
    INTERNATIONAL CURTIS MARINE TURBINE COMPANY v. THE UNITED STATES
    [No. D-174.
    Decided June 6, 1927]
    
      On the Proofs
    
    
      Income-tax deductions; depreciation; value of licenses. — The deduction authorized from groas income of “ a reasonable allowance for the exhaustion, wear and tear of property arising out of its use or employment in the business or trade ” applies to patent license contracts from which, and the licenses authorized thereby, substantially all of a corporation’s income is derived and which, because of their ultimate expiration, decrease in value from year to year.
    
      The Reporters statement of the case:
    
      Mr. Thomas G. Haight for the plaintiff. Messrs. Robert H. Montgomery and J. Marvin Haynes' were on the brief.
    
      Mr. John A. MeOann, with whom was Mr. Assistant' Attorney General Herman J. Galloway, for the defendant, Mr. J. Robert Anderson was on the brief.
    The court made special findings of fact, as follows:
    I. At the time of the filing of this action and at all times hereinafter mentioned plaintiff was a corporation duly organized under the laws of the State of West Virginia, having its principal place of business in Jersey City, in the State of New Jersey.
    II. Plaintiff filed its income-lax return for the year 1916- and its income and excess-profits tax returns for the year 1917 in accordance with the facts as it believed them to exist, and paid the taxes shown on such returns to be due. In each of said returns plaintiff deducted the sum of $120,000 from its gross income for depreciation in the value of its property.
    III. Both of these returns were audited by the Commissioner of Internal Revenue, and as the result of said audit, the commissioner denied plaintiff the right to deduct the sum of $120,000 for depreciation in the value of its property and assessed additional taxes against plaintiff in the sum of $2,400 for the year 1916, and in the sum of $27,653.71 for the. year 1917.
    IV. Plaintiff immediately filed a claim for abatement of the additional assessment for the year 1916, which was rejected by the commissioner, and on February 3, 1923, plaintiff paid under protest to the collector of internal revenue for the second district of New York the full amount of the additional assessment for the year 1916, amounting to $2,400, and on July 13, 1923, plaintiff paid under protest to the said collector the additional assessment for the year 1917, amounting to the sum of $27,653.71.
    
      V. In August, 1923, plaintiff filed with the collector of' internal revenue for the second district of New York a claim for refund of the sum of $21,653.71, with interest from July 23, 1923, and on November 9, 1923, plaintiff filed with said collector a claim for refund of the sum of $2,400, together with interest thereon from February 3, 1923. Both of said claims for refund were disallowed by the Commissioner of Internal Be venue and plaintiff was notified of the disallowance by letters dated December 10, 1923, and December 20, 1923, respectively. Neither of said claims for' refund of the additional assessment has been allowed by the commissioner. The total amount thereof, to wit,, $30,053.71 is now held and retained by the United States.
    YI. The first steam turbine was invented by Charles A. Parsons, a British subject. It was brought out in 1890. In 1896, Charles G. Curtis, a citizen of the United States, invented another steam turbine, in many ways different in principle from the Parsons turbine. Marine engineers were slow to accept either type, and as a result the growth of the turbine was very slow until about 1907. Subsequent to 1907, the growth and development was very rapid. As of March 1, 1913, there were three turbines on the market,, viz, Parsons, Curtis, and Zoelly, and the Curtis type was the equal of either of the others.
    On September 1, 1896, the basic patents on the Curtis-turbine were issued to Mr. Curtis by the United States Similar patents were also issued at the same time in Great Britain, France, Belgium, Germany, Norway, Sweden, and Canada. Subsequently various subsidiary patents were-issued to Mr. Curtis up to and including 1902. These basic-patent^ were assigned to a corporation known as the Curtis Company. This company on October 7, 1897, granted a license to the General Electric Compay to manufacture and sell steam turbines covered by the Curtis patents as prime movers for dynamo-electric generators upon payment of certain royalties. Between 1897 and 1902 two corporations, the Curtis Steam Turbine Company and the International Curtis Steam Turbine Company were formed. The Curtis Steam Turbine Company was organized to take over and. deal with the United States rights under the Curtin patents, and the International Curtis Steam Turbine Company was organized to take over the foreign rights.
    VII. In June, 1902, an agreement -was entered into by •and between the Curtis Steam Turbine Co., the International .Steam Turbine Co. — both being corporations organized under the laws of West Virginia — and the General Electric Co., a corporation organized under the laws of New York, which agreement was supplemented by a contract ■dated June 17, 1902, to which Charles G. Curtis was also a party, and modified by a contract dated May 1, 1903. By the terms of these agreements, the Curtis companies assigned to the General Electric Co. all of the patents and applications for patents, both domestic and foreign, issued to or applied for by Charles G. Curtis up to that time, relating to steam turbines. The Curtis Steam Turbine Co., however, reserved to itself the exclusive license throughout the United States and its territories and dependencies, under .such inventions for marine and aerial propulsion, and the International Curtis Steam Turbine Co. reserved an ex- ■ elusive license under such patents for marine and aerial propulsion throughout the world, except the United States and its territories and dependencies. The effect of these agreements was that the General Electric Co. acquired the land rights in the Curtis patents except for continental Europe and the Dominion of Canada and the Curtis companies ac■■quired the aerial and marine rights throughout the world, and the land rights in continental Europe and Canada, except that the allies of the General Electric Co.- had the right to engage in the steam turbine business in continental Europe and the Dominion of Canada so far as the land rights were concerned.
    VIII. In May, 1903, the International Curtis Marine Turbine Co., the plaintiff herein, was incorporated for the purpose of taking over the rights that the Curtis companies had acquired by virtue of the contracts, heretofore mentioned in Finding VII, and to carry on the business of licensing the manufacture and use of the Curtis turbines’ for marine purposes throughout the world.
    
      IX. After the formation of the plaintiff company, it entered into many agreements whereby it granted licenses - and the right to issue sublicenses to manufacture, sell, and use the Curtis turbine for marine purposes, and to use any inventions covered by all the Curtis contracts pertaining to-steam turbines upon payment of various royalties by the-licensees.
    X. After acquiring rights from the Curtis Steam Turbine Co. and the International Steam Turbine Co., the plaintiff expended from May, 1903, until January, 1907, in the exploitation and demonstration for marine purposes of steam turbines covered by the Curtis patents, approximately $321,000. Beginning in the year 1907, plaintiff began to license others to manufacture and use steam turbines covered by the Curtis patents for marine purposes and has conducted that practice since that time. It has not since that time manufactured or sold any steam turbines or parts thereof covered by the patents, or any of them, but its whole business has been devoted to licensing others, rendering engineering service to said licensees, and collecting royalties and license fees from such licensees.
    XI. Since 1912 plaintiff’s property, with the exception of a small amount- of office furniture, has consisted entirely of the rights, privileges, licenses, and advantages secured to it by the terms of the contracts above mentioned and the rights and advantages secured to it by the license agreements entered into from time to time with others.
    XII. During the years 1916 and 1917 plaintiff’s income was derived from royalties and license fee,s paid to it by the various concerns with which it had entered into license agreements and interest on bank deposits. In 1916 its income from interest received on bank deposits was $1,675.43, and from royalties and license fees $225,887.49. In 1917 its income from bank deposits was $2,170.17 and from royalties and licenses $289,929.87.
    XIII. Afs of March 1, 1913, the contracts hereinbefore-mentioned had a minimum life of approximately nine and one-quarter years and were of the value of $1,805,111.
    
      XIV. At the time plaintiff acquired and secured all the rights, privileges, benefits, and advantages secured by the ■Curtis Steam Turbine Co. and the International Curtis .Steam Turbine Co., under and by virtue of said contracts, it issued to said companies 26,611 shares of it,s capital stock and paid said companies $159,720. Ten thousand of the ■said shares of stock so issued were returned to plaintiff and 7,996 shares of the stock returned were afterwards sold by plaintiff at $60 per share. Beginning in 1908, plaintiff company began to reduce the par value of its capital stock by distributing among its stockholders the moneys received by it from the licensees with which it had entered into license agreement. In May, 1908, when the first distribution was made, the par value ,of the stock was reduced to $50 per phare. In 1912 the par value was reduced to $10 per share. By January 1, 1917, an additional sum amounting to $7.50 Tad been distributed among the stockholders and by January 29, 1918, the full amount of $60 had been distributed. At that time the par value of the stock was reduced to $1. The total amount distributed to stockholders by way of return of capital was $1,480,020.
    The court decided that plaintiff was entitled to recover $30,053.71, with interest on $2,400, a part thereof, from February 3, 1923, and interest on $27,653.71 from July 23, 1923, to the date of judgment, amounting to $7,045.47, aggregating the sum of $37,099.18.
   Campbell, Ohief Justice,

delivered the opinion of the court:

The revenue act of 1916, 39 Stat. 756, 767, sec. 12, provides for deductions in case of a corporation from the gross amount of its income received within the year from all sources in order to ascertain its net income that is subject to taxation. Among other authorized deductions is “ a reasonable allowance for the exhaustion, wear and tear of property arising out of its use or employment in the business •or trade.” The question is whether the plaintiff was entitled under this provision to the deduction it took in its .return but which the commissioner declined to allow. The plaintiff bad a contract (or three several contracts together constituting one) designated as patent license contracts, from which, and the licenses authorized thereby, all of its income for the years in question was derived, except a small amount of income accruing on bank deposits.

The contracts had approximately nine and one-fourth years to run before their expiration, and the plaintiff claims that it should be allowed a deduction from its income of ■one-ninth of the value of the contracts as of March 1, 1913, ■or, more accurately as to amount, that it should be allowed a deduction of $120,000, which is less than one-ninth of the value ascertained by the commissioner but is the amount the plaintiff deducted in its tax return for 1917. . We think that plaintiff was entitled to the deduction claimed. The contract or contracts were property and furnished the basis of its earnings. Upon their expiration its income would ■cease. An exhaustion was going on each year. That the reasonable allowance for the exhaustion, wear and tear of property arising out of its employment in the business contemplated by the statute is not to be given a restricted meaning is indicated by the fact that special provision is made in case of oil and gas wells and in case of mines and in case of insurance companies, leaving the generality of application in other cases unimpaired. The deduction, authorized by the act, from gross income, in order to arrive -at the taxable income for a given year, is intended to take the place of the reduction during the year of capital assets brought about by the exhaustion or wear and tear of capital assets. The corporate securities issued for the rights secured by the contract would have no value when the contract expires by limitation unless the corporation may set aside from time to time a part of the income sufficient during the years of the life of the contract to take its place when the latter terminates. The plaintiff was entitled to the deduction claimed in its return and is therefore entitled to judgment for the tax improperly assessed, with interest provided in the statute. The view we have taken renders unnecessary a discussion of the question whether the excess-profits tax was to be computed under sec. 209 of the revenue act of 1917. Judgment should be entered in the sum of $30,053.71, with interest. And it is so ordered.

Moss, Judge; Hat, Judge; and Booth, Judge, concur.

Graham, Judge, took no part in the decision of this case.  