
    HOWARD SHEEP COMPANY v. THE UNITED STATES
    [No. H-168.
    Decided March 7, 1932]
    
      
      Mr. Robert A. Littleton for the plaintiff. Messrs. Camden R. McAtee and Blaine B. Shimmel, and Mason, Spalding & McAtee were on the briefs.
    
      .Mr. Bradley B. Oilman, with whom was Mr. Assistant Attorney General Charles B. Rugg, for the defendant. Messrs: George H. Foster and James A. Cosgrove were on the brief. •
   GreeN, Judge,

delivered the opinion:

This action is begun to recover an alleged overpayment of income and profits taxes which were assessed against and paid by the plaintiff for the year 1918. It appears that in the forepart of 1919 a formal resolution was adopted by the plaintiff authorizing the payment of additional salaries to its officers as of December 31, 1918, and plaintiff claims that the amount of additional salaries so provided for should be allowed as a deduction from the amount of its income for the year 1918. This the commissioner refused to do; the plaintiff paid the amount of additional taxes resulting from this determination under protest, and, having filed a claim for refund, now asks judgment for the amount so paid together with interest. The sole issue in the case is as to whether the commissioner’s action was correct.

The question upon which the case turns is primarily one of fact as to whether the amount of additional salary which the plaintiff claims should have been allowed as a deduction was, in the language of the statute, “paid or accrued” in the year 1918. There is no claim that it was paid in 1918, or has since been paid, although the officers whose salaries were increased were credited with the amount of the increase on the books of the company. But the company kept its books on an accrual basis and it is urged on behalf of plaintiff that these additional salaries “accrued” in December, 1918.

The testimony shows that the plaintiff was engaged in the business of sheep raising on a large scale, owning approximately 28,000 acres of land, leasing about the same number of acres, and also had some grazing permits. Its flocks averaged between 18,000 and 20,000 sheep. No question .is raised as to the value of the services of its officers, nor is there any claim made that the additional sums voted as salaries were unreasonable in amount. Defendant insists that no obligation to pay these salaries arose in 1918, and that no deduction could properly be made from income of that year on account of the change in the salaries.

Prior to the time when the change was made in the salaries, the president of the company was the only one of its officers who received any salary, his pay being $2,400 a year. The findings show that in 1918, anticipating that the business would be quite profitable, the officers of plaintiff consulted a tax adviser and made inquiries for the purpose of ascertaining salaries paid to the officers of other sheep companies with the intent of providing for the payment of like salaries to the officers of the plaintiff. Such action of course would result in the plaintiff paying a smaller amount of taxes. In order to carry out this intent to increase the salaries, the determination of amounts to be paid each officer was left to Mr. Koch, manager, and Mr. Tepe, accountant, of the Arizona Lumber & Timber Company, and Mr. Claude Parker, an expert tax adviser. Various causes delayed the consultation of these parties and determination of the matter. The decision as to what would be a fair salary for the officers was not made until along in January or February, 1919. About March 1, 1919, a formal resolution of the corporation was passed that a total salary of $15,000 was a reasonable amount to be paid to the officers of the Howard Sheep Company, and that amount was entered upon the company’s books as salaries for its officers as of December 31, 1918, and was continued to be carried on the company’s books for the years 1919 and 1920. The officers, however, never drew or received the amount of salary so voted, except the $2,400 a year which had heretofore been paid the president and general manager. It also appears that no charge was entered against the company or credit given any of the officers for these salaries upon the company’s books until the formal resolution was adopted in 1919.

The fact that the formal resolution providing for the salaries was not adopted until 1919, and no entries were made upon the books on account of these additional salaries until that year, would not be controlling if the evidence further showed that there was some kind of an agreement, either formal or informal, between the officers of the company who held all of the stock during the year 1918, which fixed the amount of the additional salaries and provided to whom these additions should be paid. But there was no such agreement. There was merely an understanding that salaries would be raised when the proper amount was ascertained. The intention probably was that this raise should apply to the year 1918, but the amount of the increase, or to whom it should be paid, instead of being determined, was left to the determination of some other parties who did not make such determination until 1919. For this reason we think no liability arose on the part of the company to pay the increase in salaries for the year 1918.

It is well settled that directors may not create a deduction to be considered in calculating the corporation’s net income for a taxable year by voting in the succeeding year to pay additional salaries for the prior year. See Bogle & Co., Inc. v. Commissioner, 26 Fed. (2d) 771; Henderson Iron Works Co. v. Blair, 25 Fed. (2d) 538; Seabright Woven Felt Co. v. Ham, 38 Fed. (2d) 114. In Lucas v. Ox Fibre Brush Co., 281 U. S. 115, it was held that a deduction could not be made from the income of a prior year for payments of salaries made in the succeeding year when “it is undisputed that there was no prior agreement or legal obligation to pay the additional compensation.” In the case at bar it would seem there was no legal obligation to pay the increase in salaries until 1919.

We do not think the cases cited by counsel for plaintiff are applicable. In Appeal of Isaacs & Co., 1 B. T. A. 45, it appeared that there was an informal agreement made by the directors with reference to the salaries in the year for which it was sought to have an allowance made, but no such agreement is shown in the case at bar. Mossman, Yarnelle & Co. v. Commissioner, 9 B. T. A. 45, seems to us directly in point. In that case it appeared that there was an informal discussion by the officers in 1918 with the evident intent of increasing the salaries for that year, but no action was taken thereon until the following year, and it was held that the increase in salaries should not be allowed as a deduction from the income of 1918. It is true that in that case the evidence did not show the amounts fixed were earned in the accounts at any time as a liability, but in the instant case they were never carried as a liability until after the recorded action in 1919. When the credit or charge was entered it was made as of 1918, but if no liability was in fact incurred in 1918 the making of such an entry would not change the situation.

The majority opinion in the case of Brampton Woolen Co. v. Commissioner, 45 Fed. (2d) 327, to some extent supports the contention made on behalf of the plaintiff, but we think the reasoning of the dissenting opinion is the better.

We conclude that the decision of the commissioner was correct and that plaintiff’s petition should be dismissed. It is so ordered.

Whaley, Judge; Williams, Judge; and Booth, Chief Justice, concur.

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