Opinion
Docket No. 110784.
1944-03-6
SOUTH TACOMA MOTOR COMPANY, A CORPORATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Charles F. Osborn, Esq., for the petitioner. Wilford H. Payne, Esq., for the respondent.
Petitioner sold, for cash, coupon books entitling the purchaser to certain services, which might be called for and performed after the year of sale. The purchaser had the right to rescind and receive a refund. The petitioner set up the amount received as a liability, and, when a coupon was later presented and service rendered, charged itself with an aliquot part of the original sale price as income, and entered as expense the cost of the service. Held, the entire amount received for the coupon books was income in the year when received upon sale. Brown v. Helvering, 291 U.S. 193; South Dade Farms, Inc. v. Commissioner, 138 Fed.(2d) 818. Charles F. Osborn, Esq., for the petitioner. Wilford H. Payne, Esq., for the respondent.
The present proceeding involves income tax, declared value excess profits tax, and excess profits tax liability. The petition herein was filed for the purpose of redetermining the following deficiencies:
+---------------------------------------------+ ¦ ¦ ¦Declared value¦ ¦ +----+----------+--------------+--------------¦ ¦Year¦Income tax¦excess profits¦Excess profits¦ +----+----------+--------------+--------------¦ ¦ ¦ ¦tax ¦tax ¦ +----+----------+--------------+--------------¦ ¦1939¦$59.24 ¦$23.64 ¦ ¦ +----+----------+--------------+--------------¦ ¦1940¦616.56 ¦390.68 ¦$469.64 ¦ +---------------------------------------------+
The sole question presented is whether the proceeds received by petitioner, who was on the accrual basis of accounting, from the sale of certain coupon books, each one of which contained an agreement which provided for specified services to be rendered by petitioner to its customers over a period not necessarily limited to the taxable year, are includible in petitioner's gross income for the taxable year in which such sales were made without regard to the amount of service performed thereunder, or whether only so much of the proceeds from these sales is to be included in petitioner's gross income in a particular taxable year as is represented by the actual performance by petitioner during that particular taxable year of the services specified in the agreement.
The stipulation of facts filed in this proceeding is incorporated herein by reference as part of our findings of fact. Material parts thereof will be set forth with the findings of fact made from other evidence.
FINDINGS OF FACT.
Petitioner is a corporation duly organized and existing under the laws of the State of Washington, with its principal place of business in Tacoma, Washington.
Petitioner filed its corporation income and excess profits tax return (Form 1120) for 1939, and its corporation income, declared value excess profits, and defense tax return (Form 1120), together with its corporation excess profits tax return (Form 1121), for 1940 with the collector of internal revenue at Tacoma, Washington.
The deficiency notice was mailed to petitioner on or about January 29, 1942. The deficiency asserted therein for the taxable years 1939 and 1940, the entire amount of which, to wit, $1,559.76, is in controversy, was computed by adding to petitioner's taxable income for 1939 and 1940 the sums of $826.34 and $2,959.68, respectively, representing the net increase in petitioner's service contract deposits account (hereinafter sometimes referred to as service account) for those years.
Petitioner has maintained its accounting records on an accrual basis for many years, including 1939 and 1940.
Petitioner is in the business of selling new and used automobiles and operating a repair shop and service station in connection therewith. During 1939 and 1940, in addition to selling products of General Motors Sales Corporation (hereinafter sometimes referred to as General Motors) and its subsidiaries, petitioner sold service and chassis lubricating coupon books designated ‘Chevrolet Owners Protective Service.‘ The method of selling these books was originated by General Motors Corporation. Such a book containing six coupons sold for $5, and a similar book containing twelve coupons sold for $10. These books contain the car serial number, the date of issue, the name of the purchaser, the dealer's name, and the coupons covering the number of lubrications, inspections, and services to be performed. Each book also contains the following agreement printed on the inside cover:
CHEVROLET OWNER'S PROTECTIVE SERVICE.
In return for the sum of $ . . . received from the car owner whose name appears on the reverse side of this Agreement, we, the undersigned, agree to provide the services represented by the coupons attached within. Each time the car is lubricated, it will be inspected and tested, and any item found needing repair or replacement should be called to the owner's attention. Also, the following additional services will be performed each time the car is lubricated:
+--------------------------------------------------------+ ¦Clean Windshield¦Check Water in Battery¦Clean Door Glass¦ +----------------+----------------------+----------------¦ ¦Check Water in ¦Clean Floor Mats ¦Clean Headlamp ¦ +----------------+----------------------+----------------¦ ¦Radiator ¦Check Air in Tires ¦Lens ¦ +--------------------------------------------------------+
Car serial No. Date Issued Dealer (This service does not include Motor Oil used for changes.)
COUPONS GOOD ONLY WHEN DETACHED BY DEALER OR AUTHORIZED REPRESENTATIVE.
Petitioner has been engaged in the business of selling these coupon books since 1931. The purchase price for each book is paid in full upon the issuance of the book. The services called for in a coupon book are usually spread over a period of time which may vary from several months to several years.
Petitioner did not report the receipts from sales of the coupon books as gross income in the taxable year in which they were sold, but instead credited the receipts therefrom to its service account. Subsequently, when a customer presented a coupon in payment for service and when the service specified by a coupon was performed, petitioner then charged the service account with 83 cents, the selling price allocable to each coupon, and credited 83 cents to gross income on its books. The portion of the sale price of the coupon books for which no service had yet been performed was reflected by petitioner on its monthly financial statement as a liability.
The cost of performing the various services (labor and materials) was charged to expense in the year the service was rendered. Such costs were subject to variance due to fluctuation of the costs of labor and materials at the time the services were actually performed.
It was petitioner's practice to redeem the unused portion of these coupon books if the customer disposed of his car, or moved to another community, or even if the customer was merely dissatisfied with the service or wanted to cash the unused coupons. This practice was known to petitioner's customers. If a refund was made to a customer, petitioner would recompute the charges made for past services rendered and charge at the rate of $1 per lubrication instead of the discount rate of 83 cents per lubrication. If a customer failed to call for services, petitioner, after a reasonable time, would credit income with the unused portion of the sale price of the coupon book. If a customer moved to another city, petitioner would, with the customer's consent, forward to some other dealer in such city an amount equal to the unused balance in the service account relating to the particular coupon book. General Motors required that if petitioner should sell out its business, the stated balance in the service account would be regarded as a liability in computing the sale price to a purchaser, and all contracts of this nature were subject to approval by General Motors.
The money received by petitioner from the sale of the coupon books became part of the general funds and assets of petitioner and was kept in the corporation's general bank account, the balance of which always exceeded the amount of money equivalent to the value of the unused coupons in these books.
Petitioner was a dealer in products of Chevrolet Motor Division of General Motors and entered into a selling agreement with it. That agreement contained, in addition to other provisions, the following provisions:
UNIFORM ACCOUNTING SYSTEM
The Dealer agrees to use and keep up to date at all times a satisfactory uniform accounting system designated by Seller and to furnish to Seller, by the tenth of each month, a complete and accurate financial and operating statement with supporting data covering the preceding month's operations, showing the true and actual condition of Dealer's business. Dealer agrees to keep said system in strict accordance with the Accounting Manual furnished by Seller.
EXAMINATION OF ACCOUNTS AND RECORDS
Dealer agrees to have an examination of his accounts and records made by a person or persons, either in the employ of Seller or acceptable to Seller, at such time or times as Seller may designate, copy of reports on such examination to be furnished to both Seller and Dealer.
The accounting manual contained, in addition to other provisions, the following provisions:
307 SERVICE CONTRACT DEPOSITS:
The balance in this account represents the unabsorbed balance of deposits on Service and Lubrication Agreements which have not expired.
Credit this account with all deposits received from customers in payment of Service and Lubrication Contract Agreements.
Debit this account with the sale price of the service rendered and material supplied under the terms of such Service or Lubrication Agreements.
This is a controlling account and should be supported by a Subsidiary Ledger, which should contain separate accounts with each individual contract deposit.
Petitioner made its monthly financial statement to General Motors on a form supplied by the latter. The item, ‘Service Contract Deposits,‘ was listed on page 1 of that form under ‘Liabilities.‘
The method of accounting used by petitioner is required by its contract with General Motors. The petitioner followed the instructions set forth in the General Motors accounting manual and treats the service accounts as a current liability. This is reflected in its general ledger, which summarizes the subsidiary ledger, which contains a separate ledger sheet for each customer.
OPINION.
DISNEY, Judge:
During each of the taxable years in question, petitioner reported as gross income from the sales of the coupon books described in the facts above only that part of the proceeds therefrom which was represented by the actual performance by petitioner during the particular taxable year of the services specified in the agreement. Petitioner carried the balance of the proceeds on its books of account as a liability.
Petitioner contends that his method of accounting and of reporting income from the sales of the coupon books is entirely consistent with the following applicable provisions of the Internal Revenue Code:
Section 41, Internal Revenue Code, providing in part as follows:
The net income shall be computed upon the basis of the taxpayer's annual accounting period * * * 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 in accordance with such method as in the opinion of the Commissioner does clearly reflect the income. * * *
Section 42, Internal Revenue Code, providing in part as follows:
The amount of all items of gross income shall be included in the gross income for the taxable year in which received by the taxpayer, unless, under methods of accounting permitted under section 41, any such amounts are to be properly accounted for as of a different period. * * *
Respondent, relying on the same sections of the Internal Revenue Code, has determined that all the proceeds received in a particular taxable year from the sales of these coupon books should be included in petitioner's gross income for that taxable year, irrespective of whether petitioner performed any services during that taxable year pursuant to the sales agreements.
Petitioner makes two principal contentions to sustain its position: (1) The customer has the right to rescind the contract and receive a refund after the taxable year in which the coupon book was sold; and (2) the nature of the contract is such that petitioner will have to perform many of the services required by the contract subsequent to the taxable year in which the coupon book was sold.
The first of these contentions must be rejected on the authority of Brown v. Helvering, 291 U.S. 193, wherein it is pointed out that ‘the mere fact that some portion of it (the money received by the taxpayer) might have to be refunded in some future year in the event of cancellation * * * did not affect its quality as income.‘ Either party to the insurance contracts there considered had the right of cancellation, as the Court points out. See also Grauman's Greater Hollywood Theatre, Inc., 37 B.T.A. 448; Automobile Underwriters, Inc., 19 B.T.A. 1160. In Pioneer Automobile Service Co., 36 B.T.A. 213, where the petitioner sold automobile service contracts, we approved the inclusion of the sales price in income in the year of sale and disapproved the idea of a reserve for expenses.
The second contention must also be overruled on the authority of South Dade Farms, Inc. v. Commissioner, 138 Fed.(2d) 818, wherein the court states that ‘section 41 * * * required that the method of accounting should clearly reflect income, not net earnings.‘ The petitioner received its income in the taxable year, though its net earnings therefrom might be affected in a later year.
Petitioner cites as authority for its method of reporting the proceeds received from the sales of the coupon books the case of Clinton Hotel Realty Corporation v. Commissioner, 128 Fed.(2d) 968. That case is distinguished from the instant case because the alleged advance payment of rent in that case was provided by the lease as ‘security‘ or as a ‘deposit‘ for the payment of rent and the performance by the lessee of the various other covenants in the lease. The court in that case pointed out that ‘if the only agreement was that it should apply to the last year's rent, it would of course be rent paid in advance‘ and therefore includible in the taxpayer's gross income for the year in which received. Cf. Edwin B. De Golia, 40 B.T.A. 845. The facts in the instant case are in closer analogy to the case of Astor Holding Co. v. Commissioner, 135 Fed.(2d) 47, wherein the court, in holding that an amount paid to a lessor as rent in advance is taxable income in the year of receipt, distinguished Clinton Hotel Realty Corporation v. Commissioner, supra, and stated that ‘whether a payment falls into one category or the other depends on the facts of the particular case.‘
Petitioner also cited Bonded Mortgage Co. of Baltimore v. Commissioner, 70 Fed.(2d) 341, as authority for the general proposition that both sides of petitioner's ‘ledger must be treated alike; otherwise its true income will not be reflected by the accounting.‘ Relying upon this general proposition, petitioner argues that, since it is permitted to deduct expenses only in the year in which they are incurred, Stern Bros., 13 B.T.A. 1192, it follows that it should be permitted to postpone the inclusion of the proceeds from the sale of these coupon books to the year in which it incurs expenses in performing the services called for in the coupon books. In the Bonded Mortgage Co. case, the Commissioner sought to require the taxpayer to include all the commissions received by it on mortgage loans in its gross income for the year of receipt, and at the same time denied the taxpayer the right to deduct all its expenses incurred during that same year in carrying on its business, such as bankers' commissions on the company's bonds or notes sold and annual premiums to the surety company which guaranteed the mortgages. The Commissioner contended that these expenses should be prorated over the life of the bonds or notes. The court held that the taxpayer could deduct these expenses in the year in which they were incurred without proration. In the Bonded Mortgage Co. case, the taxpayer incurred the expenses in the same year he received the income; the question there was whether it was proper to require the taxpayer to prorate expenses where income was not prorated. In the instant case, as far as the portion of the proceeds which are here in question is concerned, petitioner admits it did not incur any expenses with reference thereto in the year of their receipt; therefore, no question similar to that in the Bonded Mortgage Co. case arises.
When petitioner in the instant case sold and was paid for a coupon book an unilateral contract resulted and petitioner's right thereunder to use the proceeds was absolute. It was under no restriction, contractual or otherwise, as to their disposition, use, or enjoyment. The possibility of being required to make refunds in the future constitutes no such restriction. Brown v. Helvering, supra. Refunds were made in South Dade Farms, Inc. v. Commissioner, supra. Petitioner did not maintain a separate fund for these proceeds; they were kept in petitioner's general bank account. These proceeds were not loaned to petitioner (as petitioner contends in citing Summit Coal Co., 18 B.T.A. 983); they were not merely deposited with petitioner for safekeeping; they were not security for the performance by the customer of any term of the contract; nor were they held by petitioner upon an express or resulting trust. The fact that petitioner has been on an accrual basis of accounting for many years, including the taxable years in question, is not controlling. C. H. Mead Coal Co., 31 B.T.A. 190, 192; E. B. Elliott Co., 45 B.T.A. 82, 86.
Since petitioner's method of accounting did not treat the proceeds received from the sale of these coupon books as income in their entirety in the taxable year in which they were received, it follows that petitioner's method of accounting did not clearly reflect its income and that, therefore, the respondent's determination must be sustained.
Decision will be entered for the respondent.