
    THE CONNECTICUT LIGHT AND POWER COMPANY v. THE UNITED STATES
    [No. 455-58.
    Decided February 7, 1962]
    
      
      N. Barr Miller for the plaintiff. J. Marom Haynes, Joseph H. Sheppard, Arthur H. Adams and Haynes & Miller were on the brief.
    
      Philip B. Miller, with whom was Assistant Attorney General Louis F. Oherdorfer, for the defendant. James P. Garland and Jerome S. Hertz were on the brief.
   Jones, Chief Judge,

delivered the opinion of the court:

Plaintiff, The Connecticut Light and Power Company, seeks a refund, in an amount to be determined under Eule 38(c) of the Eules of this court, of alleged overpayments of corporate income tax for the years 1952 and 1953.

The material facts have been stipulated by the parties. Plaintiff is, and has been for many years, a Connecticut public utility company engaged in the manufacture and sale of gas and electricity. It is an accrual method taxpayer and files its Federal tax returns on a calendar year basis.

Prior to 1952, the gas portion of plaintiff’s business consisted of both the manufacture and distribution of gas at retail, and the purchase, for purposes of resale to other utilities at wholesale, of gas manufactured by an unrelated company. Plaintiff distributed gas in ten separate areas within the State of Connecticut, and in five of those areas distributed gas manufactured in its own plants while distributing manufactured gas purchased from the unrelated company in the remaining areas. In addition to the five manufacturing plants, plaintiff owned and operated, inter alia, 25 gas storage holders, a high pressure transmission line 59.3 miles in length, and 774 miles of gas distribution mains.

Early in 1950, plaintiff’s board of directors authorized its officers to take such steps as they deemed necessary to arrange for the purchase and distribution of natural gas when and if that commodity became available within plaintiff’s service area. Shortly thereafter, and at the suggestion of the Connecticut Public Utilities Commission, plaintiff intervened in proceedings held before the Federal Power Commission in connection with the application of two interstate pipeline companies for permission to supply natural gas to the New England area. These proceedings ultimately resulted in the granting of permission to both companies to supply natural gas to certain parts of plaintiff’s service area. Plaintiff advised the Power Commission that it would be willing to enter into long-term contracts with either, or both, of these companies for the purchase of natural gas since the use of this commodity would result in certain benefits of a substantial nature to it. Plaintiff also indicated to the Power Commission that it would supply straight 1000 B.t.u. natural gas in part of its service area, 660 B.t.u. mixed natural and manufactured gas in other parts of its area, and 628 B.t.u. mixed gas in the remainder of its area.

Plaintiff entered into long-term contracts for the purchase of natural gas with the two interstate pipeline companies during 1952 and 1953. As a result, plaintiff and its subsidiary (to which all gas transmission facilities were transferred on January 2, 1952) converted their business from that of supplying straight manufactured gas to that of supplying straight natural gas in some areas and a mixture of natural and manufactured gas in others.

All heat-generating commodities, including gas, are rated with reference to a unit of measurement known as British thermal unit (B.t.u.). In general, one B.t.u. is that quantity of heat required to raise the temperature of one pound of water one degree Fahrenheit. Prior to 1952, the manufactured gas distributed by plaintiff had a B.t.u. rating of 528. Straight natural gas, on the other hand, has a B.t.u. rating of 1000, and mixed natural and manufactured gas may be so produced as to have within reasonable limits any desired B.t.u. rating equal to or less than straight natural gas.

When plaintiff and its subsidiary undertook to convert their business from that of supplying straight manufactured gas to that of supplying a higher-rated natural or mixed gas, they realized that the conversion would necessitate certain capital expenditures. This was because of the differing physical characteristics and heat-generating qualities between the new and old commodities. Natural gas is both odorless and tasteless, and safety considerations required the installation and use of special odorizing equipment. Also, since natural gas is relatively dry as compared to manufactured gas, moisturizing equipment was required so as to help prolong the life of existing pipeline linings. The organic diaphragms of household gas meters had to be changed so as to prevent their dehydration. Plaintiff’s manufacturing plants (including those to be held for standby emergency purposes) had to be converted so as to be able to produce gas of a much higher B.t.u. rating. Additionally, plaintiff and its subsidiary were required to construct lateral transmission lines to connect the interstate natural gas pipelines with their own transmission and distribution facilities and were required to build new metering stations. Plaintiff and its subsidiary made capital expenditures in the amount of $1,222,144.15 for these purposes during the years 1951-1953. These amounts have been so treated and are not in issue.

Also because the new and old commodities supplied by plaintiff had differing physical characteristics and heat-generating qualities, it became necessary to adjust certain parts of the gas-consuming appliances owned by plaintiff’s customers. This was required so that the customers could make safe and efficient use of the new gas. Therefore, in order to effect the adjustment of customers’ appliances as expeditiously as possible, plaintiff engaged an unrelated firm to perform this service on plaintiff’s behalf. The necessary adjustments were thus completed. During the years 1952 and 1953, the appliances of 43,029 residential customers, 2,216 commercial customers and 210 industrial customers were converted at an average cost of approximately $13 per customer. Plaintiff expended a total of $250,063.11 in 1952, and a total of $346,594.60 in 1953 for the conversion of customers’ appliances.

The conversion of household appliances (cookstoves, hot water heaters and furnaces) may be described as follows: (a) The burner ports, which are individually drilled holes in the burner head where combustion occurs, had to be enlarged by an electric drill, or where such ports were rectangular in shape instead of round, replacement of the burner head was necessary; (b) specially designed gas burners had to 'be replaced; (c) the size of the orifice, which is the opening through which gas flows to the burner, had to be reduced or the orifice replaced in order to insure the correct amount of gas reaching the burner; (d) the primary air shutter had to be adjusted to produce the proper air and gas mixture for correct flame characteristics; (e) leakage around range oven doors had to be reduced to a minimum to prevent the product of combustion from reaching the top burner compartment since this would cause the top burner flame to lift or float off the burner ports; (f) the flueways of appliances, where necessary, had to be enlarged to relieve back pressure on the burner, and (g) leather diaphragms, if any, used on control equipment for appliances had to be replaced with a more suitable material because the natural gas would dehydrate the diaphragms and thus the controls would not function satisfactorily.

In addition to the amounts expended to convert the customers’ gas-consuming appliances, as indicated above, plaintiff also incurred expenses during the years in issue for services of a usual and recurring nature rendered on customers’ premises. These expenses included the cost of labor and materials used to inspect and adjust customers’ equipment, inspecting premises, testing customers’ equipment and investigating and adjusting customers’ service complaints. These expenses amounted to $118,431.09 in 1952, and $146,212.36 in 1953.

Plaintiff’s books of account, which were maintained in accordance with a uniform system of accounts prescribed by the Connecticut Public Utilities Commission, reflected in an operating account the entire amounts expended by plaintiff during 1952 and 1953 for services, as described above, of a usual and recurring nature rendered on customers’ premises. For those same years, however, the operating account did not reflect the entire amounts expended by plaintiff for the conversion of customers’ appliances for use with natural gas or higher-rated mixed gas. In each year, the operating account reflected the deduction of 52 percent of the actual amounts of such expenditures and, beginning with the year 1953,10 percent of the balance was deducted annually. This procedure was required by the Connecticut Public Utilities Commission so that plaintiff’s operating income for 1952 and 1953, which had a direct effect upon the gas rates it was permitted to charge, would not be distorted by the entire amounts of the conversion costs for those years.

Plaintiff deducted, as ordinary and necessary business expenses, the total expenditures made in 1952 and 1953 for the conversion of customers’ appliances for use with natural gas in its Federal income tax returns for those years. It also deducted, on the same basis, the expenditures made in those years for services of a usual and recurring nature performed on customers’ premises. The deductibility of these latter expenditures has not been questioned and is not now in issue.

Upon audit of plaintiff’s returns for 1952 and 1953, the Commissioner of Internal Revenue disallowed, in part, the claimed deductions for the conversion costs on the ground that, although “necessary,” they were not “ordinary” within the meaning of the applicable provision of the Internal Revenue Code of 1939. Rather, he determined that these expenditures were capital in nature and should be amortized over a 10-year period.

After having complied with all procedural prerequisites, plaintiff instituted this action to recover the payments it made in satisfaction of the deficiencies assessed as a result of the partial disallowance of the claimed deductions.

The complex factual pattern detailed above raises but a single issue for our determination: whether the costs of converting customers’ gas-consuming appliances for use with natural gas and higher-rated mixed gas are ordinary and necessary business expenses to be deducted in full in the years when incurred.

Before resolving this issue, it should be noted that we recognize the presumptive correctness of the Commissioner’s determination against plaintiff. Welch v. Helvering, 290 U.S. 111, 115 (1938). Also, neither we nor the Commissioner are bound by the accounting treatment prescribed for these expenditures by the Connecticut Public Utilities Commission. Old Colony R.R. Co. v. Commissioner, 284 U.S. 552, 562 (1932).

Section 23(a)(1)(A) of the Internal Eevenue Code of 1939, 26 U.S.C. (I.E.C. 1939) §23(a)(1) (A) (1952 Ed.), provides the requisite statutory authorization for the deduction from gross income of ordinary and necessary business expenses. That section governs this suit and it reads, in pertinent part, as follows:

§ 23. Deductions from gross income.
In computing net income there shall be allowed as deductions :
(a) Expenses.
(1) Trade or business expenses.
(A) In general.
All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, * * *.

The 1939 Code does not define specifically what is meant by ordinary and necessary business expenses. However, section 24(a) (2), 26 U.S.C. (I.E.C. 1939) § 24(a) (2) (1952 Ed.), explicitly disallows as deductions from gross income certain expenditures of a capital nature. This latter section provides insofar as is pertinent, that:

§24. Items not deductible — (a) General rule.
In computing, net income no deduction shall in any case be allowed in respect of—
$ ‡ ‡
(2) Any amount paid out for new buildings or for permanent improvements or betterments made to increase the value of any property or estate * * *.

Also of some significance to this suit, insofar as it attempts to distinguish between expenses currently deductible from gross income and those not so deductible as being in the nature of capital outlays, is Treasury Eegulations 118 (1953), which provides:

§ 39.23 (a)-4 Eepairs. — The cost of incidental repairs which neither materially add to the value of the property nor appreciably prolong its life, but keep it in an ordinarily efficient operating condition, may be deducted as expense, provided the cost of acquisition or production or the gain or loss basis of the taxpayer’s plant, equipment, or other property, as the case may be, is not increased by the amount of such expenditures. Repairs in the nature of replacements, to the extent that they arrest deterioration and appreciably prolong the life of the property, should be charged against the depreciation reserve if such account is kept.

Plaintiff asserts that the expenditures here involved were deductible when incurred as ordinary and necessary business expenses within the meaning of section 23 (a) (1) (A). This is so, says plaintiff, because the expenditures were necessary and in accord with sound business practice, because they were made to protect or retain its existing business, and because neither it nor its customers acquired any new assets as a result of the expenditures.

Defendant admits that these expenditures may have been “necessary.” However, it vigorously denies that they were “ordinary” within the meaning of the applicable provision of the 1939 Code. On the contrary, it is defendant’s position that these disbursements were capital outlays within the meaning of section 24(a) (2) in that they were made to effect the improvement and adaptation of capital assets to a different use, they increased the value of capital assets, they were made as an integral part of plaintiff’s own capital conversion program, and they were made to effect improvements of a relatively permanent nature.

The statutory provisions we have quoted above do not in themselves, of course, dispose of the issue here involved. Their terminology is much too broad for that purpose. Nonetheless, we are not without guides to our decision, for the cases attempting to establish a meaningful distinction between ordinary and necessary business expenses and capital outlays are legion. We will not attempt to recapitulate them here, however, for we have had occasion in the past to treat rather extensively the considerations involved in the classification problem. Canton Cotton Mills v. United States, 119 Ct. Cl. 24 (1951); RKO Theatres, Inc. v. United States, 143 Ct. Cl. 39 (1958). Those decisions, and the cases cited therein, set forth the relevant criteria.

Thus, it may be said that disbursements made for the incidental repair of property, because of ordinary wear and tear and trifling accidental losses, would clearly be deductible under section 23(a) (1) (A). This is true even though the repairs may involve benefits which endure longer than a single year. Moreover, an expense meeting the requirements of section 23(a) (1) (A) does not become a capital expenditure simply because of some relation in time or circumstance to an admittedly capital expenditure. Addressograph-Multigraph Corp., et al., 4 CCH Tax Ct. Mem. 147 (1945). The nonrecurring nature of the disbursement does not preclude deductibility; nor does its mere dollar amount. Expenditures made in accordance with trade usages and the requirements of good business practice may be deducted, even though there is no legal obligation to make them. Similarly, expenditures made to retain or protect and promote the normal continuance of an established business are deductible, as are expenditures made to retain customer good will.

On the other hand, disbursements made to acquire new assets, be they tangible or intangible, fall squarely within section 24(a) (2) and are nondeductible. This same tax treatment obtains when expenditures are made for replacements, alterations, improvements or additions which prolong the life of the property, increase its value, or make it adaptable to a different use.

Adam, C. Croff, 26 PH Tax Ct. Mem. 614 (1957), is a case analogous to the one at issue. There, the taxpayer replaced the ammonia refrigeration unit in his ice cream maker with a freon refrigeration unit. This was done because ammonia was difficult to obtain and prohibitive in cost. The Tax Court held that the cost incurred in making the conversion was for the purpose of keeping the machinery in an ordinarily efficient condition and was properly deductible as an ordinary and necessary business expense.

Our consideration of the facts in this case, in the light of the above authorities, leads us to conclude that plaintiff has sustained its burden of disproving the presumptive correctness of the Commissioner’s determination. It is apparent that neither plaintiff nor its customers acquired any new .assets as a result of the conversion expenditures. It appears to us, ratber, that their net effect was to enable plaintiff to retain precisely the same privilege of supplying gas to its customers, for as long as they desired, as it had previously.

After all, it was still the choice of the customer as to whether he would continue to use or discontinue using plaintiff’s gas. The facilities involved here were and remained the property of the customer. The repairs were an essential service operation.

Similarly, we do not feel that the expenditures increased the value, adapted to a different use, or prolonged the useful life of the appliances to such an extent as to fall within the concept of capital expenditure. No such increase in value is discernible from the record apart from that which would naturally obtain from any ordinary repairs to property. Nor is there any indication that the expenditures prolonged the useful life of the appliances by as much as a single day. The general thrust of the conversion program would seem to be that the relatively minor adjustments made to these appliances, at a relatively insubstantial cost, merely permitted them to function in the same manner and for the same purposes as before. Thus, subsequent to the adjustments, they still operated by gas, albeit gas of a different type, to provide heat for cooking, to make hot water available, and to provide warmth. "We do not believe this is what the cases mean by “adaptable to a different use” in the context of capital expenditures.

We incline to the view that these expenditures more closely resemble ordinary repair costs which, in the words of section 39.23 (a)-4 of Treasury Regulations 118, kept the appliances in their “ordinarily efficient operating condition.” This result is in harmony with the Tax Court’s decision in Adam G. Croff, supra, which also involved a change in operative element.

We likewise feel that the expenditures are more analogous to the costs of services of a usual and recurring nature performed on customers’ premises than they are to, for example, the costs of installing safety equipment as in the RKO Theatres, Inc. case, supra. Defendant has not questioned the deductibility of the former as an ordinary and necessary business expense. The fact that the expenditures were made in conjunction with plaintiff’s own admittedly capital conversion program does not, in our view, compel a contrary result, particularly in the light of the Addressograph-Multigraph Corp., et al. case, supra.

It is also reasonable to say that these expenditures were compelled by sound business practice to protect or retain plaintiff’s existing business. Consider the alternatives available to plaintiff, in addition to the one actually pursued, once it had determined to change the type of fuel supplied to its customers. It could either have required them to see to the adjustments at their own risk and expense or permitted them to use their appliances without adjustment, but inefficiently and at a substantial safety hazard. Either alternative, we submit, could easily have resulted in the loss of business or at least some of the good will plaintiff had acquired in prior years. The cases agree that expenditures made to avoid such results may be deducted under section 23(a)(1)(A). Moreover, it would appear that the course of action which plaintiff did follow is not at all extraordinary in the industry. Defendant itself has cited to us, in oral argument, seven instances when the same course of action was undertaken by other public utility companies.

In this competitive, f ast-moving age there is no such thing as industrial standstill. This is especially true when natural gas becomes available to replace the artificial man-made commodity. Both serve the same purpose. But natural gas is made in Nature’s laboratory, by a secret process which no man knows and no man as yet has been able to duplicate.

In view of the foregoing, it is our opinion, and we so hold, that, on balance, the expenditures in question more closely resemble ordinary repair expenses or expenses made to retain or protect an existing business than they do capital outlays. Therefore, they fall within the purview of section 23(a) (1) (A) of the 1939 Code and may be deducted from gross income in the years when incurred.

Judgment will be entered for the plaintiff with the amount of recovery to be determined pursuant to Buie 38 (c).

It is so ordered.

Beed, Justice {Bet.) sitting by designation; Duress, Judge; and Laramore, Judge, concur.

Whitaker, Judge,

dissenting:

There is much to be said for the opinion of the majority, but I am inclined to think that the expenditures for the adaptation of customers’ appliances to the use of natural gas are not deductible as ordinary and necessary business expenses for this reason:

The expenditures plaintiff made to convert the equipment in its own plants and pipe lines for the use of natural gas were not ordinary and necessary business expenses, but undoubtedly were capital expenditures. But these capital expenditures were worthless without the conversion also of its customers’ appliances. In order to give value to its own equipment, it was required to spend money to convert its customers’ appliances. The money so spent should be added to the cost of conversion of its own equipment and deducted, by way of depreciation or amortization, over a period of years, and not wholly in the year expended. Cf. Teitelbaum v. Commissioner, 294 F. 2d 541.

FINDINGS OF FACT

The court, having considered the evidence, the stipulation of the parties, and the briefs and argument of counsel, makes findings of fact as follows:

1. The plaintiff corporation is, and has been for many years, an electric and gas public utility company operating under the laws of the State of Connecticut. Prior to 1952, the gas portion of plaintiff’s business consisted partly of the manufacture and distribution of gas at retail, and partly of purchasing for resale to other utilities at wholesale, gas manufactured at a plant located in New Haven, Connecticut, by The Connecticut Coke Company, a corporation not affiliated with the plaintiff. Immediately prior to 1952 plaintiff’s service area included 87,716 customers in thirty towns, cities and burroughs.

2. (a) In the period immediately prior to 1952, approximately 60 percent of the total amount of manufactured gas distributed by plaintiff was purchased for resale from The Connecticut Coke Company. Included in that 60 percent was the plaintiff’s supplying, at wholesale, of the major portion of tbe gas ultimately distributed by The Hartford Gas Company (an unaffiliated company) to the city of Hartford and surrounding communities.

(b) Of the gas sold by the plaintiff at retail during that period, some 38 percent was purchased for resale from The Connecticut Coke Company. Of that 38 percent, part went via plaintiff’s own transmission lines, and part went via the combined transmission and pumping facilities of the plaintiff and The Hartford Gas Company, to Windsor, Rockville, Middletown, Meriden, Bristol, and surrounding areas. The remaining 62 percent of the gas sold by the plaintiff at retail in Putnam, Willimantic, Waterbury, Winsted, Norwalk, and surrounding areas was manufactured by the plaintiff at five separate plants owned and operated by it in those towns.

(c) For the year 1951, of the plaintiff’s gross revenues from the sale of manufactured gas, approximately 24 percent was attributable to sales at wholesale, and the remaining 76 percent was attributable to retail sales.

3. During the period prior to 1952, in addition to the five manufacturing plants referred to above, the plaintiff owned and operated, inter alia, 25 gas storage holders (12 of which were high pressure and 13 low pressure) and a high pressure transmission gas main from New Haven to Hartford, with branches to Bristol, Meriden, and Middletown, which main was 59.3 miles in length and varied in size from a diameter of 16 inches to a diameter of 6 inches. The plaintiff also owned and operated 774 miles of gas distribution mains.

4. On February 8, 1950, the plaintiff’s Board of Directors adopted the following resolutions:

Resolved, that the officers of the Company are authorized to guarantee to purchase such minimum amount of natural gas per year during the first five-year period that natural gas is available for the territory served by the Company as may, in the opinion of the proper officers, be advisable provided the price, terms and conditions in relation to such purchase are satisfactory.
Resolved, that the officers of this Company are authorized to take such action as may be necessary to present this and other information to any regulatory agency, whether by intervening in proceedings before such agency involving tlie issuance of certificates of public convenience and necessity to suppliers of natural gas in any New England states, or otherwise.

5. On February 24, 1950, plaintiff received a letter from the Public Utilities Commission of the State of Connecticut reading in part as follows:

In connection with the forthcoming hearings before the Federal Power Commission upon the introduction of natural gas into Connecticut, we believe it is desirable for your Company to file with the Federal Power Commission, as a part of the record of these natural gas proceedings, a statement showing the willingness of your Company to enter into a long term contract to purchase your requirements of natural gas from whichever applicant receives the requisite certificate of public convenience and necessity from the Federal Power Commission. We believe it is also desirable for your Company to file with the Federal Power Commission at the same time evidence of the action of your Board of Directors authorizing a proper officer of your Company to enter into such a contract with the successful applicant.

6. Plaintiff intervened in the proceedings before the Federal Power Commission of the Algonquin Gas Transmission Company, Docket No. G-1319, and the Northeastern Gas Transmission Company, Docket No. G-1267, which proceedings ultimately resulted in the granting of permission to both companies to supply natural gas to different portions of plaintiff’s service area. Plaintiff advised the said Commission that it would be willing to enter into long-term contracts for natural gas. Plaintiff also advised the Federal Power Commission that it believed that the introduction of natural gas into the areas served by it at retail and wholesale would be of material benefit for the following reasons:

1. It will largely replace enriching oil.
Due to the difficulty of obtaining carbureting oils of satisfactory characteristics and to the uncertainty of the future cost of this oil, a fuel to replace it will be very beneficial to manufacturing operations.
2. It will reduce the amount of coke used.
The substitution of natural gas in part will decrease the coke used for gas manufacture and replace it with a fuel of lower thermal cost.
3. It will reduce operating costs.
With the high prices of oil and coke now prevailing, the use of natural gas would make a material reduction in estimated operating costs. Based upon the assumption that natural gas will be delivered at the plant sites for 41.70 per Mcf, it is estimated that the total system operating expense for 1952, before appliance conversion expense write-off, will be reduced $819,000. Included in this difference or saving is an estimated reduction of 13.980 per Mcf realized by the proposed use of natural gas in the plant of The Connecticut Coke Company and it reflects such cost benefits as are indicated insofar as negotiations have progressed.
4. It will save certain contemplated capital investments.
Reforming with natural gas rather than with oil will materially increase the capacity of the Company’s water gas production equipment located in Waterbury and Norwalk. The use of straight natural gas in the plants located in Winsted, Putnam and Willimantic contemplates no further use of the gas production equipment and thus practically obviates any further investment in such facilities, leaving only investments to be carried as associated with gas storage and handling. The stepped-up B.t.u. value of 660 on the Company’s gas transmission system involved in purchased gas will materially add to the capacity of such system, thus deferring certain investments.

7. (a) Plaintiff advised the Federal Power Commission that, in the five service areas supplied with gas purchased from The Connecticut Coke Company, it proposed to distribute a mixture of natural and manufactured gas having a rating of 660 B.t.u. and that such gas would be mixed and supplied under a contract with The Connecticut Coke Company. At that time plaintiff was supplying these areas with 528 B.t.u. manufactured gas. With respect to Norwalk and Waterbury, plaintiff advised the Commission that it would continue to distribute 528 B.t.u. gas but that it would be a mixture of natural and manufactured gas. With respect to the Putnam, Willimantic, and Winsted areas, plaintiff advised the Power Commission that as the gas plants in these three areas were old and too small to be operated economically, it proposed to distribute to consumers in those areas straight 1,000 B.t.u. natural gas.

(b) Plaintiff began serving straight natural gas in the Putnam, Willimantic, and Winsted areas during 1952 and 1953. By tbe end of 1959, it bad also begun serving straight natural gas in Bristol, Rockville, Southington, and Nauga-tuck. The Norwalk area is currently being converted to the use of straight natural gas.

8. Before making any contracts with either Algonquin or Northeastern, plaintiff, by application filed October 4,1951, requested the Public Utilities Commission for the State of Connecticut for permission to transfer all its gas transmission facilities, consisting principally of the high pressure main running from New Haven to Hartford, to The Connecticut Gas Company, a newly formed, wholly-owned subsidiary. The stated purpose of this transfer was to avoid the expense incident to dual regulation by the Federal Power Commission and the Public Utilities Commission of the State of Connecticut. The Connecticut Commission, after a public hearing (Docket No. 8607), granted plaintiff permission to transfer the said transmission facilities. According to the books and records of the plaintiff and its subsidiary, The Connecticut Gas Company, on or about January 2,1952, the plaintiff subscribed for the purchase of 12,500 shares of its subsidiary’s stock at a price of $100 per share. At the same time, the plaintiff sold to its subsidiary for cash all of its gas transmission facilities at a net sales price of $841,650.39, consisting of their original cost of $1,489,494.57, less accrued depreciation of $647,844.18. After the transfer of the transmission facilities to its wholly-owned subsidiary, the remaining gas utility facilities of the plaintiff had an initial cost of $21,653,022.02, and a depreciated cost of $18,716,312.04. These remaining facilities consisted primarily of items such as gas production plants, storage facilities, distribution mains, pumping equipment and meters.

9. Prior to 1952, The Connecticut Coke Company owned a parcel of land surrounding its plant in New Haven, Connecticut. On or about January 1, 1952, the plaintiff’s wholly-owned subsidiary, The Connecticut Gas Company, entered into a 20-year lease of a small part of the land of The Connecticut Coke Company and constructed on that land a manufactured and natural gas mixing plant costing $244,814.42. Of tbat sum, The Hartford Gas Company contributed $73,444.33 and an unaffiliated company known as New Haven Gas Light Company contributed $122,407.21. Neither sum contributed by the latter two companies was to be returnable to them. The net depreciable cost of the plant to The Connecticut Gas Company for Federal tax purposes was $48,962.88. The Connecticut Gas Company acquired the funds with which to bear its portion of the cost from its original issue of common stock to the plaintiff.

10. Subsequently, on December 23, 1958, the plaintiff herein, jointly with the United Illuminating Company of New Haven, which was engaged only in the production and sale of electricity, purchased from The Connecticut Coke Company the land on which the coke plant was situated at a total cost of $2,483,024. This land was purchased for use in the future expansion of the electric departments of the purchasers. In addition, the plaintiff purchased for itself the land on which the mixing- plant built by its subsidiary was located, land under lease to the Algonquin Gas Transmission Company, and the land on which propane tanks were located at a total cost of $289,339. At the same time, plaintiff purchased the aforesaid propane tanks at a cost of $300,000. On the same date December 23, 1958, all of the property purchased from The Connecticut Coke Company was leased back to The Connecticut Coke Company. As rental for such property, The Connecticut Coke Company must pay all taxes, assessments, and other impositions against the leased property and maintain appropriate liability insurance with respect thereto. The said lease will expire September 20,1968. In purchasing the land on which the mixing plant is located, the plaintiff left undisturbed the 20-year lease of the property in favor of its wholly-owned subsidiary, The Connecticut Gas Company. Also, the lease to Algonquin Gas Transmission Company was left undisturbed.

11. All heat-generating commodities, including gas, are rated with reference to a unit of measurement known as a British Thermal Unit (B.t.u.). In general, one B.t.u. is that quantity of heat which is required to raise the temperature of one pound of water one degree Fahrenheit. Prior to 1952 the manufactured gas served by the plaintiff had a B.t.u. rating of 528. Straight natural gas has a B.t.u. rating of 1,000. Mixed natural and manufactured gas may be so produced as to have, within reasonable limits, any desired B.t.u. rating equal to or short of that of straight natural gas. Because the B.t.u. rating of straight natural gas is considerably higher, a given quantity of natural gas will produce considerably more heat, when burned, than an equivalent quantity of lower-rated gas. Consumers may therefore substantially reduce their quantity of gas consumption upon any substantial increase in the B.t.u. rating of the gas they consume. It follows that, in terms of heat-generating capacity, an increase in the B.t.u. rating of gas automatically increases the number of units of heat which can be transmitted by existing pipelines or can be stored by existing storage tanks. Such an increase in the B.t.u. rating of gas served would therefore operate to delay or eliminate any contemporaneous or prospective necessity for replacing existing pipelines and storage holders with those of greater capacity and, in the case of mixed gas, would operate to delay or eliminate the necessity of increasing the productive capacity of existing manufacturing plants.

12. When the plaintiff and its subsidiary undertook to convert their businesses from that of supplying straight manufactured gas to that of supplying a higher-rated natural or mixed gas, they understood and expected that such conversion would have several effects upon their existing capital investment. Thus, in those areas which were to be served with straight natural gas, they were able to effect the virtual retirement, except for standby emergency purposes, of some of the existing gas manufacturing plants and related equipment.

Moreover, certain types of capital expenditures became necessary. The plaintiff or its subsidiary had to and did construct lateral transmission lines to connect the interstate natural gas pipelines with their own transmission and distribution facilities and they built new metering stations. Because natural gas is both odorless and tasteless, safety considerations required the installation and use of special oclorizing equipment. Also, since natural gas is relatively dry as compared witli manufactured gas, so-called oil fogging or moisturizing equipment became necessary so as to lielp (prolong the life of existing pipeline linings. Plaintiff’s remaining manufacturing plants (including those held for standby emergency purposes) had to be converted so as to be able to produce gas of a much higher B.t.u. rating. The organic diaphragms of household gas meters had to be changed so as to prevent their dehydration by the much drier natural gas.

13. During the years since the plaintiff began its program of conversion to the use of natural gas — and wholly apart from any of the amounts referred to in finding 10 — the plaintiff and its subsidiary have made capital expenditures of the types referred to in finding 12 in the following amounts for the following years:

Conn. Gas Co. Plaintiff Total
1951_$71, 408.16 $422, 667. 79 $494,075. 95
1952 _ 303,005.34 290, 073.95 593, 079.29
1953 _ 93,158.36 41, 830.55 134, 988.91
1954 _ 169. 09 46, 754. 54 46, 923. 63
Total_ 467, 740. 95 801,326. 83 1, 269,067.78
1957 _$39, 822.01 $74, 648.65 $114,470. 66
1958 _ 41,228.89 370, 703. 71 411,932. 60
1959 _ 651. 65 38, 436. 61 39, 088.26
Total_ 81, 702. 55 483, 788. 97 565,491. 52

14. Under the 1952 and 1953 contracts with Algonquin Gas Transmission Company and Northeastern Gas Transmission Company, the natural gas purchased from Algonquin was delivered to measuring stations owned by plaintiff or The Connecticut Gas Company at New Haven, Waterbury, Willimantic, Putnam, and Wethersfield, and the natural gas purchased from Northeastern was delivered to such measuring stations at Norwalk and Winsted. Plaintiff purchased these supplies of natural gas from its wholly-owned subsidiary, The Connecticut Gas Company.

15. As has been indicated, natural gas could be used in smaller quantities and both it and much of the mixed gas had higher B.t.u. ratings and different burning characteristics tban the previously supplied manufactured gas. Therefore, in order for plaintiff and its subsidiary to be able to supply to the plaintiff’s customers, through their existing, new, or converted facilities, natural gas or a mixture of natural and manufactured gas having a rating in excess of 528 B.t.u., it was necessary that the gas-consuming appliances of all of the plaintiff’s existing customers be converted to the most efficient and safe use of such new gas.

16. In order to effect the conversion of customers’ appliances as expeditiously as possible, plaintiff employed, under contract, a wholly unrelated firm which specialized in that field and, under plaintiff’s supervision, the necessary conversions were completed. The aforesaid contract continued during the years 1952 and 1953 and the contracting firm was compensated on the basis of time consumed and cost of parts furnished to effect the conversion of the various appliances. During the aforesaid years 1952 and 1953 the appliances of 43,029 residential customers, 2,216 commercial customers and 210 industrial customers were thus converted. These three classes of customers, on an average, had in operation about eight burners each.

17. (a) Conversion of household appliances may be described as follows: (a) The burner ports, which are individually drilled holes in the burner head where combustion occurs, had to be enlarged by an electric drill, or where such ports were rectangular in shape instead of round, replacement of the burner head was necessary; (b) specially designed gas burners had to be replaced; (c) the size of the orifice, which is the opening through which gas flows to the burner, had to be reduced or the orifice replaced in order to insure the correct amount of gas reaching the burner; (d) the primary air shutter had to be adjusted to produce the proper air and gas mixture for correct flame characteristics; (e) leakage around range oven doors had to be reduced to a minimum to prevent the product of combustion from reaching the top burner compartment which would cause the top burner flame to lift or float off the burner ports; (f) the flueways of appliances, where necessary, had to be enlarged to relieve back pressure on the burner; and (g) where leather diaphragms were used on control equipment for appliances, they had to be replaced with other suitable material because natural gas would dehydrate the diaphragms to such extent that the controls would not function satisfactorily.

(b) In the conversion of industrial gas-consuming appliances the combustion tunnels, which are the equivalent of burners in home appliances and are made of refractory material, had to be removed and replaced by tunnels of larger diameter in order to maintain the manufacturer’s B.t.u. input rating. Absent such conversion, a much slower heat recovery would have resulted or would never be attained for certain specific operations. This would have greatly reduced the work output and thus adversely affected the economic operation of the plant. In effecting the above conversion it was also necessary to adjust the air intake shutter of each burner to produce proper combustion.

18. In 1952 and 1953, plaintiff spent $250,063.11 and $346,594.60, respectively, for the conversion of customers’ appliances in the service areas including the communities of Meriden, Southington, Cheshire, Middletown, Cromwell, Bristol, Plainville, Vernon, Bockville, Windsor, South Windsor, East Windsor, Windsor Locks, Suffield, Enfield, Winsted, Winchester, Willimantic, Windham, Putnam, Kil-lingley, Danielson and Brooklyn. Conversion of customer-owned appliances was not necessary in the areas surrounding Norwalk and Waterbury, because such customers were to be supplied with 528 B.t.u. gas which was composed of a mixture of natural and manufactured gas. During the years 1952 and 1953, in addition to such nonrecurring conversion expenditures, the plaintiff also incurred expenses for services of a usual and recurring nature rendered on customers’ premises in the amounts of $118,431.09 and $146,212.36, respectively.

19. Under the Uniform System of Accounts Prescribed for Gas Utilities promulgated by the Public Utilities Commission of the State of Connecticut, where a gas utility company actually makes expenditures of the types referred to m finding 18, such expenditures are to be reflected on the company’s books in an operating account denominated as B A 769. The instructions with respect to that account state, in relevant part:

B A 769. Services on Customers’ Premises.
A. This account shall include the cost of labor employed, materials used, and expenses incurred in work on customers’ premises . . .
Items
Improving character of service.
Inspecting and adjusting customers’ equipment, including adjustments in connection with changes in B.t.u. content, pressure or other characteristics of gas supplied whether required by regulatory authorities or at the request of the customer.
Inspecting premises.
Installing, removing, and renewing gas lights.
Investigating and adjusting customers’ service complaints.
Testing customers’ equipment.

20. On the plaintiff’s books Account B A 769 reflected, for the years 1952 and 1958, the entire amounts of its expenses for the rendering of services of a usual and recurring nature on customers’ premises. For those same years, Account B A 769 did not reflect the entire amounts of the expenditures made by plaintiff for the conversion of consumer appliances to the use of natural gas or higher-rated mixed gas. In each of the years 1952 and 1958, plaintiff’s Account B A 769 reflected the deduction of 52 percent of the actual amounts of such conversion expenditures, and, beginning with the year 1953, 1/10 of the balance of such expenditures was deducted each year. This procedure was required and approved 'by the Public Utilities Commission of the State of Connecticut so that plaintiff’s operating income for the years 1952 and 1953, which had a direct effect upon the gas rates it was permitted to charge to consumers, would not be distorted by the entire amounts of the plaintiff’s nonrecurring conversion expenditures during those years. In summary, plaintiff’s Account B A 769 for the years 1952 and 1953 reflected the following entries:

Item 1952 195S
For services of a ■usual and recurring nature rendered on customers’ premises_$118,431. 09 $146,212.36
Nonrecurring expenditures for converting customers’ appliances for the use of natural gas_ 130,032.82 208,868.78
The amount of $208,868.78 above is composed of the following items:
52% of 1953 expenditures of $346,594.60_$180, 229.19
10% of 1952 balance ($250,063.11-130,032.82)_ 12, 003.03
10% of 1953 balance ($346,594.60-180,229.19)_ 16,636.54
$208, 868.76

21. In. its Federal income tax returns for 1952 and 1953 plaintiff deducted as ordinary and necessary expenses the total expenditures made in each such year for converting customers’ appliances to the use of natural gas. It also deducted in its 1952 and 1953 returns the expenditures of $118,431.09 and $146,212.36, respectively, referred to in finding 20, the deductibility of which items has never been, and is not now, in issue.

22. After examination and audit by a revenue agent of plaintiff’s tax returns for the taxable years 1952 and 1953, the Commissioner of Internal Revenue disallowed, in part, the claimed deductions of the conversion expenditures of $250,063.11 and $346,594.60 for 1952 and 1953. As grounds for such disallowance, the Commissioner stated:

Conversion Expenses: [1952]
To disallow cost of converting customer-owned equipment charged to expenses. These expenses, although necessary, are not ordinary, and should be capitalized and recovered over a period of ten years.
Cost during 1952_$250,063.11
Amortization allowable in 1952
$250,063.11-4-10 years x % year_ 12,503.15
Net Cost disallowed_$237, 559.96
Conversion Expenses: [1953]
To disallow cost of converting customer-owned equipment charged to expenses. These expenses, although necessary, are not ordinary, and should be capitalized and recovered over a period of ten years.
Cost during 1953_$346,594.60
Amortization
1952 Costs $250,063.11 x 10%_$25,006.31
1953 Costs $346,594.60 x 10% x %_ 17,329.73 - 42, 336. 04
Net amount disallowed. $304,258.56

23. In August 1952, plaintiff announced a reduction in gas rates of about 8 to 10 percent to become effective upon installation of natural gas in the several service areas. In 1953, plaintiff filed an application with the Public Utilities Commission of Connecticut for authority to increase its electric, gas, and water rates. On October 23,1953, after a public hearing, the said Commission issued an order increasing rates and charges for all departments (Docket No. 8846). The gas rates which resulted from plaintiff’s rate reduction in August 1952, were increased approximately 5 percent. In the determination of the permissible gas rates which plaintiff could charge its gas customers, the Public Utilities Commission in the above referred to proceeding included in plaintiff’s rate base the capital expenditures of $1,222,144.15 (for the years 1951-1953, inclusive), referred to in finding 13 above. The said Commission in the said proceeding did not include in plaintiff’s rate base the conversion expenditures of $250,063.11 and $346,594.60 referred to in findings 18 and 20-22. The Commission in such proceeding, in the determination of plaintiff’s income for 1953 for rate-making purposes included as a recurring item of expense the amount of $146,212.36 referred to in finding 20 above, but allowed the deduction of only a part of the nonrecurring conversion expenditures of $250,063.11 and $346,594.60 for 1952 and 1953, to the extent specified in finding 20.

CONCLUSION OF LAW

Upon the foregoing findings of fact, which are made a part of the judgment herein, the court concludes as a matter of law that plaintiff is entitled to recover and judgment will be entered to that effect. The amount of recovery will be determined pursuant to Rule 38 (c).

In accordance with the opinion of the court and on a memorandum report of the commissioner, and a stipulation for judgment entered into by the parties, it was ordered on May 11, 1962, that judgment for plaintiff be entered for $324,653.58, with interest thereon as provided by law, subject to the administrative offset in accordance with the stipulation of the parties. 
      
       See finding 6.
     
      
       This fact is of no legal significance insofar as the merits of this case are concerned.
     
      
       See finding 17(b) for details concerning the conversion of industrial gas-consuming appliances.
     