 
 
 When Tax Accrues. The stamp tax on sales or transfers of 
 stock accrues at the time of making the sale or agreement to sell 
 or memorandum of sale, or delivery of or transfer of the legal 
 title to shares, or certificates of stock, or of profits, or of interest 
 in property or accumulations in any corporation, joint-stock 
 company, or association, or of the right to subscribe for or to 
 receive such shares or certificates, regardless of the time or man- 
 ner of the delivery of the certificate or agreement or memoran- 
 dum of sale.i"5 
 
 Where Title to the Stock Passed Prior to the Incidence 
 OF THE Tax. No tax is imposed upon the transfer of such stock 
 on the books of a corporation although made after the date on 
 which the tax was first imposed.^''^ 
 
 Tax Paid but Once. Where shares of stock are sold and the 
 tax has been paid and stamps affixed to a bill or memorandum of 
 sale, stamps are not again required when the transfer is made 
 on the books of the company from the name of the party selling 
 to the name of the purchaser."'' 
 
 Shares or Certificates of Stock. The law imposes this tax 
 on all sales, or agreements to sell, or memoranda of sales or de- 
 liveries of, or transfers of legal title to "shares or certificates of 
 stock or of profits or of interest in property or accumulations in 
 any corporation, or to rights to subscribe for or to receive such 
 shares or certificates." "^ 
 
 Stock of Domestic Corporations. The tax attaches to the 
 transfer of stock on the books of a domestic corporation, no mat- 
 ter where the sale is made or the stock certificates are deliv- 
 ered.109 
 
 104 Revenue Act of 1921, Title XI, Schedule A-3. Under the 1918 Law if 
 the actual value of such shares vsras in excess of $100 the tax was 2 
 cents on each $100 of actual value or fraction thereof (Revenue Act of 1918, 
 Title XI, Schedule A-4) . 
 
 105 Reg. 40 Rev., Art. 9. 
 
 108 Letter from treasury department dated November 30, 1917 ; W. T. S. 
 1919, 11 3590. This was also the rule under the 1914 Law. 
 
 107 Reg. 40 Rev., Art. 13 ; T. D. 2073. 
 
 108 Revenue Act of 1921, Title XI, Schedule A-3. 
 
 109 Reg. 40 Rev., Art. 12 ; Letter from treasury department dated July 24, 
 1918; W. T. S. 1919, H 3588. This ruling was made in the case of stock trans- 
 ferred in Cuba by a Delaware corporation, all of whose operations were car- 
 ried on in Cuba. 
 
THE STAMP TAX 1181 
 
 Stock op Foreign Corporations. When certificates of stock 
 of a foreign corporation are sold or delivered within the terri- 
 torial jurisdiction of the United States they are subject to the 
 same tax as certificates of stock of a domestic corporation.ii" 
 
 Trusts. The tax on the transfer of capital stock has been held 
 to apply to the transfer of shares in so-called Massachusetts 
 Trusts and other unincorporated associations.^" In rulings 
 issued under the 1918 Law it is held that the sale or transfer 
 of certificates issued by trustees, where such trustees are ap- 
 pointed for a definite period and the declaration of trust provides 
 that the beneficiaries (termed "stockholders") shall hold annual 
 meetings for the election of new trustees to fill the vacancies 
 thus accruing, the beneficiaries thus reserving to themselves 
 control over the persons delegated to conduct their affairs and a 
 voice in the business is subject to tax; but that the sale or trans- 
 fer of certificates issued by trustees, where such trustees are 
 legally appointed for the entire period of the trust and the bene- 
 ficiaries retain no substantial control over the affairs of the trust, 
 but delegate their proprietary functions to others, any further 
 control on their part depending upon contingencies, their rights 
 being limited to filling vacancies caused by death, resignation or 
 disability is not subject to tax.112 
 
 Transfer of Stock Before Issue of Certificate. The exist- 
 ence of a stock certificate is not essential in order to make the 
 transfer of shares subject to the tax. A transfer affecting a 
 change of ownership of the share, whether made before or after 
 the issuance of the original certificate, is taxable. Thus, the sale 
 or transfer of temporary or interim certificates and the transfer 
 of the interest of a subscriber for stock, however such interest 
 may be evidenced or conditioned upon further payments, are 
 subject to tax.113 Under the 1914 Law it was held that transfers 
 of subscription warrants entitling the holder to certificates of 
 stock were taxable as transfers of stock.ii* 
 
 Rights to Receive or Subscribe for Stock. Under the pres- 
 ent law, transfers of rights to subscribe for or to receive shares 
 or certificates of stock (or of profits or interest in property or 
 
 no Reg. 40 Rev., Art. 12; T. D. 2073. 
 
 111 T. D. 2752. 
 
 112 Reg. 40 Rev., Arts. 12, 13. For a full discussion of the distinction be- 
 tween a "trust" and an "association" see Chapter 10. 
 
 113 Reg. 40 Rev., Art. 12; T. D. 2752; T. D. 2599. 
 
 114 Letter from treasury department dated July 8, 1915. 
 
1182 FEDERAL INCOME TAX 
 
 accumulations) in any corporation whether or not evidenced by 
 warrants are expressly made subject to tax.ii5 
 
 Where one corporation sold to another corporation certain 
 property in consideration of the issuance to it of a fixed number 
 of shares of the capital stock of the purchasing corporation, and 
 thereafter, prior to the actual issuance of the stock certificates, 
 the vendor corporation authorized the vendee corporation to issue 
 the shares direct to the stockholders of the vendor corporation, 
 the resolution of the board of directors of the vendor corpora- 
 tion conveying the authority is a transfer of the right to receive 
 such shares, and the transaction is subject to the stamp tax."^ 
 
 Rights to Receive Stock Dividends. The transfer of a right 
 to receive a stock dividend already declared is taxable.^^'^ 
 
 Voting Trust Certificates. It has been held that : (1) The 
 transfer of stock from stockholders to voting trustees is subject 
 to tax, (2) the receipt of the certificates given by the voting 
 trustees to the stockholders is not subject to tax, (3) any sale or 
 transfer of such voting trust certificates by the owner is subject 
 to tax, (4) the transfer by the voting trustees to the stockholders 
 at the termination of the voting trust agreement "is subject to 
 tax.iis 
 
 Stockholders' Committees. A transfer of stock by individ- 
 ual stockholders to a committee of stockholders under a deposit 
 agreement is subject to the stock transfer tax.ii^ Transfers of 
 certificates of stock to stockholders' committees for the protec- 
 tion of stockholders pending the receivership of a corporation 
 are subject to tax.^^o 
 
 Loan of Certificates of Stock. The present law provides 
 that no stamp tax shall be imposed upon mere loans of stock nor 
 upon the return of stock so loaned.^^i The transfer of shares or 
 certificates of stock in any corporation made by the person loan- 
 
 115 Revenue Act of 1921, Title XI, Schedule A-3; Reg. 40 Rev., Arts. 12, 
 33. Letter from treasury department dated February 26, 1920; W. T. S. 
 1921, 113572; Letter from treasury department dated March 25, 1920; W. 
 T. S. 1921, 1(3614. 
 
 116 Marconi Wireless Telegraph Company of America v. Duffy, 273 Fed. 
 197. 
 
 117 Reg. 40 Rev., Art. 12; T. D. 2752. 
 
 lis Reg. 40 Rev., Art. 12; Reg. No. 40, Part 1, Art. 1; Letter from treasury 
 department dated May 22, 1918; W. T. S. 1919, If 3600. 
 
 119 Letter from treasury department dated April 30, 1918; W. T. S. 1919, 
 If 3598. 
 
 120 Letter from treasury department dated January 28, 1919; W. T. S. 
 1919, If 3599. 
 
 121 Revenue Act of 1921, Title XI, Schedule A-3. 
 
THE STAMP TAX 1183 
 
 ing stock to another borrowing the stock to effect a sale, and also 
 the transfer of shares or certificates of stock from a borrower 
 returning them to a lender in fulfillment of the borrower's obli- 
 gation to buy in and return stock, are not subject to tax under 
 the present Iaw.122 Under the 1918 Law it was held that in a so- 
 called short sale transaction there were four taxable sales or 
 transfers : (1) The said of stock by the person making the short 
 sale; (2) the transfer from the lender of stock to the person 
 making the short sale so that he may make delivery of the stock 
 sold; (3) the purchase by the borrower of stock to return to the 
 lender; (4) the transfer from the borrower to the lender of 
 shares to replace those borrowed.^^s Under the present law only 
 transactions (1) and (3) will be taxable. 
 
 Transfers to and by Fiduciaries. Transfers of legal title 
 are taxable, whether or not the transferee acquires any bene- 
 ficial interest in the stock transferred. Thus, transfers from one 
 trustee to another trustee under the same trust are subject to 
 tax 124 and transfers from an executor or administrator to a 
 trustee, and transfers from a trustee to the beneficiary under the 
 trust are taxable, under the present law.^^s 
 
 Transfers of stock from one group of trustees to another 
 group, although one or more of the trustees remains the same, is 
 subject to tax. If transfer of title results wholly from operation 
 of law, however, such transfer is not subject to stamp tax.^^s 
 When stock stands in the name of two or more trustees, the 
 nominal transfer of such stock to the surviving trustee or trus- 
 
 122 Such transfers were held to be taxable under the 1918 Law. Reg. 40 
 Rev., Art. 12. 
 
 123 T. D. 2685. Under the 1914 Law, certificates so loaned were not held 
 taxable. (T. D. 2182.) 
 
 124 Reg. 40 Rev., Art. 12 ; Letter from treasury department dated July 12, 
 1918; W. T. S. 1919, 1[3601. 
 
 125 Reg. 40 Rev., Art. 12 ; Letter from treasury department dated July 1, 
 1919; W. T. S. 1919, H 3974. Under the 1914 Law it was held that transfers 
 from a deceased to his executor or administrator were not taxable. Trans- 
 fers from a' trustee to a substitute trustee were not taxable. Transfers 
 from an executor or administrator to a trustee were taxable as were also 
 transfers from the trustee to the beneficiary under the trust. It is to be 
 noted that the words "legal title to" have been added to the Act of Oc- 
 tober 3, 1917 (see note 95 of this chapter), and therefore the fact that 
 the trustee or nominee who transfers stock, and the party to whom title is 
 transferred, both represent the same estate or beneficiary, does not affect 
 the question, so long as the legal title is transferred. (Letter from treasury 
 department dated July 12, 1918; W. T. S. 1919, 113601.) 
 
 126 Letter from treasury department dated February, 1921 ; W. T. S. 1921, 
 H 4002. 
 
1184 FEDERAL INCOME TAX 
 
 tees upon the death of one of the trustees is not subject to the 
 stamp tax.127 it has been ruled that where new trustees are 
 appointed under the Massachusetts Law^^s the transfer of stock 
 from the names of the retiring trustees to the succeeding trus- 
 tees is not subject to stamp tax since the newly appointed 
 trustees acquire title to the trust estate by virtue of their ap- 
 pointment and without any formal conveyanc^.^^a 
 
 Transfers, however, of stock standing in the name of a de- 
 ceased person to his executor or administrator are not taxable.i^o 
 
 Transfers to or by Alien Property Custodian. A transfer 
 to the Alien Property Custodian of shares or certificates of stock 
 in an American corporation in compliance with a demand made 
 by him under authority of the Trading with the Enemy Act is 
 the performance of a mandatory obligation, not voluntarily as- 
 sumed, but imposed by the paramount authority of the Govern- 
 ment and is therefore held not subject to the stamp tax. A sale 
 by the Alien Property Custodian of shares or certificates of stock 
 under the authority of the Trading with the Enemy Act, his 
 agreement so to sell, and his transfer of legal title to certificates 
 or shares so sold by him are held to be governmental acts in the 
 administration of the Trading with the Enemy Act and therefore 
 not subject to the stamp tax.^^i 
 
 Brokers' Individual Sales. The sale, or agreement to sell, 
 shares of stock made by a broker, directly or indirectly, for him- 
 self, and the sale or transfer of stock by a broker at a price 
 different from that at which he accounts to his selling customer, 
 are subject to tax.i32 
 
 Gifts. The transfer of stock in pursuance of a gift, bequest, 
 or conveyance by trustees is subject to the tax.^^s 
 
 Other Transfers Where Change of Legal Title Only 
 Takes Place. It has been. recently held under the Stock Trans- 
 fer Tax Law of New York (the language of which is similar to 
 that of the federal law) that stock transfer taxes accrue upon 
 the cancellation and surrender of a stock certificate standing in 
 the name of an accommodation holder (nominal stockholder) 
 
 127 Letter from treasury department dated March 31, 1921; W. T. S. 
 1921, Tf 4026. 
 
 128 Chapter 147, § 6, Revised Laws of Massachusetts. 
 
 129 Letter from treasury department dated May 4, 1921; W. T. S. 1921, 
 1[ 4042. 
 
 130 Reg. 40 Rev., Art. 13 ; Letter from treasury department dated July 1, 
 1919; W. T. S. 1919,113974. 
 
 131 Reg. 40 Rev., Art. 13; T. D. 2786. 
 
 132 Reg. 40 Rev., Art. 12. 
 
 133 Reg. 40 Rev., Art. 12. 
 
THE STAMP TAX 1185 
 
 and the making out of a new certificate in the place thereof in 
 the name of another accommodation holder, and the endorse- 
 ment of the new certificates in blank by the latter, the actual 
 ownership of the stock at all times remaining in the same person. 
 As there were two transfers of the legal title, two taxable trans- 
 fers took place and a tax was required to be paid on each.^^* 
 
 Formal Transfers Where No Change of Title Takes 
 Place. The statute does not contemplate a tax unless there is a 
 transfer of legal title to shares or certificates. Therefore, the tax 
 on transfers of stock is not applicable to the surrender of old 
 stock in exchange for new stock pursuant to a reorganization of 
 a corporation.135 The tax on transfers of stock does not attach 
 to the exchange of stock certificates of the merged corporation 
 for stock certificates of the merging corporation at the time and 
 as a part of the merger nor to the substitution of new certificates 
 for certificates representing old stock of the merging corpora- 
 tion.is^ Where, however, as under Section 15 of the New York 
 Stock Corporation Law, providing for the merger of ordinary cor- 
 porations, the acquisition of the stock of the corporation to be 
 merged is a condition precedent to the merger, then the transfer 
 of such stock to the merging corporation prior to the actual mer- 
 ger is taxable.i^''' In the case of a consolidated corporation issu- 
 ing stock in exchange for the stock of consolidating corporations 
 the surrender of the stock of the consolidating corporations in 
 exchange for the stock issued by the consolidated corporation is 
 not a taxable transfer.^^^ The tax does not apply to the surren- 
 der of certificates in exchange for other certificates representing 
 the same or new stock, provided they are issued to the same hold- 
 er. i39 The transfer of stock among the assets of the old corpora- 
 tion to a new corporation in a reorganization is subject to tax. If 
 
 134 New York State Tax Law, § 270. Travis v. Ann Arbor Co.,. 180 N. Y. 
 App. Div. 799, 168 N. Y. Supp. 53, affirmed 227 N. Y. 640, 126 N. E. 923. 
 The court said in this case: "The application of any other rule wouM be 
 opposed to the plain wording of the statute, and furnish in many cases an 
 easy method of evasion of the tax." 
 
 135 Reg. 40 Rev., Art. 13 ; T. D. 2752 ; letter from treasury department 
 dated June 10, 1916. This is true in the case of a reorganization under § 24 
 of the New York Stock Corporation Law for the purpose of issuing stock 
 without par value. For a definition of the term "reorganization" see note 
 65. |] 1^ ]\%i 
 
 136 Reg. 40 Rev., Art. 13 ; T. D. 2752. This is true in the case of a merger 
 of trust companies under §§ 487 to 496 of the New York Banking Law. 
 
 137 T. D. 2752; Reg. 40 Rev., Art. 12. 
 
 138 Reg. 40 Rev., Art. 13 ; T. D. 2752. 
 
 139 Reg. 40 Rev., Art. 13 ; T. D. 2752. 
 
1186 FEDERAL INCOME TAX 
 
 the new stock is issued to the old corporation the transfer of that 
 stock from the old corporation to its stockholders is subject to 
 tax. If the old stock is surrendered to the new corporation and 
 constitutes it a corporate stockholder, that surrender is • tax- 
 able.i« 
 
 Stock Redeemed by the Issuing Corporation. The tax on 
 the transfer of capital stock does not apply to the surrender of 
 stock certificates for retirement and redemption for cash. If, 
 however, the corporation buys some of its own stock and trans- 
 fers it to itself, whether or not it intends eventually to cancel it, 
 the transfer to the corporation is subject to tax. The test is 
 whether the im'mediate transaction results in the extinction of 
 the stock or investing title to it in the corporation.i*^ 
 
 Deposit of Stock Certificates as Collateral Security. No 
 tax is intended to be imposed upon an agreement evidencing a 
 deposit of stock certificates as collateral security for money 
 loaned thereon, which certificates are not actually sold, nor upon 
 the delivery or transfer or retransfer for such purpose of such 
 stock certificates so deposited. In each such case, however, the 
 person making a transfer of such certificates as collateral security 
 must make and sign a statement of the facts and attach it to the 
 certificate.i*2 Under the 1914 law it was held that no tax was im- 
 posed on stock deposited as collateral until complete title to the 
 certificates of stock was acquired by the pledgee.^*^ This seems 
 also to be the rule under the present law. 
 
 Transfers to or by a Broker. No tax is imposed upon deliv- 
 eries or transfers to a broker for sale, nor upon deliveries or 
 transfers by a broker to a customer for whom and upon whose 
 order he has purchased the same, but such deliveries or trans- 
 fers must be accompanied by a certificate setting forth the 
 facts."* 
 
 140 Letter from treasury department dated February 26, 1920 ; W. T. S. 
 1921, 113567. 
 
 141 Reg. 40 Rev., Arts. 12, 13; T. D. 2752; letter from treasury department 
 dated June 20, 1918; W. T. S., 1919, K3597. Letter from treasury depart- 
 ment dated February 26, 1920; W. T. S., 1921, TI 3572. Under the 1914 Law- 
 it was held that where stock was redeemed by a corporation the transfer 
 from the stockholder to the corporation was subject to tax whether or not 
 the stockholder merely surrendered the certificate for cancellation or exe- 
 cuted the assignment on the back of the certificate. (Letter from treasury 
 department dated January 20, 1916.) 
 
 142 Revenue Act of 1921, Title XI, Schedule A-3. See Reg. 40 Rev., Art. 
 13; Reg. No. 40, Part I, Art. 5. 
 
 143 Letter from treasury department dated December 28, 1915. 
 
 144 Revenue Act of 1921, Title XI, Schedule A-3; Reg. 40 Rev., Art. 13. 
 A rubber stamp with the name of the firm and address may be used in mak- 
 
THE STAMP TAX .1187 
 
 Certificate by Broker. The following forms have been pre- 
 scribed for the use of brokers : (a) (in the case of a transfer to a 
 broker) "We hereby certify that we have no ownership or inter- 
 est, in * * * shares of the stock above transferred, the transfer 
 by the owner to us being merely for the purpose of sale," (b) (in 
 the case of a transfer by a broker) "We hereby certify that the 
 transfer of * * * of the within shares to the names indicated 
 by the star is made solely to complete the purchase made by us 
 for our customer, and we have no ownership or interest therein." 
 No broker who has filed a certificate under the foregoing clause 
 (a) of this ruling should file a certificate under the foregoing 
 clause (b) with reference to the transfer of any shares of stock 
 covered by the certificates filed by him under clause (a) ."^ 
 
 "Calls." A "call" is an agreement to sell and is taxable ; but 
 a transfer of a certificate of stock pursuant to the "call" is not 
 taxable, being only a fulfillment of the original agreement. The 
 seller should execute and attach to the certificate of stock his 
 certificate, which should be accepted by the transfer agent and 
 should be preserved by him for inspection of the revenue officer. 
 The certificate here prescribed should be in the following form: 
 
 We hereby certify that the transfer of shares of the 
 
 within stock of has been made pursuant to 
 
 a "call", and that the federal stock transfer stamps for the trans- 
 action are affixed to such "call", which is in our possession.^*" 
 
 Transfer to Clearing House. No tax is imposed upon trans- 
 fers or deliveries to a clearing house for the sole purpose of clear- 
 ing or adjusting accounts between members, where no beneficial 
 interest is vested in said clearing house or clearing association 
 and there has been no change of title or interest.^*''^ 
 
 Inconsistent By-Laws, Rules, or Customs of Exchange. 
 No provisions, by-laws, rules or customs of any exchange or sim- 
 ilar institution inconsistent with any requirement or provision 
 of the Revenue Act of 1918 or any regulations made thereunder, 
 nor any collateral additional agreement or understanding, either 
 verbal or written, respecting the subject-matter of sales or trans- 
 fers of certificates, or the settlement or fulfillment thereof, which 
 are inconsistent or in conflict with any requirement of said act or 
 
 ing such certificates (telegrams from treasury department dated April 19, 
 1921; W. T. S. 1921,114036). 
 
 145 Reg. 40 Kev., Art. 13; Reg. No. 40, Part I, Art. 5. 
 
 W6Reg. 40 Rev., Art. 13. 
 
 1*7 Reg. 40 Rev., Art. 13; Reg. No. 40, Part I, Art. 5. A clearing house 
 need not be incorporated and may be a part or department of an exchange 
 or an independent body (Reg. 40 Rev., Art. 38). See p. 1225. 
 
1188 FEDERAL INCOME TAX 
 
 regulations will exempt any person from the payment of the tax 
 imposed on sales or transfers of stock.^*** 
 
 Sale of Stamps. The ruling of the Treasury Department in 
 regard to the sale of stock transfer stamps is given elsewhere in 
 this book."9 
 
 Registration of Stock Brokers. Stock brokers, transfer 
 agents and clearing houses are required to register with the col- 
 lector of internal revenue and to keep records of sales and trans- 
 fers as is more fully set forth in a subsequent part of this chap- 
 ter.15" 
 
 Certificates of Profits. The 1898 Law and the 1914 Law taxed 
 the original issue of a "certificate of profits, or any certificate or 
 memorandum showing an interest in the property or accumula- 
 tions of any association, company, or corporation, and on all 
 transfers thereof." The 1917 Law was silent. The present law, 
 like the 1918 Law, taxes the original issue of "certificates of * * * 
 profits, or of interest in property or accumulations, by any cor- 
 poration"i5i and the sale or transfer of legal title to "certificates 
 * * * of profits or of interest in property or accumulations in 
 any corporation." ^^^ j^ the present law the term "corporation" 
 includes associations, joint-stock companies, and insurance com- 
 panies. It seems, therefore, that certificates of profits or interest 
 in property or accumulations are not taxed on original issue un- 
 less issued by a corporation, association, joint-stock company or 
 insurance company, but the sale or transfer thereof may be 
 taxed, if the certificate evidences an interest in the profits, prop- 
 erty or accumulations of a corporation, association, joint-stock 
 company or insurance company, regardless of who may have 
 issued it. Thus, voting-trust certificates are not taxable on orig- 
 inal issue, if they are issued by a trustee, but are subject to the 
 tax on transfers when sold or transferred by the owner.^^s Un- 
 der the 1914 Law it was held that certificates issued by trustees 
 to persons who had deposited certain securities, showing such 
 persons to be entitled to a part of the dividends accruing on ac- 
 count of the securities deposited were liable to the tax upon cer- 
 tificates of profit.154 
 
 148 Reg. 40 Rev., Art. 14. 
 "9 See pp. 1235, 1238. 
 150 See pp. 1224, 1236. 
 ' 151 Revenue Act of 1921, Title XI, Schedule A-2. 
 
 152 Revenue Act of 1921, Title XI, Schedule A-3. 
 
 153 Reg. 40 Rev., Arts. 5 (e), 12 (d). See, however, Reg. 40 Rev., Art. 
 4 (b), and the discussion upon this point at pp. 1174, 1176, 1181. 
 
 154 Letter from treasury department dated July. 26, 1916. 
 
THE STAMP TAX 1189 
 
 Business Property Investment Bond. A business property 
 investment bond wherein it is certified that the holder thereof is 
 the owner of an interest in certain specified real property, legal 
 title to which has previously been conveyed to a trustee, and 
 whereby the corporation issuing the same agrees to manage the 
 property and distribute the proceeds in a certain manner, is not 
 subject to tax as a bond, debenture, or certificate of indebtedness, 
 but as a certificate of interest in property.i^s 
 
 Certificates of Deposit. A certificate of deposit is not subject 
 to tax as a promissory note.i^s Certificates of deposit issued by 
 banks and trust companies are not considered to be taxable as 
 certificates of indebtedness, whether or not they are time certif- 
 icates, or contain a clause reserving the right of thirty days' no- 
 tice of payment.is'' 
 
 Morris-Plan Banks. Any instrument which is actually a cer- 
 tificate of deposit issued by a bank is exempt from stamp tax, 
 regardless of whether it is negotiable, or non-negotiable or wheth- 
 er it is payable on demand or at some specified time. Certificates 
 of deposit issued by banks or organizations operating upon the 
 Morris plan are not subject to stamp tax.^^s 
 
 Certificates of Indebtedness. A "certificate of indebtedness" 
 is primarily any instrument acknowledging liability for the pay- 
 ment of money, not in the recognized form of a promissory note 
 or bill of exchange.159 The term "certificate of indebtedness" in- 
 cludes only instruments having the general character of invest- 
 ment securities, as distinguished from instruments evidencing 
 debts arising in ordinary transactions between individuals.^^" 
 
 Trust certificates, commonly known as "Car Trust Certificates" 
 issued under the Pennsylvania plan have been held to be subject 
 to stamp tax as "certificates of indebtedness." ^^^ See Bonds of 
 Indebtedness. 
 
 Scrip-Dividend Certificates or Warrants. Scrip-dividend 
 certificates or warrants are taxable as certificates of indebted- 
 ness.1^2 
 
 155 Reg. 55 Rev., Art. 11. 
 
 156 Reg. 55 Rev., Art. 62. 
 
 157 Letter from treasury department dated November 16, 1917; W. T. S. 
 1919, 113550. 
 
 158 Reg. 55 Rev., Art. 13. 
 
 159 T. D. 2713. 
 
 160 T. D. 2919; Reg. 55 Rev., Art. 4. 
 
 161 Fidelity Trust Company v. Lederer, U. S. Dist Ct., Eastern Dist. of 
 Pennsylvania, decided July 14, 1921. 
 
 162 Reg. 55 Rev., Art. 9. 
 
1190 FEDERAL INCOME TAX 
 
 Certificates of Indebtedness Issued by Receivers. A cer- 
 tificate of indebtedness issued under order of a Federal court 
 by a receiver is subject to tax.^^^ 
 
 Conditional Bills of Sale. Conditional bills of sale used in 
 sale of merchandise on the installment plan are not certificates of 
 indebtedness within the meaning of the law, and are not subject 
 to stamp tax, unless in the form of promissory notes.^®* 
 
 Certificates Generally. No tax is imposed under the present 
 law on certificates of incorporation, certificates of damage and 
 certificates generally. 
 
 Checks. No tax is imposed on checks payable at sight or on 
 demand. Only drafts or checks expressly payable otherwise than 
 at sight or on demand are taxable.^^^ See Promissory Notes. 
 
 Contracts, No tax is imposed by the present law on contracts 
 as such.^®6 
 
 Conveyances. The law taxes any deed, instrument or writing, 
 whereby any lands, tenements, or other realty sold shall be 
 granted, assigned, transferred or otherwise conveyed to, or 
 vested in, the purchaser or purchasers, or any other person or 
 persons by his, her or their direction. The tax is based upon the 
 consideration or value of the interest or property conveyed, ex- 
 clusive of the value of any lien or incumbrance remaining thereon 
 at the time of sale.^^'^ The rate is as follows : When such consid- 
 eration or value does not exceed $100, no tax ; exceeding $100 and 
 not exceeding $500, 50 cents ; for each additional $500 or fraction- 
 al part thereof, 50 cents. The rates were the same under the 
 1918 Law. The tax does not apply to any instrument or writing 
 given to secure a debt.^^^ 
 
 Who Affixes Stamps. The person who makes, signs or issues 
 the deed (i. e., the grantor) is required to affix the stamps there- 
 to and becomes primarily liable to penalty if stamps in a sufficient 
 amount based upon the actual value of the consideration given 
 are not so affixed.^^^ The law also prohibits any person from ac- 
 cepting such instruments unless they are properly stamped. The 
 grantee in a deed is liable for the tax as well as the grantor."" 
 
 163 Reg. 55 Rev., Art. 15. 
 
 164 Reg. 55 Rev., Art. 14. 
 
 165 Reg. 55 Rev., Art. 63. 
 
 166 T. D. 2599. 
 
 167 Revenue Act of 1921, Title XI, Schedule A-6. See Central Trust Co. 
 V. Columbus, etc., Co., 92 Fed. 919. 
 
 168 Revenue Act of 1921, Title XI, Schedule A-6. 
 168 Reg. 55 Rev., Art. 66; T. D. 2115; T. D. 2283. 
 170 Reg. 55 Rev., Art. 66. 
 
THE STAMP TAX 1191 
 
 Where a purchaser has accepted an unrecorded deed he may be 
 , compelled to pay the required tax before having the deed re- 
 corded, or prosecuted under Section 1102 of the law."i In a case 
 where the referee at a foreclosure sale did not affix the stamps 
 required by law but the purchaser affixed such stamps under pro- 
 test before recording the deed, it was held that the grantee, ven- 
 dee or any other person participating in the making or issuing of 
 a paper without revenue stamps may be required to pay the tax 
 thereon and is liable for failure to do so.i''^ 
 
 Where Stamps Are Affixed. The stamps should be affixed 
 on the deed or other instrument conveying the real estate.^'^^ 
 
 When Tax Accrues. The time of delivery of a deed convey- 
 ing real estate determines its taxability. Deeds executed and 
 delivered on or after April 1, 1919, conveying property in pursu- 
 ance of a contract made prior to that time are taxable, and deeds 
 executed and delivered prior to such date are not taxable,^'^* 
 even though they are recorded after that date."^ The same rule 
 applies to similar deeds delivered prior to April 1, 1919, and tax- 
 able under the 1917 Law. A deed dated prior to April 1, 1919, 
 but delivered subsequent to that date, is taxable. If delivered 
 between December 1, 1917, and April 1, 1919, it is taxable under 
 the 1917 Law.i'''® Deeds in escrow become subject to stamp tax 
 upon delivery to the grantee. If delivered between December 1, 
 1917, and April 1, 1919, they are taxable under the 1917 Law ; if 
 delivered on or after April 1, 1919, they are taxable under the 
 Revenue Act of 1918.1" Deeds delivered after the incidence of 
 the tax must be stamped although they may have been dated, 
 executed and acknowledged prior thereto and even though de- 
 livered prior thereto to a third party for account of the grantee 
 named in the deed, if delivery by such party to the grantee is 
 made after the incidence of the tax."^ A conveyance of property 
 subject to an equity of redemption is taxable when made, not 
 when the time for the equity of redemption has expired.^™ 
 
 Consideration or Value. The tax is imposed upon the full 
 amount of consideration or value although payments may have 
 
 171 See p. 1239. See letter from treasury department dated May 27, 1918; 
 W. T. S. 1919, H 3717. 
 
 172 T. D. 2310; Home Title Insurance Company v. Keith, 230 Fed. 905. 
 
 173 Reg. 55 Rev., Art. 68; T. D. 2599. 
 
 174 Reg. 55 Rev., Art. 71 ; T. D. 2115. 
 
 175 T. D. 2115. 
 
 176 Reg. 55 Rev., Art. 72. 
 
 177 Reg. 55 Rev., Art. 73; T. D. 2115; Vol 2, T. D. (1898) No. 20,096. 
 
 178 T. D. 2042. 
 
 179 Reg. 65 Rev., Art. 78. 
 
1192 FEDERAL INCOME TAX 
 
 been made upon the installment plan prior to the incidence of the 
 tax.is" When the consideration for a conveyance of lands, tene- 
 ments or other real property is left open, to be fixed by future 
 contingencies, the actual value at the time of conveyance is the 
 measure of the tax upon the deed, instrument or writing whereby 
 the conveyance is made.isi Quit-claim deeds are taxable accord- 
 ing to the value of the interest conveyed.^^^ stock in a corpora- 
 tion is a valuable consideration for the transfer of real property, 
 and a deed conveying real estate to a corporation for such con- 
 sideration is taxable.183 
 
 The conveyance of real property in a reorganization from the 
 old corporation to the new organization in consideration of the 
 issue of new stock to the old corporation or to its stockholders 
 is subject to stamp tax on the basis of the value of the prop- 
 erty.184 
 
 A conveyance of real estate by co-owners to a corporation or- 
 ganized for convenience in handling the property, made in con- 
 sideration of the issue to them of the corporation's capital stock, 
 is subject to tax.^**° A deed from a corporation, the entire capital 
 stock of which is owned by another corporation, conveying real 
 estate to the latter in consideration of the payment by the 
 grantee of all obligations of the grantor is subject to tax.^^^ The 
 value of the interest in the property conveyed determines the 
 amount of the tax.i^T A conveyance of land in consideration of 
 life maintenance is taxable, the tax to be measured by the value 
 of the property or interest conveyed.i^s Where a deed states that 
 the transfer is made for a nominal consideration the tax must be 
 computed upon the actual value of the interest or property con- 
 veyed.iss Conveyances of realty, not in connection with a sale, to 
 trustees or other persons without consideration are not taxable-^*"^ 
 Taxes and assessments which have become a lien on real estate 
 by operation of statute and which are not paid at the time of sale 
 are deductible from the consideration in computing the stamp 
 
 180 T. D. 2279. 
 
 181 Reg. 55 Rev., Art. 67. 
 
 182 Reg. 55, Art. 82; T. D. 20,232. 
 
 183 Reg. 55, Art. 81. 
 
 184 Letter from treasury department dated February 26, 1920 ; W. T. S. 
 1921, 113567. 
 
 185 Reg. 55, Art. 101. 
 
 186 Reg. 55, Art. 107. 
 
 187 T. D. 2278. 
 
 188 Reg. 55, Art. 79. 
 
 189 T. D. 2115. 
 
 190 Reg. 55, Art. 95. 
 
THE STAMP TAX 1193 
 
 tax.i^i Where a parent company decided to dissolve some of its 
 subsidiaries and to take over their real property, deeds of con- 
 veyance having been prepared for a nominal consideration, no 
 actual consideration passing to the subsidiary companies, it has 
 been ruled that such deeds are not subject to stamp tax.^^a 
 
 Realty Sold. The law provides that deeds whereby any realty 
 sold shall be conveyed to another are taxable. Hence, it seems 
 that if the realty is not sold, no stamps need be affixed to the 
 deed. The word "sold" is used in its ordinary and popular mean- 
 iiig^i93 and imports the transfer of the absolute or general title 
 for a valuable consideration or price.^^* Deeds on an exchange of 
 property are, however, subject to tax which should in each case 
 be computed on the basis of the actual value of the interest on 
 the property conveyed, the amount of any pre-existing lien or 
 encumbrance which is not removed by the sale being deduct- 
 ible.^^s Deeds that are only confirmatory and which do not vest 
 title not already vested are not taxable.^^^ 
 
 Contracts for the sale of real property are not taxable unless 
 they vest title.is^ 
 
 The following kinds of deeds are also not taxable: (1) Quit- 
 claim deeds given for no consideration, or merely for the nominal 
 consideration of $1.00, for the purpose of correcting flaws in 
 title,i8S (2) partition deeds which are operative in defining boun- 
 dary lines or in showing by location the interests of the tenants- 
 in-common,i83 unless a consideration passes between the parties 
 by reason of one or more of them taking under the division a 
 share of real estate of greater value than his individual interest, 
 in which event stamp tax attaches to the deeds conveying such 
 greater shares, calculated upon the value of such considerationj^o" 
 (3) deeds of release,2<'i (4) deeds of trust,202 (5) deeds issued to 
 cover pure and bona fide gifts of property from husband to wife 
 
 191 Reg. 55, Art. 109. 
 
 192 Letter from treasury department dated April 18, 1919; W. T. S. 1919, 
 Tf3770. 
 
 1«3 See p. 1262. 
 
 194 Reg. 55 Rev., Art. 70. 
 
 195 Reg. 55 Rev., Art. 75; T. D. 2599; T. D. 2111. 
 
 196 Reg. 55 Rev., Art. 97; Circular No. 503, 2d revision. Compilation of 
 decisions for year 1899, p. 293. 
 
 197 Reg. 55 Rev., Art. 98. , 
 
 198 Reg. 55 Rev., Art. 82; T. D. 2115. 
 
 199 T. D. 2115. 
 
 200 Reg. 55 Rev., Art. 94. 
 
 201 Reg. 55 Rev., Art. 84; T. D. 2115. 
 
 202 Reg. 55 Rev., Art. 84; T. D. 2115. 
 
1194 FEDERAL INCOME TAX 
 
 or from parent to child, or from an individual to a municipality or 
 other political subdivision, or to the United States, wherein the 
 consideration named is "natural love and affection and $1.00," 
 "desire to promote public welfare and $1.00," or "$1.00 and other 
 valuable consideration,"^''^ (6) deeds not granting, assigning, 
 transferring or conveyiiig to the purchasers any lands, tene- 
 ments, or other realty, but only the right to sepulture or burial, to 
 erect monuments, etc.,^"* (7) deeds of reconveyance by an agent 
 to an undisclosed principal if no consideration, or a nominal con- 
 sideration of $1.00 only is given,205 (8) deeds executed by debtors 
 covering assignments of property to trustees to be held for the 
 benefit of creditors.^os (9) deeds given by a husband and wife to a 
 "straw man" who immediately executes a deed reconveying the 
 property to the husband or wife, if no valuable consideration, or 
 merely the nominal consideration of $1.00 is given, and likewise 
 the deeds of reconveyance,207 (10) deeds transferring title to 
 property to building and loan association for the purpose of secur- 
 ing a loan on the property so conveyed, which property is imme- 
 diately reconveyed to its owner, and likewise the deeds of re- 
 con veyancej^os (11) conveyances of property of a copartnership, 
 in the hands of receivers, back to the owners after administration 
 of the estate,2('9 (12) deeds by an executor to devisees, conveying 
 specific parcels of real estate, devised to them in common, unless 
 a consideration passes between the devisees by reason of some 
 of them taking a greater share in the real estate than that to 
 which entitled under the will, in which event tax attaches to the 
 deeds conveying such greater shares, and is calculated upon the 
 amount of value of such consideration,^!" (13) conveyances to a 
 trustee without valuable consideration or from a trustee to a 
 cestui que trust without valuable consideration,^" (14) a convey- 
 ance of real estate by a corporation without valuable considera- 
 tion to an owner of all its capital stock in consequence of its dis- 
 
 203 Keg. 65 Eev., Art. 88; T. D. 2115. 
 
 204 Reg. 55 Rev., Art. 87; T. D. 19,838. 
 
 205 T. D. 2115; Reg. 55 Rev., Art. 92. 
 
 206 R6g. 55 Rev., Art. 89 ; T. D. 2115. When, however, the trustee sells or 
 conveys such property either to the creditor, or any other person, the deeds 
 executed by him are taxable. Reg. 55 Rev., Art. 89 ; T. D. 2115. 
 
 207 Reg. 55 Rev., Art. 91 ; T. D. 2115. 
 
 208 Reg. 55 Rev., Art. 90; T. D. 2115. But deeds of building and loan as- 
 sociations are taxable. (Reg. 55, Art. 80.) 
 
 209 Reg. 55 Rev., Art. 93. 
 
 210 Reg. 55 Rev., Art. 102. 
 
 211 Reg. 55 Rev., Art. lOfe. 
 
THE STAMP TAX 1195 
 
 solution.212 Where an officer of a corporation purchases real 
 estate from the corporation, conveyance being first made to a 
 third party as part of the same transaction, the property is con- 
 veyed by the third party to the officer, the conveyance to the 
 third party is subject to tax, while the conveyance from the 
 third party is not subject to tax.^is 
 
 Conveyance of Dower. In states where common-law dower 
 still exists an instrument purporting to convey the inchoate right 
 of dower of a wife or the consummate right of dower of a widow, 
 prior to assignment of dower, is not subject to stamp tax; but 
 an instrument conveying the estate acquired by a widow upon 
 assignment of dower is subject to tax. Where by statute dower 
 has been abolished and a different interest in the husband's real 
 property conferred upon the wife in lieu thereof, the taxability 
 of an instrument purporting to convey such an interest prior to 
 its assignment will be determined by the nature of the wife's 
 interest, and the statutes and decisions of the particular state in 
 which the real estate is located must be consulted.^i* 
 
 Incumbrance on Property at the Time of Sale. The con- 
 sideration or value on which the tax is based is exclusive of the 
 value of any lien or incumbrance remaining thereon at the time 
 of sale. The words in italics were not contained in the former 
 law and were inserted to limit the exclusion to liens or incum- 
 brances other than purchase money mortgages. In determining 
 the amount of incumbrances upon real estate being transferred, 
 no consideration is to be given to new incumbrances placed upon 
 same at the time of, or after, the sale. Incumbrances placed on 
 the property in connection with and as a result of the sale or 
 transfer, as well as notes for deferred payments, cannot be de- 
 ducted in determining the amount on which the tax is calculated. 
 Only incumbrances which rest on the property before the sale 
 and which are not removed by the sale are to be taken into con- 
 sideration.215 
 
 Abstracts of Title. Abstracts of title are not taxable.^is 
 
 Contracts to Convey. A contract for the sale of real estate, 
 making provision for future delivery by deed, is not subject to 
 stamp tax.2" 
 
 212 Reg. 55 Rev., Art. 103. 
 
 213 Keg. 55 Rev., Art. 110. 
 
 214 Reg. 55 Rev., Art. 76. 
 
 215 Reg. 55 Rev., Art. 68; T. D. 2599. 
 
 216 Reg. 55 Rev., Art. 99. 
 
 217 Reg. 55 Rev., Arts. 83, 98; T. D. 2599; T. D. 2115. 
 
1196 FEDERAL INCOME TAX 
 
 Mining Deeds. Deeds conveying mines are taxable.^is a con- 
 veyance of a mine located on unpatented land is subject to taxa- 
 tion.219 This ruling was made under the 1898 Law. Under the 
 1914 Law, it was held by the Treasury Department in an informal 
 ruling that deeds to mining claims prior to the issue of the patent 
 were taxable upon transfer as conveyances of real property. The 
 tax should be computed upon the interest in the property con- 
 veyed which would be the market value of the stock issued there- 
 for, or if it had no market value, the cash value of the mining 
 claim.^^" 
 
 Conveyance by Mortgagor to Mortgagee. A conveyance by 
 a defaulting mortgagor to the mortgagee in consideration of the 
 cancellation of mortgage debt is subject to tax calculated upon 
 the amount of the mortgage debt plus unpaid accrued interest.^^i 
 
 Timber Deeds. Standing timber is ordinarily held to be real 
 estate. The question of whether or not a particular instrument 
 of grant is taxable depends on whether or not the subject matter 
 of the grant is real estate. What is real estate is determined by 
 the law of the state in which the property conveyed is situated.222 
 It is held that a timber deed transferring timber upon a tract of 
 land is a deed of realty and as such is taxable, unless timber is 
 not real estate under the laws of the state in which the property 
 is located."^ 
 
 Leases. Leases of real property are not subject to tax.^^* 
 Operating leases of oil and mining properties, long-term mining 
 leases, etc., which in themselves convey no title to or interest in 
 real property, are exempt from taxation.225 
 
 Options. No tax is imposed upon an option for the purchase 
 of real property .^^^ 
 
 Deeds Given by and to United States and Political Subdi- 
 visions. Deeds executed by the United States or by any state, 
 county, town or other municipal corporation, are not taxable.^^^ 
 Deeds executed by a state, county, or municipal officer conveying 
 
 21s Reg. 55 Rev., Art. 77. 
 
 219 Vol. 1, Treas. Dec. (1899), No. 20,986. 
 
 220 Letter from treasury department dated August 3, 1916. 
 
 221 Reg. 55 Rev., Art. 104. 
 
 222 Reg. 55 Rev., Art. 76. 
 
 223 Letter from treasury department dated Feb. 15, 1918; W. T. S. 1919, 
 r3714. 
 
 224 Reg. 55 Rev., Art. 100. 
 
 225 T. D. 2155; T. D. 2599. 
 
 226 Reg. 55 Rev., Art. 83; T. D. 2115. 
 
 227 T. D. 2283. See Revenue Act of 1921, § 1101. 
 
THE STAMP TAX 1197 
 
 realty sold for non-payment of taxes are not subject to tax.228 
 Deeds conveying to a state real estate purchased by it are not 
 subject to tax.229 A conveyance of real estate sold to the United 
 States Government is subject to tax.^^o 
 
 Deeds Given by Officers of Courts. Stamps should be at- 
 tached to masters' deeds made pursuant to decrees of the United 
 States District Courts. The execution of such conveyances is not 
 a judicial function, the title to the land being conveyed to the 
 purchaser at the foreclosure sale through the master instead of 
 the defendant himself making the sale. The cost of such stamps 
 should be taxed as a part of the cost of the case.^^i The stamp 
 tax on a deed of real property executed by a sheriff, referee, or 
 commissioner to a mortgagee who bids in a property at a fore- 
 closure to satisfy the mortgage should be computed upon the 
 amount bid for the property, plus the costs if paid by the pur- 
 chaser.232 Deeds executed by masters in chancery, sheriffs, 
 clerks of courts, etc., to cover transfers of property sold under a 
 foreclosure or execution are subject to tax. The grantee or ven- 
 dee may be required to pay the tax or cost of revenue stamps may 
 be included in the expense of the foreclosure sale.^^s Judgments 
 or decrees of the State court operating to transfer title to real 
 estate are not taxable as conveyances.^^* 
 
 Conveyance to or by Alien Property Custodian. A con- 
 veyance of realty to the Alien Property Custodian in compliance 
 with a demand made by him under authority of the Trading with 
 the Enemy Act is held not subject to the stamp tax for the 
 reason that such a conveyance is the performance of a manda- 
 tory obligation, not voluntarily assumed, but imposed by the par- 
 amount authority of the government, and for the further reason 
 that it is not a conveyance of "realty sold." A conveyance by 
 the Alien Property Custodian of realty sold by him under author- 
 ity of the Trading with the Enemy Act is held not to be subject to 
 the stamp tax for the same reason, and for the further reason 
 
 228 Reg. 55 Rev., Art. 85. 
 
 229 Reg. 55 Rev., Art. 86. 
 
 230 Reg. 55 Rev., Art. 106. 
 
 231 T. D. 2111; T. D. 2253; Crawford v. New South Farm and Home Co., 
 231 Fed. 999. This case was decided under the 1914 Law and it was held 
 that the decision in Farmers Loan and Trust Company v. Council Bluffs 
 Gas and Electric Company, 90 Fed. 806, decided under the 1898 Law, was 
 applicable. 
 
 232 Reg. 55 Rev., Art. 69. 
 
 233 Reg. 55 Rev., Art. 74. 
 
 234 Reg. 55 Rev., Art. 108. 
 
1198 FEDERAL INCOME TAX 
 
 that it is an instrument issued by the United States in the exer- 
 cise of a strictly governmental function.^ss 
 
 Property in a Foreign Country. A deed conveying real 
 estate lying in countries which are not United States territory is 
 not subject to tax although the grantor and grantee may both 
 be citizens and residents of the United States.^se 
 
 Debentures. The term "debenture" ordinarily, although not 
 necessarily, refers to an unsecured bond.^^v gee Bonds of Indebt- 
 edness. 
 
 Drafts. Drafts drawn at sight or on demand are not tax- 
 able.238 But drafts drawn otherwise than at sight are generally 
 taxable. The taxability of a draft is determined by the face or 
 form of the instrument and not by any understanding between 
 the maker and the drawee.^^a For the rate of tax and a discus- 
 sion of the rulings regarding taxable drafts see Promissory 
 Notes. 
 
 Entry for Withdrawal of Goods or Merchandise from Customs 
 Bonded Warehouse. The tax on instruments of this character is 
 50 cents.2« Under the 1914 Law it was held that withdrawals 
 for exportation were not taxable in view of the constitutional 
 provision prohibiting taxation upon exports.^^i It was also held 
 that where entries were filed in duplicate, triplicate, etc., a stamp 
 was required on the original copy only .2*2 
 
 Entry of Goods, Wares or Merchandise at Customhouse. The 
 law provides that entry of any goods, wares or merchandise at 
 any customhouse, either for consumption or warehousing, shall 
 be taxed as follows : Not exceeding $100 in value, 25 cents ; ex- 
 ceeding $100 and not exceeding $500 in value, 50 cents ; exceeding 
 $500 in value, one dollar.^^s Customhouse entries made by United 
 States officials traveling as such on Government funds are not 
 taxable. Likewise entries made by all representatives of foreign 
 countries in their official capacity are by comity exempt.^** 
 
 235 T. D. 2786. 
 
 230 Reg. 55 Rev., Art. 96; Volume 2, T. D. (1898) No. 21,562. This was 
 also the rule under the act of October 22, 1914. 
 
 237 T. D. 2713. 
 
 238 Revenue Act of 1921, Title XI, Schedule A-5; Reg. 55 Rev., Art 33. 
 
 239 See p. 1217. 
 
 240 Revenue Act of 1921, Title XI, Schedule A-8; Reg. 55 Rev., Art. 112. 
 
 241 T. D. 35,007. See U. S. v. Hvoslef, 237 U. S. 1, and paragraph on Con- 
 stitutionality of Stamp Taxes. 
 
 242 T. D. CCustoms) 35,040. See Wright v. Michigan Central Co., 130 Fed. 
 843. 
 
 243 Revenue Act of 1921, Title XI, Schedule A-7. 
 
 244 Reg. 55 Rev., Art. 111. It vsras so held under the 1914 Lavir. (T. D. Cus- 
 toms, 3572.) 
 
THE STAMP TAX 1199 
 
 Foreign Insurance Policies. A tax of 3 cents on each dollar 
 or fractional part thereof of the premium charged is imposed on 
 each policy of insurance or certificates, binder, covering, note, 
 memorandum, cablegram, letter or other instrument by whatever 
 name called whereby insurance is made or renewed upon property 
 within the United States (including rents and profits) against 
 peril by sea or on inland waters or in transit on land (including 
 trans-shipments and storage at termini or way points) or by 
 fire, lightning, tornado, windstorm, bombardment, invasion, in- 
 surrection or riot, issued to or for or in the name of a domestic 
 corporation or partnership or an individual resident of the United 
 States by any foreign corporation or partnership or any individ- 
 ual not a resident of the United States, when such policy or other 
 instrument is not signed or countersigned by an officer or agent 
 of the insurer in a state, territory, or district of the United 
 States within which such insurer is authorized to do business. 
 Policies of re-insurance are exempt from this tax-*^ 
 
 Definitions. The following terms are defined as indicated 
 below: (a) "insurer" includes any person, copartnership, asso- 
 ciation, or corporation transacting the business of insurance, and 
 also any agent or broker, wherever applicable; (b) "insurance" 
 includes every manner of providing indemnity against risks upon 
 property of any description (including rents and profits) from 
 peril by sea or inland waters or in transit on land (including 
 trans-shipments and storage at termini or way points) or by fire, 
 lightning, tornado, windstorm, bombardment, invasion, insur- 
 rection, or riot ; (c) "policy of insurance" includes any instrument 
 by whatever name the same is called whereby insurance is made 
 or renewed by the insurer, as policies, binders, certificates, open 
 policies, covering notes, memoranda, cablegrams or letters; (d) 
 "other instrument" includes any instrument by which insurance 
 is made or renewed, i. e., by which the relationship of insurer 
 and insured is created or evidenced, whether it be a letter of ac- 
 ceptance, cablegram, or other instrument by whatever name 
 called ; (e) the expression "whereby insurance is made or re- 
 newed" includes any evidence or confirmation of a binding con- 
 tract of insurance whereby a risk is assumed by the insurer ; (f ) 
 "issue" means the act whereby insurance is made or renewed 
 or in any manner becomes a binding contract effective for in- 
 surance ; (g) "premium charged" means the total premium pay- 
 able during the life of a contract of insurance and shall include 
 any additional assessment or charge in the nature of a premium 
 which may be assessed or charged during the life of a contract of 
 
 245 Revenue Act of 1921, Title XI, Schedule A-13. 
 
1200 FEDERAL INCOME TAX 
 
 insurance, whether payable in one sum or in installments and 
 however paid (and though never paid if the contract of insurance 
 be delivered and accepted or otherwise becomes binding upon the 
 insurer) ; (h) "premium" means the agreed price for assuming 
 and carrying the risk. It includes all that is received by the un- 
 derwriter therefor and is in fact the total consideration receivable 
 for underwriting the risk, whether in one sum or in installments, 
 during the life of the policy; (i) "United States" includes the 
 States of the United States, the Territories of Alaska and 
 Hawaii, and the District of Columbia.^^o 
 
 Effective Date. Policies of insurance which are issued and 
 accepted on and after April 1, 1919y regardless of when the in- 
 surance thereunder becomes effective, are subject to tax; but 
 policies which were issued and accepted prior to April 1, 1919, 
 if issued in the usual course of business and according to general 
 custom and not for the purpose of evading the tax, are not sub- 
 ject to tax.2« 
 
 Persons Liable to Tax. The insurer, the agent, or broker, 
 effecting, accepting, placing or soliciting the insurance, and also 
 the insured are each liable for the tax."^s 
 
 What Instruments Must Bear a Stamp. The stamp must 
 be affixed to the first instrument by which the insurance is made 
 or renewed, i. e., by which the relationship of insurer and in- 
 sured is created or evidenced, whether it be a letter of accept- 
 ance, cablegram, or other instrument by whatever name called. 
 In the case of so-called "open policies" or "open cargo covers," 
 where the amount of the premium is not definitely determined at 
 time of issuance, the stamps may be affixed to the receipts for 
 monthly or other payments if proper notation be made upon 
 such receipts identifying the original instruments to which they 
 apply. In the case of a binder or other instrument whereby in- 
 surance is made or renewed, issued without agreement as to 
 the premium to be charged, stamps must be affixed when the 
 amount of the premium is determined.^*^ 
 
 Insured to Retain Policy for Two Years. The person 
 having control or possession of a policy of insurance or other 
 instrument to which documentary stamps shall be affixed accord- 
 ing to law shall retain such instrument for the period of two 
 years from the date of issuance thereof, for the purpose of 
 
 246 Reg. 55 Rev., Art. 156. 
 
 247 See Reg. 55 Rev., Art. 156. 
 
 248 Reg. 55 Rev., Art. 157; Reg. 55 Rev., Art. 158. 
 
 249 Reg. 55 Rev., Art. 159. 
 
THE STAMP TAX 1201 
 
 enabling internal revenue officers to verify the fact that payment 
 of the full amount of tax due thereon has been made.^so 
 
 Subsequent Instrument Shall Indicate Prior Document 
 TO Which Stamps Are Affixed. Any policy of insurance or 
 other instrument which is subsequent to or which confirms a 
 contract of insurance that is created or evidenced by any prior 
 instrument by which insurance was originally made or renewed, 
 should bear a notation designating such prior instrument (here- 
 inafter referred to as the original instrument) and showing that 
 the proper stamps have been affixed thereto and cancelled. By 
 this is meant that, if a letter, cablegram, or other instrument 
 is so worded that it establishes or evidences a contractual rela- 
 tion between the insurer and the insured, executed or executory, 
 by which insurance is made or renewed, or by which the relation- 
 ship of insurer and insured is created or evidenced, such instru- 
 ment shall be construed as the original instrument, and must 
 have stamps of the proper amount affixed to it, and any policy 
 or other instrument which is subsequent to or which confirms 
 such original instrument must bear thereon the notation above 
 indicated.251 
 
 Subsequent Instruments That Must Be Stamped. In case 
 an instrument subsequent to the original instrument provides 
 for the payment of a premium greater than the premium pro- 
 vided for in the original instrument, such subsequent instrument 
 must have affixed thereto stamps equal to the tax imposed upon 
 the additional premium charged therein; also such subsequent 
 instrument must bear notation of the stamps affixed to the orig- 
 inal instrument. The same rules apply to any riders, endorse- 
 ments, or other forms attached to or forming a part of any 
 original or subsequent instrument where such rider, endorse- 
 ment, or other form provides for the payment of a premium 
 greater than theretofore charged.252 
 
 Unstamped Instruments and Those Bearing No Notation 
 OF Stamping. Failure (a) to stamp the original instrument by 
 which insurance is made or renewed, whether it be a letter of 
 acceptance, qablegram, or other instrument by whatever name 
 called, or (b) to indicate' that such original instrument was 
 properly stamped on any policy or other instrument which is 
 subsequent to or which confirms the contract of insurance that 
 is created or evidenced by any prior instrument by which insur- 
 
 250 Reg. 55 Rev., Art. 160. 
 
 251 Reg. 55 Rev., Art. 161. 
 
 252 Reg. 55 Rev., Art. 162. 
 
1202 FEDERAL INCOME TAX 
 
 ance was made or renewed, will be held to raise a presumption 
 of an intent to evade the payment of tax.253 
 
 Measure of Tax. The tax is measured by total premium paid, 
 including any additional assessment or charge in the nature of 
 a premium on each policy of insurance or other instrument by 
 which insurance is made or renewed, and is at the rate of 3 cents 
 on each dollar or fractional part thereof of such premium; for 
 example, upon a premium charge of $10.10 the tax imposed is 
 33 cents, being 3 cents for each dollar and 3 cents for the frac- 
 tional part of a dollar.^s* 
 
 Insurance on Commodities Exported. No tax is imposed 
 upon the premiums charged for insurance issued to cover com- 
 modities which are in the actual process of exportation and which 
 have begun their voyage or preparation for the voyage from the 
 United States. If a policy or other instrument is issued covering 
 both export and non-export property, the tax will be computed 
 upon the full amount of the premium charged, unless such in- 
 strument clearly indicates the property for export and the pre- 
 mium charged for the insurance thereon.^ss 
 
 Movable Property. Movable property such as rolling stock 
 of railroads, ships, vessels, barges, and other similar movable 
 property, is held to be property within the United States if the 
 principal place of business of the corporation or partnership, own- 
 ing and controlling the same, is located within the United States, 
 or in the case of an individual, if he resides in the United States, 
 unless such property is permanently located without the United 
 States for the purpose of ordinary use. The nation of registry of 
 a vessel has no bearing upon the location of the property in the 
 same.258 
 
 Credits and Refunds. In case a policy of insurance or other 
 instrument is issued and accepted by the insured, and afterwards, 
 for any reason, such insurance does not become effective, the 
 value of the stamps affixed thereto will be refunded upon a proper 
 claim presented to the collector.257 
 
 Penalties. In addition to other penalties provided by the 
 Revenue Act of 1921,258 there is imposed a penalty of double the 
 amount of the tax upon (a) any person to or for whom or in 
 whose name any such policy or other instrument is issued, or (b) 
 
 253 Reg. 55 Rev., Art. 163. 
 
 254 Reg. 55 Rev., Art. 164. 
 
 255 Reg. 55 Rev., Art. 165. 
 
 256 Reg. 55 Rev., Art. 166. 
 
 257 Reg. 55 Rev., Art. 167. 
 
 258 1 1102. 
 
THE STAMP TAX 1203 
 
 any solicitor, agent, or broker acting for or on behalf of such 
 person in the procurement of any such policy or other instrument, 
 who fails to affix the proper stamps to such policy or other in- 
 strument, with intent to evade the tax.^^g 
 
 Returns. No monthly return or monthly statement showing 
 a list of policies or other instruments by which insurance was 
 made or renewed upon property located in the United States by a 
 foreign corporation or partnership or non-resident individual is 
 now required from any person to or for whom or in whose name 
 such policy or other instrument is issued, or from the solicitor 
 or broker acting directly or indirectly for or on behalf of such - 
 person, but each person, solicitor, or broker accepting, placing, 
 or soliciting such policy or other instrument is required to keep 
 a record of each policy or other instrument subject to the tax 
 imposed by this subdivision by which he has directly or indirectly 
 made, placed, solicited, or assisted in the making or renewal of, 
 such insurance, or for which he has paid or received compensa- 
 tion, and shall be prepared to furnish full information to the 
 Commissioner at any time upon demand.^s" 
 Leases. Leases are not taxed under this law.^^i 
 Mortgages. Mortgages are not taxed under this law. 
 Mutual Ditch and Irrigating Companies. Stocks and bonds 
 issued by mutual ditch or irrigation companies are not taxable.^^s 
 The law seems to exempt stock of such companies from the tax 
 on the issue thereof,^^^ and also from the tax on sales or trans- 
 fers. The exemption does not extend to notes or any other in- 
 struments except certificates of stock and bonds. 
 
 Parcel-Post Packages. Parcel-post packages are not subject 
 to stamp tax under the Revenue Act of 1921. For a discussion of 
 the taxation thereof under the 1918 Law see the 1920 edition of 
 this book. 
 
 Passage Tickets. The tax on passenger tickets is only imposed 
 on tickets sold or issued in the United States for passage by any 
 vessel to a port or place not in the United States, Canada or 
 Mexico.264 Such tickets are required to be stamped whether they 
 are one-way or round-trip. No tax is imposed on tickets costing 
 $10 or less. The rate is one dollar if the cost of the ticket does 
 
 259 Reg. 55 Rev., Art. 168; Revenue Act of 1921, Title XI, Schedule A-13. 
 
 260 Reg. 65 Rev., Art. 166. 
 
 261 Reg. 55, Art. 100. 
 
 262 Revenue Act of 1921, § 1101. 
 
 263 See Reg. 40 Rev., Art. 5. 
 
 264 Passage tickets sold or issued in the United States for passage by any 
 vessel to a part or place in Newfoundland are subject to tax (Reg. 55 Rev., 
 Art. 119). 
 
1204 FEDERAL INCOME TAX 
 
 not exceed $30 ; $3 if the cost 'of the ticket exceeds $30 and does 
 not exceed $60, and $5 if the cost of the ticket exceeds $60,265 
 Where a single ticket is issued for transportation for more than 
 one passenger the ticket, coupon, or prepaid order must be 
 stamped at the proper rate for each passenger based on the num- 
 ber of passengers, and the total amount paid for the transporta- 
 tion .266 It is the duty of the person selling the ticket to affix the 
 stamp to the ticket or paper which evidences the sale and cancel 
 the stamp.26'7 
 
 Tickets Subject to Tax. Passage tickets issued to private 
 individuals travehng on vessels operated privately or by any Gov- 
 ernment are taxable.268 Passage tickets to Porto Rico or the 
 Philippine Islands are taxable.269 Passage tickets issued in the 
 United States to ports not in the United States, Canada or Mexico 
 on exchange orders purchased in Canada or Mexico in connection 
 with through transportation from points in Canada or Mexico 
 are subject to tax.2™ Passage tickets issued in the United States 
 to ports not within the United States, Canada or Mexico on ex- 
 change orders purchased other than in the United States, Canada 
 or Mexico, are subject to tax.2''i 
 
 Tickets Not Subject to Tax. Prepaid orders for passage 
 tickets are not subject to tax.2'^2 Passage tickets issued to 
 Hawaii or Alaska are not taxable.^'^^ Passage tickets sold in the 
 United States from ports not within the United States, Canada 
 or Mexico, to a port in the United States, Canada or Mexico, are 
 not subject to tax unless sold as a part of a round trip or through 
 ticket from a port in the United States, Canada or Mexico.2'^* 
 
 Passage Tickets Issued to Federal and State Officials 
 and Foreign Representatives. Passage tickets issued to United 
 States Government officials, employees, military and naval forces, 
 as well as officials of states and their political subdivisions, 
 traveling in the course of their duty as such on vessels operated 
 by private parties or by any government are not taxable when 
 the amount of the passage is paid for by the United States 
 Government, state or political subdivision thereof. Ambassa- 
 
 265 Revenue Act of 1921, Title XI, Schedule A-9. 
 
 266 T. D. 2067. 
 
 267 T. D. 2067. 
 
 268 Reg. 55 Rev., Art. 114. 
 
 269 Reg. 55 Rev., Art. 115. 
 
 270 Reg. 55 Rev., Art. 118. 
 
 271 Reg. 55 Rev., Art. 119. 
 
 272 Reg. 55 Rev., Art. 117. 
 
 273 Reg. 55 Rev., Art. 116. 
 
 274 Reg. 55 Rev., Art. 120. 
 
THE STAMP TAX 1205 
 
 dors, ministers and properly accredited diplomatic represent- 
 atives of any foreign government to the United States are ex- 
 empt from the payment of taxes on such passage tickets. All 
 other foreign agencies not specifically mentioned above are sub- 
 ject to the tax.^'^s 
 
 Playing Cards. A tax of 8 cents per pack is imposed upon 
 every pack of playing cards containing not more than fifty-four 
 cards, manufactured or imported, and sold or removed for con- 
 sumption or sale. This rate became effective on April 1, 1919.2'^® 
 It has been held that the statute imposing a tax on playing cards 
 requires that each pack of cards shall show a stamp denoting a 
 payment of the tax, and a dealer, therefore, may not reassemble 
 the cards from the packs on which the stamp tax has been paid 
 and then offer the reassembled packs for sale in new wrappings 
 without restamping.2^^ Every manufacturer or importer of play- 
 ing cards will be required to render a monthly report, und§r 
 oath, on Form 749, in duplicate, showing the number of cards 
 on hand at the first of the month, the number manufactured or 
 received, likewise the number withdrawn, tax paid, or free, of 
 tax for export or use of the United States, and the number on 
 hand at the end of the inonth, together with like information rela- 
 tive to the value of stamps received and used during the month. 
 The report should be rendered on the last day of the month, or 
 on or before the 10th day of the succeeding month. Blank re- 
 turns. Form 749, may be procured from coUectors.^^s 
 
 Powers of Attorney. Powers of attorney are taxable instru- 
 ments under this law if they are such that they grant authority 
 to do or perform some act for or in behalf of the grantor, which 
 authority is not otherwise vested in the grantee. The tax at- 
 taches to or is imposed on the instrument itself and is not meas- 
 ured by the number of persons joining therein.^''^ A power of 
 attorney containing a power of substitution requires only one 
 stamp.2*° Where the original power of attorney has been prop- 
 
 275 Reg. 55 Rev., Art. 113; Vol. 2, T. D. (1898), No. 20,196. 
 
 2T6 Revenue Act of 1918, Title XI, Schedule A-13; Revenue Act of 1921, 
 Title XI, Schedule A-12. The Act of August 28, 1894, imposed a tax of 2 
 cents per pack on playing cards. The Act of October 3, 1917, imposed an 
 additional tax of 5 cents per pack, or a total of 7 cents on each pack. The 
 1918 Law amended the former laws and provided a tax of 8 cents per pack, 
 being the same rate as provided by the present law, as indicated in the text 
 above. (T. D. 2817.) 
 
 277 U. S. V. Neustaedter, 149 Fed. 1010; Reg. 55 Rev., Art. 149. 
 
 278 T. D. 2817. 
 
 279 Revenue Act of 1921, Title XI, Schedule A-11. Reg. 55 Rev., Art. 130. 
 
 280 T. D. 2134. 
 
1206 FEDERAL INCOME TAX 
 
 erly stamped and a copy of it has been printed on a card (Form 
 272) provided by the Government, and the card is filed in the 
 executive departments of the Government or with a collector, 
 such copy is not subject to tax.^si The rate of tax on powers of 
 attorney is 25 cents. The law expressly provides that no stamps 
 shall be required on any papers necessary to be used for the 
 collection of claims from the United States or from any state for 
 pensions, back pay, bounty or for property lost in the military 
 and naval service.^ss Powers of attorney required in bankruptcy 
 cases are also expressly exempted.^s^ Powers of attorney con- 
 tained in the application of those who become members of or 
 policyholders in mutual insurance companies doing business on 
 the inter-insurance or reciprocal indemnity plan through an at- 
 torney in fact, are declared by the law to be exempt.^s* The 
 powers of attorney enumerated in the paragraphs immediately 
 following are also exempt. 
 
 Warrant op Attorney in a Lease. A warrant of attorney, 
 embodied in a lease is not taxable.^ss 
 
 Authorizing Federal Official to Sell United States 
 Bonds in Case of Default. Powers of attorney given by per- 
 sons who deposit United States Liberty bonds or other bonds of 
 the United States as security in lieu of surety or sureties on penal 
 bonds under the provisions of the Revenue Acts of 1918 and 
 1921, authorizing the official having authority to approve such 
 penal bonds to collect or sell such United States bonds so de- 
 posited in case of any default in the performance of any of the 
 conditions or stipulations of such penal bonds, are not subject 
 to the stamp tax.^s^ 
 
 Authorizing Officer of Federal Reserve Bank to Assign 
 United States Bonds Deposited as Security. A power of at- 
 torney executed by a bank authorizing a designated officer of a 
 Federal Reserve Bank to assign United States bonds deposited 
 with the Federal Reserve Bank and designed to protect it in 
 event of default in payment of a loan is not taxable. 
 
 281 Reg. 55, Art. 145. 
 
 282 Revenue Act of 1921, Title XI, Schedule A-11. 
 
 283 This express exemption seems to have been introduced in the 1917 Law 
 as a result of the decisions in the cases of In re Hawley, 220 Fed. 372, which 
 held that a general letter of attorney in bankruptcy was taxable under the 
 1914 Law, and In re Capitol Trading Company, 229 Fed. 806, which held 
 bankruptcy powers of attorney taxable under the 1914 Law. 
 
 284 Revenue Act of 1921, Title XI, Schedule A-11. 
 
 285 Reg. 55 Rev., Art. 141. 
 
 286 Reg. 55 Rev., Art. 147. 
 
THE STAMP TAX 1207 
 
 Powers of attorney given by persons who deposit United 
 States Liberty bonds or other bonds of the United States as se- 
 curity in lieu of surety or sureties on penal bonds under the pro- 
 visions of the Revenue Acts of 1918 and 1921^87 authorizing the 
 officials having authority to approve such penal bonds to collect 
 or sell such United States bonds so deposited in case of any de- 
 fault in the performance of any of the conditions or stipulations 
 of such penal bonds, are not subject to the stamp tax.^ss 
 
 Authorizing Deputy to Have Access to Safe. A power of 
 attorney authorizing a deputy to have access only to safe or 
 safety deposit box is not subject to tax, but a power of attorney 
 to have access and control over its contents is subject to tax.^^® 
 
 Executed or Accepted in Foreign Country. A power of 
 attorney executed and mailed within the United States to a for- 
 eign point is subject to tax, but a power executed in a foreign 
 country and mailed there to an agent in the United States is not 
 subject to tax.^so 
 
 Formal Powers of Attorney. Powers of attorney which are 
 merely formal and grant no authority which is not otherwise 
 vested in the grantee are not taxable. Thus, it has been held that 
 no tax is imposed upon powers of attorney in the following cases : 
 
 Contained in Assignments for Valuable Consideration, 
 Conferring No Authority Upon Assignee Not Implied by 
 THE Assignment, Not Taxable. An assignment, for a valuable 
 consideration, of debts, wages, mortgages, bond, etc., ordina- 
 rily transfers to the assignee all the rights of the assignor and the 
 remedies necessary for their enforcement, and the assignee ac- 
 quires no further rights by the means of a power of attorney 
 clause in the assignment than are conveyed by the instrument 
 itself, and such pro forma power of attorney is therefore not 
 taxable.291 
 
 Assignment of Insurance Policies. No stamp tax is im- 
 posed upon the power of attorney contained in a transfer by as- 
 signment, absolute or as collateral security, of an interest in a 
 contract of insurance, if the power of attorney grants authority 
 to do or perform only such acts for or in behalf of the assignor 
 as are otherwise vested in the assignee.292 
 
 287 § 1320. 
 
 288 Reg. 55 Rev., Art. 147. 
 
 289 Reg. 65 Eev., Art. 146. 
 
 290 Reg. 55 Rev., Art. 142. 
 201 Reg. 55 Rev., Art. 137. 
 
 292 Reg. 55 Rev., Art. 134; T. D. 2599. 
 
1208 FEDERAL INCOME TAX 
 
 To Pay Poll Taxes. Powers of attorney issued in accordance 
 with the provisions of the state statutes authorizing a person to 
 pay a poll tax of an individual are not required to be stamped.^s^ 
 
 Power of Sale. The power of sale generally embodied in a 
 mortgage, real or chattel, authorizing and empowering the mort- 
 gagee himself upon default to make a public sale of the property 
 affected and to convey the title to the purchaser at such sale, free 
 from all rights or equity of redemption, thus avoiding the neces- 
 sity of resorting to the courts for foreclosure, differs from a 
 power of attorney in many respects, one of which is that the 
 latter always creates an agency or a representative relation, 
 whereas a mortgagee under a power of sale acts on his own be- 
 half and for his own benefit. Such power of sale is not taxable 
 as a power of attorney .^s* 
 
 Authority to Secretary of Corporation to Transfer 
 Stock. An instruinent authorizing the secretary to transfer 
 stock on the books of a corporation is not taxable as a power 
 of attorney, but an instrument appointing an attorney in fact 
 to transfer stock on the books of a corporation is taxable.^^s 
 
 Pro Forma Power of Attorney to Transfer Bonds or 
 Stocks on Books of Corporation, Printed on Bond or Stock 
 Certificate. The pro forma power of attorney to transfer 
 bonds or stocks on the books of a corporation, embodied in the 
 assignment printed on the back of the bond or stock certificate, is 
 not subject to tax.^ae 
 
 Authorizing Vendee of Shares of Stock to Transfer 
 Same. A power of attorney by which a person executing the in- 
 strunjent sells, assigns and transfers shares of stock and appoints 
 the vendee agent for the transfer is not subject to the tax.^^'^ 
 
 Granted by Corporation. Where a corporation by resolution 
 of its Board of Directors has empowered an officer thereof to sell, 
 assign or transfer stock or bonds standing in the name of the cor- 
 poration, or to perform any act in the name of the corporation, 
 such authority is not taxable as a power of attorney for the rea- 
 son that it is necessary for a corporation to perform its corpo- 
 rate acts through one of its officers. If, however, a person other 
 than an officer of the corporation acting in his official capacity 
 is given this authority, the power of attorney so granted is tax- 
 
 293 T. D. 2269. 
 
 294 Reg. 55 Rev., Art. 33; T. D. 2196. 
 
 295 Reg. 55 Rev., Art. 138. 
 
 296 Reg. 55 Rev., Art. 139; T. D. 2085; T. D. 2134. 
 29T Reg. 55 Rev., Art. 144. 
 
THE STAMP TAX 
 
 12i09 
 
 able.298 A general power of attorney granted by a Board of 
 Directors to a person other than an officer of a corporation acting 
 in his oflScial capacity for the purpose of representing the cor- 
 poration in transactions of a like kind and nature, such as con- 
 veying land or acknowledging deeds, is considered by the Treas- 
 ury Department as specific authority for each individual trans- 
 action, and a revenue stamp is required on each instrument 
 executed under the power of attorney.^^^ 
 
 Judgment Notes. Where judgment notes contain a clause 
 authorizing any attorney at law to confess judgment in favor of 
 the holder of the note, such authorization is held not taxable as a 
 power of attorney. The instrument is held to be a warrant of 
 attorney instead of a power of attorney .2'"' 
 
 From Corporations to Resident Agents. Powers of attor- 
 ney executed by corporations to resident agents authorizing the 
 latter to accept service of process are taxable.^oi 
 
 To Sell or Transfer Government Bonds. A power of attor- 
 ney to sell or transfer Government Bonds is taxable.^os 
 
 To Sell, etc., Shares of Capital Stock. A power of attor- 
 ney to sell, assign and transfer shares of capital stock is subject 
 to tax unless it is given in connection with a deposit of the 
 stock as security for a loan.^os 
 
 When Tax Accrues. The tax on a power of attorney is due 
 when the instrument is executed and delivered^ and not when 
 the power is exercised.^"* Delivery includes depositing the in- 
 strument in the mails. Powers of attorney executed and de- 
 livered prior to April 1, 1919, are not taxable even though used 
 subsequent to that date, except such as are taxable under the 
 1917 Law.305 
 
 Produce, Sales of, on Exchange. The tax is imposed upon (a) 
 sales of, (b) agreements of sale, and (c) agreements to selP"^ 
 
 298 Reg. 55 Rev., Art. 131. 
 
 299 Reg. 55 Rev., Art. 132. 
 
 300 Treat v. Tolman, 113 Fed. 892; Reg. 55 Rev., Art. 140; T. D. 2081. 
 
 301 Reg. 55 Rev., Art. 135. 
 
 302 Reg. 55 Rev., Art. 136. 
 
 303 Reg. 55 Rev., Art. 143. 
 
 304 Reg. 55 Rev., Art. 129; T. D. 2134. 
 
 305 Reg. 55 Rev., Art. 148. 
 
 306 See Treat v. White, 181 U. S. 264, and note 62. The term "sale" or 
 ■'contract of sale" includes all sales, or agreements of sale, or agreements 
 to sell, including so-called transfers or "scratch sales" ; the term "agreement 
 of sale," or "agreement to sell," includes options, calls in "puts and calls," 
 offers, indemnities, and privileges. (Reg. 40 Rev., Art. 33.) 
 
1210 FEDERAL INCOME TAX 
 
 for future delivery^o^ any product or merchandise at or under 
 the rules or usages of^os any Exchange or Board of Trade, or 
 other similar place.^o^ In a case arising under the 1914 Law it 
 was held that offers to sell grain made subject to deferred ac- 
 ceptance, only a small percentage of which developed into sales 
 and on which the brokers received only $10 for each ten thou- 
 sand bushels sold, were taxable on the basis of the total price on 
 which the seller agreed to sell rather than the basis of what 
 the buyer was to receive; and also that the tax was imposed on 
 each sale or agreement to sell any grain, though during the day 
 several distinct and separate sales were made of the same grain 
 and at the close of the day the only memoranda made showed 
 a transfer from the original seller to the last buyer .^lo So-called 
 transferred or scratch-sales are no longer taxed, being ex- 
 pressly stated not to be included.^i^ Neither are pass-outs sub- 
 ject to tax.312 No bill, memorandum, agreement or other evi- 
 dence of a sale, or agreement of sale, or agreement to sell, in 
 case of cash sales of products or merchandise for immediate or 
 prompt delivery which in good faith are actually intended to be 
 delivered are subject to this tax. When the seller of commodities 
 subject to this tax has paid the tax, he may transfer his con- 
 tracts to a clearing house without paying a tax on such trans- 
 fer if the transfer does not vest any beneficial interest in such 
 clearing house association, but is made for the sole purpose of 
 enabling the clearing house association to adjust and balance 
 the accounts of its members on their several contracts. The 
 
 307 The act of October 22, 1914, provided for a tax on agreements either 
 for present or future delivery but made an express exemption to cover cases 
 where products or merchandise were actually delivered at the time of sale 
 or were in vessel, boat or car and actually in the course of transportation. 
 
 308 The words "or under the rules or usages of" were added by the Reve- 
 nue Act of 1918, Title XI, Schedule A-5. 
 
 309 Revenue Act of 1921, Title XI, Schedule A-4; Reg. 40 Rev., Art. 22. 
 
 310 Calkins v. Smietanka, 240 Fed. 138. 
 
 311 Reg. 40 Rev., Art. 23. So-called transferred or scratch sales were ex- 
 pressly included in the 1917 Law (Act of October 3, 1917, § 807, Schedule 
 A-5). They were not mentioned expressly in the 1914 Law. The term "trans- 
 ferred or scratch sale" includes "pass-outs" or those transactions in which a 
 person buys from another a certain quantity of any product, at a certain 
 price, and at the same session of an exchange, sells to a third person the 
 same quantity of the same product at the same price, and eliminates himself 
 by instructing the person from whom he bought to deliver such product to 
 the person to whom he sold; but no transaction in which a broker or a com- 
 mission member of an exchange receives a commission greater than that 
 charged to a person who executes his own contracts shall be deemed to be 
 a "transfer" (or a "scratch sale".) (Reg. 40 Rev., Art. 33.) 
 
 312 Reg. 40 Rev., Art. 23. 
 
THE STAMP TAX 1211 
 
 rate is as follows: 2 cei].ts for each $100 or fraction thereof 
 in value of the merchandise covered by the sale or agreement 
 of sale or agreement to sell.^^^ It is provided by the Revenue 
 Act of 1921 that the above provisions taxing sales of produce 
 shall not affect but shall be in addition to the provisions of the 
 "United States Cotton Futures Act," approved August 11, 1916, 
 as amended, and "The Future Trading Act," approved August 
 24, 1921.31* 
 
 When Tax Accrues. The stamp tax on sales of products and 
 merchandise for future delivery accrues immediately upon the 
 making of the sale, agreement of sale, or agreement to sell, and 
 is in no wise dependent upon the manner of delivery of the 
 product.315 
 
 Immediate or Prompt Delivery. Cash sales of products or 
 merchandise for immediate or prompt delivery which in good 
 faith are actually intended to be delivered are not taxable.^^^ 
 "Immediate or prompt delivery" is held to mean delivery at 
 once or as soon as practicable, and in any event within twenty 
 days from the date of sale or agreement of sale or agreement 
 to sell.^i'^ Every sale or agreement not evidenced by a memo- 
 randum or contract expressly requiring immediate or prompt 
 delivery within the above definition is deemed to be for future 
 delivery. In all cases in which the Commissioner is not satisfied 
 from the evidence submitted to him that the transaction was in 
 good faith intended to be followed by immediate or prompt de- 
 ' livery, within the above definition, the seller will be required to 
 pay the tax as on a sale for future delivery.^is 
 
 Exchange or Board op Trade. The law taxes only sales at 
 or under the rules or usages of an exchange or board of trade 
 or other similar place.^^^ The term "exchange," except where 
 it is plain from the context that a different meaning is intended, 
 includes each and eiyery agency, board ^f trade, bourse, auction 
 place, or other meeting place, whether under shelter or in the 
 open, at which products or merchandise are publicly bought, 
 sold, bid for, offered, or exchanged, for future delivery, or con- 
 tracts for such future delivery are made, either between mem- 
 bers of such exchange, or between members and non-members, 
 
 313 Revenue Act of 1921, Title XI, Schedule A-4; Reg. 40 Rev., Art. 21. 
 
 314 Revenue Act of 1921, Title XI, Schedule A-4. 
 
 315 Reg. 40 Rev., Art. 20. 
 
 316 Revenue Act of 1921, Title XI, Schedule A-4; Reg. 40 Rev., Art. 22 
 
 317 Reg. 40 Rev., Art. 33. 
 
 318 Reg. 40 Rev., Art. 22 ; Reg. No. 40, Part II, Art. 4. 
 
 319 Revenue Act of 1921, Title XI, Schedule A-4. 
 
1212 FEDERAL INCOME TAX 
 
 patrons, and the public; and includes places at which there is 
 only one manager or firm, who controls all the sales and pur- 
 chases at that particular place or where no actual delivery of the 
 products or merchandise is contemplated, and all incorporated 
 and unincorporated associations of individuals, partnerships, 
 and corporations engaged in the business of publicly selling, 
 
 buying, or exchanging products or merchandise for future de- 
 livery.320 
 
 Transfers to Clearing House. Sellers of products, merchan- 
 dise or commodities having paid the tax provided by law may 
 transfer such contracts to a clearing house association, and 
 such transfer is not taxable within the provisions of the Act, 
 provided that the transfer does not vest any beneficial interest in 
 the clearing house association and is made for the sole pur- 
 pose of enabling such clearing house association to adjust and 
 
 320 Reg. 40 Rev., Art. 33. Reg. No. 40, Part 2, Art. 1. For a detailed con- 
 sideration of the nature of an exchange or board of trade, see the case of 
 Nicol V. Ames, 173 U. S. 509. This case went so far as to hold the Union 
 Stock Yards to be a "similar place" within the meaning of the 1898 Law. 
 No sales or purchases of stocks were made by members of the Union Stock 
 Yards Company as such. Anyone was accorded the right to bring his cattle 
 to the stock yards upon payment of the regular fees and compliance with 
 the regulations made by the company, and, having brought his cattle, he 
 had the right accorded him by the company to have them kept, fed, watered, 
 etc., and to sell them himself or by a commission merchant, who did not need 
 to be a member of the Stock Yards Company. The court said: "It is plain 
 to be seen that the privilege or facility for a sale of the cattle or other stock 
 at the yards of such company is of precisely the same nature and character 
 as that which exists at an exchange or board of trade which is so described 
 in terms. That the sales are made by the owners of the cattle or by com- 
 mission merchants who are not members of the stock-yards company, is not 
 material. The facilities for a sale exist and are made use of in each case, 
 and are in truth the same in each. A perusal of the facts contained in the 
 record in the case shows that those yards answer all the purposes ot an ex- 
 change or board or trade, and that they in truth amount in substance to 
 the same thing. The differences existing between them are unsubstantial 
 so far as this point is concerned. The sales at that place are accomplished 
 with a facility which it is plain could not exist but for the conditions and 
 advantages afforded by the use of those yards. The owner of the cattle 
 who brings them to the yards and avails himself of the privilege of selling 
 them at that place does without doubt make use of a privilege which everyone 
 knows is an advantage sufficient to constitute a material difference between 
 a sale at the yards and a sale elsewhere. This advantage, although one which 
 any person could use, is yet of precisely the same nature as that existing 
 in the case of an exchange or board of trade, and it is therefore a similar 
 place within the meaning of the statute. Being a similar place, the reasons 
 stated in the foregoing cases apply with equal force here and demand the 
 same judgment." 
 
THE STAMP TAX 1213 
 
 balance the accounts of its members on their several contracts.^^i 
 A clearing house is defined to be any incorporated or unincor- 
 porated association or committee carried on for the purpose of 
 clearing, settling and adjusting transactions in purchasing, sell- 
 ing or delivering products or merchandise, w^hether such clear- 
 ing house be a part or department of an exchange or an inde- 
 pendent body .322 
 
 Inconsistent By-Laws, Rules or Customs of Exchange. 
 No provisions, by-laws, rules, or customs of any exchange, 
 board of trade, or similar institution or place of business vs^hich 
 are inconsistent or in conflict with any requirement or provision 
 of the law, or any regulations made thereunder, or any collateral, 
 or additional agreement, verbal or written, respecting the subject- 
 matter of such contract or the settlement or fulfillment thereof 
 which is inconsistent or in conflict with any requirement of said 
 act or regulations, will exempt any person from the payment of 
 tax on sales of produce on an exchange.^^s 
 
 Sale of Stamps. The ruling of the Treasury Department in 
 regard to the sale of stamps to be attached to sales, agreements 
 of sale, or agreements to sell products or merchandise is given 
 elsewhere in this book.324 
 
 Registeation and Records. All persons engaged in the busi- 
 ness of making contracts of sale on any exchange and all clearing 
 houses and members of exchanges are required to register and 
 keep records of transactions subject to the tax. The rulings in 
 this respect are referred to more fully in a subsequent part of 
 this chapter.325 
 
 Promissory Notes. The law provides that the tax on promissory 
 notes, and for each renewal of the same, for a sum not exceed- 
 ing $100 shall be 2 cents ; and for each additional $100 or frac- 
 tional part thereof 2 cents. Drafts or checks expressly payable 
 otherwise than at sight or on demand are also taxable at the 
 same rate.^^^ 
 
 The stamp tax on a promissory note is measured by the amount 
 of the principal obligation without regard to the form in which 
 the obligation to pay interest is expressed.^^i 
 
 321 Revenue Act of 1921, Title XI, Schedule A-4; Reg. 40 Rev., Art. 23. 
 
 322 Reg. 40 Rev., Art. 33 ; Reg. No. 40, Part II, Arts. 1-4. 
 
 323 Reg. 40, Art. 24. 
 
 324 See p. 1238. 
 
 325 See p. 1231. 
 
 326 Revenue Act of 1921, Title XI, Schedule A-5 ; Reg. 55, Art. 63. 
 
 327 Reg. 55 Rev., Art. 48 (b). 
 
1214 FEDERAL INCOME TAX 
 
 Who Affixes Stamp. The person who makes or issues a 
 promissory note is required by the law to place the stamp upon 
 the same and cancel it. If he does not do so the holder or owner 
 may affix and cancel the stamp as agent for the maker. The 
 drawee, payee or endorsee should see that the tax is paid before 
 or at the time of acceptance or delivery .328 The question of who 
 shall pay for the stamp is a matter of adjustment between the 
 parties.329 jf ^ draft is presented to the drawee for acceptance 
 and discount by him, stamps must be first affixed by the drawer, 
 for the acceptance and delivery are simultaneous. The payee or 
 the indorsee from the drawer must see to it that the drawer, as 
 the person "who makes, signs or issues" the draft, pays the tax 
 before delivery. "Accept" is used in the penal provision in Sec- 
 tion 1102 in the general sense of "receive," not in the special sense 
 peculiar to drafts. No drawee accepting an unstamped, unde- 
 livered draft would violate the law ; but if the draft has already 
 become taxable because of a prior delivery, the acceptor must be 
 sure that stamps are affixed.^^" 
 
 Renewal of Notes. A renewal after the incidence of the tax 
 of a note issued prior thereto is subject to tax.^^^^ Any writing or 
 instrument however designated which operates as a renewal of a 
 promissory note is taxable.^^^ ^ written agreement, either at- 
 tached or unattached to a promissory note or in the form of an 
 endorsement on the note, such as "renewed" or "extended" to a 
 certain date, evidencing payment and acceptance of interest in 
 advance to a time certain, subsequent to maturity, constitutes a 
 renewal of the note and is subject to tax as such.^^^ Mere suspen- 
 sion of payment or forbearance is not taxable.^s* Part payment 
 of a note after it becomes due, or payment of accrued interest 
 after maturity, the note being allowed to run and the holder 
 neither losing nor postponing his right of action, is merely in the 
 
 328 Reg. 55 Rev., Art. 48. 
 
 329 Reg. 55, Art. 35. 
 
 330 T. D. 2682. 
 
 331 Revenue Act of 1921, Title XI, Schedule A-5. Letter from treasury 
 department dated December 11, 1917; W. T. S. 1918, H 3679. 
 
 332 Reg. 55 Rev., Art. 51. 
 
 333 Reg. 55 Rev., Art. 60. The following endorsement will operate under 
 this rule as a renewal : "19 — . Received six months interest to , 19 — . 
 
 The stamps should be affixed to the extension agreement and not to the 
 original note (letter from treasury department dated March 31, 1921; 
 W. T. S. 1921,114027). 
 
 334 Reg. 55 Rev., Art. 57. 
 
THE STAMP TAX 1215 
 
 nature of a forbearance and is not taxable as a renewal.^^^ A 
 contract or agreement extending either a chattel or real estate 
 mortgage is not taxable, but if such extension effects the renewal 
 of promissory notes, either embodied in the mortgage or given in 
 connection with the mortgage, the renewal of such notes is tax- 
 able.^^^ 
 
 Transfer of Notes. No stamp is required upon the transfer 
 by indorsement of promissory notes. 
 
 Definition of Promissory Notes. A promissory note is an 
 unconditional promise in writing made by one person to another, 
 signed by the maker, engaging to pay on demand or at a fixed or 
 determinable future time, a sum certain in money to such other 
 person or to order or to bearer, free from restrictions as to regis- 
 tration or transfer, and usually without coupons.^^'^ The term 
 "promissory notes," as used in the statute includes those payable 
 on demand.^^s Promissory notes given for security only are tax- 
 able.333 Whether or not an instrument is taxable as a promissory 
 note depends upon its form and not upon its use. Thus, a receipt 
 given by a loan company for property received as security for a 
 debt is not a promissory note; but, if in the receipt there is in- 
 cluded a promise to pay a certain sum of money at a specified time, 
 with interest, for value received, such a provision in the opinion of 
 the Treasury Department is a valid promissory note, upon which 
 the maker would be liable in a suit at law, and is taxable.^*" Pol- 
 icy loan and premium extension agreements which contain an 
 unqualified promise to pay a specified sum of money at a certain 
 date are subject to stamp tax as promissory notes. Where the. 
 sole remedy of payee in case of nonpayment of the premiums or 
 loans is to reduce or cancel the rights of the insured, tax does 
 not accrue.^*^ In the case of contracts for the purchase of pianos, 
 machinery, and other merchandise, there is sometimes included, 
 among other conditions and provisions, an agreement to pay the 
 vendor a stipulated sum of money at a certain time, with interest, 
 for value received. If this agreement is in form and effect a 
 good and valid promissory note, upon which the maker would be 
 liable in a suit at law, such promissory note is taxable. If, how- 
 
 335 Reg. 55 Rev., Art. 59. Letter from treasury department dated June 
 14, 1918; W. T. S. 1918, 113742. See T. D. 2265. 
 
 336 Reg. 55 Rev., Art. 52; T. D. 2170. 
 
 337 Reg. 55 Rev., Art. 48. 
 
 338 Reg. 55 Rev., Art. 49. 
 
 339 Reg. 55 Rev., Art. 50. 
 
 340 T. D. 2170. 
 
 341 Reg. 55 Rev., Art 61 ; T. D. 2599. 
 
1216 FEDERAL INCOME TAX 
 
 ever, the contract merely provides for the payment of the pur- 
 chase price in installments and enumerates the dates upon which 
 such payments are due, stating, as many of the contracts do, 
 that in default of payment the vendor may take the property, 
 such agreement is not a promissory note.^*^ n jg often difficult 
 to make a distinction between promissory notes and bonds of 
 indebtedness. Although in a broad sense many notes are bonds 
 and many bonds are notes, obviously Congress did not intend to 
 tax the same instrument under two heads.^*^ An instrument, 
 not under seal, containing a simple promise to pay a sum of 
 money at a specified time, such as is common in everyday com- 
 mercial use, is a promissory note.^** It has been held, however, 
 that the fact that a promissory note is under seal does not make 
 it taxable as a bond.^*^ a short term instrument, although is- 
 sued by a corporation under a trust indenture, may be regarded 
 as a note if every instrument of such issue both (a) is payable 
 to bearer and incapable of registration and (b) lacks interest 
 coupons, and so requires presentation upon each payment of 
 interest.3*^ Thus, the fact that a note may be secured by a mort- 
 gage or issued under a deed of trust does not necessarily make 
 it taxable as a bond. One distinction between bonds and promis- 
 sory notes seems to be the time for which the note or bond is 
 to run. Promises to pay within a comparatively short period of 
 time, such as one year or two years, are usually held to be tax- 
 able as notes while promises to pay at the end of a longer period 
 are considered more in the nature of bonds or certificates of 
 indebtedness. 
 
 Coupons attached to bonds, debentures, or certificates of in- 
 debtedness issued by any individual, partnership, or corporation, 
 or to instruments, however termed, issued by a corporation and 
 known generally as corporate securities (all of which are subject 
 to tax as bonds of indebtedness) are not subject to tax if they 
 impose no obligations not imposed by the principal instrument. 
 Interest coupons attached to promissory notes, as distinguished 
 from the securities enumerated above, if they are themselves 
 promissory notes, separable from the principal obligation and 
 negotiable independently of it, are subject to tax, even though 
 
 342 T. D. 2170. 
 
 343 T. D. 2713. See Paragraph on Bonds of IndelDtedness. 
 
 344 T. D. 2713. See Paragraph on Bonds Given in Penal Sum. 
 
 345 T. D. 21815. (Act of June 13, 1898.) 
 
 346 T. D. 2713. 
 
THE STAMP TAX 1217 
 
 they impose no obligation not imposed by the principal instru- 
 ment.3« 
 
 Checks or Drafts Payable Otherwise Than at Sight or 
 ON Demand. The liability of an instrument to stamp tax, as 
 well as the amount of such tax, is determined by the form and 
 face of the instrument, and cannot be effected by proof of facts 
 outside of the instrument itself.^*^ Unless the statute expressly 
 so provides, drafts, acceptances, overdrafts, and postdated 
 checks are not taxable as promissory notes, even though they 
 perform some of the functions of a promissory note. It is no 
 doubt in view of the decision above quoted that drafts and 
 checks payable otherwise than at sight or on demand are by the 
 present law expressly included in the same category as promis- 
 sory notes. The general rule is that a draft or check delivered 
 within the United States is subject to the tax if expressed to be 
 payable otherwise than at sight or on demand.^*^ So-called trade 
 acceptances are taxable in the same manner as ordinary time 
 drafts.^^" Drafts directly against an actual shipment are tax- 
 able in the same manner as other domestic time drafts.^si Drafts 
 drawn at sight or on demand with a notation thereon to "hold 
 for arrival of goods," or payable "on arrival of car," or words 
 of like effect, are taxable as drafts drawn otherwise than at sight 
 or on demand.352 ^ny notation appearing on such drafts, or on 
 a bill of lading or other papers accompanying same, including 
 collection letter, which defers the time of payment, renders the 
 draft taxable.^53 gy^ ^ sight draft accompanied by instructions 
 outside the instrument, as "Do not present until arrival of car" 
 
 347 Reg. 55 Rev., Art. 58. T. D. 2101. Kenosha v. Lamson, 9 Wall 477; 
 Lexington v. Butler, 14 Wall. 282. 
 
 348 U. S. V. Isham, 17 Wall. 496. Reg. 55 Rev., Art. 37. In Granby Co. v. 
 Webster, 98 Fed. 604, decided under the 1898 Law, the court, following 
 U. S. V. Isham (supra) explains the rule as follows: "Were it necessary 
 to inquire into all the circumstances attending the execution of an order for 
 the payment of money, before it can be ascertained whether it be liable to 
 the stamp tax, endless delay would be occasioned. The purpose of the tax 
 — the prompt relief of the treasury — would be defeated." Under the 1914 
 Law it was held that in view of the decision in U. S. v. Isham, drafts, ac- 
 ceptances, overdrafts, and post-dated checks were not taxable as promissory 
 notes, even though they were used in such a way as to perform some of the 
 functions of a promissory note. (T. D. 2170.) 
 
 34a Reg. 55 Rev., Art. 63; T. D. 2682. 
 
 350 Reg. 55 Rev., Art. 39. 
 
 351 Reg. 55 Rev., Art. 40. 
 
 352 Reg. 55 Rev., Art. 37. 
 
 353 Letter from treasury department dated February 20, 1918; W. T. S. 
 1919, ^ 3698. T. D. 2682. 
 
1218 FEDERAL INCOME TAX 
 
 or some such memorandum, is not taxable.^'^* And a sight draft 
 accepted and paid by the collecting bank for the drawee, which 
 holds it and charges interest until the drawee takes it up, is not 
 taxable.^ss j,^ draft might be drawn stating no time for pay- 
 ment, which would class it as a sight draft, and be accepted at 
 ninety days, which would change its nature.'*''^ If negotiated or 
 delivered before acceptance the holder would be obliged to stamp 
 it on acceptance, in default of which both he and the acceptor 
 would be liable for the statutory penalty.^^''' For the purposes 
 of the tax there is no difference in the treatment of ordinary bills 
 of exchange, trade acceptances, and bankers' acceptances, as 
 defined by the regulations of the Federal Reserve Board.^^s xhe 
 general rule is that a taxable draft or check becomes subject to 
 tax concurrently with its delivery or acceptance.^^^ In case of 
 a draft the rule means that the tax attaches, not when it is 
 signed by the drawer, or presented to the drawee for acceptance, 
 but when it is delivered to or accepted by the payee, if drawn 
 to a third person, or negotiated by the drawer, if drawn to his 
 order. If a draft was drawn before the passage of the law,' but 
 not delivered, accepted, or negotiated until afterward, the tax 
 is payable.^™ 
 
 Drafts Drawn Against Exports. In view of the constitu- 
 tional prohibition against a restriction of, or any tax on, exports, 
 drafts with bills of lading attached covering goods in the course 
 of exportation or drafts drawn in this country directly covering 
 exports to foreign countries and which constitute an inherent, 
 bona fide and necessary part of the process of exportation are 
 exempt from the stamp tax.^^i This exemption does not depend 
 on whether or not the time which the draft has to run will ex- 
 pire before or after the ocean shipment. 
 
 Where the exporter draws a time draft upon the buyer abroad 
 for the sale price of the merchandise and presents this draft, 
 accompanied by the shipping documents, to his bank for discount, 
 
 354 Reg. 55 Rev., Art. 37; T. D. 2682. 
 
 355 T. D. 2682. 
 
 356 Reg. 55 Rev., Art. 38. 
 
 357 T. D. 2682. 
 
 358 T. D. 2682. 
 
 359 Reg. 55 Rev., Art. 34. 
 
 360 T. D. 2682. 
 
 361 Reg. 55 Rev., Art. 41; T. D. 2682; letter from treasury department 
 dated April 13, 1918; W. T. S. 1919, 1| 3711. Letter from treasury depart- 
 ment dated January 24, 1918; W. T. S. 1919, 113710. See U. S. v. Hvoslef, 
 237 U. S. 1. Compare with Simpson v. Treat, 126 Fed. 1003. See para- 
 graph on the Constitutionality of Stamp Taxes, p. 1245. 
 
THE STAMP TAX 1219 
 
 the draft is not subject to stamp fax. It sometimes happens 
 that the exporter is unable to negotiate a draft drawn by him 
 in the manner above set forth and, so that he may receive the 
 full value for the same, he may be able to obtain a loan or ad- 
 vance in some form from his bank which will take the draft in 
 question for collection. In such case the exporter may give his 
 note to the bank secured by the draft, or instead of borrowing 
 money from the bank and giving his note therefor, he may draw 
 a second draft payable at a future date upon his bank, payment 
 for which second draft is to be liquidated by the payment of. the, 
 draft drawn upon the foreign buyer. Methods of financing simi- 
 lar to those outlined above are used in connection with exporta- 
 tions of merchandise where the original documents forwarded 
 abroad are not accompanied by drafts upon the buyers, but are 
 either forwarded against sales previously made or on consign- 
 ment to be sold either on arrival or to await better market 
 conditions. The exporter either borrows money from his bank 
 and gives his note, or draws his draft upon his bank payable at 
 a future date, with the understanding that the proceeds of the 
 sale of the merchandise are paid into the collecting bank abroad 
 for the account of the bank making the loan or discounting the 
 draft of the exporter in the United States, such proceeds from 
 time to time to be used in liquidating such loan or advance. It 
 has been held that the drafts and notes, including renewals 
 thereof, employed in transactions such as above outlined do not 
 directly cover exports to a foreign country and do not constitute 
 an inherent, necessary and bona fide part of the actual process 
 of exportation and are, therefore, subject to stamp tax.362 where 
 a taxpayer sold and shipped goods to a Cuban firm in Cuba on 
 open account and the Cuban firm, after making a small cash pay- 
 ment, offered to give its acceptance for the balance due on ac- 
 count of goods shipped it has been held that this draft, which 
 is not accompanied by shipping documents, is subject to stamp 
 tax.363 
 
 Time drafts drawn against the proceeds of a draft against 
 exports are taxable. A time draft drawn on a domestic bank 
 for the purpose of securing money to purchase goods to be ex- 
 ported is subject to tax regardless of the fact that a contract 
 for the sale of the goods existed at the time the draft is drawn.^e^ 
 
 362 Letter from treasury department dated September 21, 1920; W. T. S. 
 1921, T[3792. 
 
 363 Letter from treasury department dated November 4, 1921 ; W. T. S. 
 1921,114065. 
 
 364 Reg. 55 Rev., Art. 42. 
 
1220 FEDERAL INCOME TAX 
 
 A time draft directly covering a sale for export to a foreign 
 buyer and drawn on a domestic bank as the authorized acceptor 
 of the foreign buyer is exempt from stamp tax. A time draft 
 drawn by or on an exporter or on his bank in payment for export 
 shipments made by the manufacturer on the exporter's order is 
 subject to stamp tax.^es Time drafts not covering exports drawn 
 and delivered or accepted in the United States and payable in 
 foreign countries are taxable.^^^ A draft drawn against a foreign 
 steamship company covering a bill for bunker coal furnished in 
 this country is taxable since such a sale of coal is held to be a 
 domestic sale and not an export.^^'^ Stamp tax attaches to time 
 drafts covering articles shipped from the United States, Hawaii, 
 and Alaska to Canal Zone, if the drafts are delivered within the 
 United States, Hawaii, or Alaska.^^s stamp tax does not attach 
 to time drafts covering shipments to the Virgin Islands, Philip- 
 pines, and Porto Rico, because of express legislation exempting 
 shipments to these dependencies.^^'' 
 
 Time Drafts Covering Shipments prom Virgin Islands, 
 Philippines and Porto Rico. Time drafts drawn against ship- 
 ments from the Virgin Islands, the Philippines, and Porto Rico, 
 into the United States, are subject to stamp tax if delivery or 
 acceptance of said drafts first tkkes place within the United 
 States, Alaska, or Hawaii.^'^" 
 
 Drafts Delivered in Foreign Countries. The general rule 
 is that a taxable draft or check becomes subject to the tax con- 
 currently with its acceptance or delivery within the territorial 
 jurisdiction of the United States (including the states, the Dis- 
 trict of Columbia, Hawaii, and Alaska) , whichever is prior. The 
 rule means that the tax does not attach to a draft drawn bere, 
 but delivered and accepted abroad, but does attach to a draft 
 drawn abroad and delivered or accepted here.^'^i Where drafts 
 are drawn outside the United States and acceptance or delivery 
 made within the United States but payable in terms of foreign 
 currency, the stamp tax should be computed at the rate of ex- 
 change at the time and place of such delivery or acceptance.^'''- 
 
 365 Reg. 55 Rev., Art 43. 
 
 366 Reg. 55 Rev., Art. 44. 
 
 367 0. D. 87: Ruling No. 202, March, 1921; W. T. S. 1921, U 4034. 
 
 368 Reg. 55 Rev., Art. 45. 
 
 369 Reg. 55 Rev., Art. 46. 
 
 370 Reg. 55 Rev., Art. 47. 
 
 371 Reg. 55 Rev., Art. 34. Telegram from treasury department dated 
 April 14, 1919; W. T. S. 1919, 113769. 
 
 372 Letter from treasury department dated September 20, 1921 ; W. T. S. 
 1921, U 4064. 
 
THE STAMP TAX 1221 
 
 In general, a draft sent through the mail is delivered when 
 and where deposited in the mail addressed to the payee or the 
 indorsee from the drawer.^^^ If a draft drawn abroad, on a 
 foreign drawee, with a foreign payee, passes through a bank here 
 in the course of collection, no tax is payable unless it should be 
 delivered by an agent of the drawer to an agent of the payee 
 within the United States.^''* 
 
 Notes Drawn in Foreign Countries. A promissory note 
 drawn in a foreign country, and placed in the mails in that coun- 
 try for delivery to a person residing in the United States, is not 
 required to be stamped. Delivery of commercial paper is neces- 
 sary for its completion and by the weight of authority such an 
 instrument is delivered when placed in the mails. The laws of 
 the foreign country, therefore, would determine the validity of 
 the contract, even if the instrument is made payable in the 
 United States. On the other hand, a promissory note drawn in 
 the United States and placed in the mails for delivery to a person 
 residing in a foreign country is taxable, for the reason above 
 stated.sTs 
 
 Notes Secured by Pledge op United States Securities. No 
 stamp tax is required or imposed upon a promissory note se- 
 cured by the pledge of bonds or obligations of the United States 
 issued after April 24, 1917, or secured by the pledge of a promis- 
 sory note which itself is secured by the pledge of such bonds 
 or obligations, provided, that in either case the par value of such 
 bonds or obligations does not exceed the amount of such note.^''^ 
 The bonds mentioned include Liberty Bonds as well as other 
 United States bonds and printed obligations.^^'' The Treasury 
 Department has ruled that promissory notes secured by certifi- 
 cates of indebtedness issued by the Director General of Railroads 
 
 373 Revenue Act of 1921, Title XI, Schedule A-5, contains the expression 
 "upon their acceptance or delivery within the United States, whichever is 
 prior." The 1917 Law was silent in this respect. See Reg. 55 Rev., Arts 
 33, 34, modifying T. D. 2682. 
 
 374 Reg. 55 Rev., Art. 36; T. D. 2682. 
 
 375 Reg. 55 Rev., Arts. 64, 65; T. D. 2170. See also T. D. 2682. 
 
 376 Revenue Act of 1921, Title XI, Schedule A-5. This provision is now 
 expressly included in the Stamp Tax Act, its substance having formerly been 
 contained in T. D. 2701, based upon the War Finance Corporation Act, 
 Title 3, 301. 
 
 377 T. D. 2701. War Finance Corporation Act, Title 3, 301; Revenue Act 
 of 1921, Title XI, Schedule A-5. 
 
1222 FEDERAL INCOME TAX 
 
 are exempt from stamp tax;^'^* and that promissory notes secured 
 by bonds of the War Finance Corporation are subject to tax.^^^ 
 
 Notes Issued by Government. The law provides that no 
 bond, note or other instrument issued by the United States or by 
 any foreign government or by any state, territory, or the District 
 of Columbia or local subdivision thereof, or municipal or other 
 corporation exercising the taxing power, shall be subject to tax.^so 
 Bank notes issued for circulation are also expressly exempted 
 from the tax.^^i 
 
 Promissory notes given to Federal land banks and joint-stock 
 land banks when secured by first mortgages, and promissory 
 notes issued by Federal land banks are exempt from stamp tax. 
 Promissory notes issued by joint-stock land banks are subject 
 to stamp tax.382 
 
 Promissory notes issued by the Food Administration Grain 
 Corporation are subject to stamp tax.^^^ 
 
 Proxies. The tax is imposed on every proxy for voting at 
 any election of ofRcers^s* or for voting at any meeting for the 
 transaction of business of any corporation. The term "corpora- 
 tion" is defined to include associations, joint-stock companies and 
 
 •"7s Reg. 55 Rev., Art. 56; letter from treasury department dated May 10, 
 1919; W. T. S. 1919, 113776. 
 
 37!) This ruling seems contrary to the purpose of the statute. The ex- 
 emption referred to at beginning of the above paragraph was taken from 
 the War Finance Corporation Act, as stated in note 376, and seems to 
 have been intended to apply to War Finance Corporation bonds. In this 
 connection the following definition of the term "obligation or other security 
 of the United States," from R. S. 5414, referring to offenses against the 
 currency, etc. "The words 'obligation or other security of the United 
 States' shall be held to mean all bonds, certificates of indebtedness, national- 
 bank currency, coupons. United States notes, treasury notes, gold certificates, 
 silver certificates, fractional notes, certificates of deposit, bills, checks or 
 drafts for money, drawn by or upon authorized officers of the United States, 
 stamps and other representatives of value, of whatever denomination, which 
 have been or may be issued under any Act of Congress," is interesting and 
 seems broad enough to include War Finance Corporation Bonds. There 
 seems to be no valid distinction between certificates of Indebtedness issued by 
 the director general of railroads and War Finance Corporation Bonds for 
 purposes of this exemption. 
 
 380 Revenue Act 1921, § 1101 ; Reg. 55 Rev., Art. 54. 
 
 381 Revenue Act of 1921, Title XI, Schedule A-5. 
 
 382 Reg. 55 Rev., Art. 53. 
 
 383 Telegram from treasury department dated April 14, 1919; W. T. S. 
 1919, 1[3768. Telegram from treasury department dated April 10, 1919; 
 W. T. S. 1921, 113819. 
 
 384 Directors of a corporation are officers within the meaning of the clause 
 imposing a tax on proxies for voting at the election for officers of an incor- 
 porated company. (Reg. 55, Art. 123.) 
 
THE STAMP TAX 1223 
 
 insurance companies.^*^ Under the 1914 Law the tax was only on 
 proxies for voting at any election of officers. The present law, 
 as well as the 1917 and 1918 Laws, taxes all proxies used at meet- 
 ings for the transaction of business. The tax is 10 cents on each 
 proxy. A proxy for voting at any election for officers of a corpo- 
 ration and authorizing the proxy to act in such capacity upon all 
 questions or matters presented at a stockholders' meeting, is sub- 
 ject to tax of 10 cents only.^^^ Proxies for voting at any election 
 of officers, or meeting for the transaction of business of any reli- 
 gious, educational, charitable, fraternal, or literary societies, or 
 public cemeteries, are expressly exempt.^s^ Proxies for the pur- 
 pose of voting the stock of building and loan associations are 
 taxable.^s^ 
 
 Proxies Signed by Two or More Stockholders. The stamp 
 tax on proxies attaches to the instrument and is not measured 
 by the number of grantors and grantees.^^o ^ power of substi- 
 tution contained in a proxy would seem not to be taxable either 
 on the ground that it is a proxy or on the ground that it is a 
 power of attorney. , 
 
 When Tax Accrues. It seems that the proxy need not be 
 stamped until it is accepted by the person to whom it is issued, 
 but must be stamped before it can be used. Thus, it has been 
 held that a power of attorney or proxy executed by a person 
 residing in a foreign country to a person residing in this country 
 is taxable, as the instrument is not operative and effective until 
 accepted by the person in this country to whom it is issued. 
 Powers of attorney and proxies executed by a person residing in 
 the United States to a person in a foreign country are not tax- 
 able.^"^ Powers of attorney or proxies executed and accepted 
 before the incidence of the tax are not taxable, even though used 
 after the incidence of the tax.^^^ 
 
 Who May Affix Stamps. Where proxies are sent out by cor- 
 porations to be executed and returned to the corporation or to 
 the person named in the proxy, such proxies may be stamped 
 after execution and delivery by the person receiving the same 
 as the agent of the person executing the proxy.^'^s -phe stamp 
 
 385 Reg. 55, Arts. 126-127. 
 
 386 Reg. 55 Rev., Art. 126. 
 
 387 Revenue Act of 1921, Title XI, Schedule A-11. 
 
 388 Reg. 55 Rev., Art. 124. 
 
 389 Reg. 55 Rev., Art. 121, modifying T. D. 2129. 
 
 390 T. D. 2129. 
 
 391 Reg. 55 Rev., Art. 125. 
 
 392 Reg. 55 Rev., Art. 128; T. D. 2067. 
 
1224 FEDERAL INCOME TAX 
 
 may be affixed and cancelled either by the party who executes 
 the proxy or by the party to whom the proxy is given.^^^ Where 
 the stamp is affixed by an officer or employee of the corporation 
 it is sufficient to cancel the stamp by writing thereon the initials 
 of the officer or employee or the initials of the corporation and 
 by incision or perforation if the stamp has a value of 10 cents or 
 more.^^* 
 
 Rights to Receive Stock Dividends. Such rights are taxable 
 as certificates of profits.^^^ ggg Capital Stock, Sales and Trans- 
 fers above. 
 
 Rights to Subscribe for Stock. Under the present law, rights 
 to subscribe for stock or to receive shares or certificates of stock 
 (or of profits or interest in property or accumulations) in any 
 corporation are expressly made subject to tax.^os See Capital 
 Stock, Sales and Transfers above. 
 
 Security Agreements and Applications for Loans. Neither a 
 security agreement signed by a prospective borrower of a bank, 
 empowering the bank to apply any securities, money, or other 
 property of the prospective borrower in the hands of the bank to 
 satisfy the debt of the borrower to the bank, nor the form of 
 application for the loan, is included in the classes of instruments 
 made subject to stamp tax under Schedule A of Section 1107, 
 and neither is therefore subject to such tax.™^ 
 
 Voting Trust Certificates. The issue of voting trust certifi- 
 cates is not subject to the stamp tax^os but the transfer of such 
 certificates is subject to the tax.^^o ggg Capital Stock ; Issue, and 
 Capital Stock; Sales and Transfers; above. 
 
 Records Required in Case of Sales and Transfers of Stock. 
 The following ruling was made under the 1918 Law: Every 
 person who makes an agreement to sell or transfer title to 
 shares of stock by delivery of certificates assigned in blank, 
 shall as a part of such transaction promptly make and deliver 
 to the buyer a bill or memorandum of such sale or agreement to 
 sell, duly signed by the seller or his agent, to which the requisite 
 stamps shall be affixed and canceled, which bill or memorandum 
 shall show the date of the transaction, the names of the seller 
 and buyer and the name and number of shares of stock, and the 
 
 393 Reg. 55 Rev., Art. 122; T. D. 2129. 
 
 394 Letter from treasury department dated January 8, 1915. 
 393 Reg. 40 Rev., Art. 12. 
 
 390 Revenue Act of 1921, Title XI, Schedule A-3; Reg. 40 Rev., Art. 12. 
 
 397 See T. D. 2599. 
 
 398 Reg. 40 Rev., Art. 5. 
 
 399 Reg. 40 Rev., Art. 12. 
 
THE STAMP TAX 1225 
 
 price per share and the tax paid thereon, and in the case of a 
 transaction made on an exchange shall bear a number upon the 
 face thereof and have printed and written in ink thereon the 
 words "Subject to the Revenue Act of 1918 and regulations 
 made in accordance therewith." No more than one such bill or 
 memorandum made by the seller on any given date shall bear the 
 same number: Provided, however, that no single transaction 
 or purchase or sale that is made upon an exchange by one mem- 
 ber to another member shall require to be evidenced by more 
 than one stamped memorandum of sale or agreement to sell.*"" 
 
 Definitions. The term "exchange" includes each and every 
 agency, office, room, or other place of assembly whether under 
 shelter or in the open, at which stock, rights, warrants, interests 
 in property, or in profits, or in accumulations, by corporations, 
 are publicly bought, sold, bid for, offered or exchanged between 
 persons there assembled, in behalf of themselves or others. 
 The term "clearing house" includes every corporation or asso- 
 ciation, whether incorporated or not, of individuals, partnerships 
 or corporations wholly or partly engaged in the business of clear- 
 ing, settling, or adjusting transactions in the purchase, sale, 
 receipt, or delivery of shares of stock, whether or not the same be 
 a part or department of any exchange or an independent body.*"! 
 
 Records of Sales or Transfers of Stock, (a) All persons 
 who are wholly or partly engaged m the business of buying, 
 selling or transferring shares of stock, whether at public or 
 private sale, or whether or not they are members of an exchange, 
 including persons engaged in transactions known as "matched," 
 or "on-order," or "pass-outs," or "give-ups," or settled directly 
 between the seller and buyer, or cleared or adjusted through a 
 clearing house or otherwise, or engaged in accepting and pro- 
 curing the transmission of orders for purchase or sale of shares 
 of stock shall keep a record showing: 
 
 400 Reg. 40 Rev., Art. 15; Reg. No. 40, Part I, Art. 6. In McClain v. 
 Fleishman, 106 Fed. 880, a stock broker entered into agreement with his 
 customers to buy and sell stocks on a fixed price for future delivery. Each 
 of such agreements vs^as evidenced by the written memoranda properly 
 stamped in accordance with the 1898 Law. The transfers were purely spec- 
 ulative, conducted on margins and no actual delivery was contemplated by 
 the parties, settlement being made by a payment of differences and the sur- 
 render of the written memoranda. It was held that such settlements did 
 not involve agreements for a resale of the stocks requiring new memoranda 
 to be made and stamped, the court having no authority to infer such agree- 
 ments contrary to the fact for the purpose of extending statutory pro- 
 visions to transactions not within its terms. 
 
 401 Reg. 40 Rev., Art. 33. 
 
1226 FEDERAL INCOME TAX 
 
 (1) Date of transaction. 
 
 (2) Line number (if at an exchange) . 
 
 (3) Name of broker or salesman who executed the order. 
 
 (4) Name of party to whom sold, or from whom bought. 
 
 (5) Number of shares dealt in. 
 
 (6) Name or description of stock. 
 
 (7) Price of stock, if without face or par value. - 
 
 (8) Amount (or total market value) of stock. 
 
 (9) Face or par value of stock per share. 
 
 (10) Tax paid on shares having face or par value. 
 
 (11) Tax paid on shares without face or par value. 
 
 (12) State tax paid, if any. (Optional.) 
 
 (13) Total amount to ledger. (Optional.) 
 
 (14) Folio number. (Optional.) 
 
 (15) Name of customer for whom sold or transferred, or for 
 
 whom bought or transferred. 
 
 (16) Number of shares loaned or borrowed. 
 
 (17) Number of borrowed or loaned shares returned. 
 
 (18) Method of settlement or adjustment. 
 
 (b) Persons keeping such records may incorporate therein 
 additional columns that will be of use to them, such columns to 
 be placed so as not to interfere with the columns and headings 
 hereby prescribed. These records must be in book form, and all 
 entries therein must be legibly written in ink and the records 
 kept for a period of at least two years. Such record forms will 
 not be supplied by the department. 
 
 (c) The form of record required is known as Form A. 
 
 (d) Provided, however, that brokers known as strictly "floor 
 brokers," or "two dollar men," or "room traders," in lieu of the 
 foregoing record, whether their transactions are settled directly 
 between seller and buyer or by "matched," "on-order," "pass- 
 out," or "scratch sale," or "give-up," or any other kind of sale 
 or purchase, or are cleared through a clearing house or otherwise, 
 shall keep a record showing: 
 
 (1) The date of the transaction. 
 
 (2) The name of the seller. 
 
 (3) The name of the purchaser. 
 
 (4) The name of the stock. 
 
 (5) The number of shares. 
 
 (6) The par or face value of the shares. 
 
 (7) The price, if the stock has no par value. 
 
 (8) Whether the transaction is "matched," "on-order," "pass- 
 
 out," "scratch sale," or "give-up." 
 
 (9) Name of person to whom "given-up." 
 
THE STAMP TAX 1227 
 
 (e) Provided further, that persons engaged in accepting and 
 procuring the transmission of orders for the purchase or sale of 
 shares of stock to be executed at a brokerage office or an ex- 
 change, board of trade, or similar place, shall keep a record 
 showing : 
 
 (1) Date of acceptance and transmission of order. 
 
 (2) Name of person from whom accepted. 
 
 (3) Name and address of person to whom transmitted. 
 
 (4) Name of stock. 
 
 (5) Par value of stock. 
 
 (6) Number of shares. 
 
 (7) Whether purchase or sale. 
 
 (8) Price. 
 
 (9) Whether order was executed at an exchange ; and, if so, 
 
 what exchange. 
 
 (10) Date of execution of order.*''^ 
 
 INTRAOFFICE BORROWING OF STOCK. The Revenue Act of 1921 
 provides that no stamp tax shall be imposed upon mere loans 
 of stock nor upon the return of stock so loaned.*"^ This provision 
 was not contained in the Revenue Act of 1918 and the following 
 rulings were made under that law: Intraoffice borrowing of 
 stock is necessitated by a number of conditions, including actual 
 short sales made and nominal short sales, such as the sale of 
 stock which is in transit or in the possession of branch offices, 
 which is not received in due time to make delivery. To make 
 the required delivery in such a case the broker, assuming he has 
 in his possession the kind of stock required (placed with him 
 for sale or purchase by him for customers), borrows such stock 
 and makes the necessary delivery. The stock so borrowed is 
 not taken from any given account and the actual ownership 
 thereof would, perhaps, be impossible to trace. It is taken from 
 a general pool in which virtually all the stock of the office is held 
 and the pool credited accordingly. When the physical stock ar- 
 rives or is purchased and is replaced, the pool is debited and the 
 particular stock involved balanced. This is usually the only office 
 record kept of these transactions. It is understood that in all 
 or in most intraoffice borrowings it is the pool that is involved 
 and not the individual accounts of customers or clients. 
 
 Under the circumstances it would be meaningless to affix 
 stamps to ledger accounts. It would also be inadvisable to affix 
 stamps to the account kept with the pool for the reason that 
 
 402 Reg. 40 Rev., Art 16. 
 
 403 Revenue Act of 1921, Title XI, Schedule A-3. 
 
1228 FEDERAL INCOME TAX 
 
 the record is not sufficiently detailed, although such account is 
 of considerable value in checking taxable transactions. 
 
 The following method of collecting the tax was first suggested 
 by the Treasury Department: A ticket or memo should be 
 executed covering each transaction of stock borrowed and the 
 stamps affixed thereto. This ticket should show the date when 
 the stock is taken from the pool, the name of the person for 
 whose account the stock is borrowed, a description of the stock, 
 and the number of shares. This ticket should bear a serial 
 number and should be filed with other similar tickets consecu- 
 tively in the broker's office; these tickets should be retained for 
 two years.**** 
 
 The following method was later suggested as protecting the 
 Government and likely to be more acceptable to the broker: 
 
 A book of record may be kept consisting of loose or fixed leaves 
 containing three columns, headed as follows : Column 1 — Name 
 of customer for whose account the stock is borrowed and de- 
 scription of the stock. Column 2 — Datfe borrowed. Column 3 — 
 Date replaced. This record may be a running record, but care 
 should be exercised to permit sufficient space for affixing thereto 
 the stamps due. The heading and specimen line of such a record 
 would appear thus: 
 Name of Customer and Stock Date borrowed Date returned 
 
 A. Smith, 100 shares U. P. May 1, 1921 * May 5, 1921 
 * Stamp and cancellation 
 
 Where intraoffice transactions to be tax paid are shown in 
 similar detail by books or records already kept by the broker, 
 and it is practicable and desirable to do so, he may be instructed 
 to affix the proper stamps to those books or records in the tax- 
 payment both of past and of current transactions, rather than 
 be required to introduce a new record or to follow the method 
 first suggested. The stamp tax on these intraoffice transactions 
 is incurred when they are made and is properly to be paid by 
 stamps affixed at the time of making. It would therefore not 
 be a proper procedure for the broker to file a report with stamps 
 affixed thereto at the end of the month or of a period, in tax- 
 payment of past transactions shown. Where such a report con- 
 stituted a current record with stamps currently affixed it should 
 be retained in the broker's office for a period of two years.*''^ 
 
 Returns by Persons Making Sales, (a) All persons who 
 are wholly or partly engaged in the business of buying, selling 
 or transferring shares of stock, whether such sales, purchases, 
 
 404 0. D. 87, Ruling No. 202, March, 1921; W. T. S. 1921, 1[4031. 
 
 405 O. D. 136, Ruling No. 260, June, 1921; W. T. S. 1921, 114053. 
 
THE STAMP TAX 1229 
 
 or transfers shall be made, cleared, settled, or adjusted through 
 a clearing house, or otherwise, are required oin or before the fif- 
 teenth day of each month, and at any other time designated by 
 the Commissioner, to render under oath a true return of all such 
 sales to the Commissioner for the preceding month or for any- 
 other period designated by the Commissioner, containing in 
 detail the following data and information: 
 
 (1) The month for which the return is made. 
 
 (2) The name and address of the person, partnership, corpo- 
 
 ration, or association making the return. 
 
 (3) The number of shares sold, loaned, and borrowed returned, 
 
 and tax paid as follows : 
 
 (a) Par value shares through clearing house. 
 
 (b) Par value shares ex-clearing curb, over the counter. 
 
 (c) No par value shares, market value' $100.00 or less 
 
 through clearing house. 
 
 (d) No par value shares, market value over $100.00 or 
 
 less ex-clearing house, curb, over the counter. 
 
 (e) No par value shares, market value over $100.00 
 
 through clearing hoUse. 
 
 (f) Market value no par value shares, market value of 
 
 $100.00 through clearing house. 
 
 (g) No par value shares, market value over $100.00 ex- 
 
 clearing house, curb, over the counter. 
 
 (h) Market value no par value shares, market value over 
 $100.00 ex-clearing house, curb, over the counter. 
 
 (i) Transfers, calls, rights, when as and if issued, con- 
 tracts and miscellaneous. 
 
 (4) Number of shares cross trades. 
 
 (5) The amount of tax paid. 
 
 (6) The amount of stamps on hand on the first day of the 
 
 month, or other period. 
 
 (7) The amount of stamps purchased during the month, or- 
 
 other period. 
 
 (8) The amount of stamps on hand on the last day of the 
 
 month for which return is being made. 
 
 (b) Provided that brokers known strictly as "floor brokers," 
 or "two-dollar men" or "traders" in lieu of the foregoing return 
 shall render a return only as to such sales as were not "given 
 up" to or cleared through some other broker including direct 
 settlements, "pass-outs," or "scratched sales." 
 
 (c) Provided further that in the event any broker who has 
 not closed business shall make no sales of stock during any one 
 
1230 FEDERAL INCOME TAX 
 
 month he shall file with the Commissioner a statement to that 
 effect in lieu of a return.*"^ 
 
 Returns by Clearing Houses, (a) If any person, who nego- 
 tiates sales or transfers of stock on a stock exchange, shall 
 appoint in writing the clearing house for the exchange upon 
 which such sales or transfers are made his agent for the purposes 
 hereinafter indicated, and shall make to such clearing house a 
 written return, statement, or sheet, on each business day, con- 
 taining a full disclosure of all such transactions, both clearable 
 and non-clearable, of the preceding day, in shares of stock that 
 are listed or permitted to be dealt in by such member on such ex- 
 change, and also showing which, if any, of such stocks are 
 loaned or borrowed or returned, then in that event such return, 
 statement, or sheet, delivered to the clearing house, shall be 
 deemed to be the bill or memorandum of sale or agreement to 
 sell, required under subdivision 3, Schedule A, Revenue Act of 
 1921, and such clearing house is hereby authorized to affix to 
 such return, statement, or sheet the amount of stamps required 
 for each sale or agreement to sell or memorandum of sale or 
 delivery or transfer of the stock indicated thereon, and to 
 cancel the stamp so affixed, (b) The affixing and cancellation of 
 such stamps by the clearing house shall be held to be the act of the 
 person making such sale or agreement to sell, or memorandum 
 of sale, or delivery or transfer of such stock; or if such person 
 and clearing house so elect, such person shall affix and cancel 
 such stamps before delivering such clearing house sheets or 
 memoranda of sales to the clearing house, but such clearing 
 house shall not accept such clearing house sheet or memoranda 
 unless stamps for all transfer tax required to be affixed are at- 
 tached thereto and properly canceled, (c) The returns, state- 
 ments, or sheets made to the clearing house shall in respect of 
 each sale show the date thereof, the name of the seller, the name 
 .of the buyer, the amount of the sale, and the name of the stock, 
 or certificates, or other things traded in, but a return for more 
 than one sale may be made upon the same return, statement 
 or sheet; and no settlement of differences or other dealings 
 between members shall be permitted that will interfere with 
 the full disclosure of the whole transaction, (d) Said clearing 
 house shall preserve the returns, statements, or sheets so made 
 and stamped for at least two years, (e) Such return, state- 
 ment, or sheet to the clearing house shall not relieve the seller 
 from making and delivering to the buyer the bill or memorandum 
 
 406 Reg. 40 Rev., Art. 17, as amended by T. D. 3103. 
 
THE STAMP TAX 1231 
 
 required by Article 15 of Regulations 40 (Revised) . (f ) When 
 a clearing house carries upon its sheets or records information 
 or reports of transactions showing the transfer by one of its 
 members of an account of a customer without change of owner- 
 ship of the securities of the customer, there shall be kept by 
 the members of such clearing house or body concerned in such 
 transaction a record showing the particulars of such trans- 
 action.«7 
 
 Stock Transfer Stamps, (a) Ordinary documentary stamps 
 with the words "Stock transfer" overprinted thereon, known as 
 "Stock transfer stamps," shall be affixed to all sales or agree- 
 ments, to sell, or memoranda of sales, or deliveries of or transfers 
 of legal title to shares or certificates of stock or of profits, or of 
 interest in property or accumulations of a corporation, joint- 
 stock company, or association, and all "warrants," rights, and 
 other securities, made at exchanges or similar places, (b) Or- 
 dinary documentary stamps may be affixed to sales, agreements 
 to sell, or memoranda of sales not made at exchanges or similar 
 places. ^''s 
 
 Records and Returns Required in Case of Sales of Produce on 
 Exchange . (a) Every person who makes sales, or agreements of 
 sale, or agreements to sell, any products or merchandise at or 
 under the rules or usages, of any exchange, board of trade, or 
 similar place, for future delivery, shall deliver to the buyer bill, 
 memorandum, or other evidence of such sale, agreement of sale, 
 or agreement to sell, to which there shall be affixed a lawful 
 stamp in value equal to the amount of the tax on such sale, (b) 
 Such bill, memorandum, or other evidence duly stamped shall 
 be kept by the buyer for two years, unless otherwise prescribed 
 by regulation, (c) No single sale or agreement of sale, or 
 agreement to sell, made upon an exchange by one member for 
 another need be evidenced by more than one stamped bill, 
 memorandum, or agreement.^''^ 
 
 Clearing House as Agent, (a) If any person who makes 
 sales, agreements of sale, or agreements to sell any products or 
 merchandise at or under the rules or usages of any exchange, 
 board of trade, or similar place, for future delivery, shall in 
 writing appoint the clearing house for the exchange upon which 
 such sales are made, his agent for the purposes hereinafter 
 named, such clearing house being approved by the Commissioner, 
 
 407 Reg. 40 Rev., Art. 18. For a definition of the term "clearing house" 
 and "exchange" see Reg. 40 Rev., Art. 33. See p. 1225. 
 
 408 Reg. 40 Rev., Art. 19. 
 
 409 Reg. 45 Rev., Art. 25. 
 
1232 FEDERAL INCOME TAX 
 
 and shall make a written return or sheet of each sale to such 
 clearing house in accordance with the regulations, such return 
 or sheet shall be deemed to be the bill, memorandum, or other 
 evidence required by the regulations to be delivered by the 
 seller to the buyer, and the clearing house is authorized to 
 affix to such return or sheet the amount of the stamps required 
 for each sale, agreement of sale, or agreement to sell as indi- 
 cated thereon, and to cancel the stamps so affixed, (b) The af- 
 fixing and canceling of such stamps by the clearing house shall 
 be held to be the act of the person making such contract of 
 sale, (c) If the person making such sale and the clearing house 
 so elect, the seller may affix the stamps to the clearing house 
 return or sheet and cancel the same before or at the time of 
 delivery to the clearing house. The clearing house shall in no 
 event accept such bill, memorandum of sale, or clearing house 
 return or sheet unless stamps for all the tax required to be paid 
 thereon are attached and properly canceled, (d) The returns 
 or sheets of sales so made to the clearing house shall in respect 
 of each sale, set forth the date, the name of the seller, the name 
 of the purchaser, the amount of the sale, the matter or things 
 to which it refers and the tax paid thereon, but a return for 
 more than one sale may be made on the same paper or sheet 
 (e) The clearing house shall preserve for a period of not less 
 than two years, each bill, memorandum or return, or sheet made 
 to it by such person, (f) Every clearing house shall include 
 in its monthly return to the Commissioner a statement of the 
 amount of stamps so affixed and canceled on the returns or 
 sheets of each person, (g) The making of such return by the 
 clearing house shall not relieve any person making such sale, or 
 agreement of sale, or agreement to sell, from making the 
 monthly return of his transactions required by the regulations.^^" 
 Records to Be Kept by Buyers and Sellers, (a) All per- 
 sons who make sales or agreements of sale of, or agreements to 
 sell (including so-called "transferred or scratch" sales, "pass- 
 outs," "pair-off s," "matched trades," or "give-ups") any prod- 
 uct or merchandise at, or under the rules or usages of, any 
 exchange for future delivery, or are engaged in the business of 
 accepting and transmitting orders for the purchase of such 
 products or merchandise to be executed at, or under the rules 
 or usages of any exchange for future delivery, shall keep a rec- 
 ord showing: (1) Date of contract. (2) Name of person exe- 
 cuting contract (floor broker). (3) To whom sold or from 
 
 410 Reg. 40 Rev., Art. 26. See Reg. 40 Rev., Art. 29. 
 
THE STAMP TAX 1233 
 
 whom bought (name and address). (4) Whether transaction 
 is a purchase or sale. (5) Quantity of product or merchandise 
 involved, whether in tons, pounds, bales, bushels, bags, mats, ■ 
 barrels, gallons, or whatever other unit of weight or measure 
 is used. (6) Name of product or merchandise, including (if 
 not a basis grade) grade, type, sample, or description. (7) 
 Whether contract is a "basis-grade," "deferred acceptance," or 
 whatever kind of contract. (8) Price specified per ton, pound, 
 bale, bushel, bag, mat, barrel, gallon, or whatever other unit of 
 weight or measure is used. (9) Tax paid. (10) Customer 
 (name and address). (11) Origin of order (whether domestic 
 or foreign). (12) Month or time specified in contract for de- 
 livery. (13) Date of settlement. (14) Method of settlement 
 or adjustment, (b) Provided, that "floor brokers," or "two- 
 dollar men," or "room traders," in lieu of the foregoing records 
 shall keep a record showing: (1) Date of transaction. (2) 
 Name of person who executed the order, if other than the floor 
 broker. (3) Name of seller. (4) Name of buyer. (5) Quantity 
 of product or merchandise involved in the transaction. (6) 
 Name of product or merchandise, including (if not a basis- 
 grade contract) grade, type, sample, or description. (7) 
 Whether the contract is a basis-grade contract. (8) Price. (9) 
 Time specified in contract for delivery. (10) Name of persons 
 to whom "given up," "paired off," "transferred or scratched," 
 or "passed-out." (c) And other transactions than those specified 
 in this proviso made by "floor brokers," "two-dollar men," or 
 "room traders," shall be kept on the first form described in this 
 paragraph, (d) Persons who use either of such forms may in- 
 corporate additional columns which may be of use to them, such 
 columns to be so placed as not to interfere with the columns and 
 headings herein prescribed, (e) Such record forms will not be 
 supplied by the department, (f) The foregoing records shall 
 be legibly written in ink, and contracts of sale for future deliv- 
 ery of two or more distinct products or merchandise shall be 
 kept separate. Each person who executes or makes such con- 
 tracts of sale shall preserve the books, bills, memoranda, ''sales 
 tickets," or trading cards of all transactions, and the purchaser 
 shall preserve the bill, memorandum, agreement, or evidence 
 of sale to which the stamps are affixed for the period of two 
 years, that they may be readily inspected by the revenue officer, 
 (g) The form of record required is known as Form B.^^i 
 
 411 Reg. 40 Rev., Art. 27. 
 
1234 FEDERAL INCOME TAX 
 
 Records to Be Kept by Clearing Houses, (a) All persons 
 who acted in the capacity of a clearing house shall keep a 
 record showing: (1) Name of person for whom each contract 
 is cleared. (2) Date when contract was made. (3) Whether 
 the transaction is a purchase or sale. (4) Quantity of product, 
 or merchandise, involved, whether in tons, pounds, bales, bush- 
 els, bags, mats, barrels, gallons, or other unit of weight or 
 measure, as the case may be. (5) Name of product, or mer- 
 chandise, including (if not a "basis-grade" contract) grade, 
 type, sample, or description. (6) Whether the contract is a 
 "basis-grade" contract. (7) Time specified in contract for de- 
 livery. (8) Date of settlement. (9) Method of actual settle- 
 ment, (b) Records of sales for future delivery of two or more 
 distinct products or merchandise must be kept separate, (c) 
 The clearing house shall preserve such records for the term of 
 
 two years, (d) Such record forms will not be supplied by the 
 department.412 
 
 Returns of Transactions, (a) All persons who make con- 
 tracts of sale or purchase of any product or merchandise, at 
 or under the rules or usages of any exchange, board of trade, or 
 other similar place of business, for future delivery, whether such 
 contracts shall be cleared and adjusted through a clearing 
 house or directly between the seller and buyer, or otherwise, 
 shall on or before the fifteenth day of each month, or at any 
 other time required by the Commissioner, make a return in writ- 
 ing to the Commissioner, for the preceding month of any other 
 period, verified before some officer authorized to administer 
 oaths, showing (1) The number of contracts of sale and pur- 
 chase of each product or merchandise brought forward from the 
 preceding month or period. (2) The number of contracts of 
 sale and purchase of each product or merchandise on each day 
 during the current month or period. (3) The months in which 
 the products or merchandise are to be delivered. (4) The 
 method of settlement of each contract, i. e., whether by "actual 
 delivery," "notice," "ring," "direct," "transfer," "scratch sale," 
 "pass out," "matched," "pair oif," "set-off"," "give up," through 
 a clearing house or otherwise. (5) The tax paid thereon. (6) 
 The number of contracts both of purchase and sale carried 
 forward at the end of the month or period. (7) The amount of 
 stamps on hand at beginning of month or period. (8) The 
 amount of stamps purchased during month or period. (9) 
 The amount of stamps used during month or period. (10) Bal- 
 
 «2 Reg. 40 Rev., Art. 28. 
 
THE STAMP TAX 1235 
 
 ance of stamps on hand at end of month or period. (11) 
 The origin of the order or the contracts, whether domestic or 
 foreign, (b) Provided, that "floor brokers," or "two-dollar 
 men," or "room traders" may omit from their returns informa- 
 tion called for under paragraphs marked (1), (6), and (11). 
 But in the event such "floor brokers," "two-dollar men," or "room 
 traders" shall make or settle transactions in any other way 
 than by "transferred or scratch sales," "give ups," or "pass 
 outs," they shall make the full returns prescribed in this para- 
 graph, (c) Such returns shall be made upon forms to be 
 furnished, upon application, by the Collector of Internal Rev- 
 enue, of the districts in which the exchange, board of trade, or 
 other similar place is located.*^^ 
 
 Returns by Clearing Houses, (a) Every clearing house 
 shall on or before the fifteenth day of each month, and at such 
 other times as required by the Commissioner, miake return 
 in writing, under oath, to the Commissioner, for the preceding 
 month or other period, showing (1) The number of open con- 
 tracts "long" and "short" brought forward for each member 
 from the preceding month. (2) The number of contracts bought 
 and sold by each member of the association. (3) The number 
 of tons, pounds, bales, bushels, bags, mats, barrels, or gallons, 
 or other units of weight or measure involved in such contracts, 
 as the case may be. (4) The month in which such product, 
 merchandise, or commodity is to be delivered. (5) The method 
 of settlement of said contracts, i. e., whether by "set off," "no- 
 tice," or "delivery," or by what method. (6) Total tax paid 
 by each member of the exchange. (7) The number of open 
 contracts "long" and "short" carried forward for each mem- 
 ber to the following month, (b) Such returns shall be made 
 upon forms to be furnished, upon application, by the collector 
 of internal revenue of the district in which the clearing house 
 is situated.*" 
 
 Stamps May Be Affixed to Returns, (a) If any exchange 
 shall by proper resolution request the Commissioner to permit 
 the members of such exchange to affix the requisite amount of 
 stamps on the returns made by such members to the Commis- 
 sioner of all transactions made by such member at such ex- 
 change and cancel such stamps, and shall flle with the Com- 
 missioner a copy of the charter and by-laws of such exchange 
 accompanied with a list of the names and addresses of the 
 
 413 Reg. 40 Rev., Art. 29. 
 
 414 Reg. 40 Rev., A»t. 30. 
 
1236 FEDERAL INCOME TAX 
 
 officers and members of such exchange, designating those of 
 such members who are active and those who are inactive on 
 the exchange, then upon approval of such resolution by the 
 Commissioner, instead of affixing the stamps to the bill or mem- 
 orandum of sale as now required, it shall be lawful for the 
 members of such exchange to affix the amount of stamps on 
 such returns as shall represent the aggregate amount of tax 
 due on all sales, agreements of sale, or agreements to sell, made 
 by such member during the preceding month or other period 
 designated by the Commissioner and such stamps shall be can- 
 celed by such member in the manner prescribed in the regu- 
 lations, (b) Such returns, duly stamped, shall be filed and pre- 
 served for two years, (c) The stamping and filing of such re- 
 turns shall not in any way relieve the members of such exchange 
 from making and delivering to the buyer the memorandum or 
 bill of sale prescribed by law and the regulations, nor the buyer 
 from the necessity of preserving the same for the term of two 
 years.'^is 
 
 Future Delivery Stamps.. The stamps to be used on sales, 
 agreements of sale, or agreements to sell products or merchan- 
 dise at or under the rules or usages of any elxchange, or board 
 of trade, or other similar place, for future delivery shall be the 
 ordinary documentary stamps with the words "Future deliv- 
 ery" overprinted thereon, and they shall be known as "Future 
 delivery stamps." ^^^ 
 
 Registration of Brokers, etc. (a) Every person engaged, in 
 whole or in part, in any of the following businesses or activi- 
 ties shall file a statement for registration with the collector of 
 internal revenue of the district in which his principal office or 
 place of business is located : ( 1 ) Persons engaged in negotiating, 
 making, or recording sales, agreements to sell, deliveries or 
 transfers of shares or certificates of stock, or rights, or war- 
 rants, or certificates of beneficial interest in profits, property, 
 or accumulations of a corporation. (2) Persons conducting or 
 transacting a stock brokerage business. (3) Persons accepting 
 or procuring the transmission of orders for the purchase or 
 sale of transfer of stocks, rights, warrants, certificates of bene- 
 ficial interest, or interests in property, profits or dividends, to 
 be executed at a stock brokerage office or an exchange or sim- 
 ilar place. (4) Persons engaged in the business of transferring 
 stock other than their own. (5) Persons engaged in making 
 
 415 Reg. 40 Rev., Art. 31. 
 
 416 Reg. 40 Rev., Art. 32. 
 
THE STAMP TAX 1237 
 
 sales or agreements of sale of, or agreements to sell, any prod- 
 ucts or merchandise at, or under the rules or usages of, any 
 exchange, for future delivery; or engaged in the business of 
 accepting or procuring the transmission of orders for such con- 
 tracts of sale to be executed at an exchange, or under the rules 
 or usages of an exchange, for future delivery. (6) Persons 
 engaged in conducting an exchange or clearing house or clear- 
 ing association for the clearing, adjusting, and settling trans- 
 actions made on exchanges or similar places: Provided, That 
 in case the person conducting such an exchange has a depart- 
 ment connected therewith engaged in clearing, adjusting, and 
 settling the transactions made on such exchange, he shall so state 
 and shall give the names and addresses of the superintendent 
 and secretary of each such clearing house division or committee. 
 
 (b) If the person required to file a statement for registration is 
 also a member of an exchange, a seat on which is worth $2,000 
 or more, he shall state the average value of such seat for the 
 year ending June 30 immediately preceding his registration. 
 
 (c) In the case of a partnership of which two or more mem- 
 bers are members of exchanges, the names of such members 
 and of each exchange in which memberships are held shall be 
 stated, together with the price of a seat on each exchange, (d) 
 The statement above required shall be verified on oath by the 
 person required to make such statement, or by the president or 
 secretary of a corporation, association, or clearing house, and 
 shall set forth specifically the character of the business to be 
 conducted and the full name and address of each person or 
 member of a partnership engaged in such business: Provided, 
 that in the case of a corporation or association, the statement 
 for registration shall set forth the date and place of incorpora- 
 tion and the principal office or place of business both within 
 and without the State where incorporated, and the names and 
 addresses of the chief officer and secretary of such corporation, 
 and be accompanied with a list of the members and their ad- 
 dresses, (e) Each exchange or clearing house shall also file 
 with such collector a copy of its constitution, charter, or agree- 
 ment of association and by-laws, rules and regulations, and all 
 amendments thereto as the same may from time to time be 
 adopted, and the names and addresses of new members as 
 from time to time admitted to membership, (f ) If the person or 
 corporation required to file such statement has been licensed 
 under the laws of any State or under any other provision of 
 Federal law the date and place at which such license was issued 
 shall be stated, (g) In case a person registered as required by 
 
]238 FEDERAL INCOME TAX 
 
 the regulations shall suspend or close his business before the end 
 of the year for which he is registered, he shall file in the office of 
 the collector of internal revenue in which he is registered a cer- 
 tificate to that effect, giving the date on which he suspended or 
 closed his business, (h) Such statement for registration shall be 
 made on a form to be furnished upon application to the collector 
 of internal revenue.*" 
 
 Record of Registration Kept by Collector, (a) Every col- 
 lector shall file and preserve each statement for registration filed 
 with him in accordance with the regulations, and shall issue to 
 each person, partnership, exchange, clearing house or corpora- 
 tion a certificate of registration, showing the date of issue, the 
 name of the person, or exchange, clearing house, or corporation, 
 conducting the business, the nature of the business for which the 
 license is granted, and the date of expiration of said registry, 
 which certificate of registration shall be signed by the collector, 
 and shall be posted in some prominent place in the office of 
 said person, partnership, exchange, clearing house, or corpo- 
 ration during the period for which it is issued, (b) If such 
 business is conducted at more than one place, a certificate shall 
 be posted in each place of business.*^^ 
 
 Sale of Stamps, (a) No person other than a Collector of Inter- 
 nal Revenue, or duly authorized deputy collector of Internal Rev- 
 enue, Assistant Treasurer, or designated United States depositary 
 shall sell or expose for sale, give away, traffic in, trade, barter, 
 lend, borrow, or exchange any stamps, issued pursuant to the 
 regulations : Provided, That any person or corporation which has 
 been duly appointed and constituted and is acting agent of any 
 State for the sale of stock transfer stamps of such State, may 
 upon giving bond in a sum to be fixed by the Commissioner, sell 
 United States stamps issued pursuant to the regulations when 
 approved and authorized by the Commissioner, (b) No person 
 shall buy, receive, or have in his possession or under his control, 
 any stamps issued pursuant to the regulations, unless such 
 stamps have been purchased directly from the Collector of Inter- 
 nal Revenue, or duly authorized Deputy Collector of Internal 
 Revenue, Assistant Treasurer designated United States deposi- 
 tary, or a designated agent for the sale of State stock transfer 
 stamps authorized by the Commissioner, in the district in which 
 the stamps are to be used, (c) All requisitions for stamps to be 
 used under these regulations shall be made in writing on a form 
 prescribed by the Commissioner to the Collector of Internal Rev- 
 
 417 Reg. 40 Rev., Art. 34. 
 
 418 Reg. 40 Rev., Art. 35. 
 
THE STAMP TAX 1239 
 
 enue or duly authorized Deputy Collector of Internal Revenue, 
 Assistant Treasurer or designated United States depositary or 
 state agent authorized by the Commissioner, in the Internal Rev- 
 enue district in which the stamps are to be used, giving the date 
 thereof, the number and denomination of stamps applied for and 
 the name and address of the purchaser, and shall be signed in 
 ink by the person receiving such stamps, (d) If' the requisition 
 for such stamps shall be made to any Assistant Treasurer or 
 designated United States depositary or duly authorized state 
 agent for sale of state stock transfer stamps, such Assistant 
 Treasurer or designated United States depositary or duly author- 
 ized state agent shall keep a record thereof, and at the end of 
 each month shall file v^^ith the Collector of Internal Revenue of 
 the district a statement setting forth the number, denomination, 
 and amount of all stamps on hand at the beginning of each 
 month, the number, denomination and amount sold during the 
 month, and the number, denomination and amount on hand at 
 the end of the month, accompanied by the requisitions, filed by 
 each-purchaser, and on or before the fifteenth day of each month 
 shall pay over to such Collector of Internal Revenue all money 
 received from sales of such stamps for the preceding month, tak- 
 ing his receipt therefor, (e) The Collector of Internal Revenue 
 shall keep the requisitions for stamps sold by him and those sold 
 by such Assistant Treasurer, designated United States depos- 
 itary or authorized state agent separate and apart from all other 
 requisitions for stamps and shall preserve them in his office for a 
 period of two years.^^o 
 
 Penalties. Several, penalties are provided in Title XI of the 
 Revenue Act of 1921, which are dealt with in the following par- 
 agraphs. The act, omission, or failure of any official, agent or 
 other person or corporation, employed by any person, partner- 
 ship, company, association or corporation, within the scope of 
 his employment or office, will in every case be deemed also the 
 act, omission, or failure of such principal.^^i 
 
 Issuing or Accepting Unstamped Instruments. Anyone 
 who makes, signs, issues or accepts an instrument without the 
 full amount of the tax being paid thereon is guilty of a mis- 
 demeanor punishable by a fine of not more than $100 for each 
 ofFense.*22 
 
 420 Reg. 40„Rev., Art. 39, 
 
 «lReg. 4o"Rev., Art. 33. 
 
 422 Revenue Act of 1921, § 1102. The word "accept" is used in this sec- 
 tion in the general sense of "receive," not in the special sense peculiar to 
 drafts. (T. D. 2682.) 
 
1240 FEDERAL INCOME TAX 
 
 Selling Playing Cards Without Paying the Tax. Anyone 
 who manufactures and imports or sells any playing cards, pack- 
 age or other article without the full amount of tax being paid 
 thereon is guilty of a misdemeanor punishable by a fine of not 
 more than $100 for each offense.-'^s 
 
 Failure to Cancel Stamps. Anyone who makes use of a 
 stamp' without cancelling or obliterating the same is guilty of a 
 misdemeanor punishable by a fine of not more than $100 for each 
 offense.424 
 
 Fraudulent Removal or Reuse of Stamps. The penalty for 
 fraudulent removal or reuse of a stamp or having possession of 
 washed, restored or altered stamps removed from any instru- 
 ment is a fine of not more than $1,000 or imprisonment for not 
 more than five years, or both, and the reused, cancelled or coun- 
 terfeit stamp together with the document, package or . article 
 upon which it is placed or impressed may be forfeited to the 
 United States.^s 
 
 Transferring Stock Without Paying Tax. Any person 
 liable to pay the tax on sales or transfers of capital stock or cer- 
 tificates of profits or any one acting as agent or broker for such 
 person, who makes any sale, or in pursuance of a sale delivers any 
 certificate or evidence of the sale of any stock, interest or right or 
 bill or hiemorandum thereof, without the proper stamps affixed 
 thereto with intent to evade the law is guilty of a misdemeanor 
 punishable by a fine of not more than $1,000> or by imprisonment 
 for not more than six months, or both.*2« 
 
 Making Sales of Produce Without Paying Tax. Any per- 
 son liable to pay the tax on sales of produce on any exchange or 
 anyone acting as agent or broker for such person, who makes any 
 sale, or agreement of sale or agreement to sell, or pursuant there- 
 
 423 Revenue Act of 1921, §1102. The Act of August 28, 1894, also im- 
 posed the following penalties : § 39. Adhesive stamps to be affixed to each 
 package and canceled by the person using the stamp. Penalty, $50.00. § 40. 
 Manufacturer to register with the collector of the district. Failure to reg- 
 ister, penalty, $50.00. § 42. Penalty for counterfeiting, defacing, or re- 
 moving stamp or illegal use of the same, fine of $1000.00, 5 years' imprison- 
 ment, or both, at the discretion of the court. § 43. Penalty for removal or 
 .sale of playing cards (except for export) without having stamps affixed, 
 $50.00. § 44. Manufacturer removing or reusing any stamp, wrapper, or 
 cover for the purpose of evading the tax liable to a fine of $50.00 and for- 
 feiture. § 45. Penalty for selling or exposing for sale, removing, or con- 
 cealing playing cards without having affixed the stamp thereto, $50.00 and 
 forfeiture. (See T. D. 2817.) 
 
 424 Revenue Act of 1921, § 1102. 
 
 425 Revenue Act of 1921, § 1103. 
 
 426 Revenue Act of 1921, Title XI, Schedule A-3. 
 
THE STAMP TAX 1241 
 
 to, delivers any products or merchandise without a bill, mem- 
 orandum or other evidence thereof, or who delivers such bill, 
 memorandum or evidence, without having the proper stamps 
 affixed thereto, is guilty of a misdemeanor punishable by a fine 
 of not more than $1,000, or by imprisonment for not more than 
 six months, or both.*27 
 
 Failure to Stamp Insurance Policies. Any person to or for 
 whom or in whose name any insurance policy, taxable under Title 
 XI is issued, or any solicitor, agent or broker acting for or in 
 behalf of such person in the procurement of any such policy, 
 for failure to affix the proper stamps with intent to evade the tax, 
 in addition to other penalties provided herefor, will be obliged to 
 pay a fine of double the amount of the tax.^^s 
 
 Other Penalties. The present law contains no provision that 
 an unstamped instrument shall be void or shall not be admitted 
 as evidence in the courts or shall not be placed on record. But 
 Sections 13, 14 and 15 of the Act of June 13, 1898, as amended by 
 the Act of March 2, 1901, are held by the Treasury Department 
 to be still in force, and to apply to deeds to the extent that they 
 forbid the record and admission in evidence of unstamped deeds 
 and require their presentation to the collector of the district for 
 validation.*29 Section 13 makes prevision for the stamping of 
 documents issued without stamps ; Section 14 that unstamped in- 
 struments are not admissible in evidence ; and Section 15 that un- 
 stamped instruments shall not be recorded.*^" 
 
 This view of the Treasury Department has been upheld by a 
 Federal District Court*^i ^y^ jn ^ recent case*^^ decided by the 
 United States Supreme Court it has been held that Sections 13, 
 14 and 15 of the 1898 Law have no application under the 1914 
 Law. This case appears to be conclusive with respect to the 1918 
 and 1921 Laws as well as to the 1914 Law. The court said in 
 part: 
 
 "As to the absence of revenue stamps, it is true that the 
 deeds showing title in some of the plaintiffs^-they were produced 
 in evidence over the defendant's objection — were without the 
 stamps required by the act of October 22, 1914, c. 331, Sec. 22, 
 
 427 Revenue Act of 1921, Title XI, Schedule A-4. 
 
 428 Revenue Act of 1921, Title XI, Schedule A-13; T. D. 2891. 
 
 429 Letter from treasury department dated May 27, 1918; W. T. S. 1919, 
 Ti 3717. §§ 2, 4, 6, 12, 18, 20, 21, 22, 23, 24, 25, Schedule A, Schedule B, 
 §§ 27, 28, 29 and 50, of the Act of June 13, 1898, vs^ere expressly repealed by 
 the Act of April 12, 1902. (32 Stat. 96.) 
 
 430 The sections are printed in full at the end of this book. 
 
 431 U. S. V. Masters, 264 Fed. 250. 
 
 432 Cole et al. v. Ralph, 252 U. S. 286. 
 
1242 FEDERAL INCOME TAX 
 
 Schedule A, 38 Stat. 762. But this neither invalidated the deeds 
 nor made them inadmissible as evidence. The relevant provi- 
 sions of that act, while otherwise following the language of 
 earlier acts, do not contain the words of those acts which made 
 such an instrument invalid and inadmissible as evidence while 
 not properly stamped. Those words were carefully omitted, as 
 will be seen by contrasting Sees. 6, 11, 12 and 13 of the act of 
 1914 with Sees. 7, 13, 14 and 15 of the act of 1898, c. 448, 80 
 Stat. 454. From this and a comparison of the acts in other par- 
 ticulars it is apparent that Congress in the later act departed 
 from its prior practice of making such instruments invalid or in- 
 admissible as evidence while remaining unstamped and elected to 
 rely upon other means of enforcing this stamp provision, such 
 as the imposition of money penalties, fines and imprisonment. 
 The decisions upon which the defendant relies arose under the 
 earlier acts and were based upon the presence in them of what 
 studiously was omitted from the later one." 
 
 Excluding Unstamped Documents in State Courts. There 
 is some conflict of authority on the question whether the federal 
 government has any authority under the constitution to pre- 
 scribe rules of evidence for the state courts, and to preclude the 
 acceptance in evidence of unstamped or improperly stamped in- 
 struments in the state courts. There are cases holding expressly 
 that the federal government has such power, or holding to the 
 same effect by excluding unstamped or improperly stamped docu- 
 ments,*^^ but the weight of authority and the best considered 
 cases seem to establish a contrary rule.*^* One of the best state- 
 ments on the subject, contained in a Georgia case,*^^ which arose 
 under the 1898 Law, of which the above sections 13, 14 and 15 
 once formed a part, reads as follows: "We fully recognize the 
 power of Congress to levy and collect taxes for the support of the 
 
 iSS Chartiers etc. Co. v. McNamara, V2 Pa. St. 278 ; Hoops v. Dunham, 41 
 Ga. 109. 
 
 434 peo. ex rel. Barbour v. Gates, 43 N. Y. 40 ; Moore v. Moore, 47 N. Y. 
 467; Rowe v. Bowman, 183 Mass. 488, 67 N. E. 636; Davis v. Evans, 133 
 N. C. 320, 45 S. E. 643; Cassidy v. St. Germain, 22 R. I. 53, 46 Atl. 35; 
 Garland v. Gaines, 73 Conn. 662, 49 Atl. 19; Clemens v. Conrad, 19 Mich. 
 170; Sammons v. Halloway, 21 Mich. 162; Craig v. Dimock, 47 111. 308; 
 Duflfy V. Hobson, 40 Cal. 240; Pargoud v. Richardson, 30 La. Ann. 1286; 
 Knox V. Rossi, 25 Nev. 96, 57 Pac. 179, 48 L. R. A. 305 (note). Many more 
 cases could be cited to the same effect, but the above are leading cases, and 
 it is believed that they will furnish a guide to a complete list of the au- 
 thorities. 
 
 435 Small V. Slocumb, 112 Ga. 279, 37 S. E. 481. This case contains an 
 exhaustive examination of the authorities, and expressly disapproves of 
 Chartiers etc. Co. v. McNamara, 72 Pa. St. 278. 
 
THE STAMP TAX 1243 
 
 government. We fully recognize its power to do this by the im- 
 position of stamp duties, and to prescribe penalties for their 
 nonpayment. We also recognize its power to regulate the prac- 
 tice and procedure and to provide rules of evidence in courts 
 established under the constitution of the United States. After 
 much reflection and a careful and thorough investigation of 
 cases in the courts of other states, we have come to the con- 
 clusion, however, that Congress has no power to. prescribe rules 
 of evidence for a state court. Under our system of government, 
 the states retained all powers of sovereignty which were not 
 granted to the general government by the constitution. They 
 had the power to create and establish their own courts, and to 
 regulate the practice and procedure, and to prescribe rules of 
 evidence 'therein. There is nothing in the constitution of the 
 United States, which expressly or by implication gives to Con- 
 gress the power to prescribe rules of evidence for the courts of 
 the states. Of course Congress, having the power to impose 
 stamp duties, has the power to provide for the enforcement of 
 their payment by any necessary and proper means. But while 
 to make unstamped instruments inadmissible in evidence in State 
 courts would doubtless aid in compelling the payment of the 
 tax, we think that such a method of collection is neither neces- 
 sary nor proper, and is therefore not within the power of Con- 
 gress. The act of 1898 subjects to a penalty any one who fails 
 or refuses to comply with the provisions as to stamping written 
 instruments, and the Federal courts have ample machinery for 
 the enforcement of this penalty. No other method of enforce- 
 ment would seem to be necessary, but, even if it were. Congress 
 has power to provide that no unstamped instrument shall be 
 received in evidence in any of the Federal courts. An attempt to 
 extend this provision so as to make it applicable to the courts of 
 the several states can not, therefore, be defended upon the 
 ground that it is necessary. Nor do we think it a proper means 
 of enforcing the stamp act to interfere with courts peculiarly 
 within the control of the several states, by declaring what shall 
 or shall not be used as evidence in them, or to seek to make the 
 state courts punish a failure to comply with the federal stamp 
 act by refusing to allow unstamped documents to be used as 
 evidence in them." These state decisions have no application 
 to Federal courts, where the laws of Congress, prescribing rules 
 of evidence, must be observed.*^® And it has been held that 
 even though a deed improperly stamped is admissible in evidence 
 in the state courts, a purchaser at a judicial sale is entitled to a 
 
 436 Sackett v. M'Caflfrey, 131 Fed. 219. 
 
1244 FEDERAL INCOME TAX 
 
 deed which will defend his title in any tribunal where it is at- 
 tacked or where he is called upon to assert it, and that a referee 
 
 to sell must affix the required stamps to his deed to such pur- 
 chaser.^37 
 
 Voiding Instruments for Failure to Stamp. It is held that 
 a deed, note or other instrument is not rendered absolutely void 
 by a failure to stamp it properly,*38 but it is also held that such 
 deed, note, or other instrument, is rendered void if the omission 
 to stamp the same is wilful or with intent to evade the tax.*^^ 
 The point is in some confusion and no general rule can be safely 
 formulated. It has been held by a state court that a note which 
 lacks the stamping required by the 1916 and 1918 Federal Laws 
 is not "complete and regular on its face" and the purchaser of 
 such a note is not a holder in due course.**" 
 
 Suits for Collection of Stamp Taxes. Following the rule that 
 the government may recover duties upon imports as a personal 
 indebtedness of the importer, it has been held under the 1898 
 Law that there is nothing in the nature of a stamp tax which 
 per se negatives either the personal obligation otherwise to be 
 derived from the words imposing the tax, or its collection by 
 action; (2) the stamp is only the evidence, and its purchase the 
 convenient means, of payment, so that when a statute says that 
 a person shall pay, it obviously imposes upon that person a duty 
 to pay which may be enforced through the ordinary means 
 adapted to the recovery of a definite sum due, unless that course 
 is clearly prohibited; (3) the penalties contained in the act were 
 provided to induce the payment of the tax and not as a substi- 
 tute for payment, and such provisions do not preclude the idea 
 of personal liability; (4) the punitive provisions invalidating 
 unstamped instruments offer an escape through a voluntary pay- 
 ment and therefore do not deprive the government of the right 
 to compel payment by action; (5) the act itself provides by ref- 
 erence to the Revised Statutes and the administrative, special 
 or stamp provisions of law that payment may be enforced by 
 action .441 
 
 437Lorlng V. Chase, 26 Misc. 318; 56 N. Y. Supp. 312. 
 
 438 Moore v. Moore, 47 N. Y. 467; Goodwine v. Wands, 25 Ind. 101 ; Adams 
 V. Dale, 29 Ind. 273; D'Armond v. Dubose, 22 La. Ann. 131. 
 
 439 Dowell V. Applegate, 7 Fed. 881 ; Rowe v. Bowman, 183 Mass. 488, 67 
 N. E. 636; Cassidy v. St. Germain, 22 R. I. 58, 46 Atl. 35; Hooper v. 
 Whitaker, 130 Ala. 324, 30 So. 355; Harvey v. Wieland, 115 la. 564, 88 
 N. W. 1077; Ohio R. June. R. R. Co. v. Penna. Co., 222 Pa. St. 573, 72 Atl. 
 271. 
 
 440 Lutton V. Baker, 187 la. 753, 174 N. W. 599. 
 
 441 U. S. V. Chamberlin, 219 U. S. 250. 
 
THE STAMP TAX 1245 
 
 Constitutionality of Stamp Taxes. The constitutionality of 
 various stamp tax acts has only been attacked on certain grounds 
 and in reference to particular clauses, and no general deduction 
 can be made as to the constitutionality of the present statute 
 in toto. In one of the leading cases on the subject^*^ n -y^^s 
 decided that the 1898 Law was valid, in so far as it placed a 
 stamp tax upon sales, agreements of sale, or agreements to sell 
 any products or merchandise at any exchange or board of trade, 
 or other similar place, either for present or future delivery. The 
 court held that the tax was not a direct tax, but a duty or excise 
 tax laid upon the privilege or opportunity afforded by boards of 
 trade or exchanges for the transaction of business, although the 
 amount of the tax was measured by the value of the property 
 sold ; and that it was immaterial that the tax could not be added 
 to the price of the thing sold. The tax was also held to be uni- 
 fornl both in the geographical sense and in the sense that it taxed 
 all taxpayers similarly situated, since there was a reasonable 
 basis of classification in taxing all sales on exchanges. The court 
 ruled further that the tax was not invalid or discriminatory (a) 
 because it applied only to sellers and not to purchasers (b) be- 
 cause it did not tax the same privilege when used for all 
 purposes, and (c) because it required a person selling property 
 in intra-state commerce to make a memorandum, this being a 
 proper means for the collection of the tax and a legislative ques- 
 tion. The stamp tax on a memorandum or contract of sale of a 
 certificate of stock imposed by the 1898 Law was held not to be 
 a direct tax, but to fall within the class of duties, imposts and 
 excises permitted under the first clause of Section 8 of Article 1 
 of the Constitution.**^ it has been held that the statute *** giving 
 the Commissioner of Internal Revenue power to require persons, 
 who fail or refuse to make proper returns for stamp tax as well 
 as other tax purposes, to produce their books, is not unconstitu- 
 tional, since an order to produce books is not violative of the 
 rights of a witness, though such rights may be invaded after his 
 appearance.**^ In a recent case**^ it was contended that the 1914 
 Law was unconstitutional and void if it imposed a tax of any 
 
 442 Nicol V. Ames, 173 U. S. 509. 
 
 443 Thomas v. U. S., 192 U. S. 363. For a full discussion of the subject 
 see the opinion of the lower court, 115 Fed. 207. 
 
 444 R. S. § 3173. 
 
 445 Calkins v. Smietanka, 240 Fed. 138. 
 
 446 Home Title Ins. Co. v. Keith, 230 Fed. 905. This case contains a 
 lengthy discussion of the authorities holding in favor of the constitutionality 
 of the statute. 
 
1246 FEDERAL INCOME, TAX 
 
 kind upon the deed given by a referee in pursuance of the order 
 and as a part of the procedure of a State Court. It was held that 
 the Act was not invahd in this respect as imposing a tax on the 
 state's exercise of its governmental functions, since the tax im- 
 posed was an excise tax on the business transaction involved in 
 the purchase of the land from the referee and its transfer to the 
 purchaser, and that the transfer was in its nature the same as 
 any transfer from one individual to another. But the 1898 Law 
 so far as it attempted to impose a tax on charter parties used 
 exclusively for the carriage of cargo from ports in the United 
 States to foreign ports, was held to be a direct, and not inci- 
 dental, tax on exports or exportation and, therefore, in this re- 
 spect unconstitutional.^^^ It is probable that the present law 
 would not be upheld if it were construed in any way to place a 
 tax upon exports or exportation.**^ And it seems that any con- 
 struction of Sections 13, 14 and 15 of the 1898 Law, which are 
 held to be still in force,**'' whereby unstamped or improperly 
 stamped deeds, notes or other instruments, were denied admis- 
 sion in evidence in State courts would render the section uncon- 
 stitutional as an attempt on the part of the federal government 
 to prescribe rules of evidence for the State courts.^^o Conse- 
 quently such sections probably apply only to the federal courts, 
 since it is a well-known rule of statutory construction that where 
 a statute admits of two constructions, one of which presses 
 it beyond constitutionality and the other of which brings it 
 within constitutionality or avoids the question, the courts tend 
 to adopt the latter interpretation.*^! An amendment to the stock 
 transfer act of New York imposing a tax of 2 cents "on each 
 share of one hundred dollars of face value or fraction thereof" 
 
 «7U. S. V. Hvoslef, 237 U. S. 1. Compare with Simpson v. Treat, 126 
 Fed. 1003. 
 
 **8 See T. D. 2682. Letter from treasury department dated April 13, 1918; 
 W. T. S. 1918, §3707; letter from treasury department dated January 24, 
 1918; W. T. S. 1918,113683. ' 
 
 449 Letter from treasury department dated May 27, 1918; W. T. S. 1918, 
 If 3723. 
 
 450 See paragraph on Excluding Unstamped Documents in State Courts, p. 
 1242. 
 
 451 See paragraph Construction Which Will be Constitutional in the 
 chapter on Construction of the Law. In Sackett v. McCaffrey, 131 Fed. 
 219, the court declined to discuss the correctness of the state decisions^/ 
 adopting the interpretations of §§ 13, 14, and 15 of the Act of June 13, 1898, 
 which restrict the prohibition against the admission of unstamped docu- 
 ments as evidence to the federal courts and thus saves the sections from 
 unconstitutionality. 
 
 451 Peo. V. Mensching, 187 N. Y. 8. 
 
THE STAMP TAX 1247 
 
 instead of "on each one hundred dollars of face value or fraction 
 thereof" as provided in the original law, was held unconstitu- 
 tional on the ground that such amendment taxed the sale of all 
 shares of the face value of one hundred dollars and also all shares 
 of the face value of any fraction of one hundred dollars, the 
 words "fraction thereqf" being held to relate to "share" rather 
 than to "one hundred dollars"; and that therefore the tax was 
 measured by the number of shares regardless of face value 
 instead of the face value of the shares ; that all corporate shares 
 were placed in a class, but all members of the class were not 
 treated alike; that the statute bore heavily upon some and 
 lightly upon others in the same situation without method or 
 order or reason and resulted in arbitrary or accidental selection 
 rather than classification. While wide latitude in classification 
 is possessed by the legislature, this power is not without the 
 limitation that any classification adopted must have some basis, 
 reasonable or unreasonable, other than mere accident, whim or 
 caprice and must not result in an arbitrary discrimination in 
 favor of one as against another of the same class. So far as the 
 tax on the issue and sales or transfers of certificates or shares 
 without par or face value of which the actual value does not 
 exceed $100 per certificate or share is concerned, the Revenue 
 Act of 1918, like the above unconstitutional amendment imposes 
 a tax without reference to the actual value of the certificates or 
 shares issued or transferred and in many cases would seem to 
 constitute arbitrary selection rather than constitutional classifi- 
 cation.*52 j^ construing the 1914 Law as imposing a tax upon 
 the issue of certificates of shares issued by a .manufacturing 
 company organized in the form of a trust under the common law 
 and deriving none of its rights, benefits or qualifications from 
 any statute, and which was not an ordinary common law real 
 estate trust, the Court has sustained the constitutionality of the 
 law, holding it not invalid on the theory that it was inapplicable 
 to other associations. The tax was stated to be merely on muni- 
 ments of title so that, if other associations did not issue such 
 muniments of title, they were accordingly not taxable.*^^ 
 
 Payment Under Protest and Duress. The general rule of law, 
 that a voluntary payment of money cannot be recovered, applies 
 to stamp taxes. A person, therefore, who wishes to recover the 
 amount of any stamp tax, which he considers illegally exacted, 
 should pay the tax under protest and such payment should be 
 
 452Malley v. Bowditch, 259 Fed. 809; Edwards v. Wabash Ry. Co., 264 
 Fed. 610. 
 *53 Chesbrough v. U. S., 192 U. S. 253. 
 
1248 FEDERAL INCOME TAX 
 
 involuntary and under duress. Stamp taxes paid under protest 
 or with notice that the payer contends that they are illegal and 
 intends to institute suit to compel their repayment, may on occa- 
 sion be recovered, although generally speaking even a protest or 
 notice will not avail if the payment be made voluntarily with 
 full knowledge of the circumstances and without any coercion by 
 the actual or threatened exercise of power possessed by the party 
 exacting or receiving the payment over the person or property 
 of the party making the payment from which the latter has no 
 other means of immediate relief than such payment. The rule 
 is firmly established that stamp taxes voluntarily paid cannot 
 be recovered back and that payments with knowledge and with- 
 out compulsion are voluntary. Thus, in a case*^* in which cer- 
 tain stamps were purchased from the collector who was not 
 informed when the purchase was made of the particular purpose 
 and who was given no intimation of any claim that the purchaser 
 was acting under duress, recovery was denied even though the 
 purchaser affixed the stamps in order to complete the transaction 
 between himself and the vendee named in the deed to be stamped 
 and to obtain the consideration for the property transferred. It 
 was held that this transaction, while it might have constituted 
 duress as between the parties to the deed, was a matter with 
 which the collector had nothing to do and that the payment to 
 the collector for the stamps was purely voluntary. The written 
 application to the Commissioner to recover the amount paid for 
 the stamps was held not to be the statutory equivalent of a com- 
 mon-law protest or notice of suit. While the Commissioner under 
 the Revised Statutes ^^4 might have refunded the amount of such 
 tax, an appeal was not permitted from his refusal to refund 
 because it was not a ruling either specific or resulting from a 
 demand, to which the taxpayer yielded under the protest and 
 with notice, and from which he appealed to the Commissioner of 
 Internal Revenue. Likewise, where a stamp tax was paid on 
 manifests of cargoes on certain vessels bound to foreign ports as 
 required by the 1898 Law, no information having been given to 
 the person from whom the stamps were bought of the particular 
 purpose, or claim made to the collector or Commissioner that the 
 tax was unconstitutional, and no claim having been made to the 
 collector of the port of New York that the taxpayer was acting 
 under restraint and yielding only to enable his ship to depart, 
 recovery was denied because the tax was not paid under duress, 
 even though clearance papers could not be procured without the 
 
 454 R. S. § 3220. 
 
THE STAMP TAX 1249 
 
 delivery to the collector of the port of outward foreign manifests 
 of cargo properly stamped, and even though the master of a 
 vessel failing to deliver the proper manifest and to obtain a 
 clearance, M^as subject to a penalty .^^^ 
 
 Injunctive Relief. The general rule that a taxpayer may not 
 resort to a suit to restrain the assessment or collection of any 
 tax applies to stamp taxes, and a taxpayer is not entitled to an 
 injunction to restrain the Commissioner of Internal Revenue 
 from assessing the taxes on sales of grain to which no stamps 
 have been affixed, the only remedy to the taxpayer in such case 
 being by suit to recover the tax.*^® 
 
 455 U. S. V. N. Y. & Cuba etc. Co., 200 U. S. 488. 
 
 456 Calking v. Smietanka, 240 Fed. 138. See R. S. §§ 3224, 3226. 
 
CHAPTER 46 
 TAX ON EMPLOYMENT OF CHILD LABOR 
 
 This tax was a new feature of the internal revenue laws of 
 the United States, first introduced by the Revenue Act of 1918 
 and continued without change by the Revenue Act of 1921, de- 
 signed to effect the abandonment of child labor in the estab- 
 lishments specified in the law.i The rulings on this subject 
 in addition to Regulations 46, are in the form of letters and 
 are compiled in "Child Labor Tax Rulings," revised September, 
 1920. 
 
 Effective Date of the Act. The tax went into effect beginning 
 sixty days after the passage of the Revenue Act of 1^18." The 
 Revenue Act of 1918 was signed by the President on February 
 24, 1919, and the effective date was therefore April 25, 1919. 
 The first taxable year, that is, the taxable year 1919, consisted 
 of the period between April 25, 1919, and December 31, 1919, 
 both inclusive, or any fiscal year ending within the same period.^ 
 
 Persons to Whom the Tax Applies. The tax applies to any 
 individual, corporation, partnership, association, joint-stock 
 company, or insurance company operating a (1) mine, (2) quar- 
 ry, (3) mill, (4) cannery, (5) workshop, (6) factory or (7) 
 manufacturing establishment situated in the United States (ex- 
 cept only a boys' or girls' canning club duly recognized by a 
 state agricultural department or United States agricultural de- 
 partment) .* 
 
 Mill, Cannery, Workshop, Factory or Manufacturing Estab- 
 lishment. In the case of these establishments the tax applies if 
 (a) any child between the ages of 14 and 16 (presumably both 
 ages inclusive) has been employed or permitted to work more 
 than eight hours in any day or more than six days in any week 
 or before six o'clock a. m. or after seven o'clock p. m. ; and (b) 
 if any child under the age of fourteen has been employed or per- 
 mitted to work at all.^ The term "workshop, factory, or manu- 
 facturing establishment" includes bakeries, blacksmith shops, 
 
 1 Revenue Act of 1921, Title XII; Revenue Act of 1918, Title XII. 
 
 2 Revenue Act of 1918, § 1207. 
 
 3 Reg. 46, Art. 5. 
 
 ■4 Revenue Act of 1921, §1200; Revenue Act of 1918, §1200; Reg. 46, 
 Art. 2. 
 
 5 Revenue Act of 1921, §1200; Revenue Act of 1918, §1200; Reg. 46, 
 Art. 3. The term "under the age of fourteen years" is meant to includ^all 
 
 1250 
 
TAX ON EMPLOYMENT OF CHILD LABOR 1251 
 
 boxmaking establishments, steam laundries, and stonecutting.« 
 The term "manufacturing establishment" includes bottling 
 plants, gas companies,^ ice factories,^ meat markets engaged in 
 the manufacture of meats for local trade, newpaper publishing 
 plants or companies.^ timber cutting in woods and logging force 
 operations connected with the operation of a manufacturing 
 establishment." The following are not included within these 
 terms: drug store (retail) ; express companies; grocery stores 
 (retail) ; mercantile stores not connected with taxable establish- 
 ments ; moving picture business, either in studio or out of doors ; 
 telegraph offices, in respect of boys and messengers; telephone 
 companies; trust and title companies; tobacco plantations (cut- 
 ting and stringing tobacco leaves) ; commissaries operated by 
 sawmills." Some additional rulings in particular industries are 
 indicated below. 
 
 Employment in General and Factory Offices. The terms 
 workshop, factory, or manufacturing establishment as used in 
 the Child Labor Tax Law, clearly mean the premises on which 
 
 children who have not yet reached their fourteenth year. The term 
 "eight hours in any day" means the actual period of employment and shall 
 be reckoned from the time the child is required or allowed to be at the 
 place of employment until he or she stops work for the day, exclusive of 
 one continuous period of a definite length of time during which the child 
 is off work and not subject to call for duty of any kind. The term "six 
 days in any week" means six consecutive days, no one of which shall 
 consist of more than eight hours of working time. A "day" must not be- 
 gin before 6 o'clock a. m. and must not extend beyond 7 o'clock p. m. (Reg. 
 46, Art. 1.) 
 
 6 Letters from treasury department dated June 14, 1919; April 1, 1919; 
 June 9, 1919; and August 2, 1919, respectively. 
 
 I The employment of boys between 14 and 16 years to light and ex- 
 tinguish street lamps does not render a gas company subject to tax if their 
 presence in and about .the gas factory premises is not required or per- 
 mitted. 
 
 S This ruling refers to the employment of boys to accompany delivery 
 wagons and carry ice into houses. 
 
 9 The employment of children in the distribution of papers outside and 
 away from the manufacturing establishment does not come within the 
 purview of the statute. 
 
 10 Letters from treasury department dated May 28, 1919; May 21, 1919; 
 April 12, 1919; May 5, 1919; and May 27, 1919, respectively. 
 
 II Letters from treasury department dated May 2, 1919; May 1, 1919; 
 May 15, 1919; May 2, 1919; June 14, 1919; June 21, 1919; April 1, 1919; 
 May 31, 1919; May 7, 1919; May 8, 1919; June 20, 1919; May 21, 1919. 
 The presence of child employees of the company, however, in or about a 
 sawmill premises contrary to the standards laid down by the statute 
 would subject the person operating the mill to the tax. 
 
1252 FEDERAL INCOME TAX 
 
 the manufacturing business is conducted, including the buildings 
 and grounds. The terms in their ordinary sense include what- 
 ever is necessary to carry on the mechanical operation or proc- 
 ess. Any part essential to the conduct of a manufacturing 
 business is as much a part of a manufacturing establishment as 
 the buildings in which the machinery is housed, or the ground 
 occupied by the buildings. A factory office, therefore, is a part 
 of the establishment and no distinction can be made in employ- 
 ment in different departments. The duties of office employees 
 frequently take them into and often require their presence in the 
 plant or manufacturing part of such establishments when they 
 are accessible. Actual employment in the manufacturing or 
 production part of a plant is not necessary, and it is not possible 
 to exempt from the application of the law any occupation or 
 class of employment connected with the operation of the estab- 
 lishment specified. The law applies if children are employed in 
 or about the establishment. An office which occupies the top 
 floor of a factory building of a manufacturing and selling com- 
 pany would come within the application of the law, and if chil- 
 dren under 14 years are employed, or if children between 14 
 and 16 years are permitted to work more than eight hours in any 
 day or more than six days in any week, or before 6 a. m., or after 
 7 p. m., the person operating the establishment would be subject 
 to the imposition of the tax. Office employees as a class and 
 apart from the operation of the establishments specified are not 
 believed to be within the taxation intent of the Child Labor Tax, 
 and the provisions of this act do not apply to the employment of 
 children in a general office, a main office, or district office estab- 
 lished purely for office purposes, in no way a part of the manu- 
 facturing establishment as defined, but conducted solely as a city 
 office whose employees under the age of 16 years are never re- 
 quired or permitted or suffered to be in or about the manu- 
 facturing establishment.^^ 
 
 Agricultural and Forestry Operations. The statute does 
 not apply to the agricultural industry, even though it may be 
 part of a complete industrial cycle, or to forestry operations. A 
 sugar mill and sugar-cane plantation may be operated as a unit, 
 but the law does not apply to the labor employed in the produc- 
 tion of the cane. The employment of children contrary to the 
 terms of the law in or about the mills would subject the person 
 operating the mill to the imposition of the tax, but employment 
 
 12 Letters from treasury department dated May 31, 1919; May 2, 1919; 
 and June 26, 1919. 
 
TAX ON EMPLOYMENT OF CHILD LABOR 1253 
 
 or permission to work of children in the fields in purely farming 
 or agricultural operations does not come within the taxation 
 intent of the law.^^ But the snipping of beans or husking of 
 corn for canning, even though carried on at some distance from 
 the cannery proper, is an essential part of the business. Beans 
 are snipped and corn husked as a necessary part of a canning 
 operation and not a necessary part of an agricultural operation. 
 Farming or agricultural work may cease and be complete with 
 the production and picking or gathering of beans and corn, but 
 when these vegetables are prepared and broken, snipped or 
 husked, with a view to their immediate use in canning or pre- 
 serving, for public sale, the snipping and husking, wherever 
 carried on — in the fields, in sheds or shelters on the farm, in 
 farm houses, or in sheds and shelters near the canneries — are a 
 part of a cannery operation and the children employed on such 
 work are employed in a cannery within the meaning of the law.^* 
 The employment of children in carrying on forestry operations 
 in turpentine woods — such as distributing the "cups" or recep- 
 tacles to catch the crude gum, or collecting the cups or recep- 
 tacles, or dipping or removing the crude gum from the collecting 
 receptacles and transferring it to buckets and thence to barrels, 
 or raking dead leaves and rubbish away from the pine trees, or 
 serving as water boys — occupations which are physically sep- 
 arate and wholly apart, from the still or manufacturing estab- 
 lishment and from the character of the work would not permit 
 the children to be in or about the still or manufacturing estab- 
 lishment, does not subject the employer to the tax.^^ The em- 
 ployment of children in the woods, as chain carriers for land 
 surveyor and timber estimator, the nature of their employment 
 never requiring or permitting their presence in or about the 
 mechanical operations essential to the sawmill industry, does not 
 come within the taxation intent of the law, and would not sub- 
 ject the person operating the sawmill to the tax.^^ 
 
 Vacation Period. There is no exemption under the Child 
 Labor Tax Law for the vacation period.^''^ 
 
 Children in Company of Mothers. The presence of any 
 child in or about any of the establishments specified in the law 
 
 13 Letters from treasury department dated April 12, 1919, and May 2, 
 1919, 
 
 14 Letter from treasury department dated June 26, 1919. 
 
 15 Letter from treasury department dated July 7, 1919. 
 Ifi Letter from treasury department dated May 22, 1919. 
 17 Letter from treasury department dated May 27, 1919. 
 
1254 FEDERAL INCOME TAX 
 
 will be taken as prima facie evidence of its employment therein. 
 It is immaterial that the children are in or about the establish- 
 ments with their mothers and are entirely too young to work or 
 be of service there.^^ 
 
 Son of Proprietor. A tax is imposed on every person operat- 
 ing a mill, cannery, workshop, factory, or manufacturing estab- 
 lishment in which children under the age of 14 years are em- 
 ployed or permitted to work. No distinction can be made under 
 the law in the matter of the owner's children.i^ 
 
 Janitor Service in Office of Manufacturing Plant. No 
 distinction can be made in the kind of occupation or employment 
 in any of the establishments specified in the Child Labor Tax 
 Law. A factory office is a part of the factory, and where chil- 
 dren under 14 years of age are employed to do sweeping and 
 cleaning in the office of a manufacturing plant during any por- 
 tion of the year, the person operating such establishment is sub- 
 ject to the tax imposed.^o 
 
 Mine or Quarry. In the case of a mine or quarry, the tax ap- 
 plies if any child under the age of 16 years has been employed or 
 permitted to work therein.^i 
 
 In or About Mines. The term mining premises as applied 
 to the Child Labor Tax Law is held to mean any property used 
 in mining operations — that is, the mining lands in which the 
 deposits of minerals are worked by ordinary mining processes — 
 and is limited to the grounds and buildings used in the operation 
 of the mine. The different departments of the mining premises, 
 such as work on tipples, breakers, tracks, in mine office, carrying 
 messages from department to department, hauling materials to 
 and from the mines, or any other operation connected with the 
 whole mode of obtaining metals or minerals for commercial pur- 
 poses, come within the purview of the law. Stores and other en- 
 terprises outside and away from the mining operations, though 
 owned and controlled by the mining company, are not considered 
 necessary to carry on the mechanical operation or process of the 
 mine and the provisions of Section 1200 relating to mines do not 
 apply to the employment of children in such places, the character 
 of the work never requiring or permitting their presence in or 
 
 18 Letter from treasury department dated June 4, 1919. 
 
 19 Letter from treasury department dated May 31, 1919. 
 
 20 Letter from treasury department dated May 16, 1919. 
 
 21 Revenue Act of 1921, §1200; Revenue Act of 1918, §1200; Reg. 46, 
 Art 3. The term "under the age of sixteen years" is meant to include all 
 children who have not yet reached their sixteenth year. (Reg. 46, Art. 1.) 
 
TAX ON EMPLOYMENT OF CHILD LABOR 1255 
 
 about the mines. Making of mine props and cutting of ties or 
 the manufacture of other material purchased for use in a mine is 
 not part of the mining process and the law relating to employ- 
 ment of children in mines would not apply. If, however, such 
 work is done in connection with the operation of a sawmill or 
 lumber mill, or other manufacturing establishment, the law per- 
 taining to mills and manufacturing establishments would apply. 
 If the grading of a road takes a child employee under 16 years in 
 or about a mine, the person operating the mine will be liable to 
 the tax. If the work of grading a road does not require the child 
 to be in or about the mine, his employment will not subject the 
 mine operator to the tax. The tax is not imposed on the employ- 
 ment of children at road grading, nor is it imposed on a mining 
 company for employment of children under 16 everywhere, but 
 it is imposed upon the mine operator if children under 16 years 
 are employed in or about the mines.^^ 
 
 Coke Ovens. A coke plant is not considered a part of a min- 
 ing industry but is held to be a manufacturing establishment 
 within the meaning of the law.^^ 
 
 Time (Sun or Clock). The Act of Congres% approved March 
 19, 1918, entitled "An act to save daylight and to provide stand- 
 ard time for the United States," provides that "In all statutes 
 * * * relating to time * * * within which any act 
 shall or shall not be performed by any person subject to the 
 jurisdiction of the United States, it shall be understood and in- 
 tended that the time shall be the United States standard time 
 of the zone within which the act is to be performed." The stand- 
 ard of hours relating to the employment of children must be 
 determined in accordance with the provisions of the law on this 
 point, and the United States standard time of the zone in which 
 a mine, quarry, mill, cannery, workshop, factory, or manufac- 
 turing establishment is located will govern in the enforcement 
 of the Child Labor Tax law.^* 
 
 Duration of Employment. Liability for the tax is established 
 by the employment of any child laborer. The product of the 
 child's labor is not the basis for the imposition of the tax. The 
 tax is applied to the entire net income of the taxable establish- 
 ment.25 Employment contrary to the provisions of the act for a 
 
 22 Letter from treasury department dated August 2, 1919. 
 
 23 Letter from treasury department dated June 21, 1919. 
 
 24 Letter from treasury department dated May 2, 1919. 
 
 25 Reg. 46, Art. 3. 
 
1256 FEDERAL INCOME TAX 
 
 single day is sufficient to impose the tax on the net profits for the 
 whole taxable year.-" 
 
 Certificate of Age. Any person subject to the provision of the 
 law who in good faith obtains a certificate at the time of employ- 
 ment showing the child to be of such age as not to come within 
 the purview of the law, and keeps such certificate on file, may 
 rely in good faith on such certificate to relieve him from the 
 tax. Such certificate is to be issued in such form, under such 
 conditions, and by such persons as may be prescribed by a board 
 composed of the Secretary of the Treasury, the Commissioner of 
 Internal Revenue and the Secretary of Labor. The board may 
 also authorize the use of employment certificates or other similar 
 papers as to the age of the child issued under the laws of any 
 state designated by the board.^'? This board has prescribed the 
 following regulations : Certificates of age, in order to free from 
 liability to taxation persons operating the business specified, 
 shall be either: (a) Federal age certificates for children between 
 14 and 16 years of age when employed or permitted to work in 
 any mill, cannery, workshop, factory, or manufacturing estab- 
 lishment, and forjihildren between 16 and 17 years of age when 
 employed or permitted to work in or about any mine or quarry. 
 Such certificates shall bear (1) the child's name ; (2) birthplace; 
 (3) month, day, and year of birth; (4) color; (5) sex; (6) kind 
 of evidence of age accepted and age when physical age is ac- 
 cepted; (7) signature of the child; (8) name and address of 
 child's parents, guardian, or custodian; (9) name and address 
 of employer; (10) signature, address, and official designation of 
 agent issuing the certificate; (11) date and place certificate was 
 issued, (b) An age certificate, working or employment certifi- 
 cate or permit, or other similar paper as to the age of the child, 
 issued in accordance with the laws of the state in such states 
 as are designated by the board.^^ 
 
 Proof of Age. Age-certificate inspectors authorized to issue 
 federal certificates of age shall do so only after securing, exam- 
 ining, and approving proof of age as follows: The child shall 
 make application to the age-certificate inspectors in person, ac- 
 companied by parent, guardian or custodian, with documentary 
 evidence of age, showing that he is 14 years of age or over if the 
 employment is to be in a mill, cannery, workshop, factory, or 
 
 26 See Revenue Act of 1921, §§ 1200 and 1207; Revenue Act of 1918, 
 §§ 1200 and 1207. 
 27 Revenue Act of 1921, § 1203 (a); Revenue Act of 1918, § 1203 (a). 
 28 Reg. 46, Art. 8. 
 
TAX ON EMPLOYMENT OF CHILD LABOR 1257 
 
 manufacturing establishment, or that he is between 16 and 17 
 years of age if employment ■ is sought in or about a mine or 
 quarry. Documentary evidence of proof of age, required in the 
 order following, shall be: (a) A birth certificate or duly attested 
 transcript thereof issued by the registrar of vital statistics or 
 other officer charged with the duty of recording births, (b) A 
 baptismal certificate or transcript of the record of baptism, duly 
 certified, showing the date of birth and place of baptism of child, 
 (c) A 6o?m fide contemporary record of the date of the child's 
 birth, comprising a part of the family record of births in the 
 Bible, or other documentary evidence satisfactory to the board, 
 such as a certificate of arrival in the United States issued by the 
 United States immigration officers and showing the age of the 
 child, a passport showing the age of the child, or a life insurance 
 policy : Provided, that such , other satisfactory documentary 
 evidence has been in existence at least one year, and in the case 
 of a life insurance policy at least four years; And provided 
 further, that a school record or a parent's, guardian's, or cus- 
 todian's affidavit or other written statement of age shall not 
 be accepted except as specified in paragraph (d) . (d) A certifi- 
 cate signed by a public-health physician or a public-school phy- 
 sician, stating, in his opinion, the physical age of the child. Such 
 certificate shall show the height and weight of the child and 
 other evidence of physical age revealed by the physician's exam- 
 ination or upon which the opinion of the physician is based. A 
 parent's, guardian's, or custodian's signed statement as to the 
 age of the child, and a record of age as given on the register of 
 the school first attended by the child, or in any school census, if 
 obtainable, shall be submitted with the physician's certificate 
 showing physical age. No certificate shall be issued if the phy- 
 sician's certificate of physical age or the parent's statement or 
 the register of the school first attended or the school census 
 shows the child to be under the age of 14 if employment in a 
 mill, cannery, workshop, factory, or manufacturing establish- 
 ment is contemplated, or under the age of 16 if employment in a 
 mine or quarry is contemplated. The agent issuing the age 
 certificate for a child shall require the evidence of age stated in 
 paragraph (a) in preference to that specified in any subse- 
 quent paragraph, and shall not accept evidence of age permitted 
 by any later paragraph unless he shall receive and file evidence 
 that the proof of age required by the preceding paragraph or 
 paragraphs can not be obtained.^^ 
 
 29 Reg. 46, Art. 9. 
 
1258 FEDERAL INCOME TAX 
 
 Acceptance of State Certificates. States in which age certifi- 
 cates, or working or employment certificates, permits or other 
 similar papers as to the age of the child are issued under state 
 authority, substantially in accord with the requirements of this 
 act and these regulations may be designated as states in which 
 such certificates have the same force and effect as federal age 
 certificates, except as the acceptance for the purposes of the 
 statute of individual certificates may be suspended or revoked. 
 Certificates, permits, or other similar papers in states so desig- 
 nated shall have the same effect as federal age certificates so 
 long as they shall remain in force, the Commissioner or such per- 
 son as he may designate possessing the right to suspend or re- 
 voke the acceptance for the purposes of this act of individual 
 certificates at any time. Certificates imposing restrictions or 
 conditions in addition to the requirements of the federal law or 
 of the regulations shall not be held inconsistent with the law .3" 
 
 Mistakes as to Age of Child. If a child has been employed or 
 permitted to work under a mistake of fact as to the age of such 
 child, and without intention to evade the tax, such employment 
 will not cause the tax to be imposed.^^ 
 
 Inspection of Establishment. The Commissioner, or any per- 
 son authorized by him, may enter and inspect at any time any 
 mine, quarry, mill, cannery, workshop, factory or manufactur- 
 ing establishment. The Secretary of Labor, or any person duly 
 authorized by him, has like authority to make inspections for the 
 purpose of complying with a request of the Commissioner .^^ ^ 
 
 Basis and Rate of Tax. The statute imposes an excise tax 
 which is in addition to all other taxes imposed by law at the rate 
 of 10% on the entire net profits received or accrued during any 
 taxable year in which child labor is employed for any period of 
 time, as indicated in the law. The net profits are computed by 
 deducting from the gross amount received or accrued during the 
 taxable year from the sale or disposition of such products manu- 
 factured within the United States (a) the cost of raw materials 
 entering into the production; (b) running expenses, including 
 rentals, repairs, maintenance, heat, power, insurance, manage- 
 ment and a reasonable allowance for salaries and depreciation; 
 (c) interest on money borrowed and used to meet the needs of the 
 business; (d) taxes of all kinds paid during the taxable year 
 with respect to the business or property relating to the produc- 
 
 30 Reg. 46, Art. 10. 
 
 31 Revenue Act of 1921, § 1203 (b) ; Revenue Act of 1918, § 1203 (b). 
 
 32 Revenue Act of 1921, § 1206; Revenue Act of 1918, § 1206. 
 
TAX ON EMPLOYMENT OF CHILD LABOR 1259 
 
 tion and (e) losses actually sustained within the taxable year in 
 connection with the business of producing such products, includ- 
 ing losses from fii-e, flood, storm or other casualties, not com- 
 pensated for by insurance or otherwise. If the product is sold 
 at less than the fair market price in such manner as to directly 
 or indirectly benefit any person directly or indirectly interested 
 in the business or with intent to cause such benefit, the tax is im- 
 posed on the gross amount received or accrued from the sale or 
 disposition during the period that any such sales took place.-^^ 
 
 Returns to Be Filed. Every person subject to the provisions of 
 the law (which seems to mean those who operate establishments 
 of the kind enumerated in the law) is required to file a return 
 annually showing the gross amount of income received or ac- 
 crued during the year from the sale or disposition of the product 
 of any mine, quarry, mill, cannery, workshop, factory or manu- 
 facturing establishment in which children have been employed 
 subjecting him to the tax and the amounts allowed by the law 
 to be deducted therefrom, and other particulars, in such form as 
 the Commissioner may require. Such returns are to be filed on 
 or before the first day of the third month following the close of 
 each taxable year, with the local collector. Extension of time to 
 file returns may be granted by the collector in case of sickness 
 or absence.^* 
 
 Tax Due. The collector transmits forthwith all returns to the 
 Commissioner, "who shall, as soon as practicable, assess the tax 
 found due and notify the person making such returns of the 
 amount of tax for which such person is liable, and such person 
 shall pay the tax to the collector on or before 30 days from the 
 date of such notice." ^^ 
 
 Time Record. A time record should be kept daily by persons 
 operating any mill, cannery, workshop, factory, or manufactur- 
 ing establishment, showing the hours of employment for each 
 and every child who has completed the fourteenth year but has 
 not yet completed the sixteenth year of its age, whether em- 
 ployed on a time or a piece rate basis. Certificates of age for 
 children employed in any mill, cannery, workshop, factory, or 
 manufacturing establishment may be suspended or revoked for . 
 
 33 Revenue Act of 1921, §§1200, 1201 and 1202; Revenue Act of 1918, 
 §§ 1200, 1201 and 1202; Reg. 46, Art. 3. 
 
 34 Revenue Act of 1921, § 1204; Revenue Act of 1918, § 1204; R. S., § 3176, 
 as amended; Reg. 46, Art. 4. 
 
 35 Revenue Act of 1921, §1205; Revenue Act of 1918, §1205; Reg. 46, 
 Art. 6. 
 
1260 FEDERAL INCOME TAX 
 
 failure on the part of the person operating the same to keep time 
 records as required by this regulation or for false or fraudulent 
 entries made therein.^^ 
 
 Penalties. The general penalties apply for failure to file re- 
 turns, or pay the tax, or for filing false or fraudulent returns.^'^ 
 Refusal to permit entry or inspection of any establishment is 
 punished by fine of not more than $1,000 or imprisonment for 
 not more than one year, or both fine and imprisonment.^^ Any 
 person who knowingly makes a false statement or presents false 
 evidence in or in relation to any certificate of age or application 
 therefor will be subject to a fine of not less than $100 nor more 
 than $1,000, or to imprisonment for not more than three 
 months, or to both such fine and imprisonment.^^ Actions to 
 enforce these penalties will be brought in the federal courts by 
 the United States district attorney of the federal judicial district 
 in which the offense occurs.*" 
 
 Constitutionality of Child Labor Tax. The Supreme Court of 
 the United States has declared unconstitutional the so-called 
 Child Labor Law, which prohibited the transmission in inter- 
 state commerce of products of child labor.*i The present excise 
 tax equivalent to 10% of the net profits received from the sale 
 of products of establishments employing child labor is intended 
 to accomplish the same object which the former law was unable 
 to reach .*2 
 
 36 Reg. 46, Art. 11. 
 
 37 See Revenue Act of 1918, §§ 1308 and 1317, containing R. S., § 3176, as 
 amended and re-enacted without change by Revenue Act of 1921, § 1311. 
 
 38 Revenue Act of 1921, § 1206; Revenue Act of 1918, § 1206. 
 
 39 Revenue Act of 1921, § 1203; Revenue Act of 1918, § 1203. 
 
 40 Reg. 46, Art. 7. 
 
 41 Hammer v. Dagenhart, 247 U. S. 251. The Supreme Court was con- 
 siderably divided in this decision. Mr. Justice Day delivered the majority 
 opinion which was concurred in by Mr. Justice Van Devanter, Mr. Justice 
 Pitney, Mr. Justice McReynolds and Chief Justice White. Mr. Justice Holmes 
 delivered a dissenting opinion which was concurred in by Mr. Justice Mc- 
 Kenna, Mr. Justice Brandeis and Mr. Justice Clarke. 
 
 42 It has been decided by a federal district court (Atherton Mills v. John- 
 ston) that the child labor title of the Revenue Act of 1918 is also unconsti- 
 tutional and this case is now No. 16 on the docket of the United States 
 Supreme Court. Another case, Bailey v. Drexel Furniture Co., is also before 
 the Supreme Court for decision on this point. 
 
CHAPTER 47 
 
 CONSTRUCTION OF TAXING STATUTES 
 
 It is beyond the scope of this chapter to discuss at great length 
 the numerous rules of statutory construction. The following 
 paragraphs will indicate briefly rules especially applicable to 
 revenue statutes which may be of assistance in the interpreta- 
 tion of such ambiguities as are encountered in our present sys- 
 tem of income, excess-profits and other tax laws. Wherever pos- 
 sible the citation of authorities has been confined to cases arising 
 under various revenue laws of the United States. 
 
 Although a statute may be construed contrary to its literal 
 meaning when a literal construction would result in an absurd- 
 ity, inconsistency, or in glaring inequality, and palpable injustice, 
 where its language is susceptible of more reasonable, though 
 perhaps less natural, construction which carries out its spirit 
 rather than letter,^ it is a well-settled general rule that a legisla- 
 tive act must be interpreted according to the intention of the 
 legislature apparent upon its face.^ Construction and interpreta- 
 tion have no place where the language of a statute is unambigu- 
 ous and its meaning evident.^ Arguments as to the expediency 
 of a tax law or the possible economic mistake or wrong involved 
 in the tax imposed thereby * or the inequality thereof,^ are be- 
 yond judicial cognizance.^ To ascertain the intention of the legis- 
 lature the first resort is to the grammatical sense and the natural, 
 
 1 Stratton's Independence v. Howbert, 231 U. S. 399; Knowlton v. Moore, 
 178 U. S. 41, 77; Treat v. White, 181 U. S. 264; Sesnon Co. v. U. S., 182 Fed. 
 573, writ of certiorari denied 220 U. S. 609. 
 
 2 Wilkinson v. Leland, 2 Pet. 627; U. S. v. Union Pacific R. R. Co., 91 
 U. S. 72; Sol. Op. 83, T. B. 3-21-1402. 
 
 3 U. S. V. Ninety-Nine Diamonds, 139 Fed. 961, writ of certiorari denied 
 201 U. S. 645. 
 
 4Brushaber v. Union Pacific R. R. Co., 240 U. S. 1; Blunt v. U. S., 255 
 Fed. 332. 
 
 SLaBelle Iron Works v. U. S., 41 Sup. Ct. Rep. 528; 65 L. ed. 604; Bill- 
 ings V. U. S., 232 U. S. 261, 255 Fed. 332. 
 
 6 In income tax cases, 148 Wis. 456, 134 N. W. 673, 135 N. W. 164, the 
 court said: "With the political or economic policy or expediency of the law 
 we have nothing to do. If it be within constitutional lines, it represents and 
 embodies public policy, because it is enacted by that branch of the govern- 
 ment which determines public policy." See State ex rel. Wisconsin Trust 
 Company v. Widule, 164 Wis. 56. 
 
 1261 
 
1262 FEDERAL INCOME TAX 
 
 ordinary and familiar meaning of the words employed,'^ and it is 
 particularly true that terms used in statutes describing objects of 
 taxation should be construed according to the popular acceptation 
 of the terms they employ rather than by refined or strained anal- 
 ogies.s The presumption is that language has been employed 
 with sufficient precision to disclose the intention of the legislature 
 and unless this presumption is overthrown, nothing remains but 
 to enforce the statute as, written.® If, however, it is apparent on 
 the face of the statute, or from its context, that a term of common 
 use and meaning is intended to bear some other signification, it 
 may be interpreted accordingly.^" For instance, it is the duty 
 of those construing a statute to give effect to the clear intention 
 of those passing it, and to do this it is common practice to read 
 the words "and" and "or" convertibly.^^ The word "false" may 
 be construed to mean either incorrect but in good faith ^^ or in- 
 correct with fraudulent intent.^^ Words having a fixed legal 
 meaning are 'presumed to have been used in such sense.i* Com- 
 mercial and trade terms, which belong exclusively to the vocabu- 
 lary of merchants and traders or which are shown to have a cer- 
 tain, uniform and general meaning in commerce and trade differ- 
 ent from their ordinary meaning, will be interpreted according- 
 ly.15 Generally, a descriptive trade term used in the act will be 
 given the special meaning attaching to it at the time the act was 
 passed, ^^ but in some cases a later and broader meaning may be 
 adopted if warranted by commercial usage and the general lan- 
 
 i Treat v. White, 181 U. S. 264; Columbia Water Co. v. Columbia Co., 172 
 U. S. 475; Mallard v. Lawrence, 16 How. 251; Schriefer v. Wood, 21 Fed. 
 Cas. No. 12,481; U. S. v. Isham, 17 Wall. 496; U. S. v. Chesbrough, 176 
 Fed. 778; Seldon v. Equitab'ie Trust Co., 8 Fed. Cas. No. 4,508, affirmed 
 94 U. S. 419. 
 
 8 Nix V. Hedden, 39 Fed. 109, affirmed 149 U. S. 304; De Ganay v. Lederer, 
 239 Fed. 568. 
 
 9 Mannington v. Hocking Valley R. R. Co., 183 Fed. 133. 
 
 10 U. S. V. Chesbrough, 176 Fed. 778. 
 
 11 U. S. V. Fisk, 3 Wall. 445. But the word "and" is never construed to 
 mean "or" in the absence of cogent reasons for so doing. (Rice v. U. S., 
 53 Fed. 910.) 
 
 12 National Bank of Commerce v. Allen, 223 Fed. 472; Eliot National 
 Bank v. Gill, 218 Fed. 600. 
 
 13 U. S. V. Ninety-Nine Diamonds, 139 Fed. 961. 
 
 1* U. S. V. Fidelity Trust Co., 222 U. S. 158; Nat. Life & Accident Ins. Co. 
 V. Craig, 251 Fed. 524. 
 
 15 Haddock v. Magone, 152 U. S. 368; Sonn v. Magone, 159 U. S. 417. 
 
 iSDennison Mfg. Co. v. U. S., 72 Fed. 258; Rossman v. Hedden, 145 U. S. 
 561; Hedden v. Richard, 149 U. S. 346; Mutual Benefit Ins. Co. v. Herold, 
 198 Fed. 199, affirmed 201 Fed. 918. 
 
CONSTRUCTION OF TAXING STATUTES 1263 
 
 guage of the statute.^^ General terms following special terms 
 are, as a rule, limited in scope and meaning to the same general 
 class as the special terms ; in other words, the particular words 
 are presumed to describe certain species and the general words 
 to be used to include other species of the same genus.^^ But this 
 is only a rule of construction to aid in arriving at the real legis- 
 lative intent. It is not a cast-iron rule, overriding all other rules 
 of construction, and it will never be applied to defeat the real 
 purpose of the statute as gathered from its entire context. While 
 the rule is aimed to preserve a meaning for the particular words, 
 it should not be permitted to render meaningless the general 
 words. Therefore, where the particular words exhaust the class, 
 the general words must be construed as embracing something 
 outside of that class. If the particular words exhaust the class, 
 there is nothing ejiLsdem generis left, and in such case the gen- 
 eral words must be given the meaning outside of the class indi- 
 cated by the particular words, otherwise the meaning of the 
 general words would be sacrificed to preserve the particular 
 words and the rule would defeat its own purpose.^^ The general 
 rule of construction applicable to all statutes and written instru- 
 ments that words should be given the meaning naturally attach- 
 ing to them from their context and that a word of obscure mean- 
 ing, taken by itself, may be construed by reference to associated 
 words, is applicable to the construction of revenue laws.^" Effect 
 should be given, if possible, to the entire statute, and part should 
 not be permitted to perish by construction. One part should 
 not be allowed to defeat another part, if by any reasonable con- 
 struction the two can stand together.21 If the context of the 
 statute is ambiguous, the title,— preamble,^^ and punctuation,^* 
 may be considered, but they are seldom the subject of special con- 
 sideration by the legislature and are fallible and unreliable guides 
 
 iTPickhardt v. Merritt, 132 U. S. 252; Newman v. Arthur, 109 U. S. 132. 
 
 18 U. S. V. 1,1501 pounds of Celluloid, 82 Fed. 627; Eeiche v. Smythe, 13 
 Wall. 162; U. S. v. Weise, 28 Fed. Cas. No. 16,659. 
 
 19 U. S. V. Mescall, 215 U. S. 26. 
 
 20Marsching v. U. S., 113 Fed. 1006; U. S. v. Sixty-Five Terra Cotta 
 Vases, 18 Fed. 508, 510; Patton v. U. S., 159 U. S. 500, 509; Adams v. Ban- 
 croft, 1 Fed. Cas. No. 44; Taber v. U. S., 23 Fed. Cas. No. 13,722. 
 
 21 U. S. V. Ninety-Nine Diamonds, 139 Fed. 961 ; State ex rel. Arpin v. 
 Eberhardt, 158 Wis. 20; Sol. Op. 90, T. B. 7-21-1432. 
 
 22 Knowlton v. Moore, 178 U. S. 41; Smythe v. Fiske, 23 Wall. 374; Church 
 of Holy Trinity v. U. S., 143 U. S. 457; Hedden v. Collector, 5 Wall. 107; 
 Cornell v. Coyne, 192 tj. S. 418. 
 
 23 Price V. Forrest, 173 U. S. 410, 427. 
 
 24 U. S. V. Isham, 17 Wall. 496; U. S. v. Three Railroad Cars, 28 Fed. Cas. 
 No. 16,513; Ford v. Delta Co., 164 U. S. 662. 
 
1264 FEDERAL INCOME TAX 
 
 in ascertaining the intention of that body--^* While the rule is 
 that taxing statutes should be so construed as to prevent them 
 from operating retroactively,^^ that is merely a principle of con- 
 struction and the courts will not save a statute from producing 
 a retroactive effect, if the intent that it should so operate is 
 clear.27 
 
 Construction Which Will Be Constitutional. It is a well-estab- 
 lished rule that when a statute admits of two interpretations, 
 one of which presses it beyond constitutionality and the other 
 of which brings it within .constitutionality or avoids the ques- 
 tion of constitutionality, the courts tend to adopt the latter in- 
 terpretation.28 The foundation of this rule, it is to be noted, is 
 the possibility of two constructions, and the existence of grave 
 doubt as to constitutionality. Where the doubt is not grave the 
 courts will give the statute the most natural meaning resulting 
 from its text, as otherwise the mere assertion that a statute is 
 unconstitutional would tend to set aside the general rules of con- 
 struction.29 
 
 Proceedings in Congress as Aid to Construction. Notwith- 
 standing the well-established rule that the intent of the lawmak- 
 ers is to be found in the statutes they pass, the courts, where the 
 language of a statute is ambiguous and its meaning doubtful, 
 should not shut their eyes to what can be learned of the history 
 of the times and of the law, of the condition of the law at a par- 
 ticular time, the mischief or evil sought to be remedied, and 
 other kindred things which would put them in the light that the 
 lawmakers enjoyed and enable them to view the situation as it 
 appeared to those who passed the act.^" The legislative history 
 of a subsequent statute will not be considered as an aid to con- 
 struction.31 For such purposes, in interpreting ambiguous stat- 
 
 23 state ex rel. Arpvin v. Eberhardt, 158 Wis. 20. 
 
 26Stockdale v. Insurance Co., 20 Wall. 323; Lynch v. Turrish, 247 U. S. 
 221. 
 
 27 Billings V. U. S., 232 U. S. 261. 
 
 28Stratton's Independence v. Howbert, 231 U. S. 399; Singer Mfg. Co. v. 
 McCoUock, 24 Fed. 667. 
 
 29 U. S. V. Bennett, 232 U. S. 299. 
 
 30 U. S. V. Standard Oil Co., 221 U. S. 1 ; U. S. v. Trans-Missouri Freight 
 Association, 166 U. S. 290, 318; Holy Trinity Church v. U. S., 143 U. S. 467, 
 463 ; Jennison v. Kirk, 98 U. S. 453 ; Carbon Steel Co. v. Lewellyn, 258 Fed. 
 533; Northern Commercial Co. v. U. S., 217 Fed. 33; LaBelle Iron Works 
 V. U. S., 41 Sup. Ct. Rep. 528; 65 L. ed. 604; Ho Ah Kow v. Nunan, 5 Sawy 
 552; Peo. v. Charles Schweinler Press, 214 N. Y. 395; Woollcott v. Shubert, 
 217 N. Y. 212, 111 N. E. 829. 
 
 31 Penn Mutual Life Insurance Co. v. Lederer, 252 U, S. 523. 
 
CONSTRUCTION OF TAXING STATUTES 1265 
 
 utes, the formal reports of committees having in charge a pend- 
 ing legislative bill including the bill as introduced, changes made 
 in the frame of the bill in the course of its passage, and state- 
 ments made by the committee chairman in charge of it may, 
 under proper qualifications, be referred to as bearing upon ques- 
 tions of legislative intent.^s Courts take judicial notice of legis- 
 lative journals and proceedings in congress so far as they are 
 admissible in aid of statutory construction.^'^ But individual 
 statements made in debate do not necessarily reflect the intent 
 and understanding of the legislative body and are unreliable as 
 an aid to construction, as many individual members may remain 
 silent and may vote for a bill because in their judgment it has 
 a v^rider or narrower scope than its author states.'^* Accordingly 
 the courts may not, in interpreting a statute, recur to the motives 
 of individual members of the legislative body nor to what they 
 supposed the bill to mean.^s Such individual statements may, 
 however, be. resorted to as a means of ascertaining the environ- 
 ment at the time of enactment of a particular law, that is, the 
 history of the period when it was adopted.^^ 
 
 32 U. S. V. St. Paul M. & M. R. Co., 247 U. S. 310, 318; Caminetti v. U. S., 
 242 U. S. 470, 490; Lapina v. Williams, 232 U. S. 78; Woodward v. De- 
 Graffenried, 238 U. S. 284; Pennsylvania R. Co. v. International Coal Min. 
 Co., 230 U. S. 184; McLean v. U. S., 226 U. S. 374; Shallus v. U. S., 162 
 Fed. 653; Mosle v. Bidwell, 130 Fed. 334; Matter of Hamlin, 226 N. Y. 407, 
 414. 
 
 ssconnole v. Norfolk & Western Ry. Co., 216 Fed. 823; Wadsworth v. 
 Boysen, 148 Fed. 771. In Atlantic C. L. R. Co. v. Riverside Mills, 219 U. S. 
 196, 200, the court in construing the Carmack amendment quotes a speech 
 of Judge William Richardson, a congressman from Alabama, made when 
 the amendment was reported by a conference committee. Judge Richard- 
 son was speaking for the committee of the matter which it was sought to 
 remedy. 
 
 34Sweetser v. Emerson, 236 Fed. 161; Johnson v. U. S., 215 Fed. 679; 
 U. S. V. Trans-Missouri Freight Association, 166 U. S. 290, 318; Mitchell v. 
 Great Works Milling, etc. Co., 2 Story 653; McKenzie v. Hare, 239 U. S. 
 299. 
 
 35 U. S. V. Union Pacific R. R. Co., 91 U. S. 72; Omaha & C. B. Street R. 
 Co. V. Interstate Commerce Commission, 230 U. S. 324; Pennsylvania R. R. 
 Co. V. International Coal Mining Co., 230 U. S. 184; Aldridge v. Williams, 
 3 How. 23. 
 
 3fi Standard Oil Co. v. U. S., 221 U. S. 1; Jennison v. Kirk, 98 U. S. 
 453, 459; Central Building, Loan & Savings Co. v. Bowland, 216 Fed. 526. It 
 is difficult to reconcile the authorities on the question of the admissibility of 
 individual statements in debate in interpreting a statute. There are cases 
 such as Roberts v. Southern Pacific Co., 186 Fed. 934, affirmed 219 Fed. 
 1022, which consider such statements for more extended purposes than are 
 permitted under the Standard Oil Co. and St. Paul M. & M. R. Co. cases 
 
1266 FEDERAL INCOME TAX 
 
 Effect of Rulings and Practice of Treasury Department. 
 
 Great weight and due deference and respect is always given by 
 the courts to the construction put upon a revenue statute by the 
 treasury department.ST This rule also applies to the construction 
 of state statutes by the highest state authorities charged with 
 the duty of administration, when the meaning of such state 
 statutes is at issue in the federal courts.^s Where the language 
 of a statute is dubious and open to different interpretations the 
 construction of the treasury department is in the highest degree 
 persuasive, if not controlling, in its effect upon the courts, and 
 is not to be disregarded without the most cogent reasons if it has 
 been followed for many years without any attempt on the part 
 of congress to change it and where there has been a long acquies- 
 cence in it, and especially if by it the rights of parties for many 
 years have been determined and adjusted.^" But the construction 
 of the treasury department cannot repeal a statute; it can only 
 be resorted to in aid of interpretation, and is not applicable tp 
 what has no need of interpretation. It is therefore inadmissible 
 and immaterial where the language of the statute is clear and 
 precise or where it will not bear the interpretation put upon it 
 by the department.*" 
 
 Construction by Reference to Similar Statutes. As a general 
 rule, where a statute is of doubtful meaning and susceptible on 
 its face of two constructions,*^ the court may look into prior acts 
 to determine its proper construction.''^ This rule has been repeat- 
 
 and the authorities heretofore cited, but they seem contrary to the weight 
 of authority. 
 
 37 U. S. V. Cerecedo Hermanos y Compania, 209 U. S. 338; De Ganay v. 
 Lederer, 239 Fed. 568; affirmed 250 U. S. 376; Smythe v. Fiske, 23 Wall. 
 374; Edwards v. Wabash Ry. Co., 264 Fed. 610; La Belle Iron Works v. 
 U. S., decided June 28, 1920, Ct. Cls. No. 34603; T. D. 3051, T. B. 34-20-1158; 
 41 Sup. Ct. Rep. 528; 65 L. ed. 604. 
 
 88 Maryland Casualty Co. v. U. S., 251 U. S. 342; Insurance Co. of North 
 America v. McCoach, 218 Fed. 905, reversed 224 Fed. 657, 661, writ of 
 certiorari granted 241 U. S. 694, reversed 244 U. S. 585. See opinion of 
 Circuit Court of Appeals. In reversing this court the Supreme Court con- 
 ceded full effect to the administrative or executive construction followed, 
 but held that it did not answer the decisive question involved. 
 
 39 U. S. V. Johnson, 124 U. S. 236; Robertson v. Downing, 127 U. S. 607; 
 Van Dyke v. Milwaukee, (Wis.) 146 N. W. 812; see rehearing 150 N. W. 
 509; Galm v. U. S., 39 Ct. Cls. 55; L. 0. 1060, T. B. 14-21-1554. 
 
 « Swift Company v. U. S., 105 U. S. 691 ; Merritt v. Cameron, 137 U. S. 
 542; U. S. v. Graham, 110 U. S. 219; U. S. v. Tanner, 147 U. S. 661; Cryan 
 v. Warden, 263 Fed. 248. 
 
 41 Bate Refrigerator Co. v. Sulzberger, 157 U. S. 1. 
 
 42 Hamilton v. Rathbone, 175 U. S. 414 ; Connecticut General Life Ins. Co. 
 V. Eaton, 218 Fed. 188. 
 
CONSTRUCTION OP TAXING STATUTES 1267 
 
 edly applied in the construction of the Revised Statutes of the 
 United States.*'* It is particularly applicable to revenue legis- 
 lation and absolutely necessary in the case of the legislation of 
 congress on this subject, for without it the revenue could not be 
 collected and inextricable embarrassments and difficulties would 
 constantly occur.*-' The revenue laws, though made up of inde- 
 pendent enactments, are regarded as constituting practically one 
 system,*^ and to ascertain the legislative intent courts not only 
 search all the provisions of the particular revenue statutes in 
 question, but look beyond those to others in pari materia, or of 
 a similar purport, which compose the system.*^ Any rule of 
 construction, separating from this revenue system, and its com- 
 ponent numerous and diverse enactments, each new act altering 
 it, would be unsound and unsafe.*'^ When congress re-enacts 
 without change a statute which has previously received a con- 
 struction by the federal supreme court, it will be deemed to have 
 adopted such construction,*^ and an executive or departmental 
 construction of an earlier act will also be sanctioned, by subse- 
 quent re-enactments,*'' especially where the executive or depart- 
 
 43 Hamilton v. Rathbone, 175 U. S. 414; U. S. v. Hirsch, 100 U. S. 33; 
 U. S. V. Bowen, 100 U. S. 508; U. S. v. Sixty-Five Terra Gotta Vases, 18 
 Fed. 508. 
 
 4* Stuart V. Maxwell, 16 How. 160. 
 
 *5 In re Southern Pacific Co., 82 Fed. 311, affirmed 87 Fed. 863. 
 
 46 Smietanka v. Zibell, U. S. C. C. A., 7th Circ. T. D. 3000, T. B. 15-20-857; 
 U. S. V. Collier, 25 Fed. Cas. No. 14,833. 
 
 « Saxonville Mills v.' Russell, 116 U. S. 21. 
 
 48 Latimer v. U. S., 223 U. S. 501. 
 
 49 U. S. V. Cerecedo Hermanos y Compania, 209 U. S. 338; U. S. v. Falk & 
 Bro., 204 U. S. 143, 152; Komada v. U. S., 215 U„S. 392; Wabash Valley Co. 
 V. Edwards, 264 Fed. 152, 610. In the last mentioned case the court said: 
 "Irrespective of original considerations, it is now too late for the department 
 to change and by a novel ruling to alter a long settled interpretation of 
 language taken from former acts of congress and thus to subject the issu- 
 ance of stock under conversion privilege created prior to the passage of 
 the present Act to an unexpected tax. All this could have been done by 
 congress if language had been used specifically calling for such a result, but 
 it can not be accomplished by the mere use of general terms which because of 
 the repeated rulings of the department do not have the meaning to the busi- 
 ness community now sought to be placed upon them. It is, of course, for the 
 very purpose of making men's rights clearly understood, that the courts 
 have held that long settled constructions of phrases by courts or govern- 
 mental departments are to be read into statutes relating to kindred subject- 
 matters. The present case is one where this doctrine seems eminently rea- 
 sonable and just." 
 
1268 FEDERAL INCOME TAX 
 
 mental construction has been repeated and long continued ^ and 
 where valuable property rights have been founded thereon.^i 
 
 Similar Statutes in Other Jurisdiction. When a statute is 
 adopted by another state or by congress, the construction pre- 
 viously given to such a statute by the highest court of the state 
 from which it is adopted presumably becomes an integral part of 
 and is incorporated into the law so adopted.^^ This is but a nar- 
 rower application of the general principle that the language of 
 an act is used, and so is to be interpreted, according to its legal 
 significance at the time the act is passed.^s The rule applies only 
 to the construction followed in the state from which the statute 
 is originally adopted and not to that followed in the state from 
 which the statute is immediately taken,^* and applies also primar- 
 ily to decisions in force at the time of adoption. The courts will, 
 however, treat subsequent decisions with respect.^^ But the rule 
 that the courts of one state will deem the interpretative decisions 
 of another state a part of a statute adopted from that state is not 
 an absolute one, to be followed under all circumstances. It will 
 not be followed where the construction urged to be adopted is 
 contrary to the obvious meaning of the statute to be construed ^^ 
 or would make the statute unconstitutional in the state of adop- 
 tion.5'' 
 
 Strict or Liberal Construction. The authorities upon the ques- 
 tion of whether a taxing statute should be strictly or liberally 
 construed, or whether it should be construed according to some 
 medium between these two extremes, are in some confusion and 
 no broad general rule can be safely stated. Excluding the con- 
 struction of tax exemptions, which will be treated hereafter, 
 three general lines of authority can be traced. One line of cases ^s 
 
 ; 
 
 sou. S. V. Baruch, 223 T). S. 191; Wabash Railway Co. v. Edwards, 264 
 Fed. 610. 
 
 51 Swig'art v. Baker, 229 U. S. 187. 
 
 52 Mustard v. Elwood, 223 Fed. 225 ; Robinson v. Belt, 187 U. S. 41 ; Mc- 
 Donald V. Hovey, 110 U. S. 619; Interstate Commerce Commission v. D. L. 
 & W. R. Co., 220 U. S. 235. 
 
 53 Commercial Travellers Ass'n v. Rodway, 235 Fed. 370, 374. 
 
 54 Coulan V. Doull, 133 U. S, 216. 
 
 55 Cathcart v. Robinson, 5 Pet. 264. 
 
 56 Whitney v. Fox, 166 U. S. 637. 
 
 57 In re. Swearinger, 23 Fed. Cas. No. 13,683. 
 
 58 U. S. V. Wigglesworth, 2 Story 369, 28 Fed. Cas. No. 16,690; U. S. v, 
 Isham, 17 Wall. 504; U. S. v. Watts, 28 Fed. Cas. No. 16,653; Equitable 
 Trust Co. V. Seldon, 8 Fed. Cas. No. 4,507; Osgood v. Tax Commissioner. 
 235 Mass. 88, 126 N. E. 371. The court said in Powers v. Barney, 5 
 Blatch. 202, "Duties are never imposed on the citizens upon vague or doubt- 
 ful interpretations." There are early cases holding to the contrary such as 
 
CONSTRUCTION OP TAXING STATUTES 1269 
 
 holds that, as stated by the court in a leading case:^^ "In the 
 first place, it is, as I conceive, a general rule in the interpretation 
 of all statutes, levying taxes or duties upon subjects or citizens, 
 not to extend their provisions, by implication, beyond the clear 
 import of the language used, or to enlarge their operation so as to 
 embrace matters, not specifically pointed out, although standing 
 upon a close analogy. In every case, therefore, of doubt, such 
 statutes are construed most strongly against the government, 
 and in favor of the subjects or citizens, because burdens are not 
 to be imposed, nor presumed to be imposed, beyond what the 
 statutes expressly and clearly import. Revenue statutes are in 
 no just sense either remedial laws or laws founded upon any 
 permanent public policy, and, therefore, are not to be liberally 
 construed." Since this decision it has been repeatedly held by the 
 United States Supreme Court and the inferior federal courts that 
 the provisions of a tariff act should be liberally construed in favor 
 of the importer, and that in case of fair doubt as to the construc- 
 tion of a provision in such acts the courts should resolve the doubt 
 in favor of the importer and that in such cases the intention of 
 congress to impose a higher duty should be expressed in clear 
 and unambiguous language.^" And the same rule has been ap- 
 plied in the construction of other revenue laws,^^ including the 
 
 U. S. V. Qlney, 27 Fed. Gas. No. 15,918, where a statue imposing a license 
 fee for lottery dealers was being construed and the court said: "A revenue 
 law is not to be strictly construed, but rather the contrary, so as to attain 
 the ends for which it was enacted." See Twenty-Eight Cases, 2 Ben. 63; 
 Rankin v. Hoyt, 4- How. 327; Smythe v. Fiske, 23 Wall. 374, 380. 
 
 59 U. S. V. Wigglesworth, 2 Story 369, 28 Fed. Cas. No. 16,690. 
 
 60 Benzinger v. U. S. 192 U. S. 38; American Net & Twine Co. v. Worth- 
 ingtori, 141 U. S. 468; Shallus v. U. S., 162 Fed. 653; U. S. v. Tiffany, 160 
 Fed. 408; Hayes v. U. S., 150 Fed. 63; Hempstead v. Thomas, 122 Fed. 538; 
 U. S. V. Merck & Co., 91 Fed. 639, affirmed 97 Fed. 989; Rice v. U. S., 53 
 Fed. 910. It has been said that the rule which gives the importer the benefit 
 of a doubt is limited to cases where it relieves all importers of all articles 
 whatsoever of the class concerned ; that it probably has no practical use ex- 
 cept in cases of extraordinary doubt; that it has a more appropriate appli- 
 cation when the question is one of any tax at all; and that the federal re- 
 ports are full of suits where the courts have not hesitated to perform the 
 duty of determining mere questions of classification where it was admitted 
 some duty was to be imposed, in favor of a higher rate, under circumstances 
 of great difficulty. (U. S. v. Wetherell, 65 Fed. 987.) 
 
 61 Eidman v. Martinez, 184 U. S. 578; Treat v. White, 181 U. S. 264; Gill 
 V. Bartlett, 224 Fed. 927; Rockefeller v. O'Brien, 224 Fed. 541, affirmed 239 
 Fed. 127; Disston v. McClain, 147 Fed. 114; Wright v. Michigan Central R. 
 Co., 130 Fed. 843; McNally v. Field, 119 Fed. 445; Treat v. Tolman, 113 
 Fed. 892. 
 
1270 FEDERAL INCOME TAX 
 
 1909 Law,62 the 1913 Law, the 1916 Law, and the 1917 Stamp Tax 
 Act, ^3 and the 1916 Federal Estate Tax, as amended.^* In a com- 
 paratively late case construing the war revenue act of June 13, 
 1898, imposing a special excise tax on sugar the Supreme Court, 
 adopting the language of the dissenting opinion in the court below, 
 held that where the construction of a tax law is doubtful, the 
 doubt is to be resolved in favor of those upon whom the tax is 
 sought to be laid.^^ And in a very recent case ®^ arising under the 
 1913 Law in the Supreme Court, the rule quoted above was re- 
 stated as an established rule of construction. Three recent cases 
 in the lower federal courts have also stated generally with par- 
 ticular reference to the 1909 Corporation Excise Tax Law that 
 revenue laws should be strictly construed against the govern- 
 ment,^^ and it has been held that this rule applies especially where 
 they impose burdens of a special or unusual character.^^ a sec- 
 ond line of cases holds that revenue laws are not to be strictly 
 construed in favor of the subject and against the state, but still 
 with reasonable fairness to the citizen. It is stated in U. S. v. 
 Distilled Spirits : ^^ "In construing a severe statute, declaring a 
 heavy forfeiture, (and, according to one construction claimed, for 
 small offenses,) it is just to say, that those who are called upon 
 to conduct their business affairs in view of all its provisions, 
 ought to be fairly apprised of its requirements, and of its pen- 
 alties, of whatever kind. They are bound to know the law, but 
 lawmakers owe to them the duty to make the law intelligible ; and 
 
 62 Parkview Building & Loan Ass'n v. Herold, 203 Fed. 876, affirmed 210 
 Fed. 577. 
 
 63 Haiku Sugar Co. v. Johnstone, 249 Fed. 103; U. S. v. Coulby, 251 Fed. 
 982, affirmed 258 Fed. 27; First Trust & Savings Bank v. Smietanka, 268 
 Fed. 230 ; Scott v. Western Pac. Ry. Co., 246 Fed. 545 ; see Miller v. Gearin, 
 258 Fed. 225 as to the 1916 Law; see Wabash Railway Co. v. Edwards, 264 
 Fed. 610 as to the Stamp Tax Act, (all decided since the Gould case, cited 
 hereafter) ; see also New York Trust Co. v. Eisner, U. S. Dist. Ct., So. Dist., 
 N. Y., N. Y. Law Journal, March 4, 1920. 
 
 64 U. S. V. Field, decided by U. S. Supreme Court, February 28, 1921; 
 W. T. D. 1921, 11362. 
 
 65 Spreckels Sugar Ref. Co. v. McClaln, 192 U. S. 397. 
 
 66 Gould V. Gould, 245 U. S. 151. It is to be noted that in this case the 
 court used almost identically the language of Judge Story in the old Wig- 
 glesworth case; also that Mr. Justice McReynolds makes no reference to 
 the Stowell case (cited hereafter). See Crocker v. Malley, 249 U. S. 223. 
 
 67 Mutual Benefit Ins. Co. v. Herold, 198 Fed. 199, affirmed 201 Fed. 918; 
 Anderson v. Morris & E. R. Co., 216 Fed. 83; Penn. Steel Co. v. N. Y. City 
 Co., 198 Fed. 774, affirmed 231 U. S. 144. 
 
 68 Lynch v. Union Trust Co., 164 Fed. 161. 
 
 69 U. S. v. Distilled Spirits, 27 Fed. Cas. No. 15,960; 10 Blatch. 428. 
 
CONSTRUCTION OF TAXING STATUTES 1271 
 
 those whose business it is to construe or expound a law which is 
 of doubtful or double meaning, should not incline to the harshest 
 possible meaning, when it is obvious that those to whom it is to 
 be applied may well have been led to trust in another which is less 
 severe, but equally satisfying in its terms. This is not saying 
 that laws of the kind in question are to be strictly construed in 
 favor of the subject and against the state but, only, that they 
 should be construed with reasonable fairness to the citizen." '"^ A 
 third line of cases announces a rule much more favorable to the 
 government. As stated in the early cases, penalties annexed to 
 violations of the general revenue laws do not make them penal 
 in the sense which requires them to be construed strictly .'^^ This 
 statement was amplified and further explained in the leading 
 case of U. S. v. Stowell,''^ which was an information on forfeiture 
 of distilling niachinery, on the theory that statutes to prevent 
 frauds on the revenue are considered as enacted for the public 
 good and to suppress a public wrong, and therefore, although 
 they impose penalties or forfeitures, are not to be construed, like 
 penal laws generally, strictly in favor of the defendant ; but they 
 
 TO The U. S. V. Distilled Spirits case was a penalty case arising under the 
 Internal Revenue Laws and the rule announced in it seems to have been 
 modified by the Stowell case (cited hereafter). 
 
 71 U. S. V. Barrels of Spirits, 2 Abb. (U. S.) 305, 314; U. S. v. Cases of 
 Cloth, Crabbe 356; Taylor v. U. S., 3 How. 197; Cliquot's Champagne, 3 
 Wall. 114, 145; U. S. v. Hodson, 10 Wall. 395, 406. 
 
 72 U. S. v. Stowell, 133 U. S. 1. It is to be doubted whether in this case or 
 the case of tl. S. v. Hodson, 10 Wall. 395, 406, the Supreme Court meant to 
 overrule Judge Story in the Wigglesworth case. In both cases the court 
 refers as authority to the case of Taylor v. U. S., 3 How. 197, 210, which 
 was decided by Judge Story without mentioning his immediately previous 
 opinion in the Wigglesworth case. It seems highly improbable Judge Story 
 meant to overrule himself in the Taylor case but rather that he had a dis- 
 tinction in mind between revenue laws generally and statutes to prevent 
 fraud upon the revenue. At the time of the Wigglesworth decision Judge 
 Story had also decided the case of U. 'S. v. Breed, 24 Fed. Cas. No. 14,638 
 in which he said in part: "Revenue and duty acts are not in the sense of 
 the law penal acts; and are not therefore to be construed strictly. Nor are 
 they, on the other hand, acts in furtherance of private ■ rights and liberty, 
 or remedial; and therefore to be construed with extraordinary liberality. 
 They are to be construed according to the true import and meaning of their 
 terms; and when the legislative intention is ascertained, that, and that 
 only, is to be our guide in interpreting them. We are not to Strain them 
 to reach cases not within their terms, even if we might conjecture that 
 public policy might have reached those cases; nor, on the other hand, are 
 we to restrain their terms, so as to exclude cases clearly within them, simply 
 because public policy might possibly dictate such an exclusion." See also 
 Rankin v. Hoyt, 4 How. 332; Smythe v. Fiske, 23 Wall, 374, 380. In the 
 last mentioned case the question was the amount of duty on silk ties. 
 
]272 FEDERAL INCOME TAX 
 
 are to be fairly and reasonably construed, so as to carry out the 
 intention of the legislature. This case has been cited and fol- 
 lowed constantly '^^ notably in a recent case'^* in the Supreme 
 Court construing certain forfeiture provisions of the internal 
 revenue laws, and its authority has never been expressly ques- 
 tioned or restricted. The latest statement of the United States 
 Supreme Court referred to above '^s makes it clear that revenue 
 laws, as to the persons and things to be taxed will be strictly 
 construed in the sense that their provisions will not be extended 
 beyond the clear import of the language used or their operations 
 enlarged so as to embrace matters not specifically pointed out, 
 and that doubt as to such matters will be resolved more strongly 
 against the government and in favor of the citizen. In respect 
 to their penal provisions, however, both those working forfeit- 
 ures and those imposing penalties or imprisonment, rather than 
 in respect to the question of whom and what the statute taxes, 
 it may still be that revenue laws will be considered as remedial 
 in their character and so liberally construed so as to carry out 
 the purpose of their enactment.''" 
 
 ■3 In the following cases involving the construction of revenue laws with 
 particular reference to penal forfeitures and criminal provisions for viola- 
 tions: U. S. V. Two Barrels of Whisky, 96 Fed. 479; U. S. v. 2461. Pounds 
 of Tobacco, 103 Fed. 791; 581 Diamonds v. U. S., 119 Fed. 556, 561; U. S. 
 V. Cole, 134 Fed. 697; U. S. v. Gallant, 177 Fed. 281; U. S. v. Thompson, 189 
 Fed. 838. In the following cases with particular reference to bonds to pro- 
 tect the government against violations: U. S. v. Nat. Surety Co., 122 Fed. 
 904, 909; U. S. v. Zemel, 137 Fed. 989; U. S. v. U. S. Fidelity <& G. Co., 144 
 Fed. 866. In the following cases as authority for the liberal construction 
 of miscellaneous laws; Roberts v. Pacific Nav. Co., 104 Fed. 577; U. S. v. St. 
 Louis S. W. Ry., 189 Fed. 954, 962; U. S. v. Ramsey, 197 Fed. 144, 147; U. S. 
 v. Brown, 224 Fed. 135; Johnson v. Southern Pacific Co., 196 U. S. 1. See 
 also Sesnon Co. v. U. S., 182 Fed. 573, writ of certiorari denied 220 U. S. 
 609. Before the Stowell decision there were cases adopting a strict construc- 
 tion even of statutes to prevent frauds on the revenue. See U. S. v. 84 Boxes 
 of Sugar, 7 Pet. 453 (expressly disapproved in the Stowell case) ; Sixty Pipes 
 Brandy, 10 Wheat. 424; U. S. v. A Lot of Silk Umbrellas, 12 Fed. 412 (citing 
 U. S. V. 84 Boxes Sugar) ; U. S. v. Ten Cases Shawls, 28 Fed. Cas. No. 
 16,448. One case adopting a strict construction of the statute to prevent 
 frauds on the revenue since the Stowell case is U. S. v. l,150i Pounds Cel- 
 luloid, 82 Fed. 634 (citing U. S. v. 84 Boxes of Sugar, supra, and not citing 
 the Stowell case). 
 
 74 U. S. v. Graft Distilling Co., 208 U. S. 198. 
 
 73 See Gould v. Gould, 245 U. S. 151. 
 
 76 This distinction will not reconcile all the cases. For instance, the early 
 cases of Smythe v. Fiske (See Note 72) and Rankin v. Hoyt, (See Note 72), 
 the latter cases of Hunter v. Corning & Co., 86 Fed. 913; Lowe v. Farb- 
 werke-Hoechst Co., 240 Fed. 671; De Ganay v. Lederer, 239 Fed. 568 (af- 
 firmed 250 U. S. 376) , clearly contemplate the application of the liberal con- 
 
CONSTRUCTION OP TAXING STATUTES 1273 
 
 Exemption from Taxation. This paragraph deals only with 
 the construction of the language of a tax law which exempts. 
 The rules of construction applicable to language which lays the 
 tax have already been discussed.'^''' The distinction between the 
 rules of construction applicable to language laying the tax and 
 language exempting from tax is important, for, as has been 
 observed, in respect to the former, doubts will be resolved most 
 strongly against the government and in favor of the citizen, 
 while in respect to the latter, as will appear, a most strict con- 
 struction in favor of the government is called for.'''® The taxing 
 power is of vital importance and is essential to the existence of 
 government; the whole community is interested in maintaining 
 it undiminished.'''^ Exemptions from taxation are regarded as 
 in derogation of sovereignty ^° and it is abundantly established 
 that the taxing power should never be presumed to be relin- 
 quished unless the intention to do so be declared in clear and 
 unambiguous terms,*! which will admit of no other construc- 
 tion *2 and which are too plain to be mistaken.*^ The existence 
 of a well founded or rational doubt is equivalent to a denial of 
 a claim to exemption.®* No claim can be sustained unless within 
 the express letter or the necessary scope of the exempting 
 clause,®^ construed stictissimi juris ;^^ an exemption will not be 
 inserted in a statute by construction.®'^ But this salutary rule 
 requiring a strict construction of exemptions must not be mis- 
 understood. It is not a substitute for all other rules and does 
 not mean that whenever a controversy is or can be raised as to 
 the meaning of a taxing statute, such ambiguity occurs as im- 
 
 struction with respect to subjects and objects of taxation. On the other 
 hand, the case of U. S. v. Distilled Sprits (See Note 69), contemplates the 
 application of the rule of liberal construction as announced in the Stowell 
 case in a modified form; that is, neither liberally nor strictly but "with rea- 
 sonable fairness to the citizen." 
 
 Ti See paragraph headed "Strict or Liberal Construction." 
 
 78 Herold v. Parkview Building & Loan Ass'n, 210 Fed. 577. 
 
 79 Providence Bank v. Billings, 4 Pet. 514 ; Christ Church v. Philadelphia 
 County, 24 How. 300. 
 
 80 Yazbo & Miss. Valley R. Co. v. Thomas, 132 U. S. 174. 
 
 81 Tennessee v. Whitworth, 117 U. S. 139; Keokuk & W. R. Co. v. Mis- 
 souri, 152 U. S. 301. 
 
 82 Southwestern R. R. Co. v. Wright, 116 U. S. 231. 
 
 83 Chicago, etc., R. R. Co. v. Missouri, 120 U. S. 569. 
 
 84 Phoenix Fire Ins. Co. v. Tennessee, 161 U. S. 174; Wright v. Georgia 
 R., etc., Co., 216 U. S. 420. 
 
 85 Ford V. Delta & Pine Land Co., 164 U. S. 662. 
 
 86 Vicksburg S. & P. R. Co. v. Dennis, 116 U. S. 665. 
 
 87 Providence Bank v. Billings, 4 Pet. 514; U. S. v. Coulby, 251 Fed. 982. 
 
1274 FEDERAL INCOME TAX 
 
 mediately and inevitably to determine its interpretation. The 
 proper office of the rule is to help solve ambiguities, not to com- 
 pel an immediate surrender to them — to be an element in de- 
 cision, and effective, perhaps, when all other tests of meaning 
 have been employed which experience has afforded and which 
 it is the duty of courts to consider.^s And so courts, in con- 
 struing the exempting clauses of taxing statutes, are not required 
 to hunt for an escape from an exemption, but will, where the 
 intent to exempt clearly appears, give effect to such intent with- 
 out evasion.^ 
 
 Rule of Construction Followed by the Treasury Department. 
 As a general rule the construction by the treasury department 
 is such as is most favorable to the enforcement of the revenue 
 laws and no liberal interpretation in favor of the individual is 
 indulged in.''" In announcing this rule the attorney-general 
 cited the cases of Taylor v. U. S. ; ^^ Cliquot's Champagne,''^ U. S. 
 V. Hodson,'*^ and Smythe v. Fiske,''-' and which, as has been stated, 
 construed both statutes to prevent frauds on the revenue and 
 the provisions of taxing statutes, laying the tax. The attorney- 
 general does not appear to have taken account of the distinction 
 which has been pointed out between these two kinds of pro- 
 visions, so far as their construction is concerned. As a matter of 
 practice the treasury department cannot, of course, assume the 
 balanced judicial attitude of the courts in interpretation of doubt- 
 ful points, as its function is to administer the law and its duty, 
 primarily, to collect revenue. However, in some cases the depart- 
 ment has gone to great length in making a liberal interpretation 
 favorable to the taxpayer .^^ 
 
 88 Citizens Bank v. Parker, 192 U. S. 73. 
 
 89 Buchanan v. Knoxville & O. R. Co., 71 Fed. 324. 
 
 90 18 Op. Atty. Gen. 246. 
 
 91 3 How. 197, 210. 
 
 92 3 Wall. 114. 
 
 93 10 Wall. 395. 
 
 94 23 Wall. 374. 
 
 93 Compare, for instance, the Excess-Profits Tax Law of 1917 (Act of 
 October 8, 1917), with the Regulations No. 41, especially §210 of that law 
 with Reg. 41, Art. 52. 
 
APPENDIX 
 
 REVENUE ACT OF 1918i 
 
 AN ACT TO PROVIDE REVENUE, AND FOR OTHER PURPOSES 
 (Act of Feb. 24, 1919, Public No. 254) 
 TITLE 1— GENERAL DEFINITIONS 
 
 Section 1. That when used in this Act — 
 
 The term "person" includes partnerships and corporations, as well as 
 individuals ; 
 
 The term "corporation"' includes associations, joint-stock companies, and 
 insurance companies; 
 
 The term "domestic" when applied to a corporation or partnership means 
 created or organized in the United States; 
 
 The term "foreign" when applied to a corporation or partnership means 
 created or organized outside the United States; 
 
 The term "United States" when used in a geographical sense includes only 
 the states, the territories of Alaska and Hawaii, and the District of Colum- 
 bia; 
 
 The term "secretary" means the secretary of the treasury; 
 
 The term "commissioner" means the commissioner of internal revenue; 
 
 The term "collector" means collector of internal revenue; 
 
 The term "Revenue Act of 1916" means the Act entitled "An Act to in- 
 crease the revenue, and for other purposes," approved September 8, 1916; 
 
 The term "Revenue Act of 1917" means the Act entitled "An Act to pro- 
 vide revenue to defray war expenses, and for other purposes," approved 
 October 3, 1917; 
 
 The term "taxpayer" includes any person, trust or estate subject to a 
 tax imposed by this Act; 
 
 The term "government contract" means (a) a contract made with the 
 United States, or with any department, bureau, officer, commission, board, or 
 agency, under the United States and acting in its behalf, or with any agency 
 controlled by any of the above if the contract is for the benefit of the United 
 States, or (b) a subcontract made with a contractor performing such a con- 
 tract if the products or services to be furnished under the subcontract are 
 for the benefit x>f the United States. The term "government contract or 
 contracts made between April 6, 1917, and November 11, 1918, both dates 
 inclusive" when applied to a contract of the kind referred to in clause (a) of 
 this paragraph, includes all such contracts which, although entered into 
 during such period, were originally not enforceable, but which have been 
 or may become enforceable by reason of subsequent validation in pursuance 
 of law; 
 
 The term "military or naval forces of the United States" includes the 
 Marine Corps, the Coast Guard, the Army Nurse Corps, Female, and the 
 
 1 Only those parts of the Act which apply to the taxes treated In this book are re- 
 printed here. 
 
 1275 
 
1276 APPENDIX 
 
 Navy Nurse Corps, Female, but this shall not be deemed to exclude other 
 units otherwise included within such term; 
 
 The term "present war" means the war in which the United States is now 
 engaged against the German government. 
 
 For the purposes of this Act the date of the termination of the present war 
 shall be fixed by proclamation of the President. 
 
 TITLE II— INCOME TAX 
 Part I — General Provisions 
 
 DEFINITIONS 
 
 Sec. 200. That when used in this title — 
 
 The term "taxable year" means the calendar year, or the fiscal year end- 
 ing during such calendar year, upon the basis of which the net income is 
 computed under § 212 or § 232. The term "fiscal year" means an accounting 
 period of twelve months ending on the last day of any month other than 
 December. The first taxable year, to be called the taxable year 1918, shall 
 be the calendar year 1918 or any fiscal year ending during the calendar year 
 1918; 
 
 The term "fiduciary" means a guardian, trustee, executor, administrator, 
 receiver, conservator, or any person acting in any fiduciary capacity for any 
 person, trust or estate; 
 
 The term "withholding agent" means any person required to deduct and 
 withhold any tax under the provisions of § 221 or § 237; 
 
 The term "personal service corporation" means a corporation whose in- 
 come is to be ascribed primarily to the activities of the principal owners 
 or stockholders who are themselves regularly engaged in the active conduct 
 of the affairs of the corporation and in which capital ('R'hether invested or 
 borrowed) is not a material income-producing factor; but does not include 
 any foreign corporation, nor any corporation 50 per centum or more of 
 whose gross income consists either (1) of gains, profits or income derived 
 from trading as a principal, or (2) of gains, profits, commissions, or other 
 income, derived from a government contract or contracts made between 
 April 6, 1917, and November 11, 1918, both dates inclusive; 
 
 The term "paid," for the purposes of the deductions and credits under this 
 title, means "paid or accrued" or "paid or incurred," and the terms "paid 
 or incurred" and "paid or accrued" shall be construed according to the 
 method of accounting upon the basis of which the net income is computed 
 under § 212. 
 
 DIVIDENDS 
 
 Sec. 201. (a) That the term "dividend" when used in this title (except in 
 paragraph (10) of subdivision (a) of § 234) means (1) any distribution 
 made by a corporation, other than a personal service corporation, to its 
 shareholders or members, whether in cash or in other property or in stock 
 of the corporation, out of its earnings or profits accumulated since February 
 28, 1913, or (2) any such distribution made by a personal service corporation 
 out of its earnings or profits accumulated since February 28, 1913, and 
 prior to January 1, 1918. 
 
 (b) Any distribution shall be deemed to have been made from earnings or 
 profits unless all earnings and profits have first been distributed. Any dis- 
 tribution made in the year 1918 or any year thereafter shall be deemed to 
 have been made from earnings or profits accumulated since February 28, 
 
REVENUE ACT OP 1918 1277 
 
 1913, or, in the case of a personal service corporation, from the most 
 recently accumulated earnings or profits; but any earnings or profits accu- 
 mulated prior to March 1, 1913, may be distributed in stock dividends or 
 otherwise, exempt from the tax, after the earnings and profits accumulated 
 since February 28, 1913, have been distributed. 
 
 (c) A dividend paid in stock of the corporation shall be considered income 
 to the amount of the earnings or profits distributed. Amounts distributed 
 in the liquidation of a corporation shall, he treated as payments in exchange 
 for stock or shares, and any gain or profit realized thereby shall be taxed 
 to the distributee as other gains or profits. 
 
 (d) If any stock dividend (1) is received by a taxpayer between Jan- 
 uary 1 and November 1, 1918, both dates inclusive, or (2) is during such 
 period bona fide authorized or declared, and entered on the books of the 
 corporation, and is received by a taxpayer after November 1, 1918, and be- 
 fore the expiration of thirty days after passage af this Act, then such 
 dividend shall, in the manner provided in § 206, be taxed to the recipient 
 at the rates prescribed by law for the years in which the corporation ac- 
 cumulated the earnings or profits from which such dividend was paid, but 
 the dividend shall be deemed to have been paid from the most recently 
 accumulated earnings or profits. 
 
 (e) Any distribution made during the first sixty days of any taxable year 
 shall be deemed to have been made from earnings or profits accumulated 
 during preceding taxable years; but any distribution made during the re- 
 mainder of the taxable year shall be deemed to have been made from 
 earnings or profits accumulated between the close of the preceding taxable 
 year and the date of distribution, to the extent of such earnings or profits, 
 and if the books of the corporation do not show the amount of such earnings 
 or profits, the earnings or profits for the accounting period within which the 
 distribution was made shall be deemed to have been accumulated ratably 
 during such period. 
 
 BASIS FOR DETERMINING GAIN OR LOSS 
 
 Sec. 202. (a) That for the purpose of ascertaining the gain derived or loss 
 sustained from the sale or other disposition of property, real, personal, or 
 mixed, the basis shall be — 
 
 (1) In the case of property acquired before March 1, 1913, the fair market 
 price or value of such property as of that date; and 
 
 (2) In the case of property acquired on or after that date, the cost there- 
 of; or the inventory value if the inventory is made in accordance with § 203. 
 
 (b) When property is exchanged for other property, the property received 
 in exchange shall for the purpose of determining gain or loss be treated as 
 the equivalent of cash to the amount of its fair market value, if any; but 
 when in connection with the reorganization, merger, or consolidation of a 
 corporation a person receives in place of stock or securities owned by him 
 new stock or securities of no greater aggregate par or face value, no gain 
 or loss shall be deemed to occur from the exchange, and the new stock or 
 securities received shall be treated as taking the place of the stock, secu- 
 rities, or property exchanged. 
 
 When in the case of any such reorganization, merger or consolidation the 
 aggregate par or face value of the new stock or securities received is in 
 excess of the aggregate par or face value of the stock or securities ex- 
 changed, a like amount in par or face value of the new stock or securities 
 received shall be treated as taking the place of the stock or securities 
 
1278 APPENDIX 
 
 exchanged, and the amount of the excess in par or face value shall be 
 treated as a gain to the extent that the fair market value of the new stock 
 or securities is greater than the cost (or if acquired prior to March 1, 1913, 
 the fair market value as of that date) of the stock or securities exchanged. 
 
 INVENTORIES 
 
 Sec. 203. That whenever in the opinion of the commissioner the use of in- 
 ventories is necessary in order clearly to determine the income of any tax- 
 payer, inventories shall be taxen by such taxpayer upon such basis as the 
 commissioner, with the approval of the secretary, may prescribe as con- 
 forming as nearly as may be to the best accounting practice in the trade 
 or business and as most clearly reflecting the income. 
 
 NET LOSSES 
 
 Sec. 204. (a) That as used in this section the term ''net loss" refers only 
 to net losses resulting from either (1) the operation of any business regular- 
 ly carried on by the taxpayer, or (2) the bona fide sale by the taxpayer of 
 plant, buildings, machinery, equipment or other facilities, constructed, in- 
 stalled or acquired by the taxpayer on or after April 6, 1917, for the pro- 
 duction of articles contributing to the prosecution of the present war; and 
 when so resulting means the excess of the deductions allowed by law (ex- 
 cluding in the case of corporations amounts allowed as a deduction under 
 11 (6) of subdivision (a) of § 234) over the sum of the gross income plus 
 any interest received free from taxation both under this title and under 
 Title III. 
 
 (b) If for any taxable year beginning after October 31, 1918, and ending 
 prior to January 1, 1920, it appears upon the production of evidence satisfac- 
 tory to the commissioner that any taxpayer has sustained a net loss, the 
 amount of such net loss shall under regulations prescribed by the commis- 
 sioner with the approval of the secretary be deducted from the net income 
 of the taxpayer for the preceding taxable year; and the taxes imposed by 
 this title and by Title III for such preceding taxable year shall be rede- 
 termined accordingly. Any amount found to be due to the taxpayer upon 
 the basis of such redetermination shall be credited or refunded to the tax- 
 payer in accordance with the provisions of § 252. If such net loss is in 
 excess of the net income for such preceding taxable year, the amount of 
 such excess shall under regulations prescribed by the commissioner with 
 the approval of the secretary be allowed as a deduction in computing the 
 net income for the succeeding taxable year. 
 
 (c) The benefit of this section shall be allowed to the members of a 
 partnership and the beneficiaries of an estate or trust under regulations 
 prescribed by the commissioner with the approval of the secretary. 
 
 FISCAL YEAR WITH DIFFERENT RATES 
 
 Sec. 205. (a) That if a taxpayer makes return for a fiscal year beginning 
 in 1917 and ending in 1918, his tax under this title for the first taxable year 
 shall be the sum of : ( 1 ) the same proportion of a tax for the entire period 
 computed under Title I of the Revenue Act of 1916 as amended by the 
 Revenue Act of 1917 and under Title I of the Rev.enue Act of 1917, which 
 the portion of such period falling within the calendar year 1917 is of the 
 entire period, and (2) the same proportion of a tax for the entire period 
 computed under this title at the rates for the calendar year 1918 which 
 the portion of such period falling within the calendar year 1918 is of the 
 
REVENUE ACT OF 1918 1279 
 
 entire period: Provided, That in the case of a personal service corporation 
 the amount to be paid shall be only that specified in clause ( 1 ) . 
 
 Any amount heretofore or hereafter paid on account of the tax imposed 
 for such fiscal year by Title I of the Revenue Act of 1916 as amended by 
 the Revenue Act of 1917, and by Title I of the. Revenue Act of 1917, shall 
 be credited towards the payment of the tax imposed for such fiscal year by 
 this act, and if the amount so paid exceeds the amount of such tax imposed 
 by this act, or, in the case of a personal service corporation, the amount 
 specified in clause (1), the excess shall be credited or refunded in accordance 
 with the provisions of § 252. 
 
 (b) If a taxpayer makes a return for a fiscal year beginning in 1918 
 and ending in 1919, the tax under this title for such fiscal year shall be 
 the sum of: (1) the same proportion of a tax for the entire period com- 
 puted under this title at the rates specified for the calendar year 1918 
 which the portion of such period falling within the calendar year 1918 is 
 of the entire period, and (2) the same proportion of a tax for the entire 
 period computed under this title at the rates specified for the calendar 
 year 1919 which portion of such period falling within the calendar year 
 1919 is of the entire period. 
 
 (c) If a fiscal year of a partnership begins in 1917 and ends in 1918 or 
 begins in 1918 and ends in 1919, then notwithstanding the provisions of 
 subdivision (b) of § 218, (1) the rates for the calendar year during which 
 such fiscal year begins shall apply to an amount of each partner's share 
 of such partnership net income (determined under the law applicable to such 
 year) equal to the proportion which the part of such fiscal year falling 
 within such calendar year bears to the full fiscal year, and (2) the rates 
 for the calendar year during which such fiscal year ends shall apply to an 
 amount of each partner's share of such partnership net income (deter- 
 mined under the law applicable to such calendar year) equal to the propor- 
 tion which the part of such fiscal year falling within such calendar year 
 bears to the full fiscal year: Provided, That in the case of a personal serv- 
 ice corporation with respect to a fiscal year beginning in 1917 and ending 
 in 1918, the amount specified in clause (1) shall not be subject to normal tax. 
 
 PARTS OF INCOME SUBJECT TO RATES FOR DIFFERENT YEARS 
 
 Sec. 206. That whenever parts of a taxpayer's income are subject to 
 rates for different calendar years, the part subject to the rates for the most 
 recent calendar year shall be placed in the lower brackets of the rate 
 schedule provided in this title, the part subject to the rates for the next 
 preceding calendar year shall be placed in the next higher brackets of the 
 rate schedule applicable to that year, and so on until the entire net income 
 has been accounted for. In determining the income, any deductions, exemp- 
 tions or credits of a kind not plainly and properly chargeable against the 
 income taxable at rates for a preceding year shall first be applied against 
 the income subject to rates for the most recent calendar year; but any 
 balance thereof shall be applied against the income subject to the rates of 
 the next preceding year or years until fully allowed. 
 
 Part II — Individuals 
 
 NORMAL tax 
 
 Sec. 210. That, in lieu of the taxes imposed by subdivision (a) of § 1 of 
 the Revenue Act of 1916 and by § 1 of the Revenue Act of 1917, there shall 
 
1280 APPENDIX 
 
 be levied, collected, and paid for each taxable year upon the net income 
 of every individual a normal tax at the following rates: 
 
 (a) For the calendar year 1918, 12 per centum of the amount of the net 
 income in excess of the credits provided in § 216: Provided, That in the 
 case of a citizen or resident of the United States the rate upon the first 
 $4,000 of such excess amount shall be 6 per centum; 
 
 (b) For each calendar year thereafter, 8 per centum of the amount of 
 the net income in excess of the credits provided in § 216: Provided, That in 
 the case of a citizen or resident of the United States the rate upon the 
 first $4,000 of such excess amount shall be 4 per centum. 
 
 SURTAX 
 
 Sec. 211. (a) That, in lieu of the taxes imposed by subdivision (b) of 
 § 1 of the Revenue Act of 1916 and by § 2 of the Revenue Act of 1917, but 
 in addition to the normal tax imposed by § 210 of this Act, there shall be 
 levied, collected, and paid for each taxable year upon the net income of 
 every individual, a surtax equal to the sum of the following: 
 
 1 per centum of the amount by which the net income exceeds $5,000 and 
 does not exceed $6,000: 
 
 2 per centum of the amount by which the net income exceeds $6,000 and 
 does not exceed $8,000; 
 
 3 per centum of the amount by which the net income exceeds $8,000 and 
 does not exceed $10,000; 
 
 4 per centum of the amount by which the net income exceeds $10,000 and 
 does not exceed $12,000; 
 
 5 per centum of the amount by which the net income exceeds $12,000 and 
 does not exceed $14,000; 
 
 6 per centum of the amount by which the net income exceeds $14,000 and 
 does not exceed $16,000; 
 
 7 per centum of the amount by which the net income exceeds $16,000 and 
 does not exceed $18,000; 
 
 8 per centum of the amount by which the net income exceeds $18,000 and 
 does not exceed $20,000; 
 
 9 per centum of the amount by which the net income exceeds $20,000 and 
 does not exceed $22,000; 
 
 10 per centum of the amount by which the net income exceeds $22,000 and 
 does not exceed $24,000; 
 
 11 per centum of the amount by which the net income exceeds $24,000 and 
 does not exceed $26,000; 
 
 12 per centum of the amount by which the net income exceeds $26,000 and 
 does not exceed $28,000 ; 
 
 13 per centum of the amount by which the net income exceeds $28,000 and 
 does not exceed $30,000 ; 
 
 14 per centum of the amount by which the net income exceeds $30,000 and 
 does not exceed $32,000; 
 
 15 per centum of the amount by which the net income exceeds $32,000 and 
 does not exceed $34,000; 
 
 16 per centum of the amount by which the net income exceeds $34,000 and 
 does not exceed $36,000; 
 
 17 per centum of the amount by which the net income exceeds $36,000 and 
 does not exceed $38,000; 
 
 18 per centum of the amount by which the net income exceeds $38,000 and 
 does not exceed $40,000; 
 
REVENUE ACT OF 1918 
 
 1281 
 
 19 per centum of the amount by which the net income exceeds $40,000 and 
 does not exceed $42,000; 
 
 20 per centum of the amount by which the net income exceeds $42,000 and 
 does not exceed $44,000; 
 
 2i per centum of the amount by which the net income exceeas $44,000 and 
 does not exceed $46,000; 
 
 22 per centum of the amount by which the net mcome exceeds $46,000 and 
 does not exceed $48,000; 
 
 23 per centum of the amount by which the net income exceeds $48,000 and 
 does not exceed $50,000; 
 
 24 per centum of the amount by which the net income exceeds $50,000 and 
 does not exceed $52,000; 
 
 25 per centum of the amount by which the net income exceeds $52,000 and 
 does not exceed $54,000; 
 
 26 per centum of the amount by which the net income exceeds $54,000 and 
 does not exceed $56,000; 
 
 27 per centum of the amount by which the net income exceeds $56,000 and 
 does not exceed $58,000; 
 
 28 per centum of the amount by which the net income exceeds $58,000 and 
 does not exceed $60,000; 
 
 29 per centum of the amount by which the net income exceeds $60,000 and 
 does not exceed $62,000; 
 
 30 per centum of the amount by which the net income exceeds $62,000 and 
 does not exceed $64,000; 
 
 31 per centum of the amount by which the net income exceeds $64,000 and 
 does not exceed $66,000; 
 
 32 per centum of the amount by which the net income exceeds $66,000 and 
 does not exceed $68,000; 
 
 33 per centum of the amount by which the net income exceeds $68,000 and 
 does not exceed $70,000; 
 
 34 per centum of the amount by which the net income exceeds $70,000 and 
 does not exceed $72,000; 
 
 35 per centum of the amount by which the net income exceeds $72,000 and 
 does not exceed $74,000; 
 
 36 per centum of the amount by which the net income exceeds $74,000 and 
 does not exceed $76,000; 
 
 37 per centum of the amount by which the net income exceeds $76,000 and 
 does not exceed $78,000; 
 
 38 per centum of the amount by which the net income exceeds $78,000 and 
 does not exceed $80,000; 
 
 39 per centum of the amount by which the net income exceeds $80,000 and 
 does not exceed $82,000; 
 
 40 per centum of the amount by which the net income exceeds $82,000 and 
 does not exceed $84,000; 
 
 41 per centum of the amount by which the net income exceeds $84,000 and 
 does not exceed $86,000 ; 
 
 42 per centum of the amount by which the net income exceeds $86,000 and 
 does not exceed $88,000; 
 
 43 per centum of the amount by which the net income exceeds $88,000 and 
 does not exceed $90,000; 
 
 44 per centum of the amount by which the net income exceeds $90,000 and 
 does not exceed $92,000; 
 
1282 APPENDIX 
 
 45 per centum of the amount by which the net income exceeds $92,000 and 
 does not exceed $94,000; 
 
 46 per centum of the amount by which the net income exceeds $94,000 and 
 does not exceed $96,000; 
 
 47 per centum of the amount by which the net income exceeds $96,000 and 
 does not exceed $98,000; 
 
 48 per centum of the amount by which the net income exceeds $98,000 and 
 does not exceed $100,000 ; 
 
 52 per centum of the amount by which the net income exceeds $100,000 
 and does not exceed $150,000; 
 
 56 per centum of the amount by which the net income exceeds $150,000 
 and does not exceed $200,000; 
 
 60 per centum of the amount by which the net income exceeds $200,000 
 and does not exceed $300,000; 
 
 63 per centum of the amount by which the net income exceeds $300,000 
 and does not exceed $500,000; 
 
 64 per centum of the amount by which the net income exceeds $500,000 
 and does not exceed $1,000,000; 
 
 65 per centum of the amount by which the net income exceeds $1,000,000. 
 
 (b)In the case of a bona fide sale of mines, oil or gas wells, (or any in- 
 terest therein), where the principal value of the property has been demon- 
 strated by prospecting or exploration and discovery work done by the tax- 
 payer, the portion of the tax imposed by this section attributable to such 
 sale shall not exceed 20 per centum of the selling price of such property or 
 interest. 
 
 NET INCOME DEFINED 
 
 Sec. 212. (a) That in the case of an individual the term "net income" 
 means the gross income as defined in § 213, less the deductions allowed by 
 §214. 
 
 (b) The net income shall be computed upon the basis of the taxpayer's 
 annual accounting period (fiscal year or calendar year, as the case may be) 
 in accordance with the method of accounting regularly employed in keeping 
 the books of such taxpayer; but if no such method of accounting has been so 
 employed, or if the method employed does not clearly reflect the income, the 
 computation shall be made upon such basis and in such manner as in the 
 opinion of the commissioner does clearly reflect the income. If the tax- 
 payer's annual accounting period is other than a fiscal year as defined in 
 § 200 or if the taxpayer has no annual accounting period or does not keep 
 books, the net income shall be computed on the basis of the calendar year. 
 
 If a taxpayer changes his accounting period from fiscal year to calendar 
 year, from calendar year to fiscal year, or from one fiscal year to another, 
 the net income shall, with the approval of the commissioner, be computed 
 on the basis of such new accounting period, subject to the provisions of 
 § 226. 
 
 GROSS INCOME DEFINED 
 
 Sec. 213. That for the purposes of this title (except as otherwise provided 
 in § 233) the term "gross income" — 
 
 (a) Includes gains, profits, and income derived from salaries, wages, or 
 compensation for personal service (including in the case of the President 
 of the United States, the judges of the supreme and inferior courts of the 
 United States, and all other officers and employes, whether elected or ap- 
 pointed, of the United States, Alaska, Hawaii, or any political subdivision 
 
EEVENUE ACT OF 1918 1283 
 
 thereof, or the District of Columbia, the compensation received as such), 
 of whatever kind and in whatever form paid, or from professions, vocations, 
 trades, businesses, commerce, or sales, or dealings in property, whether real 
 or personal, growing out of the ownership or use of or interest in such 
 property; also from interest, rent, dividends, securities, or the transaction 
 of any business carried on for gain or profit, or gains or profits and income 
 derived from any source whatever. The amount of all such items shall be 
 included in the gross income for the taxable year in which received by the 
 taxpayer, unless, under methods of accounting permitted under subdivision 
 
 (b) of § 212, any such amounts are to be properly accounted for as of a dif- 
 ferent period; but 
 
 (b) Does not include the following items, which shall be exempt from 
 taxation under this title: 
 
 (1) The proceeds of life insurance policies paid upon the death of the 
 insured to individual beneficiaries or to the estate of the insured; 
 
 (2) The amount received by the insured as a return of premium or. pre- 
 miums paid by him under life insurance, endowment, or annuity contracts, 
 either during the term or at the maturity of the term mentioned in the 
 contract or upon surrender of the contract; 
 
 (3) The value of property acquired by gift, bequest, devise, or descent 
 (but the income from such property shall be included in gross income) ; 
 
 (4) Interest upon (a) the obligations of a state, territory, or any political 
 subdivision thereof, or the District of Columbia; or (b) securities issued 
 under the provisions of the Federal Farm Loan Act of July 17, 1916; or 
 
 (c) the obligations of the United States or its possessions; or (d) bonds 
 issued by the War Finance Corporation; Provided, That every person own- 
 ing any of the obligations, securities or bonds enumerated in clauses (a), 
 
 (b), (c) and (d) shall, in return required by this title, submit a statement 
 showing the number and amount of such obligations, securities and bonds 
 owned by him and the income received therefrom, in such form and with 
 such information as the commissioner may require. In the case of obliga- 
 tions of the United States issued after September 1, 1917, and in the case 
 of bonds issued by the War Finance Corporation, the interest shall be 
 exempt only if and to the extent provided in the respective Acts authorizing 
 the issue thereof as amended and supplemented, and shall be excluded from 
 gross income only if and to the extent it is wholly exempt from taxation 
 to the taxpayer both under this title and under Title III; 
 
 (5) The income of foreign governments received from investments in 
 the United States in stocks, bonds, or other domestic securities, owned by 
 such foreign governments, or from interest on deposits in banks in the 
 United States of moneys belonging to such foreign governments, or from any 
 other source within the United States; 
 
 (6) Amounts received, through accident or health insurance or under 
 workmen's compensation acts, as compensation for personal injuries or 
 sickness, plus the amount of any damages received whether by suit or agree- 
 ment on account of such injuries or sickness; 
 
 (7) Income derived from any public utility or the exercise of any essen- 
 tial governmental function and accruing to any state, territory, or the 
 District of Columbia, or any political subdivision of a state or territory, or 
 income accruing to the government of any possession of the United States, 
 or any political subdivision thereof. 
 
 Whenever any state, territory, or the District of Columbia, or any politi- 
 cal subdivision of a state or territory, prior to September 8, 1916, entered 
 
1284 APPENDIX 
 
 in good faith into a contract with any person, the object and purpose of 
 which is to acquire, construct, operate, or maintain a public utility, no tax 
 shall be levied under the provisions of this title upon the income derived 
 from the operation of such public utility, so far as the payment thereof will 
 impose a loss or burden upon such state, or territory, District of Columbia, 
 or political subdivision; but this provision is not intended to confer upon 
 such person any financial gain or exemption or to relieve such person from 
 the payment of a tax as provided for in this title upon the part or portion of 
 such income to which such person is entitled under such contract; 
 
 (8) So much of the amount received during the present war by a person 
 in the military or naval forces of the United States as salary or compen- 
 sation in any form from the United States for active services in such forces, 
 as does not exceed $3,500. 
 
 (c) In the case of nonresident alien individuals, gross income includes only 
 the gross income from sources within the United States, including interest 
 on bonds, notes, or other interest-bearing obligations of residents, corpo- 
 rate or otherwise, dividends from resident corporations, and including all 
 amounts received (although paid under a contract for the sale of goods or 
 otherwise) representing profits on the manufacture and disposition of goods 
 within the United States. 
 
 DEDUCTIONS ALLOWED 
 
 Sec. 214. (a) That in computing net income there shall be allowed as 
 deductions : 
 
 (1) All the ordinary and necessary expenses paid or incurred during the 
 taxable year in carrying on any trade or business, including a reasonable 
 allowance for salaries or other compensation for personal services actually 
 rendered, and including rentals or other payments required to be made as a 
 condition to the continued use or possession, for purposes of the trade or 
 business, of property to which the taxpayer has not taken or is not taking 
 title or in which he has no equity; 
 
 (2) All interest paid or accrued within the taxable year on indebtedness, 
 except on indebtedness incurred or continued to purchase or carry obligations 
 or securities (other than obligations of the United States issued after Sep- 
 tember 24, 1917), the interest upon which is wholly exempt from taxation 
 under this title as income to the taxpayer, or, in the case of a nonresident 
 alien individual, the proportion of such interest which the amount of his 
 gross income from sources within the United States bears to the amount of 
 his gross income from all sources within and without the United States; 
 
 (3) Taxes paid or accrued within the taxable year imposed (a) by the 
 authority of the United States, except income, war-profits and excess-profits 
 taxes; or (b) by the authority of any of its possessions, except the amount 
 of income, war-profits and excess-profits taxes allowed as a credit under 
 § 222; or (e) by the authority of any state or territory, or any county, 
 school district, municipality, or other taxing subdivision of any state or terri- 
 tory, not including those assessed against local benefits of a kind tending to 
 increase the value of the property assessed; or (d) in the case of a citizen 
 or resident of the United States, by the authority of any foreign country, 
 except the amount of income, war-profits and excess-profits taxes allowed 
 as a credit under § 222; or (e) in the case of a nonresident alien individual, 
 by the authority of any foreign country (except income, war-profits and 
 
REVENUE ACT OP 1918 1285 
 
 excess-profits taxes, and taxes assessed against local benefits of a kind 
 tending to increase the value of the property assessed) , upon property or 
 business; 
 
 (4) Losses sustained during the taxable year and not compensated for 
 by insurance or otherwise, if incurred in trade or business. 
 
 (5) Losses sustained during the taxable year and not compensated for 
 by insurance or otherwise, if incurred in any transaction entered into for 
 profit, though not connected with the trade or business; but in the case of a 
 nonresident alien individual only as to such transactions within the United 
 States ; 
 
 (6) Losses sustained during the taxable year of property not connected 
 with the trade or business (but in the case of a nonresident alien individual 
 only property within the United States) if arisnig from fires, storms, ship- 
 wreck, or other casualty, or from theft, and if not compensated for by in- 
 surance or otherwise; 
 
 (7) Debts ascertained to be worthless and charged off within the taxable 
 year; 
 
 (8) A reasonable allowance for the exhaustion, wear and tear of property 
 ' used in the trade or business, including a reasonable allowance for obsoles- 
 cence ; 
 
 (9) In the case of buildings, machinery, equipment, or other facilities, 
 constructed, erected, installed, or acquired, on or after April 6, 1917, for the 
 production of articles contributing to the prosecution of the present war, 
 and in the case of vessels constructed or acquired on or after such date for 
 the transportation of articles or men contributing to the prosecution of the 
 present war, there shall be allowed a reasonable deduction for the amortiza- 
 tion of such part of the cost of such facilities or vessels as has been borne 
 by the taxpayer, but not again including any amount otherwise allowed 
 under this title or previous^ Acts of Congress as a deduction in computing 
 net income. At any time within three years after the termination of the 
 present war, the commissioner may, and at the request of the taxpayer shall, 
 re-examine the return, and if he then finds as a result of an appraisal or 
 from other evidence that the deduction originally allowed was' incorrect, 
 the taxes imposed by this title and by Title III for the year or years affected 
 shall be redetermined ; and the amount of tax due upon such redetermination, 
 if any, shall be paid upon notice and demand by the collector, or the amount 
 of tax overpaid, if any, shall be credited or refunded to the taxpayer in 
 accordance with the provisions of § 252; 
 
 (10) In the case of mines, oil and gas wells, other natural deposits, and 
 timber, a reasonable allowance for depletion and for depreciation of im- 
 provements, according to the peculiar conditions in each case, based upon 
 cost including cost of development not otherwise deducted: Provided, That 
 in the case of such properties acquired prior to March 1, 1913, the fair 
 market value of the property (or the taxpayer's interest therein) on that 
 date shall be taken in lieu of cost up to that date: Provided further, That 
 in the case of mines, oil and gas wells, discovered by the taxpayer, on or 
 after March 1, 1913, and not acquired as the result of purchase of a proven 
 tract or lease, where the fair market value of the property is materially 
 disproportionate to the cost, the depletion allowance shall be based upon the 
 fair market value of the property at the date of the discovery, or within 
 thirty days thereafter; such reasonable allowance in all the above cases to 
 be made under rules and regulations to be prescribed by the commissioner 
 
1286 APPENDIX 
 
 with the approval of the secretary. In the case of leases the deductions 
 allowed by this paragraph shall be equitably apportioned between the lessor 
 and the lessee; 
 
 (11) Contributions or gifts made within the taxable year to corporations 
 organized and operated exclusively for religious, charitable, scientific, or 
 educational purposes, or for the prevention of cruelty to children or ani- 
 mals, no part of the net earnings of which inures to the benefit of any private 
 stockholder or individual, or to the special fund for vocational rehabilita- 
 tion authorized by § 7 of the Vocational Rehabilitation Act, to an amount not 
 in excess of 15 per centum of the taxpayer's net income as computed with- 
 out the benefit of this paragraph. Such contributions or gifts shall be al- 
 lowable as deductions only if verified under rules and regulations prescribed 
 by the commissioner, with the approval of the secretary. In the case of a 
 nonresident alien individual this deduction shall be allowed only as to con- 
 tributions or gifts made to domestic corporations, or to such vocational re- 
 habilitation fund; 
 
 (12) (a) At the time of filing return for the taxable year 1918 a taxpayer 
 may file a claim in abatement based on the fact that he has sustained a sub- 
 stantial loss (whether or not actually realized by sale or other disposition) 
 resulting from any material reduction (not due to temporary fluctuation) 
 of the value of the inventory for such taxable year, or from the actual 
 payment after the close of such taxable year of rebates in pursuance of 
 contracts entered into during such year upon sales made during such year. 
 In such case payment of the amount of the tax covered by such claim shall 
 not be required until the claim in decided, but the taxpayer shall accompany 
 his claim with a bond in double the amount of the tax covered by the claim, 
 with sureties satisfactory to the commissioner, conditioned for the payment 
 of any part of such tax found to be due, with interest. If any part of such 
 claim is disallowed then the remainder of the tax due shall on notice and 
 demand by the collector be paid by the taxpayer with interest at the rate 
 of 1 per centum per month from the time the tax would have been due had 
 no such claim been filed. If it is shown to the satisfaction of the commis- 
 sioner that such substantial loss has been sustained, then in computing the 
 tax imposed by this title the amount of such loss shall be deducted from the 
 net income, (b) If no such claim is filed, but it is shown to the satisfaction 
 of the commissioner that during the taxable year 1919 the taxpayer has 
 sustained a substantial loss of the character above described then the amount 
 of such loss shall be deducted from the net income for the taxable year 1918 
 and the tax imposed by this title for such year shall be redetermined ac- 
 cordingly. Any amount found to be due to the taxpayer upon the basis of 
 such redetermination shall be credited or refunded to the taxpayer in ac- 
 cordance with the provisions of § 252. 
 
 (b) In the case of a nonresident alien individual the deductions allowed 
 in nil (1), (4), (7), (8), (9), (10) and (12), and clause (e) of II (3), of 
 subdivision (a) shall be allowed only if and to the extent that they are 
 connected with income arising from a source within the United States; and 
 the proper apportionment and allocation of the deductions with respect to 
 sources of income within and without the United States shall be determined 
 under rules and regulations prescribed by the commissioner with the ap- 
 proval of the secretary. 
 
REVENUE ACT OP 1918 1287 
 
 ITEMS NOT DEDUCTIBLE 
 
 Sec. 215. That in computing net income no deduction shall in any case be 
 allowed in respect of — 
 
 (a) Personal, living, or family expenses; 
 
 (b) Any amount paid out for new buildings or for permanent improve- 
 ments or betterments made to increase the value of any property or estate; 
 
 (c) Any amount expended in restoring property or in making good the 
 exhaustion thereof for which an allowance is or has been made; or 
 
 (d) Premiums paid on any life insurance policy covering the life of any 
 officer or employee, or of any person financially interested in any trade or 
 business carried on by the taxpayer, when the taxpayer is directly or in- 
 directly a beneficiary under such policy. 
 
 CREDITS ALLOWED 
 
 Sec. 216. That for the purpose of the normal tax only there shall be 
 allowed the following credits: 
 
 (a) The amount received as dividends from a corporation which is tax- 
 able under this title upon its net income, and amounts received as dividends 
 from a personal service corporation out of earnings or profits upon which 
 income tax has been imposed by Act of Congress; 
 
 (b) The amount received as interest upon obligations of the United 
 States and bonds issued by the War Finance Corporation, which is included 
 in gross income under § 213; 
 
 (c) In the case of a single person, a personal exemption of $1,000, or in 
 the case of the head of a family or a married person living with husband or 
 wife, a personal exemption of $2,000. A husband and wife living together 
 shall receive but one personal exemption of $2,000 against their aggregate 
 net income ; and in case they make separate returns, the personal exemption 
 of $2,000 may be taken by either or divided between them; 
 
 (d) $200 for each person (other than husband or wife) dependent upon 
 and receiving his chief support from the taxpayer, if such dependent person 
 is under eighteen years of age or is incapable of self-support because 
 mentally or physically defective. 
 
 (e) In the case of a nonresident alien individual who is a citizen or 
 subject of a country which imposes an income tax, the credits allowed in 
 subdivisions (c) and (d) shall be allowed only if such country allows a 
 similar credit to citizens of the United States not residing in such country. 
 
 NON-RESIDENT ALIENS — ^ALLOWANCE OF DEDUCTIONS AND CREDITS 
 
 Sec. 217. That a nonresident alien individual shall receive the benefit of 
 the deductions and credits allowed in this title only by filing or causing to be 
 filed with the collector a true and accurate return of his total 
 income received from all sources corporate or otherwise in the United 
 States, in the manner prescribed by this title, including therein all the in- 
 formation which the commissioner may deem necessary for the calculation 
 of such deductions and credits: Provided, That the benefit of the credits 
 allowed in subdivisions (c) and (d) of § 216 may, in the discretion of the 
 commissioner, and except as otherwise provided in subdivision (e) of that 
 section, be received by filing a claim therefor with the withholding agent. 
 In case of failure to file a return, the collector shall collect the tax on such 
 income, and all property belonging to such nonresident alien individual 
 shall be liable to distraint for the tax. 
 
1288 APPENDIX 
 
 PARTNERSHIPS AND PERSONAL SERVICE CORPORATIONS 
 
 Sec. 218. (a) That individuals carrying on business in partnership shall 
 be liable for income tax only in their individual capacity. There shall be 
 included in computing the net income of each partner his distributive share, 
 whether distributed or not, of the net income of the partnership for the 
 taxable year, or, if his net income for such taxable year is computed upon 
 the basis of a period different from that upon the basis of which the net 
 income of the partnership is computed, then his distributive share of the 
 net income of the partnership for any accounting period of the partnership 
 ending within the fiscal or calendar year upon the basis of which the part- 
 ner's net income is computed. 
 
 The partner shall, for the purpose of the normal tax, be allowed as credits, 
 in addition to the credits allowed to him under § 216, his proportionate 
 share of such -amounts specified in subdivisions (a) and (b) of § 216 as 
 are received by the partnership. 
 
 (b) If a fiscal year of a partnership ends during a calendar year for 
 which the rates of tax differ from those for the preceding calendar year, 
 then (1) the rates for such preceding calendar year shall apply to an 
 amount of each partner's share of such partnership net income equal to 
 the proportion which the part of such fiscal year falling within such calendar 
 year bears to the full fiscal year, and (2) the rates for the calendar year 
 during which such fiscal year ends shall apply to the remainder. 
 
 (c) In the case of an individual member of a partnership which makes 
 return for a fiscal year beginning in 1917 and ending in 1918, his propor- 
 tionate share of any excess-profits tax imposed upon the partnership under 
 the Revenue Act of 1917 with respect to that part of such fiscal year falling 
 in 1917, shall, for the purpose of determining the tax imposed by this title, 
 be credited against that portion of the net income embraced in his personal 
 return for the taxable year 1918 to which the rates for 1917 apply. 
 
 (d) The net income of the partnership shall be computed in the same 
 manner and on the same basis as provided in § 212 except that the deduc- 
 tion provided in fl (11) of subdivision (a) of § 214 shall not be allowed. 
 
 (e) Personal service corporations shall not be subject to taxation under 
 this title, but the individual stockholders thereof shall be taxed in the same 
 manner as the members of partnerships. All the provisions of this title 
 relating to partnerships and the members thereof shall so far as practicable 
 apply to personal service corporations and the stockholders thereof: Pro- 
 vided, That for the purpose of this subdivision amounts distributed by a 
 personal service corporation during its taxable year shall be accounted for. 
 by the distributees; and any portion of the net income remaining undis- 
 tributed at the close of its taxable year shall be accounted for by the stock- 
 holders of such corporation at the close of its taxable year in proportion 
 to their respective shares. 
 
 ESTATES AND TRUSTS 
 
 Sec. 219. (a) That the tax imposed by §§ 210 and 211 shall apply to the 
 income of estates or of any- kind of property held in trust, including — 
 
 (1) Income received by estates of deceased persons during the period of 
 administration or settlement of the estate; 
 
 (2) Income accumulated in trust for the benefit of unborn or unascer- 
 tained persons or persons with contingent interests; 
 
 (3) Income held for future distribution under the terms of the will or 
 trust; and 
 
REVENUE ACT OF 1918 1289 
 
 (4) Income which is to be distributed to the beneficiaries periodically, 
 whether or not at regular intervals, and the income collected by a guardian 
 of an infant to be held or distributed as the court may direct. 
 
 (b) The fiduciary shall be responsible for making the return of income for 
 the estate or trust for which he acts. The net income of the estate or trust 
 shall be computed in the same manner and on the same basis as provided in 
 § 212, except that there shall also be allowed as a deduction (in lieu of the 
 deduction authorized by If (11) of subdivision (a) of § 214) any part of 
 the gross income which, pursuant to the terms of the will or deed creating 
 the trust, is during the taxable year paid to or permanently set aside for the 
 United States, any state, territory, or any political subdivision thereof, or 
 the District of Columbia, or any corporation organized and operated exclu- 
 sively for religious, charitable, scientific, or educational purposes, or for 
 the prevention of cruelty to children or animals, no part of the net earnings 
 of which inures to the benefit of any private stockholder or individual; and 
 in cases under T[ (4) of subdivision (a) of this section the fiduciary shall 
 include in the return a statement of each beneficiary's distributive share of 
 such net income, whether or not distributed before the close of the taxable 
 year for which the return is made. 
 
 (c) In cases under f (1), (2), or (3) of subdivision (a) the tax shall 
 be imposed upon the net income of the estate or trust and shall be paid 
 by the fiduciary, except that in determining the net income of the estate of 
 any deceased person during the period of administration or settlement there 
 may be deducted the amount of any income properly paid or credited to 
 any legatee, heir or other beneficiary. In such cases the estate or trust shall, 
 for the purpose of the normal tax, be allowed the same credits as are allowed 
 to single persons under § 216. 
 
 (d) In cases under T[ (4) of subdivision (a), and in the case of any 
 income of an estate during the period of administration or settlement per- 
 mitted by subdivision (c) to be deducted from the net income upon which 
 tax is to be paid by the fiduciary, the tax shall not be paid by the fiduciary, 
 but there shall be included in computing the net income of each beneficiary 
 his distributive share, whether distributed or not, of the net income of the 
 estate or trust for the taxable year, or, if his net income for such taxable 
 year is computed upon the basis of a period diff'erent from that upon the 
 basis of which the net income of the estate or trust is computed, then his 
 distributive share of the net income of the estate or trust for any account- 
 ing period of such estate or trust ending within the fiscal or calendar year 
 upon the basis of w'hich such beneficiary's net income is computed. In such 
 cases the beneficiary shall, for the purpose of the normal tax, be allowed as 
 credits in addition to the credits allowed to him under § 216, his propor- 
 tionate share of such' amounts specified in subdivisions (a) and (b) of 
 § 216 as are received by the estate or trust. 
 
 PROFITS OF CORPORATIONS TAXABLE TO STOCKHOLDERS 
 
 Sec. 220. That if any corporation, however created or organized, is 
 formed or availed of for the purpose of preventing the imposition of the 
 surtax upon its stockholders or members through the medium of permitting 
 its gains and profits to accumulate instead of being divided or distributed, 
 such corporation shall not be subject to the tax imposed by § 230, but the 
 stockholders or members thereof shall be subject to taxation under this title 
 in the same manner as provided in subdivision (e) of § 218 in the case of 
 stockholders of a personal service corporation, except that the tax imposed 
 
1290 APPENDIX 
 
 by Title III shall be deducted from the net income of the corporation before 
 the computation of the proportionate share of each stockholder or member. 
 The fact that any corporation is a mere holding company, or that the gains 
 and profits are permitted to accumulate beyond the reasonable needs of the 
 business, shall be prima facie evidence of a purpose to escape the surtax; 
 but the fact that the gains and profits are in any case permitted to accumu- 
 late and become surplus shall not be construed as evidence of a purpose to 
 escape the tax in such ease unless the commissioner certifies that in his 
 opinion such accumulation is unreasonable for the purposes of the business. 
 When requested by the commissioner, or any collector, every corporation 
 shall forward to him a correct statement of such gains and profits and the 
 names and addresses of the individuals or shareholders who would be en- 
 titled to the same if divided or distributed, and of the amounts that would 
 be payable to each. 
 
 PAYMENT OF TAX AT SOURCE 
 
 Sec. 221. (a) That all individuals, corporations and partnerships, in 
 whatever capacity acting, including lessees or mortgagors of real or per- 
 sonal property, fiduciaries, employers, and all officers and employees of the 
 United States, having the control, receipt, custody, disposal, or payment, 
 of interest, rent, salaries, wages, premiums, annuities, compensations, re- 
 munerations, emoluments, or other fixed or determinable annual or periodi- 
 cal gains, profits, and income, of any nonresident alien individual (other 
 than income received as dividends from a corporation which is taxable under 
 this title upon its net income) shall (except in the cases provided for in 
 subdivision (b) and except as otherwise provided in regulations prescribed 
 by the commissioner under § 217) deduct and withhold from such annual 
 or periodical gains, profits, and income a tax equall to 8 per centum thereof: 
 Provided, That the commissioner may authorize such tax to be deducted and 
 withheld from the interest upon any securities the owners of which are not 
 known to the withholding agent. 
 
 (b) In any case where bonds, mortgages, or deeds of trust, or other 
 similar obligations of a corporation contain a contract or provision by which 
 the obligor agrees to pay any portion of the tax imposed by this title upon 
 the obligee, or to reimburse the obligee for any portion of the tax, or to pay 
 the interest without deduction for any tax which the obligor may be required 
 or permitted to pay thereon or to retain therefrom under any law of the 
 United States, the obligor shall deduct and withhold a tax equal to 2 per 
 centum of the interest upon such bonds, mortgages, deeds of trust, or other 
 obligations, whether such interest is payable annually or at shorter or longer 
 periods and whether payable to a nonresident alien individually or to an 
 individual citizen or resident of the United States or to a partnership: 
 Provided, That the commissioner may authorize such tax to be deducted 
 and withheld in the case of interest upon any such bonds, mortgages, deeds 
 of trust or other obligations, the owners of which are not known to the 
 withholding agent. Such deduction and withholding shall not be required 
 in the case of a citizen or resident entitled to receive such interest, if he 
 files with the withholding agent on or before February 1, a signed notice 
 in writing claiming the benefit of the credits provided in subdivisions (c) 
 and (d) of § 216; nor in the case of a nonresident alien individual if so 
 provided for in regulations prescribed by the commissioner under § 217. 
 
 (c) Every individual, corporation, or partnership required to deduct and 
 withhold any tax under this section shall make return thereof on or before 
 
REVENUE ACT OF 1918 1291 
 
 March first of each year and shall on or before June fifteenth pay the tax 
 to the official of the United States government authorized to receive it. 
 Every such individual, corporation, or partnership is hereby made liable 
 for such tax and is hereby indemnified against the claims and demands of 
 any individual, corporation, or partnership for the amount of any payments 
 made in accordance vifith the provisions of this section. 
 
 (d) Income upon which any tax is required to be withheld at the source 
 under this section shall be included in the return of the recipient of such 
 income, but any amount of tax so withheld shall be credited against the 
 amount of income tax as computed in such return. 
 
 (e) If any tax required under this section to be deducted and withheld 
 is paid by the recipient of the income, it shall not be re-collected from the 
 withholding agent; nor in cases in which the tax is so paid shall any penalty 
 be imposed upon or collected from the recipient of the income or the with- 
 holding agent for failure to return or pay the same, Unless such failure was 
 fraudulent and for the purpose of evading payment. 
 
 CREDIT FOR TAXES 
 
 Sec. 222. (a) That the tax computed under Part II of this title shall be 
 credited with: 
 
 (1) In the case of a citizen of the United States, the amount of any 
 income, war-profits and excess-profits taxes paid during the taxable year 
 to any foreign country, upon income derived from sources therein, or to any 
 possession of the United States; and 
 
 (2) In the caseof a resident of the United States, the amount of any 
 such taxes paid during the taxable year to any possession of the United 
 States; and 
 
 (3) In the case of an alien resident of the United States who is a citizen 
 or subject of a foreign country, the amount of any such taxes paid during 
 the taxable year to such country, upon income derived from sources therein, 
 if such country, in imposing such taxes, allows a similar credit to citizens 
 of the United States residing in such country; and 
 
 (4) In the case of any such individual who is a member of a partnership 
 or a beneficiary of an estate or trust, his proportionate share of such taxes 
 of the partnership or the estate or trust paid during the taxable year to a 
 foreign country or to any possession of the United States, as the case 
 may be. 
 
 (b) If accrued taxes when paid differ from the amounts claimed as 
 credits by the taxpayer, or if any tax paid is refunded in whole or in part, 
 the taxpayer shall notify the commissioner who shall redetermine the amount 
 of the tax due under Part II of this title for the year or years affected, 
 and the amount of tax due upon such redetermination, if any, shall be paid 
 by the taxpayer upon notice and demand by the collector, or the amount of 
 tax overpaid, if any, shall be credited or refunded to the taxpayer in 
 accordance with the provisions of § 252. In the case of such a tax accrued 
 but not paid, the commissioner as a condition precedent to the allowance of 
 this credit may require the taxpayer to give a bond with sureties satisfac- 
 tory to and to be approved by the commissioner in such penal sum as the 
 commissioner may require, conditioned for the payment by the taxpayer of 
 any amount of tax found due upon any such redetermination; and the bond 
 herein prescribed shall contain such further conditions as the commissioner 
 may require. 
 
1292 APPENDIX 
 
 (c) These credits shall be allowed only if the taxpayer furnishes evidence 
 satisfactory to the commissioner showing the amount of income derived from 
 sources within such foreign country or such possession of the United States, 
 and all other information necessary for the computation of such credits. 
 
 INDIVIDUAL RETURNS 
 
 Sec. 223. That every individual having a net income for the taxable year 
 of $1,000 or over if single or if married and not living with husband or 
 wife, or of $2,000 or over if married and living with husband or wife, shall 
 make under oath a return stating specifically the items of his gross income 
 and the deductions and credits allowed by this title. If a husband and wife 
 living together have an aggregate net income of $2,000 or over, each shall 
 make such a return unless the income of each is included in a single joint 
 return. 
 
 If the taxpayer is unable to make his own return, the return shall be 
 made by a duly authorized agent or by the guardian or other person charged 
 with the care of the person or property of such taxpayer. 
 
 PARTNERSHIP RETURNS 
 
 Sec. 224. That every partnership shall make a return for each taxable 
 year, stating specifically the items of its gross income and the deductions 
 allowed by this title, and shall include in the return the names and addresses 
 of the individuals who would be entitled to share in the net income if dis- 
 tributed and the amount of the distributive share of each individual. The 
 return shall be sworn to by any one of the partners. 
 
 FIDUCIARY RETURNS 
 
 Sec. 225. That every fiduciary (except receivers appointed by authority 
 of law in possession of part only of the property of an individual) shall 
 make under oath a return for the individual, estate or trust for which he 
 acts (1) if the net income of such individual is $1,000 or over if single or 
 if married and not living with husband or wife, or $2,000 or over if married 
 and living with husband or wife, or (2) if the net income of such estate 
 or trust is $1,000 or over or if any beneficiary of such estate or trust is a 
 nonresident alien, stating specifically the items of the gross income and 
 the deductions and credits allowed by this title. Under such regulations 
 as the commissioner with the approval of the secretary may prescribe, a 
 return made by one of two or more joint fiduciaries and filed in the office 
 of the collector of the district where such fiduciary resides shall be a sufficient 
 compliance with the above requirement. The fiduciary shall make oath that 
 he has sufficient knowledge of the affairs of such individual, estate or trust 
 to enable him to make the return, and that the same is, to the best of his 
 knowledge and belief, true and correct. 
 
 Fiduciaries required to make returns under this act shall be subject to 
 all the provisions of this act which apply to individuals. 
 
 RETURNS WHEN ACCOUNTING PERIOD CHANGED 
 
 Sec. 226. That if a taxpayer, with the approval of the commissioner, 
 changes the basis of computing net income from fiscal year to calendar 
 year a separate return shall be made for the period between the close of 
 the last fiscal year for which return was made and the following December 
 thirty-first. If the change is from calendar year to fiscal year, a separate 
 return shall be made for the period between the close of the last calendar 
 
REVENUE ACT OF 1918 1293 
 
 year for which return was made and the date designated as the close of the 
 fiscal year. If the change is from one fiscal year to another fiscal year a 
 separate return shall be made for the period between the close of the former 
 fiscal year and the date designated as the close of the new fiscal year. If 
 a taxpayer making his first return for income tax keeps his accounts on 
 the basis of a fiscal year he shall make a separate return for the period 
 between the beginning of the calendar year in which such fiscal year ends 
 and the end of such fiscal year. 
 
 In all of the above cases the net income shall be! computed on the basis 
 of such period for which separate return is made, and the tax shall be paid 
 thereon at the rate for the calendar year in which such period is included; 
 and the credits provided in subdivisions (c) and (d) of § 216 shall be 
 reduced respectively to amounts which bear the same ratio to the full 
 credits provided in such subdivisions as the number of months in such period 
 bears to twelve months. 
 
 TIME AND PLACE FOR PILING RETURNS 
 
 Sec. 227. (a) That returns shall be made on or before the fifteenth day 
 of the third month following the close of the fiscal year, or, if the return 
 is made on the basis of the calendar year, then the return shall be made on 
 or before the fifteenth day of March. The commissioner may grant a 
 reasonable extension of time for filing returns whenever in his judgment 
 good cause exists and shall keep a record of every such extension and the 
 reason therefor. Except in the case of taxpayers who are abroad, no such 
 extension shall be for more than six months. 
 
 (b) Returns shall be made to the collector for the district in which is 
 located the legal residence or principal place of business of the person 
 making the return, or, if he has no legal residence or principal place of 
 business in the United States, then to the collector at Baltimore, Maryland. 
 
 UNDERSTATEMENT IN RETURNS 
 
 Sec. 228. That if the collector or deputy collector has reason to believe 
 that the amount of any income returned is understated, he shall give due 
 notice to the taxpayer making the return to show cause why the amount 
 of the return should not be increased, and upon proof of the amount under- 
 stated, may increase the same accordingly. Such taxpayer may furnish 
 sworn testimony to prove any relevant facts and if dissatisfied with the 
 decision of the collector may appeal to the commissioner for his decision, 
 under such rules of procedure as may be prescribed by the commissioner 
 with the approval of the secretary. 
 
 Part III — Corporations 
 
 TAX ON corporations 
 
 Sec. 230. (a) That, in lieu of the taxes imposed by § 10 of the Revenue 
 Act of 1916, as amended by the Revenue Act of 1917, and by § 4 of the 
 Revenue Act of 1917, there shall be levied, collected, and paid for each 
 taxable year upon the net income of every corporation a tax at the following 
 rates : 
 
 (1) For the calpndar year 1918, 12 per centum of the amount of the net 
 income in excess of the credits provided in § 236; and 
 
 (2) For each calendar year thereafter, 10 per centum of such excess 
 amount. 
 
1294 APPENDIX 
 
 (b) For the purposes of the act approved March 21, 1918, entitled "An 
 act to provide for the operation of transportation systems while under 
 federal control, for the just compensation of their owners, and, for other 
 purposes," five-sixths of the tax imposed by 1| (1) of subdivision (a) and 
 four-fifths of the tax imposed by H (2) of subdivision (a) shall be treated 
 as levied by an act in amendment of Title I of the Revenue Act of 1917. 
 
 CONDITIONAL AND OTHER EXEMPTIONS 
 
 Sec. 231. That the following organizations shall be exempt from taxation 
 under this title — 
 
 (1) Labor, agricultural, or horticultural organizations; 
 
 (2) Mutual savings banks not having a capital stock represented by 
 shares ; 
 
 (3) Fraternal beneficiary societies, orders, or associations, (a) operating 
 under the lodge system or for the exclusive benefit of the members of a fra- 
 ternity itself operating under the lodge system, and (b) providing for the 
 payment of life, sick, accident, or other benefits to the members of such so- 
 ciety, order, or association or their dependents; 
 
 (4) Domestic building and loan associations and co-operative banks with- 
 out capital stock organized and operated for mutual purposes and without 
 profit ; 
 
 (5) Cemetery companies owned and operated exclusively for the benefit 
 of their members; 
 
 (6) Corporations organized and operated exclusively for religious, chari- 
 table, scientific, or educational purposes, or for the prevention of cruelty to 
 children or animals, no part of the net earnings of which inures to the bene- 
 fit of any private stockholder or individual; 
 
 (7) Business leagues, chambers of commerce, or boards of trade, not or- 
 ganized for profit and no part of the net earnings of which inures to the 
 benefit of any private stockholder or individual; 
 
 (8) Civic leagues or organizations not organized for profit but operated 
 exclusively for the promotion of social welfare; 
 
 (9) Clubs organized and operated exclusively for pleasure, recreation, 
 and other nonprofitable purposes, no part of the net earnings of which inures 
 to the benefit of any private stockholder or member; 
 
 (10) Farmers' or other mutual hail, cyclone, or fire insurance companies, 
 mutual ditch or irrigation companies, mutual or co-operative telephone com- 
 panies, or like organizations of a purely local character, the income of which 
 consists solely of assessments, dues, and fees collected from members for the 
 sole purpose of meeting expenses; 
 
 (11) Farmers', fruit growers', or like associations, organized and oper- 
 ated as sales agents for the purpose of marketing the products of members 
 and turning back to them the proceeds of sales, less the necessary selling 
 expenses, on the basis of the quantity of produce furnished by them; 
 
 (12) Corporations organized for the exclusive purpose of holding title to 
 property, collecting income therefrom, and turning over the entire amount 
 thereof, less expenses, to an organization which itself is exempt from the 
 tax imposed by this title; 
 
 (13) Federal land banks and national farm-loan associations as provided 
 in § 26 of the act approved July 17, 1916, entitled "An act to provide capital 
 for agricultural development, to create standard forms of investment based 
 
REVENUE ACT OF 1918 1295 
 
 upon, farm mortgage, to equalize rates of interest upon farm loans, to fur- 
 nish a market for United States bonds, to create government depositaries 
 and financial agents for the United States, and for other purposes;" 
 (14) Personal service corporations. 
 
 NET INCOME DEFINED 
 
 Sec. 232. That in the case of a corporation subject to the tax imposed by 
 § 230 the term "net income" means the gross income as defined in § 233 less 
 the deductions allowed by § 234, and the net income shall be computed 
 on the same basis as is provided in subdivision (b) of § 212 or in § 226. 
 
 GROSS INCOME DEFINED 
 
 Sec. 233. (a) That in the case of a corporation subject to the tax imposed 
 by § 230 the term "gross income" means the gross income as defined in § 213, 
 except that: 
 
 (1) In the case of life insurance comjjanies there shall not be included in 
 gross income such portion of any actual premium received from any individ- 
 ual policyholder as is paid back or credited to or treated as an abatement of 
 premium of such policyholder vsrithin the taxable year. 
 
 (2) Mutual marine insurance companies shall include in gross income the 
 gross premiums collected and received by them less amounts paid for rein- 
 surance. 
 
 (b) In the case of a foreign corporation gross income includes only the 
 gross income from sources within the United States, including the interest 
 on bonds, notes, or other interest-bearing obligations of residents, corporate 
 or otherwise, dividends from resident corporations, and including all amounts 
 received (although paid under a contract for the §ale of goods or otherwise) 
 representing profits on the manufacture and disposition of goods within the 
 United States. 
 
 DEDUCTIONS ALLOWED 
 
 Sec. 234. (a) That in computing the net income of a corporation subject 
 to the tax imposed by § 230 there shall be allowed as deductions: 
 
 (1) All the ordinary and necessary expenses paid or incurred during the 
 taxable year in carrying on any trade or business, including a reasonable 
 allowance for salaries or other compensation for personal services actually 
 rendered, and including rentals or other payments required to be made as 
 a condition to the continued use or possession of property to which the cor- 
 poration has not taken or is not taking title, or in which it has no equity; 
 
 (2) All interest paid or accrued within the taxable year on its indebted- 
 ness, except on indebtedness incurred or continued to purchase or carry 
 obligations or securities (other than obligations of the United States issued 
 after September 24. 1917) the interest upon which is wholly exempt from 
 taxation under this title* as income to the taxpayer, or, in the case of a 
 foreign corporation, the proportion of such interest which the amount of its 
 gross income from sources within the United States bears to the amount of 
 its gross income from all sources within and without the United States ; 
 
 (3) Taxes paid or accrued within the taxable year imposed (a) by the 
 authority of the United States, except income, war-profits and excess-profits 
 taxes; or (b) by the authority of any of its possessions, except the amount 
 of income, war-profits and excess-profits taxes allowed as a credit under 
 § 238; or (c) by the authority of any state or territory, or any county, 
 school district, municipality, or other taxing subdivision of any state or 
 
1296 APPENDIX 
 
 territory, not including those assessed against local benefits of a kind tending 
 to increase the value of the property assessed; or (d) in the case of a domes- 
 tic corporation, by the authority of any foreign country, except the amount 
 of income, war-profits and excess-profits taxes allowed as a credit under 
 § 238; or (e) in the case of a foreign corporation, by the authority of any 
 foreign country (except income, war-profits and excess-profits taxes, and 
 taxes assessed against local benefits of a kind tending to increase the value 
 of the property assessed), upon the property or business: Provided, That in 
 the case of obligors specified in subdivision (b) of § 221 no deduction for 
 the payment of the tax imposed by this title or any other tax paid pursuant 
 to the contract or provision referred to in that subdivision, shall be allowed ; 
 
 (4) Losses sustained during the taxable year and not compensated for by 
 insurance or otherwise; 
 
 (5) Debts ascertained to be worthless and charged off within the taxable 
 year; 
 
 (6) Amounts received as dividends from a corporation which is taxable 
 under this title upon its net income, and amounts received as dividends from 
 a personal service corporation out of earnings or profits upon which income 
 tax has been imposed by Act of Congress ; 
 
 (7) A reasonable allowance for the exhaustion, wear and tear of property 
 used in the trade or business, including a reasonable allowance for obso- 
 lescence ; 
 
 (8) In the case of buildings, machinery, equipment, or other facilities, con- 
 structed, erected, installed, or acquired, on or after April 6, 1917^ for the 
 production of articles contributing to the prosecution of the present war, and 
 in the case of vessels constructed or acquired on or after such date for the 
 transportation of articles or men contributing to the prosecution of the pres- 
 ent war, there shall be allowed a reasonable deduction for the amortiza- 
 tion of such part of the cost of such facilities or vessels as has been borne by 
 the taxpayer, but not again including any amount otherwise allowed under 
 this title or previous Acts of Congress as a deduction in computing net in- 
 come. At any time within three years after the termination of the present 
 war, the commissioner may, and at the request of the taxpayer shall, re- 
 examine the return, and if he then finds as a result of an appraisal or from 
 other evidence that the deduction originally allowed was incorrect, the taxes 
 imposed by this title and by Title III for the year or years affected shall be 
 redetermined and the amount of tax due upon such redetermination, if any, 
 shall be paid upon notice and demand by the collector, or the amount of tax 
 overpaid, if any, shall be credited or refunded to the taxpayer in accordance 
 with the provisions of § 252; 
 
 (9) In the case of mines, oil and gas wells, other natural deposits, and 
 timber, a reasonable allowance for depletion and for depreciation of im- 
 provements, according to the peculiar conditions in each case, based upon 
 cost including cost of development not otherwise deducted: Provided, That 
 in the case of such properties acquired prior to March 1, 1913, the fair mar- 
 ket value of the property (or the taxpayer's interest therein) on that date 
 shall be taken in lieu of cost up to that date : Provided further. That in the 
 case of mines, oil and gas wells, discovered by the taxpayer, on or after 
 March 1, 1913, and not acquired as the result of purchase of a proven tract 
 or lease, where the fair market value of the property is materially dispropor- 
 tionate to the cost, the depletion allowance shall be based upon the fair mar- 
 ket value of the property at the date of the discovery, or within thirty days 
 thereafter; such reasonable allowance in all the above cases to be made 
 
REVENUE ACT OF 1918 1297 
 
 under rules and regulations to be prescribed by the commissioner with the 
 approval of the secretary. In the case of leases the deductions allowed by 
 this paragraph shall be equitably apportioned between the lessor and lessee; 
 
 (10) In the case ol insurance companies, in addition to the above: (a) 
 The net addition required by law to be made within the taxable year to re- 
 serve funds (including in the case of assessment insurance companies the 
 actual deposit of sums with state or territorial officers pursuant to law as 
 additions to guarantee or reserve funds) ; and (b) the sums other than divi- 
 dends paid within the taxable year on policy and annuity contracts; 
 
 (11) In the case of corporations issuing policies covering life, health, and 
 accident insurance combined in one policy issued on the weekly premium pay- 
 ment plan continuing for life and not subject to cancellation, in addition to 
 the above, such portion of the net addition (not required by law) made with- 
 in the taxable year to reserve funds as the commissioner finds to be required 
 for the protection of the holders of such policies only; 
 
 (12) In the case of mutual marine insurance companies, there shall be 
 allowed, in addition to the deductions allowed in HH (1) to (10), inclusive, 
 amounts repaid to policyholders on account of premiums previously paid by 
 them, and interest paid upon such amounts between the ascertainment and 
 the payment thereof; 
 
 (13) In the case of mutual insurance companies (other than mutual life 
 or mutual marine insurance companies) requiring their members to make 
 premium deposits to provide for losses and expenses, there shall be allowed, 
 in addition to the deduction allowed in TJH (1) to (10), inclusive, (unless 
 otherwise allowed under such paragraphs) the amount of premium deposit's 
 returned to their policyholders and the amount of premium deposits retained 
 for the payment of losses, expenses, and reinsurance reserves ; 
 
 (14) (a) At the time of filing return for the taxable year 1918 a tax- 
 payer may file a claim in abatement based on the fact that he has sustained 
 a substantial loss (whether or not actually realized by sale or other disposi- 
 tion) resulting from any material reduction (not due to temporary fluctua- 
 tion) of the value of the inventory for such taxable year, or from the 
 actual payment after the close of such taxable year of rebates in pursuance 
 of contracts entered into during such year upon sales made during such 
 year. In such case payment of the amount of the tax covered by such claim 
 shall not be required until the claim is decided, but the taxpayer shall accom- 
 pany his claim with a bond in double the amount of the tax covered by the 
 claim, with sureties satisfactory to the commissioner, conditioned for the 
 payment of any part of such tax found to be due, with interest. If any part 
 of such claim is disallowed then the remainder of the tax due shall on notice 
 and demand by the collector be paid by the taxpayer with interest at the 
 rate of 1 per centum per month from the time the ta:^ would have been due 
 had no such claim been filed. If it is shown to the satisfaction of the com- 
 missioner that such substantial loss has been sustained, then in computing 
 the taxes imposed by this title and by Title III the amount of such loss shall 
 be deducted from the net income, (b) If no such claim is filed, but it is 
 shown to the satisfaction of the commissioner that during the taxable year 
 1919 the taxpayer has sustained a substantial loss of the character above de- 
 scribed then the amount of such loss shall be deducted from the net income 
 for the taxable year 1918 and the taxes imposed by this title and by Title III 
 for such year shall be redetermined accordingly. Any amount found to be due 
 to the taxpayer upon the basis of such redetermination shall be credited or 
 refunded to the taxpayer in accordance with the provisions of § 252. 
 
1298 APPENDIX 
 
 (b) In the case of a foreign corporation the deductions allowed in sub- 
 division (a), except those allowed in 1| (2) and in clauses (a), (b), and (c) 
 of 1[ (3), shall be allowed only if and to the extent that they are connected 
 with income arising from a source within the United -States ; and the proper 
 apportionment and allocation of the deductions with respect to sources of 
 income within and without the United States shall be determined under rules 
 and regulations prescribed by the commissioner with the approval of the 
 secretary. 
 
 ITEMS NOT DEDUCTIBLE 
 
 Sec. 235. That in computing net income no deduction shall in any case be 
 allowed in respect of any of the items specified in §215. 
 
 CREDITS ALLOWED 
 
 Sec. 236. That for the purpose only of the tax imposed by § 230 there shall 
 be allowed the following credits: 
 
 (a) The amount received as interest upon obligations of the United States 
 and bonds issued by the War Finance Corporation, which is included in 
 gross income under § 233 ; 
 
 (b) The amount of any taxes imposed by Title III for the same taxable 
 year: Provided, That in the case of a corporation which makes return for 
 a fiscal year beginning in 1917 and ending in 1918, in computing the tax as 
 provided in subdivision (a) of § 205, the tax computed for the entire period 
 under Title II of the Revenue Act of 1917 shall be credited against the net 
 income computed for the entire period under Title I of the Revenue Act of 
 1916 as amended by the Revenue Act of 1917 and under Title I of the Rev- 
 enue Act of 1917, and the tax computed for the entire period under Title III 
 of this Act at the rates prescribed for the calendar year 1918 shall be 
 credited against the net income computed for the entire period under this 
 title; and 
 
 (c) In the case of a domestic corporation, $2,000. 
 
 PAYMENT OF TAX AT SOURCE 
 
 Sec. 237. That in the case of foreign corporations subject to taxation 
 under this title not engaged in trade or business within the United States 
 and not having any office or place of business therein, there shall be deducted 
 and withheld at the source in the same manner and upon the same items of 
 income as is provided in § 221 a tax equal to 10 per centum thereof, and 
 such tax shall be returned and paid in the same manner and subject to the 
 same conditions as provided in that section: Provided, That in the case of 
 interest described in subdivision (b) of that section the deduction and with- 
 holding shall be at the rate of 2 per centum. 
 
 CREDIT FOR TAXES 
 
 Sec. 238. (a) That in the case of a domestic corporation the total taxes 
 imposed for the taxable year by this title and by Title III shall be credited 
 with the amount of any income, war-profits and excess-profits taxes paid dur- 
 ing the taxable year to any foreign country, upon income derived from 
 sources therein, or to any possession of the United States. 
 
 If accrued taxes when paid differ from the amounts claimed as credits by 
 the corporation, or if any tax paid is refunded in whole or in part, the cor- 
 poration shall at once notify the commissioner who shall redetermine the 
 amount of the taxes due under this title and under Title III for the year or 
 
REVENUE ACT OP 1918 1299 
 
 years affected, and the amount of taxes due upon such redetermination, if 
 any, shall be paid by the corporation upon notice and demand by the collector, 
 or the amount of taxes overpaid, if any, shall be credited or refunded to the 
 corporation in accordance with the provisions of § 252. In the case of such a 
 tax accrued but not paid, the commissioner as a condition precedent to the 
 allovrance of this credit may reqiiire the corporation to give bond with 
 sureties satisfactory to and to be approved by him in such penal sum as he 
 may require, conditioned for the payment by the taxpayer of any amount of 
 taxes found due upon any such redetermination; and the bond herein pre- 
 scribed shall contain such further conditions as the commissioner may re- 
 quire. 
 
 (b) This credit shall be allowed only if the taxpayer furnishes evidence 
 satisfactory to the commissioner showing the amount of income derived from 
 sources within such foreign country or such possession of the United States, 
 as the case may be, and all other information necessary for the computation 
 of such credit. 
 
 (c) If a domestic corporation makes a return for a fiscal year beginning 
 in 1917 and ending in 1918, only that proportion of this credit shall be al- 
 lowed which the part of such period within the calendar year 1918 bears to 
 the entire period. 
 
 CORPORATION RETURNS 
 
 Sec. 239. That every corporation subject to taxation under this title and 
 every personal service corporation shall make a return, stating specifically 
 the items of its gross income and the deductions and credits allowed by this 
 title. The return shall be sworn to by the president, vice president, or other 
 principal officer and by the treasurer or assistant treasurer. If any foreign 
 corporation has no office or place of business in the United States but has 
 an agent in the United States, the return shall be made by the agent. In 
 cases where receivers, trustees in bankruptcy, or assignees are operating the 
 property or business of corporations, such receivers, trustees, or assignees 
 shall make returns for such corporations in the same manner and form as 
 corporations are required to make returns. Any tax due on the basis of such 
 returns made by receivers, trustees, or assignees shall be collected in the 
 same manner as if collected from the corporation of whose business or 
 property they have custody and control. 
 
 Returns made under this section shall be subject to the provisions of 
 §§ 226 and 228. When return is made under § 226 the credit provided in 
 subdivision (c) of § 236 shall be reduced to an amount which bears the same 
 ratio to the full credit therein provided as the number of months in the 
 period for which such return is made bears to twelve months. 
 
 CONSOLIDATED RETURNS 
 
 Sec. 240. (a) That corporations which are affiliated within the meaning 
 of this section shall, under regulations to be prescribed by the commissioner 
 with the approval of the secretary, make a consolidated return of net in- 
 come and invested capital for the purposes of this title and Title III, and the 
 taxes thereunder shall be computed and determined upon the basis of such 
 return: Provided, That there shall be taken out of such consolidated net 
 income and invested capital, the net income and invested capital of any such 
 affiliated corporation organized after August 1, 1914, and not successor to a 
 then existing business, 50 per centum or more of whose gross income consists 
 of gains, profits, commissions, or other income, derived from a government 
 
1300 APPENDIX 
 
 contract or contracts made between April 6, 1917, and November 11, 1918, 
 both dates inclusive. In such case the corporation so taken out shall be sep- 
 arately assessed on the basis of its own invested capital and net income 
 and the remainder of such affiliated group shall be assessed on the basis of 
 the remaining consolidated invested capital and net income. 
 
 In any case in which a tax is assessed upon the basis of a consolidated re- 
 turn, the total tax shall be computed in the first instance as a unit and shall 
 then be assessed upon the respective affiliated corporations in such propor- 
 tions as may be agreed upon among them, or, in the absence of any such 
 agreement, then on the basis of the net income properly assignable to eac'i. 
 There shall be allowed in computing the income tax only one specific credit 
 of $2,000 (as provided in § 236) ; in computing the war-profits credit (as 
 provided in § 311) only one specific exemption of $3,000; and in computing 
 the excess-profits credits (as provided in § 312) only one specific exemption 
 of $3,000. 
 
 (b) For the purpose of this section two or more domestic corporations 
 shall be deemed to be affiliated (1) if one corporation owns directly or con- 
 trols through closely affiliated interests or by a nominee or nominees sub- 
 stantially all the stock of the other or others, or (2) if substantially all the 
 stock of two or more corporations is owned or controlled by the same in- 
 terests. 
 
 (c) For the purposes of § 238 a domestic corporation which owns a major- 
 ity of the voting stock of a foreign corporation shall be deemed to have paid 
 the same proportion of any income, war-profits and excess-profits taxes paid 
 (but not including taxes accrued) by such foreign corporation during the 
 taxable year to any foreign country or to any possession of the United 
 States upon income derived from sources without the United States, which 
 the amount of any dividends (not deductible under § 234) received by such 
 domestic corporation from such foreign corporation during the taxable year 
 bears to the total taxable income of such foreign corporation upon or with 
 respect to which such taxes were paid : Provided, That in no such case shall 
 the amount of the credit for such taxes exceed the amount of such dividends 
 
 (not deductible under § 234) received by such domestic corporation during 
 the taxable year. 
 
 TIME AND PLACE FOR FILING RETURNS 
 
 Sec. 241. (a) That returns of corporations shall be made at the same time 
 as is provided in subdivision (a) of § 227. 
 
 (b) Returns shall be made to the collector of the district in which is 
 
 . located the principal place of business or principal office or agency of the 
 
 corporation, or, if it has no principal place of business or principal office or 
 
 agency in the United States, then to the collector at Baltimore, Maryland. 
 
 Part IV — Administrative Provisions 
 
 PAYMENT OP TAXES 
 
 Sec. 250. (a) That except as otherwise provided in this section and §§ 221 
 and 237 the tax shall be paid in four installments, each consisting of one- 
 fourth of the total amount of the tax. The first installment shall be paid at 
 the time fixed by law for filing the return, and the second installment shall 
 be paid on the fifteenth day of the third month, the third installment on the 
 fifteenth day of the sixth month, and the fourth installment on the fifteenth 
 day of the ninth month, after the time fixed by law for filing the return. 
 Where an extension of time for filing a return is granted the time for pay- 
 
REVENUE ACT OF 1918 1301 
 
 ment of the first installment shall be postponed until the dat-e of the expira- 
 tion of the period of the extension, but the time for payment of the other 
 installments shall not be postponed unless the commissioner so provides in 
 granting the extension. In any case in which the time for the payment of 
 any installment is at the request of the taxpayer thus postponed, there shall 
 be added as part of such installment interest thereon at the rate of % of 1 
 per centum per month from the time it would have been due if no extension 
 had been granted until paid. If any installment is not paid when due, the 
 whole amount of the tax unpaid shall become due and payable upon notice 
 and demand by the collector. 
 
 The tax may at the option of the taxpayer be paid in a single payment 
 instead of in installments, in which case the total amount shall be paid on or 
 before the time fixed by law for filing the return, or, where an extension of 
 time for filing the return has been granted, on or before the expiration of 
 the period of such extension. 
 
 (b) As soon as practicable after the return is filed, the commissioner shall 
 examine it. If it then appears that the correct amount of the tax is greater 
 or less than that shown in the return, the installments shall be recomputed. 
 If the amount already paid exceeds that which should have been paid on the 
 basis of the installments as recomputed, the excess so paid shall be credited 
 against the subsequent installments ; and if the amount already paid exceeds 
 the correct amount of the tax, the excess shall be credited or refunded to the 
 taxpayer in accordance with the provisions of § 252. 
 
 If the amount already paid is less than that which should have been paid, 
 the difference shall, to the extent not covered by any credits then due to the 
 taxpayer under § 252, be paid upon notice and demand by the collector. In 
 such case if the return is made in good faith and the understatement of 
 the amount in the return is not due to any fault of the taxpayer, there shall 
 be no penalty because of such understatement. If the understatement is due 
 to negligence on the part of the taxpayer, but without intent to defraud, 
 there shall be added as part of the tax 5 per centum of the total amount of 
 the deficiency, plus interest at the rate of 1 per centum per month on the 
 amount of the deficiency of each installment from the time the installment 
 was due. 
 
 If the understatement is false or fraudulent with intent to evade the tax, 
 then, in lieu of the penalty provided by § 3176 of the Revised Statutes, as 
 amended, for false or fraudulent returns willfully made, but in addition to 
 other penalties provided by law for false or fraudulent returns, there shall 
 be added as part of the tax 50 per centum of the amount of the deficiency. 
 
 (c) If the return is made pursuant to § 3176 of the Revised Statutes as 
 amended, the amount of tax determined to be due under such return shall be 
 paid upon notice and demand by the collector. 
 
 (d) Except in the case of false or fraudulent returns with intent to evade 
 the tax, the amount of tax due under any return shall be determined and 
 assessed by the commissioner within five years after the return was due or 
 was made, and no suit or proceeding for the collection of any tax shall be 
 begun after the expiration of five years after the date when the return was 
 due or was made. In the case of such false or fraudulent returns, the amount 
 of tax due may be determined at any time after the return is filed, and the 
 tax may be collected at any time after it becomes due. 
 
 (e) If any tax remains unpaid after the date when it is due, and for ten 
 days after notice and demand by the collector, then, except in the case of 
 estates of insane, deceased, or insolvent persons, there shall be added as part 
 
1302 APPENDIX 
 
 of the tax the sum of 5 per centum on the amount due but unpaid, plus in- 
 terest at the rate of 1 per centum per month upon such amount from the 
 time it became due : Provided, That as to any such amount which is the sub- 
 ject of a bona fide claim for abatement such sum of 5 per centum shall not 
 be added and the interest from the time the amount was due until the claim 
 is decided shall be at the rate of % of 1 per centum per month. 
 
 In the case of the first installment provided for in subdivision (a) the in- 
 structions printed on the return shall be deemed sufficient notice of the date 
 when the tax is due and sufficient demand, and the taxpayer's computation 
 of the tax on the return shall be deemed sufficient notice of the amount due. 
 
 (f ) In any case in which in order to enforce payment of a tax it is neces- 
 sary for a collector to cause a warrant of distraint to be served, there shall 
 also be added as part of the tax the sum of $5. 
 
 (g) If the commissioner finds that a taxpayer designs quickly to depart 
 from the United States or to remove his property therefrom, or to conceal 
 himself or his property therein, or to do any other act tending to prejudice 
 or to render wholly or partly ineffectual proceedings to collect the tax for 
 the taxable year then last past or the taxable year then current unless such 
 proceeding be brought without delay, the commissioner shall declare the tax- 
 able period for such taxpayer terminated at the end of the calendar month 
 then last past and shall cause notice of such finding and declaration to be 
 given the taxpayer, together with a demand for immediate payment of the 
 tax for the taxable period so declared terminated and of the tax for the pre- 
 ceding taxable year or so much of said tax as is unpaid, whether or not the 
 time otherwise allowed by law for filing return and paying the tax has ex- 
 pired; and such taxes shall thereupon become immediately due and payable. 
 In any action or suit brought to enforce payment of taxes made due and 
 payable by virtue of the provisions of this subdivision the finding of the 
 commissioner, made as herein provided, whether made after notice to the 
 taxpayer or not, shall be for all purposes presumptive evidence of the tax- 
 payer's design. A taxpayer who is not in default in making any return or 
 paying income, war-profits, or excess-profits tax under any Act of Congress 
 may furnish to the tfnited States, under regulations to be prescribed by the 
 commissioner with the approval of the secretary, security approved by the 
 commissioner that he will duly make the return next thereafter required to 
 be filed and pay the tax next thereafter required to be paid. The commis- 
 sioner may approve and accept in like manner security for return and pay- 
 ment of taxes made due and payable by virtue of the provisions of this sub- 
 division, provided the taxpayer has paid in full all other income, war-profits, 
 or excess-profits taxes due from him under any Act of Congress. If security 
 is approved and accepted pursuant to the provisions of this subdivision and 
 such further or other security with respect to the tax or taxes covered there- 
 by is given as the commissioner shall from time to time find necessary and 
 require, payment of such taxes shall not be enforced by any proceedings 
 under the provisions of this subdivision prior to the expiration of the time 
 otherwise allowed for paying such respective taxes. 
 
 RECEIPTS FOR TAXES 
 
 Sec. 251. That every collector to whom any payment of any tax is made 
 under the provisions of this title shall upon request give to the person mak- 
 ing such payment a full written or printed receipt, stating the amount paid 
 and the particular account for which such payment was made; and when- 
 ever any debtor pays taxes on account of payments made or to be made by 
 
REVENUE ACT OP 1918 1303 
 
 him to separate creditors the collector shall, if requested by such debtor, give 
 a separate receipt for the tax paid on account of each creditor in such form 
 that the debtor can conveniently produce such receipts separately to his 
 several creditors in satisfaction of their respective demands up to the 
 amounts stated in the receipts; and such receipt shall be sufficient evidence 
 in favor of such debtor to justify him in withholding from his next payment 
 to his creditor the amount therein stated ; but the creditor may, upon giving 
 to his debtor a full written receipt acknowledging the payment to him of any 
 sum actually paid and accepting the amount of tax paid as aforesaid (speci- 
 fying the same) as a further satisfaction of the debt to that amount, re- 
 quire the surrender to him of such collector's receipt. 
 
 REFUNDS 
 
 Sec. 252. That if, upon examination of any return of income made pur- 
 suant to this Act, the Act of August 5, 1909, entitled "An Act to provide 
 revenue, equalize duties, and encourage the industries of the United States, 
 and for other purposes," the Act of October 3, 1913, entitled "An Act to re- 
 duce tariff duties and to provide revenue for the government, and for other 
 purposes,'' the Revenue Act of 1916, as amended, or the Revenue Act of 
 1917, it appears that an amount of income, war-profits or excess-profits tax 
 has been paid in excess of that properly due, then, notwithstanding the pro- 
 visions of § 3228 of the Revise'd Statutes, the amount of the excess shall be 
 credited against any income, war-profits or excess-profits taxes, or install- 
 ment thereof, then due from the taxpayer under any other return, and any 
 balance of such excess shall be immediately refunded to the taxpayer: Pro- 
 vided, That no. such credit or refund shall be allowed or made after five 
 years from the date when the return was due, unless before the expiration of 
 such five years a claim therefor is filed by the taxpayer. 
 
 PENALTIES 
 
 Sec. 253. That any individual, corporation, or partnership required 
 under this title to pay or collect any tax, to make a return or to supply in- 
 formation, who fails to pay or collect such tax, to make such return, or to 
 supply such information at the time or times required under this title, shall 
 be liable to a penalty of not more than $1,000. Any individual, corporation, 
 or partnership, or any officer or employee of any corporation or member or 
 employee of a partnership, who willfully refuses to pay or collect such tax, 
 to make such return, or to supply such information at the time or times re- 
 quired under this title, or who willfully attempts in any manner to defeat or 
 evade the tax imposed by this title, shall be guilty of a misdemeanor and 
 shall be fined not more than $10,000 or imprisoned for not more than one 
 year, or both, together with the costs of prosecution. 
 
 RETURNS OF PAYMENTS OF DIVIDENDS 
 
 Sec. 254. That every corporation subject to the tax imposed by this title 
 and every personal service corporation shall, when required by the commis- 
 sioner, render a correct return duly verified under oath, of its payments of 
 dividends, stating the name and address of each stockholder, the number of 
 shares owned by him, and the amount of dividends paid to him. 
 
 RETURNS OF BROKERS 
 
 Sec. 255. That every individual, corporation, or partnership doing business 
 as a broker shall, when required by the commissioner, render a correct re- 
 
1304 APPENDIX 
 
 turn duly verified under oath, under such rules and regulations as the com- 
 missioner, with the approval of the secretary, may prescribe, showing the 
 names of customers for whom such individual, corporation, or partnership 
 has transacted any business, with such details as to the profits, losses, or 
 other information which the commissioner may require, as to each of such 
 customers, as will enable the commissioner to determine whether all income 
 tax due on profits or gains of such cutomers has been paid. 
 
 INFORMATION AT SOURCE 
 
 Sec. 256. That all individuals, corporations, and partnerships, in what- 
 ever capacity acting, including lessees or mortgagors of real or personal 
 property, fiduciaries, and employers, making payment to another individual, 
 corporation, or partnership, of interest, rent, salaries, wages, premiums, an- 
 nuities, compensations, remunerations, emoluments, or other fixed or deter- 
 minable gains, profits, and income (other than payments described in §§ 254 
 and 255), of $1,000 or more in any taxable year, or, in the case of such pay- 
 ments made by the United States, the officers or employees of the United 
 .States having information as to such payments and required to make returns 
 in regard thereto by the regulations hereinafter provided for, shall render 
 a true and accurate return to the commissioner, under such regulations and 
 in such form and manner and to such extent as may be prescribed by him 
 with the approval of the secretary, setting forth the amount of such gains, 
 profits, and income, and the name and address of the recipient of such pay- 
 ment. 
 
 Such returns may be required, regardless of amounts, (1) in the case of 
 payments of interest upon bonds, mortgages, deeds of trust, or other similar 
 obligations of corporations, and (2) in the case of collections of items (not 
 payable in the United States) of interest upon the bonds of foreign countries 
 and interest upon the bonds of and dividends from foreign corporations by 
 individuals, corporations, or partnerships, undertaking as a matter of busi- 
 ness or for profit the collection of foreign payments of such interests or div- 
 idends by means of coupons, checks, or bills of exchange. 
 
 When necessary to make effective the provisions of this section the name 
 and address of the recipient of income shall be furnished upon demand of 
 the individual, corporation, or partnership paying the income. 
 
 The provisions of this section shall apply to the calendar year 1918 and 
 each calendar year thereafter, but shall not apply to the payment of interest 
 on obligations of the United States. 
 
 RETURNS TO BE PUBLIC RECORDS 
 
 Sec. 257. That returns upon which the tax has been determined by the 
 commissioner shall constitute public records; but they shall be open to in- 
 spection only upon order of the President and under rules and regulations 
 prescribed by the secretary and approved by the President: Provided, That 
 the proper officers of any state imposing an income tax may, upon the re- 
 quest of the governor thereof, have access to the returns of any corporation, 
 or to an abstract thereof showing the name and income of the corporation, 
 at such times and in such manner as the secretary may prescribe: Provided 
 further, That all bona fide stockholders of record owning 1 per centum or 
 more of the outstanding stock of any corporation shall, upon making request 
 of the commissioner, be allowed to examine the annual income returns of 
 such corporation and of its subsidiaries. Any stockholder who pursuant to 
 the provisions of this section is allowed to examine the return of any cor- 
 
REVENUE ACT OF 1918 1305 
 
 poration, and who makes known in any manner whatever not provided by 
 law the amount or source of income, profits, losses, expenditures, or any 
 particular thereof, set forth or disclosed in any such return shall be guilty 
 of a misdemeanor and be punished by a fine not exceeding $1,000, or by im- 
 prisonment not exceeding one year, or both. 
 
 The commissioner shall as soon as practicable in each year cause to be 
 prepared and made available to public inspection in such manner as he may 
 determine, in the office of the collector in each internal-revenue district and 
 in such other places as he may determine, lists containing the names and the 
 post-office addresses of all individuals making income-tax returns in such 
 district. 
 
 PUBLICATION OF STATISTICS 
 
 Sec. 258. That- the commissioner, with the approval of the secretary, shall 
 prepare and publish annually statistics reasonably available with respect to 
 the operation of the income, war-profits and excess-profits tax laws, includ- 
 ing classifications of taxpayers and of income, the amounts allowed as de- 
 ductions, exemptions, and credits, and any other facts deemed pertinent and 
 valuable. 
 
 COLLECTION OF FOREIGN ITEMS 
 
 Sec. 259. That all individuals, corporations, or pai-tnerships undertaking 
 as a matter of business or for profit the collection of foreign payments of in- 
 terest or dividends by means of coupons, checks, or bills of exchange shall 
 obtain a license from the commissioner and shall be subject to such regula- 
 tions enabling the government to obtain the information required under this 
 title as the commissioner, with the approval of the secretary, shall prescribe ; 
 and whoever knowingly undertakes to collect such payments without having 
 obtained a license therefor, or without complying with such regulations, shall 
 be guilty of a misdemeanor and shall be fined not more than $5,000, or im- 
 prisoned for not more than one year, or both. 
 
 CITIZENS OF UNITED STATES POSSESSIONS 
 
 Sec. 260. That any individual who is a citizen of any possession of the 
 United States (but not otherwise a citizen of the United States) and who 
 is not a resident of the United States, shall be subject to taxation under this 
 title only as to income derived from sources within the United States, and 
 in such case the tax shall be computed and paid in the same manner and sub- 
 ject to the same conditions as in the case of other persons who are taxable 
 only as to income derived from such sources. 
 
 PORTO RICO AND PHILIPPINE ISLANDS 
 
 Sec. 261. That in Porto Rico and the Philippine Islands the income tax 
 shall be levied, assessed, collected, and paid in accordance with the provi- 
 sions of the Revenue Act of 1916 as amended. 
 
 Returns shall be made and taxes shall be paid under Title I of such Act 
 in Porto Rico or the Philippine Islands, as the case may be, by (1) every 
 individual who is a citizen or resident of Porto Rico or the Philippine Islands 
 or derives income from sources therein, and (2) every corporation created 
 or organized in Porto Rico or the Philippine Islands or deriving income from 
 sources therein. An individual who is neither a citizen nor a resident of 
 Porto Rico or the Philippine Islands but derives income from sources there- 
 in, shall be taxed in Porto Rico or the Philippine Islands as a nonresident 
 alien individual, and a corporation created or organized outside Porto Rico or 
 
1306 APPENDIX 
 
 the Philippine Islands and deriving income from sources therein shall be 
 taxed in Porto Rico or the Philippine Islands as a foreign corporation. For 
 the purposes of § 216 and of If (6) of subdivision (a) of § 234 a tax imposed 
 in Porto Rico or the Philippine Islands upon the net income of a corporation 
 shall not be deemed to be a tax under this title. 
 
 The Porto Rican or Philippine Legislature shall have power by due enact- 
 ment to amend, alter, modify, or repeal the income tax laws in force in 
 Porto Rico or the Philippine Islands, respectively. 
 
 TITLE III— WAR-PROFITS AND EXCESS-PROFITS TAX 
 Pakt I — General Definitions 
 
 Sec. 300. That when used in this title the terms "taxable year," "fiscal 
 year," "personal service corporation," "paid or accrued," and "dividends" 
 shall have the same meaning as provided for the purposes of income tax in 
 §§ 200 and 201. The first taxable year for the purposes of this title shall 
 be the same as the first taxable year for the purposes of the income tax 
 under Title II. 
 
 Part II — Imposition of Tax 
 
 Sec. 301. (a) That in lieu of the tax imposed by Title II of the Revenue 
 Act of 1917, but in addition to the other taxes imposed by this act, there 
 shall be levied, collected, and paid for the taxable year 1918 upon the net 
 income of every corporation a tax equal to the sum of the following: 
 
 first bracket 
 
 Thirty per centum of the amount of the net income in excess of the excess- 
 profits credit (determined under § 312) and not in excess of 20 per centum 
 of the invested capital; 
 
 SECOND bracket 
 
 Sixty-five per centum of the amount of the net income in excess of 20 per 
 centum of the invested capital; 
 
 THIRD bracket 
 
 The sum, if any, by which 80 per centum of the amount of the net income 
 in excess of the war-profits credit (determined under § 311) exceeds the 
 amount of the tax computed under the first and second brackets. 
 
 (b) For the taxable year 1919 and each taxable year thereafter there 
 shall be levied, collected, and paid upon the net income of every corporation 
 (except corporations taxable under subdivision (c) of this section) a tax 
 equal to the sum of the following: 
 
 FIRST BRACKET 
 
 Twenty per centum of the amount of the net income in excess of the 
 excess-profits credit (determined under § 312) and not in excess of 20 per 
 centum of the invested capital ; 
 
 SECOND BRACKET 
 
 Forty per centum of the amount of the net income in excess of 20 per 
 centum of the invested capital. 
 
 (c) For the taxable year 1919 and each taxable year thereafter there 
 shall be levied, collected, and paid upon the net income of every corporation 
 which derives in such a year a net income of more than $10,000 from any 
 government contract or contracts made between April 6, 1917, and Novem- 
 
REVENUE ACT OF 1918 1307 
 
 ber 11, 1918, both dates inclusive, a tax equal to the sum of the following; 
 
 (1) Such a portion of a tax computed at the rates specified in subdivision 
 
 (a) as the part of the net income attributable to such government contract 
 or contracts bears to the entire net income. In computing such tax the 
 excess-profits credit and the war-profits credit applicable to the taxable year 
 shall be used; 
 
 (2) Such a portion of a tax computed at the rates specified in subdivision 
 
 (b) as the part of the net income not attributable to such government 
 contract or contracts bears to the entire net income. 
 
 For the purpose of determining the part of the net income attributable 
 to such government contract or contracts, the proper apportionment and 
 allocation of the deductions with respect to gross income derived from such 
 government contract or contracts and from other sources, respectively, shall 
 be determined under rules and regulations prescribed by the commissioner 
 with the approval of the secretary. 
 
 (d) In any case where the full amount of the excess profit credit is not 
 allowed under the first bracket of subdivision (a) or (b), by reason of the 
 fact that such credit is in excess of 20 per centum of the invested capital, 
 the part not so allowed shall be deducted from the amount in the second 
 bracket. 
 
 (e) For the purposes of the act approved March 21, 1918, entitled "An 
 act to provide for the operation of transportation systems while under 
 federal control, for the just compensation of their owners, and for other 
 purposes,'' the tax imposed by this title shall be treated as levied by an 
 act in amendment of Title II of the Revenue Act of 1917. 
 
 Sec. 302. That the tax imposed by subdivision (a) of § 301 shall in no 
 case be more than 30 per centum of the amount of the net income in excess 
 of $3,000 and not in excess of $20,000, plus 80 per centum of the amount 
 of the net income in excess of $20,000; the tax imposed by subdivision ("b) 
 of § 301 shall in no case be more than 20 per centum of the amount of 
 the net income in excess of $3,000 and not in excess of $20,000, plus 40 per 
 centum of the amount of the net income in excess of $20,000; and the above 
 limitations shall apply to the taxes computed under subdivisions (a) and (b) 
 of § 301, respectively, when used in subdivision (c) of that section. Nothing 
 in this section shall be construed in such manner as to increase the tax 
 imposed by § 301. 
 
 Sec. 303. That if part of the net income of a corporation is derived (1) 
 from a trade or business (or a branch of a trade or business) in which the 
 employment of capital is necessary, and (2) a part (constituting not less 
 than 30 per centum of its total net income) is derived from a separate trade 
 or business (or a distinctly separate branch of the trade or business) which 
 if constituting the sole trade or business would bring it within the class of 
 "personal service corporations," then (under regulations prescribed by the 
 commissioner with the approval of the secretary) the tax upon the first part 
 of such net income shall be separately computed (allowing in such computa- 
 tion only the same proportionate part of the credits authorized in §§ 311 
 and 312), and the tax upon the second part shall be the same percentage 
 thereof as the tax so computed upon the first part is of such first part: 
 Provided, That the tax upon such second part shall in no case be less than 
 20 per centum thereof, unless the tax upon the entire net income, if com- 
 puted without benefit of this section, would constitute less than 20 per 
 centum of such entire net income, in which event the tax shall be determined 
 
1308 APPENDIX 
 
 ■upon the entire net income, without reference to this section, as other taxes 
 are determined under this title. The total tax computed under this section 
 shall be subject to the limitations provided in § 302. 
 
 Sec. 304. (a) That the corporations enumerated in § 231 shall, to the 
 extent that they are exempt from income tax under Title II, be exempt 
 from taxation under this title. 
 
 (b) Any corporation whose net income for the taxable year is less than 
 $3,000 shall be exempt from taxation under this title. 
 
 (c) In the case of any corporation engaged in the mining of gold, the 
 portion of the net income derived from the mining of gold shall be exempt 
 from the tax imposed by this title, and the tax on the remaining portion 
 of the net income shall be the proportion of a tax computed without the 
 benefit of this subdivision which such remaining portion of the net income 
 bears to the entire net income. 
 
 Sec. 805. That if a tax is computed under this title for a period of less 
 than twelve months, the specific exemption of $3,000, wherever referred to 
 in this title, shall be reduced to an amount which is the same proportion 
 of $3,000 as the number of months in the period is of twelve months. 
 
 Part III — Credits 
 
 Sec. 310. That as used in this title the term "prewar period" means the 
 calendar years 1911, 1912, and 1913, or, if a corporation was not in existence 
 during the whole of such period, then as many of such years during the 
 whole of which the corporation was in existence. 
 
 Sec. 311. (a) That the war-profits credit shall consist of the sum of: 
 
 (1) A specific exemption of $3,000; and 
 
 (2) An amount equal to the average net income of the corporation for 
 the prewar period, plus or minus, as the case may be, 10 per centum of the 
 difference between the average invested capital for the prewar period and 
 the invested capital for the taxable year. If the tax is computed for a 
 period of less than twelve months such amount shall be reduced to the same 
 proportion thereof as the number of months in the period is of twelve 
 months. 
 
 (b) If the corporation had.no net income for the prewar period, or if the 
 amount computed under If (2) of subdivision (a) is less than 10 per centum 
 of its invested capital for the taxable year, then the war-profits credit shall 
 be the suin of: 
 
 (1) A specific exemption of $3,000; and 
 
 (2) An amount equal to 10 per centum of the invested capital for the 
 taxable year. 
 
 (c) If the corporation was not in existence during the whole of at least 
 one calendar year during the prewar period, then, except as provided in 
 subdivision (d), the war-profits credit shall be the sum of: 
 
 (1) A specific exemption of $3,000; and 
 
 (2) An amount equal to the same percentage of the invested capital of 
 the taxpayer for the taxable year as the average percentage of net income 
 to invested capital, for the prewar period, of corporations engaged in a 
 trade or business of the same general class as that conducted by the tax- 
 payer; but such amount shall in no case be less than 10 per centum of the 
 invested capital of the taxpayer for the taxable year. Such average per- 
 centage shall be determined by the commissioner on the basis of data con- 
 tained in returns made under Title II of the Revenue Act of 1917, and the 
 
REVENUE ACT OF 1918 1309 
 
 average known as the median shall be used. If such average percentage 
 has not been determined and published at least 30 days prior to the time 
 when the return of the taxpayer is due, then for purposes of such return 
 10 per centum shall be used in lieu thereof; but such average percentage 
 when determined shall be used for the purposes of § 250 in determining the 
 correct amount of the tax. 
 
 (d) The war-profits credit shall be determined in the manner provided 
 in subdivision (b) instead of in the manner provided in subdivision (c) , in 
 the case of any corporation which was not in existence during the whole 
 of at least one calendar year during the prewar period, if (1) a majority 
 of its stock at any time during the taxable year is owned or controlled, 
 directly or indirectly, by a corporation which was in existence during the 
 whole of at least one calendar year during the prewar period, or if (2) 50 
 per centum or more of its gross income (as computed under § 233 for 
 income tax purposes) consists of gains, profits, commissions, or other in- 
 come, derived from a government contract or contracts made between April 
 6, 1917, and November 11, 1918, both dates inclusive. 
 
 (e) A foreign corporation shall not be entitled to a specific exemption 
 of $3,000. 
 
 Sec. 312. That the excess-profits credit shall consist of a specific exemp- 
 tion of |3,000 plus an amount equal to 8 per centum of the invested capital 
 for the taxable year. 
 
 A foreign corporation shall not be entitled to the specific exemption of 
 $3,000. 
 
 Part IV^Net Income 
 
 Sec. 320. (a) That for the purpose of this title the net income of a 
 corporation shall be ascertained and returned — 
 
 (1) For the calendar years 1911 and 1912 upon the same basis and in 
 the same manner as provided in § 38 of the act entitled "An act to provide 
 revenue, equalize duties, and encourage the industries of the United States, 
 and for" other purposes," approved August 5, 1909, except that taxes im- 
 posed by such section and paid by the corporation within the year shall 
 be included; 
 
 (2) For the calendar year 1913 upon the same basis and in the same 
 manner as provided in § II of the act entitled "An act to reduce tariff 
 duties and to provide revenue for the government, and for other purposes," 
 approved October 3, 1913, except that taxes imposed by § 38 of such act 
 of August 5, 1909, and paid by the corporation within the year shall be 
 included, and except that the amounts received by it as dividends upon the 
 stock or from the net earnings of other corporations subject to the tax 
 imposed by § II of such act of October 3, 1913, shall be deducted; and 
 
 (3) For the taxable year upon the same basis and in the same manner 
 as provided for income tax purposes in Title II of this act. 
 
 (b) The average net income for the prewar period shall be determined 
 by dividing the number of years within that period during the whole of 
 which the corporation was in existence into the sum of the net income for 
 such years, even though there may have been no net income for one or more 
 of such years. 
 
 Part V — Invested Capital 
 
 Sec. 325. (a) That as used in this title — 
 
 The term "intangible property" means patents, copyrights, secret proc- 
 
1310 APPENDIX 
 
 esses and formulae, good will, trade-marks, trade-brands, franchises, and 
 other like property; 
 
 The term "tangible property" means stocks, bonds, notes, and other evi- 
 dences of indebtedness, bills and accounts receivable, leaseholds, and other 
 property other than intangible property; 
 
 The term "borrowed capital" means money or other property borrowed, 
 whether represented by bonds, notes, open accounts, or otherwise; 
 
 The term "inadmissible assets" means stocks, bonds, and other obligations 
 (other than obligations of the United States) , the dividends or interest 
 from which is not included in computing net income, but where the income 
 derived from such assets consists in part of gain or profit derived from the 
 sale or other disposition thereof, or where all or part of the interest derived 
 from such assets is in effect included in the net income because of the limita- 
 tion on the deduction of interest under TI (2) of subdivision (a) of § 234, 
 a corresponding part of the capital invested in such assets shall not be 
 deemed to be inadmissible assets; 
 
 The term "admissible assets" means all assets other than inadmissible 
 assets, valued in accordance with the provisions of subdivision (a) of § 326, 
 § 330, and § 331. 
 
 (b) For the purposes of this title, the par value of stock or shares shall, 
 in the case of stock or shares issued at a nominal value or having no par 
 value, be deemed to be the fair market value as of the date or dates of issue 
 of such stock or shares. 
 
 Sec. 326. (a) That as used in this title the term "invested capital" for 
 any year means (except as provided in subdivisions (b) and (c) of this 
 section) : 
 
 (1) Actual cash bona fide paid in for stock or shares; 
 
 (2) Actual cash value of tangible property, other than cash, bona fide 
 paid in for stock or shares, at the time of such payment, but in no case to 
 exceed the par value of the original stock or shares specifically issued 
 therefor, unless the actual cash value of such tangible property at the time 
 paid in is shown to the satisfaction of the commissioner to have been clearly 
 and substantially in excess of such par value, in which case such excess 
 shall be treated as paid-in surplus: Provided, That the commissioner shall 
 keep a record of all cases in which tangible property is included in invested 
 capital at a value in excess of the stock or shares issued therefor, containing 
 the name and address of each taxpayer, the business in which engaged, the 
 amount of invested capital and net income shown by the return, the value 
 of the tangible property at the time paid in, the par value of the stock or 
 shares specifically issued therefor, and the amount included under this para- 
 graph as paid-in surplus. The commissioner shall furnish a copy of such 
 record and other detailed information with respect to such cases when 
 required by resolution of either House of Congress, without regard to the 
 restrictions contained in § 257; 
 
 (3) Paid-in or earned surplus and undivided profits; not including sur- 
 plus and undivided profits earned during the year; 
 
 (4) Intangible property bona fide paid in for stock or shares prior to 
 March 3, 1917, in an amount not exceeding (a) the actual cash value of 
 such property at the time paid in, (b) the par value of the stock or shares 
 issued therefor, or (c) in the aggregate 25 per centum of the par value of 
 the total stock or shares of the corporation outstanding on March 3, 1917, 
 whichever is lowest; 
 
REVENUE ACT OP 1918 1311 
 
 (5) Intangible property bona fide paid in for stock or shares on or after 
 March 3, 1917, in an amount not exceeding (a) the actual cash value of 
 such property at the time paid in, (b) the par value of the stock or shares 
 issued therefor, or (c) in the aggregate 25 per centum of the par value of 
 the total stock or shares of the corporation outstanding at the beginning of 
 the taxable year, whichever is lovcest: Provided, That in no case shall the 
 total amount included under HU (4) and (5) exceed in the aggregate 25 
 per centum of the par value of the total stock or shares of the corporation 
 outstanding at the beginning of the taxable year; but 
 
 (b) As used in this title the term "invested capital" does not include 
 borrowed capital. 
 
 (c) There shall be deducted from invested capital as above defined a 
 percentage thereof equal to the percentage which the amount of inadmis- 
 sible assets is of the amount of admissible and inadmissible assets held 
 during the taxable year. 
 
 (d) The invested capital for any period shall be the average invested 
 capital for such period, but in the case of a corporation making a return 
 for a fractional part of a year, it shall (except for the purpose of T[ (2) of 
 subdivision (a) of § 311) be the same fractional part of such average in- 
 vested capital. 
 
 The average invested capital for the prewar period shall be determined 
 by dividing the number of years within that period during the whole of 
 which the corporation was in existence into the sum of the average invested 
 capital for such years. 
 
 Sec. 327. That in the following cases the tax shall be determined as 
 provided in § 328: 
 
 (a) Where the commissioner is unable to determine the invested capital 
 as provided in § 326; 
 
 (b) In the case of a foreign corporation; 
 
 (c) Where a mixed aggregate of tangible property and intangible prop- 
 erty has been paid in for stock or for stock and bonds and the commissioner 
 is unable satisfactorily to determine the respective values of the several 
 classes of property at the time of payment, or to distinguish the classes of 
 property paid in for stock and for bonds, respectively; 
 
 (d) Where upon application by the corporation the commissioner finds 
 and so declares of record that the tax if determined without benefit of this 
 section would, owing to abnormal conditions affecting the capital or income 
 of the corporation, work upon the corporation an exceptional hardship evi- 
 denced by gross disproportion between the tax computed without benefit of 
 this section and the tax computed by reference to the representative corpo- 
 rations specified in § 328. This subdivision shall not apply to any case 
 (1) in which the tax (computed without benefit of this section) is high 
 merely because the corporation earned within the taxable year a high rate 
 of profit upon a normal invested capital, nor (2) in which 50 per centum or 
 more of the gross income of the corporation for the taxable year (com- 
 puted under § 233 of Title II) consists of gains, profits, commissions, or 
 other income, derived on a cost-plus basis from a government contract or 
 contracts made between April 6, 1917, and November 11, 1918, both dates 
 inclusive. 
 
 Sec. 328. (a) In the cases specified in § 327 the tax shall be the amount 
 which bears the same ratio to the net income of the taxpayer (in excess of 
 the specific exemption of $3,000) for the taxable year, as the average tax of 
 representative corporations engaged in a like or similar trade or business, 
 
1312 APPENDIX 
 
 bears to their average net income (in excess of the specific exemption of 
 $3,000) for such year. In the case of a foreign corporation the tax shall be 
 computed without deducting the specific exemption of $3,000 either for the 
 taxpayer or the representative corporations. 
 
 In computing the tax under this section the commissioner shall compare 
 the taxpayer only with representative corporations whose invested capital 
 can be satisfactorily determined under § 326 and which are, as nearly as 
 may be, similarly circumstanced with respect to gross income, net income, 
 profits per unit of business transacted and capital employed, the amount 
 and rate of war profits or excess profits, and all other relevant facts and 
 circumstances. 
 
 (b) For the purposes of subdivision (a) the ratios between the average 
 tax and the average net income of representative corporations shall be 
 determined by the commissioner in accordance with regulaiions prescribed 
 by him with the approval of the secretary. 
 
 In cases in which the tax is to be computed under this section, if the tax 
 as computed without the benefit of this section is less than 50 per centum 
 of the net income of the taxpayer, the installments shall in the first in- 
 stance be computed upon the basis of such tax; but if the tax so computed 
 is 50 per centum or more of the net income, the installments shall in the 
 first instance be computed upon the basis of a tax equal to 50 per centum 
 of the net income. In any case, the actual ratio when ascertained shall be 
 used in determining the correct amount of the tax. If the correct amount 
 of the tax when determined exceeds 50 per centum of the net income, any 
 excess of the correct installments over the amounts actually paid shall on 
 notice and demand be paid together with interest at the rate of one-half of 
 1 per centum per month on such excess from the time the installment 
 was due. 
 
 (c) The commissioner shall keep a record of all cases in which the tax 
 is determined in the manner prescribed in subdivision (a), containing the 
 name and address of each taxpayer, the business in which engaged, the 
 amount of invested capital and net income shown by the return, and the 
 amount of invested capital as determined under such subdivision. The 
 commissioner shall furnish a copy of such record and other detailed infor- 
 mation with respect to such cases when required by resolution of either 
 House of Congress, without regard to the restrictions contained in § 257. 
 
 Part VI — Reorganization 
 
 Sec. 330. That in the case of the reorganization, consolidation, or change 
 of ownership after January 1, 1911, of a trade or business now carried on 
 by a corporation, the corporation shall for the purposes of this title be 
 deemed to have been in existence prior to that date, and the net income and 
 invested capital of such predecessor trade or business for all or any part 
 of the prewar period prior to the organization of the corporation now 
 carrying on such trade or business shall be deemed to have been the net 
 income and invested capital of such corporation. 
 
 If such predecessor trade or business was carried on by a partnership or 
 individual the net income for the prewar period shall, under regulations 
 prescribed by the commissioner with the approval of the secretary, be 
 ascertained and returned as nearly as may be upon the same basis and in 
 the same manner as provided for corporations in Title II, including a 
 reasonable deduction for salary or compensation to each partner or the 
 individual for personal services actually' rendered. 
 
REVENUE ACT OF 1918 1313 
 
 In the case of the organization as a corporation before July 1, 1919, c^f 
 any trade or business in which capital is a material income-producing factor 
 and which was previously owned by a partnership or individual, the net 
 income of such trade or business from January 1, 1918, to the date of such 
 reorganization may at the option of the individual or partnership be taxed 
 as the net income of a corporation is taxed under Titles II and III; in 
 which event the net income and invested capital of such trade or business 
 shall be computed as if such corporation had been in existence on and after 
 January 1, 1918, and the undistributed profits or earnings of such trade 
 or business shall not be subject to the surtax imposed in § 211, but amounts 
 distributed on or after January 1, 1918, from the earnings of such trade 
 or business shall be taxed to the recipients as dividends, and all the provi- 
 sions of Titles II and III relating to corporations shall so far as practicable 
 apply to such trade or business: Provided, That this paragraph shall not 
 apply to any trade or business the net income of which for the taxable 
 year 1918 was less than 20 per centum of its invested capital for such year: 
 Provided further, That any taxpayer who takes advantage of this para- 
 graph shall pay the tax imposed by § 1000 of this act and by the first 
 subdivision of § 407 of the Revenue Act ofl 1916, as if such taxpayer had 
 been a corporation on and after January 1, 1918, with a capital stock 
 having no par value. 
 
 If any asset of the trade or business in existence both during the taxable 
 year and any prewar year is included in the invested capital for the taxable 
 year but is not included in the invested capital for such prewar year, or is 
 valued on a different basis in computing the invested capital for the taxable 
 year and such prewar year, respectively, then under rules and regulations 
 to be prescribed by the commissioner with the approval of the secretary 
 such readjustments shall be made as are necessary to place the computation 
 of the invested capital for such prewar year on the basis employed in deter- 
 mining the invested capital for the taxable year. 
 
 Sec. 331. In the case of the reorganization, consolidation, or change of 
 ownership of a trade or business, or change of ownership of property, after 
 March 3, 1917, if an interest or control in such trade or business or prop- 
 erty of 50 per centum or more remains in the same persons, or any of them, 
 then no asset transferred or received from the previous owner shall, for the 
 purpose of determining invested capital, be allowed a greater value than 
 would have been allowed under this title in computing the invested capital 
 of such previous owner if such asset had not been so transferred or received : 
 Provided, That if such previous owner was not a corporation, then the 
 value of any asset so transferred or received shall be taken at its cost of 
 acquisition (at the date when acquired by such previous owner) with proper 
 allowance for depreciation, impairment, betterment or development, but no 
 addition to the original cost shall be made for any charge or expenditure 
 deducted as expense or otherwise on or after March 1, 1913, in computing 
 the net income of such previous owner for purposes of taxation. 
 
 Part VII — Miscellaneous 
 
 Sec. 335. (a) That if a corporation (other than a personal service cor- 
 poration) makes return for a fiscal year beginning in 1917 and ending in 
 1918, the tax for, the first taxable year under this title shall be the sum 
 of: (1) The same proportion of a tax for the entire period computed under 
 Title II of the Revenue Act of 1917 which the portion of such period fall- 
 ing within the calendar year 1917 is of the entire period, and (2) the same 
 
1314 APPENDIX 
 
 proportion of a tax for the entire period computed under this title at the 
 rates specified in subdivision (a) of § 301 which the portion of such period 
 falling within the calendar year 1918 is of the entire period. Any amount 
 heretofore or hereafter paid on account of the tax imposed for such fiscal 
 year by Title II of the Revenue Act of 1917 shall be credited toward the 
 payment of the tax imposed for such fiscal year by this title, and if the 
 amount so paid exceeds the amount of the tax imposed by this title, the 
 excess shall be credited or refunded to the corporation in accordance with 
 the provisions of § 252. 
 
 (b) If a corporation makes return for a fiscal year beginning in 1918 
 and ending in 1919, the tax for such fiscal year under this title shall be 
 the sum of: (1) The same proportion of a tax for the entire period com- 
 puted under subdivision (a) of § 301 which the portion of such period 
 falling within the calendar year 1918 is of the entire period, and (2) the 
 same proportion of a tax for the entire period computed under subdivisions 
 (b) or (c) of § 801 which the portion of such period falling within the 
 calendar year 1919 is of the entire period. 
 
 (c) If a partnership or a personal service corporation makes return for 
 a fiscal year beginning in 1917 and ending in 1918, it shall pay the same 
 proportion of a tax for the entire period computed under Title II of the 
 Revenue Act of 1917 which the portion of such period falling within the 
 calendar year 1917 is of the entire period. 
 
 Any tax paid by a partnership or personal service corporation for any 
 period beginning on or after January 1, 1918, shall be immediately refunded 
 to the partnership or corporation as a tax erroneously or illegally collected. 
 
 Sec. 336. That every corporation, not exempt under § 304, shall make 
 a return for the purposes of this title. Such returns shall be made, and 
 the taxes imposed by this title shall be paid, at the same times and places, 
 in the same manner, and subject to the same conditions, as is provided in 
 the case of returns and pajmient of income tax by corporations for the 
 purposes of Title II, and all the provisions of that title not inapplicaBle, 
 including penalties, are hereby made applicable to the taxes imposed by 
 this title. 
 
 Sec. 337. That in the case of a bona fide sale of mines, oil or gas wells, 
 or any interest therein, where the principal value of the property has been 
 demonstrated by prospecting or exploration and discovery work done by the 
 taxpayer, the portion of the tax imposed by this title attributable to such 
 sale shall not exceed 20 per centum- of the selling price of such property 
 or interest. 
 
 TITLE X— SPECIAL TAXES 
 
 [Capital Stock Tax] 
 
 Sec. 1000. (a) That on and after July 1, 1918, in lieu of the tax imposed 
 by the first subdivision of section 407 of the Revenue Act of 1916 — 
 
 (1) Every domestic corporation shall pay annually a special excise tax 
 with respect to carrying on or doing business, equivalent, to $1 for each 
 $1,000 of so much of the fair average value of its capital stock for the 
 preceding year ending June 30 as is in excess of $5,000. In estimating the 
 value of capital stock the surplus and undivided profits shall be included; 
 
 (2) Every foreign corporation shall pay annually a special excise tax with 
 respect to carrying on or doing business in the United States, equivalent to 
 
REVENUE ACT OP 1918 ISlS 
 
 $1 for each $1,000 of the average amount of capital employed in the trans- 
 action of its business in the United States during the preceding year ending 
 June thirtieth. 
 
 (b) In computing the tax in the case of insurance companies such deposits 
 and reserve funds as they are required by law or contract to maintain ov 
 hold for the protection of or payment to or apportionment among policy- 
 holders shall not be included. 
 
 (c) The taxes imposed by this section shall not apply in any year to any 
 corporation which was not engaged in business (or in the case of a foreign 
 corporation not engaged in business in the United States) during the pre- 
 ceding year ending June 30, nor to any corporation enumerated in section 
 231. The taxes imposed by this section shall apply to mutual insurance com- 
 panies, and in the case of every such domestic company the tax shall be 
 equivalent to $1 for each $1,000 of the excess over $5,000 of the sum of its 
 surplus or contingent reserves maintained for the general use of the busi- 
 ness and any reserves the net additions to which are included in net income 
 under the provisions of Title II, as of the close of the preceding accounting 
 period used by such company for purposes of making its income tax return : 
 Provided, That in the case of a foreign mutual insurance company the tax 
 shall be equivalent to $1 for each $1,000 of the same proportion of the sum 
 of such surplus and reserves, which the reserve fund upon business trans- 
 acted within the United States is of the total reserve upon all business 
 transacted, as of the close of the preceding accounting period used by such 
 company for purposes of making its income tax return. 
 
 (d) Section 257 shall apply to al^ returns filed with the Commissioner for 
 purposes of the tax imposed by this section. 
 
 TITLE XI— STAMP TAXES 
 
 Sec. 1100. That on and after April 1, 1919, there shall be levied, collected, 
 and paid, for and in respect of the several bonds, debentures, or certificates 
 of stock and of indebtedness, and other documents, instruments, matters, and 
 things mentioned and described in Schedule A of this title, or for or in re- 
 spect of the vellum, parchment, or paper upon which such instruments, 
 matters, or things, or any of them, are written or printed, by any person 
 who makes, signs, issues, sells, removes, consigns, or ships the same, or for 
 whose use or benefit the same are made, signed, issued, sold, removed, con- 
 signed, or shipped, the several taxes specified in such schedule. The taxes 
 imposed by this section shall, in the case of any article upon which a corre- 
 sponding stamp tax is now imposed by law, be in lieu of such tax. 
 
 Sec. 1101. That there shall not be taxed under this title any bond, note, 
 or other instrument, issued by the United States, or by any foreign Govern- 
 ment, or by any State, Territory, or the District of Columbia, 'or local sub- 
 division thereof, or municipal or other corporation exercising the taxing 
 power ; or any bond of indemnity required to be filed by any person to secure 
 payment of any pension, allowance, allotment, relief, or insurance by the 
 United States; or stocks and bonds issued by co-operative building and loan 
 associations which are organized and operated exclusively for the benefit of 
 their members and make loans only to their shareholders, or by mutual ditch 
 or irrigating companies. 
 
 Sec. 1102. That whoever — 
 
*1316 APPENDIX 
 
 (a) Makes, signs, issues, or accepts, or causes to be made, signed, issued, 
 or accepted, any instrument, document, or paper of any kind or description 
 whatsoever without the full amount of tax thereon being duly paid: 
 
 (b) Consigns or ships, or causes to be consigned or shipped, by parcel 
 post any parcel, package, or article without the full amount of tax being 
 duly paid ; 
 
 (c) Manufactures or imports and sells, or offers for sale, or causes to be 
 manufactured or imported and sold, or offered for sale, any playing cards, 
 package, or other article without the full amount of tax being duly paid; 
 
 (d) Makes use of any adhesive stamp to denote any tax imposed by this 
 title without canceling or obliterating such stamp as prescribed in section 
 1104; 
 
 Is guilty of a misdemeanor and upon conviction thereof shall pay a fine of 
 not more than $100 for each offense. 
 Sec. 1103. That whoever — 
 
 (a) Fraudulently cuts, tears, or removes from any vellum, parchment, 
 paper, instrument, writing, package, or article, upon which any tax is im- 
 posed by this title, any adhesive stamp or the impression of any stamp, die, 
 plate, or other article provided, made, or used in pursuance of this title; 
 
 (b) Fraudulently uses, joins, fixes, or places to, with, or upon any vellum, 
 parchment, paper, instrument, writing, package, or article, upon which any 
 tax is imposed by this title, (1) any adhesive stamp, or the impression of 
 any stamp, die, plate, or other article, which has been cut, torn, or removed 
 from any other vellum, parchment, paper, instrument, writing, package, or 
 article, upon which any tax is imposed by this title; or (2) any adhesive 
 stamp or the impression of any stamp, die, plate, or other article of insuffi- 
 cient value; or (3) any forged or counterfeit stamp, or the impression of any 
 forged or counterfeit stamp, die, plate, or other article; 
 
 (c) Willfully removes, or alters the cancellation, or defacing marks of, 
 or otherwise prepares, any adhesive stamp, with intent to use, or cause the 
 same to be used, after it has been already used, or knowingly or willfully 
 buys, sells, offers for sale, or gives away, any such washed or restored 
 stamp to any person for use, or knowingly uses the same ; 
 
 (d) Knowingly and without lawful excuse (the burden of proof of such 
 excuse being on the accused) has in possession any washed, restored, or 
 altered stamp, which has been removed frpm any vellum, parchment, paper, 
 instrument, writing, package, or article; 
 
 Is guilty of a misdemeanor, and upon conviction shall be punished by a 
 fine of not more than $1,000, or by imprisonment for not more than five 
 years or both, and any such reused, canceled, or counterfeit stamp and the 
 vellum, parchment, document, paper, package, or article upon which it is 
 placed or impressed shall be forfeited to the United States. 
 
 Sec. 1104.. That whenever an adhesive stamp is used for denoting any tax 
 imposed by this title, except as hereinafter provided, the person using or 
 affixing the same shall write or stamp or cause to be written or stamped 
 thereupon the initials of his or its name and the date upon which the same 
 is attached or used, so that the same may not again be used: Provided. 
 That the Commissioner may prescribe such other method for the cancella- 
 tion of such stamps as he may deem expedient. 
 
 Sec. 1105. (a) That the Commissioner shall cause to be prepared and dis- 
 tributed for the payment of the taxes prescribed in this title suitable stamps 
 denoting the tax on the document, articles, or thing to which the same may 
 be affixed, and shall prescribe such method for the affixing of said stamps in 
 
REVENUE ACT OF 1918 1317 
 
 substitution for or in addition to the method provided in this title, as he may 
 deem expedient. 
 
 (b) The Commissioner, with the approval of the Secretary, is authorized 
 to procure any of the stamps provided for in this title by contract whenever 
 such stamps can not be speedily prepared by the Bureau of Engraving and 
 Printing; but this authority shall expire on January 1, 1920, except as to 
 imprinted stamps furnished under contract, authorized by the Commissioner. 
 
 (c) All internal-revenue laws relating to the assessment and collection of 
 taxes are hereby extended to and made a part of this title, so far as ap- 
 plicable, for the purpose of collecting stamp taxes omitted through mistake 
 or fraud from any instrument, document, paper, writing, parcel, package, 
 or article named herein. 
 
 Sec. 1106. That the Commissioner shall furnish to the Postmaster-General 
 without prepayment a suitable quantity of adhesive stamps to be distributed 
 to and kept on sale by the various postmasters in the United States. The 
 Postmaster-General may require each such postmaster to give additional or 
 increased bond as postmaster for the value of the stamps so furnished, and 
 each such postmaster shall deposit the receipts from the sale of such stamps 
 to the credit of and render accounts to the Postmaster-General at such times 
 and in such form as he may by regulations prescribe. The Postmaster- 
 General shall at least once monthly transfer all collections from this source 
 to the Treasury as internal-revenue collections. 
 
 Sec. 1107. That the collectors of the several districts shall furnish without 
 prepayment to any assistant treasurer or designated depositary of the 
 United States located in their respective collection districts a suitable quan- 
 tity of adhesive stamps for sale. In such cases the collector may require 
 a bond, with sufficient sureties, to an amount equal to the value of the 
 adhesive stamps so furnished, conditioned for the faithful return, whenever 
 so required, of all quantities or amounts undisposed of, and for the payment 
 monthly of all quantities or amounts sold or not remaining on hand. The 
 Secretary may from time to time make such regulations as he may And 
 necessary to insure the safekeeping or prevent the illegal use of all such 
 adhesive stamps. 
 
 Schedule A — Stamp Taxes 
 
 1. Bonds of indebtedness: On all bonds, debentures, or certificates of 
 indebtedness issued by any person, and all instruments, however termed, 
 issued by any corporation with interest coupons or in registered form, 
 known generally as corporate securities, on each $100 of face value or frac- 
 tion thereof, 5 cents: Provided, That every renewal of the foregoing shall 
 be taxed as a new issue: Provided further, That when a bond conditioned 
 for the repayment or payment of money is given in a penal sum greater 
 than the debt secured, the tax shall be based upon the amount secured. 
 
 2. Bonds, indemnity and surety: On all bonds executed for indemnifying 
 any person who shall have become bound or engaged as surety, and on all 
 bonds executed for the due execution or performance of any contract, ob- 
 ligation, or requirement, or the duties of any office or position, and to ac- 
 count for money received by virtue thereof, and on all policies of guaranty 
 and fidelity insurance, including policies guaranteeing titles to real estate 
 and mortgage guarantee policies, and on all other bonds of any description, 
 made, issued, or executed, not otherwise provided for in this schedule, ex- 
 cept such as may be required in legal proceedings, 50 cents : Provided, That 
 where a premium is charged for the issuance, execution, renewal or con- 
 
1318 APPENDIX 
 
 tinuance of such bond the tax shall be 1 cent on each dollar or fractional 
 part thereof the premium charged: Provided further, That policies of re- 
 insurance shall be exempt from the tax imposed by this subdivision. 
 
 3. Capital stock, issued: On each original issue, whether on organization 
 or reorganization, of certificates of stock, or of profits, or of interest in 
 property or accumulations, by any corporation, on each $100 of face value 
 or fraction thereof, 5 cents: Provided, That where a certificate is issued 
 without face value, the tax shall be 5 cents per share, unless the actual value 
 is in excess of $100 per share, in which case the tax shall be 5 cents on each 
 $100 of actual value or fraction thereof. 
 
 The stamps representing the tax imposed by this subdivision shall be at- 
 tached to the stock books and not to the certificates issued. 
 
 4. Capital stock, sales or transfers: On all sales, or agreements to sell, 
 or memoranda of sales or deliveries of, or transfers of legal title to shares 
 or certificates of stock or of profits or of interest in property or accumula- 
 tions in any corporation, or to rights to subscribe for or to receive such 
 shares or certificates, whether made upon or shown by the books of the 
 corporation, or by any assignment in blank, or by any delivery, or by any 
 paper or agreement or memorandum or other evidence of transfer or 
 sale, whether entitling the holder in any manner to the benefit of such stock, 
 interest, or rights, or not, on each $100 of face value or fraction thereof, 
 2 cents, and where such shares are without par or face value, the tax 
 shall be 2 cents on the transfer or sale or agreement to sell on each share, 
 unless the actual value thereof is in excess of $100 per share, in which case 
 the tax shall be 2 cents on each $100 of actual value or fraction thereof: 
 Provided, That it is not intended by this title to impose a tax upon an 
 agreement evidencing a deposit of certificates as collateral security for 
 money loaned thereon, which certificates are not actually sold, nor upon 
 the delivery or transfer for such purpose of certificates so deposited: 
 Provided further. That the tax shall not be imposed upon deliveries or trans- 
 fers to a broker for sale, nor upon deliveries or transfers by a broker to a 
 customer for whom and upon whose order he has purchased same, but such 
 deliveries or transfers shall be accompanied by a certificate setting forth 
 the facts: Provided further. That in case of sale where the evidence of 
 transfer is shown only by the books of the corporation the stamp shall be 
 placed upon such books; and where the change of ovsmership is by transfer 
 of the certificate the stamp shall be placed upon the certificate; and in cases 
 of an agreement to sell or wfiere the transfer is by delivery of the certifi- 
 cate assigned in blank there shall be made and delivered by the seller to the 
 buyer a bill or memorandum of such sale, to which the stamp shall be 
 affixed; and every bill or memorandum of sale or agreement to sell before 
 mentioned shall show the date thereof, the name of the seller, the amount 
 of the sale and the matter or thing to which it refers. Any person liable 
 to pay the tax as herein provided, or anyone who acts in the matter as agent 
 or broker for such person, who makes any such sale, or who in pursuance 
 of any such sale delivers ^ny certificate or evidence of the sale of any 
 stock, interest or right, or bill or memorandum thereof, as herein required, 
 without having the proper stamps affixed thereto with intent to evade the 
 foregoing provisions, shall be deemed guilty of a misdemeanor, and upon 
 conviction thereof shall pay a fine of not exceeding $1,000, or be im- 
 prisoned not more than six months, or both. 
 
 5. Produce, sales of, on exchange: Upon each sale, agreement of sale, 
 or agreement to sell (not including so-called transferred or scratch sales). 
 
REVENUE ACT OP 1918 1319 
 
 any products or merchandise at, or under the rules or usages of, any ex- 
 change, or board of trade, or other similar place, for future delivery, for 
 each $100 in value of the merchandise covered by said sale or agreement 
 of sale or agreement to sell, 2 cents, and for each additional $100 or frac- 
 tional part thereof in excess of $100, 2 cents: Provided, That on every 
 sale or agreement of sale or agreement to sell as aforesaid there shall be 
 madte and delivered by the seller to the buyer a bill, memorandum, agree- 
 ment, or other evidence of such sale, agreement of sale, or agreement to 
 sell, to vyhich there shall be affixed a lawful stamp or stamps in value 
 equal to the amount of the tax on such sale : Provided further, That sellers 
 of commodities described herein, having paid the tax provided by this 
 subdivision, may transfer such contracts to a clearing-house corporation or 
 association, and such transfer shall not be deemed to be a sale, or agree- 
 ment of sale, or an agreement to sell vyithin the provisions of this Act, 
 provided that such transfer shall not vest any beneficial interest in such 
 clearing4iouse association but shall be made for the sole purpose of en- 
 abling such clearing-house association to adjust and balance the accounts 
 of the members of such clearing-house association on their several con- 
 tracts. Every such bill, memorandum, or other evidence of sale or agree- 
 ment to sell shall show the date thereof, the name of the seller, the amount 
 of the sale, and the ipatter or thing to which it refers; and any person 
 liable to pay the tax as herein provided or anyone who acts in the matter as 
 agent or broker for such person, who makes any such sale or agreement of 
 sale, or agreement to sell, or who, in pursuance of any such sale, agree- 
 ment of sale, or agreement to sell, delivers any such products or merchandise 
 without a bill, memorandum, or other evidence thereof as herein required, 
 or who delivers such bill, memorandum, or other evidence of sale, or agree- 
 ment to sell, without having the proper stamps affixed thereto, with intent 
 to evade the foregoing provisions, shall be deemed guilty of a misdemeanor, 
 and upon conviction thereof shall pay a fine of not exceeding $1,000 or be 
 imprisoned not more than six months, or both. 
 
 No bill, memorandum, agreement, or other evidence of such sale, or agree- 
 ment of sale, or agreement to sell, in case of cash sales of products or mer- 
 chandise for immediate or prompt delivery which in good faith are ac- 
 tually intended to be delivered shall be subject to this tax. 
 
 6. Drafts or checks (payable otherwise than at sight or on demand) upon 
 their acceptance or delivery within the United States whichever is prior, 
 promissory notes, except bank notes issued for circulation, and for each 
 renewal of the same, for a sum not exceeding $100, 2 cents; and for each 
 additional $100, or fractional part thereof, 2 cents. 
 
 This subdivision shall not apply to a promissory note secured by the 
 pledge of bonds or obligations of the United States issued after April 24, 
 1917, or secured by the pledge of a promissory note which itself is secured 
 by the pledge of such bonds or obligations: Provided, That in either case 
 . the par value of such bonds or obligations shall be not less than the amount 
 of such note. 
 
 7. Conveyances: Deed, instrument, or writing, whereby any lands, 
 tenements, or other realty sold shall be granted, assigned, transferred, or 
 otherwise conveyed to, or vested in, the purchaser or purchasers, or any 
 other person or persons, by his, her, or their direction, when the considera- 
 tion or value of the interest or property conveyed, exclusive of the value 
 of any lien or encumbrance remaining thereon at the time of sale, exceeds 
 
1320 APPENDIX 
 
 $100 and does not exceed $500, 50 cents; and for each additional $500 or 
 fractional part thereof, 50 cents. This subdivision shall not apply to any 
 instrument or writing given to secure a debt. 
 
 8. Entry of any goods, wares, or merchandise at any customhouse, either 
 for consumption or warehousing, not exceeding $100 in value, 25 cents; 
 exceeding $100 and not exceeding $500 in value, 50 cents; exceeding $500 in 
 value, $1. 
 
 9. Entry for the withdrawal of any goods or merchandise from cus- 
 toms bonded warehouse, 50 cents. 
 
 10. Passage ticket, one way or round trip, for each passenger, sold or 
 issued in the United States for passage by any vessel to a port or place 
 not in the United States, Canada, or Mexico, if costing not exceeding 
 $30, $1 ; costing more than $30 and not exceeding $60, $3 ; costing more than 
 $60, $5. This subdivision shall not apply to passage tickets costing $10 
 or less. 
 
 11. Proxy for voting at any election for officers, or meeting for the 
 transaction of business, of any corporation, except religious, educational, 
 charitable, fraternal, or literary societies, or public cemeteries, 10 cents. 
 
 12. Power of attorney granting authority to do or perform some act for 
 or in behalf of the grantor, which authority is not otherwise vested in the 
 grantee, 25 cents. This subdivision shall not apply to any papers necessary 
 to be used for the collection of claims from the United States or from any 
 state for pensions, back pay, bounty, or for property lost in the military 
 or naval service, or to powers of attorney required in bankruptcy cases. 
 
 13. Playing cards: Upon every pack of playing cards containing not 
 more than flfty-four cards, manufactured or imported, and sold, or re- 
 moved for consumption or sale, a tax of 8 cents per pack. 
 
 14. Parcel-post packages: Upon every parcel or package transported 
 from one point in the United States to another by parcel post on which 
 the postage amounts to 25 cents or more, a tax of 1 cent for each 25 cents 
 or fractional part thereof charged for such transportation, to be paid by 
 the consignor. 
 
 No such parcel or package shall be transported until a stamp or stamps 
 representing the tax due shall have been affixed thereto. 
 
 15. On each policy of insurance, or certificate, binder, covering note, 
 memorandum, cablegram, letter, or other instrument by whatever name 
 called whereby insurance is made or renewed upon property within the 
 United States (including rents and profits) against peril by sea or on in- 
 land waters or in transit on land (including transshipments and storage at 
 termini or way points) or by fire, lightning, toronado, windstorm, bombard- 
 ment, invasion, insurrection or riot, issued to or for or in the name of a do- 
 mestic corporation or partnership or an individual resident of the United 
 States by any foreign corporation or partnership or any individual not a 
 resident of the United States, when such policy or other instrument is not 
 signed or countersigned by an officer or agent of the insurer in a State, 
 Territory, or district of the United States within which such insurer is 
 authorized to do business, a tax of 3 cents on each dollar, or fractional part 
 thereof of the premium charged: Provided, That policies of re-insurance 
 shall be exempt from the tax imposed by this subdivision. 
 
 Any person to or for whom or in whose name any such policy or other 
 instrument is issued, or any solicitor or broker acting for or on behalf of 
 such person in the procurement of any such policy or other instrument, 
 shall affix the proper stamps to such policy or other instrument, and for fail- 
 
REVENUE ACT OP 1918 1321 
 
 ure to affix such stamps with intent to evade the tax shall, in addition to 
 other penalties provided therefor, pay a fine of double the amount of the 
 tax. 
 
 TITLE XII— TAX ON EMPLOYMENT OF CHILD LABOR 
 
 Sec. 1200. That every person (other than a bona fide boys' or girls' can- 
 ning club recognized by the Agricultural Department of a State and of the 
 United States) operating (a) any mine or quarry situated in the United 
 States in which children under the age of sixteen years have been employed 
 or permitted to work during any portion of the taxable year; or (b) any 
 mill, cannery, workshop, factory, or manufacturing establishment situated 
 in the United .States in which children under the age of fourteen years 
 have been employed or permitted to work, or children between the ages of 
 fourteen and sixteen have been employed or permitted to work more than 
 eight hours in any day or more than six days in any week, or after the 
 hour of seven o'clock post meridian, or before the hour of six o'clock ante 
 meridian, during any portion of the taxable year, shall pay for each tax- 
 able year, in addition to all other taxes imposed by law, an excise tax equiva- 
 lent to 10 per centum of the entire net profits received or accrued for such 
 year from the sale or disposition of the product of such mine, quarry, mill, 
 cannery, workshop, factory, or manufacturing establishment. 
 
 Sec. 1201. That in computing net profits under the provisions of this title, 
 for the purpose of the tax there shall be allowed as deductions from the 
 gross amount received or accrued for the taxable year from the sale or dis- 
 position of such products manufactured within the United States the fol- 
 lowing items: 
 
 (a) The cost of raw materials entering into the production; 
 
 (b) Running expenses, including rentals, cost of repairs, and main- 
 tenance, heat, power, insurance, management, and a reasonable allowance 
 for salaries or other compensations for personal services actually rendered, 
 and for depreciation; 
 
 (c) Interest paid within the taxable year on debts or loans contracted 
 to meet the needs of the business, and the proceeds of which have been 
 actually used to meet such needs; 
 
 (d) Taxes of all kinds paid during the taxable year with respect to the 
 business or property relating to the production; and 
 
 (e) Losses actually sustained within the taxable year in connection with 
 the business of producing such products, including losses from fire, flood, 
 storm, or other casualties, and not compensated for by insurance or other- 
 wise. 
 
 Sec. 1202. That if any such person during any taxable year or part 
 thereof, whether under any agreement, arrangement, or understanding or 
 otherwise, sells or disposes of any product of such mine, quarry, mill, can- 
 nery, workshop, factory, or manufacturing establishment at less than the 
 fair market price obtainable therefor either (a) in such manner as directly 
 or indirectly to benefit such person or any person directly or indirectly in- 
 terested in the business of such person; or (b) with intent to cause such 
 benefit; the gross amount received or accrued for such year or part thereof 
 from the sale or disposition of such product shall be taken to be the amount 
 which would have been received or accrued from the sale or disposition of 
 such product if sold at the fair market price. 
 
1322 APPENDIX 
 
 Sec. 1203. (a) That no person subject to the provisions of this title shall 
 be liable for the tax herein imposed if the only employment or permis- 
 sion to work which but for this section would subject him to the tax, has 
 been of a child as to whom such person has in good faith procured at the 
 time of employing such child or permitting him to work, and has since in 
 good faith relied upon and kept on file a certificate, issued in such form, 
 under such conditions and by such persons as may be prescribed by a board 
 consisting of the Secretary, the Commissioner, and the Secretary of Labor, 
 showing the child to be of such age as not to subject such person to the tax 
 imposed by this title. Any person who knowingly makes a false statement 
 or presents false evidence in or in relation to any such certificate or ap- 
 plication therefor shall be punished by a fine of not less than $100, nor more 
 than $1,000, or by imprisonment for not more than three months, or by 
 both such fine and imprisonment, in the discretion of the court. 
 
 In any state designated by such board an employment certificate or 
 other similar paper as to the age of the child, issued under the laws of that 
 state, and not inconsistent with the provisions of this title, shall have the 
 same force and. effect as a certificate herein provided for. 
 
 (b) The tax imposed by this title shall not be imposed in the case of any 
 person who proves to the satisfaction of the Secretary that the only em- 
 ployment or permission to work which but for this section would subject him 
 to the tax, has been of a child employed or permitted to work under a mis- 
 take of fact as to the age of such child, and without intention to evade the 
 tax. 
 
 Sec. 1204. That on or before the first day of the third month following 
 the close of each taxable year, a true and accurate return under oath shall 
 be made by each person subject to the provisions of this title to the collector 
 for the district in which such person has his principal office or place of busi- 
 ness, in such form as the Commissioner, with the approval of the Secretary, 
 shall prescribe, setting forth specifically the gross amount of income re- 
 ceived or accrued during such year from the sale or disposition of the prod- 
 uct of any mine, quarry, mill, cannery, workshop, factory, or manufacturing 
 establishment, in which children have been employed subjecting him to the 
 tax imposed by this title, and from the total thereof deducting the aggre- 
 gate items of allowance authorized by this title, and such other particulars 
 as to the gross receipts and items of allowance as the Commissioner, with 
 the approval of the Secretary may require. 
 
 Sec. 1205. That all such returns shall be transmitted forthwith by the 
 collector to the Commissioner, who shall, as soon as practicable, assess the 
 tax found due and notify the person making such return of the amount of 
 tax for which such person is liable, and such person shall pay the tax to 
 •the collector on or before thirty days from the date of such notice. 
 
 Sec. 1206. That for the purposes of this Act the Commissioner, or any 
 other person duly authorized by him, shall have authority to enter and in- 
 spect at any time any mine, quarry, mill, cannery, workshop, factory or 
 manufacturing establishment. The Secretary of Labor, or any person duly 
 authorized by him, shall, for the purpose of complying with a request of 
 the Commissioner to make such an inspection, have like authority, and shall 
 make report to the Commissioner of inspections made under such authority 
 in such form as may be prescribed by the Commissioner with the approval 
 of the Secretary of the Treasury. 
 
REVENUE ACT OF 1918 1323 
 
 Any person who refuses or obstructs entry or inspection authorized by 
 this section shall be punished by a fine of not more than $1,000, or by im- 
 prisonment for not more than one year, or both such fine and imprisonment. 
 
 Sec. 1207. That as used in this title the term "taxable year" shall have 
 the same meaning as provided for the purposes of income tax in section 200. 
 The first taxable year for the purposes of this title shall be the period be- 
 tween sixty days after the passage of this Act and December 31, 1919, both 
 inclusive, or such portion of such period as is included within the fiscal year 
 (as defined in section 200) of the taxpayer. 
 
 TITLE XIII— GENERAL ADMINISTRATIVE PROVISIONS 1 
 
 Section 1301'. (d) (1) There is hereby created a board to be known as 
 the "Advisory Tax Board," hereinafter called the Board, and to be com- 
 posed of not to exceed six members to be appointed by the Commissioner 
 with the approval of the Secretary. The Board shall cease to exist at the 
 expiration of two years after the passage of this Act, or at such earlier time 
 as the Commissioner with the approval of the Secretary may designate. 
 
 Vacancies in the membership of the Board shall be filled in the same man- 
 ner as an original appointment. Any member shall be subject to removal 
 by the Commissioner with the approval of the Secretary. The Commissioner 
 with the approval of the Secretary shall designate the chairman of the 
 Board. Each member shall receive an annual salary of $9,000, payable 
 monthly, together with actual necessary expenses when absent from the 
 District of Columbia on ofRcial business. 
 
 (2) The Commissioner may, and on the request of any taxpayer directly 
 interested shall, submit to the Board any question relating to the interpreta- 
 tion or administration of the income, war-profits or excess-profits tax laws, 
 and the Board shall report its findings and recommendations to the Com- 
 missioner. 
 
 (3) The Board shall have its office in the Bureau of Internal Revenue in 
 the District of Columbia. The expenses and salaries of members of the 
 Board shall be audited, allowed, and paid out of appropriations for collect- 
 ing internal revenue, in the same manner as expenses and salaries of em- 
 ployees of the Bureau of Internal Revenue are audited, allowed, and paid. 
 
 (4) The Board shall have the power to summon witnesses, take testimony, 
 administer oaths, and to require any person to produce books, papers, docu- 
 ments, or other data relating to any matter under investigation by the 
 Board. Any member of the Board may sign subpoenas and members and 
 employees of the Bureau of Internal Revenue designated to assist the Board, 
 when authorized by the Board, may administer oaths, examine witnesses, 
 take testimony and receive evidence. 
 
 Sec. 1305. That all administrative, special, or stamp provisions of law, 
 including the law relating to the assessment of taxes, so far as applicable, 
 are hereby extended to and made a part of this Act, and every person liable 
 to any tax imposed by this Act, or for the collection thereof, shall keep 
 such records and render, under oath, 'feuch statements and returns, and shall 
 comply with such regulations as the Commissioner, with the approval of the 
 Secretary, may from time to time prescribe. 
 
 Whenever in the judgment of the Commissioner necessary he may require 
 any person, by notice served upon him, to make a return or such statements 
 as he deems sufficient to show whether or not such person is liable to tax. 
 
 'Parts of this title are omitted, being general provisions of no direct application 
 to the taxes treated In this book. 
 
1324 APPENDIX 
 
 The Commissioner, for the purpose of ascertaining the correctness of any 
 return or for the purpose of making a return where none has been made, 
 is hereby authorized, by any revenue agent or inspector designated by him 
 for that purpose, to examine any books, papers, records or memoranda 
 bearing upon the matters required to be included in the return, and may 
 require the attendance of the person rendering the return or of any officer 
 or, employee of such person, or the attendance of any other person having 
 knowledge in the premises, and may take his testimony with reference to 
 the matter required by law to be included in such return, with power to 
 administer oaths to such person or persons. 
 
 Sec. 1307. That in all cases where the method of collecting the tax im- 
 posed by this Act is not specifically provided in this Act, the tax shall be 
 collected in such manner as the Commissioner, with the approval of the 
 Secretary, may prescribe. All administrative and penalty provisions of 
 Title XI of this Act, in so far as applicable, shall apply to the collection of 
 any tax which the Commissioner determines or prescribes shall be paid by 
 stamp. 
 
 Sec. 1308. (a) That any person required under Titles V, VI, VII, VIII, 
 IX, X, or XII, to pay, or to collect, account for and pay over any tax, or 
 required by law or regulations made under authority thereof to make a 
 return or supply any information for the purposes of the computation, 
 assessment or collection of any such tax, who fails to pay, collect, or truly 
 account for and pay over any such tax, make any such return or supply 
 any such information at the time or times required by law or regulation 
 shall in addition to other penalties provided by law be subject to a penalty 
 of not more than $1,000. 
 
 (b) Any person who willfully refuses to pay, collect, or truly account for 
 and pay over any such tax, make such return or supply such information 
 at the time or times required by law or regulation, or who willfully attempts 
 in any manner to evade such tax shall be guilty of a misdemeanor and in 
 addition to other penalties provided by law shall be fined not more than 
 $10,000 or imprisoned for not more than one year, or both, together with 
 the costs of prosecution. 
 
 (c) Any person who willfully refuses to pay, collect, or truly account for 
 and pay over any such tax shall in addition to other penalties provided by 
 law be liable to a penalty of the amount of the tax evaded, or not paid, 
 collected, or accounted for and paid over, to be assessed and collected in 
 the same manner as taxes are assessed and collected: Provided, however, 
 That no penalty shall be assessed under this subdivision for any offense 
 for which a penalty may be assessed under authority of section 3176 of the 
 Revised Statutes, as amended, or of section 605 or 620 of this Act, or for 
 any offense for which a penalty has been recovered under section 3256 of 
 the Revised Statutes. 
 
 (d) The term ''person'' as used in this section includes an officer or em- 
 ployee of a corporation or a member or employee of a partnership, who as 
 such officer, employee, or member is .under a duty to perform the act in 
 respect of which the violation occurs. 
 
 Sec. 1309. That the Commissioner, with the approval of the Secretary, 
 is hereby authorized to make all needful rules and regulations for the en- 
 forcement of the provisions of this Act. 
 
 The Commissioner with such approval may by regulation provide that 
 any return required by Titles V, VI, VII, VIII, IX, or X to be under oath 
 
REVENUE ACT OF 1918 1325 
 
 may, if the amount of the tax covered thereby is not in excess of $10, be 
 signed or acknowledged before two witnesses instead of under oath. 
 
 Sec. 1313. That in the payment of any tax under this Act not payable 
 by stamp a fractional part of a cent shall be disregarded unless it amounts 
 to one-half cent or more, in which case it shall be increased to 1 cent. 
 
 Sec. 1314. That collectors may receive, at par with an adjustment for 
 accrued interest, certificates of indebtedness issued by the United States 
 and uncertified checks in payment of income, war-profits and excess-profits 
 taxes and any other taxes payable other than by stamp, during such time 
 and under such regulations as the Commissioner, with the approval of the 
 Secretary, shall prescribe; but if a check so received is not paid by the 
 bank on which it is drawn the person by whom such check has been tendered 
 shall remain liable for the payment of the tax and for all legal penalties 
 and additions the same as if such check had not been tendered. 
 
 Sec. 1316. (a) That section 3220 of the Revised Statutes is hereby 
 amended to read as follows: 
 
 "Sec. 3220. The Commissioner of Internal Revenue, subject to regula- 
 tions prescribed by the Secretary of the Treasury, is authorized to remit, 
 refund, and pay back all taxes erroneously or illegally assessed or collected, 
 all penalties collected without authority, and all taxes that appear to be 
 unjustly assessed or excessive in amount, or in any manner wrongfully 
 collected; also to repay to any collector or deputy collector the full amount 
 of such sums of money as may be recovered against him in any court, for 
 any internal revenue taxes collected by him, with the cost and expenses of 
 suit; also all damages and costs recovered against any assessor, assistant 
 assessor, collector, deputy collector, agent, or inspector, in any suit brought 
 against him by reason of anything done in the due performance of his official 
 duty, and shall make report to Congress at the beginning of each regular 
 session of Congress of all transactions under this section." 
 
 (b) Section 3225 of the Revised Statutes of the United States is hereby 
 amended to read as follows: 
 
 "Sec. 3225. When a second assessment is made in case of any list, state- 
 ment, or return, which in the opinion of the collector or deputy collector was 
 false or fraudulent, or contained any understatement or undervalua- 
 tion, such assessment shall not be remitted, nor shall taxes collected under 
 such assessment be refunded, or paid back, or recovered by any suit, unless 
 it is proved that such list, statement, or return was not willfully false or 
 fraudulent and did not contain any willful understatement or undervalua- 
 tion." 
 
 (c) That the paragraph of section 3689 of the Revised Statutes, as 
 amended, reading as follows: "Refunding taxes illegally collected (internal 
 revenue) : To refund and pay back duties erroneously or illegally assessed 
 or collected under the internal-revenue laws," is repealed from and after 
 June 30, 1920; and the Secretary of the Treasury shall submit for the 
 fiscal year 1921, and annually thereafter, an estimate of appropriations to 
 refund and pay back duties or taxes erroneously or illegally assessed or 
 collected under the internal-revenue laws, and to pay judgments, including 
 interest and costs, rendered for taxes or penalties erroneously or illegally 
 assessed or collected under the internal-revenue laws. 
 
 Sec. 1317. That sections 3164, 3165, 3167, 3172, 3173, and 3176 of the 
 Revised Statutes as amended are hereby amended to read as follows: 
 
 "Sec. 3164. It shall be the duty of every collector of internal revenue 
 having knowledge of any willful violation of any law of the United States 
 
1326 APPENDIX 
 
 relating to the revenue, within thirty days after coming into possession of 
 such knowledge, to file with the district attorney of the district in which 
 any fine, penalty, or forfeiture may be incurred, a statement of all the 
 facts and circumstances of the case within his knowledge, together with 
 the names of the witnesses, setting forth the provisions of law believed to 
 be so violated on which reliance may be had for condemnation or con- 
 viction. 
 
 "Sec. 3165. Every collector, deputy collector, internal-revenue agent, and 
 internal-revenue officer assigned to duty under an internal-revenue agent, 
 is authorized to administer oaths and to take evidence touching any part 
 of the administration of the internal-revenue laws with which he is charged, 
 or where such oaths, and evidence are authorized by law or regulation 
 authorized by law to be taken. 
 
 "Sec. 3167. It shall be unlawful for any collector, deputy collector, agent, 
 clerk, or other officer or employee of the United States to divulge or to make 
 known in any manner whatever not provided by law to any person the 
 operation, style of work, or apparatus of any manufacturer or producer 
 visited by him in the discharge of his official duties, or the amount or source 
 of income, profits, losses, expenditures, or any particular thereof set forth 
 or disclosed in any income return, or to permit any income return or copy 
 thereof or any book containing any abstract or particulars thereof to be 
 seen or examined by any person except as provided by law; and it shall 
 be unlawful for any person to print or publish in any manner whatever 
 not provided by law any income return, or any part thereof or source of 
 income, profits, losses, or expenditures appearing in any income return; and ' 
 any offense against the foregoing provision shall be a misdemeanor and be 
 punished by a fine not exceeding $1,000 or by imprisonment not exceeding 
 one year, or both, at the discretion of the court; and if the offender be an 
 officer or employee of the United States he shall be dismissed from office or 
 discharged from employment. 
 
 "Sec. 3172. Every collector shall, from time to time, cause his deputies to 
 proceed through every part of his district and inquire after and concern- 
 ing all persons therein who are liable to pay any internal-revenue tax, and 
 all persons owning or having the care and management of any objects 
 liable to pay any tax, and to make a list of such persons and enumerate 
 said objects. 
 
 "Sec. 3173. It shall be the duty of any person, partnership, firm, associa- 
 tion, or corporation, made liable to any duty, special tax, or other tax im- 
 posed by law, when not otherwise provided for, (1) in case of a special 
 tax, on or before the thirty-first day of July in each year, and (2) in other 
 cases before the day on which the taxes iaccrue, to make a list or return, 
 verified by oath, to the collector or a deputy collector of the district where 
 located, of the articles or objects, including the quantity of goods, wares, 
 and merchandise, made or sold and charged with a tax, the several rates 
 and aggregate amount, according to the forms and regulations to be pre- 
 scribed by the Commissioner of Internal Revenue, with the approval of 
 the Secretary of the Treasury, for which such person, partnership, firm, 
 association, or corporation is liable: Provided, That if any person liable to 
 pay any duty or tax, or owning, possessing, or having the care or manage- 
 ment of property, goods, wares, and merchandise, article or objects liable 
 to pay any duty, tax, or license, shall fail to make and exhibit a list or 
 return required by law, but shall consent to disclose the particulars of any 
 and all the property, goods, wares, and merchandise, articles, and objects 
 
REVENUE ACT OF 1918 1327 
 
 liable to pay any duty or tax, or any business or occupation liable to pay 
 any tax as aforesaid, then, and in that case, it shall be the duty of the 
 collector or deputy collector to make such list or return, which, being dis- 
 tinctly read, consented to, and signed and verified by oath by the person so 
 owning, possessing, or having the care and management as aforesaid, may 
 be received as the list of such person: Provided further, That in case no 
 annual list or return has been rendered by such person to the collector or 
 deputy collector as required by law, and the person shall be absent from his 
 or her residence or place of business at the time the collector or deputy 
 collector shall call for the annual list or return, it shall be the duty of such 
 collector or deputy collector to leave at sucR place of residence or business, 
 with some one of suitable age and discretion, if such be present, otherwise to 
 deposit in the nearest post-ofiftce, a note or memorandum addressed to such 
 person, requiring him or her to render to such collector or deputy collector 
 the list or return required by law within ten days from the date of such 
 note or memorandum, verified by oath. And if any person, on being notified 
 or required as aforesaid, shall refuse or neglect to render such list or return 
 within the time required as aforesaid, or whenever any person who is re- 
 quired to deliver a monthly or other return of objects subject to tax fails to 
 do so at the time required, or delivers any returii which, in the opinion of the 
 collector, is erroneous, false, or fraudulent, or contains any undervaluation 
 or understatement, or refuses to allow any regularly authorized government 
 officer to examine the books of such person, firm, or corporation, it shall be 
 lawful for the collector to summon such person, or any other person having 
 possession, custody, or care of books of account containing entries relating 
 to the business of such person or any other person he may deem proper, 
 to appear before him and produce such books at a time and place named 
 in the summons, and to give testimony or answer interrogatories, under 
 oath, respecting any objects or income liable to tax or the returns thereof. 
 The collector may summon any person residing or found within the State 
 or Territory in which his district lies; and when the person intended to be 
 summoned does not reside and can not be found within such State or Ter- 
 ritory, he may enter any collection district where such person may be 
 found and there make the examination herein authorized. And to this end 
 he may there exercise all the authority which he might lawfully exercise in 
 the district for which he was commissioned: Provided, That 'person' as 
 used in this section, shall be construed to include any corporation, joint- 
 stock company or association, or insurance company when such construction 
 is necessary to carry out its provisions. 
 
 "Sec. 3176. If any person, corporation, company, or association fails to 
 make and file a return or list at the time prescribed by law or by regulation 
 made under authority of law, or makes, willfully or otherwise, a false or 
 fraudulent return or list, the collector or deputy collector shall make the re- 
 turn or list from his own knowledge and from such information as he can 
 obtain through testimony or otherwise. In any such case the Commissioner 
 may, from his own knowledge and from such information as he can obtain 
 through testimony or otherwise, make a return or amend any return made 
 by a collector or deputy collector. Any return or list so made and subscribed 
 by the Commissioner, or by a collector or deputy collector and approved by the 
 Commissioner, shall be prima facie good and sufficient for all legal purposes. 
 
 "If the failure to file a return list is due to sickness or absence, the col- 
 lector may allow such further time, not exceeding thirty days, for making 
 and filing the return or list as he deems proper. 
 
1328 APPENDIX 
 
 "The Commissioner of Internal Revenue shall determine and assess all 
 taxes, other than stamp taxes, as to which returns or lists are so made 
 under the provisions of this section. In case of any failure to make and file 
 a return or list within the time prescribed by law, or prescribed by the Com- 
 missioner of Internal Revenue or the collector in pursuance of law, the 
 Commissioner of Internal Revenue shall add to the tax 25 per centum of its 
 amount, except that when a return is filed after such time and it is shown 
 that the failure to file it was due to a reasonable cause and not to willful 
 neglect, no such addition shall be made to the tax. In case a false or 
 fraudulent return or list is wijlfully made, the Commissioner of Internal 
 Revenue shall add to the tax 50 per centum of its amount. 
 
 "The amount so added to any tax shall be collected at the same time and in 
 the same manner and as part of the tax unless the tax has been paid before 
 the discovery of the neglect, falsity, or fraud, in which case the amount so 
 added shall be collected in the same manner as the tax." 
 
 Sec. 1318. That if any person is summoned under this Act to appear, to 
 testify, or to produce books, papers or other data, the district court of the 
 United States for the district in which such person resides shall have juris- 
 diction by appropriate process to compel such attendance, testimony, or pro- 
 duction of books, papers, or other data. 
 
 The district courts of the United States at the instance of the United 
 States are hereby invested with such jurisdiction to make and issue, both 
 in actions at law and suits in equity, writs and orders of injunction, and of 
 ne exeat republica, orders appointing receivers, and such other orders and 
 process, and to render such judgments and decrees, granting in proper 
 cases both legal and equitable relief together, as may be necessary or 
 appropriate for the enforcement of the provisions of this Act. The rem- 
 edies hereby provided are in addition to and not exclusive of any and all 
 other remedies of the United States in such courts or otherwise to enforce 
 such provisions. 
 
 Sec. 1319. That whoever in connection vdth the sale or lease, or offer for 
 sale or lease, of any article, or for the purpose of making such sale or 
 lease, makes any statement, written or oral, (1) intended or calculated to 
 lead any person to believe that any part of the price at which such article 
 is sold or leased, or offered for sale or lease, consists of a tax imposed under 
 the authority of the United States, or (2) ascribing a particular part of 
 such price to a tax imposed under the authority of the United States, 
 knowing that such statement is false or that the tax is not so great as the 
 portion of such price ascribed to such tax, shall be guilty of a misdemeanor 
 and upon conviction thereof shall be punished by a fine of not more than 
 $1,000 or by imprisonment not exceeding one year, or both. 
 
 Sec. 1320. That wherever by the laws of the United States or regula- 
 tions made pursuant thereto, any person is required to furnish any recog- 
 nizance, stipulation, bond, guaranty, or undertaking hereinafter called 
 "penal bond," with surety or sureties, such person may, in lieu of such 
 surety or sureties, deposit as security with the official having authority 
 to approve such penal bond. United States Liberty bonds or other bonds 
 of the United States in a sum equal at their par value to the amount of 
 such penal bond required to be furnished, together with an agreement 
 authorizing such official to collect or sell such bonds so deposited in case of 
 any default in the performance of any of tbS' conditions or stipulations of 
 such penal bond. The acceptance of such United States bonds in lieu of 
 surety or sureties required by law shall have the same force and effect as 
 
REVENUE ACT OP 1918 1329 
 
 individual or corporate sureties, or certified checks, bank drafts, post-office 
 money orders, or cash, for the penalty or amount of such penal bond. The 
 bonds deposited hereunder, and such other United States bonds as may be 
 substituted therefor from time to time as such security, may be deposited 
 with the Treasurer, or an Assistant Treasurer of the United States, a 
 Government depositary, Federal Reserve bank, or member bank, which shall 
 issue receipt therefor, describing such bonds so deposited. As soon as 
 security for the performance of such penal bond is no longer necessary, such 
 bonds so deposited, shall be returned to the depositor : Provided, That in case 
 a person or persons supplying a contractor with labor or material as pro- 
 vided by the Act of Congress, approved February 24, 1905 (33 Stat., 811), 
 entitled "An Act to amend an Act approved August thirteenth, eighteen 
 hundred and ninety-four, entitled 'An Act for the protection of persons 
 furnishing materials and labor for the construction of public works,' " shall 
 file with the obligee, at any time after a default in the performance of any 
 contract subject to said Acts, the application and affidavit therein provided, 
 the obligee shall not deliver to the obligor the deposited bonds nor any sur- 
 plus proceeds thereof until the expiration of the time limited by said Acts for 
 the institution of suit by such person or persons, and, in case- suit shall be in- 
 stituted within such time, shall hold said bonds or proceeds subject to the or- 
 der of the court having jurisdiction thereof: Provided further, That nothing 
 herein contained shall affect or impair the priority of the claim of the United 
 States against the bonds deposited or any right or remedy granted by said 
 Acts or by this section to the United States for default upon any obligation 
 of said penal bond: Provided further. That all laws inconsistent with this 
 section are hereby so modified as to conform to the provisions hereof: And 
 provided further, That nothing contained herein shall affect the authority 
 of courts over the security, where such bonds are taken as security in 
 judicial proceedings, or the authority of any administrative officer of the 
 United States to receive United States bonds for security in cases au- 
 thorized by existing laws. The Secretary may prescribe rules and regula- 
 tions necessary and proper for carrying this section into effect. 
 
 TITLE XIV— GENERAL PROVISIONS 
 
 Sec. 1400. (a) That the following parts of Acts are hereby repealed, 
 subject to the limitations provided in subdivision (b) : 
 
 (1) The following titles of the Revenue Act of 1916: 
 Title I (called "Income Tax") ; 
 
 Title II (called "Estate Tax") ; 
 
 Title III (called "Munitions Manufacturers' Tax"), as amended; 
 
 Title IV (called "Miscellaneous Taxes") . 
 
 (2) The following parts of the Act entitled "An Act to provide increased 
 revenue to defray the expenses of the increased appropriations for the 
 Army and Navy and the extensions of fortifications, and for other pur- 
 poses," approved March 3, 1917: 
 
 Title III (called "Estate Tax") ; 
 
 Section 402 (called "Returns of Dividends") ; 
 
 (3) The following titles of the Revenue Act of 1917: 
 Title I (called "War Income Tax") ; 
 
 Title II (called "War Excess-Profits Tax") ; 
 Title III (called "War Tax on Beverages") ; 
 
 Title IV (called "War Tax on Cigars, Tobacco, and Manufactures There- 
 of") ; 
 
1330 APPENDIX 
 
 Title V (called "War Tax on Facilities Furnished by Public Utilities, 
 and Insurance") ; 
 
 Title VI (called "War Excise Taxes") ; 
 
 Title VII (called "War Tax on Admissions and Dues") ; 
 
 Title VIII (called "War Stamp Taxes") ; 
 
 Title IX (called "War Estate Tax") ; 
 
 Title X (called "Administrative Provisions") ; 
 
 Title XII (called "Income Tax Amendments"). 
 
 (b) Such parts of Acts shall remain in force for the assessment and col- 
 lection of all taxes which have accrued thereunder and for the imposition 
 and collection of all penalties or forfeitures which have accrued and may ac- 
 crue in relation to any such taxes, and except that the unexpended bal- 
 ance of any appropriation heretofore made and now available for the ad- 
 ministration of any such part of an Act shall be available for the ad- 
 ministration of this Act or the corresponding provision thereof: Provided, 
 That except as otherwise provided in this Act, no taxes shall be collected 
 under Title I of the Revenue Act of 1916 as amended by the Revenue Act 
 of 1917, or Title I or II of the Revenue Act of 1917, in respect to any 
 period after December 31, 1917: Provided further. That the assessment and 
 collection of all estate taxes, and the imposition and collection of all pen- 
 alties or forfeitures, which have accrued under Title II of the Revenue 
 Act of 1916 as amended by the Act entitled "An Act to provide increased 
 revenue to defray the expenses of the increased appropriations for the 
 Army and Navy and the extensions of fortifications, and for other pur- 
 poses," approved March 3, 1917, or Title IX of the Revenue Act of 1917, 
 shall be according to the provisions of Title IV of this Act. In the case of 
 any tax imposed by any part of an Act herein repealed, if there is a tax 
 imposed by this Act in lieu thereof, the provision imposing such tax shall 
 remain in force until the corresponding tax "under this Act takes effect 
 under the provisions of this Act. 
 
 Title I of the Revenue Act of 1916 as amended by the Revenue Act of 
 1917 shall remain in force for the assessment and collection of the income 
 tax in Porto Rico and the Philippine Islands, except as may be otherwise 
 provided by their respective legislatures. 
 
 Sec. 1401. That section 1100 of the Revenue Act of 1917 is hereby 
 repealed, to take effect on July 1, 1919, and thereafter the rate of postage 
 on all mail matter of the first class shall be the same as the rate in force 
 on October 2, 1917: Provided, That letters written and mailed by soldiers, 
 sailors, and marines assigned to duty in a foreign country engaged in the 
 present war may be mailed free of postage, subject to such rules and regu- 
 lations as may be prescribed by the Postmaster-General. 
 
 Section 1107 of such Act is hereby repealed, to take effect July 11, 1919. 
 
 Sec. 1402. That if any clause, sentence, paragraph, or part of this Act 
 shall for any reason be adjudged by any court of competent jurisdiction to 
 be invalid, such judgment shall not affect, impair, or invalidate the re- 
 mainder of this Act, but shall be confined in its operation to the clause, sen- 
 tence, paragraph, or part thereof directly involved in the controversy in 
 which such judgment has been rendered. 
 
 Sec. 1403. That the Revenue Act of 1916 is hereby amended by adding at 
 the end thereof a section to read as follows: 
 
 "Sec. 903. That th'is Act may be cited as the 'Revenue Act of 1916.' " 
 
 Sec. 1404. That the Revenue Act of 1917 is hereby amended by adding at 
 the end thereof a section to read as follows: 
 
REVENUE ACT OP 1918 1331 
 
 "Sec. 1303. That this Act may be cited as the 'Revenue Act of 1917.' " 
 Sec. 1405. That this Act may be cited as the "Revenue Act of 1918." 
 Sec. 1408. That every person who on or after April 6, 1917, has entered 
 into any contract, undertaking, or agreement, with the United States, or 
 with any department, bureau, ofRcer, commission, board, or agency under 
 the United States or acting in its behalf, or with any other person having 
 contract relations with the United States, for the performance of any work 
 or the supplying of any maiterials or property for the use of or for the ac- 
 count of the United States shall, within thirty days after a request of the 
 Commissioner therefor, file with the Commissioner a true and correct copy of 
 every such contract, undertaking, or agreement. 
 
 Whoever fails to comply with such request of the Commissioner shall be 
 guilty of a misdemeanor and shall be punished by a fine of not more than 
 $1,000, or by imprisonment for not more than one year or both. 
 
 The Commissioner shall (when not violative of the technical military or 
 naval secrets of the Government) have access to all information and data 
 relating to any such contract, undertaking, or agreement, in the possession, 
 control or custody of any department, bureau, board, agency, officer, or 
 commission of the United States, and may call upon any such departments, 
 bureau, board, agency, officer or commission for a full statement and de- 
 scription of any allowance for amortization, obsolescence, depreciation or 
 loss, or of any valuation, appraisal, adjustment or final settlement, made in 
 pursuance of any such contract, undertaking, or agreement. 
 
 Sec. 1409. That unless otherwise herein specially provided, this Act shall 
 take effect on the day following its passage. 
 
 ACT OF JUNE 13, 1898 (30 STAT. 454), AS AMENDED BY ACT OF 
 MARCH 2, 1901 (31 STAT. 940). i 
 
 Sec. 13. That any person or persons who shall register, issue, sell, or 
 transfer, or who shall cause to be issued, registered, sold, or transferred, 
 any instrument, document, or paper of any kind or description whatsoever 
 mentioned in Schedule A of this Act, without the same being duly stamped, 
 or having thereupon an adhesive stamp for denoting the tax chargeable 
 thereon, and canceled in the manner required by law with intent to evade 
 the provisions of this Act, shall be deemed guilty of a misdemeanor, and 
 upon conviction thereof shall be punished by a fine not exceeding fifty dol- 
 lars, or by imprisonment not exceeding six months, or both, in the dis- 
 cretion of the court; and such instrument, document, or paper, not being 
 stamped according to law, shall be deemed invalid and of no effect : Provided, 
 That hereafter, in all cases where the party has not affixed to any instru- 
 ment the stamp required by law thereon at the time of issuing, selling, or 
 transferring the said bonds, debentures, or certificates of stock or of in- 
 debtedness, or any instrument, document or paper of any kind or descrip- 
 tion whatsoever mentioned in Schedule A of this Act, and he or they, or any 
 party having an interest therein, shall be subsequently desirous of affixing 
 such stamp to said instrument, or, if said instrument be lost, to a copy 
 thereof, he or they shall appear before the collector of internal revenue 
 of the proper district, who shall, upon the payment of the price of the 
 proper stamp required by law, and of a penalty of ten dollars, and where 
 the whole amount of the tax denoted by the stamp required shall exceed the 
 sum of fifty dollars, on payment also of interest, at the rate of six per 
 
 * These provisions are referred to in Chapter 45 on the Stamp Tax. 
 
1332 APPENDIX 
 
 centum, on said tax from the day on which such stamp ought to have been 
 affixed, affix the proper stamp to such bond, debenture, certificate of stock 
 or of indebtedness or copy, or instrument, document, or paper of any kind or 
 description whatsoever mentioned in Schedule A of this Act, and note upon 
 the margin thereof the date of his so doing, and the fact that such penalty 
 has been paid; and the same shall thereupon be deemed and held to be as 
 valid, to all intents and purposes, as if stamped when made or issued: And 
 provided further, That where it shall appear to said collector, upon oath or 
 otherwise, to his satisfaction, that any such instrument has not been duly 
 stamped, at the time of making or issuing the same, by reason of accident, 
 mistake, inadvertence, or urgent necessity, and without any willfull design 
 to defraud the United States of the stamp, or to evade or delay the pay- 
 ment thereof, then and in such case, if such instrument, or, if the original 
 be lost, a copy thereof, duly certified by the officer having charge of any 
 records in which such original is required to be recorded or otherwise duly 
 proven to the satisfaction of the collector, shall, within twelve calendar 
 months after the making or issuing thereof, be brought to the said collector 
 of internal revenue to be stamped, and the stamp tax chargeable thereon 
 shall be paid, it shall be lawful for the said collector to remit the penalty 
 aforesaid and to cause such instrument to be duly stamped. And when the 
 original instrument, or a certified, or duly proven copy thereof, as afore- 
 said, duly stamped so as to entitle the same to be recorded, shall be pre- 
 sented to the clerk, register, recorder, or other officer having charge of the 
 original record it shall be lawful for such officer, upon the payment of the 
 fee legally chargeable for the recording thereof, to make a new record 
 thereof, or to note upon the original record the fact that the error or 
 omission in the stamping of said original instrument has been corrected 
 pursuant to law; and the original instrument or such certified copy, or the 
 record thereof, may be used ;n all courts and places in the same manner 
 and with like effect as if the instrument had been originally stamped: And 
 provided further, That in all cases where the party has not affixed the 
 stamp required by law upon any such instrument issued, registered, sold, or 
 transferred at a time when and at a place where no collection district was 
 established, it shall be lawful for him or them, or any party having an in- 
 terest therein, to affix the proper stamp thereto, or, if the original be lost, 
 to a copy thereof. But no right acquired in good faith before the stamping 
 of such instrument, or copy thereof, as herein provided, if such record be 
 required by law, shall in any manner be affected by such stamping as afore- 
 said. 
 
 Sec. 14. That hereafter no instrument, paper or document required by 
 law to be stamped, which has been signed or issued without being duly 
 stamped, or with a deficient stamp, nor any copy thereof, shall be recorded 
 or admitted, or used as evidence in any court until a legal stamp or stamps, 
 denoting the amount of tax, shall have been affixed thereto, as prescribed by 
 law: * * * 
 
 Sec. 15. That it shall not be lawful to record or register any instrument, 
 paper, or document required by law to be stamped unless a stamp or stamps 
 of the proper amount shall have been affixed and cancelled in the manner 
 prescribed by law; and the record, registry, or transfer of any such instru- 
 ments upon which the proper stamp or stamps aforesaid shall not have 
 been affixed and cancelled as aforesaid shall not be used in evidence. 
 
REVENUE ACT OF 1921 1 
 
 Public No. 98 — 67th Congress 
 
 AN ACT TO REDUCE AND EQUALIZE TAXATION, TO PROVIDE 
 REVENUE, AND FOR OTHER PURPOSES 
 
 Be it enacted by the Senate and House of Representatives of the United 
 States of America in Congress assembled, 
 
 TITLE I— GENERAL DEFINITIONS 
 
 Section 1. That this Act may be cited as the "Revenue Act of 1921." 
 Sec. 2. That when used in this Act — 
 
 (1) The term "person" includes partnerships and corporations, as well as 
 individuals ; 
 
 (2) The term "corporation" includes associations, joint-stock companies, 
 and insurance companies; 
 
 (3) The term "domestic" when applied to a corporation or partnership 
 means created or organized in the United States; 
 
 (4) The term "foreign" when applied to a corporation or partnership 
 means created or organized outside the United States; 
 
 (5) The term "United States" when used in a geographical sense includes 
 only the States, the Territories of Alaska and Hawaii, and the District of 
 Columbia ; 
 
 (6) The term "Secretary" means the Secretary of the Treasury; 
 
 (7) The term "Commissioner" means the Commissioner of Internal 
 Revenue ; 
 
 (8) The term "collector" means collector of internal revenue; 
 
 (9) The term "taxpayer" includes any person, trust or estate subject to a 
 tax imposed by this Act; 
 
 (10) The term "military or naval forces of the United States" includes 
 the Marine Corps, the Coast Guard, the Army Nurse Corps, Female, and the 
 Navy Nurse Corps, Female, but this shall not be deemed to exchide other 
 units otherwise included within such terms; and 
 
 (11) The term "Government contract" means (a) a contract made with 
 the United States, or with any department, bureau, officer, commission, 
 board, or agency, under the United States and acting in its behalf, or with 
 any agency controlled by any of the above if the contract is for the benefit 
 of the United States, or (b) a subcontract made with a contractor perform- 
 ing such a contract if the products or services to be furnished under the sub- 
 contract are for the benefit of the United States. The term "Government 
 contract or contracts made between April 6, 1917, and November 11, 1918, 
 both dates inclusive" when applied to a contract of the kind referred to in 
 clause (a) of this subdivision, includes all such contracts which, although 
 entered into during such period, were originally not enforceable, but which 
 have been or may become enforceable by reason of subsequent validation in 
 pursuance of law. 
 
 iQnly those parts of the Act which apply to the taxes treated In this hook 
 reprinted here. 
 
 1333 
 
1334 APPENDIX 
 
 TITLE II— INCOME TAX 
 Part I — General Provisions 
 
 DEFINITIONS 
 
 Sec. 200. That when used in this title — - 
 
 (1) The term "taxable year" means the calendar year, or the fiscal year 
 ending during such calendar year, upon the basis of which the net income 
 is computed under section 212 or section 232. The term "fiscal year'' means 
 an accounting period of twelve months ending on the last day of any month 
 other than December. The first taxable year, to be called the taxable year 
 1921, shall be the calendar year 1921 or any fiscal year ending during the 
 calendar year 1921; 
 
 (2) The term "fiduciary" means a guardian, trustee, executor, adminis- 
 trator, receiver, conservator, or any person acting in any fiduciary capacity 
 for any person, trust or estate; 
 
 (3) The term "withholding agent" means any person required to deduct 
 and withhold any tax under the provisions of section 221 or section 237; 
 
 (4) The term "paid," for the purposes of the deductions and credits under 
 this title, means "paid or accrued" or "paid or incurred," and the terms 
 "paid or incurred" and "paid or accrued" shall be construed according to 
 the method of accounting upon the basis of which the net income is com- 
 puted under section 212; and 
 
 (5) The term "personal service corporation" means a corporation whose 
 income is to be ascribed primarily to the activities of the principal ovraiers 
 or stockholders who are themselves regularly engaged in the active conduct 
 of the affairs of the corporation and in which capital (whether invested or 
 borrowed) is not a material income-producing factor; but does not include 
 any foreign corporation, nor any corporation 50 per centum or more of 
 whose gross income consists either (1) of gains, profits, or income derived 
 from trading as a principal, or (2) of gains, profits, commissions, or other 
 income, derived from a Government contract or contracts made between 
 April 6, 1917, and November 11, 1918, both dates inclusive. 
 
 DIVIDENDS 
 
 Sec. 201. (a) That the term "dividend" when used in this title (except in 
 paragraph (10) of subdivision (a) of section 234 and paragraph (4) of sub- 
 division (a) of section 245) means any distribution made by a corporatioii 
 to its shareholders or members, whether in cash or in other property, out of 
 its earnings or profits accumulated since February 28, 1913, except a distri- 
 bution made by a personal service corporation out of earnings or profits 
 accumulated since December 31, 1917, and prior to January 1, 1922. 
 
 (b) For the purposes of this Act every distribution is made out of earn- 
 ings or profits, and from the most recently accumulated earnings or profits, 
 to the extent of such earnings or profits accumulated since February 28, 
 1913; but any earnings or profits accumulated or increase in value of prop- 
 erty accrued prior to March 1, 1913, may be distributed exempt from the 
 tax, after the earnings and profits accumulated since February 28, 1913, 
 have been distributed. If any such tax-free distribution has been made the 
 distributee shall not be allowed as a deduction from gross income any loss 
 sustained from the sale or other disposition of his stock or shares unless, and 
 then only to the extent that, the basis provided in section 202 exceeds the 
 sum of (1) the amount realized from the sale or other disposition of such 
 
REVENUE ACT OF 1921 1335 
 
 stock or shares, and (2) the aggregate amount of such distributions received 
 by him thereon. 
 
 (c) Any distribution (whether in cash or other property) made by a cor- 
 poration to its shareholders or members otherwise than out of (1) earnings 
 or profits accumulated since February 28, 1913, or (2) earnings or profits 
 accumulated or increase in value of property accrued prior to March 1, 1913, 
 shall be applied against and reduce the basis provided in section 202 for the 
 purpose of ascertaining the gain derived or the loss sustained from the sale 
 or other disposition of the stock or shares by the distributee. 
 
 (d) A stock dividend shall not be subject to tax but if after the distribu- 
 tion of any such dividend the corporation proceeds to cancel or redeem its 
 stock at such time and in such manner as to make the distribution and can- 
 cellation or redemption essentially equivalent to the distribution of a taxable 
 dividend, the amount received in redemption or cancellation of the stock shall 
 be treated as a taxable dividend to the extent of the earnings or profits accu- 
 mulated by such corporation after February 28, 1913. 
 
 (e) For the purposes of this Act, a taxable distribution made by a cor- 
 poration to its shareholders or members shall be included in the gross income 
 of the distributees as of the date when the cash or other property is unquali- 
 fiedly made subject to their demands. 
 
 (f) Any distribution made during the first sixty days of any taxable 
 year shall be deemed to have been made from earnings or profits accumu- 
 lated during preceding taxable years ; but any distribution made during the 
 remainder of the taxable year shall be deemed to have been made from 
 earnings or profits accumulated between the close of the preceding taxable 
 year and the date of distribution, to the extent of such earnings or profits, 
 and if the books of the corporation do not show the amount of such earnings 
 or profits, the earnings or profits for the accounting period within which the 
 distribution was made shall be deemed to have been accumulated ratably 
 during such period. This subdivision shall not be in effect after December 
 31, 1921. 
 
 BASIS FOR DETERMINING GAIN OR LOSS 
 
 Sec. 202. (a) That the basis for ascertaining the gain derived or loss 
 sustained from a sale or other disposition of property, real, personal, or 
 mixed,, acquired after February 28, 1913, shall be the cost of such property; 
 except that — 
 
 (1) In the case of such property, which should be included in the inven- 
 tory, the basis shall be the last inventory value thereof; 
 
 (2) In the case of such property, acquired by gift after December 31, 
 1920, the basis shall be the same as that which it would have in the hands of 
 the donor or the last preceding owner by whom it was not acquired by gift. 
 If the facts necessary to determine such basis are unknovsm to the donee, the 
 Commissioner shall, if possible, obtain such facts from such donor or last 
 preceding owner, or any other person cognizant thereof. If the Commis- 
 sioner finds it impossible to obtain such facts, the basis shall be the value 
 of such property as found by the Commissioner as of the date or approxi- 
 mate date at which, according to the best information the Commissioner is 
 able to obtain, such property was acquired by such donor or last preceding 
 owner. In the case of such property acquired by gift on or before December 
 31, 1920, the basis for ascertaining gain or loss from a sale or other dis- 
 position thereof shall be the fair market price or value of such property at 
 the time of such acquisition ; 
 
1336 APPENDIX 
 
 (3) In the case of such property, acquired by bequest, devise, or inherit- 
 ance, the basis shall be the fair market price or value of such property at 
 the time of such acquisition. The provisions of this paragraph shall apply 
 to the acquisition of such property interests as are specified in subdivision 
 (c) or (e) of section 402. 
 
 (b) The basis for ascertaining the gain derived or loss sustained from the 
 sale or other disposition of property, real, personal, or mixed, acquired be- 
 fore March 1, 1913, shall be the same as that provided by subdivision (a) ; 
 but— 
 
 (1) If its fair market price or value as of March 1, 1913, is in excess of 
 such basis, the gain to be included in the gross income shall be the excess of 
 the amount realized therefor over such fair market price or value; 
 
 (2) If its fair market price or value as of March 1, 1913, is lower than 
 such basis, the deductible loss is the excess of the fair market price or value 
 as of March 1, 1913, over the amount realized therefor; and 
 
 (3) If the amount realized therefor is more than such basis but not more 
 than its fair market price or value as of March 1, 1913, or less than such 
 basis but not less than such fair market price or value, no gain shall be in- 
 cluded in and no loss deducted from the gross income. 
 
 (c) For the purposes of this title, on an exchange of property, real, per- 
 sonal or mixed, for any other such property, no gain or loss shall be recog- 
 nized unless the property received in exchange has a readily realizable 
 market value; but even if the property received in exchange has a readily 
 realizable market value, no gain or loss shall be recognized — 
 
 (1) When any such property held for investment, or for productive use 
 in trade or business (not including stock-in-trade or other property held 
 primarily for sale) , is exchanged for property of a like kind or use ; 
 
 (2) When in the reorganization of one or more corporations a person 
 receives in place of any stock or securities owned by him, stock or securities 
 in a corporation a party to or resulting from such reorganization. The 
 word "reorganization," as used in this paragraph, includes a merger or 
 consolidation (including the acquisition by one corporation of at least a 
 majority of the voting stock and at least a majority of the total number of 
 shares of all other classes of stock of another corporation, or of substantially 
 all the properties of another corporation), recapitalization, or mere change 
 in identity, form, or place of organization of a corporation, (however 
 effected) ; or 
 
 (3) When (A) a person transfers any property, real, personal or mixed, 
 to a corporation, and immediately after the transfer is in control of such 
 corporation, or (B) two or more persons transfer any such property to a 
 corporation, and immediately after the transfer are in control of such cor- 
 poration, and the amounts of stock, securities, or both, received by such per- 
 sons are in substantially the same proportion as their interests in the prop- 
 erty before such transfer. For the purposes of this paragraph, a person is, 
 or two or more persons are, "in control" of a corporation when owning at 
 least 80 per centum of the voting stock and at least 80 per centum of the 
 total number of shares of all other classes of stock of the corporation. 
 
 (d) (1) Where property is exchanged for other property and no gain or 
 loss is recognized under the provisions of subdivision (c), the property re- 
 ceived shall, for the purposes of this section, be treated as taking the place 
 of the property exchanged therefor, except as provided in subdivision (e) ; 
 
 (2) Where property is compulsorily or involuntarily converted into cash 
 or its equivalent in the manner described in paragraph (12) of subdivision 
 
REVENUE ACT OF 1921 1337 
 
 (a) of section 214 and paragraph (14) of subdivision (a) of section 234, and 
 the taxpayer proceeds in good faith to expend or set aside the proceeds of 
 such conversion 4n the form and in the manner therein provided, the prop- 
 erty acquired shall, for the purpose of this section, be treated as taking the 
 place of a like proportion of the property converted. 
 
 (3) Where no deduction is allowed for a loss or a part thereof under the 
 provisions of paragraph (5) of subdivision (a) of section 214 and paragraph 
 (4) of subdivision (a) of section 234, that part of the property acquired 
 with relation to which such loss is disallowed shall for the purposes of this 
 section be treated as taking the place of the property sold or disposed of. 
 
 (e) Where property is exchanged for other property which has no readily 
 realizable market value, together with money or other property which has a 
 readily realizable market value, then the money or the fair market value 
 of the property having such readily realizable market value 
 received in exchange shall be applied against and reduce the basis, provided 
 in this section, of the property exchanged, and if in excess of such basis, 
 shall be taxable to the extent of the excess ; but when property is exchanged 
 for property specified in paragraphs (1), (2), and (3) of subdivision (c) 
 as received in exchange, together with money or other property of a readily 
 realizable market value other than that specified in such paragraphs, the 
 money or the fair market value of such other property received in exchange 
 shall be applied against and reduce the basis, provided in this section, of 
 the property exchanged, and if in excess of such basis, shall be taxable to 
 the extent of the excess. 
 
 (f ) Nothing in this section shall be construed to prevent (in the case of 
 property sold under contract providing for payment in installments) the 
 taxation of that portion of any installment payment representing gain or 
 profit in the year in which such payment is received. 
 
 INVENTORIES 
 
 Sec. 203. That whenever in the opinion of the Commissioner the use of 
 inventories is necessary in order clearly to determine the income of any 
 taxpayer, inventories shall be taken by such taxpayer upon such basis as the 
 Commissioner, with the approval of the Secretary, may prescribe as con- 
 forming as nearly as may be to the best accounting practice in the trade or 
 business and as most clearly reflecting the income. 
 
 NET LOSSES 
 
 Sec. 204. (a) That as used in this section the term "net loss" means only 
 net losses resulting from the operation of any trade or business regularly 
 carried on by the taxpayer (including losses sustained from the sale or other 
 disposition of real estate, machinery, and other capital assets, used in the 
 conduct of such trade or business) ; and when so resulting means the excess 
 of the deductions allowed by section 214 or 234, as the case may be, over the 
 sum of the following: (1) the gross income of the taxpayer for the taxable 
 year, (2) the amount by which the interest received free from taxation 
 under this title exceeds so much of the interest paid or accrued within the 
 taxable year on indebtedness as is not permitted to be deducted by paragraph 
 (2) of subdivision (a) of section 214 or by paragraph (2) of subdivision (a) 
 of section 234, (3) the amount by which the deductible losses not sustained 
 in such trade or business exceed the taxable gains or profits not derived from 
 such trade or business, (4) amounts received as dividends and allowed as a 
 
1338 APPENDIX 
 
 deduction under paragrraph (6) of subdivision (a) of section 234, and (5) 
 so much of the depletion deduction allowed with respect to any mine, oil or 
 gas well as is based upon discovery value in lieu of cost. 
 
 (b) If for any taxable year beginning after December 31, 1920, it appears 
 upon the production of evidence satisfactory to the Commissioner that any 
 taxpayer has sustained a net loss, the amount thereof shall be deducted from 
 the net income of the taxpayer for the succeeding taxable year; and if such 
 net loss is in excess of the net income for such succeeding taxable year, the 
 amount of such excess shall be allowed as a deduction in computing the net 
 income for the next succeeding taxable year; the deduction in all cases to 
 be made under regulations prescribed by the Commissioner with the approval 
 of the Secretary. 
 
 (c) The benefit of this section shall be allowed to the members of a part- 
 nership and the beneficiaries of an estate or trust, and to insurance com- 
 panies subject to the tax imposed by section 243 or 246, under regulations 
 prescribed by the Commissioner with the approval of the Secretary. 
 
 (d) If it appears, upon the production of evidence satisfactory to the 
 Commissioner, that a taxpayer having a fiscal year beginning in 1920 and 
 ending in 1921 has sustained a net loss during such fiscal year, such taxpayer 
 shall be entitled to the benefits of this section in respect to the same pro- 
 portion of such net loss which the portion of sucb fiscal year falling within 
 the calendar year 1921 is of the entire fiscal year. 
 
 FISCAL YEARS 1920-1921 AND 1921-1922 
 
 Sec. 205. (a) That if a taxpayer makes return for a fiscal year beginning 
 in 1920 and ending in 1921, his tax under this title for the taxable year 1921 
 shall be the sum of: (1) the same proportion of a tax for the entire period 
 computed under Title II of the Revenue Act of 1918 at the rates for the cal- 
 endar year 1920 which the portion of such period falling within the calendar 
 year 1920 is of the entire period, and (2) the same proportion of a tax for 
 the entire period computed under this title at the rates for the calendar year 
 1921, which the portion of such period falling within the calendar year 1921 
 is of the entire period. 
 
 Any amount paid before or after the passage of this Act on account of the 
 tax imposed for such fiscal year by Title II of the Revenue Act of 1918 shall 
 be credited toward the payment of the tax imposed for such fiscal year by 
 this Act, and if the amount so paid exceeds the amount of such tax imposed 
 by this Act, the excess shall be credited or refunded in accordance with the 
 provisions of section 252. 
 
 (b) If a taxpayer makes return for a fiscal year beginning in 1921 and 
 ending in 1922, his tax under this title for the taxable year 1922 shall be the 
 sum of: (1) the same proportion of a tax for the entire period computed 
 under this title (as in force on December 31, 1921) at the rates for the cal- 
 endar year 1921 which the portion of such period falling within the calendar 
 year 1921 is of the entire period, and (2) the same proportion of a tax for 
 the entire period computed under this title (as in force on January 1, 1922) 
 at the rates for the calendar year 1922 which the portion of such period fall- 
 ing within the calendar year 1922 is of the entire period: Provided, That in 
 the case of a personal service corporation the amount to be paid shall be 
 only that specified in clause (2). 
 
 (c) If a fiscal year of a partnership begins in 1920 and ends in 1921, or 
 begins in 1921 and ends in 1922, then (1) the rates for the calendar year 
 during which such fiscal year begins shall apply to an amount of each part- 
 
REVENUE ACT OF 1921 1339 
 
 ner's share of such partnership net income (determined under the law 
 applicable to such year) equal to the proportion which the part of such fiscal 
 year falling within such calendar year bears to the full fiscal year, and (2) 
 the rates for the calendar year during which such fiscal year ends shall 
 apply to an amount of each partner's share of such partnership net income 
 (determined under the law applicable to such calendar year) equal to the 
 proportion which the part of such fiscal year falling within such calendar 
 year bears to the full fiscal year. 
 
 CAPITAL GAIN 
 
 Sec. 206. (a) That for the purpose of this title: 
 
 (1) The term "capital gain" means taxable gain from the sale or ex- 
 change of capital assets consummated after December 31, 1921; 
 
 (2) The term "capital loss" means deductible loss resulting from the sale 
 or exchange of capital assets consummated after December 31, 1921 ; 
 
 (3) The term "capital deductions" means such deductions as are allowed 
 under this title for the purpose of computing net income and are properly 
 allocable to or chargeable against items of capital gain as defined in this 
 section ; 
 
 (4) The term "capital net gain" means the excess of the total amount of 
 capital gain over the sum of the capital deductions and capital losses; 
 
 (5) The term "ordinary net income" means the net income, computed in 
 accordance with the provisions of this title, after excluding all items of 
 capital gain, capital loss, and capital deductions; and 
 
 (6) The term "capital assets" as used in this section means property 
 acquired and held by the taxpayer for profit or investment for more than 
 two years (whether or not connected with his trade or business), but does 
 not include property held for the personal use or consumption of the tax- 
 payer or his family, or stock in trade of the taxpayer or other property of a 
 kind which would properly be included in the inventory of the taxpayer if 
 on hand at the close of the taxable year. 
 
 (b) In the case of any taxpayer (other than a corporation) who for any 
 taxable year derives a capital net gain, there shall (at the election of the 
 taxpayer) be levied, collected and paid, in lieu of the taxes imposed by 
 sections 210 and 211 of this title, a tax determined as follows : 
 
 A partial tax shall first be computed upon the basis of the ordinary net 
 income at the rates and in the manner provided in sections 210 and 211, and 
 the total tax shall be this amount plus 12i per centum of the capital net 
 gain; but if the taxpayer elects to be taxed under this section the total tax 
 shall in no such case be less than 121 per centum of the total net income. 
 The total tax thus determined shall be computed, collected and paid in the 
 same manner, at the same time and subject to the same provisions of law, 
 including penalties, as other taxes under this title. 
 
 (c) In the case of a partnership or of an estate or trust, the proper part 
 of each share of the net income which consists, respectively, of ordinary net 
 income and capital net gain, shall be determined under rules and regulations 
 to be prescribed by the Commissioner vdth the approval of the Secretary, 
 and shall be separately shown in the return of the partnership or estate or 
 trust, and shall be taxed to the member or beneficiary or to the estate or 
 trust as provided in sections 218 and 219, but at the rates and in the manner 
 provided in subdivision (b) of this section. 
 
1340 APPENDIX 
 
 Part II — Individuals 
 
 NORMAL TAX 
 
 Sec. 210. That, in lieu of the tax imposed by section 210 of the Revenue 
 Act of 1918, there shall be levied, collected, and paid for each taxable year 
 upon the net income of every individual a normal tax of 8 per centum of the 
 amount of the net income in excess of the credits provided in section 216: 
 Provided, That in the case of a citizen or resident of the United States the 
 rate upon the first $4,000 of such excess amount shall be 4 per centum. 
 
 SURTAX 
 
 Sec. 211. (a) That, in lieu of the tax imposed by section 211 of the Reve- 
 nue Act of 1918, but in addition to the normal tax imposed by section 210 
 of this act, there shall be levied, collected, and paid for each taxable year 
 upon the net income of every individual — 
 
 (1) For the calendar year 1921, a surtax equal to the sum of the following: 
 
 1 per centum of the amount by which the net income exceeds $5,000 and 
 does not exceed $6,000; 
 
 2 per centum of the amount by which the net income exceeds $6,000 and 
 does not exceed $8,000; 
 
 3 per centum of the amount by which the net income exceeds $8,000 and 
 does not exceed $10,000; 
 
 4 per centum of the amount by which the net income exceeds $10,000 and 
 does not exceed $12,000; 
 
 5 per centum of the amount by which the net income exceeds $12,000 and 
 does not exceed $14,000; 
 
 6 per centum of the amount by which the net income exceeds $14,000 and 
 does not exceed $16,000; 
 
 7 per centum of the amount by which the net income exceeds $16,000 and 
 does not exceed $18,000; 
 
 8 per centum of the amount by which the net income exceeds $18,000 and 
 does not exceed $20,000; 
 
 9 per centum of the amount by which the net income exceeds $20,000 and 
 does not exceed $22,000; 
 
 10 per centum of the amount by which the net income exceeds $22,000 and 
 does not exceed $24,000; 
 
 11 per centum of the amount by which the net income exceeds $24,000 and 
 does not exceed $26,000; 
 
 12 per centum of the amount by which the net income exceeds $26,000 and 
 does not exceed $28,000; 
 
 13 per centum of the amount by which the net income exceeds $28,000 and 
 does not exceed $30,000; 
 
 14 per centum of the amount by which the net income exceeds $30,000 and 
 does not exceed $32,000; 
 
 15 per centum of the amount by which the net income exceeds $32,000 and 
 does not exceed $34,000; 
 
 16 per centum of the amount by which the net income exceeds $34,000 and 
 does not exceed $36,000; 
 
 17 per centum of the amount by which the net income exceeds $36,000 and 
 does not exceed $38,000; 
 
 18 per centum of the amount by which the net income exceeds $38,000 and 
 does not exceed $40,000; 
 
REVENUE ACT OF 1921 I341 
 
 19 per centum of the amount by which the net income exceeds $40,000 and 
 does not exceed $42,000; 
 
 20 per centum of the amount by which the net Income exceeds $42,000 and 
 does not exceed $44,000; 
 
 21 per Centura of the amount by which the net income exceeds $44,000 and 
 does not exceed $46,000; 
 
 22 per centum of the amount by which the net income exceeds $46,000 and 
 does not exceed $48,000; 
 
 23 per centum of the amount by which the net income exceeds $48,000 and 
 does not exceed $50,000; 
 
 24 per centum of the amount by which the net income exceeds $50,000 and 
 does not exceed $52,000; 
 
 ' 25 per centum of the amount by which the net income exceeds $52,000 and 
 does not exceed $54,000; 
 
 26 per centum of the amount by which the net income exceeds $54,000 and 
 does not exceed $56,000; 
 
 27 per centum of the amount by which the net income exceeds $56,000 and 
 does not exceed $58,000; 
 
 28 per centum of the amount by which the net income exceeds $58,000 and 
 does not exceed $60,000; 
 
 29 per centum of the amount by which the net income exceeds $60,000 and 
 does not exceed $62,000; 
 
 30 per centum of the amount by which the net income exceeds $62,000 and 
 does not exceed $64,000; 
 
 31 per centum of the amount by which the net income exceeds $64,000 and 
 does not exceed $66,000; » 
 
 32 per centum of the amount by which the net income exceeds $66,000 and 
 does not exceed $68,000; 
 
 33 per centum of the amount by which the net income exceeds $68,000 and 
 does not exceed $70,000; 
 
 34 per centum of the amount by which the net income exceeds $70,000 and 
 does not exceed $72,000; 
 
 35 per centum of the amount by which the net income exceeds $72,000 and 
 does not exceed $74,000; 
 
 36 per centum of the amount by which the net income exceeds $74,000 and 
 does not exceed $76,000; 
 
 37 per centum of the amount by which the net income exceeds $76,000 and 
 does not exceed $78,000; 
 
 38 per centum of the amount by which the net income exceeds $78,000 and 
 does not exceed $80,000; 
 
 39 per centum of the amount by which the net income exceeds $80,000 and 
 does not exceed $82,000; 
 
 40 per centum of the amount by which the net income exceeds $82,000 and 
 does not exceed $84,000; 
 
 41 per centum of the amount by which the net income exceeds $84,000 and 
 does not exceed $86,000; 
 
 42 per centum of the amount by which the net income exceeds $86,000 and 
 does not exceed $88,000; 
 
 43 per centum of the amount by which the net income exceeds $88,000 and 
 does not exceed $90,000; 
 
 44 per centum of the amount by which the net income exceeds $90,000 and 
 does not exceed $92,000; 
 
1342 APPENDIX 
 
 45 per centum of the amount by which the net income exceeds $92,000 and 
 does not exceed $94,000 ; 
 
 46 per centum of the amount by which the net income exceeds $94,000 and 
 does not exceed $96,000; 
 
 47 per centum of the amount by which the net income exceeds $96,000 and 
 does not exceed $98,000; 
 
 48 per centum of the amount by which the net income exceeds $98,000 and 
 does not exceed $100,000; 
 
 62 per centum of the amount by which the net income exceeds $100,000 
 and does not exceed $150,000; 
 
 56 per centum of the amount by which the net income exceeds $150,000 
 and does not exceed $200,000; 
 
 60 per centum of the amount by which the net income exceeds $200,000 
 and does not exceed $300,000; 
 
 63 per centum of the amount by which the net income exceeds $300,000 
 and does not exceed $500,000; 
 
 64 per centum of the amount by which the net income exceeds $500,000 
 and does not exceed $1,000,000; 
 
 65 per centum of the amount by which the net income exceeds $1,000,000; 
 (2) For the calendar year 1922 and each calendar year thereafter, a sur- 
 tax equal to the sum of the following: 
 
 1 per centum of the amount by which the net income exceeds $6,000 and 
 does not exceed $10,000; 
 
 2 per centum of the amount by which the net income exceeds $10,000 and 
 does not exceed $12,000; 
 
 3 per centum of the amount by which the net income exceeds $12,000 and 
 does not exceed $14,000; 
 
 4 per centum of the amount by which the net income exceeds $14,000 and 
 does not exceed $16,000; 
 
 5 per centum of the amount by which the net income exceeds $16,000 and 
 does not exceed $18,000; 
 
 6 per centum of the amount by which the net income exceeds $18,000 and 
 does not exceed $20,000; 
 
 8 per centum of the amount by which the net income exceeds $20,000 and 
 does not exceed $22,000; 
 
 9 per centum of the amount by which the net income exceeds $22,000 and 
 does not exceed $24,000; 
 
 10 per centum of the amount by which the net income exceeds $24,000 and 
 does not exceed $26,000; 
 
 11 per centum of the amount by which the net income exceeds $26,000 and 
 does not exceed $28,000; 
 
 12 per centum of the amount by which the net income exceeds $28,000 and 
 does not exceed $30,000; 
 
 13 per centum of the amount by which the net income exceeds $30,000 and 
 does not exceed $32,000; 
 
 15 per centum of the amount by which the net income exceeds $32,000 and 
 does not exceed $36,000; 
 
 16 per centum of the amount by which the net income exceeds $36,000 and 
 does not exceed $38,000; 
 
 17 per centum of the amount by which the net income exceeds $38,000 and 
 does not €xceed $40,000 ; 
 
 18 per centum of the amount by which the net income exceeds $40,000 and 
 does not exceed $42,000; 
 
REVENUE ACT OP 1921 
 
 1343 
 
 19 per centum of the amount by which 
 does not exceed $44,000; 
 
 20 per centum of the amount by which 
 does not exceed $46,000; 
 
 21 per centum of the amount by which 
 does not exceed $48,000; 
 
 22 per centum of the amount by which 
 does not exceed $50,000; 
 
 23 per centum of the amount by which 
 does not exceed $52,000; 
 
 24 per centum of the amount by which 
 does not exceed $54,000; 
 
 25 per centum of the amount by which 
 does not exceed $56,000; 
 
 26 per centum of the amount by which 
 does not exceed $58,000; 
 
 27 per centum of the amount by which 
 does not exceed $60,000; 
 
 28 per centum of the amount by which 
 does not exceed $62,000; 
 
 29 per centum of the amount by which 
 does not exceed $64,000; 
 
 30 per centum of the amount by which 
 does not exceed $66,000; 
 
 31 per centum of the amount by which 
 does not exceed $68,000; 
 
 32 per centum of the amount by which 
 does not exceed $70,000; 
 
 33 per centum of the amount by which 
 does not exceed $72,000; 
 
 34 per centum of the amount by which 
 does not exceed $74,000; 
 
 35 per centum of the amount by which 
 does not exceed $76,000; 
 
 36 per centum of the amount by which 
 does not exceed $78,000; 
 
 37 per centum of the amount by which 
 does not exceed $80,000; 
 
 38 per centum of the amount by which 
 does not exceed $82,000; 
 
 39 per centum of the amount by which 
 does not exceed $84,000; 
 
 ■ 40 per centum of the amount by which 
 does not exceed $86,000; 
 
 41 per centum of the amount by which 
 does not exceed $88,000; 
 
 42 per centum af the amount by which 
 does not exceed $90,000 ; 
 
 43 per centum of the amount by which 
 does not exceed $92,000; 
 
 44 per centum of the amount by which 
 does not exceed $94,000 ; 
 
 the net 
 
 income exceeds $42,000 and 
 
 the net income exceeds $44,000 and 
 
 the net 
 the net 
 the net 
 the net 
 the net 
 
 income exceeds $46,000 and 
 income exceeds $48,000 and 
 income exceeds $50,000 and 
 income exceeds $52,000 and 
 income exceeds $54,000 and 
 
 the net income exceeds $56,000 and 
 
 the net 
 
 the net 
 the net 
 
 income exceeds $58,000 and 
 income exceeds $60,000 and 
 income exceeds $62,000 and 
 
 the net income exceeds $64,000 and 
 the net income exceeds $66,000 and 
 the net income exceeds $68,000 and 
 the net income exceeds $70,000 and 
 the net income exceeds $72,000 and 
 the net income exceeds $74,000 and 
 the net income exceeds $76,000 and 
 the net income exceeds $78,000 and 
 the net income exceeds $80,000 and 
 the net income exceeds $82,000 and 
 the.net income exceeds $84,000 and 
 the net income exceeds $86,000 and 
 the net income exceeds $88,000 and 
 the net income exceeds $90,000 and 
 the net income exceeds $92,000 and 
 
1344 APPENDIX 
 
 45 per centum of the amount by which the net Income exceeds $94,000 and 
 does not exceed $96,000; 
 
 46 per centum of the amount by which the net income exceeds $96,000 and 
 does not exceed $98,000; 
 
 47 per centum of the amount by which the net income exceeds $98,000 and 
 does not exceed $100,000 ; 
 
 48 per centum of the amount by which the net income exceeds $100,000 
 and does not exceed $150,000; 
 
 49 per centum of the amount by which the net income exceeds $150,000 
 and does not exceed $200,000; 
 
 50 per centum of the amount by which the net income exceeds $200,000. 
 
 (b) In the case of a bona fide sale of mines, oil or gas wells, or any inter- 
 est therein, where the principal value of the property has been demonstrated 
 by prospecting or exploration and discovery work done by the taxpayer, the 
 portion of the tax imposed by this section attributable to such sale shall not 
 exceed, for the calendar year 1921, 20 per centum, and for each calendar 
 year thereafter 16 per centum, of the selling price of such property or 
 interest. 
 
 NET INCOME OP INDIVIDUALS DEFINED 
 
 Sec. 212. (a) That in the case of an individual the term "net income" 
 means the gross income as defined in section 213, less the deductions allowed 
 by section 214. 
 
 (b) The net income shall be computed upon the basis of the taxpayer's 
 annual accounting period (fiscal year or calendar year, as the case may be) 
 in accordance with the method of accounting regularly employed in keeping 
 the books of such taxpayer ; but if no such method of accounting has been so 
 employed, or if the method employed does not clearly reflect the income, the 
 computation shall be made upon such basis and in such manner as in the 
 opinion of the Commissioner does clearly reflect the income. If the tax- 
 payer's annual accounting period is other than a fiscal year as defined in 
 section 200 or if the taxpayer has no annual accounting period or does not 
 keep books, the net income shall be computed on the basis of the calendar 
 year. 
 
 (c) If a taxpayer changes his accounting period from fiscal year to cal- 
 endar year, from calendar year to fiscal year, or from one fiscal year to 
 another, the net income shall, with the approval of the Commissioner, be 
 computed on the basis of such new accounting period, subject to the pro- 
 visions of section 226. 
 
 GROSS INCOME DEFINED 
 
 Sec. 213. That for the purposes of this title (except as otherwise provided 
 in section 233) the term "gross income" — 
 
 (a) Includes gains, profits, and income derived from salaries, wages, or 
 compensation for personal service (including in the case of the President of 
 the United States, the judges of the Supreme and inferior courts of the 
 United States, and all other officers and employees, whether elected or ap- 
 pointed, of the United States, Alaska, Hawaii, or any jfolitical subdivision 
 thereof, or the District of Columbia, the compensation received as such), of 
 whatever kind and in whatever form paid, or from professions, vocations, 
 trades, businesses, commerce, or sales, or dealings in property, whether real 
 or personal, growing out of the ownership or use of or interest in such prop- 
 erty; also from interest, rent, dividends, securities, or the transaction of any 
 
REVENUE ACT OF 1921 1345 
 
 business carried on for gain or profit, or gains or profits and income derived 
 from any source whatever. The amount of all such items (except as pro- 
 vided in subdivision (e) of section 201) shall be included in the gross income 
 for the taxable year in which received by the taxpayer, unless, under meth- 
 ods of accounting permitted under subdivision (b) of section 212, any such 
 amounts are to be properly accounted for as of a different period; but 
 
 (b) Does not include the following items, which shall be exempt from 
 taxation under this title: 
 
 (1) The proceeds of, life insurance policies paid upon the death of the 
 insured ; 
 
 (2) The amount received by the insured as a return of premium or pre- 
 miums paid by him under life insurance, endowment, or annuity contracts, 
 either during the term or at the maturity of the term mentioned in the con- 
 tract or upon surrender of the contract; 
 
 (3) The value of property acquired by gift, bequest, devise, or descent 
 (but the income from such property shall be included in gross income) ; 
 
 (4) Interest upon (a) the obligations of a State, Territory, or any politi- 
 cal subdivision thereof, or the District of Columbia; or (b) securities issued 
 under the provisions of the Federal Farm Loan Act of July 17, 1916; or (c) 
 the obligations of the United States or its possessions; or (d) bonds issued 
 by the War Finance Corporation. In the case of obligations of the United 
 States issued after September 1, 1917 (other than postal savings certificates 
 of deposit) , and in the case of bonds issued by the War Finance Corporation, 
 the interest shall be exempt only if and to the extent provided in the re- 
 spective Acts authorizing the issue thereof as amended and supplemented, 
 and shall be excluded from gross income only if and to the extent it is wholly 
 exempt to the taxpayer from income, war-profits and excess-profits taxes ; 
 
 (5) The income of foreign governments received from investments in the 
 United States in stocks, bonds, or other domestic securities, owned by such 
 foreign governments, or from interest on deposits in banks in the United 
 States of moneys belonging to such foreign governments, or from any other 
 source within the United States; 
 
 (6) Amounts received, through accident or health insurance or under 
 workmen's compensation acts, as compensation for personal injuries or sick- 
 ness, plus the amount of any damages received whether by suit or agree- 
 ment on account of such injuries or sickness; 
 
 (7) Income derived from any public utility or the exercise of any essential 
 governmental function and accruing to any State, Territory, or the District 
 of Columbia, or any political subdivision of a State or Territory, or income 
 accruing to the government of any possession of the United States, or any 
 political subdivision thereof. 
 
 Whenever any State, Territory, or the District of Columbia, or any politi- 
 cal subdivision of a State or Territory, prior to September 8, 1916, entered 
 in good faith into a contract with any person, the object and purpose of 
 which is to acquire, construct, operate, or maintain a public utility, no tax 
 shall be levied under the provisions of this title upon the income derived 
 from the operation of such public utility, so far as the payment thereof will 
 impose a loss or burden upon such State, Territory, District of Columbia, or 
 political subdivision; but this provision is not intended and shall not be 
 construed to confer upon such person any financial gain or exemption or to 
 relieve such person from the payment of a tax as provided for in this title 
 upon the part or portion of such income to which such person is entitled 
 under such contract; 
 
1346 APPENDIX 
 
 (8) The income of a nonresident alien or foreign corporation which con- 
 sists exclusively of earnings derived from the operation of a ship or ships 
 documented under the laws of a foreign country which grants an equivalent 
 exemption to citizens of the United States and to corporations organized 
 in the United States; 
 
 (9) Amounts received as compensation, family allotments and allowances 
 under the provisions of the War Risk Insurance and the Vocational Rehabili- 
 tation Acts, or as pensions from the United States for service of the bene- 
 ficiary or another in the military or naval forces of the United States in 
 time of war; 
 
 (10) So much of the amount received by an individual after December 31, 
 1921, and before January 1, 1927, as dividends or interest from domestic 
 building and loan associations, operated exclusively for the purpose of 
 making loans to members, as does not exceed $300; 
 
 (11) The rental value of a dwelling house and appurtenances thereof 
 furnished to a minister of the gospel as part of his compensation; 
 
 (12) The receipts of shipowners' mutual protection and indemnity as- 
 sociations, not organized for profit, and no part of the net earnings of 
 which inures to the benefit of any private stockholder or member but such 
 corporations shall be subject as other persons to the tax upon their net in- 
 come from interest, dividends, and rents. 
 
 (c) In the case of a nonresident alien individual, gross income means 
 only the gross income from sources within the United States, determined 
 under the provisions of section 217. 
 
 DEDUCTIONS ALLOWED INDIVIDUALS 
 
 Sec. 214. (a) That in computing net income there shall be allowed as 
 deductions : 
 
 (1) All the ordinary and necessary expenses paid or incurred during the 
 taxable year in carrying on any trade or business, including a reasonable 
 allowance for salaries or other compensation for personal services actually 
 rendered; traveling expenses (including the entire amount expended for 
 meals and lodging) while away from home in the pursuit of a trade or bus- 
 iness; and rentals or other payments required to be made as a condition 
 to the continued use or possession, for purposes of the trade or business, 
 of property to which the taxpayer has not taken or is not taking title or in 
 which he has no equity; 
 
 (2) All interest paid or accrued within the taxable year on indebtedness, 
 except on indebtedness incurred or continued to purchase or carry obliga- 
 tions or securities (other than obligations of the United States issued after 
 September 24, 1917, and originally subscribed for by the taxpayer) the 
 interest upon which is wholly exempt from taxation under this title; 
 
 (3) Taxes paid or accrued within the taxable year except (a) income, 
 war-profits, and excess-profits taxes imposed by the authority of the United 
 States, (b) so much of the income, war-profits and excess-profits taxes, 
 imposed by the authority of any foreign country or possession of the 
 United States, as is allowed as a credit under section 222, (c) taxes assessed 
 against local benefits of a kind tending to increase the value of the prop- 
 erty assessed, and (d) taxes imposed upon the taxpayer upon his interest 
 as shareholder or member of a corporation, which are paid by the cor- 
 poration without reimbursement from the taxpayer. For the purpose of 
 
REVENUE ACT OF 1921 1347 
 
 this paragraph estate, inheritance, legacy, and succession taxes accrue on 
 the due date thereof except as otherwise provided by the law of the juris- 
 diction imposing such taxes; 
 
 (4) Losses sustained during the taxable year and not compensated for 
 by insurance or otherwise, if incurred in trade or business; 
 
 (5) Losses sustained during the taxable year and not compensated for 
 by insurance or otherwise, if incurred in any transaction entered into for 
 profit, though not connected with the trade or business; but in the case of 
 a nonresident alien individual only if and to the extent that the profit, if 
 such transaction had resulted in a profit, would be taxable under this title. 
 No deduction shall be allowed under this paragraph for any loss claimed to 
 have been sustained in any sale or other disposition of shares of stock or 
 securities made after the passage of this Act where it appears that within 
 thirty days before or after the date of such sale or other disposition the 
 taxpayer has acquired (otherwise than by bequest or inheritance) sub- 
 stantially identical property, and the property so acquired is held by the 
 taxpayer for any period after such sale or other disposition. If such ac- 
 quisition is to the extent of part only of substantially identical property, 
 then onlj a proportionate part of the loss shall be disallowed; 
 
 (6) Losses sustained during the taxable year of property not connected 
 with the trade or business (but in the case of a nonresident alien individual 
 only property within the United States) if arising from fires, storms, ship- 
 wreck, or other casualty, or from theft, and if not compensated for by in- 
 surance or otherwise. Losses allowed under paragraphs (4), (5), and (6)' 
 of this subdivision shall be deducted as of the taxable year in which sus- 
 tained unless, in order to clearly reflect the income, the loss should, in the 
 opinion of the Commissioner, be accounted for as of a different period. 
 In case of losses arising from destruction of or damage to property, where 
 the property so destroyed or damaged was acquired before March 1, 1913, 
 the deduction shall be computed upon the basis of its fair market price or 
 value as of March 1, 1913; 
 
 (7) Debts ascertained to be worthless and charged off within the taxable 
 year (or, in the discretion of the Commissioner, a reasonable addition to 
 a reserve for bad debts); and when satisfied that a debt is recoverable only 
 in part, the Commissioner may allow such debt to be charged off in part; 
 
 (8) A reasonable allowance for the exhaustion, wear and tear of prop- 
 erty used in the trade or business, including a reasonable allowance for 
 obsolescence. In the case of such property acquired before March 1, 1913, 
 this deduction shall be computed upon the basis of its fair market price or 
 value as of March 1, 1913; 
 
 (9) In the case of buildings, machinery, equipment, or other facilities, 
 constructed, erected, installed, or acquired, on or after April 6, 1917, for 
 the production of articles contributing to the prosecution of the war 
 against the German government, and in the case of vessels constructed 
 or acquired on or after such date for the transportation of articles or men 
 contributing to the prosecution of such war, there shall be allowed, for any 
 taxable year ending before March 3, 1924 (if claim therefor was made at 
 the time of filing return for the taxable year 1918, 1919, 1920, or 1921) a 
 reasonable deduction for the amortization of such part of the cost of such 
 facilities or vessels as has been borne by the taxpayer, but not again in- 
 cluding any amount otherwise allowed under this title or previous Act of 
 Congress as a deduction in computing net income. At any time before 
 March 3, 1924, the Commissioner may, and at the request of the taxpayer 
 
1348 APPENDIX 
 
 shall, re-examine the return, and if he then finds as a result of an appraisa,! 
 or from other evidence that the deduction originally allowed was incorrect, 
 the income, war-profits, and excess-profits taxes for the year or years 
 affected shall be redetermined; and the amount of tax due upon such re- 
 determination, if any, shall be paid upon notice and demand by the collector, 
 or the amount of tax overpaid, if any, shall be credited or refunded to the 
 taxpayer in accordance with the provisions of section 252; 
 
 (10) In the case of mines, oil and gas wells, other natural deposit^, and 
 timber, a reasonable allowance for depletion and for depreciation of im- 
 provements, according to the peculiar conditions in each case, based 
 upon cost including cost of development not otherwise deducted: Provided, 
 That in the case of such properties acquired prior to March 1, 1913, 
 the fair market value of the property (or the taxpayer's interest 
 therein) on that date shall be taken in lieu of cost up to that date : Provided 
 further, That in the case of mines, oil and gas wells, discovered by the tax- 
 payer, on or after March 1, 1913, and not acquired as the result of purchase 
 of a proven tract or lease, where the fair market value of the property is 
 materially disproportionate to the cost, the depletion allowance shall be 
 based upon the fair market value of the property at the date of, the dis- 
 covery, or within thirty days thereafter: And provided further. That 
 such depletion allowance based on discovery value shall not exceed the net 
 income, computed viathout allowance for depletion, from the property upon 
 which the discovery is made, except where such net income so computed 
 is less than the depletion allowance based on cost or fair market value 
 as of March 1, 1913; such reasonable allowance in all the above cases to 
 be made under rules and regulations to be prescribed by the Commissioner, 
 with the approval of the secretary. In the case of leases the deductions 
 allowed by this paragraph shall be equitably apportioned between the 
 lessor and lessee; 
 
 (11) Contributions or gifts made within the taxable year to or for the 
 use of: (A)The United States, any state, territory, or any political sub- 
 division thereof, or the District of Columbia, for exclusively public pur- 
 poses; (B) any corporation, or community chest, fund, or foundation, or- 
 ganized and operated exclusively for religious, charitable, scientific, literary, 
 or educational purposes, including posts of the American Legion or the 
 women's auxiliary units thereof, or for the prevention of cruelty to children 
 or animals, no part of the net earnings of which inures to the benefit of 
 any private stockholder or individual; or (C) the special fund for vocational 
 rehabilitation authorized by section 7 of the Vocational Rehabilitation Act; 
 to an amount which in all the above cases combined does not exceed 15 
 per centum of the taxpayer's net income as computed without the benefit 
 of this paragraph. In the case of a nonresident alien individual this de- 
 duction shall be allowed only as to contributions or gifts made to domestic 
 corporations, or to community chests, funds, or foundations, created in the 
 United States, or to such vocational rehabilitation fund. Such contributions 
 or gifts shall be allowable as deductions only if verified under rules and 
 regulations prescribed by the Commissioner, with the approval of the secre- 
 tary; 
 
 (12) If property is compulsorily or involuntarily converted into cash or 
 its equivalent as a result of (A) its destruction in whole or in part, (B) 
 theft or seizure, or (C) an exercise of the power of requisition or condem- 
 nation, or the threat or imminence thereof; and if the taxpayer proceeds 
 forthwith in good faith, under regulations prescribed by the Commissioner 
 
REVENUE ACT OF 1921 1349 
 
 with the approval of the Secretary, to expend the proceeds, of such con- 
 version in the acquisition of other property of a character similar or re- 
 lated in service or use to the property so converted, or in the acquisition 
 of 80 per centum or more of the stock or shares of a corporation owning 
 such other property, or in the establishment of a replacement fund, then 
 there shall be allowed as a deduction such portion of the gain derived as 
 the portion of the proceeds so expended bears to the entire proceeds. The 
 provisions of this paragraph prescribing the conditions under which a de- 
 duction may be taken in respect of the proceeds or gains derived from the 
 compulsory or involuntary conversion of property into cash or its equiv- 
 alent, shall apply so far as may be practicable to the exemption or exclusion 
 of such proceeds or gains from gross income under prior income, war-proflts 
 and excess-profits tax acts. 
 
 (b) In the case of a nonresident alien individual, the deductions allowed 
 in subdivision (a), except those allowed in paragraphs (5), (6), and (11), 
 shall be allowed only if and to the extent that they are connected with in- 
 come from sources within the United States; and the proper apportion- 
 ment and allocation of the deductions with respect to sources of income 
 within and without the United States shall be determined as provided in 
 section 217 under rules and regulations prescribed by the Commissioner 
 with the approval of the Secretary. In the case of a citizen entitled to 
 the benefits of section 262 the deductions shall be the same and shall be 
 determined in the same manner as in the case of a nonresident alien in- 
 dividual. 
 
 ITEMS NOT DEDUCTIBLE 
 
 Sec. 215. (a) That in computing net income no deduction shall in any 
 case be allowed in respect of — 
 
 (1) Personal, living, or family expenses; 
 
 (2) Any amount paid out for new buildings or for permanent improve- 
 ments or betterments made to increase the value of any property or estate; 
 
 (3) Any amount expended in restoring property or in making good the 
 exhaustion thereof for which an allowance is or has been made; or 
 
 (4) Premiums paid on any life insurance policy covering the life of any 
 officer or employee, or of any person financially interested in any trade or 
 business carried on by the taxpayer, when the taxpayer is directly or in- 
 directly a beneficiary under such policy. 
 
 (b) Amounts paid under the laws of any State, Territory, District of 
 Columbia, possession of the United States, or foreign country as income to 
 the holder of a life or terminable interest acquired by gift, bequest, or 
 inheritance shall not be reduced or diminished by any deduction for shrink- 
 age (by whatever name called) in the value of such interest due to the 
 lapse of time, nor by any deduction allowed by this Act for the purpose of 
 computing the net income of an estate or trust but not allowed under the 
 laws of such State, Territory, District of Columbia, possession of the 
 United States, or foreign country for the purpose of computing the income 
 to which such holder is entitled. 
 
 CREDITS ALLOWED INDIVIDUALS 
 
 Sec. 216. That for the purpose of the normal tax only there shall be 
 allowed the following credits: 
 
 (a) The amount received as dividends (1) from a domestic corporation 
 other than a corporation entitled to the benefits of section 262, or (2) from 
 
1350 APPENDIX 
 
 a foreign corporation when it is shown to the satisfaction of the Com- 
 missioner that more than 50 per centum of the gross income of such foreign 
 corporation for the three-year period ending with the close of its taxable 
 year preceding the declaration of such dividends (or for ^uch part of such 
 period as the corporation has been in existence) was derived from sources 
 within the United States as determined under the provisions of section 217; 
 
 (b) The amount received as interest upon obligations of the United 
 States and bonds issued by the War Finance Corporation, which is in- 
 cluded in gross income under section 213; 
 
 (c) In the case of a single person, a personal exemption of $1,000; or 
 in the case of the head of a family or a married person living with husband 
 or wife, a personal exemption of $2,500, unless the net income is in excess 
 of $5,000, in which case the personal exemption shall be $2,000. A husband 
 and wife living together shall receive but one personal exemption. The 
 amount of such personal exemption shall be $2,500, unless the aggregate 
 net income of such husband and wife is in excess of $5,000, in which case 
 the amount of such personal exemption shall be $2,000. If such husband 
 and wife make separate returns, the personal exemption may be taken by 
 either or divided between them. In no case shall the reduction of the per- 
 sonal exemption from $2,500 to $2,000 operate to increase the tax, which 
 would be payable if the exemption were $2,500, by more than the amount 
 of the net income in excess of $5,000; 
 
 (d) $400 for each person (other than husband or wife) dependent upon 
 and receiving his chief support from the taxpayer if such dependent person 
 is under eighteen years of age or is incapable of self-support because 
 mentally or physically defective; 
 
 (e) In the case of a nonresident alien individual or of a citizen entitled 
 to the benefits of section 262, the personal exemption shall be only $1,000, 
 and he shall not be entitled to the credit provided in subdivision (d) ; 
 
 (f) The credits allowed by subdivisions (c), (d), and (e) of this section 
 shall be determined by the status of the taxpayer on the last day of the 
 period for which the return of income is made; but in the case of an in- 
 dividual who dies during the taxable year, such credits shall be determined 
 by his status at the time of his death, and in such case full credits shall be 
 allowed to the surviving spouse, if any, according to his or her status at 
 the close of the period for which such survivor makes return of income. 
 
 NET INCOME OF NONRESIDENT ALIEN INDIVIDUALS 
 
 Sec. 217. (a) That in the case of a nonresident alien individual or of a 
 citizen entitled to the benefits of section 262, the following items of gross 
 income shall be treated as income from sources within the United States: 
 
 (1) Interest on bonds, notes, or other interest-bearing obligations of 
 residents, corporate or otherwise, not including (A) interest on deposits 
 with persons carrying on the banking business paid to persons not en- 
 gaged in business within the United States and not having an office or place 
 of business therein, or (B) interest received from a resident alien individual 
 or a resident foreign corporation when it is shown to the satisfaction of 
 the Commissioner that less than 20 per centum of the gross income of 
 such resident payor has been derived from sources within the United States, 
 as determined under the provisions of this section, for the three-year period 
 ending with the close of the taxable year of such payor, or for such part 
 of such period immediately preceding the close of such taxable year as may 
 be applicable; 
 
REVENUE ACT OP 1921 1351 
 
 (2) The amount received as dividends (A) from a domestic corporation 
 other than a corporation entitled to the benefits of section 262, or (B) 
 from a foreign corporation unless less than 50 per centum of the gross 
 income of such foreign corporation for the three-year period ending with 
 the close of its taxable year preceding the declaration of such dividends 
 (or for such part of such period as the corporation has been in existence) 
 was derived from sources within the United States as determined under the 
 provisions of this section; 
 
 (3) Compensation for labor or personal services performed in the United 
 States ; 
 
 (4) Rentals or royalties from property located in the United States or 
 from any interest in such property, including rentals or royalties for the 
 use of or for the privilege of using in the United States, patents, copy- 
 rights, secret processes and formulas, good will, trade-marks, trade brands, 
 franchises, and other like property; and 
 
 (5) Gains, profits, and income from the sale of real property located in 
 the United States. 
 
 (b) From the items of gross income specified in subdivision (a) there 
 shall be deducted the expenses, losses, and other deductions properly ap- 
 portioned or allocated thereto and a ratable part of any expenses, losses, 
 or other deductions which can not definitely be allocated to some item or 
 class of gross income. The remainder, if any, shall be included in full as 
 net income from sources within the United States. 
 
 (c) The following items of gross income shall be treated as income from 
 sources without the United States: 
 
 (1) Interest other than that derived from sources within the United 
 States as provided in paragraph (1) of subdivision (a); 
 
 (2) Dividends other than those derived from sources within the United 
 States as provided in paragraph (2) of subdivision (a); 
 
 (3) Compensation for labor or personal service performed^ without the 
 United States; 
 
 (4) Rentals or royalties from property located without the United 
 States or from any interest in such property, including rentals or royalties 
 for the use of or for the privilege of using without the United States, 
 patents, copyrights, secret processes and formulas, good will, trade-marks, 
 trade brands, franchises, arid other like property; and 
 
 (5) Gains, profits, and income from the sale of real property located 
 without the United States; 
 
 (d) From the items of gross income specified in subdivision (c) there 
 shall be deducted the expenses, losses, and other deductions properly ap- 
 portioned or allocated thereto, and a ratable part of any expenses, losses, 
 or other deductions which can not definitely be allocated to some item or 
 class of gross income. The remainder, if any, shall be treated in full as 
 net income from sources without the United States. 
 
 (e) Items of gross income, expenses, losses and deductions, other than 
 those specified in subdivisions (a) and (c), shall be allocated or apportioned 
 to sources within or without the United States under rules and regulations 
 prescribed by the Commissioner with the approval of the Secretary. Where 
 items of gross income are separately allocated to sources within the United 
 States, there shall be deducted (for the purpose of computing the net in- 
 come therefrom) the expenses, losses and other deductions properly ap- 
 portioned or allocated thereto and a ratable part of other expenses, losses 
 or other deductions which can not definitely be allocated to some item or 
 
1352 APPENDIX 
 
 class of gross income. The remainder, if any, shall be included in full as 
 net income from sources within the United States. In the case of gross 
 income derived from sources partly within and partly without the United 
 States, the net income may first be computed by deducting the expenses, 
 losses or other deductions apportioned or allocated thereto and a ratable 
 part of any expenses, losses or other deductions which can not definitely be 
 allocated to some item or class of gross income; and the portion of such 
 net income attributable to sources within the United States may be de- 
 termined by processes or formulas of general apportionment prescribed 
 by the Commissioner with the approval of the Secretary. Gains, profits 
 and income from (1) transportation or other services rendered partly 
 within and partly without the United States, or (2) from the sale of per- 
 sonal property produced (in whole or in part) by the taxpayer within and 
 sold without the United States, or produced (in whole or in part) by the 
 taxpayer without and sold within the United States, shall be treated as 
 derived partly from sources within and partly from sources without the 
 United States. Gains, profits and income derived from the purchase of 
 personal property within and its sale without the United States or from the 
 purchase of personal property without and its sale within the United States, 
 shall be treated as derived entirely from the country in which sold. 
 
 (f ) As used in this section the words "sale" or "sold" include "exchange" 
 or "exchanged"; and the word "produced" includes "created," "fabricated," 
 "manufactured," "extracted," "processed," "cured," or "aged." 
 
 (g) A nonresident alien individual or citizen entitled to the benefits of 
 section 262 shall receive the benefit of the deductions and credits allowed 
 in this title only by filing or causing to be filed with the collector a true 
 and accurate return of his total income received from all sources corporate 
 or otherwise in the United States, in the manner prescribed in this title; 
 including therein all the information which the Commissioner may deem 
 necessary for the calculation of such deductions and credits: Provided, That 
 the benefit of the credit allowed in subdivision (e) of section 216 may, in 
 the discretion of the Commissioner, be received by filing a claim therefor 
 with the withholding agent. In case of failure to file a return, the col- 
 lector shall collect the tax on such income, and all property belonging to 
 such nonresident alien individual or foreign trader shall be liable to dis- 
 traint for the tax. 
 
 PARTNERSHIPS AND PERSONAL SERVICE CORPORATIONS 
 
 Sec. 218. (a) That individuals carrying on business in partnership 
 shall be liable for income tax only in their individual capacity. There 
 shall be included in computing the net income of each partner his distrib- 
 utive share, whether distributed or not, of the net income of the partner- 
 ship for the taxable year, or, if his net income for such taxable year is 
 computed upon the basis of a period different from that upon the basis of 
 which the net income of the partnership is computed, then his distributive 
 share of the net income of the partnership for any accounting period of the 
 partnership ending within the fiscal or calendar year upon the basis of 
 which the partner's net income is computed. 
 
 (b) The partner shall, for the purpose of the normal tax, be allowed as 
 credits, in addition to the credits allowed to him under section 216, his 
 proportionate share of such amounts specified in subdivisions (a) and (b) 
 of section 216 as are received by the partnership. 
 
REVENUE ACT OP 1921 1353 
 
 (c) The net income of the partnership shall be computed in the same 
 manner and on the same basis as provided in section 212 except that the 
 deduction provided in paragraph (11) of subdivision (a) of section 214 
 shall not be allowed. 
 
 (d) Personal service corporations shall not be subject to taxation under 
 this title, but the individual stockholders thereof shall be taxed in the same 
 manner as the members of partnerships. All the provisions of this title 
 relating to partnerships and the members thereof shall so far as practicable 
 apply to personal service corporations and the stockholders thereof: 
 Provided, That for the purpose of this subdivision amounts distributed by a 
 personal service corporation during its taxable year shall be accounted 
 for by the distributees; and any portion of the net income remaining un- 
 distributed at the close of its taxable year shall be accounted for by the 
 stockholders of such corporation at the close of its taxable year in pro- 
 portion to their respective shares. 
 
 This subdivision shall not be in effect after December 31, 1921. In the 
 case of a personal service corporation having a fiscal year beginning in 
 1921 and ending in 1922, amounts distributed prior to January 1, 1922, to 
 its stockholders out of earnings or profits accumulated after December 31, 
 1920, shall be taxed to the distributees; and the stockholders of record on 
 December 31, 1921, shall be taxed upon their distributive shares of the 
 difference (if any) between such distributive profits and the portion of 
 the corporation's net income assignable to the calendar year 1921, de- 
 termined in the manner provided in clause (1) of subdivision (c) of sec- 
 tion 205 of this Act. 
 
 ESTATES AND TRUSTS 
 
 Sec. 219. (a) That the tax imposed by sections 210 and 211 shall apply 
 to the income of estates or of any kind of property held in trust, including — 
 
 (1) Income received by estates of deceased persons during the period 
 of administration or settlement of the estate; 
 
 (2) Income accumulated in trust for the benefit of unborn or un- 
 ascertained person or persons with contingent interests; 
 
 (3) Income held for future distribution under the terms of the will or 
 trust; and 
 
 (4) Income which is, to be distributed to the beneficiaries periodically, 
 whether or not at regular intervals, and the income collected by a guardian 
 of an infant to be held or distributed as the court may direct. 
 
 (b) The fiduciary shall be responsible for making the return of income 
 for the estate or trust for which he acts. The net income of the estate or 
 trust shall be computed in the same manner and on the same basis as pro- 
 vided in section 212, except that (in lieu of the deduction authorized by 
 paragraph (11) of subdivision (a) of section- 214) there shall also be 
 allowed as a deduction, without limitation, any part of the gross income 
 which, pursuant to the terms of the will or deed creating the trust, is 
 during the taxable year paid or permanently set aside for the purposes 
 and in the manner specified in paragraph (11) of subdivision (a) of sec- 
 tion 214. In cases in which there is any income of the class described in 
 paragraph (4) of subdivision (a) of this section the fiduciary shall include 
 in the return a statement of the income of the estate or trust which, pur- 
 suant to the instrument or order governing the distribution, is distributable 
 to each beneficiary, whether or not distributed before the close of the 
 taxable year for which the return is made. 
 
1354 APPENDIX 
 
 (c) In cases under paragraphs (1), (2), or (3) of subdivision (a) or in 
 any other case within subdivision (a) of this section except paragraph (4) 
 thereof the tax shall be imposed upon the net income of the estate or trust 
 and shall be paid by the fiduciary, except that in determining the net in- 
 come of the estate of any deceased person during the period of administra- 
 tion or settlement there may be deducted the amount of any income properly 
 paid or credited to any legatee, heir, or other beneficiary. In such cases 
 the estate or trust shall, for the purpose of the normal tax, be allowed the 
 same credits as are allowed to single persons under section 216. 
 
 (d) In cases under paragraph (4) of subdivision (a), and in the case of 
 any income of an estate during the period of administration or settlement 
 permitted by subdivision (c) to be deducted from the net income upon which 
 tax is to be paid by the fiduciary, the tax shall not be paid by the fiduciary, 
 but there shall be included in computing the net income of each beneficiary 
 that part of the income of the estate or trust for its taxable year which, 
 pursuant to the instrument or order governing the distribution, is dis- 
 tributable to such beneficiary, whether distributed or not, or, if his tax- 
 able year is different from that of the estate or trust, then there shall be 
 included in computing his net income his distributive share of the income 
 of the estate or trust for its taxable year ending within the taxable year 
 of the beneficiary. In such cases the beneficiary shall, for the purpose of 
 the normal tax, be allowed as credits, in addition to the credits allowed to 
 him under section 216, his proportionate share of such amounts specified 
 in subdivisions (a) and (b) of section 216 as are received by the estate or 
 trust. 
 
 (e) In the case of an estate or trust the income of which consists both 
 of income of the class described in paragraph (4) of subdivision (a) of 
 this section and other income, the net income of the estate or trust shall 
 be computed and a return thereof made by the fiduciary in accordance with 
 subdivision (b) and the tax shall be imposed, and shall be paid by the 
 fiduciary in accordance with subdivision (c), except that there shall be 
 allowed as an additional deduction in computing the net income of the estate 
 or trust that part of its income of the class described in paragraph (4) of 
 subdivision (a) which, pursuant to the instrument or order governing the 
 distribution, is distributable during its taxable year to the beneficiaries. 
 In cases under this subdivision there shall be included, as provided in sub- 
 division (d) of this section, in computing the net income of each beneficiary, 
 that part of the income of the estate or trust which, pursuant to the instru- 
 ment or order governing the distribution, is distributable during the taxable 
 year to such beneficiary. 
 
 (f) A trust created by an employer as a part of a stock bonus or profit- 
 sharing plan for the exclusive benefit of some or all of his employees, to 
 which contributions are made by such employer, or employees, or both, 
 for the purpose of distributing to such employees the earnings and prin- 
 cipal of the fund accumulated by the trust in accordance with such plan, 
 shall not be taxable under this section, but the amount actually distributed 
 or made available to any distributee shall be taxable to him in the year 
 in which so distributed or made available to the extent that it exceeds the 
 amounts paid in by him. Such distributees shall for the purpose of the 
 normal tax be allowed as credits that part of the amount so distributed or 
 made available as represents the items specified in subdivisions (a) and 
 (b) of section 216. 
 
REVENUE ACT OP 1921 1355 
 
 EVASION OF SURTAXES 6y INCORPORATION 
 
 Sec. 220. That if any corporation, however created or organized, is 
 formed or availed of for the purpose of preventing the imposition of the 
 surtax upon its stockholders or members through the medium of permitting 
 its gains and profits to accumulate instead of being divided or distributed, 
 there shall be levied, collected, and paid for each taxable year upon the 
 net income of such corporation a tax equal to 25 per centum of the amount 
 thereof, which shall be in addition to the tax imposed by section 230 of 
 this title and shall be computed, collected, and paid upon the same basis 
 and in the same manner and subject to the same provisions of law, including 
 penalties, as that tax: Provided, That if all the stockholders or members 
 of such corporation agree thereto, the Commissioner may, in lieu of all 
 income, war-profits and excess-profits taxes imposed upon the corporation 
 for the taxable year, tax the stockholders or members of such corporation 
 upon their distributive shares in the net income of the corporation for the 
 taxable year in the same manner as provided in subdivision (a) of section 
 218 in the case of members of a partnership. The fact that any corporation 
 is a mere holding company, or that the gains and profits are permitted to 
 accumulate beyond the reasonable needs of the business, shall be prima 
 facie evidence of a purpose to escape the surtax; but the fact that the gains 
 and profits are in any case permitted to accumulate and become surplus 
 shall not be construed as evidence of a purpose to escape the tax in such 
 case unless the Commissioner certifies that in his opinion such accumulation 
 is unreasonable for the purposes of the business. When requested by the 
 Commissioner, or any collector, every corporation shall forward to him a 
 correct statement of such gains and profits and the names and addresses 
 of the individuals or shareholders who would be entitled to the same if 
 divided or distributed, and of the amounts that would be payable to each. 
 
 PAYMENT OF INDIVIDUAL'S TAX AT SOURCE 
 
 Sec. 221. (a) That all individuals, corporations, and partnerships, in 
 whatever capacity acting, including lessees or mortgagors of real or per- 
 sonal property; fiduciaries, employers, and all officers and employees of 
 the United States having the control, receipt, custody, disposal, or payment 
 of interest (except interest on deposits with persons carrying on the bank- 
 ing business paid to persons not engaged in business in the United States 
 and not having an office or place of business therein), rent, salaries, wages, 
 premiums, annuities, ceftnpensations, remunerations, emoluments, or other 
 fixed or determinable annual or periodical gains, profits, and income, of 
 any nonresident alien individual or partnership composed in whole or in 
 part of nonresident aliens (other than income received as dividends of the 
 class allowed as a credit by subdivision (a) of section 216) ^hall (except 
 in the cases provided for in subdivision (b) and except as otherwise pro- 
 vided in regulations prescribed by the Commissioner under section 217) 
 deduct and withhold from such annual or periodical gains, profits, and in- 
 come a tax equal to 8 per centum thereof : Provided, That the Commissioner 
 may authorize such tax to be deducted and withheld from the interest 
 upon any securities the owners of which are not known to the withholding 
 agent. 
 
 (b) In any case where bonds, mortgages, or deeds of trust, or other sim- 
 ilar obligations of a corporation contain a contract or provision by which 
 the obligor agrees to pay any portion of the tax imposed by this title upon 
 the obligee, or to reimburse the obligee for any portion of the tax, or to 
 
1356 APPENDIX 
 
 pay the interest without deduction for any tax which the obligor may be 
 required or permitted to pay thereon, or to retain therefrom under any law 
 of the United States, the obligor shall deduct and withhold a tax equal to 
 2 per centum of the interest upon such bonds, mortgages, deeds of trust, 
 or other obligations, whether such interest is payable annually or at shorter 
 or longer periods and whether payable to a nonresident alien individual or 
 to an individual citizen or resident of the United States or to a partnership : 
 Provided, That the Commissioner may authorize such tax to be deducted 
 and withheld in the case of interest upon any such bonds, mortgages, deeds 
 of trust, or other obligations, the owners of which are not known to the 
 withholding agent. Such deduction and withholding shall not be required 
 in the case of a citizen or resident entitled to receive such interest, if he 
 files with the withholding agent on or before February 1 a signed notice 
 in writing claiming the benefit of the credits provided in subdivisions (c) 
 and (d) of section 216; nor in the case of a nonresident alien individual 
 if so provided for in regulations prescribed by the Commissioner under 
 subdivision (g) of section 217. 
 
 (c) Every individual, corporation, or partnership required to deduct and 
 withhold any tax under this section shall make return thereof on or before 
 March 1 of each year and shall on or before June 15 pay the tax to the 
 official of the United States government authorized to receive it. Every 
 such individual, corporation, or partnership is hereby made liable for such 
 tax and is hereby indemnified against the claims and demands of any in- 
 dividual, corporation, or partnership for the amount of any payments made 
 in accordance with the provisions of this section. 
 
 (d) Income upon which any tax is required to be withheld at the source 
 under this section shall be included in the return of the recipient of such 
 income, but any amount of tax so withheld shall be credited against the 
 amount of income tax as computed in such return. 
 
 (e) If any tax required under this section to be deducted and withheld 
 is paid by the recipient of the income, it shall not be re-collected from the 
 withholding agent; nor in the cases in which the tax is so paid shall any 
 penalty be imposed upon or collected from the recipient of the income or 
 the withholding agent for failure to return or pay the same, unless such 
 failure was fraudulent and for the purpose of evading payment. 
 
 CREDIT FOR TAXES IN CASE OF INDIVIDUALS 
 
 Sec. 222. (a) That the tax computed under Part II of this title shall 
 be credited with : 
 
 (1) In the case of a citizen of the United States the amount of any in- 
 come, war-profits and excess-profits taxes paid during the taxable year to 
 any foreign gountry or to any possession of the United States; and 
 
 (2) In the case of a resident of the United States, the amount of any 
 such taxes paid during the taxable year to any possession of the United 
 States; and 
 
 (3) In the case of an alien resident of the United States, the amount of 
 any such taxes paid during the taxable year to any foreign country, if the 
 foreign country of which such alien resident is a citizen or subject, in im- 
 posing such taxes, allows a similar credit to citizens of the United States 
 residing in such country; and 
 
 (4) In the case of any such individual who is a member of a partnership 
 or a beneficiary of an estate or trust, his proportionate share of such taxes 
 
REVENUE ACT OF 1921 1357 
 
 of the partnership or the estate or trust paid during the taxable year to a 
 foreign country or to any possession of the United States, as the case 
 may be. 
 
 (5) The above credits shall not be allowed in the case of a citizen entitled 
 to the benefits of section 262 ; and in no other case shall the amount of credit 
 taken under this subdivision exceed the same proportion of the tax, against 
 which such credit is taken, which the taxpayer's net income (computed 
 without deduction for any income, war-profits and excess-profits taxes im- 
 posed by any foreign country or possession of the United States) from 
 sources without the United States bears to his entire net income (computed 
 without such deduction) for the same taxable year. 
 
 (b) If accrued taxes when paid differ from the amounts claimed as 
 credits by the taxpayer, or if any tax paid is refunded in whole or in part, 
 the taxpayer shall notify the Commissioner, who shall redetermine the 
 amount of the tax due under Part II of this title for the year or years 
 affected, and the amount of tax due upon such redetermination, if any, shall 
 be paid by the taxpayer upon notice and demand by the Collector, • or the 
 amount of tax overpaid, if any, shall be credited or refunded to the taxpayer 
 in accordance with the provisions of section 252. In the case of such a tax 
 accrued but not paid, the Commissioner as a condition precedent to the 
 allowance of this credit may require the taxpayer to give a bond with sure- 
 ties satisfactory to and to be approved by the Commissioner in such penal 
 sum as the Commissioner may require, conditioned for the payment by the 
 taxpayer of any amount of tax found due upon any such redetermination; 
 and the bond herein prescribed shall contain such further conditions as the 
 Commissioner may require. , 
 
 (c) These credits shall be allowed only if the taxpayer furnishes evidence 
 satisfactory to the Commissioner showing the amount of income derived 
 from sources without the United States, and all other information neces- 
 sary for the verification and computation of such credits. 
 
 (d) If the taxpayer makes a return for a fiscal year beginning in 1920 
 and ending in 1921, the credit for the entire fiscal year shall, notwithstand- 
 ing any provision of this Act, be determined vmder the provisions of this 
 section; and the Commissioner is authorized to disallow, in whole or part, 
 any such credit which he finds has already been taken by the taxpayer. 
 
 INDIVIDUAL RETURNS 
 
 Sec. 223. (a) That the following individuals shall each make under oath 
 a return stating specifically the items of his gross income and the deductions 
 and credits allowed under this title — 
 
 (1) Every individual having a net income for the taxable year of $1,000 
 or over, if single, or if married and not living with husband or wife; 
 
 (2) Every individual having a net income for the taxable year of $2,000 
 or over, if married and living with husband or wfe; and 
 
 (3) Every individual having a gross income for the taxable year of $5,000 
 or over, regardless of the amount of his net income. 
 
 (b) If a husband and wife living together have an aggregate net income 
 for the taxable year of $2,000 or over, or an aggregate gross income for such 
 year of $5,000 or over — 
 
 (1) Each shall make such a return, or 
 . (2) The income of each shall be included in a single joint return, in 
 which case the tax shall be computed on the aggregate income. 
 
1358 APPENDIX 
 
 (c) If the taxpayer is unable to make his own return, the return shall 
 be made by a duly authorized agent or by the guardian or other person 
 charged with the care of the person or property of such taxpayer. 
 
 PARTNERSHIP RETURNS 
 
 Sec. 224. That every partnership shall make a return for each taxable 
 year, stating specifically the items of its gross income and the deductions 
 allowed by this title, and shall include in the return the names and addresses 
 of the individuals who would be entitled to share in the net income if dis- 
 tributed and the amount of the distributive share of each individual. The 
 return shall be sworn to by any one of the partners. 
 
 FIDUCIARY RETURNS i 
 
 Sec. 225. (a) That every fiduciary (except a receiver appointed by 
 authority of law in possession of part only of the property of an individual) 
 shall make under oath a return for any of the following individuals, estates, 
 or trusts for which he acts, stating specifically the items of gross income 
 thereof and the deductions and credits allowed under this title — 
 
 (1) Every individual having a net income for the taxable year of $1,000 
 or over, if single, or if married and not living with husband or wife; 
 
 (2) Every individual having a net income for the taxable year of $2,000 
 or over, if married and living with husband or wife; 
 
 (3) Every individual having a gross income for the taxable year of $5,000 
 or over, regardless of the amount of his net income; 
 
 (4) Every estate or trust the net income of which for the taxable year 
 is $1,000 or over; and 
 
 (5) Every estate or trust of which any beneficiary is a nonresident alien, 
 (b) Under such regulations as the Commissioner with the approval of the 
 
 Secretary may prescribe a return made by one of two or more joint 
 fiduciaries and filed in the oflice of the collector of the district where such 
 fiduciary resides shall be sufficient compliance vnth the above requirement. 
 Such fiduciary shall make oath (1) that he has sufficient knowledge of the 
 affairs of the individual, estate or trust for which the return is made, to 
 enable him to make the return, and (2) that the return is, to the best of his 
 knowledge and belief, true and correct. Any fiduciary required to make a 
 return under this Act shall be subject to all the provisions of this Act which 
 apply to individuals. 
 
 RETURNS FOR A PERIOD OF LESS THAN TWELVE MONTHS 
 
 Sec. 226. (a) That if a taxpayer, with the approval of the Commissioner, 
 changes the basis of computing net income from fiscal year to calendar year 
 a separate return shall be made for the period between the close of the 
 last fiscal year for which return was made and the following December 31. 
 If the change is from calendar year to fiscal year, a separate return shall 
 be made for the period between the close of the last calendar year for which 
 return was made and the date designated as the close of the fiscal year. 
 If the change is from one fiscal year to another fiscal year a separate re- 
 turn shall be made for the period between the close of the former fiscal year 
 and the date designated as the close of the new fiscal year. 
 
 (b) In all cases where a separate return is made for a- part of a taxable 
 year the net income shall be computed on the basis of such period for, 
 which separate return is made, and the tax shall be paid thereon at the rate 
 for the calendar year in which such period is included. 
 
REVENUE ACT OP 1921 1359 
 
 (c) In the case of a return for a period of less than one year the net 
 Income shall be placed on an annual basis by multiplying the amount thereof 
 by twelve and dividing by the number of months included in such period; 
 and the tax shall be such part of a tax computed on such annual basis as 
 the number of months in such period is of twelve months. 
 
 TIME AND PLACE FOR FILING INDIVIDUAL, PARTNERSHIP, AND 
 FIDUCIARY RETURNS 
 
 Sec. 227. (a) That returns (except in the case of nonresident aliens) 
 shall be made on or before the fifteenth day of the third month following 
 the close of the fiscal year, or, if the return is made on the basis of the 
 calendar year, then the return shall be made on or before the 15th day 
 of March. In the case of a nonresident alien individual returns shall be 
 made on or before the fifteenth day of the sixth month following the close 
 of the fiscal year, or, if the return is made on the basis of the calendar year, 
 then the return shall be made on or before the 15th day of June. The Com- 
 missioner may grant a reasonable extension of time for filing returns when- . 
 ever in his judgment good cause exists and shall keep a record of every 
 such extension and the reason therefor. Except in the case of taxpayers 
 who are abroad, no such extension shall be for more than six months. 
 
 (b) Returns shall be made to the collector for the district in which is 
 located the legal residence or principal place of business of the person 
 making the return, or, if he has no legal residence or principal place of 
 business in the United States, then to the collector at Baltimore, Maryland. 
 
 UNDERSTATEMENT IN RETURNS 
 
 Sec. 228. That if the collector or deputy collector has reason to believe 
 that the amount of any income returned is understated, he shall give due 
 notice to the taxpayer making the return to show cause why the amount of 
 I the return should not be increased, and upon proof of the amount under- 
 stated, may increase the same accordingly. Such taxpayer may furnish 
 sworn testimony to prove any relevant facts and if dissatisfied with the 
 decision of the collector may appeal to the Commissioner for his decision, 
 under such rules of procedure as may be prescribed by the Commissioner 
 with the approval of the Secretary. 
 
 INCORPORATION OF INDIVIDUAL OR PARTNERSHIP BUSINESS 
 
 Sec. 229. That in the case of the organization as a corporation within 
 four months after the passage of this act of any trade or business in which 
 capital is a material income-producing factor, and which was previousl,y 
 owned by a partnership or individual, the net income of such trade or 
 business from January 1, 1921, to the date of such organization may at the 
 option of the individual or partnership be taxed as the net income of a cor- 
 poration is taxed under Titles II and III ; in which event the net income and 
 invested capital of such trade or business shall be computed as if such 
 corporation had been in existence on and after January 1, 1921, and the 
 undistributed profits or earnings of such trade or business shall not be sub- 
 ject to the surtaxes imposed in section 211, but amounts distributed on and 
 after January 1, 1921, from the earnings or profits of such trade or business 
 accumulated after December 31, 1920, shall be taxed to the recipients as 
 dividends; and all the provisions of Titles II and III relating to corpora- 
 tions shall so far as practicable apply to such trade or business: Provided, 
 That this section shall not apply to any trade or business, the net income 
 
1360 APPENDIX 
 
 of which for the taxable year 1921 was less than 20 per centum of its 
 invested capital for such year: Provided further, That any taxpayer who 
 takes advantage of this section shall pay the tax imposed by section 1000 
 of the Revenue Act of 1918 as if such taxpayer had been a corporation on 
 and after January 1, 1921. 
 
 Part III. — Corporations 
 
 TAX ON COEPORATIONS 
 
 Sec. 230. That, in lieu of the tax imposed by section 230 of the Revenue 
 Act of 1918, there shall be levied, collected, and paid for each taxable year 
 upon the net income of every corporation a tax at the following rates: 
 
 (a) For the calendar year 1921, 10 per centum of the amount of the net 
 income in excess of the credits provided in section 236; and 
 
 (b) For each calendar year thereafter, 12 i per centum of such excess 
 amount. 
 
 CONDITIONAL AND OTHER EXEMPTIONS OF CORPORATIONS 
 
 Sec. 231. That the following org'anizations shall be exempt from taxation 
 under this title — 
 
 (1) Labor, agricultural, or horticultural organizations; 
 
 (2) Mutual savings banks not having a capital stock represented by 
 shares ; 
 
 (3) Fraternal beneficiary societies, orders or associations, (a) operating 
 under the lodge system or for the exclusive benefit of the members of a 
 fraternity itself operating under the lodge system; and (b) providing for 
 the payment of life, sick, accident, or other benefits to the members of such 
 society, order, or association or their dependents; 
 
 (4) Domestic building and loan associations substantially all the business 
 of which is confined to making loans to members; and co-operative banks 
 without capital stock organized and operated for mutual purposes and 
 without profit; 
 
 (5) Cemetery companies owned and operated exclusively for the benefit 
 of their members or which are not operated for profit; and any corpora- 
 tion chartered solely for burial purposes as. a cemetery corporation and 
 not permitted by its charter to engage in any business not necessarily in- 
 cident to that purpose, no part of the net earnings of which inures to the 
 benefit of any private stockholder or individual; 
 
 (6) Corporations, and any community chest, fund, or foundation, or- 
 ganized and operated exclusively for religious, charitable, scientific, liter- 
 ary, or educational purposes, or for the prevention of cruelty to children 
 or animals, no part of the net earnings of which inures to the benefit of any 
 private stockholder or individual; 
 
 (7) Business leagues, chambers of commerce, or boards of trade, not or- 
 ganized for profit and no part of the net earnings of which inures to the 
 benefit of any private stockholder or individual; 
 
 _ (8) Civic leagues or organizations not organized for profit but operated 
 exclusively for the promotion of social welfare; 
 
 (9) Clubs organized and operated exclusively for pleasure, recreation, 
 and other nonprofitable purposes, no part of the net earnings of which 
 inures to the benefit of any private stockholder or member; 
 
 (10) Farmers' or other mutual hail, cyclone, or fire insurance companies, 
 mutual ditch or irrigation companies, mutual or co-operative telephone com- 
 
REVENUE ACT OP 1921 1361 
 
 panies, or like organizations of a purely local character, the income of 
 which consists solely of assessments, dues, and fees collected from members 
 for the sole purpose of meeting expenses; 
 
 (11) Farmers', fruit growers', or like associations, organized and operated 
 as sales agents for the purpose of marketing the products of members 
 and turning back to them the proceeds of sales, less the necessary selling 
 expenses, on the basis of the quantity of produce furnished by them; or 
 organized and operated as purchasing agents for the purpose of purchasing 
 supplies and equipment for the use of members and turning over such 
 supplies and equipment to such members at actual cost, plus necessary ex- 
 penses ; 
 
 (12) Corporations organized for the exclusive purpose of holding title 
 to property, collecting income therefrom, and turning over the entire 
 amount thereof, less expenses, to an organization which itself is exempt 
 from the tax imposed by this title; 
 
 (13) Federal land banks and national farm-loan associations as pro- 
 vided in section 26 of the Act approved July 17, 1916, entitled "An Act to 
 provide capital for agricultural development, to create standard forms of 
 investment based upon farm mortgage, to equalize rates of interest upon 
 farm loans, to furnish a market for United States bonds, to create gov- 
 
 ' ernment depositaries and financial agents for the United States, and for 
 other purposes"; 
 
 (14) Personal service corporations. This subdivision shall not be in 
 effect' after December 31, 1921. 
 
 NET INCOME OF CORPORATIONS DEFINED 
 
 Sec. 232. That in the case of a corporation subject to the tax imposed 
 by section 230 the term "net income" means the gross income as de- 
 fined in section 283 less the deductions allowed by section 234, and the net 
 income shall be computed on the same basis as is provided in subdivision 
 (b) of section 212 or in section 226. In the case of a foreign corporation 
 or of a corporation entitled to the benefits of section 262 the computation 
 shall also be made in the manner provided in section 217. 
 
 GROSS INCOME OF CORPORATIONS DEFINED 
 
 Sec. 233. (a) That in the case of a corporation subject to the tax im- 
 posed by section 230 the term "gross income" means the gross income as de- 
 fined in sections 213 and 217, except that mutual marine insurance com- 
 panies shall include in gross income the gross premiums collected and re- 
 ceived by them less amounts paid for reinsurance. 
 
 (b) In the case of a foreign corporation, gross income means only gross 
 income from sources within the United States, determined (except in the 
 case of insurance companies subject to the tax imposed by sections 243 or 
 246) in the manner provided in section 217. 
 
 DEDUCTIONS ALLOWED CORPORATIONS 
 
 Sec. 234. (a) That in computing the net income of a corporation subject 
 to the tax imposed by section 230 there shall be allowed as deductions: 
 
 (1) All the ordinary and necessary expenses paid or incurred during the 
 taxable year in carrying on any trade or business, including a reasonable 
 allowance for salaries or other compensation for personal services actually 
 rendered, and including rentals or other payments required to be made 
 
1362 APPENDIX 
 
 as a condition to the continued use or possession of property to which 
 the corporation has not taken or is not taking title, or in which it has no 
 equity ; 
 
 (2) All interest paid or accrued within the taxable year on its indebted- 
 ness, except on indebtedness incurred or continued to purchase or carry 
 obligations or securities (other than obligations of the United States issued 
 after September 24, 1917, and originally subscribed for by the taxpayer) 
 the interest upon which is wholly exempt from taxation under this title; 
 
 (3) Taxes paid or accrued within the taxable year except (a) income, war- 
 profits, and excess-profits taxes imposed by the authority of the United 
 States, (b) so much of the income, war-profits and excess-profits taxes im- 
 posed by the authority of any foreign country or possession of the United 
 States as is allowed as a credit under section 238, and (c) taxes assessed 
 against local benefits of a kind tending to increase the value of the prop- 
 erty assessed. In the case of obligors specified in subdivision (b) of sec- 
 tion 221 no deduction for the payment of the tax imposed by this title, or 
 any other tax paid pursuant to the contract or provision referred to in that 
 subdivision, shall be allowed nor shall such tax be included in the gross 
 income of the obligee. The deduction allowed by this paragraph shall be 
 allowed in the case of taxes imposed upon a shareholder or member of a 
 corporation upon his interest as shareholder or member, which are paid by! 
 the corporation vnthout reimbursement from the shareholder or member, but 
 in such cases no deduction shall be allowed the shareholder or member for 
 the amount of such taxes. For the purpose of this paragraph, estate, in- 
 heritance, legacy, and succession taxes accrue on the due date thereof ex- 
 cept as otherwise provided by the law of the jurisdiction imposing such 
 taxes ; 
 
 (4) Losses sustained during the taxable year and not compensated for 
 by insurance or otherwise; unless, in order to clearly reflect the income,' 
 the loss should in the opinion of the Commissioner be accounted for as of 
 a different period. No deduction shall be allowed for any loss claimed to 
 have been sustained in any sale or other disposition of shares of stock or 
 securities made after the passage of this Act where it appears that within 
 thirty days before or after the date of such sale or other disposition the 
 taxpayer has acquired (otherwise than by bequest or inheritance) substan- 
 tially identical property, and the property so acquired is held by the tax- 
 payer for any period after such sale or other disposition, unless such claim 
 is made by a dealer in stock or securities and with respect to a transac- 
 tion made in the ordinary course of its business. If such acquisition is 
 to the extent of part only of substantially identical property, then only a 
 proportionate part of the loss shall be disallowed. In case of losses arising 
 from destruction of or damage to property, where the property so destroyed 
 or damaged was acquired before March 1, 1913, the deduction shall be com- 
 puted upon the basis of its fair market price or value as of March 1, 1913; 
 
 (5) Debts ascertained to be worthless and charged off within the taxable 
 year (or in the discretion of the Commissioner, a reasonable addition to a 
 reserve for bad debts) ; and when satisfied that a debt is recoverable only 
 in part, the Commissioner may allow such debt to be charged off in part; 
 
 (6) The amount received as dividends (A) from a domestic corporation 
 other than a corporation entitled to the benefits of section 262, or (B) from 
 any foreign corporation when it is shovsTi to the satisfaction of the Com- 
 missioner that more than 50 per centum of the gross income of such for- 
 eign corporation for the three-year period ending with the close of its tax- 
 
REVENUE ACT OF 1921 1363 
 
 able year preceding the declaration of such dividends (or for such part of 
 such period as the foreign corporation has been in existence) was derived 
 from sources within the United States as determined under section 217; 
 
 (7) A reasonable allowance for the exhaustion, wear and tear of prop- 
 erty used in the trade or business, including a reasonable allowance for 
 obsolescence. In the case of such property acquired, before March 1, 1913, 
 this deduction shall be computed upon the basis of its fair market price 
 or value as of March 1, 1913; 
 
 (8) In the case of buildings, machinery, equipment, or other facilities, 
 constructed, erected, installed, or acquired, on or after April 6, 1917, for the 
 production of articles contributing to the prosecution of the war against 
 the German government, and in the case of vessels constructed or ac- 
 quired on or after such date for the transportation of articles or men con- 
 tributing to the prosecution of such war, there shall be allowed, for any 
 taxable year ending before March 3, 1924 (if claim therefor was made at 
 the time of filing return for the taxable year 1918, 1919, 1920, or 1921) a 
 reasonable deduction for the amortization of such part of the cost of such 
 facilities or vessels as has been borne by the taxpayer, but not again in- 
 cluding any amount otherwise allowed under this title or previous Acts of 
 Congress as a deduction in computing net income. At any time before 
 March 3, 1924, the Commissioner may, and at the request of the taxpayer 
 shall re-examine the return, and if he then finds as a result of an appraisal 
 or from other evidence that the deduction originally allowed was incorrect, 
 the income, war-profits, and excess-profits taxes for the year or years 
 affected shall be redetermined and the amount of tax due upon such re- 
 determination, if any, shall be paid upon notice and demand by the collector, 
 or the amount of tax overpaid, if any, shall be credited or refunded to the 
 taxpayer in accordance with the provisions of section 252; 
 
 (9) In the case of mines, oil and gas wells, other natural deposits, and 
 timber, a reasonable allowance for depletion and for depreciation of im- 
 provements, according to the peculiar conditions in each case, based upon 
 cost including cost of development not otherwise deducted: Provided, That 
 in the case of such properties acquired prior to March 1, 1913, the fair mar- 
 ket value of the property (or the taxpayer's interest therein) on that date 
 shall be taken in lieu of cost up to that date : Provided further, That in the 
 case of mines, oil and gas wells, discovered by the taxpayer, on or after 
 March 1, 1913, and not acquired as the result' of purchase of a proven tract 
 or lease, where the fair market value of the property is materially dispropor- 
 tionate to the cost, the depletion allowance shall be based upon the fair mar- 
 ket value of the property at the date of the discovery, or within thirty days 
 thereafter: And provided further. That such depletion allowance based 
 on discovery value shall not exceed the net income, computed without al- 
 lowance for depletion, from the property upon which the discovery is made, 
 except where such net income so computed is less than the depletion allow- 
 ance based on cost or fair market value as of March 1, 1913; such reason- 
 able allowance in all the above cases to be made under rules and regula- 
 tions to be prescribed by the Commissioner with the approval of the 
 Secretary. In the case of leases the deductions allowed by this paragraph 
 shall be equitably apportioned between the lessor and lessee; 
 
 (10) In case of insurance companies (other than life insurance com- 
 panies), in addition to the above (unless otherwise allowed) : (A) The 
 net addition required by law to be made within the taxable year to re- 
 serve funds (including in the case of assessment insurance companies the 
 
1364 APPENDIX 
 
 actual deposit of sums with state or territorial officers pursuant to law as 
 additions to guarantee or reserve funds) ; and (B) the sums other than 
 dividends paid within the taxable year on policy and annuity contracts. 
 After December 31, 1921, this subdivision shall apply only to mutual in- 
 surance companies other than life insurance companies; 
 
 (11) In the case of corporations (except those taxed under section 243) 
 issuing policies covering life, health, and accident insurance combined in 
 one policy issued on the weekly premium payment plan continuing for life 
 and not subject to cancellation, in addition to the above, such portion of the 
 net addition (not required by law) made within the taxable year to re- 
 serve funds as the Commissioner finds to be required for the protection 
 of the holders of such policies only. This subdivision shall not be in effect 
 after December 31, 1921; 
 
 (12) In the case of mutual marine insurance companies, there shall be 
 allowed, in addition to the deductions allowed in paragraphs (1) to (10), 
 inclusive, and paragraph (14), unless otherwise allowed, amounts repaid 
 to policyholders on account of premiums previously paid by them, and in- 
 terest paid upon such amounts between the ascertainment and the pay- 
 ment thereof; 
 
 (13) In the case of mutual insurance companies (including interinsurers 
 and reciprocal underwriters, but not including mutual life or mutual 
 marine insurance companies) requiring their members to make premium 
 deposits to provide for losses and expenses, there shall be allowed, in addi- 
 tion to the deductions allowed in paragraphs (1) to (10), inclusive, and 
 paragraph (14), unless otherwise allowed, the amount of premium de- 
 posits returned to their policyholders and the amount of premium deposits 
 retained for the payment of losses, expenses, and reinsurance reserves; 
 
 (14) If property is compulsorily or involuntarily converted into cash or 
 its equivalent as a result of (A) its destruction in whole or in part, (B) 
 theft or seizure, or (C) an exercise of the power of requisition or con- 
 demnation, or the threat or imminence thereof ; and if the taxpayer proceeds 
 forthwith in good faith, under regulations prescribed by the Commissioner 
 with the approval of the Secretary, to expend the proceeds of such conver- 
 sion in the acquisition of other property of a character similar or related in 
 service or use to the property so converted, or in the acquisition of 80 per 
 centum or more of the stock or shares of a corporation owning such other 
 property, or in the establishment of a replacement fund, then there shall be 
 allowed as a deduction such portion of the gain derived as the portion of 
 the proceeds so expended bears to the entire proceeds. The provisions of 
 this paragraph prescribing the conditions under which a deduction may be 
 taken in respect of the proceeds or gains derived from the compulsory or 
 involuntary conversion of property into cash or its equivalent, shall apply 
 so far as may be practicable to the exemption or exclusion of such proceeds 
 or gains from gross income under prior income, war-profits and excess- 
 profits tax Acts. 
 
 (b) In the case of a foreign corporation or of a corporation entitled to the 
 benefits of section 262 the deductions allowed in subdivision (a) shall be 
 allowed only if and to the extent that they are connected with income from 
 sources within the United States; and the proper apportionment and alloca- 
 tion of the deductions with respect to sources within and without the United 
 States shall be determined as provided in section 217 under rules and regula- 
 tions prescribed by the Commissioner with the approval of the Secretary. 
 
REVENUE ACT OF 1921 1365 
 
 ITEMS NOT DEDUCTIBLE BY CORPORATIONS 
 
 Sec. 235. That in computing net income no deduction shall in any case 
 be allowed in respect of any of the items specified in section 215. 
 
 CREDITS ALLOWED CORPORATIONS 
 
 Sec. 236. That for the purpose only of the tax imposed by section 230 
 there shall be allowed the following credits: 
 
 (a) The amount received as interest upon obligations of the United 
 States and bonds issued by the War Finance Corporation, which is in- 
 cluded in gross income under section 233; 
 
 (b) In the case of a domestic corporation the net income of which is 
 $25,000 or less, a specific credit of $2,000 ; but if the net income is more than 
 $25,000 the tax imposed by section 230 shall not exceed the tax which 
 would be payable if the $2,000 credit were allowed, plus the amount of the 
 net income in excess of $25,000; and 
 
 (c) The amount of any war-profits and excess-profits taxes imposed by 
 Act of Congress for the same taxable year. The credit allowed by this 
 subdivision shall be determined as follows: 
 
 (1) In the case of a corporation which makes return for a fiscal year 
 beginning in 1920 and ending in 1921, in computing the income tax as pro- 
 vided in subdivision (a) of section 205, the portion of the war-profits and 
 excess-profits tax computed for the entire period under clause (1) of sub- 
 division (a) of section 335 shall be credited against the net income computed 
 for the entire period as provided in clause, (1) of subdivision (a) of section 
 205, and the portion of the war-profits and excess-profits tax computed for 
 the entire period under clause (2) of subdivision (a) of section 335 shall be 
 credited against the net income computed for the entire period as provided 
 in clause (2) of subdivision (a) of section 205. 
 
 (2) In the case of a corporation which makes return for a fiscal year 
 beginning in 1921 and ending in 1922, in computing the income tax as pro- 
 vided in subdivision (b) of section 205, the war-profits and excess-profits 
 tax computed under subdivision (b) of section 335 shall be credited against 
 the net income computed for the entire period as provided in clause (1) of 
 subdivision (b) of section 205. 
 
 PAYMENT OP CORPORATION INCOME TAX AT SOURCE 
 
 Sec. 237. That in the case of foreign corporations subject to taxation 
 under this title not engaged in trade or business within the United States 
 and not having any office or place of business therein, there shall be de- 
 ducted and withheld at the source in the same manner and upon the same 
 items of income as is provided in section 221 a tax equal to 12J per centum 
 thereof (but during the calendar year 1921 only 10 per centum) , and such 
 tax shall be returned and paid in the same manner and subject to the same 
 conditions as provided in that section : Provided, That in the case of interest 
 described in subdivision (b) of that section the deduction and withholding 
 shall be at the rate of 2 per centum. 
 
 CREDIT FOR TAXES IN CASE OF CORPORATIONS 
 
 Sec. 238. (a) That in the case of a domestic corporation the tax imposed 
 by this title, plus the war-profits and excess-profits taxes, if any, shall be 
 credited with the amount of any income, war-profits, and excess-profits 
 taxes paid during the same taxable year to any foreign country, or to any 
 
1366 APPENDIX 
 
 possession of the United States: Provided, That the amount of credit taken 
 under this subdivision shall in no case exceed the same proportion of the 
 taxes, against which such credit it taken, which the taxpayer's net income 
 (computed without deduction for any income, war-profits, and excess-profits 
 taxes imposed by any foreign country or possession of the United States) 
 from sources without the United States bears to its entire net income (com- 
 puted without such deduction) for the same taxable year. In the case of 
 domestic insurance companies subject to the tax imposed by section 243 
 or 246, the term "net income," as used in this subdivision means net income 
 as defined in sections 245 and 246, respectively. 
 
 (b) If accrued taxes when paid differ from the amounts claimed as credits 
 by the corporation, or if any tax paid is refunded in whole or in part, the 
 corporation shall at once notify the Commissioner, who shall redetermine the 
 amount of the income, war-profits and excess-profits taxes for the year or 
 years affected, and the amount of taxes due upon such redetermination, 
 if any, shall be paid by the corporation upon notice and demand by the col- 
 lector, or the amount of taxes overpaid, if any, shall be credited or re- 
 funded to the corporation in accordance with the provisions of section 252. 
 In the case of such a tax accrued but not paid, the Commissioner as a condi- 
 tion precedent to the allowance of this credit may require the corporation to 
 give a bond with sureties satisfactory to and to be approved by him in such 
 penal sum as he may require, conditioned for the payment by the tax- 
 payer of any amount of taxes found due upon any such redetermination; 
 and the bond herein prescribed shall contain such further conditions as the 
 Commissioner may require. 
 
 (c) These credits shall be allowed only if the taxpayer furnishes evidence 
 satisfactory to the Commissioner showing the amount of income derived 
 from sources without the United States, and all other information neces- 
 sary for the verification and computation of such credit. 
 
 (d) If a domestic corporation makes a return for a fiscal year begin- 
 ning in 1920 and ending in 1921, the credit for the entire fiscal year shall, 
 notwithstanding any provision of this Act, be determined under the pro- 
 visions of this section; and the Commissioner is authorized to disallow, in 
 whole or in part, any such credit which he finds has already been taken 
 by the taxpayer. 
 
 (e) For the purposes of this section a domestic corporation which owns 
 a majority of the voting stock of a foreign corporation from which it re- 
 ceives dividends (not deductible under section 234) in any taxable year shall 
 be deemed to have paid the same proportion of any income, war-profits, or 
 excess-profits taxes paid by such foreign corporation to any foreign cojintry 
 or to any possession of the United States, upon or with respect to the ac- 
 cumulated profits of such foreign corporation from which such dividends 
 were paid, which the amount of such dividends bears to the amount of such 
 accumulated profits: Provided, That the credit allowed to any domestic 
 corporation under this subdivision shall in no case exceed the same pro- 
 portion of the taxes against which it is credited, which the amount of 
 such dividends bears to the amount of the entire net income of the domestic 
 corporation in which such dividends are included. The term "accumulated 
 profits" when used in this subdivision in reference to a foreign corporation, 
 means the amount of its gains, profits, or income in excess of the income, 
 war-profits, and excess-profits taxes imposed upon or with respect to such 
 profits or income; and the Commissioner vsdth the approval of the Secretary 
 shall have full power to determine from the accumulated profits of what 
 
REVENUE ACT OF 1921 1367 
 
 year or years, such dividends were paid ; treating dividends paid in the first 
 sixty days of any year as having been paid from the accumulated profits 
 of the preceding year or years (unless to his satisfaction shown otherwise), 
 and in other respects treating dividends as having been paid from the most 
 recently accumulated gains, profits, or "earnings. In the case of a foreign 
 corporation, the income, war-profits, and excess-profits taxes of which are 
 determined on the basis of an accounting period of less than one year, the 
 word "year" as used in this subdivision shall be construed to mean such 
 accounting period. 
 
 (f) For the purposes of this section a corporation entitled to the benefits 
 of section 262 shall be treated as a foreign corporation. 
 
 CORPORATION RETURNS 
 
 Sec. 239. (a) That every corporation subject to taxation under this title 
 and every personal service corporation shall make a return, stating specifi- 
 cally the items of its gross income and the deductions and credits allowed 
 by this title. The return shall be sworn to by the president, vice president, 
 or other principal officer and by the treasurer or assistant treasurer. If any 
 foreign corporation has no office or place of business in the United States 
 but has an agent in the United States,! the return shall be made by the agent. 
 In cases where receivers, trustees in bankruptcy, or assignees are operating 
 the property or business of corporations, such receivers, trustees, or 
 assignees shall make returns for suqh corporations in the same manner and 
 form as corporations are required to make returns. Any tax due on the 
 basis of such returns made by receivers, trustees, or assignees shall be col- 
 lected in the same manner as if collected from the corporations of whose 
 business or property they have custody and control. 
 
 (b) Returns made under this section shall be subject to the provisions 
 of sections 226 and 228. When return is made under section 226 the credit 
 provided in subdivision (b) of section 236 shall be reduced to an amount 
 which bears the same ratio to the full credit therein provided as the number 
 of months in the period for which such return is made bears to twelve 
 months. 
 
 (c) There shall be included in the return or appended thereto a state- 
 ment of such facts as will enable the Commissioner to determine the por- 
 tion of the earnings or profits of the corporation (including gains, profits 
 and income .not taxed) accumulated during the taxable year for which the 
 return is made, which have been distributed or ordered to be distributed, re- 
 spectively, to its stockholders or' members during such year. 
 
 CONSOLIDATED RETURNS OF CORPORATIONS 
 
 Sec. 240. (a) That corporations which are affiliated within the meaning 
 of this section may, for any taxable year beginning on or after January 1, 
 1922, make separate returns or, under regulations prescribed by the Com- 
 missioner with the approval of the Secretary, make a consolidated return 
 of net income for the purpose of this title, in which case the taxes there- 
 under shall be computed and determined upon the basis of such return. If 
 return is made on either of such bases, all returns thereafter made shall be 
 upon the same basis unless permission to change the basis is granted by the 
 Commissioner. 
 
 (b) In any case in which a tax is assessed upon the basis of a con- 
 solidated return, the total tax shall be computed in the first instance as a 
 unit and shall then be assessed upon the respective affiliated corporations in 
 
1368 APPENDIX 
 
 such proportions as may be agreed upon among them, or, in the absence of 
 any such agreement, then on the basis of the net income properly assign- 
 able to each. There shall be allowed in computing the income tax only one 
 specific credit computed as provided in subdivision (b) of section 236. 
 
 (c) For the purpose of this section two or more domestic corporations 
 shall be deemed to be aifiliated (1) if one corporation owns directly or con- 
 trols through closely affiliated interests or by a nominee or nominees sub- 
 stantially all of the stock of the other or others, or (2) if substantially all 
 of the stock of two or more corporations is owned or controlled by the same 
 interests. 
 
 (d) For the purposes of this section a corporation entitled to the benefits 
 of section 262 shall be treated as a foreign corporation: Provided, That in 
 any case of two or more related trades or businesses (whether unincor- 
 porated or incorporated and whether organized in the United States or not) 
 owned or controlled directly or indirectly by the same interests, the Com- 
 missioner may consolidate the accounts of such related trades and businesses, 
 in any proper case, for the purpose of making an accurate distribution or 
 apportionment of gains, profits, income, deductions, or capital between or 
 among such related trades or businesses. 
 
 (e) Corporations which are affiliated within the meaning of this section 
 shall make consolidated returns for any taxable year beginning prior to 
 January 1, 1922, in the same manner and subject to the same conditions as 
 provided by the Revenue Act of 1918. 
 
 TIME AND PLACE FOR FILING CORPORATE RETURNS 
 
 Sec. 241. (a) That returns of corporations shall be made at the same 
 time as is provided in subdivision (a) of section 227, except that in the case 
 of foreign corporations not having any office or place of business in the 
 United States returns shall be made at the same time as provided in section 
 227 in the case of a nonresident alien individual. 
 
 (b) Returns shall be made to the collector of the district in which is 
 located the principal place of business or principal office or agency of the 
 corporation, or, if it has no principal place of business or principal office or 
 agency in the United States, then to the collector at Baltimore, Maryland. 
 
 TAXES ON INSURANCE COMPANIES 
 
 Sec. 242. That when used in this title the term "life insurance com- 
 pany" means an insurance company engaged in the business of issuing life 
 insurance and annuity contracts (including contracts of combined life, health, 
 and accident insurance) , the reserve funds of which held for the fulfillment 
 of such contracts comprise more than 50 per centum of its total reserve 
 funds. 
 
 Sec. 243. That in lieu of the taxes imposed by sections 230 and 1000 and 
 by Title III, there shall be levied, collected, and paid for the calendar year 
 1921 and for each taxable year thereafter upon the net income of every life 
 insurance company a tax as follows: 
 
 (1) In the case of a domestic life insurance company, the same per- 
 centage of its net income as is imposed upon other corporations by section 
 230; 
 
 (2) In the case of a foreign life insurance company, the same percentage 
 of its net income from sources within the United States as is imposed upon 
 the net income of other corporations by section 230. 
 
REVENUE ACT OF 1921 1369 
 
 Sec. 244. (a) That in the case of a life insurance company the term 
 "gross income" means the gross amount of income received during the tax- 
 able year from interest, dividends, and rents. 
 
 (b) The term "reserve funds required by law" includes, in the case of 
 assessment insurance, sums actually deposited by any company or associa- 
 tion with state or territorial officers pursuant to law as guaranty or re- 
 serve funds, and any funds maintained under the charter or articles of in- 
 corporation of the company or association exclusively for the payment of 
 claims arising under certificates of membership or policies issued upon the 
 assessment plan and not subject to any other use. 
 
 Sec. 245. (a) That in the case of a life insurance company the term 
 "net income" means the gross income less — 
 
 (1) The amount of interest received during the taxable year which under 
 paragraph (4) of subdivision (b) of section 213 is exempt from taxation 
 under this title; 
 
 (2) An amount equal to the excess, if any, over the deduction specified 
 in paragraph (1) of this subdivision, of 4 per centum of the mean of the 
 reserve funds required by law and held at the beginning and end of the 
 taxable year, plus (in case of life insurance companies issuing policies cov- 
 ering life, health, and accident insurance combined in one policy issued on 
 the weekly premium payment plan, continuing for life and not subject to 
 cancellation) 4 per centum of the mean of such reserve funds (not required 
 by law) held at the beginning and end of the taxable year, as the Commis- 
 sioner finds to be necessary for the protection of the holders of such policies 
 only; 
 
 (3) The amount received as dividends (A) from a domestic corpora- 
 tion other than a corporation entitled to the benefits of section 262, or (B) 
 from any foreign corporation when it is shown to the satisfaction of the 
 Commissioner that more than 50 per centum of the gross income of such 
 foreign corporation for the three-year period ending with the close of its 
 taxable year preceding the declaration of such dividends (or for such part 
 of such period as the foreign corporation has been in existence) was de- 
 rived from sources within the United States as determined under section 
 217; 
 
 (4) An amount equal to 2 per centum of any sums held at the end of the 
 taxable year as a reserve for dividends (other than dividends payable during 
 the year following the taxable year) the payment of which is deferred for 
 a period of not less than five years from the date of the policy contract; 
 
 (5) Investment expenses paid during the taxable year: Provided, That if 
 any general expenses are in part assigned to or included in the investment 
 expenses, the total deduction under this paragraph shall not exceed one- 
 fourth of 1 per centum of the book value of the mean of the invested assets 
 held at the begiriiiing and end of the taxable year; 
 
 (6) Taxes and other expenses paid during the taxable year exclusively 
 upon or with respect to the real estate owned by the company, not including 
 taxes assessed against local benefits of a kind tending to increase the value 
 of the property assessed, and not including any amount paid out for new 
 buildings, or for permanent improvements or betterments made to increase 
 the value of any property. The deduction allowed by this paragraph shall 
 be allowed in the case of taxes imposed upon a shareholder or member of 
 a company upon his interest as shareholder or member, which are paid by 
 
1370 APPENDIX 
 
 the company without reimbursement from the shareholder or member, but 
 in such cases no deduction shall be allowed the shareholder or member for 
 the amount of such taxes; 
 
 (7) A reasonable allowance for the exhaustion, wear and tear of prop- 
 erty, including a reasonable allowance for obsolescence. In the case of prop- 
 erty acquired before March 1, 1913, this deduction shall be computed upon 
 the basis of its fair market price or value as of March 1, 1913; 
 
 (8) All interest paid or accrued within the taxable year on its indebted- 
 ness, except on indebtedness incurred or continued to purchase or carry 
 obligations or securities (other than obligations of the United States issued 
 after September 24, 1917, and originally subscribed for by the taxpayer) 
 the interest upon which is wholly exempt from taxation under this title; 
 
 (9) In the case of a domestic life insurance company, the net income of 
 which (computed without the benefit of this paragraph) is $25,000 or less, 
 the sum of $2,000; but if the net income is more than $25,000 the tax im- 
 posed by section 243 shall not exceed the tax which would be payable if the 
 $2,000 credit were allowed, plus the amount of the net income in excess of 
 $25,000. 
 
 (b) No deduction shall be made under paragraphs (6) and (7) of sub- 
 division (a) on account of any real estate owned and occupied in whole or 
 in part by a life insurance company unless there is included in the return 
 of gross income the rental value of the space so occupied. Such rental 
 value shall be not less than a sum which in addition to any rents received 
 from other tenants shall provide a net income (after deducting taxes, de- 
 preciation, and all other expenses) at the rate of 4 per centum per annum 
 of the book value at the end of the taxable year of the real estate so owned 
 or occupied.. 
 
 (c) In the case of a foreign life insurance company the amount of its net 
 income for any taxable year from sources within the United States shall be 
 the same proportion of its net income for the taxable year from sources 
 within and without the United States, which the reserve funds required by 
 law and held by it at the end of the taxable year upon business transacted 
 within the United States is of the reserve funds held by it at the end of 
 the taxable year upon all business transacted. 
 
 Sec. 246. (a) That, in lieu of the taxes imposed by sections 230 and 1000, 
 there shall be levied, collected and paid for the calendar year 1922, and for 
 each taxable year thereafter, upon the net income of every insurance com- 
 pany (other than a life or mutual insurance company) a tax as follows: 
 
 (1) In the case of such a domestic insurance company the same percentage 
 of its net income as is imposed upon other corporations by section 230; 
 
 (2) In the case of such a foreign insurance company the same percentage 
 of its net income from sources within the United States as is imposed upon 
 the net income of other corporations by section 230. 
 
 (b) In the case of an insurance company subject to the tax imposed by 
 this section — 
 
 (1) The term "gross income" means the combined gross amount earned 
 during the taxable year, from investment income and from underwriting 
 income as provided in this subdivision, computed on the basis of the under- 
 writing and investment exhibit of the annual statement approved by the 
 National Convention of Insurance Commissioners; 
 
 (2) The term "net income" means the gross income as defined in para- 
 graph (1) of this subdivision less the deductions allowed by section 247; 
 
REVENUE ACT OP 1921 1371 
 
 (3) The term "investment income" means the gross amount of income 
 earned during the taxable year from interest, dividends and rents, computed 
 as follows: 
 
 To all interest, dividends and rents received during the taxable year, 
 add interest, dividends and rents due and accrued at the end of the taxable 
 year, and deduct all interest, dividends and rents due and accrued at the 
 end of the preceding taxable year; 
 
 (4) The term "underwriting income" means the premiums earned on in- 
 surance contracts during the taxable year less losses incurred and expenses 
 incurred ; 
 
 (5) The term "premiums earned on insurance contracts during the tax- 
 able year" means an amount computed as follows: 
 
 From the amount of gross premiums written on insurance contracts dur- 
 ing the taxable year, deduct return premiums and premiums paid for rein- 
 surance. To the result so obtained add unearned premiums on outstanding 
 business at the end of the preceding taxable year and deduct unearned pre- 
 miums on outstanding business at the end of the taxable year ; 
 
 (6) The term "losses incurred" means losses incurred during the taxable 
 year on insurance contracts, computed as follows : 
 
 To losses paid during the taxable year, add salvage and reinsurance recov- 
 erable outstanding at the end of the preceding taxable year, and deduct 
 salvage and reinsurance recoverable outstanding at the end of the taxable 
 year. To ^the result so obtained add all unpaid losses outstanding at the end 
 of the taxable year and deduct unpaid losses outstanding at the end of the 
 preceding taxable year; 
 
 (7) The term "expenses incurred" means all expenses shown on the 
 annual statement approved by the National Convention of Insurance Com- 
 missioners, and shall be computed as follows: 
 
 To all expenses paid during the taxable year add expenses unpaid at the 
 end of the taxable year and deduct expenses unpaid at the end of the pre- 
 ceding taxable year. For the purpose of computing the net income subject 
 to the tax imposed by this section there shall be deducted from expenses 
 incurred as defined in this paragraph all expenses incurred which are not 
 allowed as deductions by section 247. 
 
 Sec. 247. (a) That in computing the net income of an insurance company 
 subject to the tax imposed by section 246 there shall be allowed as deduc- 
 tions : 
 
 (1) All ordinary and necessary expenses incurred, as provided in par- 
 agraph (1) of subdivision (a) of section 234; 
 
 (2) All interest as provided in paragraph (2) of subdivision (a) of 
 section 234; 
 
 (3) Taxes as provided in paragraph (3) of subdivision (a) of section 234; 
 
 (4) Losses incurred; 
 
 (5) Bad debts in the nature of agency balances and bills receivable 
 ascertained to be worthless and charged off within the taxable year ; 
 
 (6) The amount received as dividends from corporations as provided in 
 paragraph (6) of subdivision (a) of section 234; 
 
 (7) The amount of interest earned during the taxable year which under 
 paragraph (4) of subdivision (b) of section 213 is exempt from taxation 
 under this title, and the amount of interest allowed as a credit under sub- 
 division (a) of section 236; 
 
 (8) A reasonable allowance, for the exhaustion, wear and tear of prop- 
 erty, as provided in paragraph (7) of subdivision (a) of section 234; 
 
1372 APPENDIX 
 
 (9) In the case of such a domestic insurance company, the net income 
 of which (computed without the benefit of this paragraph) is $25,000 or 
 less, the sum of $2,000; but if the net income is more than $25,000 the tax 
 imposed by section 246 shall not exceed the tax which would be payable 
 if the $2,000 credit were allowed, plus the amount of the net income in 
 excess of $25,000. 
 
 (b) In the case of a foTeign corporation the deductions allowed in this 
 Section shall be allowed to the extent provided in subdivision (b) of sec- 
 tion 234. 
 
 (c) Nothing in this section or in section 246 shall be construed to permit 
 the same item to be twice deducted. 
 
 Part IV — Administrative Provisions 
 
 PAYMENT OF TAXES 
 
 Sec. 250. (a) That except as otherwise provided in this section and 
 sections 221 and 237 the tax shall be paid in four installments, each con- 
 sisting of one-fourth of the total amount of the tax. The first installment 
 shall be paid at the time fixed by law for filing the return, and the second 
 installment shall be paid on the fifteenth day of the third month, the third 
 installment on the fifteenth day of the sixth month, and the fourth install- 
 ment on the fifteenth day of the ninth month, after the time fixed by law 
 for filing the return. Where an extension of time for filing a return is 
 granted the time for payment of the first installment shall be postponed 
 until the date of the expiration of the period of the extension, but the time 
 for payment of the other installments shall not be postponed unless the 
 Commissioner so provides in granting the extension. In any case in which 
 the time for the payment of any installment is at the request of the 
 taxpayer thus postponed, there shall be added as a part of such installment 
 interest thereon at the rate of one-half of 1 per centum per month from 
 the time it would have been due if no extension had been granted, until 
 paid. If any installment is not paid when due, the whole amount of the 
 tax unpaid shall become due and payable upon notice and demand by the 
 collector. 
 
 The tax may at the option of the taxpayer be paid in a single payment 
 instead of installments, in which case the total amount shall be paid on 
 or before the time fixed by law for filing the return. Or, where an extension 
 of time for filing the return has been granted, on or before the expiration 
 of the period of such extension. 
 
 (b) As soon as practicable after the return is filed, the Commissioner 
 shall examine it. Jf it then appears that the correct amount of the tax is 
 greater or less than that shown in the return, the installments shall be 
 recomputed. If the amount already paid exceeds that which should have 
 been paid on the basis of the installments as recomputed, the excess so 
 paid shall be credited against the subsequent installments; and if the 
 amount already paid exceeds the correct amount of the tax, the excess shall 
 be credited or refunded to the taxpayer in accordance with the provisions 
 of section 252. 
 
 If the amount already paid is less than that which should have been 
 paid, the difference, to the extent not covered by any credits due to the 
 taxpayer under section 252 (hereinafter called "deficiency"), together with 
 interest thereon at the rate of one-half of 1 per centum per month from 
 the time the tax was due (or, if paid on the installment basis, on the 
 
REVENUE ACT OF 1921 1373 
 
 deficiency of each installment from the time the installment was due), 
 shall be paid upon notice and demand by the collector. If any part of the 
 deficiency is due to negligence or intentional disregard of authorized rules 
 and regulations with knowledge thereof, but without intent to defraud, 
 there shall be added as part of the tax 5 per centum of the total amount 
 of the deficiency in the tax, and interest in such a case shall be collected at 
 the rate of 1 per centum per month on the amount of such deficiency in 
 the tax from the time it was due (or, if paid on the installment basis, on 
 the amount of the deficiency in each installment from the time the install- 
 ment was due), which penalty and interest shall become due and payable 
 upon notice and demand by the collector. If any part of the deficiency is 
 due to fraud with intent to evade tax, then, in lieu of the penalty provided 
 by section 3176 of the Revised Statutes, as amended, for false or fraud- 
 ulent returns wilfully made, but in addition to other penalties provided by 
 law for false or fraudulent returns, there shall be added as part of the 
 tax 50 per centum of the total amount of the deficiency in the tax. In 
 such case the whole amount of the tax unpaid, including the penalty so 
 added, shall become due and payable upon notice and demand by the col- 
 lector. 
 
 (c) If thfe return is made pursuant to section 3176 of the Revised 
 Statutes as amended, the amount of tax determined to be due under such 
 return shall be paid upon notice and demand by the collector. 
 
 (d) The amount of income, excess-profits, or war-profits taxes due under 
 any return made under this Act for the taxable year 1921 or succeeding 
 taxable years shall be determined and assessed by the Commissioner 
 within four years after the return was filed, and the amount of any such 
 taxes due under any return made under this Act for prior taxable years 
 or under prior income, excess-profits, or war-profits tax Acts, or under 
 section 38 of the Act entitled "An Act to provide revenue, equalize duties, 
 and encourage the industries of the United States, and for other pur- 
 poses," approved August 5, 1909, shall be determined and assessed within 
 five years after the return was filed, unless both the Commissioner and the 
 taxpayer consent in writing to a later determination, assessment, and 
 collection of the tax; and no suit or proceeding for the collection of any 
 such taxes due under, this Act or under prior income, excess-profits, or 
 war-profits tax Acts, or of any taxes due under section 38 of such Act of 
 August 5, 1909, shall be begun, after the expiration of five years after 
 the date when such return was filed, but this shall not affect suits or pro- 
 ceedings begun at the time of the passage of this Act: Provided, That in 
 the case of income received during the lifetime of a decedent, all taxes 
 due thereon shall be determined and assessed by the Commissioner within 
 one year after written request therefor by the executor, administrator, or 
 other fiduciary representing the estate of such decedent: Provided further, 
 That in the case of a false or fraudulent return with intent to evade tax, 
 or of a failure to file a required return, the amount of tax due may be 
 determined, assessed, and collected, and a suit or proceeding for the 
 collection of such amount may be begun, at any time after it becomes 
 due : Provided further, That in cases coming within the scope of para- 
 graph (9) of subdivision (a) of section 214, or of paragraph (8) of sub- 
 division (a) of section 234, or in cases of final settlement of losses and 
 other deductions tentatively allowed by the Commissioner pending a de- 
 termination of the exact amount deductible, the amount of tax or de- 
 ficiency in tax due may be determined, assessed, and collected at any time; 
 
1374 APPENDIX 
 
 but prior to the assessment thereof the taxpayer shall be notified and given 
 a period of not less than thirty days in which to file an appeal and be 
 heard as hereinafter provided in this subdivision. 
 
 If upon examination of a return made under the Revenue Act of 1916, 
 the Revenue Act of 1917, the Revenue Act of 1918, or this Act, a tax or a 
 deficiency in tax is discovered, the taxpayer shall be notified thereof and 
 given a period of not less than thirty days after such notice is sent by 
 registered mail in vsrhich to file an appeal and show cause or reason why 
 the tax or deficiency should not be paid. Opportunity for hearing shall 
 be granted and a final decision thereon shall be made as quickly as prac- 
 ticable. Any tax or deficiency in tax then determined to be due shall be 
 assessed and paid, together with the penalty and interest, if any, applicable 
 thereto, within ten days after notice and demand by the collector as here- 
 inafter provided, and in such cases no claim in abatement of the amount 
 so assessed shall be entertained: Provided, That in cases where the 
 Commissioner believes that the collection of the amount due will be 
 jeopardized by such delay he may make the assessment without giving 
 such notice or awaiting the conclusion of such hearing. 
 
 (e) If any tax remains unpaid after the date when it is due, and for 
 ten days after notice and demand by the collector, then, except in the 
 case of estates of insane, deceased, or insolvent persons, there shall be 
 added as part of the tax the sum of 5 per centum on the amount due but 
 unpaid, plus interest at the rate of 1 per centum per month upon such 
 amount from the time it became due: Provided, That as to any such 
 amount which is the subject of a bona fide claim for abatement filed within 
 ten days after notice and demand by the collector, where the taxpayer has 
 not had the benefit of the provisions of subdivision (d), such sum of 5 per 
 centum shall not be added and the interest from the time the amount was 
 due until the claim is decided shall be at the rate of one-half of 1 per 
 centum per month on that part of the claim rejected. 
 
 In the case of the first installment provided for in subdivision (a) the 
 instructions printed on the return shall be sufficient notice of the date when 
 the tax is due and sufficient demand, and the taxpayer's computation of the 
 tax on the return shall be sufficient notice of the amount due. In the case 
 of each subsequent installment the collector may, within thirty days and 
 not later than ten days before the installment becomes due, mail to the 
 taxpayer notice of the amount of the installment and the date on which 
 it is due for payment. Such notice of the collector shall be sufficient notice 
 and sufficient demand under this section. 
 
 (f) In the case of any deficiency (except where the deficiency is due to 
 negligence or to fraud with intent to evade tax) where it is shown to the 
 satisfaction of the Commissioner that the payhient of such deficiency 
 would result in undue hardship to the taxpayer, the Commissioner may, 
 with the approval of the Secretary, extend the time for the payment of 
 such deficiency or any part thereof for such period not in excess of 
 eighteen months from the passage of this Act as the Commissioner may 
 determine. In such case the Commissioner may require the taxpayer to 
 furnish a bond with sufficient sureties conditioned upon the payment of 
 the deficiency in accordance with the terms of the extension granted. 
 There shall be added in lieu of other interest provided by law, as a part of 
 such deficiency, interest thereon at the rate of two-thirds of 1 per centum 
 per month from the time such extension is granted; except where such 
 other interest provided by law is in excess of interest at the rate of two- 
 
REVENUE ACT OF 1921 1375 
 
 thirds of 1 per centum per month. If the deficiency or any part thereof is 
 not paid in accordance with the terms of the extension granted, there shall 
 be added as part of the deficiency, in lieu of other interest and penalties 
 provided by law, the sum of 5 per centum of the deficiency and interest 
 on the deficiency at the rate of 1 per centum per month from the time it 
 becomes payable in accordance with the terms of such extension. 
 
 (g) If the Commissioner finds that a taxpayer designs quickly to depart 
 from the United States or to remove his property therefrom, or to conceal 
 himself or his property therein, or to do any other act tending to prejudice 
 or to render wholly or partly ineffectual proceedings to collect the tax for 
 the taxable year then last past or the taxable year then current unless 
 such proceedings be brought without delay, the Commissioner shall declare 
 the taxable period for such taxpayer immediately terminated and shall 
 cause notice of such finding and declaration to be given the taxpayer, to- 
 gether with a demand for immediate payment of the tax for the taxable 
 period so declared terminated and of the tax for the preceding taxable 
 year or so much of said tax as is unpaid, whether or not the time other- 
 wise allowed by law for filing return and paying the tax has expired; and 
 such taxes shall thereupon become immediately due and payable. In any 
 action or suit brought to enforce payment of taxes made due and payable 
 by virtue of the provisions of this subdivision the finding of the Commis- 
 sioner, made as herein provided, whether made after notice to the tax- 
 payer or not, shall be for all purposes presumptive evidence of the tax- 
 payer's design. A taxpayer who is not in default in making any return 
 or paying income, war-profits, or excess-profits tax under any Act of 
 Congress may furnish to the United States, under regulations to be pre- 
 scribed by the Commissioner with the approval of the Secretary, security 
 approved by the Commissioner that he will duly make the return next 
 thereafter required to fce filed and pay the tax next thereafter required 
 to be paid. The Commissioner may approve and accept in like manner 
 security for return and payment of taxes made due and payable by virtue 
 of the provisions of this subdivision, provided the taxpayer has paid in full 
 all other income, war-profits, or excess-profits taxes due from him under any 
 Act of Congress. If security is approved and accepted pursuant to the 
 provisions of this subdivision and such further or other security with 
 respect to the tax or taxes covered thereby is given as the Commissioner 
 shall from time to time find necessary and require, payment of such taxes 
 shall not be enforced by any proceedings under the provisions of this 
 subdivision prior to the expiration of the time otherwise allowed for paying 
 such respective taxes. In the case of a citizen of the United States about 
 to depart from the United States the Commissioner may, at his discretion, 
 waive any or all of the requirements placed on the taxpayer by this sub- 
 division. No alien shall depart from the United States unless he first 
 secures from the collector or agent in charge a certificate that he has com- 
 plied with all the obligations imposed upon him by the income, war-profits, 
 and excess-profits tax laws. If a taxpayer violates or attempts to violate 
 this subdivision there shall, in addition to all other penalties, be added as 
 part of the tax 25 per centum of the total amount of the tax or deficiency 
 in the tax, together with interest at the rate of 1 per centum per month 
 from the time the tax became due. 
 
 (h) The provisions of subdivisions (e), (f) and (g) of this section shall 
 apply to the assessment and collection of taxes which have accrued or may 
 accrue under the Revenue Act of 1917, the Revenue Act of 1918 or this Act. 
 
1376 APPENDIX 
 
 RECEIPTS FOR TAXES 
 
 Sec. 251. That every collector to whom any payment of any tax is 
 made under the provisions of this title shall upon request give to the 
 person making such payment a full written or printed receipt, stating the 
 amount paid and the particular account for which such payment was 
 made; and whenever any debtor pays taxes on account of payments made 
 or to be made by him to separate creditors the collector shall, if requested 
 by such debtor, give a separate receipt for the tax paid on account of 
 each creditor in such form that the debtor can conveniently produce such 
 receipts separately to his several creditors in satisfaction of their respec- 
 tive demands up to the amounts stated in the receipts; and such receipt 
 shall be sufficient evidence in favor of such debtor to justify him in with- 
 holding from his next payment to his creditor the amount therein stated; 
 but the creditor may, upon giving to his debtor a full written receipt 
 acknowledging the payment to him of any sum actually paid and accepting 
 the amount of tax paid as aforesaid (specifying the same) as a further 
 satisfaction of the debt to that amount, require the surrender to him of 
 such collector's receipt. 
 
 REFUNDS 
 
 Sec. 252. That if, upon examination of any return of income made 
 pursuant to this Act, the Act of August 5, 1909, entitled "An Act to provide 
 revenue, equalize duties, and encourage the industries of the United States, 
 and for other purposes," the Act of October 3, 1913, entitled "An Act to 
 reduce tariff duties and to provide revenue for the Government, and for 
 other purposes," the Revenue Act of 1916, as amended, the Revenue Act 
 of 1917, or the Revenue Act of 1918, it appears that an amount of income, 
 war-profits or excess-profits tax has been paid in* excess of that properly ' 
 due, then, notwithstanding the provisions of section 3228 of the Revised 
 Statutes, the amount of the excess shall be credited against any income, 
 war-profits or excess-profits taxes, or installment thereof, then due from 
 the taxpayer under any other return, and any balance of such excess shall 
 be immediately refunded to the taxpayer: Provided, That no such credit or 
 refund shall be allowed or made after five years from the date when the 
 return was due, unless before the expiration of such five years a claim 
 therefor is filed by the taxpayer: Provided further, That if upon examina- 
 tion of any return of income made pursuant to the Revenue Act of 1917, 
 the Revenue Act of 1918, or this Act, the invested capital of a taxpayer is 
 decreased by the Commissioner, and such decrease is due to the fact that 
 the taxpayer failed to take adequate deductions in previous years, with 
 the result that an amount of income tax in excess of that properly due was 
 paid in any previous year or years, then, notwithstanding any other 
 provision of law and regardless of the expiration of such five-year period, 
 the amount of such excess shall, without the filing of any claim therefor, 
 be credited or refunded as provided in this section: And vrovided further. 
 That nothing in this section shall be construed to bar from allowance 
 claims for refund filed prior to the passage of the Revenue Act of 1918 
 under subdivision (a) of section 14 of the Revenue Act of 1916, or filed 
 prior to the passage of this Act under section 252 of the Revenue Act 
 of 1918. 
 
REVENUE ACT OP 1921 1377 
 
 PENALTIES 
 
 Sec. 253. That any individual, corporation, or partnership required under 
 this title to pay or collect any tax, to naake a return or to supply informa- 
 tion, who fails to pay or collect such tax, to make such return, or to supply 
 such information at the time or times required under this title, shall be 
 liable to a penalty of not more than $1,000. Any individual, corporation, or 
 partnership, or any oificer or employee of any corporation or member or 
 employee of a partnership, who willfully refuses to pay or collect such 
 tax, to make such return, or to supply such information at the time or 
 times required under this title, or who willfully attempts in any manner 
 to defeat or evade the tax imposed by this title, shall be guilty of a 
 misdemeanor and shall be fined not more than $10,000 or imprisoned for 
 not more than one year, or both, together with the costs of prosecution. 
 
 RETURNS OF PAYMENTS OF DIVIDENDS 
 
 Sec. 254. That every corporation subject to the tax imposed by this 
 title and every personal service corporation shall, when required by the 
 Commissioner, render a correct return, duly verified under oath, of its 
 payments of dividends, stating the name and address of each stockholder, 
 the number of shares owned by him, and the amount of dividends paid 
 to him. 
 
 RETURNS OF BROKERS 
 
 Sec. 255. That every individual, corporation, or partnership doing 
 business as a broker shall, when required by the Commissioner, render 
 a correct return duly verified under oath, under such rules and regulations 
 as the Commissioner, with the approval of the Secretary, may prescribe, 
 showing the names of customers for whom such individual, corporation, or 
 partnership has transacted any business, with such details as to the profits, 
 losses, or other information which the Commissioner may require, as to 
 each of such customers, as will enable the Commissioner to determine 
 whether all income tax due on profits or gains of such customers has 
 been paid. 
 
 INFORMATION AT SOURCE 
 
 Sec. 256. That all individuals, corporations, and partnerships, in what- 
 ever capacity acting, including lessees or mortgagors of real or personal 
 property, fiduciaries, and employers, making payment to another individ- 
 ual, corporation, or partnership, of interest, rent, salaries, wages, premiums, 
 annuities, compensations, remunerations, emoluments, or other fixed or 
 determinable gains, profits, and income (other than payments described in 
 sections 254 and 255), of $1,000 or more in any taxable year, or, in the 
 case of such payments made by the United States, the ofiicers or employees 
 of the United States having information as to such payments and required 
 to make returns in regard thereto by the regulations hereinafter provided 
 for, shall render a true and accurate return to the Commissioner, under 
 such regulations and in such form and manner and to such extent as may 
 be prescribed by him with the approval of the Secretary, setting forth 
 the amount of such gains, profits, and income, and the name and address 
 of the recipient of such payment. 
 
 Such returns may be required, regardless of amounts, (1) in the case of 
 payments of interest upon bonds, mortgages, deeds of trust, or other 
 similar obligations of corporations, and (2) in the case of collections of 
 
1378 APPENDIX 
 
 items (not payable in the United States) of interest upon the bonds of 
 foreign countries and interest upon the bonds of and dividends from 
 foreign corporations by individuals, corporations, or partnerships, under- 
 taking as a matter of business or for profit the collection of foreign pay- 
 ments of such interest or dividends by means of coupons, checks, or bills 
 of exchange. 
 
 When necessary to make effective the provisions of this section the 
 name and address of the recipient of income shall be furnished upon 
 demand of the individual, corporation, or partnership paying the income. 
 
 The provisions of this section shall apply to the calendar year 1921 and 
 each calendar year thereafter, but shall not apply to the payment of 
 interest on obligations of the United States. 
 
 RETURNS TO BE PUBLIC RECORDS 
 
 Sec. 257. That returns upon which the tax has been determined by the 
 Commissioner shall constitute public records; but they shall be open to 
 inspection only upon order of the President and under rules and regula- 
 tions prescribed by the Secretary and approved by the President : Provided, 
 That the proper officers of any state imposing an income tax may, upon 
 the request of the governor thereof, have access to the returns of any 
 corporation, or to an abstract thereof showing the name and income of the 
 corporation, at such times and in such manner as the Secretary may pre- 
 scribe: Provided further, That all bona fide stockholders of record owning 
 1 per centum or more of the outstanding stock of any corporation shall, 
 upon making request of the Commissioner, be allowed to examine the 
 annual income returns of such corporation and of its subsidiaries. Any 
 stockholder who pursuant to the provisions of this section is allowed to 
 examine the return of any corporation, and who makes known in any man- 
 ner whatever not provided by law the amount or source of income, profits, 
 losses, expenditures, or any particular thereof, set forth or disclosed in 
 any such return, shall be guilty of a misdemeanor and be punished by a 
 fine not exceeding $1,000, or by imprisonment not exceeding one year, 
 or both. 
 
 The Commissioner shall as soon as practicable in each year cause to be 
 prepared and made available to public inspection in such manner as he 
 may determine, in the office of the collector in each internal-revenue 
 district and in such other places as he may determine, lists containing the 
 names and the post-office addresses of all individuals making income-tax 
 returns in such district. 
 
 PUBLICATION OF STATISTICS 
 
 Sec. 258. That the Commissioner, with the approval of the Secretary, 
 shall prepare and publish annually statistics reasonably available with 
 respect to the operation of the income, war-profits and excess-profits tax 
 laws, including classifications of taxpayers and of income, the amounts 
 allowed as deductions, exemptions, and credits, and any other facts deemed 
 pertinent and valuable. 
 
 COLLECTION OF FOREIGN ITEMS 
 
 Sec. 259. That all individuals, corporations, or partnerships undertaking 
 as a matter of business or for profit the collection of foreign payments 
 of interest or dividends by means of coupons, checks, or bills of exchange 
 shall obtain a license from the Commissioner and shall be subject to such 
 
REVENUE ACT OF 1921 1379 
 
 regulations enabling the Government to obtain the information required 
 under this title as the Commissioner, with the approval of the Secretary, 
 shall prescribe; and whoever knowingly undertakes to collect such pay- 
 ments without having obtained a license therefor, or without complying 
 with such regulations, shall be guilty of a misdemeanor and shall be fined 
 not more than $5,000, or imprisoned for not more than one year, or both. 
 
 CITIZENS OF POSSESSIONS OF THE UNITED STATES 
 
 Sec. 260. That any individual who is a citizen of any possession of 
 the United States (but not otherwise a citizen of the United States) and 
 who is not a resident of the United States, shall be subject to taxation 
 under this title only as to income derived from sources within the United 
 States, and in such case the tax shall be computed and paid in the same 
 manner and subject to the same conditions as in the case of other persons 
 who are taxable only as to income derived from such sources. 
 
 Nothing in this section shall be construed to alter or amend the pro- 
 visions of the Act entitled "An Act making appropriations for the naval 
 service for the fiscal year ending June 30, 1922, and for other purposes,'' 
 approved July 12, 1921, relating to the imposition of income taxes in the 
 Virgin Islands of the United States. 
 
 PORTO RICO AND PHILIPPINE ISLANDS 
 
 Sec. 261. That in Porto Rico and the Philippine Islands the income tax 
 shall be levied, assessed, collected, and paid as provided by law prior to 
 the passage of this Act. 
 
 The Porto Rican or Philippine Legislature shall have power by due en- 
 actment to amend, alter, modify, or repeal the income tax laws in force in 
 Porto Rico or the Philippine Islands, respectively. 
 
 INCOME FROM SOURCES WITHIN THE POSSESSIONS OF THE UNITED STATES 
 
 Sec. 262. (a) That in the case of citizens of the United States or domestic 
 corporations, satisfying the following conditions, gross income means only 
 gross income from sources within the United States — 
 
 (1) If 80 per centum or more of the gross income of such citizen or do- 
 mestic corporation (computed without the benefit of this section) for the 
 three-year period immediately preceding the close of the taxable year (or 
 for such part of such period immediately preceding the close of such tax- 
 able year as' may be applicable) was derived from sources within a pos- 
 session of the United States; and 
 
 (2) If, in the case of such corporation, 50 per centum or more of its 
 gross income (computed without the benefit of this section) for such period 
 or such part thereof was derived from the active conduct of a trade or 
 business within a possession of the United States; or 
 
 (3) If, in the case of such citizen, 50 per centum or more of his gross 
 income (computed without the benefit of this section) for such period or 
 such part thereof was derived from the active conduct of a trade or busi- 
 ness within a possession of the United States either on his own account or 
 as an employee or agent of another.- 
 
 (b) Notwithstanding the provisions of subdivision (a) there shall be 
 included in gross income all amounts received by such citizens or corpora- 
 tions within the United States, whether derived from sources within or 
 without the United States. 
 
 (c) As used in this section the term "possession of the United States" 
 does not include the Virgin Islands of the United States. 
 
1380 APPENDIX 
 
 EFFECTIVE DATE OF TITLE 
 
 Sec. 263. That this title shall take effect as of January 1, 1921. 
 TITLE III— WAR-PROFITS AND EXCESS-PROFITS TAX FOR 1921 
 Paet I — General Definitions 
 Sec. 300. That when used in this title the terms "taxable year," 
 "fiscal year," "personal service corporation," "paid or accrued," and "div- 
 idends" shall have the same meaning as provided for the purposes of income 
 tax in sections 200 and 201. 
 
 Part II — Imposition of Tax 
 
 Sec. 301. (a) That in lieu of the tax imposed by Title III of the Rev- 
 enue Act of 1918, but in addition to the other taxes imposed by this Act, 
 there shall be levied, collected and paid for the calendar year 1921 upon 
 the net income of every corporation (except corporations taxable under 
 subdivision (b) of this section) a tax equal to the sum of the folloviring: 
 
 first bracket 
 
 20 per centum of the amount of the net income in excess of the excess- 
 profits credit (determined under section 312) and not in excess of 20 per 
 centum of the invested capital; 
 
 second bracket 
 40 per centum of the amount of the net income in excess of 20 per centum 
 of the invested capital. 
 
 (b) For the calendar year 1921 there shall be levied, collected, and paid 
 upon the net income of every corporation vi^hich derives in such year a 
 net income of more than $10,000 from any government contract or con- 
 tracts made between April 6, 1917, and November 11, 1918, both dates in- 
 clusive, a tax equal to the sum of the following : 
 
 (1) Such a portion of a tax computed at the rates specified in subdivision 
 (a) of section 301 of the Revenue Act of 1918, as the part of the net in- 
 come attributable to such government contract or contracts bears to the 
 entire net income. In computing such tax the excess-profits credit and 
 the war-profits credit which would be applicable to such calendar year under 
 the Revenue Act of 1918 if it had been continued in force, shall be used; 
 
 (2) Such a portion of a tax computed at the rates specified in subdivision 
 (a) of this section as the part of the net income not attributable to such 
 government contract or contracts bears to the entire net income. 
 
 For the purpose of determining the part of the net income attributable 
 to such government contract or contracts, the proper apportionment and 
 allocation of the deductions with respect to gross income derived from 
 such government contract or contracts and from other sources, respectively, 
 shall be determined under rules and regulations prescribed by the Commis- 
 sioner with the approval of the Secretary. 
 
 (c) In any case where the full amount of the excess-profits credit is not 
 allowed under the first bracket of subdivision (a), by reason of the fact 
 that such credit is in excess of 20 per centum of the invested capital, the 
 part not so allowed shall be deducted from the amount in the second bracket. 
 
 Sec. 302. That the tax imposed by subdivision (a) of section 301 shall 
 in no case be more than 20 per centum of the amount of the net income in 
 excess of $3,000 and not in excess of $20,000, plus 40 per centum of the 
 amount of the net income in excess of $20,000; and the limitations imposed 
 
REVENUE ACT OF 1921 1381 
 
 by section 302 of the Revenue Act of 1918 (upon taxes computed under 
 subdivision-^ (c) of section 301 of that Act) are hereby made applicable to 
 taxes computed under subdivision (b) of section 301 of this Act. Nothing 
 in this section shall be construed in such manner as to increase the tax 
 imposed by section 301 of this Act. 
 
 Sec. 303. That if part of the net income of a corporation is derived (1) 
 from a trade or business (or a branch of a trade or business) in which the 
 employment of capital is necessary, and (2) a part (constituting not less 
 than 30 per centum of its total net income) is derived from a separate 
 trade or business (or a distinctly separate branch of the trade or business) 
 which if constituting the sole trade or business would bring it within the 
 class of "personal service corporations," then (under regulations pre- 
 scribed by the Commissioner with the approval of the Secretary) the tax 
 upon the first part of such net income shall be separately computed (allow- 
 ing in such computation only the same proportionate part of the credits 
 authorized in section 312), and the tax upon the second part shall be 
 the same' percentage thereof as the tax so computed upon the first part 
 is of such first part: Provided, That the tax upon such second part shall 
 in no case be less than 20 per centum thereof, unless the tax upon the 
 entire net income, if computed without benefit of this section, would con- 
 stitute less than 20 per centum of such entire net income, in which event 
 the tax shall be determined upon the entire net income, without reference 
 to this section, as other taxes are determined under this title. The total 
 tax computed under this section shall be subject to the limitations pro- 
 vided in section 302. 
 
 Sec. 304. (a) That the corporations enumerated in section 231 shall, 
 to the extent that they are exempt from income tax under Title II, be 
 exempt from taxation under this title. 
 
 (b) Any corporation whose net income for the taxable year is less than 
 $3,000 shall be exempt from taxation under this title. 
 
 (c) In the case of any corporation engaged in the mining of gold, the 
 portion of the net income derived from the mining of gold shall be exempt 
 from the tax imposed by this title or any tax imposed by Title II of the 
 Revenue Act of ' 1917, and the tax on the remaining portion of the net 
 income shall be the same proportion of a tax computed without the benefit 
 of this subdivision which such remaining portion of the net income bears 
 to the entire net income. 
 
 Sec. 305. That if a tax is computed under this title for a period of less 
 than twelve months, the specific exemption of ,$3,000, wherever referred 
 to in this title, shall be reduced to an amount which is the same proportion 
 of $3;000 as the number of months in the period is of twelve months. 
 
 Part III — Excess-Profits Credit 
 
 Sec. 312. That the excess-profits credit shall consist of a specific exemp- 
 tion of $3,000 plus an amount equal to 8 per centum of the invested capital 
 for the taxable year. 
 
 A foreign corporation or a corporation entitled to the benefits of sec- 
 tion 262 shall not be entitled to the specific exemption of $3,000. 
 
 Part IV — Net Income 
 Sec. 320. That for the purpose of this title the net income of a corporation 
 shall be ascertained and returned for the taxable year upon the same 
 basis and in the same manner as provided for income tax purposes in 
 Title II of this Act. 
 
1382 APPENDIX 
 
 Part V — Invested Capital 
 
 Sec. 325. (a) That as used in this title — 
 
 The term "intangible property" means patents, copyrights, secret pro- 
 cesses and formulae, good will, trade-marks, trade brands, franchises, and 
 other like property; 
 
 The term "tangible property" means stocks, bonds, notes, and other 
 evidences of indebtedness, bills and accounts receivable, leaseholds, and 
 other property other than intangible property; 
 
 The term "borrowed capital" means money or other property borrowed, 
 whether represented by bonds, notes, open accounts, or otherwise; 
 
 The term "inadmissible assets" means stocks, bonds, and other obligations 
 (other than obligations of the United States), the dividends or interest 
 from which is not included in computing net income, but where the income 
 derived from such assets consists in part of gain or profit derived from the 
 sale or other disposition thereof, or where all or part of the interest derived 
 from such assets is in effect included in the net income because of the limi- 
 tation on the deduction of interest under paragraph (2) of subdivision (a) 
 of section 234, a corresponding part of the capital invested in such assets 
 shall not be deemed to be inadmissible assets; 
 
 The term "admissible assets" means all assets other than inadmissible 
 assets, valued in accordance with the provisions of subdivision (a) of section 
 326 and section 331. 
 
 (b) For the purposes of this title the par value of stock or shares shall, 
 in the case of stock or shares issued at a nominal value or having no par 
 value, be deemed to be the fair market value as of the date or dates of 
 issue of such stock or shares. 
 
 Sec. 326. (a) That as used in this title the term "invested capital" for 
 any year means (except as provided in subdivision (b) and (c) of this 
 section) : 
 
 (1) Actual cash bona fide paid in for stock or shares; 
 
 (2) Actual cash value of tangible property, other than cash, bona fide 
 paid in for stock or shares, at the time of such payment, but in no case 
 to exceed the par value of the original stock or shares Specifically issued 
 therefor, unless the actual cash value of such tangible property at the time 
 paid in is shovra to the satisfaction of the Commissioner to have been 
 clearly and substantially in excess of such par value, in which case such 
 excess shall be treated as paid-in surplus : Provided, That the Commissioner 
 shall keep a record of all cases in which tangible property is included in 
 invested capital at a value in excess of the stock or shares issued therefor, 
 containing the name and address of each taxpayer, the business in which 
 engaged, the amount of invested capital and the net income shown by the 
 return, the value of the tangible property at the time paid in, the par val- 
 ue of the stock or shares specifically issued therefor, and the amount in- 
 cluded under this paragraph as paid-in surplus. The Commissioner shall 
 furnish a copy of such record and other detailed information with respect 
 to such cases when required by resolution of either House of Congress, 
 without regard to the restrictions contained in section 257; 
 
 (3) Paid-in or earned surplus and undivided profits; not including sur- 
 plus and undivided profits earned during the year; 
 
 (4) Intangible property bona fide paid in for stock or shares prior to 
 March 3, 1917, in an amount not exceeding (a) the actual cash value of 
 such property at the time paid in, (b) the par value of the stock or shares 
 
REVENUE ACT OF 1921 1383 
 
 issued therefor, or (c) in the aggregate 25 per centum of the par value 
 of the total stock or shares of the corporation outstanding on March 3, 
 
 1917, whichever is lowest; 
 
 (5) Intangible property bona fide paid in for stock or shares on or after 
 March 3, 1917, in an amount not exceeding (a) the actual cash value of 
 such property at the time paid in, (b) the par value of the stock or shares 
 issued therefor, or (c) in the aggregate 25 per centum of the par value 
 of the total stock or shares of the corporation outstanding at the beginning 
 of the taxable year, whichever is lowest: Provided, That in no case shall 
 the total amount included under paragraphs (4) and (5) exceed in the 
 aggregate 25 per centum of the- par value of the total stock or shares of 
 the corporation outstanding at the beginning of the taxable year; but 
 
 (b) As used in this title the term "invested capital" does not include 
 borrowed capital. 
 
 (c) There shall be deducted from invested capital as above defined a 
 percentage thereof equal to the percentage which the amount of inadmissible 
 assets is of the amount of admissible and inadmissible assets held during 
 the taxable year. 
 
 (d) The invested capital for any period shall be the average invested 
 capital for such period, but in the case of a corporation making a return 
 for a fractional part of a year, it shall be the same fractional part of 
 such average invested capital. 
 
 Sec. 327. That in the following cases the tax shall be determined as 
 provided in section 328: 
 
 (a) Where the Commissioner is unable to determine the invested capital 
 as provided in section 326; 
 
 (b) In the case of a foreign corporation or of a corporation entitled to 
 the benefits of section 262; 
 
 (c) Where a mixed aggregate of tangible property and intangible prop- 
 erty has been paid in for stock or for stock and bonds and the Commissioner 
 is unable satisfactorily to determine the respective values of the several 
 classes of property at the time of payment, or to distinguish the classes 
 of property paid in for stock and for bonds, respectively; 
 
 (d) Where upon application by the corporation the Commissioner finds 
 and so declares of record that the tax if determined without benefit of this 
 section would, owing to abnormal conditions affecting the capital or income 
 of the corporation, work upon the corporation an exceptional hardship 
 evidenced by gross disproportion between the tax computed without benefit 
 of this section and the tax computed by reference to the representative 
 corporations specified in section 328. This subdivision shall not apply to 
 any case (1) in which the tax (computed without benefit of this section) 
 is high merely because the corporation earned within the taxable year a 
 high rate of profit upon a normal invested capital, nor (2) in which 50 
 per centum or more of the gross income of the corporation for the taxable 
 year (computed under section 233 of Title II) consists of gains, profits, 
 commissions, or other income, derived on a cost-plus basis from a govern- 
 ment contract or contracts made between April 6, 1917, and November 11, 
 
 1918, both dates inclusive. 
 
 Sec. 328. (a) That in the cases specified in section 327 the tax shall 
 be the amount which bears the same ratio to the net income of the tax- 
 payer (in excess of the specific exemption of $3,000) for the taxable year, 
 as the average tax of representative corporations engaged in a like or 
 similar trade or business, bears to their average net income (in excess of 
 
1384 APPENDIX 
 
 the specific exemption of $3,000) for such year. In the case of a foreign 
 corporation or of a corporation entitled to the benefits of section 262 the 
 tax shall be computed without deducting the specific exemption of $3,000 
 either for the taxpayer or the representative corporations. 
 
 In computing the tax under this section the Commissioner shall compare 
 the taxpayer only with representative corporations whose invested capital 
 can be satisfactorily determined under section 326 and which are, as nearly 
 as may be, similarly circumstanced with respect to gross income, net in- 
 come, profits per unit of business transacted and capital employed, the 
 amount and rate of war profits or excess profits, and all other relevant 
 facts and circumstances. 
 
 (b) For the purposes of subdivision (a) the ratios between the average 
 tax and the average net income of representative corporations shall be de- 
 termined by the Commissioner in accordance with regulations prescribed 
 by him with the approval of the Secretary. 
 
 (c) The Commissioner shall keep a record of all cases in which the tax 
 is determined in the manner prescribed in subdivision (a), containing the 
 name and address of each taxpayer, the business in which engaged, the 
 amount of invested capital and the net income shown by the return, and 
 the amount of invested capital as determined under such subdivision. The 
 Commissioner shall furnish a copy of such record and other detailed in- 
 formation with respect to such cases when required by resolution of either 
 House of Congress, without regard to the restrictions contained in section 
 257. 
 
 Part VI — Reorganizations 
 
 Sec. 331. That in the case of the reorganization, consolidation, or change 
 of ownership of a trade or business, or change of ownership of property, 
 after March 3, 1917, if an interest or control in such trade or business or 
 property of 50 per centum or more remains in the same persons, or any 
 of them, then no asset transferred or received from the previous owner 
 shall, for the purpose of determining invested capital, be allowed a greater 
 value than would have been allowed under this title in computing the in- 
 vested capital of such previous owner if such asset had not been so trans- 
 ferred or received: Provided, That if such previous owner was not a cor- 
 poration, then the value of any asset so transferred or received shall be 
 taken at its cost of acquisition (at the date when acquired by such previous 
 owner) with proper allowance for depreciation, impairment, betterment 
 or development, but no addition to the original cost shall be made for any 
 charge or expenditure deducted as expense or otherwise on or after March 
 1, 1913, in computing the net income of such previous owner for purposes 
 of taxation. 
 
 Part VII — Miscellaneous 
 
 Sec. 335. (a) That if a corporation (other than a personal service cor- 
 poration) makes return for a fiscal year beginning in 1920 and ending in 
 1921, the war-profits and excess-profits tax for the taxable year 1921 shall 
 be the sum of: (1) the same proportion of a tax for the entire period 
 computed under the Revenue Act of 1918, which the portion of such period 
 falling within the calendar year 1920 is of the entire period, and (2) the 
 same proportion of a tax for the entire period computed under this title, 
 which the portion of such period falling within the calendar year 1921 is 
 of the entire period. Any amount heretofore or hereafter paid on account 
 
REVENUE ACT OF 1921 1385 
 
 of the tax imposed for such taxable year, by the Revenue Act of 1918 shall 
 be credited towards the payment of the tax as above computed, and if 
 the amount so paid exceeds the amount of such tax, the excess shall be 
 credited or refunded to the corporation in accordance with the provisions 
 of section 252 of this Act. 
 
 (b) If a corporation (other than a personal service corporation) makes 
 a return for a fiscal year beginning in 1921 and ending in 1922, the war- 
 profits and excess-profits tax for the portion of the year falling within 
 the calendar year 1921 shall be an amount equivalent to the same pro- 
 portion of a tax for the entire period computed under this title, which the 
 portion of such period falling within the calendar year 1921 is of the entire 
 period. 
 
 Sec. 336. That every corporation, not exempt under section 304, shall 
 make a return for the purposes of this title. Such returns shall be made, 
 and the taxes imposed by this title shall be paid, at the same times and 
 places, in the same manner, and subject to the same conditions, as is pro- 
 vided in the case of returns and payment of income tax by corporations 
 for the purposes of Title II, and all the provisions of that title not in- 
 applicable, including penalties, are hereby made applicable to the taxes 
 imposed by this title. 
 
 Sec. 337. That in the case of a bona fide sale of mines, oil or gas wells, 
 or any interest therein, where the principal value of the property has been 
 demonstrated by prospecting or exploration and discovery work done by 
 the taxpayer, the portion of the tax imposed by this title attributable to 
 such sale shall not exceed 20 per centum of the selling price of such prop- 
 erty or interest. 
 
 EFFECTIVE DATE OF TITLE 
 
 Sec. 338. That this title shall take effect as of January 1, 1921. 
 TITLE X— SPECIAL TAXES 
 
 CAPITAL STOCK TAX 
 
 Sec. 1000. (a) That on and after July 1, 1922, in lieu of the tax im- 
 posed by section 1000 of the Revenue Act of 1918 — 
 
 (1) Every domestic corporation shall pay annually a special excise tax 
 with respect to carrying on or doing business, equivalent to $1 for each 
 $1,000 of so much of the fair average value of its capital stock for the 
 preceding year ending June 30 as is in excess of $5,000. In estimating 
 the value of capital stock the surplus and undivided profits shall be in- 
 cluded; 
 
 (2) Every foreign corporation shall pay annually a special excise tax 
 with respect to carrying on or doing business in the United States, equiva- 
 lent to $1 for each $1,000 of the average amount of capital employed in 
 the transaction of its business in the United States during the preceding 
 year ending June 30. 
 
 (b) The taxes imposed by this section shall not apply in any year to any 
 corporation which was not engaged in business (or, in the case of a foreign 
 corporation, not engaged in business in the United States) during the pre- 
 ceding year ending June 30, nor to any corporation enumerated in section 
 231, nor to any' insurance company subject to the tax imposed by section 
 243 or 246. 
 
 (c) Section 257 shall apply to all returns filed with the Commissioner 
 for purposes of the tax imposed by this section. 
 
1386 APPENDIX 
 
 TITLE XI— STAMP TAXES 
 
 Sec. 1100. That on and after January 1, 1922, there shall be levied, col- 
 lected, and paid, for and in respect of the several bonds, debentures, or 
 certificates of stock and of indebtedness, and other documents, instruments, 
 matters, and things mentioned and described in schedule A of this title, or 
 for or in respect of the vellum, parchment, or paper upon which such in- 
 struments, matters, or things, or any of them, are vsrritten or printpd, by 
 any person vf^ho makes, signs, issues, sells, removes, consigns, or ships the 
 same, or for whose use or benefit the same are made, signed, issued, sold, 
 removed, consigned, or shipped, the several taxes specified in such schedule. 
 The taxes imposed by this section shall, in the case of any article upon 
 which a corresponding stamp tax is now imposed by law, be in lieu of such 
 tax. 
 
 Sec. 1101. That there shall not be taxed under this title any bond, note, 
 or other instrument, issued by the United States, or by any foreign gov- 
 ernment, or by any state, territory, or the District of Columbia, or local 
 subdivision thereof, or municipal or other corporation exercising the tax- 
 ing power; or any bond of indemnity required to be filed by any person to 
 secure payment of any pension, allowance, allotment, relief, or insurance 
 by the United States, or to secure a duplicate for, or the payment of, any 
 bond, note, certificate of indebtedness, war-savings certificate, warrant or 
 check, issued by the United States; or stocks and bonds issued by co-op- 
 erative building and loan associations which are organized and operated 
 exclusively for the benefit of their members and make loans only to their 
 shareholders, of by mutual ditch or irrigation companies. 
 
 Sec. 1102. That whoever— 
 
 (a) Makes, signs, issues, or accepts, or causes to be made, signed, issued, 
 or accepted^ any instrument, document, or paper of any kind or description 
 whatsoever without the full amount of tax thereon being duly paid; 
 
 (b) Manufactures or imports and sells, or offers for sale, or causes to be 
 manufactured or imported and sold, or oflFered for sale, any playing cards, 
 package, or other article without the full amount of tax being duly paid; 
 
 (c) Makes use of any adhesive stamp to denote any tax imposed by this 
 title without canceling or obliterating such stamp as prescribed in section 
 1104; 
 
 Is guilty of a misdemeanor and upon conviction thereof shall pay a fine 
 of not more than $100 for each offense. 
 Sec. 1103. That whoever— 
 
 (a) Fraudulently cuts, tears, or removes from any vellum, parchment, 
 paper, instrument, writing, package, or article, upon which any tax is im- 
 posed by this title, any adhesive stamp or the impression of any stamp, die, 
 plate, or other article provided, made, or used in pursuance of this title; 
 
 (b) Fraudulently uses, joins, fixes, or places to, with, or upon any vellum, 
 parchment, paper, instrument, writing, package, or article, upon which 
 any tax is imposed by this title, (1) any adhesive stamp, or the impression 
 of any stamp, die, plate, or other article, which has been cut, torn, or re- 
 moved from any other vellum, parchment, paper, instrument, writing, 
 package, or article, upon which any tax is imposed by this title; or (2) any 
 adhesive stamp or the impression of any stamp, die, plate', or other article 
 of insufficient value; or (3) any forged or counterfeited stamp, or the im- 
 pression of any forged or counterfeited stamp, die, plate, or other article; 
 
REVENUE ACT OF 1921 1387 
 
 (c) Willfully removes, or alters the cancellation, or defacing marks of, 
 or otherwise prepares, any adhesive stamp, vs^ith intent to use, or cause the 
 same to be used, after it has been already used, or knowingly or willfully 
 buys, sells, offers for sale, or gives away, any such washed or restored 
 stamp to any person for use, or knowingly uses the same; 
 
 (d) Knowingly and without lawful excuse (the burden of proof of such 
 excuse being on the accused) has in possession any washed, restored, or 
 altered stamp, which has been removed from any vellum, parchment, paper, 
 instrument, writing, package, or article; 
 
 Is guilty of a misdemeanor, and upon conviction shall be punished by a 
 fine of not more than $1,000, or by imprisonment for not more than five 
 years, or both, and any such reused, canceled, or counterfeited stamp and 
 the vellum, parchment, document, paper, package, or article upon which 
 it is placed or impressed shall be forfeited to the United States. 
 
 Sec. 1104. That whenever an adhesive stamp is used for denoting any 
 tax imposed by this title, except as hereinafter provided, the person using 
 or aflSxing the same shall write or stamp or cause to be written or stamped 
 thereupon the initials of his or its name and the date upon which the same 
 is attached or used, so that the same may not again be used: Provided, 
 That the Commissioner may prescribe such other method for the cancella- 
 tion of such stamps as he may deem expedient. 
 
 Sec. 1105. (a) That the Commissioner shall cause to be prepared and dis- 
 tributed for the payment of the taxes prescribed in this title suitable stamps 
 denoting the tax on the document, articles, or thing to which the same may 
 be affixed, and shall prescribe such method for the affixing of said stamps in 
 substitution for or in addition to the method provided in this title, as 
 he may deem expedient. 
 
 (b) All internal revenue laws relating to the assessment and collection 
 of taxes are hereby extended to and made a part of this title, so far as ap- 
 plicable, for the purpose of collecting stamp taxes omitted through mistake 
 or fraud from any instrument, document, paper, writing, parcel, package, or 
 article named herein. 
 
 Sec. 1106. That the Commissioner shall furnish to the Postmaster Gen- 
 eral without prepayment a suitable quantity of adhesive stamps to be dis- 
 tributed to and kept on sale by the various postmasters in the United 
 States. The Postmaster General may require each such postmaster to give 
 additional or increased bond as postmaster for the value of the stamps 
 so furnished, and each such postmaster shall deposit the receipts from 
 the sale of such stamps to the credit of and render accounts to the Post- 
 master General at such times and in such form as he may by regulations 
 prescribe. The Postmaster General shall at least once monthly transfer 
 all collections from this source to the treasury as internal-revenue col- 
 lections. 
 
 Sec. 1107. (a) That each collector shall furnish, without prepayment, 
 to any assistant treasurer or designated depositary of the United States, 
 located in the district of such collector, a suitable quantity of adhesive 
 stamps to be kept on sale by such assistant treasurer or designated de- 
 positary. 
 
 (b) Each collector shall furnish, . without prepayment, to any person 
 who is (1) located in the district of such collector, (2) duly appointed and 
 acting as agent of any state for the sale of stock transfer stamps of such 
 
1388 APPENDIX 
 
 state, and (3) designated by the Commissioner for the purpose, a suitable 
 quantity of such adhesive stamps as are required by subdivisions 2, 3, and 
 4 of schedule A of this title, to be kept on sale by such person. 
 
 (c) In such cases the collector may require a bond, with sufficient sure- 
 ties, in a sum to be fixed by the Commissioner, conditioned for the faithful 
 return, whenever so required, of all quantities or amounts undisposed of, 
 and for the payment monthly of all quantities or amounts sold or not re- 
 maining on hand. The Secretary may from time to time make such regula- 
 tions as he may find necessary to insure the safe-keeping or prevent the 
 illegal use of all such adhesive stamps. 
 
 Schedule A. — Stamp Taxes 
 
 1. Bonds of indebtedness: On all bonds, debentures, or certificates of 
 indebtedness issued by any person, and all instruments, however termed, 
 issued by any corporation with interest coupons or in registered form, 
 known generally as corporate securities, on each $100 or face value or 
 fraction thereof, 5 cents: Provided, That every renewal of the foregoing 
 shall be taxed as a new issue: Provided further, That when a bond con- 
 ditioned for the repayment or payment of money is given in a penal sum 
 greater than the debt secured, the tax shall be based upon the amount 
 secured. 
 
 2. Capital stock, issued: On each original issue, whether on organ- 
 ization or reorganization, of certificates of stock, or of profits, or of 
 interest in property or accumulations, by any corporation, on each 
 $100 of face value or fraction thereof, 5 cents: Provided, That where a 
 certificate is issued without face value, the tax shall be 5 cents per share, 
 unless the actual value is in excess of $100 per share, in which case the 
 tax shall be 5 cents on each $100 of actual value or fraction thereof, or 
 unless the actual value is less than $100 per share, in which case the tax 
 shall be 1 cent on each $20 of actual value, or fraction thereof. 
 
 The stamps representing the tax imposed by this subdivision shall be 
 attached to the stock books and not to the certificates issued. 
 
 3. Capital stock, sales or transfers: On all sales, or agreements to sell, 
 or memoranda of sales or deliveries of, or transfers of legal title to shares 
 or certificates of stock or of profits or of interest in property or accumula- 
 tions in any corporation, or to rights to subscribe for or to receive such 
 shares or certificates, whether made upon or shown by the books of the 
 corporation, or by any assignment in blank, or by any delivery, or by any 
 paper or agreement or memorandum or other evidence of transfer or sale, 
 whether entitling the holder in any manner to the benefit of such stock, 
 interest, or rights, or not, on each $100 of face value or fraction thereof, 
 2 cents, and where such shares are without par or face value, the tax 
 shall be 2 cents on the transfer or sale or agreement to sell on each share: 
 Provided, That it is not intended by this title to impose a tax upon an 
 agreement evidencing a deposit of certificates as collateral security for 
 money loaned thereon, which certificates are not actually sold, nor upon 
 the delivery or transfer for such purpose of certificates so deposited, nor 
 upon mere loans of stock nor upon the retui?i of stock so loaned: Provided 
 further, That the tax shall not be imposed upon deliveries or transfers to 
 a broker for sale, nor upon deliveries or transfers by a broken to a customer 
 for whom and upon whose order he has purchased same, but such deliveries 
 or transfers shall be accompanied by a certificate setting forth the facts: 
 Provided further, That in case of sale where the evidence of transfer is 
 
REVENUE ACT OF 1921 1389 
 
 shown only by the books of the corporation the stamp shall be placed upon 
 such books; and where the change of ownership is by transfer of the cer- 
 tificate, the stamp shall be placed upon the certificate; and in cases of an 
 agreement to sell or where the transfer is by delivery of the certificate 
 assigned in blank there shall be made and delivered by the seller to the 
 buyer a bill or memorandum of such sale, to which the stamp shall be 
 affixed ; and every- bill or memorandum of sale or agreement to sell before 
 mentioned shall show the date thereof, the name of the seller, the amount 
 of the sale, and the matter or thing to which it refers. Aoy person liable 
 to pay the tax as herein provided, or anyone who acts in the matter as 
 agent or broker for such person, who makes any such sale, or who in pursu- 
 ance of any such sale delivers any certificate or evidence of the sale of 
 any stock, interest or right, or bill or memorandum thereof, as herein re- 
 quired, without having the proper stamps affixed thereto with intent to 
 evade the foregoing provisions, shall be deemed guilty of a misdemeanor, 
 and upon conviction thereof shall pay a fine of not exceeding $1,000, or be 
 imprisoned not more than six months, or both. 
 
 4. Produce, sales of, on exchange: Upon each sale, agreement of sale, 
 or agreement to sell (not including so-called transferred or scratch sales), 
 any products or merchandise at, or under the rules or usages of, any ex- 
 change, or board of trade, or other similar place, for future delivery, for 
 each $100 in value of the merchandise covered by said sale or agreement 
 of sale or agreement to sell, 2 cents, and for each additional $100 or frac- 
 tional part thereof in excess of $100, 2 cents: Provided, That on every 
 sale or agreement of sale or agreement to sell as aforesaid there shall be 
 made and delivered by the seller to the buyer a bill, memorandum, agree- 
 ment, or other evidence of such sale, agreement of sale, or agreement to 
 sell, to which there shall be affixed a lawful stamp or stamps in value 
 equal to the amount of the tax on such sale: Provided further. That sellers 
 of commodities described herein, having paid the tax provided by this sub- 
 division, may transfer such contracts to a clearing-house corporation or 
 association, and such transfer shall not be deemed to be a sale, or agree- 
 ment of sale, or an agreement to sell within the provisions of this Act, 
 provided that such transfer shall not vest any beneficial interest in such 
 clearing-house association but shall be made for the sole purpose of en- 
 abling such clearing-house association to adjust and balance the accounts 
 of the members of such clearing-house association on their several contracts. 
 Every such bill, memorandum, or other evidence of sale or agreement to sell 
 shall show the date thereof, the name of the seller, the amount of the 
 sale, and the matter or thing to which it refers ; and any person liable to • 
 pay the tax as herein provided, or anyone who acts in the matter as agent' 
 or broker for such person, ^ho makes any such sale or agreement of 
 sale, or agreement to sell, or who, in pursuance of any such sale, agreement 
 of sale, or agreement to sell, delivers any such products or merchandise with- 
 out a bill, memorandum, or other evidence thereof as herein required, or 
 who delivers such bill, memorandum, or other evidence of sale, or agree- 
 ment to sell, without having the proper stamps affixed thereto, with intent 
 to evade the foregoing provisions, shall be deemed guilty of a misdemeanor, 
 and upon conviction thereof shall pay a fine of not exceeding $1,000 or be 
 imprisoned not more than six months, or both. 
 
 No bill, memorandum, agreement, or other evidence of such sale, or 
 agreement of sale, or agreement to sell, in case of cash sales of products 
 
1390 APPENDIX 
 
 or merchandise for immediate or prompt delivery which in good faith are 
 actually intended to be delivered shall be subject to this tax. 
 
 This subdivision shall not affect but shall be in addition to the provisions 
 of the "United States Cotton Futures Act," approved August 11, 1916, as 
 amended, and "The Future Trading Act," approved August 24, 1921. 
 
 5. Drafts or checks (payable otherwise than at sight or on demand) upon 
 their acceptance or delivery within the United States whichever is prior, 
 promissory notes, except bank notes issued for circulation, and for each re- 
 newal of the same, for a sum not exceeding $100, 2 cents; and for each 
 additional $100, or fractional part thereof, 2 cents. 
 
 This subdivision shall not apply to a promissory note secured by the 
 pledge of bonds or obligations of the United States issued after April 24, 
 1917, or secured by the pledge of a promissory note which itself is secured 
 by the pledge of such bonds or obligations: Provided, That in either case 
 the par value of such bonds or obligations shall be not less than the 
 amount of such note. 
 
 6. Conveyances: Deed, instrument, or writing, whereby any lands, tene- 
 ments, or other realty sold shall be granted, assigned, transferred, or other- 
 wise conveyed to, or vested in, the purchaser or purchasers, or any other 
 person or persons, by his, her, or their direction, when the consideration or 
 value of the interest or property conveyed, exclusive of the value of any 
 lien or encumbrance remaining thereon at the time of sale, exceeds $100 and 
 does not exceed $500, 50 cents; and for each additional $500 or fractional 
 part thereof, 50 cents. This subdivision shall not apply to any instrument 
 or writing given to secure a debt. 
 
 7. Entry of any goods, wares, or merchandise at any customhouse, either 
 for consumption or warehousing, not exceeding $100 in value, 25 cents; ex- 
 ceeding $100 and not exceeding $500 in value, 50 cents; exceeding $500 
 in value, $1. 
 
 8. Entry for the withdrawal of any goods or merchandise from customs 
 bonded warehouse, 50 cents. 
 
 9. Passage ticket, one way or round trip, for each passenger, sold or 
 issued in the United States for passage by any vessel to a port or place not 
 in the United States, Canada, or Mexico, if costing not exceeding $30, $1; 
 costing more than $30 and not exceeding $60, $3; costing more than $60, $5. 
 This subdivision shall not apply to passage tickets costing $10 or less. 
 
 10. Proxy for voting at any election for officers, or meeting for the trans- 
 action of business, of any corporation, except religious, educational, 
 charitable, fraternal, or literary societies, or public cemeteries, 10 cents. 
 
 11. Power of attorney granting authority to do or perform some act for 
 •or in behalf of the grantor, which authority is not otherwise vested in the 
 
 grantee, 25 cents. This subdivision shall not apply to any papers neces- 
 sary to be used for the collection of claims from the United States or 
 from any state for pensions, back pay, bounty, or for property lost in the 
 military or naval service, nor to powers of attorney required in bankruptcy 
 cases nor to powers of attorney contained in the application of those who 
 become members of or policyholders in mutual insurance companies doing 
 business on the inter-insurance or reciprocal indemnity plan through an 
 attorney in fact. 
 
 12. Playing cards: Upon every pack of playing cards containing not 
 more than fifty-four cards, manufactured or imported, and sold, or re- 
 moved for consumption or sale, a tax of 8 cents per pack. 
 
REVENUE ACT OF 1921 1391 
 
 13. On each policy of insurance, or certificate, binder, covering note, 
 memorandum, cablegram, letter, or other instrument by whatever name 
 called whereby insurance is made or renewed upon property within the 
 United States (including rents and profits) against peril by sea or on inland 
 waters or in transit on land (including trans-shipments and storage at 
 termini or way points) or by fire, lightning, tornado, wind-storm, bombard- 
 ment, invasion, insurrection or riot, issued to or for or in the name of a do- 
 mestic corporation or partnership or an individual resident of the United 
 States by any foreign corporation or partnership or any individual not a 
 resident of the United States, when such policy or other instrument is not 
 signed or countersigned by an officer or agent of the insurer in a state, 
 territory, or district of the United States within which such insurer is 
 authorized to do business, a tax of 3 cents on each dollar, or fractional 
 part thereof of the premium charged : Provided, That policies of reinsurance 
 shall be exempt from the tax imposed by this subdivision. 
 
 Any person to or for whom or in whose name any such policy or other 
 instrument is issued, or any solicitor or broker acting for or on behalf of 
 such person in the procurement of any such policy or other instrument, 
 shall affix the proper stamps to such policy or other instrument, and for 
 failure to affix such stamps with intent to evade the tax shall, in addition 
 to other penalties provided therefor, pay a fine of double the amount of the 
 tax. 
 
 TITLE XII— TAX ON EMPLOYMENT OF CHILD LABOR 
 
 Sec. 1200. That every person (other than a bona fide boys' or girls' 
 canning club recognized by the agricultural department of a state and of 
 the United States) operating (a) any mine or quarry situated in the 
 United States in which children under the age of sixteen years have been 
 employed or permitted to work during any portion of the taxable year; or 
 (b) any mill, cannery, workshop, factory, or manufacturing establishment 
 situated in the United States in which children under the age of fourteen 
 years have been employed or permitted to work, or children between the 
 ages of fourteen and sixteen have been employed or permitted to work 
 more than eight hours in any day or more than six days in any week, 
 or after the hour of seven o'clock post meridian, or before the hour of six 
 o'clock ante meridian, during any portion of the taxable year, shall pay 
 for each taxable year, in addition to all other taxes imposed by -law (but in 
 lieu of the tax imposed by section 1200 of the Revenue Act of 1918), an ex- 
 cise tax equivalent to 10 per centum of the entire net profits received or ac- 
 crued for such year from the sale or disposition of the product of such mine, 
 quarry, mill, cannery, workshop, factory, or manufacturing establishment. 
 
 Sec. 1201. That in computing net profits under the provisions of this 
 title, for the purpose of the tax there shall be allowed as deductions 
 from the gross amount received or accrued for the taxable year from the 
 sale or disposition of such products manufactured within the United States 
 the following items: 
 
 (a) The cost of raw materials entering into the production; 
 
 (b) Running expenses, including rentals, cost of repairs, and mainte- 
 nance, heat, power, insurance, management, and a resonable allowance for 
 salaries or other compensations for personal services actually rendered, 
 and for depreciation; 
 
1392 APPENDIX 
 
 (c) Interest paid within the taxable year on debts or loans contracted to 
 meet the needs of the business, and the proceeds of which have been ac- 
 tually used to meet such needs; 
 
 (d) Taxes of all kinds paid during the taxable year with respect to the 
 business or property relating to the production; and 
 
 (e) Losses actually sustained within the taxable year in connection with 
 the business of producing such products, includihg losses from fire, flood, 
 stoftn, or other casualties, and not compensated for by insurance or other- 
 wise. 
 
 Sec. 1202. That if any such person during any taxable year or part 
 thereof, whether under any agreement, arrangement, or understanding or 
 otherwise, sells or disposes of any product of such mine, quarry, mill, can- 
 nery, woricshop, factory, or . manufacturing establishment at less than the 
 fair market price obtainable therefor either (a) in such manner as directly 
 or indirectly to benefit such person or any person directly or indirectly 
 interested in the business of such person; or (b) with intent to cause such 
 benefit; the gross amount received or accrued for such year or part thereof 
 from the sale or disposition of such product shall be taken to be the 
 amount which would have been received or accrued from the sale or dis- 
 position of such product if sold at the fair market price. 
 
 Sec. 1203. (a) That no person subject to the provisions of this title shall 
 be liable for the tax herein imposed if the only employment or permission 
 to work which but for this section would subject him to the tax has been 
 of a child as to whom such person has in good faith procured at the time of 
 employing such child or permitting him to work, and has since in good 
 faith relied upon and kept on file a certificate, issued in such form, under 
 such conditions and by such persons as may be prescribed by a board con- 
 sisting of the Secretary, the Commissioner, and the Secretary of Labor, 
 showing the child to be of such age as not to subject such person to the 
 tax imposed by this title. Any person who knowingly makes a false state- 
 ment or presents false evidence in or in relation to any such certificate or 
 application therefor shall be punished by a fine of not less than $100, nor 
 more than $1,000, or by imprisonment for not more than three months, or 
 by both such fine and imprisonment, in the discretion of the court. 
 
 In any state designated by such board an employment certificate or other 
 similar paper as to the age of the child, issued under the laws of that 
 state, and not inconsistent with the provisions of this title, shall have the 
 same force and eff'ect as a certificate herein provided for. 
 
 (b) The tax imposed by this title shall not be imposed in the case of any 
 person who proves to the satisfaction of the Secretary that the only em- 
 ployment or permission to work which but for this section would subject 
 him to the tax, has been of a child employed or permitted to work under 
 a mistake of fact as to the age of such child, and without intention to 
 evade the tax. 
 
 Sec. 1204. That on or before the first day of the third month following 
 the close of each taxable year, a true and accurate return under oath shall 
 be made by each person subject to the provisions of this title to the col- 
 lector for the district in which such person has his principal office or 
 place of business, in such form as the Commissioner, with the approval of 
 the Secretary, shall prescribe, setting forth specifically the gross amount 
 of income received or accrued during such year from the sale or dis- 
 position of the product of any mine, quarry, mill, cannery, workshop, fac- 
 
REVENUE ACT OF 1921 1393 
 
 tory, or manufacturing establishment, in which children have been em^ 
 ployed subjecting him to the tax imposed by this title, and from the to,tal 
 thereof deducting the aggregate items of allowance authorized by this • 
 title, and such other particulars as to the gross receipts and items of allow- 
 ance authorized by this title, and such other particulars as to the gross 
 receipts and items of allowance as the Commissioner, with the approval of 
 the Secretary, may require. 
 
 Sec. 1205. That all such returns shall be transmitted forthwith by the 
 collector to the Commissioner, who shall, as soon as practicable, assess the 
 tax found due and notify the person making such return of the amount of 
 tax for which such person is liable, and such person shall pay the tax to the 
 collector on or before thirty days from the date of such notice. 
 
 Sec. 1206. That for the purposes of this Act the Commissioner, or any 
 person duly authorized by him, shall have authority to enter and inspect at 
 any time any mine, quarry, mill, cannery, workshop, factory, or manufactur- 
 ing establishment. The Secretary of Labor, or any person duly authorized 
 by him, shall, for the purpose of complying with a request of the Commis- 
 sioner to make such an inspection, have like authority, and shall make re- 
 port to the Commissioner of inspections made under such authority in 
 such form as may be prescribed by the Commissioner with the approval of 
 the Secretary of the Treasury. 
 
 Any person who refuses or obstructs entry or inspection authorized by 
 this section shall be punished by a fine of not more than $1,000, or by im- 
 prisonment for not more than one year, or both. 
 
 Sec. 1207. That as used in this title the term "taxable year'' shall have 
 the same meaning as provided for the purposes of income tax in section 200. 
 
 TITLE XIII— GENERAL ADMINISTRATIVE PROVISIONS 
 
 LAWS MADE APPLICABLE 
 
 Sec. 1300. That all administrative, special, or stamp provisions of law, 
 including the law relating to the assessment of taxes, so far as applicable, 
 are hereby extended to and made a part of this Act, and every person liable 
 to any tax imposed by this Act, or for the collection thereof, shall keep, 
 such records and render, under oath, such statements and returns, and shall 
 comply with such regulations as the Commissioner, with the approval of the 
 Secretary, may from time to time prescribe. 
 
 METHOD OF COLLECTING TAX 
 
 Sec. 1301. That whether or not the method of collecting any tax im- 
 posed by Titles V, VI, VII, VIII, IX, or X of this Act is specifically pro- 
 vided therein, any such tax may, under regulations prescribed by the Com- 
 missioner with the approval of the Secretary, be collected by stamp, coupon, 
 serial-numbered ticket, or such other reasonable device or method as may 
 be necessary or helpful in securing a complete and prompt collection of the 
 tax. All administrative and penalty provisions of Title XI, in so far as 
 applicable, shall apply to the collection of any tax which the Commis- 
 sioner determines or prescribes shall be collected in such manner. 
 
 PENALTIES 
 
 Sec. 1302. (a) That any person required under Titles V, VI, VII, VIII, IX, 
 X, or XII, to pay, or to collect, account for and pay over any tax, or re- 
 quired by law or regulations made under authority thereof to make a re- 
 
1394 APPENDIX 
 
 turn or supply any information for the purposes of the computation, assess- 
 ment, or collection of any such tax, who falls to pay, collect, or truly ac- 
 count for and pay over any such tax, make any such return or supply any 
 such information at the time or times required by law or regulation shall 
 in addition to other penalties provided by law be subject to a penalty of 
 not more than $1,000. 
 
 (b) Any person who willfully refuses to pay, collect, or truly account for 
 and pay over any such tax, make such return or supply such information at 
 the time or times required by law or regulation, or who willfully attempts 
 in any manner to evade such tax, shall be guilty of a misdemeanor and in 
 addition to other penalties provided by law shall be fined not more than 
 $10,000 or imprisoned for not more than one year, or both, together with the 
 costs of prosecution. 
 
 (c) Any person who willfully refuses to pay, collect, or truly account 
 for and pay over any such tax shall in addition to other penalties pro- 
 vided by law be liable to a penalty of the amount of the tax evaded, or not 
 paid, collected, or accounted for and paid over, to be assessed and collected 
 in the same manner as taxes are assessed and collected: Provided, however. 
 That no penalty shall be assessed under this subdivision for any offense for 
 which a penalty may be assessed under authority of section 3176 of the 
 Revised Statutes, as amended, or for any offense for which a penalty has 
 been recovered under section 3256 of the Revised Statutes. 
 
 (d) The term "person" as used in this section includes an officer or 
 employee of a corporation or a member or employee of a partnership, 
 who as such officer, employee, or member is under a duty to perform the 
 act in respect of which the violation occurs. 
 
 RULES AND REGULATIONS 
 
 Sec. 1303. That the Commissioner, with the approval of the Secretary, is 
 hereby authorized to make all needful rules and regulations for the en- 
 forcement of the provisions of this Act. 
 
 The Commissioner, with such approval may by regulation provide that 
 any return required by Titles V, VI, VII, VIII, IX, or X to be under oath 
 ■ may, if the amount of the tax covered thereby is not in excess of $10, be 
 signed or acknowledged before two witnesses instead of under oath. 
 
 OVERPAYMENTS AND OVERCOLLECTIONS 
 
 Sec. 1304. That in the case of any overpayment or overcollection of any 
 tax imposed by section 602 or by Title V, Title VIII, or Title IX, the person 
 making such overpayment or overcollection may take credit therefor 
 against taxes due upon any monthly return, and shall make refund of any 
 excessive amount collected by him upon proper application by the person 
 entitled thereto. 
 
 FRACTIONAL PARTS OF A CENT 
 
 Sec. 1306. That in the payment of any tax under this Act not payable 
 by stamp a fractibnal part of a cent shall be disregarded unless it amounts 
 to one-half cent or more, in which case it shall be increased to 1 cent. 
 
 RETURNS 
 
 Sec. 1307. That whenever in the judgment of the Commissioner neces- 
 sary he may require any person, by notice served upon him, to make a re- 
 
REVENUE ACT OF 1921 1395 
 
 turn or such statements as he deems sufficient to show whether or not 
 such person is liable to tax. 
 
 EXAMINATION OF BOOKS AND WITNESSES 
 
 Sec. 1308. That the Commissioner, for the purpose of ascertaining the 
 correctness of any return or for the purpose of making: a return where 
 none has been made, is hereby authorized, by any revenue agent or in- 
 spector designated by him for that purpose, to examine any books, papers, 
 records, or memoranda bearing upon the matters required to be included 
 in the return, and may require the attendance of the person rendering the 
 return or of any ofl&cer or employee of such person, or the attendance of 
 any other person having knowledge in the premises, and may take his testi- 
 mony with reference to the matter required by law to be included in such 
 return, with power to administer oaths to such person or persons. 
 
 UNNECESSARY EXAMINATIONS 
 
 Sec. 1309. That no taxpayer shall be subjected to unnecessary examina- 
 tions or investigations, and only one inspection of a taxpayer's books of 
 account shall be made for each taxable year unless the taxpayer requests 
 otherwise or unless the Commissioner, after investigation, notifies the tax- 
 payer in writing that an additional inspection is necessary. 
 
 JURISDICTION OP COURTS 
 
 Sec. 1310. (a) That if any person is summoned under this Act to appear, 
 to testify, or to produce books, papers or other data, the district court of 
 the United States for the district in which such person resides shall have 
 jurisdiction by appropriate process to compel such attendance, testimony, 
 or production of books, papers, or other data. 
 
 (b) The district courts of the United States at the instance of the United 
 States are hereby invested with such jurisdiction to make and issue, both 
 in actions at law and suits in equity, writs and orders of injunction, and of 
 ne exeat republica, orders appointing receivers, and such other orders and 
 process, and to render such judgments and decrees, granting in proper 
 cases both legal and equitable relief together, as may be necessary or ap- 
 propriate for the enforcement of the provisions of this Act. The remedies 
 hereby provided are in addition to and not exclusive of any and all other 
 remedies of the United States in such courts or otherwise to enforce such 
 provisions. | i^ > 
 
 (c) Paragraph twentieth of section 24 of the Judicial Code is amended 
 by adding at the end thereof the following new paragraph: 
 
 "Concurrent with the Court of Claims, of any suit or proceeding, com- 
 menced after the passage of the Revenue Act of 1921, for the recovery of 
 any internal-revenue tax alleged to have been erroneously or illegally 
 assessed or collected, or of any penalty claimed to have been collected with- 
 out authority or any sum alleged to have been excessive or in any manner 
 wrongfully collected, under the internal-revenue laws, even if the claim ex- 
 ceeds $10,000, if the collector of internal-revenue by whom such tax, penalty, 
 or sum was collected is dead at the time such suit or proceeding is com- 
 menced." 
 
 AMENDMENTS TO REVISED STATUTES 
 
 Sec. 1311. That sections 3164, 3165, 3167, 3172, 3173, and 3176 of the Re- 
 vised Statutes, as amended, are re-enacted, without change, as follows : 
 
1396 APPENDIX 
 
 "Sec. 3164. It shall be the duty of every collector of internal revenue 
 having knowledge of any willful violation of any law of the United States 
 relating to the revenue, within thirty days after coming into possession of 
 such knowledge, to file with the district attorney of the district in which 
 any fine, penalty, or forfeiture may be incurred, a statement of all the 
 facts and circumstances of the case within his knowledge, together with 
 the names of the witnesses, setting forth the provisions of law believed to 
 be so violated on which reliance may be had for condemnation or con- 
 viction. 
 
 "Sec. 3165. Every collector, deputy collector, internal-revenue agent, and 
 internal-revenue ofiicer assigned to duty under an internal-revenue agent, 
 is authorized to administer oaths and to take evidence touching any part 
 of the administration of the internal-revenue laws with which he is charged, 
 or where such oaths and evidence are authorized by law or regulation 
 authorized by law to be taken. 
 
 "Sec. 3167. It shall be unlawful for any collector, deputy collector, agent, 
 clerk, or other officer or employee of the United States to divulge or to 
 make known in any manner whatever not provided by law to any person the 
 operations, style of work, or apparatus of any manufacturer or producer 
 visited by him in the discharge of his official duties, or the amount or source 
 of income, profits, losses, expenditures, or any particular thereof, set forth 
 or disclosed in any income return, or to permit any income return or copy 
 thereof or any book containing any abstract or particulars thereof to be 
 seen or examined by any person except as provided by law; and it shall be 
 unlawful for any person to print or publish in any manner whatever not 
 provided by law any income return, or any part thereof or source of in- 
 come, profits, losses, or expenditures appearing in any income return; and 
 any offense against the foregoing provision shall be a misdemeanor and be 
 punished by a fine not exceeding $1,000 or by imprisonment not exceeding 
 one year, or both, at the discretion of the court; and if the offender be an 
 officer or employee of the United States he shall be dismissed from office 
 or discharged from employment. 
 
 "Sec. 3172. Every collector shall, from time to time, cause his deputies 
 to proceed through every part of his district and inquire after and con- 
 cerning all persons therein who are liable to pay any internal-revenue tax, 
 and all persons owning or having the care and management of any objfects 
 liable to pay any tax, and to make a list of such persons and enumerate 
 said objects. 
 
 "Sec. 3173. It shall be the duty of any person, partnership, firm, associa- 
 tion, or corporation, made liable to any duty, special tax, or other tax im- 
 posed by law, when not otherwise provided for, (1) in case of a special 
 tax, on or before the thirty-first day of July in each year, and (2) in other 
 cases before the day on which the taxes accrue, to make a list or return, 
 verified by oath, to the collector or a deputy collector of the district where 
 located, of the articles or objects, including the quantity of goods, wares, 
 and merchandise, made or sold and charged with a tax, the several rates 
 aTid aggregate amount, according to the forms and regulations to be pre- 
 scribed by the Commissioner of Internal Revenue, with the approval of the 
 Secretary of the Treasury, for which such person, partnership, firm, associa- 
 tion, or corporation is liable: Provided, That if any person liable to pay 
 any duty or tax, or owning, possessing, or having the care or management 
 of property, goods, wares, and merchandise, article or objects liable to pay 
 any duty, tax, or license, shall fail to make and exhibit a list or return re- 
 
REVENUE ACT OF 1921 1397 
 
 quired by law, but shall consent to disclose the particulars of any and all 
 the property, goods, wares, and merchandise, articles, and objects liable 
 to pay any duty or tax, or any business or occupation liable to pay any tax 
 as aforesaid, then, and in that case, it shall be the duty of the collector 
 or deputy collector to make such list or return, which, being distinctly 
 read, consented to, and signed and verified by oath by the person so owning, 
 possessing, or having the care and management as aforesaid, may be re- 
 ceived as the list of such person: Provided further, That in case no annual 
 list or return has been rendered by such person to the collector or deputy 
 collector as required by law, and the person shall be absent from his or her 
 residence or place of business at the time the collector or a deputy collector 
 shall call for the annual list or return, it shall be the duty of such collector 
 or deputy collector to leave at such place of residence or business, with 
 some one of suitable age and discretion, if such be present, otherwise to 
 deposit in the nearest post-offlce, a note or memorandum addressed to such 
 person, requiring him or her to render to such collector or deputy collector 
 the list or return required by law within ten days from the date of such 
 note or memorandum, verified by oath. And if any person, on being notified 
 or required as aforesaid, shall refuse or neglect to render such list or 
 return within the time required as aforesaid, or whenever any person who 
 is required to deliver a monthly or other return of objects subject to tax 
 fails to do so at the time required^ or delivers any return which, in the 
 opinion of the collector, is erroneous, false, or fraudulent, or contains any 
 undervaluation or understatement, or refuses to allow any regularly author- 
 ized government officer to examine the books of such person, firm, or cor- 
 poration, it shall be lawful for the collector to summon such person, or any 
 other person having possession, custody, or care of books of account con- 
 taining entries relating to the business of such person or any other per- 
 son he may deem proper, to appear before him and produce such books at 
 a time and place named in the summons, and to give testimony or answer 
 interrogatories, under oath, respecting any objects or income liable to tax 
 or the returns thereof. The collector may summon any person residing or 
 found within the state or territory in which his district lies ; and when the 
 person intended to be summoned does not reside and can not be found 
 within such state or territory, he may enter any collection district where 
 such person may be found and there make the examination herein author- 
 ized. And to this end he may there exercise all the authority which he 
 might lawfully exercise in the district for which he was commissioned: 
 Provided, That 'person,' as used in this section, shall be construed to in- 
 clude any corporation, joint-stock company or association, or insurance 
 company when such construction is necessary to carry out its provisions. 
 "Sec. 3176. If any person, corporation, company, or association fails 
 to make and file a return or list at the time prescribed by law or by regula- 
 tion made under authority of law, or makes, willfully or otherwise, a 
 false or fraudulent return or list, the collector or deputy collector shall 
 make the return or list from his own knowledge and from such information 
 as he can obtain through testimony or otherwise. In any such case the 
 Commissioner may, from his own knowledge and from such information 
 as he can obtain through testimony or otherwise, make a return or amend 
 any return made by a collector or deputy collector. Any return or list so 
 made and subscribed by the Commissioner, or by a collector or deputy col- 
 lector and approved by the Commissioner, shall be prima facie good and 
 sufficient for all legal purposes. 
 
1398 APPENDIX 
 
 "If the failure to file a return or list is due to sickness or absence, the 
 collector may allow such further time, not exceeding thirty days, for making 
 and filing the return or list as he deems proper. 
 
 "The Commissioner of Internal Revenue shall determine and assess all 
 taxes, other than stamp taxes, as to which returns or lists are so made 
 under the provisions of this section. In case of any failure to make and 
 file a return or list within the time prescribed by law, or prescribed by 
 the Commissioner of Internal Revenue or the collector in pursuance of law, 
 the Commissioner of Internal Revenue shall add to the tax 25 per centum 
 of its amount, except that when a return is filed after such time and it is 
 shown that the failure to file it was due to a reasonable cause and not to 
 willful neglect, no such addition shall be made to the tax. In case a false 
 or fraudulent return or list is willfully made, the Commissioner of Internal 
 Revenue shall add to the tax 50 per centum of its amount. 
 
 "The amount so added to any tax shall be collected at the same time 
 and in the same manner and as a part of the tax unless the tax has been 
 paid before the discovery of the neglect, falsity, or fraud, in which case 
 the amount so added shall be collected in the same manner as the tax." 
 
 PINAL DETERMINATIONS AND ASSESSMENTS 
 
 Sec. 1312. That if after a determination and assessment in any case the 
 taxpayer has without protest paid in whole any tax or penalty, or accepted 
 any abatement, credit, or refund based on such determination and assess- 
 ment, and an agreement is made in writing between the taxpayer and the 
 Commissioner, with the approval of the Secretary, that such determination 
 and assessment shall be final and conclusive, then (except upon a showing 
 of fraud or malfeasance or misrepresentation of fact materially affecting 
 the determination or . assessment thus made) (1) the case shall not be 
 reopened or the determination and assessment modified by any officer, 
 employee, or agent of the United States, and (2) no suit, action, or pro- 
 ceeding to annul, modify, or set aside such determination or assessment 
 shall be entertained by any court of the United States. 
 
 ADMINISTRATIVE REVIEW 
 
 Sec. 1313. That in the absence of fraud or mistake in mathematical cal- 
 culation, the findings of facts in and the decision of the Commissioner 
 upon (or in case the Secretary is authorized to approve the same, then 
 after such approval) the merits of any claim presented under or author 
 ized by the internal revenue laws shall not be subject to review by any 
 other administrative officer, employee, or, agent of the United States. 
 
 RETROACTIVE REGULATIONS 
 
 Sec. 1314. That in case a regulation or treasury decision relating to the 
 internal revenue laws made by the Commissioner or the Secretary, or by 
 the Commissioner with the approval of the Secretary, is reversed by a sub- 
 sequent regulation or treasury decision, and such reversal is not im- 
 mediately occasioned or required by a decision of a court of competent 
 jurisdiction, such subsequent regulation or treasury decision may, in the 
 discretion of the Commissioner, with the approval of the Secretary, be 
 applied without retroactive effect. 
 
 REFUNDS 
 
 Sec. 1315. That section 3220 of the Revised Statutes, as amended, is 
 re-enacted without change, as follows : 
 
REVENUE ACT OP 1921 1399 
 
 "Sec. 3220. The Commissioner of Internal Revenue, subject to regula- 
 tions prescribed by the Secretary of the Treasury, is authorized to remit, 
 refund, and pay back all taxes erroneously or illegally assessed or collected, 
 all penalties collected without authority, and all taxes that appear to be 
 unjustly assessed or excessive in amount, or in any manner wrongfully 
 collected; also to repay to any collector or deputy collector the full amount 
 of such sums of money as may be recovered against him in any court, 
 for any internal revenue taxes collected by him, with the cost and expenses 
 of suit; also all damages and costs recovered against any assessor, as- 
 sistant assessor, collector, deputy collector, agent, or inspector, in any suit 
 brought against him by reason of anything done in the due performance 
 of his official duty, and shall make report to Congress at the beginning of 
 each regular session of Congress of all transactions under this section.'' 
 
 Sec. 1316. That section 3228 of the Revised Statutes is amended to read 
 as follows: 
 
 "Sec. 3228. All claims for the refunding or crediting of any internal 
 revenue tax alleged to have been erroneously or illegally assessed or col- 
 lected, or of any penalty alleged to have been collected without authority, 
 or of any sum alleged to have been excessive or in any manner wrong- 
 fully c&llected, must be presented to the Commissioner of Internal Revenue 
 within four years next after payment of such tax, penalty, or sum." 
 
 This section, except as modified by section 252, shall apply retroactively 
 to claims for refund under the Revenue Act of 1916, the Revenue Act of 
 1917, and the Revenue Act of 1918. 
 
 Sec. 1317. That the paragraph of section 3689 of the Revised Statutes, 
 as amended, reading as follows: "Refunding taxes illegally collected (in- 
 ternal revenue) : To refund and pay back duties erroneously or illegally 
 assessed or collected under the internal revenue laws," is repealed from 
 and after June 30, 1920; and the Secretary of the Treasury shall submit for 
 the fiscal year 1921, and annually thereafter, an estimate of appropriations 
 to refund and pay back duties or taxes erroneously or illegally assessed or 
 collected under the internal revenue laws, and to pay judgments, in- 
 cluding interest and costs, rendered for taxes or penalties erroneously or 
 illegally assessed or collected under the internal revenue laws. 
 
 LIMITATIONS UPON SUITS AND PROSECUTIONS 
 
 Sec. 1318. Thaf section 3226 of the Revised Statutes is amended to 
 read as follows: 
 
 "Sec. 3226. No suit or proceeding shall be maintained in any court 
 for the recovery of any internal revenue tax alleged to have been er- 
 roneously or illegally assessed or collected, or of any penalty claimed to 
 have been collected without authority, or of any sum alleged to have been 
 excessive or in any manner wrongfully collected, until a claim for refund 
 or credit has been duly .filed with the Commissioner of Internal Revenue, 
 according to the provisions of law in that regard, and the regulations of 
 the Secretary of the Treasury established in pursuance thereof. No such 
 suit or proceeding shall be begun before the expiration of six months from 
 the date of filing such claim unless the Commissioner renders a decision 
 thereon within that time, nor after the expiration of five years from the 
 date of the payment of such tax, penalty, or sum." 
 
 This section shall not affect any suit or proceeding instituted prior to 
 the passage of this Act, but shall apply to all suits and proceedings in- 
 
1400 APPENDIX 
 
 stituted after the passage of this Act, whether or not barred by prior Acts 
 of Congress. 
 
 Sec. 1319. That section 3227 of the Revised Statutes is hereby re- 
 pealed but such repeal shall not affect any suit or proceeding institijted 
 prior to the passage of this Act. 
 
 Sec. 1320. That no suit or proceeding for the collection of any internal 
 revenue tax shall be begun after the expiration of five years from the time 
 such tax was due, except in the case of fraud with intent to evade tax, ur 
 willful attempt in any manner to defeat or evade tax. This section shall 
 not apply to suits or proceedings for the collection of taxes under section 
 250 of this Act, nor to suits or proceedings begun at the time of the pas- 
 sage" of this Act. 
 
 Sec. 1321. (a) That the Act entitled "An Act to limit the time within 
 which prosecutions may be instituted against persons charged with violat- 
 ing internal-revenue laws,'' approved July 5, 1884, is amended to read as 
 follows : 
 
 "That no person shall be prosecuted, tried, or punished for any of the 
 various offenses arising under the internal-revenue laws of the United 
 States unless the indictment is found or the information instituted within 
 three years next after the commission of the offense : Provided, That the time 
 during which the person committing the offense is absent from the dis- 
 trict wherein the same is committed shall not be taken as any part of the 
 time limited by law for the commencement of such proceedings: Provided 
 further, That the provisions of this Act shall not apply to offenses com- 
 mitted prior to its passage: Provided further. That where a complaint shall 
 be instituted before a commissioner of the United States within the period 
 above limited, the time shall be extended until the discharge of the grand 
 jury at its next session within the district: Avd provided further, That 
 this Act shall not apply to offenses committed by officers of the United 
 States." 
 
 (b) Any prosecution or proceeding under an indictment found or informa- 
 tion instituted prior to the passage of this Act shall not be affected in 
 any manner by this amendment, but such prosecution or proceeding shall 
 be subject to the limitations imposed by law prior to the passage of this 
 Act. 
 
 ASSESSMENTS 
 
 m 
 
 Sec. 1322. That all internal revenue taxes, except as provided in section 
 250 of this Act, shall, notwithstanding the provisions of section 3182 of 
 the Revised Statutes or any other provision of law, be assessed within four 
 years after such taxes became due, but in the case of fraud with intent 
 to evade tax or willful attempt in any manner to defeat or evade tax, such 
 tax may be assessed at any time. 
 
 FRAUDULENT RETURNS • 
 
 Sec. 1323. That section 3225 of the Revised Statutes of the United 
 States, as amended, is re-enacted without change as follows: 
 
 "Sec. 3225. When a second assessment is made in case of any list, state- 
 ment, or return, which in the opinion of the collector or deputy collector 
 was false or fraudulent, or contained any understatement or undervalua- 
 tion, such assessment shall not be remitted, nor shall taxes collected under 
 such assessment be refunded, or paid back, or recovered by any suit, un- 
 
REVENUE ACT OF 1921 1401 
 
 less it is proved that such list, statement, or return was not willfully 
 false or fraudulent and did not contain any willful understatement or 
 undervaluation." 
 
 INTEREST ON REFUNDS AND JUDGMENTS 
 
 Sec. 1324. (a) That upon the allowance of a claim for the refund of 
 or credit for internal revenue taxes paid, interest shall be allowed and paid 
 upon the total amount of such refund or credit at the rate of one-half of 
 1 per centum per month to the date of such allowance, as follows: (1) 
 if such amount was paid under a specific protest setting forth in detail 
 the basis of and reasons for such protest, from the time when such tax 
 was paid, or (2) if such amount was not paid under protest but pursuant 
 to an additional assessment, from the time such additional assessment was 
 paid, or (3) if no protest was made and the tax was not paid pursuant to 
 an additional assessment, from six months after the date of filing of such 
 claim for refund or credit. The term "additional assessment" as used in 
 this section means a further assessment for a tax of the same character 
 previously paid in part. 
 
 (b) Section 177 of the Judicial Code is amended to read as follows: 
 "Sec. 177. No interest shall be allowed on any claim up to the time of 
 the rendition of judgment by the Court of Claims, unless upon a contract 
 expressly stipulating for the payment of interest, except that interest may 
 be allowed in any judgment of any court rendered after the passage of the 
 Revenue Act of 1921 against the United States for any internal-revenue tax 
 erroneously or illegally assessed or collected, or for any penalty collected 
 without authority or any sum which was excessive or in any manner wrong- 
 fully collected, under the internal-revenue laws.'' 
 
 PAYMENT OF TAXES BY CHECK OR UNITED STATES SECURITIES 
 
 Sec. 1325. That collectors may receive, at par with an adjustment for 
 accrued interest, notes or certificates of indebtedness issued by the United 
 States and uncertified checks in payment of income, war-profits and excess- 
 profits taxes and any other taxes payable other than by stamp, during such 
 time and under such regulations as the Commissioner, with the approval of 
 the Secretary, shall prescribe; but if a check so received is not paid by the 
 bank on which it is drawn the person by whom such check has been tendered 
 shall remain liable for the pajmient of the tax and for all legal penalties and 
 additions the same as if such check had not been tendered. 
 
 TAX SIMPLIFICATION BOARD 
 
 Sec. 1327. (a) That there is hereby established in the department of the 
 treasury a board to be known as the "Tax Simplification Board" (herein- 
 after in this section called the "Board"), to be composed as follows: 
 
 (1) Three members who shall represent the public, to be appointed by the 
 President; and 
 
 (2) Three members who shall represent the Bureau of Internal Revenue 
 and shall be officers or employees of the United States serving in such 
 bureau, to be appointed by the Secretary. 
 
 (b) Any vacancy in the board shall be filled in the same manner as the 
 original appointment. The members representing the public shall serve 
 without compensation except reimbursement for traveling, subsistence, and 
 other necessary expenses incurred in the performance of the duties vested in 
 them by this section. The members representing the Bureau of Internal 
 Revenue shall serve without compensation in addition to that received for 
 their service in such bureau. 
 
1402 APPENDIX 
 
 (c) The Secretary shall furnish the board with such clerical assistance, 
 quarters and stationery, furniture, office equipment, and other supplies as 
 may be necessary for the performance of the duties vested in them by this 
 section. 
 
 (d) It shall be the duty of the board to investigate the procedure of and 
 the forms used by the bureau in the administration of the internal revenue 
 laws, and to make recommendations in respect to the simplification thereof. 
 The board shall make a report to the Congress on or before the first Monday 
 of December in each year. 
 
 (e) The expenditures of the board shall be paid upon vouchers approved 
 by the board and signed by the chairman thereof. For the expenditures of 
 the board for the fiscal year ending June 30, 1922, there is authorized to be 
 appropriated, out of any money in the treasury not otherwise appropriated, 
 the sum of $10,000. 
 
 (f ) The board shall cease to exist on December 31, 1924. 
 
 CONSOLIDATION OF LIBERTY BOND TAX EXEMPTIONS 
 
 Sec. 1328. That the various Acts authorizing the issues of Liberty bonds 
 are amended and supplemented as follows: 
 
 (a) On and after January 1, 1921, 4 per centum and 4i per centum Lib- 
 erty bonds shall be exempt from graduated additional income taxes, com- 
 monly known as surtaxes, and excess-profits and war-profits taxes, now or 
 hereafter imposed by the United States upon the income or profits of 
 individuals, partnerships, corporations, or associations, in respect to the 
 interest on aggregate principal amounts thereof as follows: 
 
 Until the expiration of two years after the date of the termin^on of the 
 war between the United States and the German government, as fixed by 
 proclamation of the President, on $125,000 aggregate principal amount; and 
 for three years more on $50,000 aggregate principal amount. 
 
 (b) The exemptions provided in subdivision (a) shall be in addition to the 
 exemptions provided in section 7 of the Second Liberty Bond Act, and in 
 addition to the exemption provided in subdivision (3) of section 1 of the 
 supplement to the Second Liberty Bond Act in respect to bonds issued upon 
 conversion oi 31 per centum bonds, but shall be in lieu of the exemptions 
 provided and free from the conditions and limitations imposed in sub- 
 divisions (1) and (2) of section 1 of the supplement to Second Liberty Bond 
 Act and in section 2 of the Victory Liberty Loan Act. 
 
 DEPOSIT OF UNITED STATES BONDS OR NOTES IN LIEU OF SURETY 
 
 Sec. 1329. That wherever by the laws of the United States or regula- 
 tions made pursuant thereto, any person is required to furnish any 
 recognizance, stipulation, bond, guaranty, or undertaking, hereinafter 
 called "penal bond," with surety or sureties, such person may, in lieu of 
 such surety or sureties, deposit as security with the official having author- 
 ity to approve such penal bond, United States Liberty bonds or other 
 bonds or notes of the United States in a sum equal at their par value to 
 the amount of such penal bond required to be furnished, together with an 
 agreement authorizing such official to collect or sell such bonds or notes so 
 deposited in case of any default in the performance of any of the condi- 
 tions or stipulations of such penal bond. The acceptanc% of such United 
 States bonds or notes in lieu of surety or sureties required by law shall 
 have the same force and effect as individual or corporate sureties, or 
 certified checks, bank drafts, post-office money orders, or cash, for the 
 
REVENUE ACT OF 1921 1403 
 
 penalty or amount of such penal bond. The bonds or notes deposited here- 
 under and such other United States bonds or notes as may be substituted 
 therefor from time to time as such security, may be deposited with the 
 Treasurer of the United States, a federal reserve bank, or other depositary 
 duly designated for that purpose by the Secretary, which shall issue receipt 
 therefor, describing such bonds or notes so deposited. As soon as security 
 for the performance of such penal bond is no longer necessary, such bonds 
 or notes so deposited, shall be returned to the depositor: Provided, That 
 in case a person or persons supplying a contractor with labor or material 
 as provided by the Act of Congress, approved February 24, 1905 (33 Stat. 
 811), entitled "An Act to amend an Act approved August thirteenth, eigh- 
 teen hundred and ninety-four, entitled 'An act for the protection of persons 
 furnishing materials and labor for the construction of public works,' " shall 
 file with the obligee, at any time after a default in the performance of 
 any contract subject to said Acts, the application and affidavit therein 
 provided, the obligee shall not deliver to the obligor the deposited bonds 
 or notes nor any surplus proceeds thereof until the expiration of the time 
 limited by said Acts for the institution of suit by such person or persons, 
 and, in case suit shall be instituted within such time, shall hold said bonds 
 or notes or proceeds subject to the order of the court having jurisdiction 
 thereof: Provided further, That nothing herein contained shall affect or 
 impair the priority of the claim of the United States against the bonds or 
 notes deposited or any right or remedy granted by said Acts or by this sec- 
 tion to the United States for default upon any obligation of said penal bond : 
 Provided further. That all laws inconsistent with this section are hereby so 
 modified as to conform to the provisions hereof : And provided further, That 
 nothing contained herein shall affect the authority of courts over the 
 security, where such bonds are taken as security in judicial proceedings, 
 or the authority of any administrative officer of the United States to receive 
 United States bonds for security in cases authorized by existing laws. 
 The Secretary may prescribe rules and regulations necessary and proper 
 for carrying this section into effect. 
 
 CONSOLIDATED RETURNS FOR YEAR 1917 
 
 Sec. 1331. (a) That Title II of the Revenue Act of 1917 shall be construed 
 to impose the taxes therein mentioned upon the basis of consolidated re- 
 turns of net income and invested capital in the case of domestic corpora- 
 tions and domestic partnerships that were affiliated during the calendar 
 year 1917. 
 
 (b) For the purpose of this section a corporation or partnership was 
 affiliated with one or more corporations or partnerships (1) when such 
 corporation or partnership owned directly or controlled through closely 
 affiliated interests or by a nominee or nominees all or substantially all the 
 stock of the other or others, or (2) when substantially all the stock of two 
 or more corporations or the business of two or more partnerships was 
 ovsmed by the same interests: Provided, That such corporations or partner- 
 ships were engaged in the same or a closely related business, or one cor- 
 poration or partnership bought from or sold to another corporation or part- 
 nership products or services at prices above or below the current market, 
 thus effecting an artificial distribution of profits, or one corporation or 
 partnership in any way so arranged its financial relationships with another 
 corporation or partnership as to assign to it a disproportionate share of 
 
1404 APPENDIX 
 
 net income or invested capital. For the purposes of this section, public 
 service corporations which (1) were operated independently, (2) were not 
 physically connected or merged and (3) did not receive special permission 
 to make a consolidated return, shall not be construed to have been afBliated; 
 but a railroad or other public utility which was owned by an industrial cor- 
 poration and was operated as a plant facility or as an integral part of a 
 group organization of affiliated corporations which were required to file a 
 consolidated return, shall be construed to have been affiliated. 
 
 (c) The provisions of this section are declaratory of the provisions of 
 Title II of the Revenue Act of 1917. 
 
 ALTERNATIVE TAX ON PERSONAL SERVICE CORPORATIONS 
 
 Sec. 1332. (a) That if either subdivision (e) of section 218 of the 
 Kevenue Act of 1918 or subdivision (d) of section 218 of this Act is by 
 final adjudication declared invalid, there shall, in addition to all other 
 taxes, be levied, collected, and paid on the net income (as defined in sec- 
 tion 232) received during the calendar years 1918, 1919, 1920, and 1921, 
 by every personal service corporation (as defined in section 200) included 
 within the provisions of such subdivisions, a tax equal to the taxes imposed 
 by Titles II and III of the Revenue Act of 1918 and, in the case of income 
 received during the calendar year 1921, by Titles II and III of this Act. 
 
 (b) In such event every such personal service corporation shall, on or 
 before the fifteenth day of the sixth month following the date of entry 
 of decree upon such final adjudication, make a return of any income re- 
 ceived during each of the calendar years 1918, 1919, 1920, and 1921 in the 
 manner prescribed by the Revenue Act of 1918 (or in the manner pre- 
 scribed by this Act, in the case of income received during the calendar 
 year 1921). Such return shall be made and the net income shall be com- 
 puted on the basis of the taxpayer's annual accounting period (fiscal year 
 or calendar year, as the case may be) in the manner provided for other 
 corporations under the Revenue Act of 1918 and this Act. 
 
 (c) If either subdivision (e) of section 218 of the Revenue Act of 1918 
 or subdivision (d) of section 218 of this Act is so declared invalid, claims 
 for credit or refund of taxes paid under both such sections shall be allowed, 
 if made within the time provided in subdivision (f ) of this section. 
 
 (d) In case the claims for credit or refund, filed within six months from 
 such date of entry of decree, represent less than 30 per centum of the 
 outstanding stock or shares in the corporation, the amount of taxes imposed 
 by this section upon such corporation shall be reduced to that proportion 
 thereof which the number of stock or shares owned by the shareholders 
 or members making such claims bears to the total number of stock or 
 shares outstanding. 
 
 (e) The tax imposed by this section shall be assessed, collected, and paid 
 upon the same basis, in the same manner, and subject to the same pro- 
 visions of law, including penalties, as the taxes imposed by sections 230 
 and 301 of the Revenue Act of 1918 (or by sections 230 and 301 of this 
 Act, in the case of income received during the calendar year 1921), but no 
 interest or penalties shall be due or payable thereon for any period prior 
 to the date upon which the return is by this section required to be made 
 and the first installment paid. The amount of tax paid by any shareholder 
 or member of a. personal service corporation pursuant to the provisions of 
 subdivision (e) of section 218 of the Revenue Act of 1918 or subdivision 
 (d) of section 218 of this Act shall be credited against the tax due from 
 
REVENUE ACT OF 1921 1405 
 
 such corporation under this section upon the joint written application of 
 such corporation and such shareholder or member or his representatives, 
 heirs, or assigns, if such application is filed with the Commissioner within 
 six months from such date of entry of decree. 
 
 (f ) Notwithstanding any other provision of law, no claim for a credit or 
 refund of taxes paid under subdivision (e) of section 218 of the Revenue 
 Act of 1918 or subdivision (d) of section 218 of this Act, may be filed after 
 the expiration of six months from such date of entry of decree: Provided, 
 however. That a personal service corporation of which no shareholder or 
 member has filed such claim within such period of six months shall not be 
 subject to the tax imposed by this section. 
 
 TITLE XIV— GENERAL PROVISIONS 
 
 REPEALS 
 
 Sec. 1400. (a) That the following parts of the Revenue Act of 1918 are 
 repealed, to take effect (except as otherwise provided in this Act) on 
 January 1, 1922, subject to the limitations provided in subdivision (b) : 
 
 Title II (called "Income Tax") as of January 1, 1921: 
 
 Title III (called "War-Profits and Excess-Profits Tax") as of January 
 1, 1921; 
 
 Title IV (called "Estate Tax") on the passage of this Act; 
 
 Title V (called "Tax on Transportation and Other Facilities, and on 
 Insurance"); 
 
 Sections 628, 629, and 630 of Title VI (being the taxes on soft drinks, 
 ice cream, and similar articles) ; 
 
 Title VII (called "Tax on Cigars, Tobacco and Manufactures Thereof") ; 
 
 Title VIII (called "Tax on Admissions and Dues") ; 
 
 Title IX (called "Excise Taxes"); 
 
 Title X (called "Special Taxes") ; 
 
 Title XI (called "Stamp Taxes") ; 
 
 Title XII (called "Tax on Employment of Child Labor") as of January 
 1, 1921; and 
 
 Sections 1314, 1315, 1316, 1317, 1319, and 1320 of Title XIII (being cer- 
 tain administrative provisions) on the passage of this Act. 
 
 (b) The parts of the Revenue Act of 1918 which are repealed by this 
 Act shall (unless otherwise specifically provided in this Act) remain in 
 force for the assessment and collection of all taxes which have accrued 
 under the Revenue Act of 1918 at the time such parts cease to be in effect, 
 and for the imposition and collection of all penalties or forfeitures which 
 have accrued or may accrue in relation to any such taxes. In the case of 
 any tax imposed by any part of the Revenue Act of 1918 repealed by this 
 Act, if there is a tax imposed by this Act in lieu thereof, the provision 
 imposing such tax shall remain in force until the corresponding tax under 
 this Act takes effect under the provisions of this Act. The unexpended 
 balance of any appropriation heretofore made and now available for the 
 administration of any such part of the Revenue Act of 1918 shall be 
 available for the administration of this Act or the corresponding provision 
 thereof. 
 
1406 APPENDIX 
 
 SAVING CLAUSE IN EVENT OF UNCONSTITUTIONALITY 
 
 Sec. 1403. That if any provision of this Act, or the application thereof 
 to any person or circumstances, is held invalid, the remainder of the Act, 
 and the application of such provision to other persons or circumstances, shall 
 not be affected thereby. 
 
 EFFECTIVfi DATE OF ACT 
 
 Sec. 1404. That except as otherwise provided, this Act shall take effect 
 upon its passage. 
 
 Approved, November 23, 1921, at 3:55 p. m. 
 
INDEX 
 
 [References are to pages^ 
 
 A 
 ABATEMENT, CREDIT AND REFUND, 
 
 abatement, effect of appeal from additional assessment, 917. 
 
 effect of rejection of claim for, 914. 
 
 payment where claim denied, 917. 
 
 procedure for claiming, 915. 
 
 procedure of collector on claims for, 916. 
 
 purpose of claims in, 914. 
 claims for, 893. 
 claims for credit, 926. 
 
 action on, 927. 
 
 payment where denied, 928. 
 
 procedure to be followed by taxpayer, 926. 
 
 taxes erroneously collected, 926. 
 claims for abatement of uncollectible taxes, 941. 
 claims for, after December 16, 1921, 920. 
 claims for refund, 923. 
 
 claims for refund of sums recovered by suit, 938. 
 claims in case of affiliated corporations, 260. 
 claims of corporations, 269. 
 community income, 51. 
 credit and refund, 918. 
 
 authority for, 918. 
 credit equivalent to payment, 932. 
 discussed generally, 19. 
 final determination and assessment, 920. 
 in general, 912. 
 
 interest on refunds and judgments under present law, 939. 
 nonresident aliens, 86. 
 
 claims for, 87. 
 procedure by collectors upon receipt of claims for refund or 
 
 abatement, 924. 
 procedure for handling claims, effective December 16, 1921, 920. 
 refund, amended returns are not claims for, 930. 
 
 authority of Commissioner, 923. 
 
 power of attorney sufficient authority for filing, 924. 
 
 procedure for claiming, 923. 
 
 statute of limitations, 929. 
 
 taxes collected on second assessment, 928. 
 
 when allowed, 931. 
 reopening of cases, 942. 
 review of Commissioner's decision, 919. 
 suits after rejection of claim by Commissioner, 932. 
 when a credit is made or allowed, 931. 
 who may claim recovery of tax, 913. 
 
 1407 
 
1408 INDEX 
 
 [References are to pages.l 
 
 ABSTRACTS OF TITLE, 
 
 not subject to stamp tax, 1195. 
 
 ACCIDENT OR HEALTH INSURANCE, 
 
 amounts received through, exempt, 354. 
 exemption of amounts received through, 37. 
 exemption of income from, 556. 
 payments under not to be reported at source, 954. 
 premiums paid by employers, 367. 
 
 ACCOUNTING, 
 
 accrual method, 845, 349. 
 
 approved standard methods of, 797. 
 
 changing basis for computation of income, 815. 
 
 doctrine of election, as to method, 815. 
 
 inconsistent bases not permissible in same return, 798. 
 
 method of, in case of installment sales, 469. 
 
 methods and periods of, 795. 
 
 methods of, 342, 797. 
 
 on basis of accruals, 796. 
 
 on basis of actual receipt, 795. 
 
 standard methods of, regarded as reflecting income, 349. 
 
 treatment of bad debts in case of installment sales, 471. 
 
 treatment of discount by banks, 387. 
 
 ACCOUNTING PERIOD, 
 changes in, 817. 
 
 computation of income on basis of, 11. 
 fiscal year, 815. 
 
 fiscal year ending in 1919, 819. 
 fiscal years ending in 1921 or 1922, 818. 
 returns must be made on basis of, 816. 
 returns when changed, 829. 
 taxpayers changing, 816. 
 when change in, permitted, 818. 
 
 ACCRUALS, 
 
 accrued charges, 797. 
 
 interest on obligations at time of purchase, 493. 
 
 reporting deductions on basis of, 796. 
 
 reporting on basis of, 349, 796. 
 
 sometimes taxed as income, 344. 
 
 ACCUMULATIONS, 
 
 for charitable purposes, 116. 
 prior to March 1, 1913, 518. 
 undistributed profits of corporations, 29 
 when unreasonable, 31, 33. 
 
 ADDITIONS AND BETTERMENTS, 
 
 effect on depreciation allowance, 690. 
 
INDEX 1409 
 
 [References are to pages.'] 
 
 ADMINISTRATION, 
 
 capital stock tax, 1160. 
 
 collection of tax may not be enjoined, 851. 
 
 income tax laws, 5. 
 
 of war-profits and excess-profits tax law, 1138. 
 
 powers of revenue officials, 5. 
 
 procedure before Committee on Appeals and Review, 894. 
 
 reopening of cases, 942. 
 
 review of assessments, 864. 
 
 ADMISSIBLE ASSETS, 
 defined, 1073. 
 insurance policies, 1074. 
 school district warrants, 1074. 
 
 ADVERTISING EXPENSES, 
 deduction of, 582. 
 in connection with government contracts, 1031. 
 
 ADVISORY TAX BOARD, 
 
 establishment and abolition of, 6. 
 function of, 893. 
 
 AFFILIATED CORPORATIONS, 
 
 See Consolidated Returns. 
 capital stock tax return by, 1159. 
 change in ownership during year, 257. 
 claims for credit or refund, 260. 
 consolidated balance sheets, preparation of, 261. 
 consolidated net income of, 259. 
 
 corporation deriving chief income from government contracts, 257. 
 different fiscal years of, 259. 
 domestic corporation affiliated with foreign corporation under 
 
 1918 Law, 258. 
 examples of, 256. 
 inadmissible assets, 1134. 
 intangible property paid in, 1133. 
 invested capital for prewar period, 1135. 
 invested capital of, 1132. 
 Liberty bond exemption in case of, 260. 
 may not file consolidated returns of information, 963. 
 national bank stockholders' trustee accounts, 1135. 
 prewar net income of, 1135. 
 related trades or businesses, 258. 
 required to file consolidated returns, 254. 
 stock of subsidiary acquired for cash, 1134. 
 stock of subsidiary acquired for stock, 1134. 
 when corporations are affiliated, 254. 
 
 AGENTS, 
 
 See Resident Agents; Withholding Agents. 
 are not fiduciaries, 103. 
 receipt of income by, considered receipt by principal, 348. 
 
1410 INDEX 
 
 [References are to pagres.] 
 
 AGENTS— Continued. 
 
 resident agents for foreign corporations, 306. 
 returns by, 52, 827. 
 
 for nonresident aliens, 85. 
 withholding against, 980. 
 withholding agent defined, 965. 
 
 AGRICULTURAL AND FORESTRY OPERATIONS, 
 not subject to child labor tax, 1252. 
 
 AGRICULTURAL ORGANIZATIONS, 
 exemption of, 315. 
 
 ALIEN PROPERTY CUSTODIAN, 
 
 conveyance by or to, not subject to stamp tax, 1197. 
 
 corporations in hands of, 249. 
 
 no stamp tax on sales or transfers of stock to or by, 1184. 
 
 not a fiduciary, 107. 
 
 payment of tax where property taken over by, 873. 
 
 withholding on payments to, 994. 
 
 ALIENS, 
 
 See Nonresident Aliens. 
 determination of residence of, 42. 
 loss of residence, 43. 
 proof of residence, 42, 57. 
 residence of, 56. 
 residing in United States, taxation of, 42. 
 
 ALIEN SEAMEN, 
 wages of, 67. 
 
 ALIMONY, 
 
 is not income, 538. 
 
 AMENDED RETURNS, 
 
 in case of subsequently discovered gains, 805. 
 where capital charges made to income, 251. 
 when necessary, 839. 
 
 AMORTIZATION, 
 
 amortization period, 710. 
 
 claims must be diff^erentiated in return, 706. 
 cost which may be amortized, 708. 
 deduction for, in general, 678. 
 deduction for, under 1918 Law, 705. 
 depreciation of amortized property, 707. 
 effect upon invested capital, 706. 
 information to be furnished by taxpayer, 712. 
 property the cost of which may be amortized, 707. 
 redetermination of allowance, 711. 
 sale of amortized property, 711. 
 scope of provision for, 706. 
 
 under Munition Manufacturers' Tax, effect on invested capital, 
 1094. 
 
INDEX 1411 
 
 [References are to pages.^ 
 
 ANNUITIES, 
 
 income from, 656. 
 
 when not reported at source, 954. 
 
 APARTMENT HOUSES, 
 
 rate of depreciation allowed, 691. 
 
 APPEALS, 
 
 from additional assessments, 863. 
 
 to Committee on Appeals and Review, 893. 
 
 APPRECIATION IN VALUE OF PROPERTY, 
 may be taxed, 407. 
 
 may not be included in invested capital, 1086. 
 penalty for including in invested capital, 901. 
 
 ARIZONA, 
 
 community property, 47. 
 ASSESSMENT OF TAX, 
 
 See Notice and Demand. 
 additional assessment, rules under present law, 862. 
 additional assessment under prior laws, 858. 
 administrative review, 864. 
 changes made by 1921 Law, 857. 
 claim in abatement in case of appeal from, 917. 
 computation of period of limitations, 862. 
 discovery of deficiency, 855. 
 
 do not take the place of claims for credit or refund, 930. 
 final determinations and assessments, 863. 
 
 five year limitation on summary assessment under prior laws, 860. 
 limitation on, time in which to make, 860. 
 must be made by Commissioner, 859. 
 on income received during lifetime of. decedent, 863. 
 opportunity for hearing, 863. 
 procedure under 1918 Law, 854. 
 procedure under 1921 Law, 855. 
 refund of taxes collected on second assessment, 928. 
 right of taxpayer to appeal, 863. 
 suits to restrain, not allowed, 850. 
 
 ASSIGNEE, 
 
 duties of, respecting withholding at source, 983. 
 income taxable in hands of, 244. 
 
 ASSOCIATIONS, 
 
 See Partnerships. 
 
 building and loan, when exempt, 318. 
 
 distinguished from partnership, 1141. 
 
 distinguished from trust, 1141. 
 
 dividends from, 505. 
 
 exemption of business associations, 328. 
 
 exemption of national farm loan associations, 337. 
 
 for marketing produce and purchasing supplies, exemption of, 335. 
 
1412 INDEX 
 
 [References are to pages. "l 
 ASSOCIATIONS— Continued. 
 
 subject to capital stock tax, 1140. 
 taxed as corporations, 211. 
 when trusts are taxed as, 215. 
 
 AUTOMOBILES, 
 
 depreciation deduction for, when used in business, 680. 
 losses in connection with, 622. 
 use of, by farmer, 162. 
 
 AUTOMOBILE LICENSE FEES, 
 deductible as taxes, 612. 
 
 B 
 
 BAD DEBTS, 
 
 See Worthless Debts. 
 BALANCE SHEETS, 
 
 exhibits for capital stock tax, 1144. 
 
 BANKRUPTCY, 
 
 trustee in, income taxable in hands of, 244. 
 
 BANKS, 
 
 carrying Liberty bonds, 487. 
 
 deduction of amounts set apart for depositors' guaranty fund, 612. 
 
 deposits in, not subject to withholding, 969. 
 
 examination of books of national banks, 947. 
 
 exemption of federal land banks, 337. 
 
 inclusion of discount in invested capital, 1063. 
 
 interest on deposits, 494. 
 
 joint stock land banks not exempt, 337. 
 
 Liberty bonds held by, 485. 
 
 national bank stockholders' trustee accounts, 1135. 
 
 penalty for deducting taxes paid for shareholders, 901. 
 
 private or partnership, 170. 
 
 taxes paid for stockholders, deduction of, 617. 
 
 treatment of discount, 387. 
 
 use of substitute certificates by, 989. 
 
 when co-operative exempt, 318. 
 
 when mutual savings banks exempt, 316. 
 
 withholding in case of, 970. 
 
 BEQUEST, DEVISE, OR DESCENT, 
 
 exemption of property acquired by, 87. 
 
 gain or loss from sale of property acquired by, 456. 
 
 losses from sale of property acquired by, 625. 
 
 property acquired by, exempt, 354. 
 
 shrinkage in value of life or terminable interest, 575. 
 
 BENEFICIARIES, 
 
 See Fiduciaries. 
 BILLS OF SALE, 
 
 conditional bills of sale, stamp tax on, 1190. 
 
INDEX 1413 
 
 [References are to pages. "] 
 
 BOARDS pF TRADE, 
 
 exemption from tax, 328. 
 
 BONDS, 
 
 See Liberty Bonds; Tax-Free Covenant Bonds. 
 business property investment stamp tax on, 1167, 1189. 
 deduction when worthless, 654. 
 
 discount on sale of, effect on invested capital, 1062. 
 griven in a penal sum, stamp tax, 1167. 
 interest on bonds of municipality, 491. 
 interest on, of exempt organizations, 493. 
 interest paid in scrip, 494. 
 issued at a discount, deduction of discount, 238. 
 issued at a premium, income from, 238. 
 issue of, stamp tax on, 1168. 
 loss, when purchased above par, 636. 
 
 maturing serially, treatment of discount and expenses, 240. 
 municipal bonds purchased at premium of discount, 462. 
 of indebtedness, stamp tax on, 1166. 
 of indemnity and surety, not subject to stamp tax under present 
 
 law, 1169. 
 of United States, foreign governments and political subdivisions, 
 
 exempt from stamp tax, 1170. 
 purchased at a premium, interest on, 495. 
 renewal of, stamp tax on, 1168. 
 
 sale and retirement of corporate bonds, income from, 238. 
 sales and dealings in, 461. 
 
 state and municipal, information at source, 955. 
 transfer of, stamp tax on, 1168. 
 what are, 1167. 
 
 when exempt from stamp tax, 1168. 
 when inadmissible assets, 1076. 
 withholding at source in case of interest on, 972. 
 
 BONUSES, 
 
 cost of stock received as, 418. 
 
 deduction of, 595. 
 
 depletion when paid for lease, 717. 
 
 paid in stock, 366. 
 
 to be withheld at source, 968. 
 
 treatment of for purposes of depletion, 723. 
 
 when held to be gifts, 365. 
 
 when subject to tax, 365. 
 
 BOOKKEEPING ENTRIES, 
 
 accrued charges, 797. 
 
 do not constitute income, 341. 
 
 earnings or profits accumulated prior to March 1, 1913, 523. 
 
 in case of installment sales, 469. 
 
 not binding, 342. 
 BOOKS, 
 
 See Examination of Books. 
 
1414 INDEX 
 
 [References are to pages!] 
 
 BOOK VALUE, 
 
 as proof of market value, 431. 
 
 BROKERS, 
 
 information at source by, 954. 
 
 interest received and paid by, 494. 
 
 registration of, 1188, 1236. 
 
 reports by, 190. 
 
 reports by, when corporations, 264. 
 
 returns of information at source by, 962. 
 
 stamp tax on transfers of stock to or by, 1186. 
 
 BUILDING AND LOAN ASSOCIATIONS, 
 exemption of dividends from, 355. 
 exemption of interest or dividends from, 37. 
 income from shares in, 551. 
 
 stock and bonds of, exemption from stamp tax, 1169. 
 when exempt, 318. 
 when payments by, not to be reported at source, 954. 
 
 BUSINESS, 
 
 See Trade or Business. 
 
 expenses of, deductible, 578. 
 
 gross income from, 385. 
 
 incorporation of, election as to how taxed, 218. 
 
 what constitutes, 579. 
 
 BUSINESS ASSOCIATIONS, 
 exemption of, 328. 
 
 CALIFORNIA, 
 
 community property, 49. 
 
 CANCELLED DEBTS, 
 income from, 589. 
 
 CANNERIES, 
 
 subject to child labor tax, 1250. 
 
 CAPITAL, 
 
 abnormal conditions affecting, 1119. 
 
 additions to in case of mines, 739. 
 
 distinguished from income, 340. 
 
 distributions of, 526. 
 
 includes property held prior to March 1, 1913, 341. 
 
 increments in value of, 341. 
 
 losses of, 629. 
 
 recoverable through depletion, in case of lessee, 716. 
 
 in case of lessor, 717. 
 
 in case of operating owner, 715. 
 
 CAPITAL ASSETS, 
 defined, 410. 
 
 penalty for omitting gains from sale of, 901. 
 taxation of appreciation in, 407. 
 
INDEX 1415 
 
 [References are to pages.] 
 
 CAPITAL CHARGES, 
 
 amended returns where made to income, 251. 
 
 CAPITAL EXPENDITURES, 
 examples of, 570. 
 
 CAPITAL GAINS, 
 defined, 410. 
 
 limitation of tax on, 22. 
 how tax computed, 411. 
 how taxed to estates and trusts, 410. 
 how taxed to partnerships, 410. 
 taxation of, 409. 
 when new provision for taxation of, is applicable, 409. 
 
 CAPITAL LOSS, 
 defined, 410. 
 
 CAPITAL STOCK, 
 
 See Stock. 
 expenses of selling, not deductible by corporations, 231. 
 income from sale of, by corporation, 227. 
 redemption or retirement expenses not deductible, 233. 
 sales and transfers, affixing and cancelling stamps, 1179. 
 sales and transfers, stamp tax on, 1177. 
 
 shares without par value, stamp tax on sales and transfers, 1180. 
 stamp tax on issue, 1170. 
 
 CAPITAL STOCK TAX, 
 
 administration of the law, 1160. 
 annual income, 1145. 
 applies to domestic corporations, 1140. 
 association distinguished from partnership, 1141. 
 association distinguished from trust, 1141. 
 associations subject to, 1140. 
 carrying on or doing business, 1151. 
 condensed balance sheet, 1144. 
 
 corporations engaged in business during preceding year and dur- 
 ing taxable year, 1151. 
 corporations exempt from, 1140, 1156. 
 deduction of, 610. 
 definitions, 1139. 
 
 described as a special excise tax, 1139. 
 description of tax, 1139. 
 
 doing business by foreign corporations, 1155. 
 domestic mutual insurance companies, 1150. 
 fair average value of capital stock, 1143. 
 foreign mutual insurance companies, 1150. 
 inactive corporations, 1151. 
 insurance companies, 1148. 
 limited partnership as corporation, 1142. 
 limited partnership as partnership, 1141. 
 mutual insurance companies under 1918 Law, 1149. 
 
1416 INDEX 
 
 [References are to pages.'] 
 
 CAPITAL STOCK TAX— Continued, 
 not doing business, 1155. 
 on foreign corporations, 1147. 
 payment of, 1160. 
 penalties, 1160. 
 
 quotations or outside sales prices, 1145. 
 rate on domestic corporations, 1143. 
 rate on foreign corporations, 1146. 
 returns, 1156. 
 
 by affiliated corporation, 1159. 
 
 by affiliated corporation based upon consolidated re- 
 port, 1159. 
 
 by foreign corporations, 1160. 
 
 corporation claiming exemption, 1158. 
 
 extension of time, 1157. 
 
 in what cases required, 1157. 
 
 tentative returns, 1157. 
 
 to be public records, 1157. 
 scope of, 1139. 
 
 stock insurance companies under 1918 Law, 1149. 
 when foreign corporations are subject to, 1142. 
 when tax is due, 1156. 
 
 CAR TRUST CERTIFICATES, 
 
 withholding at source in case of, 976. 
 
 CASH, 
 
 income received in equivalent of, 350. 
 
 CASUALTY, 
 
 "other casualty," defined, 637, 
 
 CASUALTY INSURANCE ASSOCIATION, 
 exemption of, 334. 
 
 CEMETERY COMPANIES, 
 when exempt, 322. 
 
 CERTIFICATES, 
 
 generally, stamp tax on, 1190. 
 
 of age, for child labor tax, 1256. 
 
 of deposit, stamp tax on, 1189. 
 
 of indebtedness, stamp tax on, 1166. 
 
 of interest in property or accumulations, stamp tax on, 1174. 
 
 of profits, stamp tax on, 1174, 1188. 
 
 of stock, stamp tax on, 1174. 
 
 CERTIFICATES OF INDEBTEDNESS, 
 
 issued by Director General of Railroads, not exempt, 487. 
 
 issued by receivers, stamp tax on, 1190. 
 
 stamp tax on scrip dividend certificates or warrants, 1189. 
 
 subject to stamp tax, 1189. 
 
 taxes paid by, procedure, with respect to, 880. 
 
 tax may be paid by, 878, 879. 
 
INDEX 1417 
 
 [Refererices are to pages.'i 
 
 CHAMBERS OF COMMERCE, 
 exemption from tax, 328. 
 
 CHARITABLE CORPORATIONS, 
 exempt from tax, 322. 
 
 CHARITABLE PURPOSES, 
 
 accumulations for, 116. 
 CHARITIES, 
 
 contributions to, allowed as deduction to estates and trusts, 120. 
 
 contributions to, by partnerships, 184. 
 
 deduction of contributions to, 561. 
 by corporations, 237. 
 
 examples of deductible contributions, 563. 
 
 examples of nondeductible contributions to, 564. 
 
 limitation of deduction on contributions to, 562. 
 
 CHECKS, 
 
 See Stamp Tax. 
 stamp tax on, 1190. 
 taxes may be paid by, 878. 
 
 CHILD LABOR TAX, 
 
 acceptance of state certificates, 1258. 
 agricultural and forestry operations, 1252. 
 basis and rate of tax, 1258. 
 certificate of age, 1256. 
 children in ''company of mothers, 1253. 
 constitutionality of, 1260. 
 duration of employment, 1255. 
 effective date of act, 1250. 
 
 employment in general and factory offices, 1251. 
 inspection of establishment, 1258. 
 
 janitor service in office of manufacturing plant, 1254. 
 manufacturing establishment defined, 1251. 
 
 mill, cannery, workshop, factory or manufacturing establish- 
 ment, 1250. 
 mine or quarry, 1254. 
 
 coke ovens, 1255. 
 
 in or about mines, 1254. 
 mistakes as to age of child, 1258. 
 penalties, 1260. 
 
 persons to whom the tax applies, 1250. 
 proof of age, 1256. 
 returns to be filed, 1259. 
 son of proprietor, 1253. 
 tax due, 1259. 
 time record, 1259. 
 time (sun or clock), 1255. 
 vacation period, 1253. 
 
 CITIZENS, 
 
 certain citizens treated as nonresident aliens, 57 
 credit of taxes allowed to, 787. 
 
1418 INDEX 
 
 [References are to pages.'] 
 
 CITIZENS— Continued. 
 
 deriving income from United States possessions, 41. 
 
 of possessions, residing in United States, credit for taxes, 788. 
 
 payment of tax when leaving country, 876. 
 
 presumption of expatriation, 41. 
 
 residing abroad, 41. 
 
 residing in the United States; 41. 
 
 taxation of, 39. 
 
 who are, 40. ■ 
 
 withholding at source against, 978. 
 
 CIVIC ORGANIZATIONS, 
 
 exemption from tax, 330. 
 
 CIVIL WAR INCOME TAXES, 
 statutes imposing, 4. 
 
 CLAIMS, 
 
 for allowance of net loss, 661. 
 
 for amortization, must be differentiated in return, 706. 
 
 for credit of taxes erroneously collected, 926. 
 
 for inventory loss or loss from rebates, 672. 
 
 for loss in inventory and from rebates, disposition of, 675. 
 
 in abatement, 914. 
 
 income from payment of, 546. 
 
 income from settlement of, 113. 
 
 procedure for claiming refund, 923. 
 
 valuation of, 113. 
 
 CLEARING HOUSE ASSOCIATION, 
 exemption from tax, 329. 
 
 CLEARING HOUSES, 
 
 See Stamp Tax. 
 CLERGYMEN, 
 
 exemption of rental value of dwelling house, 38, 355, 368. 
 
 voluntary offerings to, 368. 
 
 CLUBS, 
 
 exemption from tax, 330. 
 
 COLLECTION AT THE SOURCE, 
 
 See Withholding at Source. 
 
 COLLECTION OF TAX, 
 
 addition of five dollars in case of distraint, 874. 
 
 by suit against former residents now abroad, 870. 
 
 from taxpayers contemplating concealment of property, 874. 
 
 lien for unpaid taxes, 870. 
 
 limitation on suits for, 868. 
 
 notice of lien, 871. 
 
 priority of federal taxes, 872. 
 
 suits for, 868. 
 
 suits to restrain not allowed, 850. 
 
INDEX 1419 
 
 [References are to pages. 1 
 
 COLLECTION OF TAX— Continued. 
 
 taxes collectible by distraint, 873. 
 
 taxpayers leaving country or removing property, 874, 876. 
 
 when lien attaches, 872. ' 
 
 COLORADO, 
 
 mining partnerships of, taxed as corporations, 212. 
 
 COMMISSIONS, 
 
 deductible as business expense, 589. 
 income in form of, 366. 
 in what year to be reported, 801. 
 withheld at source, 967. 
 
 COMMITTEE FOR INCOMPETENT, 
 
 certain amounts paid not deductible, 124. 
 
 COMMITTEE ON APPEALS AND REVIEW, 
 establishment and functions of, 6, 893. 
 procedure before, 894. 
 
 COMMUNITY CHEST, 
 
 deduction of contributions to, 561. 
 
 COMMUNITY PROPERTY, 
 
 abatement, credit and refund in case of, 51. i 
 
 taxation of income from, 45. ' 
 
 COMPENSATION FOR LOSS, 
 in general, 541. 
 under 1921 Law, 541. 
 
 COMPENSATION FOR SERVICES, 
 
 See Federal Officers and Employees; Officers and Employees of State; 
 
 Personal Services; Salaries. 
 
 additional amounts to be paid at future date, 808. 
 
 bonuses paid in stock, 597. 
 
 deduction of, 590. 
 
 deduction of bonuses and profit sharing payments, 597. 
 
 excessive payments by individuals or partnerships, 594. 
 
 extending over a year, 372. 
 
 federal officers and employees, 373. 
 
 living quarters, board or lodging, 369. 
 
 paid to employees during absence at school, 595. 
 
 promissory notes received as, 371. 
 
 received in stock, 371. 
 
 salaries of federal judges, 377. 
 
 soldiers and sailors, 374. 
 
 treated as dividends, when excessive, 506. 
 
 use of property of employer, 369. 
 
 what constitutes reasonable amount, 591. 
 
 when to be reported, 805. . 
 COMPROMISES, 
 
 ad valorem penalties, 909. 
 
 offers in compromise, 909, 910. 
 
1420 INDEX 
 
 {^References are to pages.'] 
 
 COMPROMISES— Continued. 
 
 of taxes and penalties, 907. 
 
 power of Commissioner respecting, 908. 
 
 specific penalties, 909. 
 
 COMPUTATION OF INCOME, 
 accrual basis, 349. 
 method of accounting, 344. 
 
 COMPUTATION OF NET INCOME, 
 method of, 11. 
 
 COMPUTATION OF TAX, 
 
 corporations with income from government contracts, 1036. 
 
 illustration for 1921, 28. 
 
 illustration for 1922, 29. 
 
 in case of capital gains, 411. 
 
 in case of husband and wife, 824. 
 
 of corporations engaged partly in personal service business, 1025. 
 
 surtax tables, 25, 26. 
 
 CONSOLIDATED RETURNS, 
 
 See Affiliated Corporations; Reorganization. 
 change in present law, 251. 
 computation of tax under, 252. 
 contents of, 252. 
 
 in case of foreign "rporations, 308. 
 necessity for, 252. 
 under 1917 Law, 261. 
 under 1918 Law, 252. 
 
 CONSTITUTIONALITY, 
 
 act of 1894 held unconstitutional, 4. 
 
 child labor tax, 1260. 
 
 construction of constitutional provisions, 1007. 
 
 construction which will be constitutional, 1264. 
 
 examination and production of books, 945. 
 
 exempting certain corporations from tax, 1013. 
 
 of stamp taxes, 1246. 
 
 power of Congress to levy income taxes, 1007. 
 
 requiring disclosure of exempt interest, 1009. 
 
 retroactive features, 1013. 
 
 sixteenth amendment, 4. 
 
 statutes may be in part unconstitutional, 1006. 
 
 statutes to be held constitutional if possible, 1006. 
 
 taxation of salaries of President and federal judges, 39. 
 
 taxing gains and profits from sale of property, 1008. 
 
 tax on personal service corporations, 207. 
 
 uniformity, 1013. 
 
 want of due process, 1009. 
 
 CONSTRUCTION OF TAXING STATUTES, 
 by reference to similar statutes, 1266. 
 construction which will be constitutional, 1264. 
 
INDEX 1421 
 
 [References are to pages.1 
 
 CONSTRUCTION OF TAXING STATUTES— Continued, 
 construing constitutional provisions, 1007. 
 effect of rulings and practice of treasury department, 1266. 
 exemption from taxation, 1273. 
 in general, 1261. 
 
 proceedings in Congress as aid to, 1264. 
 rule followed by treasury department, 1274. 
 similar- statutes in other jurisdiction, 1268. 
 strict or liberal construction, 1268. 
 
 CONSTRUCTIVE RECEIPT OF INCOME, 
 distinguished from accrual, 799. 
 dividends, 526. 
 examples of, 346. 
 
 income from foreign countries, 358. 
 interest and dividends, 347. 
 receipt by agent, 348. 
 rent, 500. 
 
 what constitutes, 346. 
 when applied, 346. 
 
 CONTRACTS, 
 
 no stamp tax on, 1190. 
 
 CONTRACTORS, 
 
 income of, 385. 
 
 income of, from state contract, 546. 
 
 CONVEYANCES, 
 
 See Stamp Tax. 
 stamp tax on, 1190. 
 when not subject to stamp tax, 1193. 
 
 CO-OPERATIVE ASSOCIATIONS, 
 dividends from, 508. 
 
 CO-OPERATIVE BANKS, 
 when exempt, 318. 
 
 CO-OPERATIVE ORGANIZATIONS OF LOCAL CHARACTER, 
 exemption of, 331. 
 
 COPYRIGHTS, 
 
 may be included in invested capital, 1049. 
 proof of value of, 433. 
 royalties from, 503. 
 
 CORPORATE BONDS, 
 
 See Bonds. 
 
 CORPORATE ENTITY, 
 doctrine of, 219. 
 generally respected, 224. 
 ' when disregarded, 222. 
 
 CORPORATION EXCISE TAX ACT, 
 imposed by 1909 Law, 4. 
 
1422 INDEX 
 
 [References are to pages.] 
 
 CORPORATIONS, 
 
 See Affiliated Corporations; Bonds; Consolidated Returns; Excess- 
 Profits Tax; Exempt Organizations; Foreign Corporations; 
 Personal Service Corporations; Transportation Systems. 
 amended returns where capital charges made to income, 251. 
 appreciations in value may not be included in invested capital, 1086. 
 cannot enter into partnership, 172. 
 
 certain domestic corporations taxed as foreign, 225," 308. 
 changes made by present law, 209. 
 
 claims for credit or refund of affiliated corporations, 260. 
 collecting foreign items, 269. 
 collection of tax from assets, 266. 
 consolidated returns, 251. 
 contributions by stockholders, 229. 
 
 corporations engaged partly in personal service business, 1024. 
 credit for taxes, 789. 
 
 where domestic corporation owns stock of foreign corpora- 
 tion, 789. 
 credits allowed, 240. 
 
 against tax, 242. 
 
 interest upon United States obligations, 241. 
 
 specific exemption, 241. 
 
 war-profits and excess-profits taxes, 241. 
 deductions allowed, 231. 
 
 additional taxes, 236. 
 
 dividends, 236. 
 
 interest, 234. 
 
 losses, 236. 
 
 ordinary and necessary expenses, 231. 
 
 taxes, 235. 
 deductions not allowed, contributions to charities, 237. 
 
 expenses of retiring capital stock, 233. 
 
 expenses of selling stock, 231. 
 
 interest paid under tax-free covenant bonds, 235. 
 
 losses in ultra vires transactions, 236. 
 
 organization expenses, 231. 
 de facto corporation taxed as, 217. 
 defined, 210. 
 
 depreciation allowed to, 678. 
 
 deriving income from government contracts, 1027. 
 distribution in liquidation under 1921 Law, 517. 
 distributions which are not dividends, 507. 
 dividends of, 504. 
 doctrine of corporate entity, 219. 
 domestic corporation defined, 224. 
 
 evasion of tax by conveyance of assets to trustees, 455. 
 examination of books of, 269, 947. 
 exemption of cemetery companies, 322. 
 
 exemption of religious, charitable, scientific, literary and educa- 
 tional corporations, 322. 
 exempt organizations, 312. 
 
INDEX 1423 
 
 [References are to pages.] 
 
 CORPORATIONS— Continued. 
 
 extent to which dividends are taxable, 509. 
 
 fiscal year, 245. 
 
 fiscal year of, credit for taxes, 794. 
 
 formed during year, returns by, 248. 
 
 formed to evade surtaxes, 207. 
 
 forming partnership, 174. 
 
 gross income of, 226. 
 
 holding company financing subsidiary, 233. 
 
 hovf taxed, 209. 
 
 include joint stock companies and associations, 210. 
 
 income of, from sinking fund, 228. 
 
 interest on Liberty bonds, 230. 
 
 leased property, 228. 
 
 proceeds of insurance, 230. 
 
 sale of assets in view of liquidation, 228. 
 
 sale of capital assets, 228. 
 
 sale of capital stock, 227. 
 income subject to tax, 16. 
 income taxable in hands of assignee, 244. 
 income taxable in hands of trustee in bankruptcy, 244. 
 income tax on, 16. 
 "in control," defined, 634. 
 
 incorporation of business, election as to being taxed as corpora- 
 tion, 218. 
 information at source, 264. 
 in hands of alien property custodian, 250. 
 inspection of corporation returns, 842. 
 liability for tax after dissolution, 265. 
 
 Liberty bond exemption in case of affiliated corporations, 260. 
 liquidating during year, 249. 
 limited partnerships as, 1142. 
 
 losses in case of amounts paid to make up profits, 642. 
 loss in connection with reorganization, 634. 
 Massachusetts trusts not taxable as, 213. 
 mining partnerships taxed as, 212. 
 notice of lien, 267. 
 
 owned by exempt corporations, exemption of, 336. 
 partial liquidation of, 516. 
 payment by stockholders of loss of, 646. 
 payment of tax, 264. 
 
 payments not to be reported at source, 953. 
 penalties against officers or employees of, 901. 
 penalties to which liable, 270. 
 pooling of stock, 212. 
 
 presumption as to source of distributions of, 517. 
 procedure in issuing tax-free covenant bonds, 1000. 
 profit in case of reorganization, merger and consolidation, 436. 
 rate of capital stock tax on domestic corporations, 1143. 
 receivers for, duties of, 242. 
 recovery of tax from stockholders, 267. 
 reorganization of, entitling to revaluation, 1084. 
 
1424 INDEX 
 
 [References are to pages^ 
 
 CORPORATIONS— Continued. 
 
 reorganization prior to attachment of lien, 267. 
 residence of, 224, 298. 
 retirement of capital stock, 515. 
 returns by, 245. 
 
 by whom filed, 247. 
 
 extension of time, 246. 
 
 for fraction of year, 251. 
 
 how executed, 247. 
 
 liquidating during year, 249. 
 
 when claiming exemption, 314. 
 
 when filed, 246. 
 
 when required, 245. 
 
 where filed, 247. 
 returns in case of change of name or domicile, 249. 
 returns of information as to dividends, 962. 
 sale and retirement of corporate bonds, 238. 
 special returns by, 263. 
 
 report of dividend payments, 263. 
 
 report of income payments, 264. 
 
 reports of brokers, 264. 
 specific credit of, 776. 
 
 statement of distribution of earnings required, 251. 
 subject to capital stock tax, 1140. 
 subject to excess-profits tax, 1026. 
 surtax on undistributed profits, 29. 
 syndicates not taxed as, 213. 
 
 taxation of telephone companies taken over by government, 272. 
 taxation of transportation systems, 270. 
 taxes paid for stockholders, deduction of, 617. 
 
 transfer of property to, loss not recognized when control re- 
 tained, 634. 
 when copies of returns will be furnished, 847. 
 when corporate entity disregarded, 222. 
 when lien attaches, 266. 
 when taxable, 210. 
 when trusts taxed as, 215. 
 withholding against, 979. 
 
 withholding at source in case of bonds containing tax-free cove- 
 nant, 974. 
 withholding tax at source, 269. 
 with more than a nominal capital, 1022. 
 
 with no invested capital, not subject to 1917 excess-profits 
 tax, 1021. 
 COST, 
 
 buildings erected by tenant, 586. 
 
 cost of reproduction as proof of market value, 430. 
 
 of lease, 418. 
 
 of manufacturing products, what constitutes, 583. 
 
 of materials, 584. 
 
 of mineral deposits, 718. 
 
INDEX 1425 
 
 [References are to pages.'] 
 
 COST— Continued. 
 
 of oil and gas deposits, 744. 
 
 of oil and gas wells, 741. 
 
 shares of stock bought at different prices, 432. 
 
 stock received as bonus, 418. 
 
 what constitutes, 417. 
 
 which may be amortized, 708. 
 
 COSTS, 
 
 in suits for taxes, 941. 
 
 COTTON EXCHANGE, 
 exemption of, 329. 
 
 COTTON MERCHANTS, 
 
 use of inventories, 392. 
 
 COUPON SYSTEM, 
 
 manufacturers selling on, 387. 
 
 COVENANTS TO PAY TAXES, 
 
 See Tax-Free Covenant Bonds. 
 
 CREDIT, 
 
 See Abatement, Credit and Refund. 
 
 CREDIT FOR DEPENDENTS, 
 nonresident aliens, 83. 
 
 CREDITS, 
 
 against income in case of corporations, 240. 
 
 against normal tax, 356, 774. 
 
 allowance of, to nonresident aliens under 1918 Law, 784. 
 
 allowed against tax by corporations, 242. 
 
 allowed foreign corporations, 305. 
 
 allowed stockholders of personal service corporations, 206. 
 
 allowed to estates and trusts, 131. 
 
 countries satisfying similar credit requirement, 782. 
 
 date determining exemption, 780. 
 
 dividends under 1918 Law, 774. 
 
 dividends under 1921 Law, 775. 
 
 effect of, 12. 
 
 excess-profits credit, 1111. 
 
 for dependents, 779. 
 
 for taxes, 786. 
 
 allowed citizens, 787. 
 
 allowed citizens of possessions, residing in United States, 
 788. 
 
 allowed corporations, 789. 
 
 allowed members of partnerships, 791. 
 
 allowed nonresident aliens, 788. 
 
 allowed resident aliens, 787. 
 
 conditions of allowance, 792. 
 
 countries satisfying similar credit requirement, 788. 
 
1426 INDEX 
 
 [References are to pages.} 
 
 CREDITS— Continued. 
 
 domestic corporations owning' stock of foreign corpora- 
 tions, 789. 
 
 fiscal year in case of individuals, 789. 
 
 fiscal year of corporations, 794. 
 
 redetermination of tax when credit proves incorrect, 794. 
 
 to beneficiaries of estates and trusts, 791. 
 
 under 1918 Law, 790. 
 interest on United States obligations allowed as credit to corpora- 
 tions, 241. 
 of interest, 776. 
 personal exemption, 13. 
 specific credit to corporations, 777. 
 to nonresident aliens under 1918 Law, 781. 
 to nonresident individuals under 1921 Law, 781. 
 war-profits credit, 1108. 
 war-profits and excess-profits tax, 241. 
 
 CREDIT UNIONS, 
 
 exempt from tax, 321. 
 
 CUSTOM HOUSE, 
 
 entry or withdrawal of goods, stamp tax on, 1198. 
 
 D 
 DAMAGES, 
 
 exemption of, 37. 
 
 for injuries, exempt, 354. 
 
 in personal actions, 544. 
 
 in what year deductible, 809. 
 
 received on account of personal injuries, 37. 
 
 when railroad companies may deduct amounts paid as, 812. 
 
 DEALERS IN SECURITIES, 
 inventories by, 401. 
 
 DEBENTURES, 
 
 stamp tax on, 1166, 1198. 
 
 DEBTS, 
 
 See Worthless Debts. 
 
 DECEASED PERSONS, 
 returns for, 53. 
 
 DEDUCTIONS, 
 
 See Estates and Trusts; Farmers; Foreign Corporations; Insurance 
 Companies; Net Loss,- Nonresident Aliens; Partnerships. 
 accrued charges, 797. 
 
 additional compensation paid in stock, 597. 
 advertising expenses, 582. 
 
 allocated to income with which connected, 807. 
 allocation of, to more than one year, 814. 
 amortization, amortization period, 710. 
 
INDEX 1427 
 
 [References are to pages.'] 
 
 DEDUCTIONS— Continued. 
 
 claims must be differentiated in return, 706. 
 
 cost which may be amortized, 708. 
 
 depreciation of amortized property, 707. 
 
 effect upon invested capital, 706. 
 
 information to be furnished by taxpayer, 712. 
 
 property the cost of which may be amortized, 707. 
 
 redetermination of allowance, 711. 
 
 sale of amortized property, 711. 
 
 scope of provision for, 706. 
 
 under 1918 Law, 705. 
 amount to secure cancellation of lease, 582. 
 automobile license fees, 612. 
 buildings used for rental purposes, 587. 
 business expenses, 576. 
 
 business expenses of leasehold property, 581. 
 capital stock tax, 610. 
 commissions paid, 589. 
 
 compensation paid in weekly installments, 814. 
 compensation to employees during absence at school, 595. 
 contributions in equivalent of cash, 562. 
 contributions to charities, 561. 
 cost of buildings erected by tenant, 586. 
 cost of manufacturing products, 583. 
 cost of materials, 584. 
 definition of depletion, 713. 
 depletion, accounts on books, 724. 
 
 accounts on books in case of timber, 772. 
 
 accumulated depletion, 739. 
 
 adjustment of accounts based on bonus or advanced royalty, 
 723. 
 
 allowable capital additions in case of mines, 739. 
 
 bonuses paid for leases, 717. 
 
 capital recoverable by lessee, 716, 742. 
 
 capital recoverable by lessor, 717, 743. 
 
 capital recoverable by operating owner, 742. 
 
 capital recoverable in case of operating owner, 715. 
 
 capital sum, 740, 741. 
 
 charges to capital and expense in case of oil and gas wells, 
 763. 
 
 computation of allowance in case of gas wells, 747. 
 
 computation of allowance in case of mines, 735. 
 
 computation of allowance in case of oil wells, 745. 
 
 computation of allowance in case of timber for given year, 
 769. 
 
 computation of allowance where quantity of oil or gas un- 
 certain, 756. 
 
 computation of deduction, 722. 
 
 cost of development of oil and gas wells, 741. 
 
 cost of oil and gas deposits, 744. 
 
 cost of oil and gas wells, 741. 
 
1428 INDEX 
 
 {References are to pages.'] 
 
 DEDUCTIONS— Continued. 
 
 deduction of allowance for combined holdings of oil and gas 
 properties, 756. 
 
 determination of cost of deposits, 718. 
 
 determination of fair market value of timber, 768. 
 
 determination of mineral contents of mine, 735. 
 
 determination of oil in ground, 744. 
 
 determination of quantity of timber, 769. 
 
 discovery of mines, 737. 
 
 discovery of oil and gas wells, 758, 760. 
 
 fair market value of mineral property, 719. 
 
 fair market value of oil or gas properties, 744. 
 
 in case of mines, 735. 
 
 improvements in case of mines, oil and gas wells, 714. 
 
 in case of timber, 767. 
 
 information to be furnished in case of timber, 773. 
 
 in general, 713. 
 
 limitation on, based on discovery value, 722. 
 
 maps of oil and gas properties, 758. 
 
 method of estimating recoverable reserves, 744. 
 
 mines, oil and gas wells, 714. 
 
 not allowed for past years under present law, 734. 
 
 of oil and gas wells in years before 1916, 765. 
 
 oil and gas wells, 740. 
 
 present value method, 720. 
 
 revaluation of timber not allowed, 770. 
 
 revaluations not allowed, 722. 
 
 revised estimate of reserves of oil and gas, 747. 
 
 rule as to lessees under prior laws, 728. 
 
 rule as to mine under 1916 Law, 726. 
 
 rule under 1909 Law, 725. 
 
 rule under 1913 Law, 725. 
 
 statement required where claimed for mineral property, 736. 
 
 statement required where depletion of oil and gas claimed, 756. 
 depositors' guaranty fund, 612. 
 depreciation, 678. 
 
 accounts on books, 724. 
 
 accounts on books in case of timber, 772. 
 
 additions and betterments, 690. 
 
 allowance for patent or copyright, 683. 
 
 amortized property, 707. 
 
 annual allowances measured by life of property, 688. 
 
 annual allowance must be charged off on books, 692. 
 
 automobile used in business, 680. 
 
 capital sum returnable through allowances, 685. 
 
 closing account .as to any items, 694. 
 
 depreciable property, 679. 
 
 drawings and models, 685. 
 
 estimates of, in case of oil and gas properties, 765. 
 
 extraordinary depreciation, 692. 
 
 factories running night shifts, 692. 
 
INDEX 1429 
 
 [References are to pages."] 
 
 DEDUCTIONS— Continued. 
 
 improvements in case of mines, oil and gas wells, 714. 
 
 improvements in case of oil and gas wells, 764. 
 
 incidental repairs to property, 689. 
 
 intangible property, 682. 
 
 leases, 681. 
 
 loss in rental value of buildings, 681. 
 
 method of computing allowance, 687. 
 
 modification of method of computing allowance, 687. 
 
 not allowed on inventories or stock in trade, 682. 
 
 of oil and gas wells in years before 1916, 765. 
 
 physical property in case of oil and gas wells, 764. 
 
 property acquired prior to March 1, 1913, 685. 
 
 real estate, 681. 
 
 rate on apartment houses, 691. 
 
 rate on steamers, 691. 
 
 rates of, 690. 
 
 renewals to property, 689. 
 
 reserves for, 694. 
 
 terms of patents and trade-marks in various countries, 684. 
 
 under prior laws, 679. 
 
 wearing apparel, 682. 
 depreciation, obsolescence and amortization, in general, 678. 
 donations to Red Cross, not deductible, 600. 
 effect of, 12. 
 
 entertainment money, 590. 
 examples of business expenses, 580. 
 examples of deductible contributions, 563. 
 examples of items not deductible as expenses, 581. 
 examples of nondeductible contributions, 564. 
 excessive payments by individuals or partnerships, 594. 
 excise taxes paid to Cuban government, 611. 
 expenditures for alterations, 585. 
 expenses relating to patents, 583. 
 federal duties and excise taxes, 610. 
 federal estate taxes, 610. 
 fidelity insurance, 588. 
 
 gifts, gratuities or donations to employees, 598. 
 in case of public utilities, 572. 
 incurred or continued to purchase or carry tax exempt securities, 
 
 603. 
 information to be submitted regarding charitable contributions, 562. 
 in general, 558. 
 insurance on property, 587. 
 
 insurance policy on life of debtor for security, 574. 
 insurance reserves may not be deducted, 588. 
 insurance under workmen's compensation law, 588. 
 interest, in general, 602. 
 interest on real estate mortgage, 606. 
 interest on taxes, 606. 
 interest paid or accrued within the year, 604. 
 
1430 index: 
 
 \_References are to pages.} 
 
 DEDUCTIONS— Continued. 
 
 in the equivalent of cash, 560. 
 items not deductible, 565. 
 
 allowances to minor children, 595. 
 
 assessments against local benefits, 575, 616. 
 
 expense of restoring property, 572. 
 
 ground rent, 606. 
 
 improvements and betterments, 570. 
 
 insurance on employees, 572. 
 
 interest on capital, 603. 
 
 personal, living or family expenses, 565. 
 
 propaganda expenses, 589. 
 
 rent for residential property, 583. 
 
 reserves, 587. 
 
 state inheritance taxes, 616. 
 
 taxes paid under tax-free covenants, 616. 
 judgments against taxpayer, 809. 
 limitation on contributions to charities, 562. 
 losses, amounts paid to make up profits of another corporation, 642. 
 
 arising from theft, 638. 
 
 bonds purchased above par, 636. 
 
 connected with automobiles, 622. 
 
 connected with residential property, 624. 
 
 cost of drawings, models and patterns, 642. 
 
 district irrigation bonds, 646. 
 
 dividends paid in property, 636. 
 
 due to adverse judgment, 657. 
 
 embezzlements recovered, 659. 
 
 exchange of stock under 1918 Law, 634. 
 
 exchanges of property, 634. 
 
 from fires, storm, shipwreck and other casualty, 636. 
 
 from sale of property acquired by gift, bequest, devises or 
 descent, 625. 
 
 in connection with reorganizations, 634. 
 
 in general, 621. 
 
 insurance received in subsequent year, 659. 
 
 in what year deductible, 812. 
 
 measure of, 630. 
 
 must be sustained during year, 627. 
 
 not sustained in trade, 623. 
 
 of capital, 629. 
 
 of corporation paid by stockholders, 646. 
 
 of income, 630. 
 
 of oil and gas, 646. 
 
 of railroad companies, 812. 
 
 "other casualty," 637. 
 
 property acquired by gift, 632. 
 
 recoveries on, 658. 
 
 rental value of buildings, 681. 
 
 reserves for, 647. 
 
 reserves for cash discounts, 647. 
 
INDEX 1431 
 
 [References are to pages.} 
 
 DEDUCTIONS— Continued. 
 
 sale of capital stock, 645. 
 
 sale of stock or securities, 633. 
 
 sales of property, 632. 
 
 securities transferred to corporation formed for the purpose, 
 644. 
 
 shrinkage in securities in stocks, 643. 
 
 shrinkage or deterioration in storage, 646. 
 
 sustained in trade, 622. 
 
 voluntary destruction of property, 639. 
 
 when embezzlements deductible, 628. 
 
 worthless stock, 645. 
 losses of useful value, 640. 
 may not be duplicated, 559. 
 membership fees and dues, 601. 
 money paid under mistake of fact, 813. 
 munitions taxes, 609. 
 must be actual, 559. 
 
 must be reported on same basis as income, 560. 
 New York State franchise tax, 609. 
 obsolescence, defined, 695. 
 
 distillers and dealers in liquor, 699. 
 
 intangible property, 698. 
 
 no allowance unless obsolescence certain, 696. 
 
 of vineyards, 703. 
 
 under 1916 Law, 697. 
 office furniture and equipment, 585. 
 only those specified in statute are allowed, 559. 
 ordinary and necessary expenses, 577. 
 
 payments from earnings of public utility paid to state, 601. 
 procedure of banks improperly taking deduction for taxes paid for 
 
 shareholders in 1919, 620. 
 professional expenses, 583. 
 rent, 581". 
 
 repairs made by tenant, 586. 
 repairs to property, 584. 
 reported in year accrued, 799. 
 reported in year paid, 799. 
 reporting upon accrual basis, 796. 
 salaries and compensation for personal services, 590. 
 salaries as distribution of dividends, 593. 
 salaries constituting part payment for property, 594. 
 salaries constituting waste of assets, 594. 
 salaries paid to enlisted men, 595. 
 securities taxes deductible, 612. 
 state tax on Massachusetts trust companies, 612. 
 subtraction for redemption of trading stamps, 588. 
 taxes, deductible by nonresident aliens and foreign corporations, 607. 
 imposed by authority of any foreign country, 611. 
 in general, 607. 
 not deductible, 613. 
 
1432 INDEX 
 
 [References are to pages.'] 
 
 DEDUCTIONS— Continued. 
 
 paid by corporation for stockholders, 617. 
 
 paid by tenant, 613. 
 
 paid by vendee for vendor, 613. 
 
 paid for fiscal year, 609. 
 
 paid or accrued within the year, 608. 
 
 paid to taxing subdivisions of territories, 612. 
 traveling expenses under 1921 Law, 567. 
 traveling expenses under previous laws, 567. 
 what constitute business expenses, 578. 
 what included in deduction for loss, 627. 
 when charges deductible, 560. 
 when deductions should be reported, 798. 
 when donations deductible, 599. 
 when items deductible, additional compensation, 808. 
 
 amounts paid as damages, 809. 
 
 judgments, 809. 
 
 losses from goods returned, 808. 
 
 reserves to meet liabilities, 810. 
 
 subsequently discovered charges, 813. 
 when pensions deductible, 598. 
 worthless debts, charging off in part under 1921 Law, 655. 
 
 classification of, 648. 
 
 defective war conditions, 652. 
 
 endorsement of notes, 649. 
 
 existing prior to March 1, 1913, 648. 
 
 foreclosure of mortgages, 653. 
 
 must be charged off on books, 650. 
 
 reserves for under 1921 Law, 655. 
 
 Russian bank deposits, 653. 
 
 voluntary forgiveness of debt, 651. 
 
 when considered worthless, 650. 
 
 when deductible under 1921 Law, 655. 
 
 worthless securities, 654. 
 
 DEEDS, 
 
 See Conveyances. 
 
 DEEDS OF TRUST, 
 
 irrevocable trusts, 106. 
 
 when fiduciary relationship created by, 106. 
 
 DE FACTO CORPORATIONS, 
 taxed as corporation, 217. 
 
 DEFERRED PAYMENTS, 
 
 sales of real estate involving, 474. 
 
 sales of real estate not on installment plan, 475. 
 
 DEFINITIONS, 
 
 admissible assets, 1073. 
 
 amount of taxes paid during taxable year, 786. 
 
 bond interest. 966. 
 
INDEX 1433 
 
 [References are to pages.] 
 
 DEFINITIONS— Continued, 
 capital assets, 410. 
 capital gains, 410. 
 capital loss, 410. 
 corporations, 210. 
 depletion, 713. 
 dividends, 504. 
 
 domestic and foreign partnerships, 166. 
 domestic corporation, 224. 
 exchange, 1225. 
 
 fair market value, if any, 421. • 
 farmers, 152. 
 fiduciaries, 103. 
 fiscal year, 815, 1032. 
 foreign corporations, 297. 
 foreign country, 611, 781, 786. 
 foreign fiduciary, 149. 
 foreign items, 956. 
 gifts, 459. 
 
 government contracts, 1028. 
 inadmissible assets, 1074. 
 income, 340. 
 
 "in control" of a corporation, 634. 
 insurance companies, 282. 
 intangible property, 1049. 
 invested capital, 1041. 
 manufacturing establishments, 1251. 
 net income, 356. 
 net loss, under 1918 Law, 660. 
 
 under 1921 Law, 662. 
 nonresident foreign corporation, 965, 998. 
 obsolescence, 695. 
 "other casualty," 637. 
 personal service corporations, 195. 
 prewar period, 1032. 
 promissory notes, 1215. 
 relating to stamp tax, 1166. 
 reorganization, 441. 
 stock dividend, 532. 
 tangible property, 1048. 
 taxable year, 1032. 
 
 terms applying to insurance companies, 279. 
 terms in connection with depletion, 714. 
 trade or business, 625, 1018. 
 United States, 10. 
 withholding agent, 965. 
 
 DEPENDENTS, 
 
 credit for, 779. 
 
 date determining, 780. 
 
1434 INDEX 
 
 [References are to pages.] 
 
 DEPLETION, 
 
 See Gas Wells. 
 accounts on books, 724. 
 accumulated depletion, 739. 
 
 adjustment of accounts based on bonus or advanced royalty, 722. 
 aggregating timber and land for purpose of valuation and account- 
 ing, 771. 
 allowable capital additions in case of mines, 739. 
 bonuses paid for leases, 717. 
 capital recoverable by lessor, 717, 743. 
 
 by operating owner, 742. 
 
 in case of lessee, 716. 
 
 in case of operating owner, 715. 
 capital sum, 741. 
 
 charges to capital and expense in case of oil and gas wells, 763. 
 charges to capital and to expense in case of timber, 770. 
 computation of, 722. 
 
 for combined holdings of oil and gas properties, 756. 
 
 where quantity of oil or gas uncertain, 756. 
 computation of allowance for, in case of gas wells, 747. 
 
 in case of oil wells, 745. 
 
 in case of timber for given year, 769. 
 cost of development of oil and gas wells, 741. 
 cost of oil and gas wells, 741. 
 defined, 713. 
 
 definitions of terms, 714. 
 determination of cost of deposits, 718. 
 determination of cost of oil and gas deposits, 744. 
 determination of fair market value of mineral property, 719. 
 determination of fair market value of timber, 768. 
 determination of quantity of oil in ground, 744. 
 discovery of mines, 737. 
 discovery of oil and gas wells, 758, 760. 
 distributions from reserves for, 525. 
 fair market value of oil or gas properties, 744. 
 for past years, not allowed under present law, 734. 
 inadequate allowance for, effect on invested capital, 1089. 
 in case of mines, 735. 
 
 information by taxpayers claiming, in case of timber, 773. 
 in general, 713. 
 
 limitation on, based on discovery value, 722. 
 maps to be filed, 758. 
 
 method of estimating recoverable reserves, 744. 
 mines, oil and gas wells, 714. 
 of oil and gas wells, 740. 
 of oil and gas wells before 1916, 765. 
 present value method, 720. 
 proven tract or lease, 760. 
 
 in case of mines, 738. 
 reserves for, inclusion in invested capital, 1060. 
 revaluations of mineral property not allowed, 722. 
 
INDEX 143,5 
 
 [References are to pages."] 
 
 DEPLETION— Continued. 
 
 revised estimate of reserves of oil and gas, 747. 
 
 rule as to mine under 1916 Law, 726. 
 
 rules to lessees under prior laws, 728. 
 
 rule under 1909 Law, 725. 
 
 rule under 1913 Law, 725. 
 
 statement required where claimed for mineral property, 736. 
 
 statement required where depletion of oil or gas is claimed, 756. 
 
 timber, 767. 
 
 accounts on books, 772. 
 
 determination of quantity of timber, 769. 
 
 revaluation not allowed, 770. 
 when fair market value of mineral property required, 719. 
 
 DEPOSITORS' GUARANTY FUND, 
 
 'deduction of amount set apart for, 612. 
 
 DEPRECIATION, 
 
 accounts on books, 724. 
 
 in case of timber, 772. 
 additions and betterments not deductible as, 690. 
 allowed on intangible property, 682. 
 allowed to corporations, 678. 
 allowed to individuals, 678. 
 
 annual allowances measured by life of property, 688. 
 annual allowance must be charged off on books, 692. 
 automobile used in business, 680. 
 capital sum returnable through, 685. 
 closing account as to any item, 694. 
 deduction for, in general, 678. 
 deduction of by estates and trusts, 127. 
 ' by farmers, 165. 
 
 by life insurance companies, 277. 
 depreciable property, 679. 
 distributions from reserves for, 525. 
 drawings and models, 685. 
 
 estimates of, in case of oil and gas properties, 765. 
 extraordinary depreciation, 692. 
 factories running night shifts, 692. 
 in case of leases, 681. 
 
 improvements in case of mines, oil and gas wells, 714. 
 improvements in case of oil and gas wells, 764. 
 improvements on real estate, 681. 
 
 in case of property acquired prior to March 1, 1913, 685. 
 inadequate allowance for, effect on invested capital, 1089. 
 incidental repairs to property, 689. 
 inventories or stock in trade, 682. 
 loss in rental value of buildings, 681. 
 method of computing allowance, 687. 
 modification of method of computing allowance, 687. 
 of oil and gas wells before 1916, 765. 
 patents and copyrights, 683. 
 
1436 INDEX 
 
 [References are to pages.'] 
 DEPRECIATION— Continued. 
 
 physical property in case of oil and gas wells, 764. 
 rate of, 690. 
 
 apartment houses, 691. 
 
 steamers, 691. 
 renewals to property, 689. 
 reserves for, 694. 
 
 inclusion in invested capital, 1060. 
 under prior laws, 679. 
 
 statement required where claimed for mineral property, 736. 
 terms of patents in various countries, 684. 
 wearing apparel, 682. 
 
 DESTRUCTION OF PROPERTY, 
 
 loss in case of voluntary destruction, 639. 
 
 DEVISE, 
 
 See Bequest, Devise or Inheritance. 
 
 DISCOUNT, 
 
 income from, 496. 
 
 municipal bonds purchased at, 462. 
 
 not to be reported as income, 386. 
 
 on sale of bonds, effect on invested capital, 1062. 
 
 treatment of bonds issued at, 238. 
 
 treatment of, by banks, 387. 
 
 DISCOVERY VALUE, 
 
 See Depletion. 
 discovery of oil and gas wells, 758. 
 in case of mines, 737. 
 private bounding lines, 761. 
 proof of discovery of oil and gas wells, 762. 
 proven tract or lease, 760. 
 
 DISSOLUTION OF CORPORATIONS, 
 liability of tax after, 265. 
 recovery of tax from stockholders, 267. 
 
 DISTILLERS AND DEALERS IN LIQUOR, 
 obsolescence in the case of, 699. 
 
 DISTRAINT, 
 
 addition of $5 as part of tax, 874. 
 collection of taxes by, 873. 
 
 DISTRIBUTIONS, 
 
 See Dividends. 
 
 DISTRICT OP COLUMBIA, 
 
 interest on obligations of, 489. 
 
 DIVIDENDS, 
 
 allowed as credit to partners, 181. 
 
 changes in taxation of, made by 1921 Law, 504. 
 
INDEX 1437 
 
 [References are to pages.] 
 
 DIVIDENDS— Continued. 
 
 compromise of preferred dividends, 506. 
 
 constructively received, 347. 
 
 credited to stoclcholders, effect on invested capital, 1071. 
 
 credit of, by nonresident aliens, 66. 
 
 to nonresident aliens, 83. 
 
 under 1918 Law, 774. 
 
 under 1921 Lslw, 775. 
 deductible loss when paid in property, 636. 
 deduction of, by corporations, 236. 
 defined, 504. 
 
 definition of stock dividend, 532. 
 
 distribution from depletion or depreciation reserve, 525. 
 distribution in liquidation under 1921 Law, 517. 
 distributions from capital, 526. 
 distributions in liquidation under 1918 Law, 511. 
 distributions which are not, 507. 
 effect of stock dividend on invested capital, 1099. 
 excessive compensation, 506. 
 
 exemption of, from domestic building and loan associations, 355. 
 exemption of when received from domestic building and loan associa- 
 tions, 37. 
 extent to which taxable, 509. 
 
 paid by domestic corporations, 509. 
 
 paid by foreign corporations, 510. 
 
 paid by personal service corporations, 510. 
 formerly taxed at rates of previous years, 537. 
 from associations, 505. 
 from co-operative associations, 508. 
 from corporations with income from possessions, 225. 
 from earnings or profits accumulated prior to March 1, 1913, 518. 
 
 effect of book entries, 523. 
 
 exempt only to stockholders of first corporation, 524. 
 
 received by an estate, 524. 
 
 rulings under 1916 Law, 522. 
 
 rulings under 1917 and 1918 Laws, 520. 
 from exempt income, 524. 
 
 from federal land bank and national farm loan association, 508. 
 from federal reserve bank, 508. 
 from limited partnerships, 170. 
 from stock held by employees, 366. 
 income from, 504. 
 
 taxed to nonresident aliens, 64. 
 informal dividends, effect on invested capital, 1071. 
 information at source by corporations paying, 955. 
 in form of royalties, 506. 
 legal and beneficial owners of stock, 511. 
 method of determining available net income, 1098. 
 of federal reserve banks, exempt, 356. 
 of personal service corporations, 204. 
 on life insurance policies, 508, 555. 
 
1438 INDEX 
 
 {References are to pa^es.'] 
 DIVIDENDS— Continued. 
 
 on stock of employees, 507. 
 paid by life insurance company, 276. 
 
 paid from appreciation of assets prior to March 1, 1913, 525. 
 paid from surplus, effect ,on invested capital, 1097. 
 paid in equivalent of cash, 527. 
 paid in Liberty bonds, 529. 
 paid in property, 527. 
 ' paid in scrip, 530. 
 partial liquidation of corporations, 516. 
 presumption as to source of distribution, 517. 
 proceeds of liquidation received in installments, 515. 
 property dividend upon reorganization, 529. 
 report of payments of, by corporations, 263. 
 representing accretions in value of property acquired before March 
 
 1, 1913, 604. 
 reserved for, by life insurance companies, 276. 
 retirement of capital stock, 515. 
 returns of information at source respecting, 962. 
 salaries constituting a distribution of, 593. 
 sale of stock dividend, 534. 
 
 sale of stock dividend resulting from revaluation of assets, 536. 
 stamp tax on rights to receive stock dividends, 1224. 
 stock dividends not taxable, 531. 
 taxable in year received, 526. 
 taxable to farmers, 160. 
 
 taxes paid for shareholders treated as, 506. 
 when not reported at the source, 953. 
 withholding at source in case of, 968. 
 
 DOMESTIC CORPORATIONS, 
 
 See Corporations. 
 
 DOMESTIC LIFE INSURANCE COMPANIES, 
 See Insurance Companies. 
 
 DONATIONS, 
 
 not deductible, 598. 
 
 to Red Cross, not deductible, 600. 
 
 when deductible as expense, 599. 
 
 DRAFTS, 
 
 See Stamp Tax. 
 
 DRAWINGS AND MODELS, 
 depreciation of, 685. 
 losses connected with, 642. 
 
 DRUG STORES, 
 
 not subject to child labor tax, 1251. 
 
 DUE PROCESS OF LAW, 
 
 discussed in relation to the income tax, 1009. 
 
INDEX 1439 
 
 [References are to pages.} 
 
 DURESS, 
 
 a prerequisite for recovery of taxes, 88. 
 
 implied duress, 890. 
 
 necessary to maintain a suit, 936. 
 
 necessity for, 890. 
 
 payment after receipt of first notice and demand, 892. 
 
 payment after receipt of Form 1123, 892. 
 
 payment after receipt of second notice and demand, 893. 
 
 payment of stamp taxes under, 1247. 
 
 what constitutes, 888. 
 
 DUTCH ADMINISTRATION OFFICES, 
 
 procedure in collecting income from, 100. 
 
 E 
 EARNED SURPLUS, 
 
 See Surplus and Undivided Profits. 
 
 EDUCATIONAL CORPORATIONS, 
 exempt from tax, 322. 
 
 EMBEZZLED MONEYS, 
 
 held not to be income, 545. 
 losses from, 638. 
 recovery of, 659. 
 when deductible, 628. 
 
 EMPLOYEES, 
 
 change of status of during year, 982. 
 income of from premiums paid by employer, 367. 
 of mining contractors, withholding against, 982. 
 residence of alien employees, 981. 
 
 EMPLOYERS, 
 
 duty of, to determine status of alien employees, 981. 
 trusts created by, 102. 
 
 ENTERTAINMENT MONEY, 
 deduction of, 590. 
 
 EQUIPMENT TRUST CERTIFICATES, 
 
 withholding at source in case of, 971. 
 
 EQUIVALENT OF CASH, 
 contributions in, 562. 
 deductions in, 560. 
 dividends paid in, 527. 
 exchanges of property, 421. 
 income received in kind, 350. 
 what constitutes, 422. 
 
 ESCROW, 
 
 amounts placed in, when to be reported, 800. 
 
1440 INDEX 
 
 [References are to pages.] 
 ESTATES AND TRUSTS, 
 
 See Fiduciaries; Foreign Fiduciaries. 
 
 accumulations for charitable purposes, 116. 
 
 allowance of net loss to partnerships and estates and trusts, 663. 
 
 corpus of, 111. 
 
 credit for taxes to beneficiaries of, 791. 
 
 credits allowed, 131. 
 
 taxes, 132. 
 
 taxes paid at source, 132. 
 decedent's estate during administration, 129. 
 deductions allowed, 120. 
 
 amounts paid by committee, 124. 
 
 contributions to charities, 120. 
 
 depreciation, 127. 
 
 executors' commissions, 125. 
 
 expenses chargeable against corpus, 121. 
 
 expenses incident to administration, 121. 
 
 interest, 125. 
 
 losses, 126. 
 
 ordinary and necessary expenses, 121. 
 
 special assessments, 124. 
 
 statutory allowance to widow, 125. 
 
 taxes, 126. 
 
 worthless debts, 127. 
 distributable income, 133. 
 
 distribution of several years, 135. 
 
 not actually paid in year, 134. 
 
 what constitutes, 134. 
 distribution of income, 133. 
 dividends from earnings or profits accumulated prior to March 1, 
 
 1913, 524. 
 exemption of Liberty bonds, 119, 483. 
 gross income of, 112. 
 income of, 110. 
 
 bequeathed to governmental agency of state, 115. 
 
 constructively received prior to decedent's death, 114. 
 
 discretion of trustee to distribute, 136. 
 
 extraordinary dividends, 112. 
 
 installment sales of real property, 115. 
 
 investment of corpus, 112. 
 
 proceeds of life insurance policies, 114. 
 
 profit from sale of corpus, 112. 
 
 settlement of claims, 113. 
 
 to whom taxed, 110. 
 net income of, how taxed, 128. 
 net losses of, 126. 
 
 receiver in partition proceedings, 140. 
 taxation of capital gains, 410. 
 undistributed income, 133, 136. 
 
 when free from tax when distributed, 136. 
 
INDEX 1441 
 
 [References are to pages. '\ 
 ESTATES AND TRUSTS— Continued. 
 
 which cannot be treated as a unit, 137. 
 examples of, 138. 
 how taxed, 137. 
 
 EVASION OF TAX, 
 
 sale of corporate assets by conveyance to trustees, 455. 
 taxpayers leaving country, 874. 
 
 EVIDENCES OF INDEBTEDNESS, 
 are tangible property, 1048. 
 
 EXAMINATION OF BOOKS, 
 
 constitutionality of provisions for, 945. 
 
 constitutionality of, with regard to corporations, 947. 
 
 corporate records, 269. 
 
 enforcement of provisions respecting, 944. 
 
 general provisions respecting, 943. 
 
 in case of special taxes and other cases, 948. 
 
 inspection of government contracts, 948. 
 
 instructions to revenue agents, 949. 
 
 national banks, 947. 
 
 records of partnerships, 190. 
 
 requiring attendance of witnesses, 943. 
 
 requiring production of books, 944. 
 
 unnecessary examinations not permitted under present law, 943. 
 
 EXCESS PROFITS TAX, 
 
 See Government Contracts; Invested Capital; Prewar Period; Surplus 
 AND Undivided Profits, 1056. 
 additions to surplus account, 1064. 
 
 adjustments which increase book value of assets, 1080. 
 adjustments which reduce book value of assets, amortization under 
 munition manufactures tax, 1094. 
 
 as to inadequate allowance for depreciation or depletion, 1089. 
 
 as to inadmissible assets, 1095. 
 
 as to losses, 1093. 
 
 as to value of assets acquired in reorganization, 1082. 
 
 as to treasury stock, 1081. 
 
 as to values marked up on books of account, 1086. 
 
 as to value of intangible assets, 1081. 
 administrative provisions, 1138. 
 admissible assets, 1073. 
 
 defined, 1073. 
 
 insurance policies, 1074. 
 
 school district warrants, 1074. 
 aflBliated corporations, 1132. 
 
 allocation of net income to particular source, 1030. 
 amended contracts, 1029. 
 amounts paid into or left in business, 1070. 
 applies to corporations only, 1016. 
 
1442 INDEX 
 
 [References are to pages."] 
 
 EXCESS PROFITS TAX— Continued. 
 
 apportionment of invested capital in net income for partial personal 
 
 service corporations, 1025. 
 assessment by reference to representative corporations, 1116. 
 
 abnormal conditions affecting capital or income, 1119. 
 
 abnormal conditions affecting pre-war income, 1124. 
 
 abnormal profits thrown into single year, 1122. 
 
 Commissioner to keep record, 1130. 
 
 election of taxpayer, 1117. 
 
 foreign corporations, 1118. 
 
 inventions turned over without consideration, 1118. 
 
 method of assessment, 1126. 
 
 payment of inadequate salaries to officers, 1124. 
 
 statements to be filed, 1126. 
 
 what are representative corporations, 1127. 
 
 where Commissioner unable to determine invested capital, 1117. 
 
 where intangible assets of substantial value excluded from 
 invested capital, 1122. 
 
 where stock issued for mixed aggregate, 1118. 
 average net income for pre-war period, 1113. 
 balance sheets required, 1136. 
 borrowed capital, 1066. 
 certain corporations exempt, 1026. 
 changes under 1921 Law, 1015. 
 
 computation of tax on partial personal service corporation, 1025. 
 contracts under Naval Appropriation Acts, 1029. 
 corporations deriving income from government contracts, 1027. 
 corporations engaged partly in personal service business, 1024. 
 corporations subject to, 1026. 
 
 corporations with no invested capital not subject to 1917 Law, 1021. 
 corporations with nominal capital not subject to 1917 Law, 1021. 
 credit balances to stockholders accounts, 1071. 
 determination of first installment for 1919 in special cases, 1129. 
 determination of installments in case of foreign corporation, 1129. 
 dividends credited to stockholders, 1071. 
 does not apply to personal service corporations, 1017. 
 enactment of 1918 Law, 1016. 
 
 evidences of indebtedness are tangible property, 1048. 
 examples of corporations with more than a nominal capital, 1022. 
 examples of trade or business under 1917 Law, 1019. 
 excess-profits credit, 1111. 
 
 exemptions granted by Merchant Marine Act, 1115. 
 fiscal year, defined, 1082. 
 
 ending in 1919, 1035. 
 
 ending in 1921, 1035. 
 
 ending in 1922, 1036. 
 gold mining corporations exempt, 1030. 
 government contracts defined, 1028. 
 inadmissible assets, 1074. 
 
 bonds or other obligations, 1076. 
 
 defined, 1074. 
 
INDEX 1443 
 
 [References are to pages.'] 
 
 EXCESS PROFITS TAX— Continued. 
 
 may become admissible, 1078. 
 
 reduction of invested capital by, 1079. 
 
 stock in Federal Reserve Bank, 1075. 
 
 stock of domestic corporations, 1075. 
 
 stock of domestic corporations with income from possessions, 
 1075. 
 
 stock of foreign corporations, 1076. 
 incorporation of business of partnership or individual, 1131. 
 individuals not subject to, 1018. 
 individuals under 1917 Law, 1018. 
 informal dividends, 1071. 
 invested capital, adjustments due to changes in taxable year, 1096. 
 
 aflBliated corporations, 1132. 
 
 assessment without reference to, 1116. 
 
 bank discount, 1063. 
 
 bonus stock, 1045. 
 
 broker's commissions, 1044. 
 
 cash paid in, 1044. 
 
 computation of, 1073. 
 
 conversion of bonds into stock, 1073. 
 
 current profits, 1063. 
 
 discount on sale of bonds, 1062. 
 
 distinguished from capital sum, 741. 
 
 dividends paid from surplus, 1097. 
 
 domestic corporations with income from possessions, 1107. 
 
 effect of additional assessment, 1102. 
 
 effect of amortization upon, 706. 
 
 effect of liquidating dividend, 1100. 
 
 effect of refund, 1103. 
 
 effect of stock dividend, 1099. 
 
 for fractional part of year, 1103. 
 
 for pre-war period, 1104. 
 
 for 1917, 1039. 
 
 for 1918-1921, 1041. 
 
 good will, 1049. 
 
 in case of reorganization, 1043. 
 
 inclusion of reserves, 1059. 
 
 increase of capital stock, 1100. 
 
 individuals in 1917, 1039. 
 
 intangible property, 1049. 
 
 intangible property acquired for tangible property, 1054. 
 
 intangible property paid in both before and after March 3, 
 1917, 1052. 
 
 intangible property paid in on or after March 3, 1917, 1052. 
 
 intangible property paid in prior to March 3, 1917, 1051. 
 
 meaning of, 1041. 
 
 mixed aggregate of tangible and intangible property, 1054. 
 
 no paid-in surplus as to intangible property, 1053. 
 
 of foreign corporations, 1107. 
 
 of insurance companies, 1106. 
 
1444 INDEX 
 
 [References are to pages.} 
 
 EXCESS PROFITS TAX— Continued. 
 
 par value of stock, 1044. 
 
 patents, 1049, 1061. 
 
 payment of preceding years' tax, 1100. 
 
 presumption as to source of distributions of dividends, 517. 
 
 property taken for debt, 1062. 
 
 reduction of, by inadmissible assets, 1079. 
 
 reduction of capital stock, 1100. 
 
 reduction of reserves, 1103. 
 
 reserve for depreciation or depletion, 1060. 
 
 reserves for taxes, 1060. 
 
 stock issued for services, 1045. 
 
 stock or shares outstanding on March 3, 1917, 1053. 
 
 stock sold at a discount, 1044. 
 
 surrender value of insurance policies, 1063. 
 
 tangible property paid in, 1045. 
 
 taxes withheld at source not included in, 1042. 
 
 trade marks, 1049. 
 Liberty bonds exemption of reorganized corporation, 1132. 
 limitation of tax when return for part of year, 1038. 
 limitations of additions to surplus, 1065. 
 maximum limit of tax, 1037. 
 
 method of determining net income available for dividends, 1098. 
 national bank stockholders' trustee accounts, 1135. 
 net income, for purposes of, 1112. 
 
 for taxable year, 1114. 
 
 for 1911 and 1912, 1113. 
 
 for 1913, 1113. 
 no credit allowable on account of estimate of excess payment till 
 
 special relief determined, 1130. 
 on sale of mines, oil or gas wells, 1038. 
 paid in surplus, record to be kept by Commissioner, 1047. 
 
 tangible property paid in, 1045. 
 partnerships not taxed under present law, 1020. 
 partnerships taxed under 1917 Law, 1020. 
 partnerships which paid a tax on 1918 income, 1021. 
 payment of 1918 tax by corporations applying for special assessments, 
 
 1128. 
 penalties, 1138. 
 
 personal service corporation not subject to, 1021. 
 personal service corporations under 1917 Law, 1021. 
 pre-war period, 1032. 
 
 property paid in and subsequently written off, 1066. 
 rates for 1917, 1033. 
 rates for 1918, 1017, 1034. 
 rates for 1919, 1920 and 1921, 1017, 1034. 
 re-enacted by 1921 Law, 1015. 
 "remains in control," defined, 1083. 
 
 reorganizations entitling corporations to revaluation, 1084. 
 repealed as of December 31, 1921, 1015. 
 repeal of, 1. 
 
INDEX 1445 
 
 [References are to pages.l 
 
 EXCESS PROFITS TAX— Continued, 
 returns in special cases, 1137. 
 returns of, 1136. 
 specific exemption, 1111. 
 statement of the tax, 1032. 
 sub-contractors, 1030. 
 surplus and undivided profits, 1055. 
 tangible property defined, 1048. 
 taxable year, defined, 1032. 
 
 taxation if corporation with income from government contracts, 1036. 
 the 1917 Act, 1015. 
 time and manner of paying tax, 1137. 
 to whom 1917 Law applied, 1016. 
 value of property as of January 1, 1914, 1041. 
 what are government contracts, 1030. 
 when individuals not subject to 1917 Law, 1018. 
 
 EXCHANGE 
 
 See Foreign Exchange. 
 EXCHANGES OF PROPERTY, 
 
 See Market Value. 
 
 "aggregate par value" of stock received, 440. 
 
 basis of determining gain or loss in case of, 407. 
 
 change of investments does not produce taxable income, 412. 
 
 dealings in similar property, 429. 
 
 exchange of stock under 1918 Law, 634. 
 
 exchanges for different kinds of property, 435. 
 
 exchanges of stock under 1921 Law, 635. 
 
 fair market value as of March 1, 1913, 428. 
 
 farm property, 159. 
 
 for property, 408. 
 
 gain or loss when acquired before March 1, 1913, 415. 
 
 property acquired by bequest, devise or inheritance, 456. 
 
 property for stock, 451. 
 
 property held for productive use, 411. 
 
 stock exchanged for other stock of no greater par value, 441. 
 
 held for investment, 408. 
 
 insurance policies, 462. 
 
 losses from, 634. 
 
 profit from reorganizations, mergers and consolidations, 436. 
 
 property held for investment, 411. 
 
 property received must have readily realizable value, 427. 
 
 reorganizations, etc., under 1918 Law, 438. 
 
 selling price, 419. 
 
 stock exchanged for stock of greater par value, 446. 
 
 stock in trade, 412. 
 
 subsequent sale, 417. 
 
 subsequent sale of stock of greater par value than that exchanged, 450. 
 
 subsequent sale of stock received on exchange, 444. 
 
 what constitutes equivalent of cash, 422. 
 
 when gain arises from exchange of property for stock, 452. 
 
 when income realized from, under 1918 Law, 421. 
 
1446 INDEX 
 
 [References are to pages.'] 
 
 EXECUTORS, 
 
 See Fiduciaries. 
 liability for tax, 147. 
 returns by ancillary executors, 147. 
 returns upon death or termination of trust, 146. 
 
 EXEMPT INCOME, 
 
 accident or health insurance, 37, 355. 
 
 amounts received as compensation for personal injuries, 355. 
 amounts received as return of premiums, 37, 354. 
 amounts received under War Risk Insurance and Vocational Re- 
 habilitation Acts, 37, 355. 
 dividends from, 524. 
 
 dividends from building and loan associations, 355. 
 earnings from operation of ships, 37. 
 Federal Reserve Banks, 356. 
 income from operation of public utility, 38, 355. 
 income of foreign governments, 354. 
 income of states and political subdivisions, 357. 
 interest, federal farm loan act securities, 38. 
 
 obligations of District of Columbia or possession of the 
 United States, 38. 
 
 obligations of states, 354. 
 
 obligations of state, territory, or political subdivision thereof, 
 38. 
 
 obligations of the United States, 38, 354. 
 interest or dividends from building and loan associations, 37. 
 omitted from returns, 39. 
 operation of foreign ships, 355. 
 pensions, 355. 
 
 pensions from United States, 37. 
 proceeds of life insurance policies, 87, 354. 
 property acquired by gift, bequest, devise or descent, 37, 354. 
 receipts of shipowners' mutual protection and indemnity associations, 
 
 38, 355. 
 rental value of clergyman's dv^elling house, 38, 355, 368. 
 returns of, 493. 
 
 EXEMPT ORGANIZATIONS, 
 
 associations for marketing produce and purchasing supplies, 335. 
 
 building and loan associations, 318. 
 
 business associations, 328. 
 
 cemetery companies, 322. 
 
 civic organizations, 330. 
 
 clubs, 330. 
 
 constitutionality of exempting certain corporations, 1013. 
 
 co-operative banks, 318. 
 
 corporations owned by exempt corporations, 336. 
 
 credit unions, 321. 
 
 examples of organizations not exempt, 313. 
 
 exempt from excess-profits tax, 1026. 
 
INDEX 1447 
 
 [References are to pages."] 
 
 EXEMPT ORGANIZATIONS— Continued. 
 
 exemption limited to classes specifically enumerated, 313. 
 
 federal land banks, 337. 
 
 foreign corporations may be, 312. 
 
 fraternal beneficiary societies, 317. 
 
 interest on bonds of, 493. 
 
 joint stock land banks not exempt under 1918 or present law, 337. 
 
 labor, agricultural and horticultural organizations, 315. 
 
 mutual or co-operative organizations of local character, 331. 
 
 mutual savings banks, 316. 
 
 national farm loan associations, 337. 
 
 personal service corporations, 337. 
 
 proof of exemption, 313. 
 
 proof of exemption in case of foreign corporations, 312. 
 
 religious, charitable, scientific, literary and educational corporations, 
 
 322. 
 returns by those claiming to be, 314. 
 right of exemption must be proved on request, 314. 
 where question as to right of exemption exists, 313. 
 
 EXEMPTIONS, 
 
 See Exempt Income; Exempt Organizations; Interest. 
 
 certificates of indebtedness issued by Director General of Railroads, 
 not exempt, 487. 
 
 corporations allowed specific exemption, 241. 
 
 corporations exempt from capital stock tax, 1156. 
 
 date determining in case of personal exemption and credit for de- 
 pendents, 780. 
 
 exemption from withholding, 983. 
 
 exemption of Liberty bonds under 1918 Law, 480. 
 
 exempt organizations, 312. 
 
 excess-profits tax, specific exemption, 1111. 
 
 foreign corporations, 300. 
 
 foreign steamship companies, 303. 
 
 from stamp tax, 1163. 
 
 income exempt to partners, 184. 
 
 income of foreign ambassadors, 310. 
 
 income of foreign governments, 309. 
 
 interest exempt from tax, 479. 
 
 interest on postal savings accounts, 488. 
 
 interest on War Finance Corporation bonds, 488. 
 
 Liberty bond, in case of estates and trusts, 119. 
 
 Liberty bond interest in case of partners, 182. 
 
 Liberty bonds under 1921 Law, 485. 
 
 pensions from the United States, 547. 
 
 personal and specific, 776. 
 
 proceeds of life insurance, 553. 
 
 specific exemption of domestic life insurance companies, 278. 
 
 to soldiers and sailors under 1918 Law, 374. 
 
 under Merchant Marine Act, 1115. 
 
1448 INDEX 
 
 [References are to pagen.'] 
 
 EXPENSES, 
 
 See Corporations; Traveling Expenses. 
 allowed as deduction to partnerships, 177. 
 amounts paid for alterations, 585. 
 buildings used for rental purposes, 587. 
 business expenses of leasehold property, 581. 
 certain items should be capitalized, 570. 
 commissions paid, 589. 
 deductible by corporations, 231. 
 deductible by railroads, 272. 
 deduction of, 576. 
 
 advertising expenses, 582. 
 
 by estates and trusts, 121. 
 
 by farmers, 161. 
 
 donations, 599. 
 
 entertainment money, 590. 
 
 membership fees and dues, 601, 
 
 professional expenses, 583. 
 investment expenses of life insurance companies, 277. 
 items deductible as, 580. 
 items not deductible as, 581. 
 of insurance companies under 1916 Law, 296. 
 of organization, not deductible, 231. 
 of propaganda, not deductible, 589. 
 of restoring property, 572. 
 ordinary and necessary expenses, 577. 
 personal, living or family, not deductible, 565. 
 relating to patents, 583. 
 what constitute business expenses, 578. 
 when deductible, 577. 
 
 EXPORT BUSINESS, 
 income of, 386. 
 
 EXPRESS COMPANIES, 
 
 not subject to child labor tax, 1251. 
 
 EXTENSION OF TIME, 
 
 conditions under which granted for payment of tax, 865. 
 
 for payment of tax, 865. 
 
 for payment of tax, when granted, 866. 
 
 new provision of 1921 Law as to payment of taxes, 865. 
 
 payment of tax, 853. 
 
 taxpayer may be required to furnish bond, 865. 
 
 to file returns, 830. 
 
 F 
 FACTORIES, 
 
 subject to child labor tax, 1250. 
 
 FAIR MARKET PRICE, 
 
 See Market Value. 
 
INDEX 1449 
 
 [Jteferences are to pages.'] 
 
 FAIR MARKET VALUE, 
 
 See Market Value. 
 
 FARMERS, 
 
 accounting on accrual basis, 156. 
 computing income upon crop basis, 161. 
 deductions allowed, 161. 
 
 automobile, 162. 
 
 depreciation, 165. 
 • expense, 161. 
 
 irrigation company assessments, 163. 
 
 losses, 163. 
 
 salaries, 162. 
 
 taxes, 163. 
 definition, 152. 
 gentlemen farmers, 152. 
 income of, dividends from co-operative associations, 160. 
 
 exchange of farm property, 159. 
 
 may be in cash or kind, 156. 
 
 miscellaneous income, 160. 
 
 on what basis reported, 156. 
 
 proceeds of insurance, 160. 
 
 products consumed by farmer, 157. 
 
 rents received in kind, 157. 
 
 sale of farm property, 159. 
 
 sale of livestock, 157. 
 
 sale or exchange of annual produce, 157. 
 inventories, 153. 
 
 adjustments caused by use of, 154, 155. 
 
 change to inventory basis, 153. 
 
 method of valuing, 154. 
 
 what included in, 153. 
 net losses of, 164. 
 
 not keeping books and not taking inventories, 156. 
 returns by, 165. 
 rulings relating to, 152. 
 payment of tax, 165. 
 subject to penalties, 165. 
 what constitutes business of farming, 152. 
 
 FARMERS' MUTUAL INSURANCE COMPANIES, 
 exemption from tax, 333. 
 
 FEDERAL ESTATE TAXES, 
 deduction of, 610. 
 
 FEDERAL JUDGES, 
 
 exemption of salaries of, 38, 377. 
 
 FEDERAL LAND BANKS, 
 dividends from, 508. 
 exempt from tax, 337. 
 interest from, exempt, 488. 
 
1450 INDEX 
 
 [References are to pagesil 
 
 FEDERAL OFFICERS AND EMPLOYEES, 
 
 amounts withheld to provide annuities, 373. 
 
 furnished heat and light, 374. 
 
 income of, subject to tax, 373. 
 
 living quarters of, 373. 
 
 paid mileage allowance, 374. 
 
 per diem allowances, 374. 
 
 reimbursement for actual expenses, 374. 
 
 FEDERAL RESERVE BANK, 
 dividends from, 508. 
 income of, exempt, 356. 
 stock in, is an inadmissible asset, 1075. 
 
 FIDUCIARIES, 
 
 See Estates and Trusts; Foreign Fiduciaries. 
 agents are not, 103. 
 alien property custodian, 107. 
 ancillary administrators are not, 105. 
 collection of tax from distributees, 147. 
 committee for incompetent, 106. 
 deeds of trust, 106. 
 defined, 103. 
 
 duties of executors and administrators, 109. 
 duties of, generally, 108. 
 duties of receivers, 109. 
 
 duties of, respecting decedent's estate during administration, 129. 
 guardians may be, 104. 
 
 income received from, by nonresident aliens, 77. 
 income to be reported by beneficiary, 144. 
 information at source, 149. 
 irrevocable trusts, 106. 
 liability of executors for tax, 147. 
 mortgage foreclosure receivers, 106. 
 ownership certificates in case of, 994. 
 penalties in case of, 149. 
 power of attorney, 104. 
 receivers may be, 105. 
 returns by, 140. 
 
 for nonresident alien beneficiaries, 143. 
 
 ancillary executors, 147. 
 
 as executors and administrators, 145. 
 
 by whom filed, 141. 
 
 extension of time, 142. 
 
 fiduciaries acting in more than one estate, 142. 
 
 for beneficiaries, 143. 
 
 for minors or insane persons, 143. 
 
 how executed, 143. 
 
 revocable trusts, 141. 
 
 upon death or termination of trust, 146. 
 
 when also a beneficiary, 143. 
 
INDEX 1451 
 
 IReferences are to pages.'] 
 
 FIDUCIARIES— Continued. 
 
 when filed, 142. 
 
 when required, 141. 
 
 where filed, 142. 
 returns of information by, 140. 
 temporary receivers may be, 105. 
 trustees in bankruptcy are, 105. 
 trusts created by employers, 102. 
 who are, 103. 
 who are beneficiaries, 108. 
 withholding against, 978. 
 withholding at source against, 148. 
 withholding at source by, 148. 
 
 FIRE INSURANCE COMPANIES, 
 
 See Insurance Companies. 
 
 FIRES, STORMS, SHIPWRECK AND OTHER CASUALTY, 
 losses from, 636. 
 
 FISCAL YEAR, 
 
 See Accounting Period. 
 affiliated corporations with different fiscal years, 259. 
 change in accounting period, 817. 
 corporations, 245. 
 
 corporations must report on basis of, 1032. 
 deduction of taxes in case of, 609. 
 defined,. 815, 1032. 
 ending in 1918, 819. 
 
 deductions and credits in case of, 820. 
 
 in case of individual, 820. 
 ending in 1919, 821. 
 
 computation of excess-profits tax, 1035. 
 ending in 1921 or 1922, 818. 
 
 ending in 1921, computation of excess-profits tax, 1035. 
 ending in' 1922, computation of excess-profits tax, 1036. 
 first returns on basis of, 817. 
 in case of capital stock tax, 1140. 
 in case of corporations credit for taxes, 794. 
 of individuals, effect on credit for taxes, 789. 
 of personal service corporation, ending in 1922, 821. 
 partners and partnership with different, 186. 
 partnerships with, 186. 
 returns on basis of, 816. 
 returns when changed, 829. 
 war-profits credit of corporations with, 1110. 
 when tax due of computed on basis of, 852. 
 
 FOOD ADMINISTRATION GRAIN CORPORATION NOTES, 
 interest on, not exempt, 488. 
 
 FOREIGN AMBASSADORS, 
 income exempt to, 310. 
 
1452 INDEX 
 
 [References are to pages.] 
 FOREIGN CORPORATIONS, 
 
 See Nonresident Aliens. 
 assessment without reference to invested capital, 1118. 
 capital stock tax on, 1146. ■ 
 
 capital stock tax returns, 1160. 
 certain domestic corporations taxed as, 225, 308. 
 collection of foreign items, 308. 
 consolidated returns in case of, 308. 
 ,. credit for taxes, in case of, 789. 
 
 credit of dividends from, 775. 
 credits allowed, 305. 
 deduction of taxes by, 607. 
 
 deductions allowed, 79, 804. , 
 
 defined, 297. 
 
 determination of installments of excess-profits tax, 1129. 
 doing business for purposes of capital stock tax, 1155. 
 duty in paying out income, 308. 
 exempt organizations, 312. 
 
 exemption of earnings from operation of ships, 37. 
 income from sources within the United States, 301. 
 
 corporations having no office or agent in United States, col- 
 lecting commissions, 302. 
 
 domestic corporation owning stock of foreign corporation, 301. 
 income of foreign steamship companies, 303. 
 income subject to tax, 301. 
 invested capital of, 1107. 
 items not deductible, 304. 
 nonresident corporations, 298. 
 nonresident foreign corporation defined, 965, 998. 
 penalties applicable to, 308. 
 
 procedure in collecting income subject to withholding, 306. 
 proof of exemption, 312. 
 rate of capital stock tax, 1146. 
 rates of tax, 297, 301. 
 residence of, 298. 
 resident agents for, 88, 306. 
 resident corporations, 298. 
 returns by, 306. 
 
 by whom filed, 307. 
 ' how prepared, 307. 
 
 how signed and sworn to, 307. 
 
 when filed, 306. 
 
 where filed, 307. 
 special returns by, 308. 
 taxation of dividends from, 510. 
 taxation of dividends received by, 66. 
 
 time of payment of tax by nonresident foreign corporations, 853. 
 when exempt, 300. 
 
 when subject to capital stock tax, 1142. 
 when subject to income tax, 300. 
 withholding at source, 305. 
 
INDEX 1453 
 
 [References are to pages.] 
 
 FOREIGN COUNTRIES, 
 
 defined, 611, 781, 786. 
 
 taxpayers manufacturing or dealing in, 361. 
 
 FOREIGN DEALINGS, 
 
 gain or loss relating to, 360. 
 
 FOREIGN EXCHANGE, 
 
 computation of income in case of, 358. 
 dealers in, 362. 
 
 gain or loss from foreign dealings, 360. 
 rates of, 359. 
 
 treatment of, in case of manufacturing or trading in foreign coun- 
 tries, 361. 
 
 FOREIGN FIDUCIARIES, 
 
 deductions and credits allowed, 149. 
 defined, 149. 
 
 extent to which subject to law, 149. 
 information at source, 151. 
 returns by, 150. 
 
 when filed, 151. 
 
 where filed, 150. 
 trust estates, 149. 
 withholding at source against, 151. 
 withholding at source by, 151. 
 
 FOREIGN GOVERNMENTS, 
 
 income of exempt, 309, 354. 
 political subdivisions of, 310. 
 
 FOREIGN INCOME, 
 how taxed, 358. 
 
 FOREIGN INSURANCE COMPANIES, 
 
 See Insurance Companies. 
 
 FOREIGN INSURANCE POLICIES, 
 stamp tax, 1199. 
 
 credits and refunds, 1202. 
 
 definitions, 1199. 
 
 effective date, 1200. 
 
 insurance on commodities exported, 1202. 
 
 insured to retain policy for two years, 1200. 
 
 measure of tax, 1202. 
 
 movable property, 1202. 
 
 penalties, 1202. 
 
 persons liable to, 1200. 
 
 returns, 1203. 
 
 subsequent instrument to indicate prior document stamped, 
 
 1201. 
 subsequent instruments that must be stamped, 1201. 
 unstamped instruments and those bearing no notation of 
 
 stamping, 1201. 
 what instruments must bear a stamp, 1200. 
 
1454 INDEX 
 
 [References are to pages.'] 
 FOREIGN ITEMS, 
 
 collection of, by foreign corporations, 308. 
 
 corporations collecting, 269. 
 
 defined, 956. 
 
 license required, 959. 
 
 ownership certificates for, 956. 
 
 presented for collection unaccompanied by ownership certificates, 958. 
 
 return of information as to, 958. 
 
 source of information as to, 956. 
 
 FOREIGN PARTNERSHIPS, 
 application of tax to, 190. 
 collection of tax at source, 192. 
 duties in paying out income, 193. 
 extent to which taxable, 191. 
 nonresident foreign partnerships, 191, 
 procedure in collecting income, 193. 
 resident foreign partnerships, 191. 
 when taxed on sales, 192. 
 
 FOREIGN STEAMSHIP COMPANIES, 
 exemption of, 303. 
 income of, 303. 
 
 FORMS, 
 
 See Returns. 
 of ownership certificates, 986. 
 
 FRATERNAL BENEFICIARY SOCIETIES, 
 when exempt, 317. 
 
 FUTURES, 
 
 treatment of in inventories, 393. 
 
 G 
 GAINS, 
 
 See Income. 
 GAS COMPANIES, 
 
 subject to child labor tax, 1251. 
 
 GAS WELLS, 
 
 apportionment of depletion among various sands, 752. 
 
 closed-pressure method, 749. 
 
 comparison with life history of similar wells, 748. 
 
 computation of allowance for depletion, 747. 
 
 corrections and refinements of closed pressure method, 750. 
 
 decline in open flow capacity, 748. 
 
 details of production or performance record of well or property, 748. 
 
 formula for computing depletion allowance, 754. 
 
 method of gauging, 752. 
 
 other indications of depletion, 749. 
 
 pressure records to be kept, 755. 
 
 season for testing wells for closed pressure, 753. 
 
 size of reservoir and pressure of gas, or pore-space method, 748. 
 
 "unit cost" as applied to natural gas, 750. 
 
INDEX 1455 
 
 \_References are to pages.} 
 GIFTS, 
 
 basis of determining loss from disposition of property received as, 
 
 632. 
 cancellation of debts, 368. 
 deduction of, when made to charities, 561. 
 definition of, 459. 
 
 exemption of property acquired as, 37. 
 losses from sale of property received as, 626. 
 not deductible, 598. 
 profit or loss from sales of, 414. 
 property acquired as, exempt, 354, 548. 
 received by clergymen, 368. 
 received in form of bonus, 365. 
 sale of property acquired by, 458. 
 shrinkage in value of life or terminal interest, 575. 
 under 1918 Law, 459. 
 what constitutes, 548. 
 
 GOLD-MINING CORPORATIONS, 
 
 exempt from excess-profits tax, 1030. 
 
 GOOD WILL, 
 
 inclusion of, in invested capital, 1049. 
 
 income from sale of, 551. 
 
 obsolescence in case of distillers and dealers in liquor, 699. 
 
 obsolescence of, 698. 
 
 proof of value of, 433. 
 
 GOVERNMENTAL AGENCY OF STATE, 
 income bequeathed to, 115. 
 
 GOVERNMENT CONTRACTS, 
 advertising expenses, 1031. 
 
 affiliated corporation deriving chief income from, 257. 
 allocation of net income to particular source, 1030. 
 amended contracts, 1029. 
 
 corporations with income from, taxation of, 1036. 
 defined, 1028. 
 inspection of, 948. 
 
 inventories of government contract material, 1031. 
 sub-contractors, 1030. 
 
 taxation of corporations deriving income from, 1028. 
 under naval appropriation acts, 1029. 
 
 war-profits credit of corporations with income from, 1110. 
 what are, 1030. 
 
 GRAIN DEALERS, 
 
 use of inventories, 392. 
 
 GROCERY STORES, 
 
 not subject to child labor tax, 1251. 
 
1456 INDEX 
 
 [RefereTices are to pages."] 
 
 GROSS INCOME, 
 
 See Income. 
 
 certain items not included in, 353. 
 
 defined, H. 
 
 from business, 385. 
 
 not synonymous with gross receipts, 352. 
 
 what constitutes, 352. 
 
 GROUND RENT, 
 
 not deductible as interest, 606. 
 
 GUARDIAN, 
 
 See Fiduciaries. 
 
 H 
 HEAD OF FAMILY, 
 
 examples of, 778. 
 who is, 777. 
 
 HEALTH INSURANCE, 
 
 See Accident or Health Insurance. 
 exemption of income from, 556. 
 
 HOLDING COMPANIES, 
 
 See Consolidated Returns. 
 
 doctrine of corporate entity, 221. 
 financing subsidiary, 233. 
 
 HOMESTEAD, 
 
 sale of, 461. 
 
 HORTICULTURAL ORGANIZATIONS, 
 exemption of, 315. 
 
 HUSBAND AND WIFE, 
 
 citizenship of married women, 40. 
 community property, 45. 
 computation of tax in case of, 824. 
 personal exemption allowed to, 779. 
 returns by, 823. 
 
 I 
 ICE FACTORIES, 
 
 subject to child labor tax, 1251. 
 
 IDAHO, 
 
 community property, 47. 
 
 mining partnerships of, taxed as corporations, 212. 
 
 IMPROVEMENTS AND BETTERMENTS, 
 not deductible, 570. 
 to be added to cost, 417. 
 
INDEX 1457 
 
 {References are to pages.'] 
 
 INADMISSIBLE ASSETS, 
 
 bonds or other obligations, 1076. 
 
 defined, 1074. 
 
 in case of afiiliated corporations, 1134. 
 
 may become admissible, 1078. 
 
 reduction of invested capital by, 1079, 1095. 
 
 stock of domestic corporations, 1075. 
 
 stock of domestic corporation with income from possessions, 1075. 
 
 stock in Federal Reserve Bank, 1075. 
 
 stock of foreign corporations, 1076. 
 
 INCOME, 
 
 See Bonuses; Compensation for Services; Constructive Receipt of In- 
 come; Corporations; Estates and Trusts; Exempt Income; For- 
 eign Corporations; Insurance Companies; Net Income; Nonresi- 
 dent Aliens; Partnerships; Salaries. 
 
 abnormal conditions affecting, 1119. 
 accrued, when taxed, 344. 
 accumulated for charitable purposes, 116. 
 actually received, 343. 
 
 additional compensation to be paid at future date, 808. 
 alimony, 538. 
 
 allocation of, from judgments, 806. 
 
 amount paid for option to purchase interest in royalties, 538. 
 amount received by tenant for vacating premises, 538. 
 basis for determining gain or loss from sales, 413. 
 bonuses, 365. 
 
 cancellation of debt because of services, 368. 
 cancelled debts, 539. 
 
 capitalization of as proof of, market value, 431. 
 changing basis for computation of, 815. 
 community property, 45. 
 compensation by insurance, 552. 
 compensation for loss, 540. 
 under 1921 Law, 541. 
 compensation of President and certain judges exempt, 38. 
 computation of in case of installment sales, 464. 
 conditionally received, 801. 
 
 consolidated net income of affiliated corporations, 259. 
 constructive receipt distinguished from accrual, 799. 
 constructive receipt of, 114, 346. 
 damages in personal actions, 544. 
 
 deductions allocated to income with which connected, 807. 
 deductions from in case of nonresident aliens, 78. 
 defined, 340. 
 
 distinguished from capital, 340. 
 distribution of, in case of trust estates, 133. 
 dividends on life insurance policies, 555. 
 effect of bookkeeping entries, 341. 
 embezzled moneys are not, 545. 
 employees' profit-sharing fund, 545. 
 examples of constructive receipt, 346, 347. 
 
1458 INDEX 
 
 ^References are to pages."] 
 
 INCOME— Continued. 
 
 excess of salvage value plus depreciation over cost, 545. 
 exchange of stock for stock of greater par value, 446. 
 exchange of stock for stock of no greater par value, 441. 
 exempt income, 353. 
 exemption based on amount of, 36. 
 
 exemption based on character of, or status of recipient, 37. 
 exempt to foreign governments, 309. 
 farmers, 156. 
 
 federal officers and employees, 373, 378. 
 fixed or determinable, annual or periodical, 966. 
 
 from accident, health or workmen's compensation insurance, ex- 
 empt, 556. 
 from annuities, 556. 
 from business, 385. 
 from commissions, 366. 
 from discount, 496. 
 from dividends, 504. 
 from endowment policies, 555. 
 from export business, 386. 
 from foreign countries, how taxed, 358. 
 from foreign dealings, 360. 
 from legacies, 546. 
 from long term contracts, 804. 
 from miscellaneous sources, 538. 
 from operation of ships, when exempt, 37. 
 from personal services, 364. 
 from rent, 497. 
 
 from reorganizations, mergers and consolidations, 436. 
 from reorganizations, mergers, etc., under 1918 Law, 438. 
 from rewards, 369. 
 
 from sale of property, constitutionality of taxing, 1008. 
 from services extending over a year, 372. 
 from tips, 369. 
 from traveling expenses, 367. 
 gross, of corporations, 226. 
 increment to sinking funds, 546. 
 in form of notes, 352. 
 in form of royalties, 501. 
 in general, 339. 
 
 interest, rent and royalties, 479. 
 involuntary sales, 539. 
 in what year reported, 800. 
 
 allocation of income from judgments, 806. 
 
 amounts placed in escrow, 801. 
 
 commissions, 801. 
 
 compensation under cancelled contracts, 802. 
 
 dividends credited to employees, 801. 
 
 goods sold and returned in succeeding year, 808. 
 
 income conditionally received, 801. 
 
 judgments, 806. 
 
INDEX 1459 
 
 [^References are to pages.] 
 
 INCOME— Continued. 
 
 payments depending on future developments, 804. 
 
 payments of compensation, 805. 
 
 royalties, 800. 
 
 subsequently discovered gains, 805. 
 
 where amount of income is doubtful, 801. 
 
 where the recipient is doubtful, 800. 
 
 where transaction is contingent, 803. 
 in what year taxed, 345. 
 labor union benefits, 546. 
 losses of, not deductible, 630. 
 
 manufacturing or trading in foreign countries, 361. 
 methods of accounting, 342, 797. 
 money received under mistake of fact, 813. 
 must be reported on same basis as deductions, 560. 
 net income of estates and trusts, 128. 
 of contractors, 385. 
 
 of independent contractor from state contract, 546. 
 of states and political subdivisions, exempt, 357. 
 other than in cash, 369. 
 payment of claims, 546. 
 payments by tenant for landlord, 499. 
 payments received through mistake, 547. 
 pensions, 547. 
 
 premiums paid by employer, 367. 
 procedure in paying, 960. 
 proceeds of life insurance, 553. 
 proceeds of tontine insurance, 554. 
 profit sharing, 364. 
 property acquired by gift, 548. 
 public utilities, 572. 
 receipt of, by agent, 348. 
 receipt of rent in kind, 499. 
 received in equivalent of cash, 350. 
 received in kind, 350. 
 
 received on an exchange of property, 351. 
 received on exchange only when property received has readily 
 
 realizable market value, 427. 
 reflected by inventories, 388. 
 reported in year accrued, 798. 
 reported in year received, 798. 
 reported on accrual basis, 349. 
 rights to subscribe to stock, 549. 
 salaries, 364. 
 
 salaries of federal judges, 377. 
 salaries of teachers, 383. 
 sale of good will, 551. 
 sale of homestead, 461. 
 sale of mines, oil or gas wells, 464. 
 
 sale of property acquired by bequest, devise or inheritance, 456. 
 sale of real estate in lots, 477. 
 
1460 INDEX 
 
 [References are to pages.'\ 
 
 INCOME— Continued. 
 
 sale of real estate involving deferred payments, 474. 
 
 sale of stock received as dividend, 534. 
 
 sale of war-savings stamps, 551. 
 
 sales and dealings in bonds, 461. 
 
 sales or dealings in property, 407. 
 
 services rendered prior to March 1, 1913, 371. 
 
 shares in building and loan association, 551. 
 
 sources within the United States, 301. 
 
 sources within the United States, defined, 58, 59. 
 
 statistics of, published annually by Commissioner, 847. 
 
 subject to normal tax, 14. 
 
 supper money, 369. 
 
 surrender value of insurance policies, 555. 
 
 taxable in hands of assignee, 244. 
 
 taxable in hands of trustee in bankruptcy, 244. 
 
 taxed to corporations, 16. 
 
 taxes on profits from sale of property paid by vendee, 552. 
 
 tax paid by debtor on account of tax-free covenant bond, 552. 
 
 theory upon which imposed, 35. 
 
 under 1921 excess-profits tax law, 1015. 
 
 value of improvements made by tenant, 497. 
 
 voluntary offerings received by clergymen, 368. 
 
 what constitutes, 339. 
 
 what income included in statute, 339. 
 
 what income subject to withholding, 964, 966. 
 
 when items should be reported, 798. 
 
 when required to be reported at source, 951. 
 
 INCOME TAX BULLETIN SERVICE, 
 scope and purpose of, 9. 
 
 INCOME TAX LAWS, 
 
 discussion of statutes of laws preceding 1921 Law, 3. 
 
 INCOMPETENTS, 
 
 returns of, 52, 827. 
 
 INDIVIDUALS, 
 
 exemption from tax, based on character of income or status of 
 recipient, 37. 
 
 based on amount of income, 36. 
 invested capital of, for 1917, 1039. 
 returns by, 13. 
 
 returns for deceased persons, 53. 
 subject to 1917 excess-profits tax, 1018. 
 taxation of, under 1917 excess-profits tax, 1018. 
 when not subject to 1917 excess-profits tax, 1018. 
 
 INFORMATION AT SOURCE, 
 
 See Foreign Items. 
 affiliated corporations may not file consolidated returns of, 963. 
 by corporations, 264. 
 by department of municipal government, 963. 
 
INDEX 1461 
 
 {References are to pages!] 
 
 INFORMATION AT SOURCE— Continued, 
 discussed generally, 18. 
 
 dividends on stock of taxable corporations, 955. 
 fixed or determinable income, 951. 
 foreign fiduciaries, 151. 
 
 gains and losses of customers of brokers, 954, 962. 
 interest on obligations of domestic corporations, 955. 
 interest on obligations of the United States, 955. 
 interest on state and municipal bonds, 955. 
 miscellaneous income, gains and profits, 951. 
 payments which need not be reported, 953. 
 penalties for failure to supply, 902. 
 procedure in paying income, 960. 
 purpose of, 951. 
 reports by broker, 190, 264. 
 required of exempt corporations, 963. 
 required of fiduciaries, 149. 
 returns by partnerships, 190. 
 returns of, 961. 
 
 as to payments to nonresident aliens, 956. 
 
 by partnerships, personal service corporations and fiduciaries, 
 961. 
 
 dividends on stock of taxable corporations, 962. 
 
 miscellaneous income, gains and profits, 961. 
 
 payments of interest, 963. 
 salaries, wages or compensation, 952. 
 what payments to be reported, 951. 
 
 INHERITANCE, 
 
 See Bequest, Devise or Inheritance. 
 
 INHERITANCE TAXES, 
 
 state inheritance taxes not deductible, 616. 
 
 INSPECTION OF BOOKS, 
 
 See Examination of Books. 
 
 INSPECTION OF RETURNS BY PUBLIC, 
 
 See Returns. 
 
 INSTALLMENT SALES, 
 
 See Deferred Payments. 
 change in method of reporting, 473. 
 combination of. cash, charge and installment sales, 473. 
 computation of income from, of personal property, 467. 
 illustration of computation of income from, 468. 
 method of accounting to be employed, 469. 
 of personal property, 465. 
 
 scope of method in .case of personal property, 467". 
 surplus and undivided profits, 1058. 
 taxation of, 464/ 
 treatment of bid debts, 471. 
 when vendee /defaults, 466. 
 
 / 
 
1462 INDEX 
 
 [References are to pages.'] 
 
 INSURANCE, 
 
 See Life Insurance. 
 
 compensation for loss, 658. 
 
 deduction of, under Workmen's Compensation Law, 588. 
 exemption of amounts received through accident, health or work- 
 men's compensation insurance, 556. 
 fidelity insurance as a deduction, 588. 
 income from compensation by, 552. 
 insurance policies are admissible assets, 1074. 
 on employees, not deductible, 572. 
 paid on property, deduction of, 687. 
 proceeds of in case of farmers, 160. 
 receipt of annuities, 556. 
 received in subsequent year, 659. 
 recovery of, reduces losses, 812. 
 reserves for, not deductible, 588. 
 surrender, exchange and sale of policies, 462. 
 withholding at source, 968. 
 
 INSURANCE COMPANIES, 
 
 applicability of former rulings, 274. 
 
 capital stock tax, 1148. 
 
 comparison of 1921 and 1918 Laws, 281. 
 
 deduction of required addition to reserve funds, 291. 
 
 deductions allowed under 1918 Law, 290. 
 
 definition, 282. 
 
 domestic life insurance companies, 275. 
 
 deductions allowed, 275. 
 
 depreciation deductible, 277. 
 
 dividends received, 276. 
 
 gross income of, 275. 
 
 interest paid, 276. 
 
 interest upon state and federal obligations, 275. 
 
 investment expenses, 277. 
 
 rate of tax, 275. 
 
 reserve for dividends, 276. 
 
 specific exemption, 278. 
 
 taxes deductible, 277. 
 expenses under 1916 Law, 296. 
 
 general scheme of taxation under present law, 274. 
 gross income of life insurance companies, 285. 
 gross income of, under 1918 Law, 283. 
 income of foreign companies, 296. 
 invested capital of, 1106. 
 other than life and mutual companies, deductions allowed, 280. 
 
 definition of terms, 279. 
 
 foreign companies, 280. 
 
 gross income, 279. 
 returns by, 295. 
 
 special deductions allowed in case of combined life, health and acci- 
 dent policies, 294. 
 
INDEX 1463 
 
 [References are to pages."} 
 
 INSURANCE COMPANIES— Continued. 
 
 special deduction allowed mutual companies, 294. 
 
 special deductions allowed mutual marine insurance companies, 294. 
 taxation of foreign life insurance companies under 1921 Law, 278. 
 taxation of other than life and mutual companies under 1921 Law, 
 
 278. 
 under 1918 Law, 281. 
 
 INSURANCE POLICIES, 
 
 surrender value of, inclusion in invested capital, 1063. 
 
 INTANGIBLE PROPERTY, 
 
 acquired for tangible property, 1054. 
 
 defined, 1049. 
 
 depreciation allowed in case of, 682. 
 
 inclusion of, in invested capital, 1049. 
 
 inclusion of, in invested capital for 1917, 1039. 
 
 mixed aggregates of tangible and, 1054. 
 
 no paid-in surplus as to, 1053. 
 
 obsolescence of, 698. 
 
 obsolescence of in case of liquor dealers, 699. 
 
 paid in both before and after March 3, 1917, 1052. 
 
 paid in, in case of affiliated corporations, 1133. 
 
 paid in, on or after March 3, 1917, 1052. 
 
 paid in, prior to March 3, 1917, 1051. 
 
 proof of value of, 433. 
 
 stock or shares outstanding on March 3, 1917, 1053. 
 
 what included in, 1049. 
 
 INTEREST, 
 See Interest Upon United States Obligations, 479; Liberty Bonds. 
 accrued on obligations at time of purchase, 493. 
 
 accruing prior to March 1, 1913, 495. 
 allowed as credit to partners, 181, 183. 
 bond interest, defined, 966. 
 bonds purchased at a premium, 495. 
 
 constitutionality of provision requiring disclosure of exempt inter- 
 est, 1009. 
 constructive receipt of, 347. 
 credit of, 776. 
 
 to nonresident aliens, 83. 
 deductible by corporations, 234. 
 deduction of, 602. 
 
 by estates and trusts, 125. 
 interest on taxes, 606. 
 on real estate mortgage, 606. 
 deficiency in tax, 899. 
 
 exemption of when received from domestic building and loan asso- 
 ciations, 37. 
 from federal land bank, 488. 
 from National Farm Loan Association, 488. 
 income from, 479. 
 
1464 INDEX 
 
 [References' are to pages.'] 
 
 INTEREST— Continued. 
 
 income from, in case of nonresident aliens, 62. 
 
 indebtedness incurred or continued to purchase or carry tax exempi 
 securities, 603. 
 
 information at source of interest on obligations of domestic cor- 
 porations, 955. 
 
 Liberty bond exemption in case of estates and trusts, 119. 
 
 mortgages assumed by state, 493. 
 
 not paid on claims against the United States under prior laws, 939. 
 
 not to be added to cost, 417. 
 
 obligations of District of Columbia, 489. 
 
 obligations of political subdivision of state, 490. 
 
 obligations of possessions of United States, 488. 
 
 obligations of states, 489. 
 
 obligations of territories, 489. 
 
 obligations of the United States, 64. 
 
 on amount of claim for loss in inventory disallowed, 868. 
 
 on bank deposits, 494. 
 
 on bank deposits, not subject to withholding, 969. 
 
 on bonds of exempt organizations, 493. 
 
 on capital, not deductible, 603. 
 
 on delinquent taxes, 866. 
 
 on refunds and judgments under 1921 Law, 939. 
 
 on taxes where time for payment extended, 853. 
 
 on tax free bonds, not deductible by corporations, 235. 
 
 ownership certificates in case of registered bonds, 992. 
 
 paid by life insurance company, 276. 
 
 paid in scrip, 494. 
 
 paid in scrip, withholding in case of, 977. 
 
 paid or accrued within the year, 604. 
 
 received and paid by brokers, 494. 
 
 received by corporations from Liberty bonds, 230. 
 
 received upon state and federal obligations by domestic life insur- 
 ance companies, 275. 
 
 recovery of, from collectors, 940. 
 
 returns of information as to payments of, 963. 
 
 to be withheld at source, 969. 
 
 when exempt from tax, 38, 354, 479. 
 
 when not reported at the source, 953. 
 
 withholding at source in case of bond interest, 972. 
 
 withholding at source when bonds contain a tax-free covenant, 974. 
 
 withholding at source when bonds do not contain a tax-free cove- 
 nant, 973. 
 
 INTEREST UPON OBLIGATIONS OF THE UNITED STATES, 
 
 certificates of indebtedness issued by director general of railroads 
 
 not exempt, 487. 
 postal savings accounts, exemption of, 488. 
 War Finance bonds, 488. 
 when exempt, 479. 
 
INDEX 1465 
 
 [References are to pages.] 
 
 INVENTORIES, 
 at cost, 399. 
 at market, 400. 
 
 base, stock, minimum and cushion methods not allowed, 398. 
 by cotton merchants and dealers in grain, 392. 
 by dealers in securities, 401. 
 by lumber manufacturers, 403. 
 by retail dry goods merchants, 403. 
 change from cost or market to cost, 395. 
 dealers in foreign exchange, 362. 
 farmers, 153. 
 farmers not taking, 156. 
 in general, 388. 
 losses in, 665. 
 
 claims for, 672. 
 
 claims of partnerships, 674. 
 
 disposition of claims, 675. 
 
 effect of allowance of claim, 666. 
 
 effect of claim in abatement, 667, 675. 
 
 Liberty bonds as security, 676. 
 
 method of computing, 670. 
 
 under 1918 Law, 664. 
 
 what included, 665. 
 
 where goods were not sold in 1919, 670. 
 
 where goods were sold in 1919, 670. 
 need of, 388. 
 
 of government contract material, 1031. 
 on what basis to be taken, 388. 
 treatment of futures, 393. 
 valuation of, 394. 
 valuation on basis of average cost or average of market prices not 
 
 allowed, 396. 
 what included in, 389. 
 when use of not permitted, 389. 
 
 INVESTED CAPITAL, 
 
 See Affiliated Corporations; Admissible Assets; Inadmissible Assets; 
 Prewar Period; Surplus and Undivided Profits. 
 
 additions to surplus account, 1064. 
 ' adjustments due to change in taxable year, 1096. 
 adjustments which increase book value of assets, 1080. 
 adjustments which reduce book value of assets, 1080. 
 
 amortization under Munition Manufacturers' Tax, 1094. 
 
 as to inadequate allowance for depreciation or depletion, 1089. 
 
 as to inadmissible assets, 1095. 
 
 as to losses, 1093. 
 
 as to treasury stock, 1081. 
 
 as to value of assets acquired in reorganization, 1082. 
 
 as to value of intangible assets, 1081. 
 
 as to values marked up on books of account, 1086. 
 affiliated corporations, 1132. 
 
1466 INDEX 
 
 [References are to pages. 1 
 
 INVESTED CAPITAL— Continued. 
 
 apportionment of net income and invested capital of corporations 
 
 engaged partly in personal service business, 1025. 
 appreciation may not be included, in, 1086. 
 assessment when Commissioner unable to determine, 1117. 
 assessment without reference to, 1116. 
 bank discount, 1063. 
 bonus stock, 1045. 
 borrowed capital, amounts paid into or left in business, 1070. 
 
 bonds, 1069. 
 
 credit balances to stockholders, accounts, 1071. 
 
 debenture stock, 1068. 
 
 dividends credited to stockholders, 1071. 
 
 informal dividends, 1071. 
 
 not included in, 1066. 
 
 preferred stock, 1068. 
 
 what included in, 1066. 
 brokers' commissions, 1044. 
 cash paid in, 1044. 
 computation of, 1073. 
 conversion of bonds into stock, 1073. 
 
 corporations with no invested capital not subject to 1917 excess- 
 profits tax, 1021. 
 current profits, 1063. 
 defined, 1041. 
 
 discount on sale of bonds, 1062. 
 distinguished from capital sum, 741. 
 dividends paid from surplus, 1097. 
 
 domestic corporations with income from possessions, 1107. 
 effect of additional assessment, 1102. 
 effect of amortization upon, 706. 
 effect of increase of capital stock, 1100. 
 effect of liquidating dividend, 1100. 
 effect of reduction of capital stock, 1100. 
 effect of refund, 1103. 
 effect of stock dividends, 1099. 
 
 evidences of indebtedness are tangible property, 1048. 
 foreign corporations, 1107. 
 for fraction of year, 1103. 
 for prewar period, 1104. 
 for 1917, 1039. 
 for 1918-1921, 1041. 
 good vidll, 1049. 
 
 in case of reorganization, 1043. 
 inclusion of reserves, 1059. 
 insurance companies, 1106. 
 intangible property, 1049. 
 
 acquired for tangible property, 1054. 
 
 paid in both before and after March 3, 1917, 1052. 
 
 paid in on or after March 3, 1917, 1052. 
 
 paid in prior to March 3, 1917, 1051. 
 limitations of additions to surplus, 1065. 
 
INDEX 1467 
 
 [References are to pages!] 
 
 INVESTED CAPITAL— Continued, 
 meaning of, 1041. 
 
 method of determining income available for dividends, 1098. 
 mixed aggregates of tangible and intangible property, 1054. 
 no paid-in surplus as to intangible property, 1053. 
 of affiliated corporations for prewar period, 1135. 
 par value of stock, 1044. 
 patents, 1049, 1061. 
 
 payment of preceding year's excess-profits tax, 1100. 
 penalty in case of inclusion of appreciation in value, 901. 
 presumption as to source of distribution of dividends, 517. 
 property paid in and subsequently vifritten off, 1066. 
 property taken for debt, 1062. 
 reduction of reserves, 1103. 
 reserve for depreciation or depletion, 1060. 
 reserves for taxes, 1060. 
 stock issued for services, 1045. 
 
 stock or shares outstanding on March 3, 1917, 1053. 
 stock sold at a discount, 1044. 
 surplus and undivided profits, 1055. 
 surrender value of insurance policies, 1063. 
 tangible property paid in, 1045. 
 taxes withheld at source, not included in, 1042. 
 trade-marks, 1049. 
 
 value of property as of January 1, 1914, 1041. 
 what included in, 1041. 
 
 INVESTIGATIONS, 
 
 See Examinations of Books. 
 
 INVESTMENT, 
 
 exchange of property held for, does not produce taxable income, 412. 
 property held for, 411. 
 
 INVOLUNTARY SALE, 
 
 compensation for loss, 540. 
 
 compensation for loss under 1921 Law, 541. 
 
 gives rise to income, 539. 
 
 J 
 JOINT STOCK COMPANIES, 
 
 taxed as corporations, 210. 
 
 JOINT STOCK LAND BANKS, 
 
 not exempt under present law, 337. 
 stamp tax on issue of stock, 1176. 
 
 JUDGMENTS,. 
 
 allocation of income from, 806. 
 deduction of amounts paid under, 809. 
 loss due to, 657. 
 
 JURISDICTION OP COURTS, 
 
 to hear internal revenue cases, 933. 
 
1468 INDEX 
 
 LABOR ORGANIZATIONS, 
 exemption of, 315. 
 
 LABOR UNIONS, 
 
 income from benefits, 546. 
 
 LEASES, 
 
 amounts received as compensation for vacating premises, 538. 
 
 constructive receipt of rent, 500. 
 
 cost of buildings erected under terms of, 586. 
 
 deduction of repairs by tenant, 586. 
 
 depletion in case of lessee, 716. 
 
 depletion under prior laws, 728. 
 
 depreciation in case of leases, 681. 
 
 expenses in connection with, 581. 
 
 not subject to stamp tax, 1196, 1203. 
 
 payments by tenant for landlord, 499. 
 
 value of improvements, 497. 
 
 what constitutes cost of, 418. 
 
 LEGACIES, 
 
 income from, 546. 
 
 LIBERTY BONDS, 
 
 carried by banks, 487. 
 
 deduction of interest incurred for the purchase of, 603. 
 
 deposited as security, 676. 
 
 dividends paid in, 529. 
 
 exemption determined by bonds held at end of year, 484. 
 
 exemption in case of affiliated corporations, 260. 
 
 exemption in case of estates and trusts, 119. 
 
 exemption of interest in case of partners, 182. 
 
 exemption of reorganized corporation, 1132. 
 
 exemption of, under 1921 Law, 485. 
 
 exemption to estates and trusts, 483. 
 
 held by banks, 485. 
 
 interest on, received by corporations, 230. 
 
 may be deposited in lieu of surety, 882. 
 
 mortgage bonds exchanged for, 240. 
 
 originally subscribed for and^held at date of return, 483. 
 
 tax exemption of, under 1918 Law, 480. 
 
 LIENS, 
 
 for taxes, in case of corporations, 266. 
 
 for unpaid taxes, 870. 
 
 notice of, 267, 871. 
 
 reorganization prior to attachment of, 267. 
 
 when lien attaches, 266, 872. 
 
 LIFE INSURANCE, 
 
 amounts received as return of premiums exempt, 354. 
 
 deduction of premiums by partnership, 178. 
 
 dividends on policies of, 508, 555. 
 
 exemption of amounts received as return of premiums, 37. 
 
INDEX 1469 
 
 [References are to pages.] 
 
 LIFE INSURANCE— Continued. 
 
 exemption of proceeds of policies, 37. 
 
 income from endowment policies, 555. 
 
 income from proceeds of, 553. 
 
 insurance policies on the tontine plan, 554. 
 
 premiums paid by employer constitute income to employee, 367. 
 
 premiums paid on insurance as security for a loan, deduction of, 574. 
 
 proceeds of, paid to corporations, 230. 
 
 proceeds of policies exempt, 354. 
 
 proceeds of policies paid to estate, 114. 
 
 surrender value of policies, 555. 
 
 taken out on employees, not deductible, 572. 
 
 LIFE INSURANCE COMPANIES, 
 
 See Insurance Companies. 
 taxation of, in general, 274. 
 
 LIMITATION OF TAX, 
 capital gains, 22. 
 sales of mines, oil or gas wells, 21. 
 
 LIMITED PARTNERSHIPS, 
 
 See Partnerships. 
 
 LIQUIDATION, 
 
 corporations partially liquidating, 516. 
 distributions in, under 1918 Law, 511. 
 distribution in, under 1921 Law, 517. 
 proceeds of, received in installments, 515. 
 
 LIQUOR DEALERS AND DISTILLERS, 
 obsolescence in case of, 699. 
 
 LITERARY CORPORATIONS, 
 exempt from tax, 322. 
 
 LIVING QUARTERS, BOARD AND LODGING, 
 income by reason of furnishing of, 369. 
 of federal officers and employees, 373. 
 
 LOCAL BENEFITS, 
 
 assessments against, not deductible, 615. 
 special assessments against, not deductible, 575. 
 
 LOSSES, 
 
 See Net Loss; Worthless Debts. 
 
 amounts paid to make up profits of another corporation, 642. 
 
 arising from theft, 638. 
 
 basis for determining loss in case of gifts, 632. 
 
 bonds purchased above par, 636. 
 
 compensation for, 540. 
 
 compensation for, under 1921 Law, 541. 
 
1470 INDEX 
 
 [References are to •pages.'] 
 
 LOSSES— Continued. 
 
 connected with residential property, 624. 
 cost of drawings, models and patterns, 642. 
 deduction of, by corporations, 236. 
 
 by estates and trusts, 126. 
 
 by farmers, 163. 
 
 by partnerships, 177. 
 
 in general, 621. 
 district irrigation bonds, 646. 
 dividends paid in property, 636. 
 due to adverse judgment, 657. 
 due to guaranteeing bonds, 623. 
 effect of, on invested capital, 1093. 
 embezzlements, 628. 
 embezzlements recovered, 659. 
 exchange of stock under 1918 Law, 634. 
 exchange of stock under 1921 Law, 635. 
 from exchanges of property, 634. 
 
 from fires, storms, shipwreck and other casualties, 636. 
 from rebates, 669. 
 
 claims for, 672. 
 
 claims of partnerships, 674. 
 
 disposition of claims, 675. 
 
 effect of claim in abatement, 675. 
 
 Liberty bonds as security, 676. 
 from sales of property, 632. 
 in case of worthless stock, 645. 
 
 in inventory and from rebates, under 1918 Law, 664. 
 in inventory, claims for, 672. 
 
 claims of partnerships, 674. 
 
 disposition of claims, 675. 
 
 effect of allowance of claim, 666. 
 
 effect of claim in abatement, 667, 675. 
 
 interest on amount of claim disallowed, 868. 
 
 Liberty bonds as security, 676. 
 
 method of computing, 670. 
 
 what included in, 665. 
 
 where goods were not sold in 1919, 670. 
 
 where goods were sold in 1919, 670. 
 in ultra-vires transactions, not deductible, 236. 
 in what year deductible, 811. 
 insurance received in subsequent year, 659. 
 measure of loss, 630. 
 must be sustained during year, 627. 
 new provisions as to deduction of, by present law, 622. 
 not recognized, in case of property held for investment, 634. 
 
 when property transferred to corporation and control re- 
 tained, 634. 
 not sustained in trade, 623. 
 of capital, 629. 
 
 of corporation paid by stockholders, 646. 
 of income, not deductible, 630. 
 
INDEX 1471 
 
 [References are to pages. \ 
 
 LOSSES— Continued. 
 
 of oil and gas, 646. 
 
 of railroad companies, when deductible, 812. 
 
 of useful value, 640. 
 
 on automobiles, 622. 
 
 "other casualty," defined, 637. 
 
 recoveries on, 658. 
 
 reduced by insurance recovered, 812. 
 
 rental value of buildings, 681. 
 
 replacement fund for, 543. 
 
 reserves for, 647. 
 
 reserves for, not deductible, 811. 
 
 sale of capital stock by corporation, 645. 
 
 sale of property acquired by gift, bequest, devise or descent, 825 . 
 
 shrinkage in securities and stocks, 643. 
 
 shrinkage or deterioration in storage, 646. 
 
 sustained in trade or business^ 622. 
 
 trade or business defined, 625. 
 
 transfer of securities to corporation formed for purpose, 644. 
 
 voluntary destruction of property, 639. 
 
 what included in deductions for, 627. 
 
 LOUISIANA, 
 
 community property, 48. 
 
 LUMBER MANUFACTURERS, 
 inventories of, 403. 
 
 M 
 
 MANUFACTURE AND SALE OF PROPERTY, 
 
 income from in case of nonresident aliens, 69. 
 
 MANUFACTURERS, 
 
 selling on coupon system, 387. 
 
 MANUFACTURING CORPORATIONS, 
 gross income of, 227. 
 
 MANUFACTURING ESTABLISHMENT, 
 defined, 1251. 
 subject to child labor tax, 1250. 
 
 MARCH 1, 1913, 
 
 determination of fair market value of mineral property as of, 719. 
 
 dividends from earnings or profits accumulated prior to, 518. 
 
 fair market value as of, 428. 
 
 gain or loss from sale of property acquired prior to, 415. 
 
 interest accruing prior to, 495. 
 
 value as of, for depreciation deduction, 685. 
 
 MARKET VALUE, 
 
 as of March 1, 1913, how determined, 428. 
 defined by Treasury Department, 422. 
 definition of fair market value, if any, 421. 
 determination of, in case of mineral property, 719. 
 distinguished from intrinsic value, 424. 
 
1472 INDEX 
 
 [References are to pages.} 
 
 MARKET VALUE— Continued. 
 
 exchange for different kinds of property, 435, 436. 
 
 exchange of property for stock, 451. 
 
 fair market value, if any, 419. 
 
 intangible property, proof of, 433. 
 
 intrinsic value used to determine, 423. 
 
 must be readily realizable, 419, 427. 
 
 must be readily realizable to give rise to gain, 408. 
 
 of oil or gas properties, 744. 
 
 of timber, determination of, 768. 
 
 present value method, 720. 
 
 proof of, 428, 429. 
 
 appraisals, 430. 
 
 assessment for state tax purposes, 430. 
 
 book value, 431. 
 
 capitalization of income, 431. 
 
 cost or cost of reproduction, 430. 
 
 miscellaneous evidence of, 432. 
 
 prorating on time basis, 431. 
 
 sales or dealings in similar property, 429. 
 property acquired by gift under 1921 Law, 632. 
 property received on reorganizations, 436. 
 stock, proof of, 432. 
 
 use of computing depreciation allowance, 685. 
 when determination of, required, 419. 
 when required in cases of mineral property, 719. 
 
 MASSACHUSETTS TRUSTS, 
 
 credit for taxes in case of, 791. 
 not taxable as corporations, 213. 
 
 MERCANTILE ACCOUNTS CURRENT, 
 withholding at source, 971. 
 
 MERCHANDISE, 
 
 depreciation may not be taken on, 682. 
 
 MERCHANT MARINE ACT, 
 
 exemptions granted by, 1115. 
 
 MERGER, 
 
 See Reorganizations. 
 
 METHODS OF ACCOUNTING, 
 
 See Accounting. 
 accrual basis in case of farmers, 156. 
 
 MILITARY OR NAVAL FORCES, 
 defined, 37. 
 
 MILLS, 
 
 subject to child labor tax, 1250. 
 
INDEX 1473 
 
 [References are to pages.] 
 
 MINE OR QUARRY, 
 
 child labor tax, 1254. 
 
 coke ovens, 1255. 
 
 in or about mines, 1254. 
 
 MINES, 
 
 accumulated depletion, 739. 
 
 allowable capital additions in case of, 739. 
 
 depletion, 735. 
 
 depletion under 1916 Law, 726. 
 
 determination of mineral contents of, 735. 
 
 discovery of, depletion based on, 737. 
 
 oil and gas wells, depreciation of improvements, 714. 
 
 proven tract or lease, 738. 
 
 royalties from, 501. 
 
 sales of, 464. 
 
 statement required when depletion or depreciation claimed, 736. 
 
 MINES, OIL AND GAS WELLS, 
 
 See Mines; Oil and Gas Wells. 
 depletion allowed, 714. 
 excess-profits in case of sale of, 1038. 
 limitation of surtax on sales of, 21. 
 
 MINISTER OF GOSPEL, 
 
 See Clergymen. 
 
 MINORS, 
 
 age of majority, 825. 
 
 citizenship of, 40. 
 
 emancipation of, 825. 
 
 gifts to, 826. 
 
 returns of, 52, 825. 
 
 returns where earnings appropriated by parent, 826. 
 
 MISTAKE, 
 
 of fact, taxes paid under, 886. 
 of law, taxes paid under, 886. 
 payments received through, 547. 
 
 MORATORIUM, 
 
 effect on deduction of bad debts, 652. 
 
 MORRIS PLAN BANKS, 
 
 certificates of deposit of, not subject to stamp tax, 1189. 
 
 MORTGAGES, 
 
 foreclosure of deduction for bad debts, 653. 
 interest on, when assumed by state, 493. 
 not subject to stamp tax, 1203. 
 on real estate, deduction of, 606. 
 
 MUNICIPALITY, 
 
 See Political Subdivision of State. 
 
1474 INDEX 
 
 [References are to pages.] 
 
 MUNITION MANUFACTURERS' TAX, 
 
 amortization under, effect on invested capital, 1094. 
 deduction of, 609. 
 
 MUTUAL DITCH AND IRRIGATING COMPANIES, 
 exemption from tax, 334. 
 stock of, exempt from stamp tax, 1203. 
 
 MUTUAL INSURANCE COMPANIES, 
 
 See Insueance Companies. 
 
 MUTUAL LIABILITY INSURANCE COMPANY, 
 
 exemption from tax, 334. 
 
 MUTUAL ORGANIZATIONS OF LOCAL CHARACTER, 
 exemption from tax, 331. 
 
 MUTUAL SAVINGS BANKS, 
 when exempt, 316. 
 
 N 
 
 NATIONAL BANKS, 
 
 examination of books, 947. 
 
 NATIONAL FARM LOAN ASSOCIATION, 
 dividends from, 508. 
 exempt from tax, 337. 
 interest from, not exempt, 488. 
 
 NET INCOME, 
 
 average for prewar period, 1113. 
 
 computation of, 11. 
 
 defined, 11, 356. 
 
 for excess-profits tax purposes, 1112. 
 
 for taxable year under excess-profits tax, 1114. 
 
 for year 1913, under excess-profits tax, 1113. 
 
 for years 1911, 1912, under excess-profits tax, 1113. 
 
 of aflBliated corporations for prewar period, 1135. 
 
 under 1921 excess-profits tax law, 1015. 
 
 when subject to normal tax, 356. 
 
 NET LOSSES, 
 
 allowance of, 662. 
 
 allowance to partnership or beneficiaries of estate or trust, 663. 
 
 claim for allowance of, 660. 
 
 defined, under 1918 Law, 660. 
 
 definition of, under 1921 Law, 662. 
 
 in case of farmers, 164. 
 
 in case of partnerships, 187. 
 
 limitation on deduction of, under 1918 Law, 660. 
 
 of estates and trusts, 126. 
 
 under 1918 Law, 660. 
 
 under 1921 Law, 662. 
 
 NEVADA, 
 
 community property, 47. 
 
INDEX 1475 
 
 [References are to pages.'] 
 
 NEW MEXICO, 
 
 community property, 48. 
 
 NEWSPAPER PLANTS, 
 
 subject to child labor tax, 1251. 
 
 NOMINAL CAPITAL, 
 
 corporations with, not subject to 1917 excess-profits tax, 1021. 
 examples of corporations with more than, 1022. 
 
 NOMINAL STOCKHOLDERS, 
 
 application of 1918 and present law to, 96. 
 
 certificates issued to bearer, 100. 
 
 procedure, in case of Dutch administration officers, 100. 
 
 where a nonresident, and actual owner a resident, 99. 
 
 where a resident, and actual owner a nonresident, 98. 
 
 where a resident, and actual owner a resident, 98. 
 who are, 95. 
 
 NONRESIDENT ALIENS, 
 
 See Alien Seamen. 
 
 abatement and refund, 86. 
 
 claims for, 87. 
 allowance of credits to, under 1918 Law, 784. 
 allowance of personal exemption to employee, 785. 
 beneficiaries of trust, 77. 
 citizens who are treated as, 57. 
 
 condition of allowance of deductions and credits, 84. 
 credit for dependents not allowed, 83. 
 credit for taxes, in case of, 788. 
 credit of dividends, 66. 
 credits allowed, conditions of allowance, 83. 
 
 dividends, 83. 
 
 interest, 83. 
 
 personal exemption, 83. 
 
 tax withheld at source, 83. 
 credits to, under 1918 Law, 781. 
 credits to, under 1921 Law, 781. 
 deduction of taxes by, 607. 
 deductions allowed, apportionment of, 79. 
 
 charitable contributions, 78. 
 
 condition of allowance, 82. 
 
 in general, 78, 79. 
 
 losses, 78. 
 
 net losses, 79. 
 exemption of earnings from operation of ships, 37. 
 extent to which taxable, 58. 
 income from, dividends, 64. 
 
 fiduciaries, 77. 
 
 interest, generally, 62. 
 
 manufacturing and selling property, 69. 
 
 miscellaneous sources, 69. 
 
 partnerships, 78. 
 
1476 INDEX 
 
 [References are to pages.] 
 
 NONRESIDENT ALIENS— Continued. 
 
 personal services, 66. 
 
 rentals or royalties, 68. 
 
 sales and dealings in real property, 68. 
 interest from obligations of the United States, 64. 
 payment of the tax, 86. 
 
 by resident agents, 94. 
 
 when leaving country, 876. 
 personal exemption, under 1918 Law, 784. 
 procedure of resident agents in collecting income for, 93. 
 rates of tax, 58. 
 resident agents for, 88. 
 returns by, 83. 
 
 agents, 53, 85, 94. 
 
 extension of time, 86. 
 
 failure to file, 86. 
 
 when filed, 86. 
 
 where filed, 85. 
 returns of information as to payments to, 956. 
 specially defined, 58. 
 
 status of, determined on last day of year, 56. 
 taxation of, 44. 
 
 taxation of, under present law, 54. 
 time of payment of tax, 853. 
 
 when entitled to personal exemption under 1918 Law, 782. 
 when returns are filed by, 828. 
 who are, 54. 
 
 who are not resident agents for, 92. 
 who are resident agents for, 91. 
 withholding against, 978. 
 
 NORMAL TAX, 
 
 comparative statement of rates, 21. 
 
 credits against, 356, 744. 
 
 imposition of, 14. 
 
 net income subject to, 356. 
 
 rates under 1918 Law, 20. 
 
 rates under 1921 Law, 20. 
 
 NOTES, 
 
 income from discount, 496. 
 income in form of, 352. 
 market value of, 352. 
 received for services, 371. 
 withholding in case of, 972. 
 
 NOTICE AND DEMAND, 
 
 changes made by 1921 Law, 857. 
 
 duress after receipt of first notice and demand, 892. 
 
 duress after receipt of second notice and demand, 893. 
 
 failure of taxpayer to receive, 858. 
 
 for deficiency, 855. 
 
INDEX 1477 
 
 [References are to pages.] 
 
 NOTICE AND DEMAND— Continued, 
 forms in use, 856. 
 
 for tax remaining unpaid after due date, 855. 
 service of, by mail, 857. 
 service of, to absentees, 858. 
 
 under return made pursuant to Revised Statutes, 855. 
 upon default in payment of installment, 855. 
 with regard to first installment, 856. 
 
 
 
 OBLIGATIONS OF STATES, 
 
 constitutionality of requiring disclosure of interest on, 1009. 
 exemption of interest on, 489. 
 
 OBLIGATIONS OF THE UNITED STATES, 
 information at source of interest on, 955. 
 
 OBSOLESCENCE, 
 
 deduction for, in general, 678. 
 
 defined, 695. 
 
 distillers and dealers in- liquor, 699. 
 
 must be certain to be deductible, 696. 
 
 of good will, 698. 
 
 of intangible property, 698. 
 
 of vineyards, 703. 
 
 under 1916 Law, 697. 
 
 OFFICERS AND EMPLOYEES, 
 
 of federal government, compensation of, 373. 
 
 OFFICERS AND EMPLOYEES OF STATE, 
 compensation of, exempt, 38. 
 income of, not taxed, 378. 
 pensions of, 383. 
 pilot fees not exempt, 383. 
 public library employees, 384. 
 salaries of teachers, 383. 
 who are, 380. 
 who are not, 381. 
 
 OIL AND GAS WELLS, 
 
 See Gas Wells.. 
 
 capital recoverable, by lessee, 742. 
 
 by lessor, 743. 
 
 by operating owner, 742. 
 charges to capital and to expense, 763. 
 computation of allowance for combined holdings, 756. 
 computation of depletion allowance, 745. 
 
 computation of depletion allowance where quantity uncertain, 756. 
 depletion, 740. 
 
 capital sum to be depleted, 740, 741. 
 depletion and depreciation in years before 1916, 765. 
 depreciation of improvements, 764. 
 
1478 INDEX 
 
 [References are to jpagesli 
 
 OIL AND GAS WELLS— Continued. 
 
 determination of cost of deposits, 744. 
 
 determination of quantity of oil and gas in ground, 744 
 
 discovery of, 758. 
 
 estimates of depreciation of physical property, 765. 
 
 estimating recoverable reserves, 744. 
 
 losses of oil and gas, 646. 
 
 maps to be filed, 758. 
 
 physical property, 764. 
 
 private boundary line, 761. 
 
 proof of discovery, 762. 
 
 proven tract or lease, 760. 
 
 revised estimate of reserves, 745. 
 
 sales of, 464. 
 
 statement required where depletion of oil or gas is claimed, 756. 
 
 OPTIONS, 
 
 not subject to stamp tax, 1196. 
 
 to purchase interest in royalties, 538. 
 
 OWNERSHIP CERTIFICATES, 
 execution of, 985. 
 
 foreign items presented for collection unaccompanied by, 958. 
 for foreign items, 956. 
 form of, where withholding required, 988. 
 forms of, 986. 
 furnishing copies of, 847. 
 in case of fiduciaries and joint owners, 994. 
 interest coupons without, 991. 
 interest on registered bonds, 992. 
 procedure with respect to substitute certificates, 989. 
 release of excess tax withheld, 993. 
 return of tax withheld, 993. 
 rules for use of forms, 986. 
 
 table for use of ownership and substitute certificates, 987. 
 use of in connection with withholding, 984. 
 use of information where no actual withholding, 994. 
 use of substitute certificates, 989. 
 when conditions change between interest dates, 985. 
 when required, 984. 
 
 P 
 PAID-IN SURPLUS, 
 
 no paid-in surplus as to intangible property, 1053. 
 record to be kept by Commissioner, 1047. 
 surplus and undivided profits, 1056. 
 tangible property paid in, 1045. 
 
 PARCEL POST PACKAGES, 
 
 not subject to stamp tax under present law, 1203. 
 
 PARTNERSHIP BUSINESS, 
 
 election as to being taxed as corporation when incorporated, 218. 
 
PARTNERSHIPS, 
 
 INDEX 1479 
 
 [References are to pages."] 
 See Foreign Partnerships. 
 
 allowance of net loss to, 663. 
 
 claims of, for loss in inventory or from rebates, 674. 
 
 consisting of corporations, 174. 
 
 contributions to charities, 184. 
 
 corporations can not generally enter into, 172. 
 
 credit for taxes, 184. 
 
 credit for taxes in case of members of, 791. 
 
 credit "of dividends allowed partners, 181. 
 
 credit of interest allowed partners, 181. 
 
 deductions allowed, 177. 
 
 business expense, 177. 
 
 insurance premiums, 178. 
 
 losses, 177. 
 
 profit sharing, 178. 
 distinguished from association, 1141. 
 distribution of profits, 179. 
 dividends from limited partnerships, 170. 
 domestic and foreign, defined, 166. 
 examination of partnership records, 190. 
 excessive payments of compensation, 594. 
 exemption of interest on state bonds, 183. 
 fiscal year of, 186. 
 
 fiscal year of partnership and partners differing, 186. 
 general or common law, 173. 
 how taxed, 166. 
 
 income exempt to partners, 184. 
 incorporation of, excess-profits tax in case of, 1131. 
 inspection of partnership returns, 842. 
 joint owner and joint adventure, 171. 
 limited partnership as corporation, 1142. 
 limited partnerships as, 1141. 
 limited partnerships, how taxed, 167. 
 
 what are, 168. 
 may exist by virtue of single transaction, 172. 
 net income of, 176. 
 net losses of, 187. 
 
 nonresident aliens receiving income from, 78. 
 not subject to excess-profits tax, except under 1917 Law, 1020. 
 operating abroad, 175. 
 partnership associations, how taxed, 169. 
 partner with fiscal period different from partnership, 166. 
 penalties against members of, 902. 
 penalties in case of, 190. 
 private or partnership banks, 170. 
 procedure in collecting income, 175. 
 profits earned prior to March 1, 1913, 188. 
 profits to be reported by partners, 179. 
 readjustment of partnership interest, 185. 
 
1480 INDEX 
 
 [References are to pages.'] 
 
 PARTNERSHIPS— Continued, 
 returns by, 188. 
 
 contents of, 189. 
 
 of information, 190. 
 
 tax withheld at source, 189. 
 
 when acting as brokers, 190. 
 returns of information by, 961. 
 taxation of, 17. 
 taxation of capital gains, 410. 
 what constitutes, 171. 
 
 when copies of returns will be furnished, 847. 
 when salaries of partnerships withheld, 967. 
 which paid an excess-profits tax on 1918 income, 1021. 
 withholding against, 979. 
 withholding at source against, 175. 
 withholding at source by, 176. 
 
 PAR VALUE, 
 
 effect of, on income from exchange of stock, 446. 
 
 PASSAGE TICKETS, 
 
 See Stamp Tax. 
 
 PATENTS, 
 
 deduction of expenses relating to, 583. 
 
 depreciation allowed, 683. 
 
 inclusion in invested capital, 1061. 
 
 may be included in invested capital, 1049. 
 
 proof of value of, 433. 
 
 royalties from, 503. 
 
 terms of in various countries, 684. 
 
 PAYMENT OF TAX, 
 
 See Notice and Demand; Protest; Recovery of Taxes. 
 appeal against deficiency, 849. 
 by certificates of indebtedness, 879. 
 by check, 878. 
 by nonresident aliens, 853. 
 by nonresident foreign corporations, 853. 
 by receivers, 851. 
 capital stock tax, 1160. 
 child labor tax, 1259. 
 citizens residing abroad, 41. 
 conditions under which extensions granted, 865. 
 corporations, 264. 
 "deficiency," defined, 849. 
 deposit of United States bonds, 882. 
 effect of failure to pay installment when due, 848, 853. 
 excess-profits tax, 1137. 
 extension of time, 865. 
 extension of time for, 853. 
 failure to disclose profits on sale of capital assets, 854. 
 
INDEX 
 
 [References are to pages."] 
 
 PAYMENT OF TAX— Continued, 
 farmers, 165. 
 
 first installment, instructions on form deemed notice, 848. 
 general requirements as to, 18. 
 in case of taxpayer's leaving country, 874. 
 interest on delinquent taxes, 866. 
 interest when time extended, 853. 
 may be by single payment, 854. 
 medium of payment, 878. 
 
 new provision of present law as to extensions, 865. 
 nonresident aliens, 86. 
 notice and demand for, 848. 
 notice of deficiency, 849. 
 not recoverable when paid voluntarily, 886. 
 payable in installments, 848. 
 payment of deficiency, 849, 855. 
 
 payment of stamp taxes under protest and duress, 1247. 
 penalty for deficiency, 849. 
 penalty for failure to pay tax, 904. 
 procedure of collector with respect to checks, 878. 
 procedure with respect to certificates of indebtedness, 880. 
 receipts for, 881. 
 
 form of, 881. 
 
 taxes withheld at source, 882. 
 recovery of taxes paid, 883. 
 remittances by mail, 852. 
 resident citizens, 41. 
 time of payment, 852. 
 to whom made, 881. 
 under protest, 884. 
 when duress exists, 892. 
 when extension granted, 866. 
 when installments due, 848. 
 where claim for credit denied, 928. 
 where claim in abatement denied, 917. 
 where property taken over by alien property custodian, 873. 
 
 PENALTIES, 
 
 See Compromises. 
 
 against officer of corporation or member of partnership, 902. 
 
 applicable to partnerships, 190. 
 
 applicable to war-profits and excess-profits taxes, 1138. 
 
 attempts to evade the tax, 903. 
 
 banks deducting taxes paid for shareholders, 901. 
 
 capital stock tax, 1160. 
 
 child labor tax, 1260. 
 
 compromise of, 907. 
 
 compromise of specific and ad valorem, 909. 
 
 corporations subject to, 270. 
 
 deficiency due to fraud, 898. 
 
 delay in payment of tax, 904. 
 
 duty of collector regarding violations of law, 911. 
 
 1481 
 
1482 INDEX 
 
 [References are to pages.] 
 
 PENALTIES— Continued. 
 
 failure to file return, 896. 
 failure to file return when not asserted, 897. 
 failure to pay installment on time, 853. 
 failure to pay tax, 904. 
 farmers subject to, 165. 
 for deficiency, 849. 
 for divulging information, 905. 
 foreign corporations subject to, 308. 
 for failure to file withholding returns, 903. 
 for failure to supply information at source, 902. 
 for false returns, 898. 
 for fraudulent returns, 901. 
 
 for including appreciation in value in invested capital, 901. 
 for omitting gains from sale of capital assets, 901. 
 for understatement, 898. 
 
 for violating provisions relating to removal of person or property 
 from country, 877. 
 
 in case of fiduciaries, 149. 
 
 in connection with stamp taxes, 1239. 
 
 in general, 896. 
 
 intentional neglect or refusal to make returns, 898. 
 
 interest in case of deficiency, 899. 
 
 interest on delinquent taxes, 866. 
 
 negligence without intent to defraud, 899. 
 
 not asserted against corporation taking deduction for Red Cross 
 contribution, 900. 
 
 recovery of unauthorized penalties, 934. 
 
 return made in good faith, 899. 
 
 statute of limitations, 905. 
 
 suits to enjoin collection of, 896. 
 
 what constitutes false return, 899. 
 
 when ad valorem penalties enforceable, 896. 
 
 PENSIONS, 
 
 exemption of, from the United States, 37. 
 
 may be income, 547. 
 
 received by officers and employees of state, 383. 
 
 when deductible, 598. 
 
 when exempt, 355. 
 
 PERIODS OF ACCOUNTING, 
 
 See Accounting Period. 
 
 PERSONAL EXEMPTION, 
 
 See Head of Family. 
 allowance of, to nonresident alien employee, 785. 
 allowed to head of family, 777. 
 amount of, 776. 
 
 credited against normal tax, 774. 
 date determining, 780. 
 of nonresident aliens under 1918 Law, 784. 
 
INDEX 1483 
 
 [JReferences are to pages."] 
 
 PERSONAL EXEMPTION— Continued, 
 in case of husband and wife, 779. 
 nonresident aliens, 83. 
 under present and 1918 Laws, 13. 
 when nonresident alien is entitled to, under 1918 Law, 782. 
 
 PERSONAL LIVING OR FAMILY EXPENSES, 
 may not be deducted, 565. 
 
 PERSONAL PROPERTY, 
 
 See Installment Sales. 
 
 PERSONAL SERVICE CORPORATIONS, 
 abolition of, 194. 
 
 acquisition of title to products sold, 202. 
 activities of stockholders, 197. 
 
 change in ownership, 199. 
 
 stock interest required, 198. 
 advancing funds, 203. 
 alternative retroactive tax on, 207. 
 
 apportionment of invested capital and net income, 1025. 
 certain corporations excluded, 195. 
 computation of tax when only partially engaged in personal service 
 
 business, 1025. 
 constitutionality of tax on, 207. 
 corporations engaged in business in, 225. 
 
 corporations engaged partly in personal service business, 1024. 
 credits allowed stockholders, 206. 
 definition of, 161, 195. 
 distributive shares of stockholders, 205. 
 dividends of, 204. 
 employing agencies, 203. 
 employment of capital by 199. 
 
 inference from use of capital, 200. 
 engaging in more than one business, 197. 
 examples of, 201. 
 
 examples of corporations held not to be, 203. 
 excess-profits tax does not apply to, 1017. 
 exempt from tax, 337. 
 extension of credit by, 203. 
 fiscal year ending in 1922, 821. 
 formed to evade surtaxes, 207. 
 how taxed, 194, 270. 
 income from, when to be reported, 805. 
 liability to consignor for selling price of product, 203. 
 not subject to excess-profits tax, 1021. 
 ownership of property by, 202. 
 personal services rendered by, 196. 
 procedure in claiming personal service status, 206. 
 returns by, 204. 
 
 contents of returns, 204. 
 returns of information by, 961. 
 taxation of dividends from, 510. 
 
1484 INDEX 
 
 [References are to pages.^ 
 
 PERSONAL SERVICE CORPORATIONS— Continued, 
 under 1917 excess-profits tax law, 1021. 
 withholding against, 979. 
 with nominal capital not subject to 1917 excess-profits tax, 1021. 
 
 PERSONAL SERVICES, 
 
 See Salaries. 
 cancellation of debt because of, 368. 
 income from, 364. 
 
 in case of nonresident aliens, 66. 
 
 taxable in whatever form paid, 364. 
 paid for in other than cash, 369. 
 rendered by personal service corporations, 196. 
 rendered prior to March 1, 1913, 371. 
 wages of alien seamen, 67. 
 what constitutes reasonable compensation for, 591. 
 
 PHILIPPINE ISLANDS, 
 
 income tax in, 11, 225. 
 
 taxation of individuals between United States and, 44. 
 
 PILOT FEES, 
 
 not exempt from tax, 383. 
 
 PLAYING CARDS, 
 
 penalty for selling without stamps, 1240. 
 stamp tax on, 1205. 
 
 POLITICAL SUBDIVISION, 
 
 of foreign governments, 310. 
 
 of state, defined, 490. 
 
 of state, interest from obligations of, exempt, 490. 
 
 PORTO RICO, 
 
 corporations engaged in business in, 225. 
 
 income tax in, 11, 225. 
 
 taxation of individuals between United States and, 44. 
 
 POSSESSIONS OF THE UNITED STATES, 
 interest on obligations of, 488. 
 taxation of citizens of, 10, 54. 
 withholding against citizens of, 978. 
 
 POSTAL SAVINGS ACCOUNTS, 
 
 exemption of interest upon, 488. 
 
 POWER OF ATTORNEY, 
 
 See Stamp Tax. 
 cannot create fiduciary relationship, 104. 
 sufficient authority for filing claim for refund, 924. 
 
 PREMIUM, 
 
 interest on bonds purchased at, 495. 
 municipal bonds purchased at, 462. 
 treatment of bonds issued at, 238. 
 
INDEX 1485 
 
 [References are to pages.] 
 PRESENT VALUE METHOD, 
 
 of establishing market value of mineral property, 720. 
 salary of, 38, 378. 
 
 PRE-WAR PERIOD, 
 
 adjustment for assets differently valued in pre-war invested capital, 
 
 1104. 
 average invested capital for pre-war period, 1106. 
 average net income for, 1113. 
 corporations which had no pre-war period, 1109. 
 defined, 1032. 
 
 invested capital of afHliated corporations, 1135. 
 net income of affiliated corporations, 1135. 
 reorganization after January 1, 1911, 1105. 
 
 PRIVATE BANK, 
 
 not an association, 217. 
 
 PRODUCTIVE USE, 
 
 property held for, 411. 
 
 PROFESSIONAL EXPENSES, 
 deduction of, 583. 
 
 PROFITS, 
 
 See Income. 
 unreasonable accumulation of, 33. 
 
 PROFIT SHARING, 
 
 by partnership, 178. 
 
 employees' fund, income from, 545. 
 
 income from, 365. 
 
 payments constituting, to be withheld, 968. 
 
 trusts as part of plan for, 102. 
 
 when payments deductible, 595. 
 
 PROMISSORY NOTES, 
 
 See Notes; Stamp Tax. 
 
 PROPERTY, 
 
 See Exchanges of Property; Intangible Property; Sales. 
 acquired before March 1, 1913, basis for determining gain or loss, 415. 
 acquired by bequest, devise or inheritance, gain or loss from sale of, 
 
 456. 
 acquired by gift, basis for determining gain or loss from sale of, 414. 
 acquired by gift, income from, 548. 
 acquired by gift, sale of, 458. 
 
 appreciations on, may not be included in invested capital, 1086. 
 Ibasis for determining gain or loss from sale of, 414. 
 compensation when destroyed, 540. 
 constitutionality of taxing gains from sales of, 1008. 
 cost of, 417. 
 
 deduction of insurance on, 587. 
 dividends paid in, 527. 
 
1486 INDEX 
 
 [References are to pages!] 
 
 PROPERTY— Continued. 
 
 excess of salvage value plus depreciation over cost in case of discarded 
 
 property, 545. 
 exchanged for different kinds of, 435, 436. 
 exchanged for stock, 451. 
 fair market value of, 419. 
 held for investment, exchange of, 411. 
 
 no loss recognized from exchange of, 634. 
 held for productive use, exchange of, 411. 
 losses connected with residential property, 624. 
 losses from exchanges of, 634. 
 losses from sales of, 632. 
 loss from voluntary destruction of, 639. 
 loss when dividends paid in, 636. 
 personal property sold on installment plan, 465. 
 readily realizable market value, 427. 
 selling price of, 419. 
 sold on installment plan, 464. 
 
 subsequent sale of, when received in exchange, 417. 
 the cost of which may be amortized, 707. 
 
 value of, as of January 1, 1914, for excess-profits tax purposes, 1041. 
 when considered of "like kind", 412. 
 when depreciable, 679. 
 
 PROTEST, 
 
 See Duress. 
 at time of filing return, 884. 
 form of, 884. 
 
 necessary in order to maintain a suit, 936. 
 not alone sufficient, 885. 
 payment of stamp taxes under, 1247. 
 
 PROXIES, 
 
 See Stamp Tax. 
 
 PUBLIC LIBRARY EMPLOYEES, 
 
 taxation of compensation of, 378. 
 
 PUBLIC UTILITIES, 
 
 deduction of payment from earnings of, 601. 
 
 deductions allowed, 572. 
 
 effect of book entries, 343. 
 
 exemption of income derived from operation of, 38. 
 
 income from, exempt, 355. 
 
 income of, 572. 
 
 income of, exemption of, 357. 
 
 R 
 
 RACE TRACK WINNINGS, 
 
 to be withheld at source, 971. 
 
 RAILWAYS, 
 
 See Transportation Systems. 
 
INDEX 1487 
 
 [References are to pages. 1 
 RATES OF TAX, 
 
 capital stock tax, 1143. 
 
 child labor tax, 1258. 
 
 comparative statement of normal rates, 21. 
 
 comparative statement of surtax rates, 23. 
 
 corporations, 209. 
 
 dividends taxed formerly under rates for previous years, 537. 
 
 excess-profits tax, 1017. 
 
 foreign corporations, 297. 
 
 in case of capital gains, 409. 
 
 maximum limit of excess-profits tax, 1037. 
 
 nonresident aliens, 58. 
 
 normal tax under 1918 Law, 20. 
 
 normal tax under 1921 Law, 20. 
 
 on corporations deriving income from government contracts, 1027. 
 
 to be withheld in case of tax-free covenant bonds, 999. 
 
 under 1917 excess-profits tax law, 1016, 1033. 
 
 under 1918 excess-profits tax law, 1034. 
 
 under 1919, 1920 and 1921 excess-profits tax law, 1034. 
 
 war-profits tax, 1017. 
 
 READILY REALIZABLE MARKET VALUE, 
 what constitutes, 427. 
 
 REAL ESTATE, 
 
 See Deferred Payments. 
 
 contracts to convey not subject to stamp tax, 1195. 
 
 deduction for depreciation, 681. 
 
 deduction of interest on mortgage, 606. 
 
 sale of, in lots, 477. 
 
 sales of, involving deferred payments, 474. 
 
 REBATES, 
 
 losses from, 669. 
 
 claims for, 672. 
 
 claims of partnerships, 674. 
 
 disposition of claims, 675. 
 
 eflTect of claim in abatement, 675. 
 
 Liberty bonds as security, 67.6. 
 
 under 1918 Law, 664. 
 
 RECEIPTS, 
 
 accounting on basis of actual receipts, 795. 
 
 actual receipts taxed, 343. 
 
 by agent is receipt by principal, 348. 
 
 for payment of tax, 881. 
 
 for taxes withheld at source, 882. 
 
 form of for taxes paid, 881. 
 
 rent received in kind, 499. 
 
1488 INDEX 
 
 [References are to pages.'\ 
 RECEIVERS, 
 
 See Fiduciaries. 
 
 for corporations, duties of, 242. 
 
 in charge of part of property only, 244. 
 
 payment of taxes by, 851. 
 
 returns by, 242. 
 
 RECORDS, 
 
 taxpayers to keep, 13. 
 
 RECOVERY OF TAXES, 
 
 See Abatement, Credit and Refund. 
 
 by action at law, 883. 
 
 claims for refund of sums recovered by suit, 938. 
 
 from Commissioner, 883. 
 
 interest on refunds and judgments under present law, 939. 
 
 interest recoverable against collectors, 940. 
 
 jurisdiction of courts, 933. 
 
 prerequisites to suit, 934. 
 
 protest and duress a prerequisite for, 885. 
 
 recovery of costs, 941. 
 
 recovery of interest, 939. 
 
 reopening of cases, 942. 
 
 statute of limitations upon suits, 935. 
 
 suits against collectors, 936. 
 
 suits against the United States, 938. 
 
 suits when claim rejected by Commissioner, 932. 
 
 who may claim, 913. 
 
 RED CROSS, 
 
 donations to, not deductible, 238, 600. 
 
 penalties not asserted for deduction of contributions to, 900. 
 
 REFUND, 
 
 See Abatement, Credit and Refund. 
 REGULATIONS, 
 
 See Rulings and Regulations. 
 
 RELIGIOUS, CHARITABLE, SCIENTIFIC OR EDUCATIONAL COR- 
 PORATIONS, 
 
 deductions of contributions to, 561. 
 
 RELIGIOUS CORPORATIONS, 
 exempt from tax, 322. 
 
 RENT, 
 
 constructively received, 500. 
 
 deduction of, 581. 
 
 income from, 479, 497. 
 
 income from in case of nonresident aliens, 68. 
 
 paid for residential property, not deductible, 583. 
 
 received in kind, 499. 
 
INDEX 1489 
 
 [References are to 'pages.] 
 
 RENT— Continued. 
 
 received in kind by farmer, 157. 
 to be withheld at source, 972. 
 value of improvements made by, 497. 
 when not reported at source, 954. 
 
 REORGANIZATIONS, 
 
 after January 1, 1911, effect on prewar invested capital, 1106. 
 
 "aggregate par value" of stock, 440. 
 
 defined, 441. 
 
 entitling corporations to revaluation, 1084. 
 
 exchange of stock for stock of greater par value, 446. 
 
 fair market value of property sold, 419. 
 
 gain or loss from, 408. 
 
 gain or loss from subsequent sale of stock received on, 444. 
 
 invested capital of new corporation, 1043. 
 
 losses in connection with, 634. 
 
 losses under 1921 Law, 635. 
 
 prior to attachment of lien, 267. 
 
 profit arising from, under 1918 Law, 438. 
 
 profit from, 436. 
 
 property dividend upon, 529. 
 
 value of assets acquired in, 1082. 
 
 REPAIRS, 
 
 made by tenant, deduction of, 586. 
 
 to property on which depreciation is claimed, 689. 
 
 when deductible, 584. 
 
 REPLACEMENT FUND FOR LOSS, 
 procedure for establishing, 544. 
 surplus and undivided profits, 1056. 
 use of, 543. 
 
 REPRESENTATIVE CORPORATIONS, 
 
 See Excess-Profits Tax. 
 assessment by reference to, 1116. 
 
 ratio between average tax and average net income, 1128. 
 what are, 1127. 
 
 RESERVES, 
 
 deduction of required addition to, by insurance companies, 291. 
 
 distribution from depletion or depreciation reserves, 525. 
 
 for bad debts under 1921 Law, 655. 
 
 for cash discounts, not deductible, 647. 
 
 for depreciation, 694. 
 
 for depreciation or depletion, inclusion in invested capital, 1060. 
 
 for losses, deduction of, 647. 
 
 for taxes, inclusion in invested capital, 1060. 
 
 inclusion in invested capital, 1059. 
 
 not deductible, 587. 
 
 of oil and gas, method of estimating, 744. 
 
 reduction of, effect on invested capital, 1103. 
 
 to meet liabilities, deduction of, 810. 
 
1490 INDEX 
 
 [References are to pages.'\ 
 RESIDENCE, 
 
 loss of, by aliens, 43. 
 of alien employees, 981. 
 of corporations, 224, 298. 
 proof of, by aliens, 42. 
 
 RESIDENT AGENTS, 
 
 distinguished from withholding agents, 89. 
 
 duties and liabilities of, 88, 93. 
 
 for nonresident aliens and foreign corporations, 88. 
 
 lack of authority under present law, 88. 
 
 necessity for, 90. 
 
 payment of tax for nonresident principal, 94. 
 
 procedure in collecting income, 98. 
 
 returns for nonresident principal, 94. 
 
 use of substitute certificates by, 989. 
 
 who are, 91. 
 
 who are not, 92. 
 
 RESIDENTIAL PROPERTY, 
 
 losses connected with, 624. 
 
 RETAIL DRY GOODS MERCHANTS, 
 inventories of, 403. 
 
 RETROACTIVE TAX, 
 
 on personal service corporations, 207. 
 
 RETURNS, 
 
 See Corporations; Fiduciaries; Nonresident Aliens; Penalties. 
 assistance by collectors, 837. 
 by agents, 827. 
 by clearing houses, 1230. 
 by Commissioner, 859. 
 by corporations, 245. 
 
 by corporations claiming exemption, 314. 
 by individuals, 823. 
 
 husband and wife, 823. 
 
 minors, 825. 
 
 when required, 823. 
 by persons making sales of stock, 1228. 
 by receivers, 242. 
 by resident agents, 89. 
 capital stock tax, 1156. 
 child labor tax, 1259. 
 
 consolidated returns by corporations, 251. 
 decedent's estate during administration, 129. 
 
 effect of failure to disclose income from sale of capital assets, 854. 
 excess-profits tax, 1136. 
 excess-profits tax, in special cases, 1137. 
 exempt income, 493. 
 extension of time, 830. 
 
 by collector, 830. 
 
 by Commissioner, 831. 
 
 to enemies, 833. 
 
 to persons abroad, 832. 
 
INDEX 1491 
 
 \_References are to pages.] 
 RETURNS— Continued, 
 farmers, 165. 
 fiduciaries, 140. 
 fiscal year of corporation, 245. 
 foreign corporations, 306. 
 foreign fiduciaries, 150. 
 forms to be used, 834. 
 from whom required, 822. 
 furnishing copies of, 846. 
 general requirements as to, 12. 
 incompetents, 52. 
 individuals, 13. 
 inspection of, 840. 
 
 by government officers, 843. 
 
 by state officers, 844. 
 
 corporation returns, 842. 
 
 furnishing copies, 841, 845. 
 
 partnership returns, 842. 
 
 returns of individuals, 841. 
 insurance companies, 295. 
 last due date, 829. 
 made by agents, 52. 
 
 made by collector on failure of taxpayer, 837. 
 mailing returns, 829. 
 minors, 52. 
 
 must be made on basis of taxpayer's accounting period, 816. 
 nonresident aliens, 83. 
 notice of failure to file, 839. 
 of income from which tax withheld, 995. 
 of incompetents, 827. 
 of information as to foreign items, 958., 
 of information at source, 961. 
 of tax withheld, 993. 
 
 of withholding agents, penalties connected with, 903. 
 partnerships, 188. 
 
 penalties for disclosing contents of, 840. 
 personal service corporations, 204. 
 primary due date, 828. 
 
 procedure in respect of erroneous returns, 838. 
 requirements as to first returns, 817. 
 special returns of foreign corporations, 308. 
 tentative returns, 834. 
 understatement in, 838. 
 use of amended returns, 839. 
 use of, in litigation, 846. 
 use of prescribed forms, 835. 
 verification abroad, 837. 
 verification in army and navy, 837. 
 verification of, 836. 
 when accounting period changed, 829. 
 when filed, 828. 
 where filed, 828. 
 
1492 INDEX 
 
 [References are to pages.] 
 REVENUE ACT OF 1916, 
 
 admiijistered with 1917 Law, 3. 
 
 REVENUE ACT OF 1918, 
 
 history of enactment of, 3. 
 repeal of, 2. 
 
 REVENUE ACT OF 1921, 
 
 changes in taxation of corporations, 209. 
 
 changes introduced by, 1. 
 
 compared with 1918 Law, 2. 
 
 effective date of, 1. 
 
 rates under, 1. 
 
 remedial changes made by, 1. 
 
 REVENUE AGENTS AND INSPECTORS, 
 duties of, 5. 
 instruction given to, 949. 
 
 REWARDS, 
 
 constitute income, 369. 
 
 RIGHTS, 
 
 to subscribe to stock, income from, 548. 
 
 ROYALTIES, 
 
 amount paid for option to purchase interest in, 538. 
 
 dividends in form of, 506. 
 
 from mines, 501. 
 
 from mines, held income under 1909 Law, 731. 
 
 from patents and copyrights, 503. 
 
 income from, 479, 501. 
 
 income from in case of nonresident aliens, 68. 
 
 returned in year received, 800. 
 
 to be withheld at source, 972. 
 
 RULINGS AND REGULATIONS, 
 
 authorization to Commissioner to make, 7. 
 
 force and effect of, 7. 
 
 informal rulings, 8. 
 
 publication of, bulletin service, 9. 
 
 retroactive effect of, 10. 
 
 RUSSIAN BANK DEPOSITS, 
 
 when considered worthless, 653. 
 
 SALARIES, 
 
 See Compensation for Services. 
 
 constituting a waste of assets, 594. 
 constituting distribution of dividends, 593. 
 constituting part payment for property, 594. 
 constituting purchase price of property, 365. 
 deduction of, 590. 
 deduction of, by farmers, 162. 
 
INDEX 141)3 
 
 [References are to pages.} 
 SALARIES— Continued. 
 
 income of year in which actually received, 364. 
 
 information at source respecting, 952. 
 
 may be distributions of profits, 364. 
 
 of federal judges, 377. 
 
 paid by exempt corporations, 364. 
 
 paid in other than cash, 369. 
 
 paid to enlisted men, 595. 
 
 paid to teachers, when exempt, 383. 
 
 President of the United States and federal judges, exemption of, 
 
 38, 378. 
 representing appropriation of assets, 365. 
 taxable in whatever form paid, 351. 
 what constitutes reasonable amount, 591. 
 when withheld at source, 567. 
 
 SALES, 
 
 See Capital Gains; Deferred Payments; Installment Sales; In- 
 voluntary Sale. 
 
 annual produce sold by farmers, 157. 
 
 basis for determining gain or loss from, 413. 
 
 constitutionality of taxing gains from sales, 1008. 
 
 corporate bonds issued at premium or discount, 238. 
 
 corpus of estate or trust, 112. 
 
 dealings in bonds, 461. 
 
 defined, 69. 
 
 effect of, in establishing market value, 423. 
 
 evasion of tax by sale of corporate assets to trustees, 455. 
 
 fair market value as of March 1, 1913, 428. 
 
 farm property, 159. 
 
 gain or loss from sale of property acquired before March 1, 1913, 415. 
 
 income from sale of good will, 551. 
 
 income from sale of war savings stamps, 551. 
 
 installment sales of real property by a decedent, 115. 
 
 involving installment and deferred payments, 464. 
 
 live stock sold by farmers, 157. 
 
 losses from, 632. 
 
 losses on sale of residential property, 624. 
 
 loss from sale of stock or securities, 633. 
 
 made by foreign partnerships, 192. 
 
 mines, oil or gas wells, excess-profits tax in case of, 1038. 
 
 mines, oil or gas wells, limitation of surtax, 21. 
 
 no loss from sale of capital stock by corporation, 645. 
 
 of amortized property, 711. 
 
 of assets in view of liquidation, 228. 
 
 of capital assets by corporation, 228. 
 
 of capital stock by corporation, 227. 
 
 of homestead, 461. 
 
 of insurance policies, 462. 
 
 of mines, oil and gas wells, 464. 
 
 of produce on exchange, stamp tax on, 1209. 
 
 of property received on an exchange, 417. 
 
1494 INDEX 
 
 [References are to pages!] 
 
 SALES — Continued. 
 
 property acquired by bequest, devise or inheritance, 456. 
 
 property acquired by gift, 458. 
 
 real estate involving deferred payments, 474. 
 
 real estate sold in lots, 477. 
 
 real property in case of nonresident aliens, 68. 
 
 sales or actual dealings in similar property, 429. 
 
 stamp tax on sales and transfers of capital stock, 1177. 
 
 stock dividend resulting from revaluation of assets, 536. 
 
 stock received as dividend, 534. 
 
 subsequent sale of stock of greater par value than that exchanged, 
 
 450. 
 subsequent sale of stock received on an exchange, 444. 
 taxation of capital gains, 409. 
 when income from contingent transactions to be reported, 803. 
 
 SALES AND DEALINGS IN PROPERTY, 
 
 See Exchanges of Property; Sales. 
 
 SCIENTIFIC CORPORATIONS, 
 exempt from tax, 322. 
 
 SCRIP, 
 
 bond interest paid in, 494. 
 
 dividends paid in, 530. 
 
 withholding at source when interest paid in, 977. 
 
 SELLING PRICE, 
 
 what constitutes, 419. 
 
 SERVICES, 
 
 See Personal Services. 
 
 SHIP OWNERS MUTUAL PROTECTION AND INDEMNITY ASSOCIA- 
 TIONS, 
 
 exemption of receipts from, 38, 355. 
 
 SHIPPING, 
 
 income of nonresident aliens and foreign corporations from, when 
 exempt, 355. 
 
 SINKING FUNDS, 
 
 income from, 228. 
 
 income from increment to, 546. 
 
 SOCIETIES, 
 
 fraternal beneficiary society, when exempt, 317. 
 
 SOLDIERS AND SAILORS, 
 compensation of, 374. 
 
 payments to, by government, not to be reported at source, 954. 
 verification of returns by, 837. 
 
 when compensation not within 1918 Law exemption, 375. 
 when compensation within 1918 Law exemption, 376. 
 where returns are filed, 828. 
 
INDEX 1495 
 
 IReferences are to pages.] 
 
 SOURCES WITHIN THE UNITED STATES, 
 income from, 59. 
 
 SPECIAL EXCISE TAX, 
 
 See Capital Stock Tax. 
 
 STAMP TAX, 
 
 abstracts of title not subject to, 1195. 
 
 acts imposing, 1162. 
 
 bonds given in a penal sum, 1167. 
 
 bonds of indebtedness, 1166. 
 
 business property investment bonds, 1167, 1175, 1189. 
 
 cancellation of stamps, 1164. 
 
 capital stock, sales and transfers, 1177. 
 
 certificates of deposit, 1189. 
 
 of deposit of Morris-Plan banks exempt, 1189. 
 
 of indebtedness, 1189. 
 
 of indebtedness, issued by receivers, 1190. 
 
 of interest in property or accumulations, 1174. 
 
 of profits, 1174, 1188. 
 
 of stock, 1174. 
 checks, 1190. 
 
 checks or drafts drawn otherwise than at sight or on demand, 1217. 
 conditional bills of sale, 1190. 
 constitutionality of, 1245. 
 
 contract to convey real estate not subject to, 1195. 
 contract to issue stock, 1170. 
 conveyances, 1190. 
 
 abstracts of title, 1195. 
 
 by and to United States and political subdivisions, 1196. 
 
 by mortgagor to mortgagee, 1196. 
 
 by officers of courts, 1197. 
 
 consideration or value, 1191. 
 
 contracts to convey, 1195. 
 
 incumbrance on property at time of sale, 1195. 
 
 mining deeds, 1196. 
 
 of dower, 1195. 
 
 property in a foreign country, 1197. 
 
 realty sold, 1191. 
 
 timber deeds, 1196. 
 
 to or by alien property custodian, 1197. 
 
 when not subject to tax, 1193. 
 
 when tax accrues, 1191. 
 
 where stamps are affixed, 1191. 
 
 who affixes stamps, 1190. 
 date of incidence, 1162. 
 debentures, 1198. 
 definitions, 1166. 
 drafts, 1198. 
 
 drafts delivered in foreign countries, 1220. 
 drafts drawn against exports, 1218. 
 entry for withdrawal of goods from customs bonded warehouse, 1198. 
 
1496 INDEX 
 
 [References are to pages.'] 
 
 STAMP TAX— Continued. 
 
 entry of goods at customhouse, 1198. 
 
 exchange defined, 1225. 
 
 exempt bonds, 1168. 
 
 exemption of bonds of United States, foreign governments and 
 
 political subdivisions, 1170. 
 exemption of stock and bonds of building and loan associations, 1169. 
 exemptions, 1163. 
 
 Federal Land Banks, stock of, 1176. 
 foreign insurance policies, 1199. 
 
 credits and refunds, 1202. 
 
 definitions, 1199. 
 
 effective date, 1200. 
 
 insurance on commodities exported, 1202. 
 
 insured to retain policy for two years, 1200. 
 
 measure of tax, 1202. 
 
 movable property, 1202. 
 
 penalties, 1202. 
 
 persons liable to tax, 1200. 
 
 returns, 1203. 
 
 subsequent instrument to indicate prior document to which 
 stamps affixed, 1201. 
 
 subsequent instruments that must be stamped, 1201. 
 
 unstamped instruments and those bearing no notation of 
 stamping, 1201. 
 
 what instruments must bear a stamp, 1200. 
 fractional scrip certificates, 1176. 
 general scope of tax, 1162. 
 injunctive relief, 1249. 
 issued by any corporation, 1175. 
 issue of bonds, 1168. 
 issue of capital stock, 1170. 
 issue of stock of joint stock land banks, 1176. 
 leases, not subject to tax, 1196, 1203. 
 loan of certificates of stock, 1182. 
 measure of, on issue of stock, 1176. 
 mortgages not subject to, 1203. 
 mutual ditch and irrigation companies, 1203. 
 no tax on contracts, 1190. 
 of stock, records of, 1225. 
 options not subject to, 1196. 
 original issue of stock, 1171. 
 parcel-post packages not now subject to, 1208. 
 passage tickets, 1203. 
 
 issued to federal and state officials and foreign representatives, 
 1204. 
 
 tickets not subject to tax, 1204. 
 
 tickets subject to tax, 1204. 
 payment under protest and duress, 1247. 
 penalties, 1239. 
 
 excluding unstamped documents in state courts, 1242. 
 
INDEX 1497 
 
 [References are to pages.] 
 
 STAMP TAX— Continued. 
 
 failure to cancel stamps, 1240. 
 
 failure to stamp insurance policies, 1241. 
 
 fraudulent removal or reuse of stamps, 1240. 
 
 issuing or accepting unstamped instruments, 1239. 
 
 making sales of produce without paying tax, 1240. 
 
 other penalties, 1241. 
 
 selling playing cards without paying tax, 1240. 
 
 transferring stock without paying tax, 1240. 
 playing cards, 1205. 
 powers of attorney, 1205. 
 
 assignment of insurance policies, 1207. 
 
 authority to transfer stock, 1208. 
 
 authorizing deputy to have access to safe, 1207. 
 
 authorizing federal official to sell United States bonds, 1206. 
 
 authorizing federal reserve bank to assign United States bonds, 
 1206. 
 
 contained in assignments, 1207. 
 
 executed or accepted in foreign country, 1207. 
 
 formal powers of attorney, 1207. 
 
 from corporations to resident agents, 1209. 
 
 granted by corporation, 1208. 
 
 judgment notes, 1209. 
 
 power of sale, 1208. 
 
 to pay poll taxes, 1208. 
 
 to sell or transfer government bonds, 1209. 
 
 to sell or transfer shares of stock, 1209. 
 
 warrant of attorney in lease, 1206. 
 
 when tax accrues, 1209. 
 present law does not tax bonds of indemnity and surety, 1169. 
 promissory notes, 1213. 
 
 definition of, 1215. 
 
 drawn in foreign countries, 1221. 
 
 issued by government, 1222. 
 
 renewal of notes, 1214. 
 
 secured by pledge of United States securities, 1221. 
 
 transfer of notes, 1215. 
 
 who affixes stamp, 1214. 
 proxies, 1222. 
 
 signed by two or more stockholders, 1223. 
 
 when tax accrues, 1223. 
 
 who may affix stamps, 1223. 
 records of intraoffice borrowing of stock, 1227. 
 records required in case of sales and transfers of stock, 1224. 
 registration of brokers, 1236. 
 
 registration of brokers, record kept by collector, 1238. 
 renewal of bonds, 1168. 
 returns, by clearing houses, 1230. 
 
 of persons making sales of stock, 1228. 
 rights to receive stock dividends, 1224. 
 
1498 INDEX 
 
 [References are to pages.'] 
 
 STAMP TAX— Continued. 
 
 rights to subscribe for stock, 1176, 1224. 
 
 sale of stamps, 1238. 
 
 sales and transfers of stock, affixing and cancellation of stamps, 1179. 
 
 brokers individual sales, 1184. 
 
 calls, 1187. 
 
 certificate of broker, 1187. 
 
 deposit of certificates as collateral security, 1186. 
 
 formal transfers, no change of title, 1185. 
 
 gifts, 1184. 
 
 inconsistent by-laws, rules or customs of exchange, 1187. 
 
 registration of brokers, 1188. 
 
 rights to receive or subscribe for stock, 1181. 
 
 rights to receive stock dividends, 1182. 
 
 shares or certificates of stock, 1180. 
 
 shares without par value, 1180. 
 
 stock of domestic corporations, 1180. 
 
 stock of foreign corporations, 1181. 
 
 stock redeemed by issuing corporation, 1186. 
 
 stockholders' committee, 1182. 
 
 tax paid but once, 1180. 
 
 to and by fiduciaries, 1183. 
 
 to or by alien property custodian, 1184. 
 
 transfer before issue of certificate, 1181. 
 
 transfer to clearing house, 1187. 
 
 transfers to or by broker, 1186. 
 
 trusts, 1181. 
 
 voting trust certificates, 1182. 
 
 when change of legal title only takes place, 1184. 
 
 when tax accrues, 1180. 
 
 when title passed prior to incidence of tax, 1180. 
 sales of produce on exchange, 1209. 
 
 clearing house as agent, 1231. 
 
 exchange or board of trade, 1211. 
 
 future delivery stamps, 1236. 
 
 immediate or prompt delivery, 1211. 
 
 inconsistent by-laws, rules or customs of exchange, 1218. 
 
 records, and returns in case of, 1231. 
 
 records to be kept by buyers and sellers, 1232. 
 
 records to be kept by clearing houses, 1234. 
 
 registration and records, 1213. 
 
 returns by clearing houses, 1235. 
 
 returns of transactions, 1234. 
 
 sale of stamps, 1213. 
 
 stamps may be affixed to returns, 1235. 
 
 transfers to clearing house, 1212. 
 
 when tax accrues, 1211. 
 scrip dividend certificates or warrants, 1189. 
 security agreements and applications for loans, 1224. 
 shares of stock without par value, 1177. 
 stamps used, 1163. 
 
INDEX 
 
 1499 
 
 [References are to pages.'] 
 
 STAMP TAX— Continued, 
 stock dividends, 1176. 
 
 stock issued for purchasing business or assets, 1176. 
 stock of domestic corporations, 1175. 
 stock of foreign corporations, 1175. 
 stock transfer stamps, 1231. 
 suit for collection of stamp taxes, 1244. 
 time drafts covering shipments from Virgin Islands, Philippines and 
 
 Porto Rico, 1220. 
 transfer of bonds, 1168. 
 voting trust certificates, 1176, 1224. 
 vyhere stamps are affixed, 1164, 1166. 
 where stamps are obtained, 1163. 
 who affixes stamps, 1164. 
 
 STATES AND POLITICAL SUBDIVISIONS, 
 income of, exempt, 357. 
 
 STATISTICS OF INCOME, 
 
 published annually by Commissioner, 847. 
 
 STATUTE OF LIMITATIONS, 
 
 additional assessments under present law, 862. 
 
 on assessments under prior laws, 858. 
 
 on prosecution for penalties, 905. 
 
 on summary assessments under prior laws, 860. 
 
 refund of taxes by Commissioner, 929. 
 
 suits for collection of taxes, 868. 
 
 upon suits to recover taxes, 935. 
 
 STEAM LAUNDRIES, 
 
 subject to child labor tax, 1251. 
 
 STEAMSHIPS, 
 
 rate of depreciation allowed, 691. 
 
 STOCK, 
 
 See Capital Stock. 
 
 additional compensation paid in, 597. 
 
 ■'aggregate par value" of stock received on exchange, 440. 
 
 cost of shares bought at different prices, 432. 
 
 cost of, when received as bonus, 418. 
 
 deduction for. loss when worthless, 645. 
 
 exchanged for stock of no greater par value, 441. 
 
 exchange of, for stock of greater par value, 446. 
 
 income from rights to subscribe to, 549. 
 
 in Federal Reserve Bank, is an inadmissible asset, 1075. 
 
 issued for services, inclusion of, in invested capital, 1045. 
 
 legal and beneficial owners of, on which dividends are paid, 511. 
 
 loss from ex.change of, under 1918 Law, 634. 
 
 loss from exchange of, under 1921 Law, 635. 
 
 loss from sale of, 633. 
 
 no loss from sale of, by corporation, 64B. 
 
1500 INDEX 
 
 [References are to pages.] 
 
 STOCK— Continued. 
 
 of domestic corporations is an inadmissible asset, 1275. 
 
 of foreign corporations, when an admissible asset, 1076. 
 
 of subsidiary acquired for cash, 1134. 
 
 of subsidiary acquired for stock, 1134. 
 
 par value of for excess-profits tax purposes, 1044. 
 
 proof of market value of, 432. 
 
 purchased with cash and patents, inclusion in earned surplus, 1058. 
 
 received in exchange for property, 451. 
 
 retirement of, 515. 
 
 sale of, when received as dividend, 534. 
 
 shrinkage in value of, not deductible, 643. 
 
 stamp tax on rights to subscribe to, 1224. 
 
 subsequent sale of stock received on exchange, 444. 
 
 transfer of, to corporation formed for the purpose, loss allowed, 644. 
 
 STOCK DIVIDENDS, 
 
 See Dividends. 
 
 STOCKHOLDERS, 
 
 contributions by, how treated, 229. 
 inspection of returns by, 842. ' 
 paying loss of corporation, 646. 
 recovery of tax from, 267. 
 taxes paid for, treated as dividends, 506. 
 
 STOCKHOLDERS OF RECORD, 
 
 See Nominal Stockholders. 
 
 STOCK IN TRADE, 
 
 exchange of, 412. 
 
 SUBSIDIARY COMPANY, 
 
 See Affiuated Corporations; Holding Company. 
 doctrine of corporate entity, 221. 
 
 SUBSTITUTE CERTIFICATES, 
 
 See Ownership Certificates. 
 SUITS, 
 
 against collectors, 936. 
 
 against former residents now abroad, 870. 
 
 against the United States, 938. 
 
 claims for refund of sums recovered by, 938. 
 
 for collection of stamp taxes, 1244. 
 
 for collection of taxes, 868. 
 
 for recovery of taxes, 883. 
 
 jurisdiction of courts, 933. 
 
 prerequisites to suit, statute of limitations, 934. 
 
 protest and duress a prerequisite, 936. 
 
 recovery of costs, 941. 
 
 recovery of penalties, 934. 
 
 statute of limitations on suits, 935. 
 
 to enjoin collection of penalties, 896. 
 
 to recover taxes on rejection of claim, 932. 
 
 to restrain assessment or collection of tax, 850. 
 
INDEX 1501 
 
 [References are to pages.'] 
 
 SUMMARY ASSESSMENT, 
 
 See Assessment of Tax. 
 
 SUPPER MONEY, 
 
 income from, 369. 
 
 SURETY, 
 
 taxpayers required to furnish, may deposit Liberty bonds, 882. 
 
 SURPLUS AND UNDIVIDED PROFITS, 
 additions to surplus account, 1064. 
 
 adjustments which increase book value of assets, 1080. 
 adjustments which reduce book value of assets, 1080. 
 dividends paid from, effect on invested capital, 1097. 
 earned surplus, 1057. 
 
 effect of inadequate allowance for depreciation or depletion, 1089. 
 installment sales, 1058. 
 limitation of additions to surplus, 1065. 
 may be included in invested capital, 1055. 
 oil leases informally transferred to corporation, 1057. 
 paid-in surplus, 1056. 
 
 purchase of stock with cash and patents, 1058. 
 replacement fund, 1056. 
 
 SURTAX, 
 
 comparative statement of rates, 23. 
 
 imposed on net income, 15. 
 
 income subject to, 21. 
 
 limitation in case of sales of mines, oil or gas wells, 21. 
 
 net income subject to, 356. 
 
 on undistributed profits of corporations, 29. 
 
 purpose to escape, 31. 
 
 rates of under 1918 and 1921 Laws, 15. 
 
 tables for 1921 and prior years, 25. 
 
 tables for 1922 and subsequent years, 26. 
 
 SYNDICATES, 
 
 not taxed as corporations, 213. 
 
 T 
 TANGIBLE PROPERTY, 
 defined, 1048. 
 
 inclusion of in invested capital, 1045. 
 inclusion of, in invested capital for 1917, 1039. 
 
 TAXABLE YEAR, 
 
 changes in, adjustments in invested capital, 1096. 
 defined, 1032. 
 
 TAXES, 
 
 See Assessment of Taxes; Payment of Taxes. 
 abatement, credit and refund, 912. 
 additional taxes deductible, 235. 
 amount paid during taxable year, defined, 786. 
 
1502 INDEX 
 
 [References are to pages.] 
 
 TAXES— Continued. 
 
 assessments against local benefits, not deductible, 575. 
 
 automobile license fees deductible, 612. 
 
 collection of by distraint, 873. 
 
 collection of, from distributees, 147. 
 
 compromise of, 907. 
 
 corporations may deduct, 235. 
 
 covenants to pay, examples of, 1001. 
 
 credit for, 786. 
 
 allowed corporations, 789. 
 
 allowed members of partnerships, 791. 
 
 allowed under 1918 Law, 790. 
 
 by partners, 184. 
 
 conditions of allowance, 792. 
 
 domestic corporation owning stock of foreign corporation, 789. 
 
 fiscal year in case of corporations, 794. 
 
 fiscal year in case of individuals, 789. 
 
 in ease of estates, 132. 
 
 redetermination when credit proves incorrect, 794. 
 
 to beneficiaries of estates or trusts, 791. 
 credit of, allowed nonresident aliens, 788. 
 
 citizens of possessions, residing in United States, 788. 
 
 countries satisfying similar credit requirement, 788. 
 
 to citizens of United States, 787. 
 
 to resident aliens, 787. 
 deduction of, by estates and trusts, 126. 
 
 by farmers, 163. 
 
 by life insurance companies, 277. 
 
 excise taxes paid to Cuban government, 611. 
 
 in general, 607. 
 
 New York state, franchise tax, 609. 
 federal duties and excises, deduction of, 610. 
 final determination and assessments, 864. 
 imposed by authority of any foreign country, 611. 
 liens for unpaid taxes, 870. 
 raid at source, in case of trust, 132. 
 psid by corporation for stockholders, deduction of, 617. 
 paid by debtor on account of tax-free covenant bond, 552. 
 paid by tenant, deduction of, 613. 
 paid by vendee for vendor, deduction of, 613. 
 paid for fiscal year, deduction of, 609. 
 paid or accrued within the year, 608. 
 paid to taxing subdivisions of territories, 612. 
 payable in installments, 848. 
 penalties for attempts to evade, 903. 
 penalties for failure to pay, 904. 
 priority of federal taxes, 872. 
 procedure in case of banks improperly taking deduction for taxes 
 
 paid for shareholders in 1919, 620. 
 profits from sale of property paid by vendee, 552. 
 securities taxes deductible, 612. 
 
INDEX 1503 
 
 [References are to pages."} 
 
 TAXES— Continued. 
 
 state tax on Massachusetts trust companies, 612. 
 suits for collection of, 868. 
 taxes not deductible, 613. 
 
 assessments against local benefits, 615. 
 
 state inheritance taxes, 616. 
 
 taxes paid under tax-free covenants, 616. 
 treated as dividends when paid for shareholders, 506. 
 
 TAX-FREE COVENANT BONDS, * 
 effect of covenants, 997. 
 examples of covenants to pay taxes, 1001. 
 how exemption from withholding obtained in case of, 983. 
 object of withholding provision in case of, 1000. 
 procedure of corporation issuing, 1000. 
 rate of tax to be withheld, 999. 
 tax paid by debtor on account of, 552. 
 when covenants are within the statute, 997. 
 when covenants operate, 997. 
 withholding at source on interest of, 974. 
 withholding in case of, 998. 
 
 TAX ON EMPLOYMENT OF CHILD LABOR, 
 See Child Labor Tax. 
 
 TAX SIMPLIFICATION BOARD, 
 
 established by 1921 Law, duties of, 7. 
 
 TEACHERS, 
 
 taxability of salaries of, 383. 
 
 TELEGRAPH OFFICES. 
 
 not subject to child labor tax, 1251. 
 
 TELEPHONE COMPANIES, 
 
 exemption of local organizations, 331. 
 
 not subject to child labor tax, 1251. 
 
 taxation of, when taken over by government, 272. 
 
 TENANTS, 
 
 amounts received by, as compensation for vacating premises, 538. 
 
 deduction of repairs made by, 586. 
 
 deduction of taxes paid by, 613. 
 
 depreciation allowed to, 681. 
 
 payments by, on behalf of landlord, 499. 
 
 value of improvements made by, 497. 
 
 TENTATIVE RETURNS, 
 
 See Returns. 
 
 TERRITORIES, 
 
 interest on obligations of, 488. 
 
 taxing subdivisions of, deduction of taxes paid to, 612. 
 
1504 INDEX 
 
 [References are to pages.] 
 TEXAS, 
 
 community property, 49. 
 
 THEFT, 
 
 losses arising from, 638. 
 
 TIMBER, 
 
 aggregating timber and land for purposes of valuation and account- 
 ing, 771. 
 charges to capital and to expense, 770. 
 computation of depletion for given year, 769. 
 depletion and depreciation accounts on books, 772. 
 depletion of, 767. 
 
 determination of fair market value of, 768. 
 determination of quantity of, 769'. 
 information by taxpayers claiming depletion of, 773. 
 1 evaluation not allowed, 770. 
 
 TIPS, 
 
 constitute income, 369. 
 
 TOBACCO PLANTATIONS, 
 
 not subject to child labor tax, 1251. 
 
 TONTINE INSURANCE, 
 income from, 553. 
 
 TRADE-MARKS, 
 
 depreciation allowed in case of, 682. 
 
 may be included in invested capital, 1049. 
 
 obsolescence in case of distillers and liquor dealers, 699. 
 
 proof of value of, 433. 
 
 terms of in various countries, 684. 
 
 TRADE OR BUSINESS, 
 
 conduct of, vdthin possession of United States, 41. 
 
 defined, 625, 1018. 
 
 examples of, 1019. 
 
 examples of, taxed under 1917 excess-profits tax law, 1022. 
 
 losses not sustained in, 623. 
 
 losses sustained in, 622. 
 
 when losses sustained in, 626. 
 
 with no invested capital, 1021. 
 
 TRADING STAMPS, 
 
 subtraction for redemption of, 588. 
 
 TRANSFERS OF STOCK, 
 
 See Stamp Tax. 
 
 TRANSPORTATION SYSTEMS, 
 expenses deductible by, 272. 
 standard return, 272. 
 taxation of, 270. 
 
INDEX 1505 
 
 [References are to pages.} 
 
 TRAVELING EXPENSES, 
 
 claims for deduction of, 568. 
 deduction of, under 1921 Law, 567. 
 deduction of, under previous laws, 567. 
 may constitute income, 367. 
 
 TRUSTEE IN BANKRUPTCY, 
 
 income taxable in hands of, 244. 
 
 TRUSTEES, 
 
 See Fiduciaries. 
 transfers of stock to and by, stamp tax on, 1183. 
 
 TRUSTS, 
 
 See FiDUCIAEIES. 
 distinguished from associations, 1141. 
 stamp tax on sales or transfers of stock, 1181. 
 when taxable as corporations, 215. 
 
 U 
 
 UNDISTRIBUTED PROFITS OF CORPORATIONS, 
 surtax on stockholders in respect of, 29. 
 
 UNITED STATES, 
 defined, 10. 
 exemption of pensions from, 37. 
 
 UNITED STATES POSSESSIONS, 
 
 citizens deriving income from, 41. 
 
 V 
 VALUE, 
 
 See Market Value. 
 
 VALUE AS OF MARCH 1, 1913, 
 
 use of, in determining gain or loss from exchanges, 407. 
 use of, in determining gain or loss from sales, 413. 
 
 VERIFICATION, 
 
 by persons abroad, 837. 
 
 in army and navy, 837. 
 
 of returns, 836. 
 
 who may administer oaths, 836. 
 
 VICTORY NOTES, 
 
 See Liberty Bonds. 
 
 VINEYARDS, 
 
 obsolescence in case of, 703. 
 
 VOCATIONAL REHABILITATION ACT, 
 amounts received under, exempt, 355. 
 exemption of allowances received under, 37. 
 
1506 INDEX 
 
 [References are to pages!] 
 VOTING TRUST CERTIFICATES, 
 no stamp tax on issue, 1176. 
 stamp tax on, 1224. 
 stamp tax on transfers, 1182. 
 
 W 
 
 WAR FINANCE CORPORATION BONDS, 
 exemption of interest upon, 488. 
 
 WAR-PROFITS TAX, 
 
 See Excess-Profits Tax. 
 
 applied to 1918 only, 1017. 
 
 apportionment of credit of corporations reporting for part of year, 
 
 1110. 
 corporations deriving income from government contracts, 1027. 
 corporations which had no prewar period, 1109. 
 imposed by 1918 Law, 1017. 
 minimum war-profits credit, 1109. 
 nature of, 1017. 
 omitted from present law, 1015. 
 penalties, 1138. 
 prewar period, 1032. 
 rates of tax, 1017. 
 
 time and manner of paying tax, 1137. 
 war-profits credit, 1108. 
 
 of corporations with income from government contracts, 1110. 
 
 of fiscal year corporations, 1110. 
 
 WAR RISK INSURANCE ACT, 
 
 amounts received under, exempt, 37, 355. 
 
 WAR SAVINGS STAMPS, 
 
 income from sale of, 551. 
 
 WEARING APPAREL, 
 
 depreciation of, 682. 
 
 WITHHOLDING AGENTS, 
 appointment of, 966. 
 defined, 90, 965. 
 
 distinguished from resident agents, 89. 
 nominal stockholders are not, 95. 
 
 WITHHOLDING AT SOURCE, 
 
 See Ownership Certificates; Resident Agents. 
 
 against agents, 980. 
 
 against citizens and residents, 978. 
 
 against citizens of United States possessions, 978. 
 
 against corporations, 979. 
 
 against employees of mining contractors, 982. 
 
INDEX 1507 
 
 [References are to pages."] 
 
 WITHHOLDING AT SOURCE— Continued, 
 against fiduciaries, 148, 978. 
 against foreign fiduciaries, 151. 
 against nonresident aliens, 978. 
 against partnerships, 175, 979. 
 against personal service corporations, 979. 
 against whom tax is withheld, 978. 
 appointment of withholding agent, 966. 
 bond interest, 972. 
 bonuses, 968. 
 by fiduciaries, 148. 
 by foreign fiduciaries, 151. 
 by partnerships, 175. 
 car-trust certificates, 976. 
 change of status of employee, 982. 
 commissions, 967. 
 
 credit of tax withheld in case of estates, 132. 
 credit of tax withheld, to nonresident aliens, 83. 
 discussed generally, 17. 
 dividends, 968. 
 
 duty of employee to determine status of alien employees, 981. 
 duties of assignees, 983. 
 equipment trust certificates, 971. 
 examples of covenants to pay taxes, 1001. 
 exemption from, 983. 
 
 fixed or determinable, annual or periodical, 966. 
 foreign partnerships, 192. 
 in case of Corporations, 269. 
 in case of enemies, 994. 
 in case of foreign corporations, 305. 
 in case of promissory notes, 972. 
 in case of tax-free covenant bonds, 997. 
 in case of unknown owners, 976. 
 insurance, 968. 
 interest, 969. 
 
 interest on bonds containing tax-free covenant, 974. 
 interest on bonds not containing tax-free covenant, 973. 
 interest paid in scrip, 977. 
 mercantile accounts current, 971. 
 no withholding on bank deposits, 969. 
 
 object of provision in case of tax-free covenant bonds, 1000. 
 on what payments withheld, 964, 966. 
 penalties for failure to file returns, 903. 
 
 procedure of corporation issuing tax-free covenant bonds, 1000. 
 profit sharings, 968. 
 race-track winnings, 971. 
 rate of tax to be withheld, 964. 
 
 rate of tax to be withheld in case of tax-free covenant bonds, 999. 
 receipts for taxes, withheld, 882. 
 release of excess tax withheld, 993. 
 rent, 972. 
 
1508 INDEX 
 
 [References are to pages. '\ 
 
 WITHHOLDING AT SOURCE— Continued. 
 
 return of income from which tax withheld, 995. 
 
 return of tax withheld, 993. 
 
 royalties, 972. 
 
 salaries, 967. 
 
 salaries of partnerships, 967. 
 
 tax-free covenant bonds, how exemption obtained, -983. 
 
 who are required to withhold tax, 980. 
 
 withholding agent, defined, 965. 
 
 WORKMEN'S COMPENSATION, 
 
 amounts received, as, exempt, 354. 
 exemption of income from, 556. 
 
 WORKSHOPS, 
 
 subject to child labor tax, 1250. 
 
 WORTHLESS DEBTS, 
 
 See Losses, 127. 
 
 charging off in part under 1921 Law, 655. 
 
 deduction of, by estates and trusts, 127. 
 
 deduction of, in general, 647. 
 
 effect of war conditions on deduction of, 652. 
 
 endorsement of notes, 649. 
 
 existing prior to March 1, 1913, 648. 
 
 foreclosure of mortgages, 653. 
 
 must be charged off on books, 650. 
 
 reserves for, under 1921 Law, 655. 
 
 Russian bank deposits, 653. 
 
 treatment of in case of installment sales, 
 
 voluntary forgiveness of debt, 651. 
 
 when considered worthless, 650. 
 
 when deductible, 648. 
 
 when deductible under 1921 Law, 655 
 
 worthless securities, 654.