Commissioner of Internal Revenue

United States Tax CourtFeb 21, 1963
39 T.C. 833 (T.C. 1963)

Docket Nos. 90955, 90956.

Filed February 21, 1963.

CAPITAL OUTLAY — ORDINARY AND NECESSARY EXPENSE — CHARITABLE CONTRIBUTION. — Expenditures made by an osteopath as a condition precedent to obtain the privileges of practicing as a staff member in a hospital to be constructed with these and other similar expenditures were not charitable contributions, were not ordinary and necessary expense deductions, but were capital outlays made to secure long-term advantages for the payors.

Julia M. Reardon, Esq., for the petitioners.

Sheldon Chertow, Esq., and Emory L. Langdon, Esq., for the respondent.

The Commissioner determined deficiencies in income tax of $546 for 1958 and $271.83 for 1959 against the Howards and a deficiency of $3,282.69 for 1958 against the Fergusons. The only issue for decision is whether payments made to construct a new hospital were deductible as ordinary and necessary business expenses or, in the alternative, as charitable contributions.


Howard and Ferguson are osteopathic physicians and surgeons who practiced in Albuquerque before, during, and after the tax years. They and their wives filed joint returns for the tax years with the district director of internal revenue at Albuquerque, N. Mex.

The use of a hospital was essential to Howard and Ferguson in the practice of their professions. They learned shortly before the tax years that the New Mexico Osteopathic Hospital, which they had been using, would be condemned and would be allowed to continue only until the osteopaths could obtain other hospital facilities. They were not permitted to use other existing hospitals in Albuquerque.

Eighteen osteopaths of Albuquerque then organized and incorporated the Osteopathic Hospital Association, Inc., a nonprofit corporation, in April 1957. It is referred to hereafter sometimes as the hospital. Ferguson was one of the incorporators.

Land on which to construct a hospital was purchased with $800 payments made in 1957 by each of about 20 osteopaths, of Albuquerque, including Howard and Ferguson. Twenty of the osteopaths, including Howard and Ferguson, signed a continuing guarantee to a bank on August 8, 1958, for borrowings of the hospital not to exceed $143,000. Funds to match "Hill-Burton funds" equally were solicited and, for the most part, were obtained from osteopaths desiring to use the proposed hospital. At least $5,000 was contributed by a layman. How many other laymen, if any, contributed and how much is not shown by this record. Hill-Burton funds were obtained and the hospital was built. It opened at sometime in July 1959. Howard and Ferguson have used the hospital in their practice ever since it opened.

Howard paid $2,100 in 1958 and $3,400 in 1959 and Ferguson paid $5,500 in 1958 to the new hospital corporation. No stock or other tangible evidence of those payments was received.

The Howards, on their return for 1958, claimed $2,100 under:


Contributions: New Mexico Osteopathic Hospital ...... $2,100

They claimed no deduction on their 1959 return for the $3,400 paid in that year. The Commissioner in determining the deficiency for 1958 disallowed the deduction of $2,100 with the explanation that the hospital was not a qualifying organization. The notice of deficiency for 1959 shows an addition of $985.50 to "Taxable income as previously adjusted" with the explanation, "This item represents an excessive deduction claimed for payments made to the Osteopathic Hospital."

The Fergusons, on their return for 1958, claimed a deduction for a charitable contribution as follows:

Osteopathic Hospital, Inc., Building Fund ........... $5,500

The Commissioner, in determining the deficiency, disallowed that deduction with the following explanation:

It is held that the deduction of $5,500.00 claimed as a contribution to Osteopathic Hospital, Inc. Building Fund is not allowable as a contribution under section 170 of the Internal Revenue Code of 1954 but instead is a capital expenditure recoverable over the husband-taxpayer's life expectancy beginning with the year 1959.

The Howards reported "Adjusted Gross Income" of $14,378.25 for 1958 and $14,702.59 for 1959.

The Fergusons reported income from profession of $40,653.77 for 1958.

The payments in question entitled Howard and Ferguson to become voting members of the Osteopathic Hospital Association, Inc., and were conditions precedent to their use of the hospital in their professional businesses. These benefits were not limited to any single year. They were not transferable.

The articles of incorporation of the hospital originally provided, inter alia:


The members of this non-profit corporation shall be those individuals who are members in good standing in the New Mexico Osteopathic Association, and members of the Local and District Osteopathic Associations, who by declaration signify their intention to cooperate in the work of this Association, accompanied by service or financial support, and any lay individual who evidences an interest by service or financial support [ sic] in this Association; the individuals signing this instrument shall be considered as charter members of the Association, and individuals subsequently evidencing a desire for membership in this Association shall be admitted by majority vote of the members of the corporation at the regular annual meeting, after complying with all membership requirements.


The number of its trustees shall be not more than nine and not less than seven, the manner of their selection, their duties, powers and the term of their office to be in such manner as may be specified in the By-laws of said corporation.

Article VIII was amended on May 19, 1959, to change the number of its trustees to not more than 12.

No osteopaths served on the board of trustees but a majority of the members of the corporation were osteopaths.

The bylaws of the hospital adopted by the members April 29, 1957, provide, inter alia:

The election of Trustees shall be held at the annual meeting of the membership. The election shall be by ballot and every member of the Association shall be entitled to cast one vote.

* * * * * * *

The business and property of the Association shall be managed by a Board of * * * Trustees, who shall be members of the Association who shall be elected annually by ballot by the members of the Association for the term as follows: [1-, 2-, and 3-year terms]

* * * * * * *

The Board of Trustees shall be responsible for securing proper management for the hospital, and to this end they shall employ a properly qualified hospital administrator.

The hospital administrator shall be responsible to the Board for the conduct of all business activities and patient-care in the hospital. He shall employ all personnel connected with the administration of the hospital, and shall likewise have the power to dismiss all said personnel.

The hospital administrator shall also be responsible for the carrying out of all the rules and regulations of the American Osteopathic Association pertaining to the hospital.

* * * * * * *


The Professional Staff recognizes that the Board of Trustees of the Osteopathic Hospital Association, Inc., possesses the power of final decision in all matters pertaining to the maintenance, operation, policy or personnel of the hospital. The Board of Trustees may request the advice of the Executive Committee or of the full Professional Staff whenever it deems such advice is necessary.

Amendments to the bylaws adopted April 6, 1959, included the following paragraph in the preamble of "Staff Regulations":

In order to give proper consideration to the physicians who have put time, effort and money into the organization of this hospital and staff, the following shall apply: — All members of the staff as constituted at the time of the opening of the hospital shall continue to enjoy all privileges to which they were entitled at the time of the opening. Privileges may only be revoked for cause, then only by 2/3 majority vote of the professional staff members present at the meeting. Additional privileges may be granted by application through proper channels and qualifying for the procedure requested. New members of the staff shall go through regular channels to obtain any privileges.

The following excerpts are from minutes of meetings of the board of trustees of the hospital of the dates shown:

11-24-58 Mr. Farr moved that Dr. Mitchell's application for membership on the staff of the new hospital be accepted in consideration of the fact that he was one of the original purchasers of the land, and that he could be placed in the same category as the original group, with the $3800.00 cash, plus a loan by him to the hospital, of $2500.00. Seconded by Mr. Welsh. Passed.

12-1-58 Mr. Mead [vice-president-presiding] stated that the purpose of the meeting was to arrive at some definite, fixed fee for new physicians and surgeons making application for the staff of the new hospital.

Mr. Welsh moved that any doctor who was one of the original purchasers of the land for the new hospital would have the option of completing payment to an amount of $6300.00. This option, which is to be non-transferable, will expire in three years from date, and that payment of the $6300.00 is to be made in either of the following ways:

(1) Payment in full, or —

(2) One-third down, in cash, and the doctor's note for the balance, to the hospital, payable in three equal annual installments, with interest at the rate of 6% per annum on the unpaid balance.

Seconded by Mr. Farr. Passed.

Mr. McClaskey moved that the policy of this Board be as follows:

That those doctors who had a monetary interest in the purchase of land for the new hospital as of December 1, 1958, are not to be charged a locker fee in the new hospital for a period of five years from the opening date of the hospital, and that this privilege is non-transferable.

Seconded by Mr. Baird. Passed.

Mr. Baird moved that all motions made at this meeting in the matter of admission of doctors take precedence over the motions passed by the Board at the meeting of September 8, 1958, and that said motions having to do with admission of doctors to staff privileges made September 8, 1958, be declared null and void, and of no force and effect. Mr. Farr seconded. Passed.

* * * * * * *

Mr. Farr moved that staff privileges for new doctors be considered by the Board after recommendation by the staff, and that staff privileges be accorded as follows:

(A) General practitioner, $4000.00;

(B) All others, $5500.00 —

to be paid one-third down and the balance in three equal annual installments secured by a note to the hospital, with interest at the rate of 6% per annum, plus locker fees, which will be recommended by the staff and established and approved by the Board. Seconded by Mr. McClaskey. Passed.

3-10-59 [Attached to the minutes were three staff recommendations passed 3-9-59. One was as follows: The working staff composed of those doctors who have paid the required staff fee, or made satisfactory arrangements for same, express their earnest desire to the lay board, that no applications for staff membership be approved until complete and equitable financial arrangements have been completed.]

7-16-59 Mr. McClaskey moved that the Administrator be instructed to inform Dr. Crawford immediately that the Board requests the payment due by him on the entrance fee, and further, that if Dr. Crawford fails to make the payment within ten days, his staff privileges are to be cancelled. The motion was seconded by Mr. Baird. Passed.

8-17-59 The report of the Finance Committee: Mr. McClaskey moved that Dr. Youngblood be admitted to the staff under the usual qualifications, that is, Fifty-five Hundred Dollars. Seconded by Mr. Farr; passed.

Mr. McClaskey moved that Dr. Best be admitted to the staff under the usual qualifications, that is, Fifty-five Hundred Dollars. Seconded by Mr. Baird; passed.

10-12-59 Motion by Mr. Baird — that the President be empowered to borrow up to $25,000.00 — with interest not be higher than 6% — said amount to be used to pay off the remaining indebtedness on the hospital — that said money is to be borrowed against the pledges of the doctors.

Second by Mr. Farr — passed.

Motion by Mr. Baird — that all doctors who have not paid in full be notified that unless they pay in full on or before November 10, 1959 — that staff privileges be denied until paid. Second — by Mr. Bingham — passed.

The following excerpt is from the minutes of the annual meeting of the hospital held on April 6, 1959:

A motion was offered by Dr. Steider that the staff membership in the new hospital be closed on May 1, 1959, and that staff membership be limited to those doctors who have made satisfactory arrangements with the Finance Committee of the Board of Trustees. Seconded by Dr. Walley. The motion passed unanimously.

The payments of $2,100 in 1958 and $3,400 in 1959 by Howard and the payment of $5,500 by Ferguson in 1958 were for business purposes and were not charitable gifts or contributions. Those payments were not ordinary and necessary expenses of the professional business of either payor during the year or years of payment.



The petitioners claim in their petitions and briefs that the payments in question were for business purposes. Howard testified that he made the payments to obtain "the right to practice in the hospital as a staff member" and that he would not have acquired that right had he not made the payments. Ferguson, in his testimony, stated "there have been payments made in addition to the original payments that were staff assessments." There is considerable more evidence on the subject and the record as a whole clearly shows that the three payments in question were not charitable gifts, proceeding from a "detached and disinterested generosity" or "out of affection, respect, admiration, charity or like impulses" but instead proceeded from "the incentive of anticipated benefit." See quotes in Commissioner v. Duberstein, 363 U.S. 278, 285. It is not necessary to determine the status of the hospital at the time the payments were made.

One witness, a lawyer and secretary of the board of trustees, testified to the contrary but must have been the victim of a faulty memory since he, as secretary, made up and signed all of the minutes referred to in the Findings of Fact.

Also the record shows that these payments were not ordinary and necessary expenses of the practice of osteopathy carried on by Howard or Ferguson in either 1958 or 1959. The hospital was not in use until July 1959 and the payments benefited these two men well beyond the tax years. Rather than distort income of either tax year by allowing such large deductions in those years the Commissioner has taken the reasonable position that these expenditures were of a capital nature and should be recovered through deductions over a longer period, beginning in 1959, while the benefits obtained by the payments will be reflected in the income of each payor. The total equal payments were clearly a condition precedent to the rights of Howard and Ferguson to practice their professions in the hospital. Similar payments were required of all other osteopaths who were permitted to practice in the hospital on an equal basis with Howard and Ferguson. Also through the payments they acquired the rights of voting members of the association.

The United States Court of Appeals for the 10th Circuit covered this situation well when it wrote in United States v. Akin, 248 F.2d 742, 744, certiorari denied 355 U.S. 956:

It is not always easy to find a verbal formula which readily supplies an unerring guide in drawing the boundary line between current expenses and capital outlays. But it may be said in general terms that an expenditure should be treated as one in the nature of a capital outlay if it brings about the acquisition of an asset having a period of useful life in excess of one year or if it secures a like advantage to the taxpayer which has a life of more than one year. * * *

Here if Howard and Ferguson did not each acquire an asset with a life of far more than 1 year by the expenditures in question, it secured for them at least "a like advantage" which had a life of more than 1 year.

We conclude, on the entire record, that the expenditures were not charitable contributions, were not ordinary and necessary expense deductions, but were capital outlays which were made to secure and secured long-term advantages for Howard and Ferguson. United States v. Akin supra; Kauai Terminal, Ltd., 36 B.T.A. 893.

Decision will be entered under Rule 50 in Docket No. 90955.

Decision will be entered for the respondent in Docket No. 90956.