Jackson-Raymond Co.
v.
Comm'r of Internal Revenue

Tax Court of the United States.Feb 9, 1955
23 T.C. 826 (U.S.T.C. 1955)

Docket Nos. 27298 27374 27375.

1955-02-9

JACKSON-RAYMOND COMPANY, INC., ET AL.,1 PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

John Enrietto, Esq., Fuller Holloway, Esq., and James P. Jones, Esq., for the petitioners. James P. Powers, Esq., for the respondent.


John Enrietto, Esq., Fuller Holloway, Esq., and James P. Jones, Esq., for the petitioners. James P. Powers, Esq., for the respondent.

Excess profits tax relief under section 722(c) of the Internal Revenue Code of 1939 disallowed where the petitioner in 1941 began the manufacture of uniform shirts and slacks, principally for military use, and where the evidence fails to establish a basis for reconstruction of normal base period earnings productive of greater excess profits credits than those allowed by the respondent on the invested capital basis.

This is a proceeding to recover excess profits taxes paid by the petitioner for the taxable years ended November 30, 1941 to 1945, inclusive, in the following amounts:

+--------------------------------------+ ¦Feb. 4, 1941— Nov. 30, 1941¦$1,474.00 ¦ +---------------------------+----------¦ ¦Dec. 1, 1941— Nov. 30, 1942¦l26,819.66¦ +---------------------------+----------¦ ¦Dec. 1, 1942— Nov. 30, 1943¦361,009.96¦ +---------------------------+----------¦ ¦Dec. 1, 1943— Nov. 30, 1944¦169,881.17¦ +---------------------------+----------¦ ¦Dec. 1, 1944— Nov. 30, 1945¦205,896.19¦ +--------------------------------------+

Petitioner seeks relief under section 722(c), Internal Revenue Code of 1939, and claims a constructive average base period net income of $199,001. The respondent has computed petitioner's excess profits credits on the invested capital basis in the following amounts:

+---------------------------------------------+ ¦Fiscal period Feb. 4— Nov. 30, 1941¦$2,592.50¦ +-----------------------------------+---------¦ ¦Fiscal year ended Nov. 30, 1942 ¦7,935.78 ¦ +-----------------------------------+---------¦ ¦Fiscal year ended Nov. 30, 1943 ¦12,931.27¦ +-----------------------------------+---------¦ ¦Fiscal year ended Nov. 30, 1944 ¦20,637.85¦ +-----------------------------------+---------¦ ¦Fiscal year ended Nov. 30, 1945 ¦30,377.08¦ +-----------------------------------+---------¦ ¦Fiscal year ended Nov. 30, 1946 ¦32,700.96¦ +---------------------------------------------+

The facts stated below are substantially as set out in the proposed findings made by the commissioner who heard the evidence in the case.

FINDINGS OF FACT.

Petitioner was a Pennsylvania corporation organized February 4, 1941, with its principal place of business located at Philadelphia, Pennsylvania. It was dissolved March 20, 1950. At all times here material, petitioner kept its books of account and made its returns on an accrual basis for a fiscal year ending November 30. The returns were filed with the collector of internal revenue for the eastern district of Pennsylvania.

Per books as adjusted by revenue agent's report, Sept. 8, 1945.

As herein used, the term ‘petitioner’ refers to Jackson-Raymond Company, Inc.

Final return.

Petitioner's original capital stock consisted of 300 common shares of a par value of $100 each. One hundred shares were issued to Saul Loewenstein, who became secretary of the company; 1 share to Raymond S. Kohn, who became president; 99 shares to his wife; and 100 shares to the wife of Edward Prosen, who was one of the three organizers. In November 1941, the authorized capital stock was increased to 600 shares and the 300 additional shares were issued equally to Loewenstein, Mrs. Kohn, and Mrs. Prosen.

Petitioner's principal business was the production and sale of uniform apparel, particularly shirts, for the use of members of the Armed Forces. Petitioner did not do the actual cutting and sewing of the garments; that was done by contractors under petitioner's direction at so much per dozen garments. Petitioner designed the garments; purchased the materials; contracted for and inspected the actual manufacturing; and sold the finished products. These functions were divided between petitioner's three officers according to their particular qualifications.

Raymond Kohn, president and director of petitioner until 1947, had had many years of experience in the manufacturing and sale of men's shirts. He had been in the business, in partnership with Karl Tutleman, in Philadelphia, since about 1916. He knew the business thoroughly and had valuable contracts with various sources of materials as well as with shirt manufacturing contractors. He was in charge of petitioner's production.

Saul Loewenstein, vice president and secretary, began selling clothing fabrics in his own store in Atlantic City, New Jersey, about 1920. From about 1924 to 1938 he was associated with Pressman and Gutman Silk Company of Philadelphia. This firm designed fabrics, purchased yarns, had the fabrics manufactured by contractors, and sold its products to the general trade. Loewenstein left the firm in 1938, due to illness, and was inactive until petitioner was organized. He was responsible for petitioner's banking and credit arrangements and did most of the buying.

Edward Prosen was directly in charge of petitioner's sales. He was a brother-in-law of Loewenstein. He became a director of petitioner in 1945 and an officer in March 1946. For several years prior to 1925, Prosen worked with Loewenstein's father, who conducted a business of selling fabrics and supplies to clothiers, tailors, and dressmakers. He later worked for varying periods as a traveling salesman for several different firms, one or more of which manufactured and sold commercial uniforms in stock sizes. He was an experienced salesman and, in the course of his travels, had built up a wide acquaintance with clothing merchants throughout the United States. From his experience as a traveling salesman, he had compiled a list of several hundred names and addresses of customers and potential customers whom he had visited, including merchants, military schools, institutions of various kinds, industrial concerns, and others. He furnished petitioner with this list without any charge.

The services of the three above-named individuals were important factors in the success of petitioner's business.

It was the intention of petitioner's organizers to handle all types of uniforms, shirts, and slacks, such as those worn by members of the Armed Forces, policemen, firemen, border patrol guards, forest rangers, and others, as well as the so-called ‘commercials' for the use of bus drivers, railroad and street railway employees, gas station attendants, and others. However, with the increased demand for military apparel, and the defense priorities imposed by the Federal Government soon after petitioner began operations, petitioner, for some time, produced only military apparel. In 1944, it began producing civilian shirts described as ‘frontier shirts.’ In its income tax returns for 1941, 1942, and 1943, petitioner stated that it was engaged in the business of manufacturing and selling ‘military apparel.’ The following table shows petitioner's production of shirts, slacks, and other articles in dozens delivered to petitioner by its manufacturing contractors, for the calendar years 1941 to 1946, inclusive:

+--------------------------------------------------------+ ¦ ¦1941 ¦1942 ¦1943 ¦1944 ¦1945 ¦1946 ¦ +---------------+-----+------+------+------+------+------¦ ¦Military ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----+------+------+------+------+------¦ ¦Shirts ¦8,536¦47,927¦60,695¦39,624¦41,677¦19,399¦ +---------------+-----+------+------+------+------+------¦ ¦Slacks ¦ ¦ ¦3,621 ¦3,378 ¦4,984 ¦1,533 ¦ +---------------+-----+------+------+------+------+------¦ ¦Caps ¦ ¦ ¦1,714 ¦416 ¦ ¦ ¦ +---------------+-----+------+------+------+------+------¦ ¦Total military ¦8,536¦47,927¦66,031¦43,419¦46,661¦20,932¦ +---------------+-----+------+------+------+------+------¦ ¦Frontier shirts¦ ¦ ¦ ¦922 ¦1,944 ¦8,723 ¦ +--------------------------------------------------------+

As between military and nonmilitary goods, petitioner's production in dollars for the years 1941 to 1948, inclusive, as shown by a summary of sales prepared from its books and records for use in the presentation of its section 722 claims, was as follows:

+-----------------------------------------+ ¦ ¦ ¦Non military ¦ +------+-------------------+--------------¦ ¦Year ¦Military business ¦business ¦ +------+-------------------+--------------¦ ¦1941 ¦$324,615.11 ¦ ¦ +------+-------------------+--------------¦ ¦1942 ¦1,957,702.14 ¦ ¦ +------+-------------------+--------------¦ ¦1943 ¦3,111,570.45 ¦ ¦ +------+-------------------+--------------¦ ¦1944 ¦1,943,838.49 ¦$46,376.44 ¦ +------+-------------------+--------------¦ ¦1945 ¦2,317,093.90 ¦134,858.63 ¦ +------+-------------------+--------------¦ ¦1946 ¦816,571.15 ¦693,044.99 ¦ +------+-------------------+--------------¦ ¦1947 ¦569,518.08 ¦641,524.37 ¦ +------+-------------------+--------------¦ ¦1948 ¦169,741.11 ¦158,353.00 ¦ +-----------------------------------------+

The following is a summary of petitioner's profit and loss statements, as adjusted by the Bureau of Internal Revenue, for the entire period of its existence:

+------------------------------------------------------------------------------+ ¦ ¦ ¦Fiscal year ended November 30 ¦ +-------------------------+--------+-------------------------------------------¦ ¦ ¦Feb. 4, ¦ ¦ ¦ ¦ ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦ ¦1941, to¦ ¦ ¦ ¦ ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦ ¦Nov. 30,¦ ¦ ¦ ¦ ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦ ¦1941 1 ¦1942 ¦1943 ¦1944 ¦1945 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Net sales ¦$281,579¦$1,644,966¦$3,223,391¦$2,233,263¦$2,439,973¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Cost of goods sold ¦209,868 ¦1,245,575 ¦2,492,532 ¦1,732,731 ¦1,858,405 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Gross profit from sales ¦$71,711 ¦$399,391 ¦$730,859 ¦$500,532 ¦$581,568 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Interest received on ¦ ¦ ¦ ¦ ¦ ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Government obligations ¦ ¦ ¦ ¦ ¦ ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Other interest ¦18 ¦ ¦ ¦ ¦6,125 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Net capital gain (or ¦ ¦ ¦ ¦ ¦ ¦ ¦loss) ¦ ¦ ¦ ¦ ¦ ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Other income ¦ ¦ ¦ ¦ ¦49,487 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Total income ¦$71,729 ¦$399,391 ¦$730,859 ¦$500,532 ¦$637,180 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Compensation of officers ¦$24,000 ¦$40,000 ¦$40,000 ¦$40,000 ¦$85,500 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Salaries and wages ¦20,068 ¦86,341 ¦142,724 ¦127,199 ¦137,915 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Rent ¦800 ¦1,200 ¦1,200 ¦2,633 ¦9,297 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Repairs ¦ ¦ ¦ ¦ ¦ ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Bad debts ¦ ¦108 ¦ ¦99 ¦ ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Interest paid ¦953 ¦1,965 ¦1,085 ¦2,739 ¦7,406 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Taxes ¦5,185 ¦14,597 ¦19,769 ¦19,447 ¦16,552 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Contributions ¦ ¦ ¦1,433 ¦1,659 ¦2,356 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Depreciation ¦98 ¦204 ¦336 ¦2,394 ¦1,050 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Other deductions ¦10,409 ¦36,609 ¦47,535 ¦61,222 ¦72,840 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Total deductions ¦$61,513 ¦$181,024 ¦$254,082 ¦$257,392 ¦$332,916 ¦ +-------------------------+--------+----------+----------+----------+----------¦ ¦Current year net income ¦$10,216 ¦$218,367 ¦$476,777 ¦$243,140 ¦$304,264 ¦ +------------------------------------------------------------------------------+

Dec. 1, 1949, to Mar. 31, 1946 1947 1948 1949 1950 2 Net sales $1,531,918 $1,197,787 $499,081 $30,950 Cost of goods sold 1,184,637 929,227 440,495 29,804 Gross profit from sales $347,281 $268,560 $58,586 $1,146 Interest received on 3,240 Government obligations Other interest 9,651 16,421 16,058 $27 Net capital gain (or loss) 19 (190) (1,912) Other income 117,429 51,714 40,524 7,222 65 Total income $474,361 $339,954 $114,978 $6,456 $92 Compensation of officers $85,500 $71,500 $38,750 $14,583 Salaries and wages 146,315 113,089 64,162 5,258 Rent 10,386 6,987 6,153 2,158 Repairs 816 Bad debts 99 96,897 Interest paid 3,683 15,385 5,576 Taxes 10,289 5,144 1,735 262 Contributions 3,476 1,034 Depreciation 1,244 1,429 905 435 Other deductions 89,636 102,998 88,656 26,954 $1,572 Total deductions $350,529 $317,665 $303,650 $49,651 $1,572 Current year net income 3 $22,289 ($188,672) ($43,195) ($1,480) $123,832

Petitioner's assets and liabilities as shown by its balance sheets at November 30 of each of the years 1941 to 1946, inclusive, as adjusted by the Bureau of Internal Revenue, were as follows:

+---------------------------------------------------------------------------------------+ ¦ ¦ ¦Fiscal year ended November 30 ¦ +---------------+-----------+-----------------------------------------------------------¦ ¦ ¦Period ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦ ¦Feb. 4, ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦ ¦1941, to ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦ ¦Nov. 30, ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦ ¦1941 1 ¦1942 2 ¦1943 3 ¦1944 3 ¦1945 4 ¦1946 5 ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Assets ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Cash ¦$10,753.84 ¦$84,630.72 ¦$215,355.60¦$198,325.68¦$302,018.88¦$117,481.22¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Notes and ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦accounts ¦88,968.92 ¦261,531.37 ¦307,577.14 ¦290,229.24 ¦172,284.41 ¦197,926.31 ¦ ¦receivable ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Miscellaneous ¦1,116.27 ¦2,337.75 ¦ ¦ ¦2,630.00 ¦4,117.12 ¦ ¦receivables ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Inventories ¦44,232.94 ¦150,805.06 ¦156,391.15 ¦266,913.42 ¦152,018.35 ¦251,431.28 ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Investments, ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦United States ¦ ¦ ¦43,000.00 ¦100,000.00 ¦100,000.00 ¦100,000.00 ¦ ¦bonds ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Investments, ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦accounts (J. R.¦ ¦ ¦ ¦ ¦96,004.05 ¦239,344.95 ¦ ¦Spt.) ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Total current ¦$145,071.97¦$499,304.90¦$722,323.89¦$855,468.34¦$824,955.69¦$910,300.88¦ ¦assets ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Jackson-Raymond¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦Sportswear, ¦ ¦ ¦ ¦ ¦15,000.00 ¦15,000.00 ¦ ¦Inc., ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦investment ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Furniture and ¦1,427.47 ¦2,650.64 ¦4,072.33 ¦13,985.25 ¦8,152.36 ¦10,938.08 ¦ ¦fixtures ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Reserve for ¦(98.34) ¦(302.25) ¦(638.39) ¦(3,032.11) ¦(1,983.16) ¦(3,197.74) ¦ ¦depreciation ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Postwar refund ¦ ¦7,188.73 ¦29,069.73 ¦47,639.08 ¦47,639.08 ¦47,639.08 ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Deferred ¦898.29 ¦1,017.50 ¦1,535.23 ¦2,846.87 ¦2,905.46 ¦5,270.01 ¦ ¦charges ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Organization ¦313.94 ¦313.94 ¦313.94 ¦313.94 ¦313.94 ¦313.94 ¦ ¦expense ¦ ¦ ¦ ¦ ¦ ¦ ¦ +---------------+-----------+-----------+-----------+-----------+-----------+-----------¦ ¦Total assets ¦$147,613.33¦$510,173.46¦$756,676.73¦$917,221.37¦$898,983.37¦$986,264.25¦ +---------------------------------------------------------------------------------------+

Liabilities and equity Accounts payable $47,636.83 $159,478.09 $66,178.31 $224,923.83 $58,846.04 $178,284.46 Notes payable 23,705.26 39,500.00 100,000.00 Accrued expense 1,262.77 6,770.55 7,129.20 7,612.29 3,666.80 3,962.52 Accrued taxes 8,177.29 162,341.82 444,249.82 400,868.56 490,755.90 315,842.43 Total liabilities $80,782.15 $368,090.46 $517,557.33 $633,404.68 $553,268.74 $599,089.41 Capital stock 60,000.00 60,000.00 60,000.00 60,000.00 60,000.00 60,000.00 Surplus 6,831.18 82,083.00 179,119.40 223,816.69 283,714.63 327,174.84 Total liabilities and $147,613.33 $510,173.46 $756,676.73 $917,221.37 $896,983.37 $986,264.25 equity

+---------------------------------------------------+ ¦ ¦ ¦Invested capital ¦ +-------------+------------------+------------------¦ ¦Fiscal Year ¦Invested capital ¦credit ¦ +-------------+------------------+------------------¦ ¦1941 ¦$32,406.21 ¦$2,592.50 ¦ +-------------+------------------+------------------¦ ¦1942 ¦99,197.21 ¦7,935.78 ¦ +-------------+------------------+------------------¦ ¦1943 ¦161,473.71 ¦12,917.90 ¦ +-------------+------------------+------------------¦ ¦1944 ¦257,973.17 ¦20,637.85 ¦ +-------------+------------------+------------------¦ ¦1945 ¦379,713.10 ¦30,377.08 ¦ +-------------+------------------+------------------¦ ¦1946 ¦408,762.05 ¦32,700.96 ¦ +---------------------------------------------------+

Petitioner's practice of having its shirts manufactured by independent contractors, according to its own specifications and from materials which it furnished, was an established practice in the shirt industry. This type of business does not require the use of a great amount of capital, particularly where liberal credits are available.

Petitioner sold its products directly to retail outlets, such as independent stores, institutions, and post exchanges throughout the United States. It never sold any of its shirts to or through commercial merchants, and it did not have any Government contracts.

Edward Prosen suffered a heart ailment which caused him to discontinue active service with petitioner after about 1944 or 1945. He died in 1950, at the age of 57 or 58.

By the end of 1944, petitioner had established a substantial sportswear business with sales in that year of over $230,000. In the latter part of 1944 a new company, Jackson-Raymond Sportswear, Inc., was organized to take over the petitioner's sportswear department.

Raymond Kohn suffered an illness in 1945 which incapacitated him for work. He died in 1947 at the age of 53.

In support of its claim for relief under section 722, petitioner employed the firm of Dun & Bradstreet to make a survey of the shirt manufacturing industry for the purpose of obtaining comparative data. Of the 29 firms called upon only 6 agreed to participate in the survey. These were Mohawk Shirt Company, Philadelphia, Pennsylvania; Shirtcraft Company, Inc., Hazelton, Pennsylvania; Brewster Shirt Company, New York, New York; Brohard-Rainer Shirt Corporation, Cincinnati, Ohio; Piedmont Shirt Company, Greenville, South Carolina; and Raritan Shirt Company, New York, New York. All of these concerns manufactured dress shirts and none of them manufactured uniform shirts exclusively. In 1943, 50 percent of Mohawk's and 10 per cent of Raritan's output consisted of uniform shirts. Only two of the firms, Mohawk and Raritan, had their manufacturing done by outside contractors prior to 1943. Beginning in 1943, Brewster Shirt Company had all of its shirts manufactured by contractors.

The following table shows the comparative ratio of sales to tangible net worth and to net working capital, and the ratio of net profit to tangible net worth and to net working capital, for petitioner and for the other above-named concerns:

+-----------------------------------------------------------------------------+ ¦ ¦Ratio of sales ¦Ratio of sales ¦ ¦ ¦to ¦to net ¦ +--------------------------------------------+---------------+----------------¦ ¦ ¦tangible net ¦working capital ¦ ¦ ¦worth ¦ ¦ +--------------------------------------------+---------------+----------------¦ ¦ ¦1943 ¦1944¦1945¦1943 ¦1944 ¦1945¦ +--------------------------------------------+-----+----+----+-----+-----+----¦ ¦Petitioner ¦13.48¦7.87¦7.10¦15.74¦10.06¦8.98¦ +--------------------------------------------+-----+----+----+-----+-----+----¦ ¦Mohawk Shirt Company, Shirtcraft Company, ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦Brewster Shirt Corporation, Brohard-Rainer ¦7.94 ¦7.67¦6.12¦11.72¦10.85¦8.07¦ ¦Shirt Corporation, Piedmont Shirt Company, ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦Raritan Shirt Company ¦ ¦ ¦ ¦ ¦ ¦ ¦ +--------------------------------------------+-----+----+----+-----+-----+----¦ ¦Mohawk Shirt Company, Brewster Shirt ¦8.74 ¦7.44¦5.62¦11.43¦9.09 ¦7.45¦ ¦Corporation, Raritan Shirt Company ¦ ¦ ¦ ¦ ¦ ¦ ¦ +--------------------------------------------+-----+----+----+-----+-----+----¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ +-----------------------------------------------------------------------------+

Ratio of net Ratio of net profit profit to tangible to net working net worth capital 1943 1944 1945 1943 1944 1945 Petitioner 203.23 88.98 92.04 237.33 113.73 116.44 Mohawk Shirt Company, Shirtcraft Company, Brewster Shirt Corporation, Brohard-Rainer Shirt Corporation, 38.21 13,97 25.23 53,78 23.45 34.69 Piedmont Shirt Company, Raritan Shirt Company Mohawk Shirt Company, Brewster Shirt 21.65 18.86 11.45 24.31 22.37 14.80 Corporation, Raritan Shirt Company

Petitioner filed excess profits tax returns for the taxable years 1941 to 1946, inclusive, and later filed claims for relief under section 722 and claims for refund of all or portions of the taxes paid for each of such years. The excess profits tax liabilities, as shown on the returns, and as determined by the Commissioner, and the amounts claimed as refunds, were as follows:

+--------------------------------------------+ ¦Year¦Tax shown on¦Determined by¦Refund ¦ +----+------------+-------------+------------¦ ¦ ¦returns ¦Commissioner ¦claimed ¦ +----+------------+-------------+------------¦ ¦ ¦ ¦ ¦ ¦ +----+------------+-------------+------------¦ ¦1941¦$2,105.94 ¦$1,474.00 ¦) ¦ +----+------------+-------------+------------¦ ¦1942¦113,758.67 ¦126,819.66 ¦) ¦ +----+------------+-------------+------------¦ ¦1943¦356,496.69 ¦361,009.96 ¦)All of tax.¦ +----+------------+-------------+------------¦ ¦1944¦185,327.92 ¦169,881.17 ¦) ¦ +----+------------+-------------+------------¦ ¦1945¦205,606.71 ¦205,896.19 ¦$171,970.41 ¦ +----+------------+-------------+------------¦ ¦1946¦6,343.88 ¦None ¦ ¦ +----+------------+-------------+------------¦ ¦ ¦ ¦ ¦ ¦ +--------------------------------------------+

All of the said claims for refund, referred to above, were based on subsections (1) and (3) of section 722(c), Internal Revenue Code of 1939.

OPINION.

BRUCE, Judge:

It is petitioner's contention that intangible assets which were not includible in invested capital made important contributions to its income; that its invested capital was abnormally low; and that its excess profits credits, based on invested capital, result in an excessive and discriminatory tax for each of the years involved.

We have found as a fact that the services of petitioner's three organizers and principal officers were important factors in the success of its business. We may assume that this fact qualifies the petitioner for relief under section 722(c) (1) of the Internal Revenue Code of 1939. See Danco Co., 14 T.C. 276, 17 T.C. 1493. However, to be entitled to any of the relief sought, petitioner must establish a fair and just amount representing normal earnings to be used as a constructive average base period net income, which would result in excess profits credits, based on income, greater than those allowed by the respondent under the invested capital method. Green Spring Dairy, Inc., 18 T.C. 217; Sartor Jewelry Co., 22 T.C. 773.

SEC. 722. GENERAL RELIEF— CONSTRUCTIVE AVERAGE BASE PERIOD NET INCOME.(c) INVESTED CAPITAL CORPORATIONS, ETC.— The tax computed under this subchapter (without the benefit of this section) shall be considered to be excessive and discriminatory in the case of a taxpayer, not entitled to use the excess profits credit based on income pursuant to section 713, if the excess profits credit based on invested capital is an inadequate standard for determining excess profits, because—(1) the business of the taxpayer is of a class in which intangible assets not includible in invested capital under section 718 make important contributions to income, -------- Notes:


Prior to allowance of net operating loss carry-back from fiscal year ended Nov. 30, 1948.

Petitioner has submitted a proposed reconstruction which results in a constructive average base period net income of $199,001. The reconstruction is based upon the following premises:

1. Petitioner's business was the manufacture and sale of all types of uniform shirts and slacks.

2. Petitioner did not attain full development of this business until about the beginning of its fiscal year ended November 30, 1943.

3. Petitioner's method of operation during the base period, had it then been in existence, would have been about the same as in 1943, 1944, and 1945.

4. Petitioner would have occupied the same relative position in the shirt manufacturing industry in the base period, had it then been in existence, as in 1943, 1944, and 1945.

With these assumptions, and using data relating to selected segments of the shirt manufacturing industry, petitioner obtains a factor of 22,211/19,633 representing the ratio of total shirt production in 1939 of the total shirt production in 1944, and a factor of 82/107.1 representing the ratio of 1939 wholesale clothing prices to 1944 prices, and applies these factors to determine petitioner's 1939 constructive shirt production and constructive net sales as follows:

(c) Petitioner produced 40,547 dozen shirts in the calendar year 1944.

(d) The approximate wholesale price of petitioner's shirts during its fiscal period ended November 30, 1944, was $42.97 per dozen.

(e) When petitioner's shirt production in 1944 is multiplied by the ratio of total shirt production in 1939 to total shirt production in 1944 a constructive shirt production for petitioner for 1939 of 45,886 dozen results.

(f) When the wholesale price of petitioner's shirts in 1944 is multiplied by the ratio of 1939 wholesale clothing prices to 1944 wholesale clothing prices, a constructive wholesale price for petitioner's shirts for 1939 of $32.90 per dozen results.

(g) When petitioner's constructive shirt production in 1939 is multiplied by petitioner's constructive wholesale price for shirts in 1939, constructive sales for petitioner for 1939 in the amount of $1,509.649 result. The amount is 57.35% of $2,632,209, the average of petitioner's 1943, 1944, and 1945 net sales.

Petitioner's net sales in 1939 would have been equal to approximately 60% of the average of its net sales in 1943, 1944, and 1945 if it had been in operation throughout 1939. 60% of the average of petitioner's net sales in 1943, 1944, and 1945 is $1,579,325.

Having thus determined 1939 constructive net sales, petitioner uses the general index of public activity in the United States, as compiled by the Bureau of Internal Revenue, for backcasting and arrives at constructive net sales for the other base period years of $1,572,218 in 1936, $1,687,351 in 1937, and $1,426,288 in 1938.

The expense deductions for the base period are computed, generally, on the percentages as established in 1943, 1944, and 1945, with certain minor adjustments.

The constructive net income, as thus computed, is $200,507 in 1936, $219,080 in 1937, $174,699 in 1938, and $201,716 in 1939, or an average for the base period of $199,001.

The keystone of petitioner's rather complicated structure of base period earnings is the assumption that had petitioner been in existence during the base period years, it would have occupied the same relative position in the shirtmaking industry that it occupied in 1943, 1944, and 1945.

The petitioner's business was not comparable to that of other manufacturers comprising the shirtmaking industry as a whole. It produced a highly specialized line of merchandise. While, as we have found, its organizers contemplated manufacturing various types of uniform shirts and slacks, its entire production for the first 3 years of operation consisted of military goods, particularly uniform shirts. The demand for these shirts increased rapidly with the expansion of the Armed Forces. The evidence shows that over the period 1939-1945 the number of officers in the United States Army increased from about 13,000 to approximately 772,500. There was a much more limited market for uniform shirts during the base period years. Whether without the military outlet petitioner would have been able to develop any substantial volume of business for nonmilitary uniform apparel, is highly problematical. There is no convincing evidence that it would have been able to do so. See Harry Lang Manufacturing Co., 19 T.C. 567.

It was through the introduction to the trade of its line of superior quality, military type shirts that petitioner was able to establish its position in the industry. Without this ready made market for its products it might or might not have been able to gain a sound foothold. While, according to the evidence, there was a growing demand for uniform shirts of various types during the base period years, there is no convincing evidence that the shirt manufacturers then supplying that trade were not able to hold it, or that on a competitive basis petitioner would have been able to gain any substantial portion of it. Neither is there any assurance that petitioner would have undertaken to present to the trade, during the base period, the superior quality, high-priced shirts which it later produced, or that under base period economic conditions they would have been acceptable to the buying public.

Notwithstanding the resourceful and diligent efforts of petitioner's counsel to combat it, we cannot escape the conviction that petitioner's business gained the success it did largely because of war conditions, and that no acceptable basis for reconstructing it as a normal, peacetime enterprise has been established. Compare Crowncraft, Inc., 16 T.C. 690; Fezandie & Sperrle, Inc., 5 T.C. 1185.

For the reasons stated, and without undertaking to resolve the numerous other differences between the parties, we hold that the respondent did not err in disallowing petitioner's claims for relief under section 722.

Reviewed by the Special Division.

Decisions will be entered for the respondent.