CTA Case No. 143 (Decision)

.,. . ,:if �� HEPUBLIC OP THE PHILIPPINEJ COURT OF TAX APPEALS MANlLA ALHAMBRA CIGAR & CIGARSTIE MANUFAClUliNG CWPANY1 Petitioner. � versus - C. T.A. CASE NO. 143 THE COLlECTOR OF INTERNAL REVENUe, Respondent. X� � � � � � � � � � � � � �X DECISION Petitioner Alhambra Cigar and Cigarette Manu� facturing Company is a domestic corporation. engaged in the business of manufacturing cigars and cigarettes. For the years 1949 1 19501 1951, 1952 and 1~53 1 it filed its income tax returns on the accrual method of accounting and paid the income taxes computed in accordance therewith. Subsequently, a verfication of petitioner.�s income tax returns for the said years was - conducted by respondent Collector of Internal Revenue, and finding alleged deficiency income taxes due there- from~ assessed and � demanded from petitioner the amounts of �26,369.04, P42,653.00, t61,308.00, �58,404.00 and P5~ 1 826.00, respectively, plus ~ surcharge and l% monthly interest on said amounts commencing on Jan- uary 1~� 1956. Hence, this appeal which was submitted for decision mainly upon a stipulation of facts as fol- lows: 1. That the petitioner herein had filed its income tax returns on the accrual basis and on the following dates:

.; t DECISION - C.Y.Ao CASE NO. 143 - 2- For the taxable y etahre19ta4x9a1 on March 301 1950; F or b l e On March 6, 1951; year 1950, On February 26, 1952; For the taxable On March 101 1953; and y etahre19ta5x1a1 On February 26, 1954. F or b l e y etahr e 1t9a5x2a1 For b l e year 1953, 2. That the income tax liability of the pe- titioner for the years 1949 to 1953 had been as- sessed by the respondent in the amounts as com- puted and declared by the petitioner in the res- pective returns as follows: (a) Assessment No. for 1949 - Pll4,029o80 A-120966, for 1950 - Pl88,487.00 for 1951 - �343,240.00 (b) Assessment No. for 1952 � ~225 1 503.00 A-121345, for 1953 - P221 1 937.00 (c) Assessment No. AC-94-52, (d) Assessment No. AC-836, (e) Assessment No. 90-AC~67 which were all paid by the petitioner 'in due time. 3. That in a subsequent verification of pe- titioner's income tax returns for the years 1949 to l953, _inc1usive, which was conducted by a re- presentative of respondent, the following defi� ciency asses~~ments based( lln the figures declared in ,.;the returns, were issued against petitioner on November 27, 1954& (a) For 1949 � (Assessment � P261 369.04 No. 90-SC-120966-54-49) (b) For 1950 -(Assessment No. 90-50-121345�54-50) � P42,653.00 (c) -For 1951 - (Assessment No. 90-5C-94-54-51) (d) For 1952 - (Assessment No. 9o-ec-836-54-52) � P58,404.00 (e) For 1953 - {Assessment Noo 90-5C-467-54-53) - ti51,826.oo 4. That the said deficiency income tax as- sessments for the taxable years 1949, 1950, 1951, 1952 and 1953 were arrived at as follows:

..~ ' ' -; tt "!: �' 1 ..: ,.,.. DECISIOO � C. T.A. CASE NO, 143 - 3- 1949 Net income as per return �������� t 950.248,34 Add& Disallowances& Directors' Fees :see retu;n ����� P90,576,98 Salary of Kuenzle . and Streiff, See return ����� 12,000,00 Bonus of Kuenzle and Streiff, See return ,,,,, 50,000,00 Commissions of Kuenzle and Streiff, See .� return ��������� 51,768,94 Allowance for . loss of A, Munoz Schedule VI ,,,, 951,92 Depreciations, Schedules rJ LaoncdalVS�e�ll�i�n�g����� 2,966,48 Expenses, Sche- dule III-a ����� 6,088,06 Charges to Sales Account. Sche- dule III-b ����� 4,470,84 Traveling Ex- penses, Sche- 918.79 219.742.01 dule XI �������� Total net profit per . investigation ����������������� tl,l69,999,35 Tax due on the above net income �������������������� t 140,398.84 Less amount of tax already paid ������������������ 114,029,80 Deficiency ���������������������� P 26,369,04 l :W9 5 0 Net income as per return �������� Pl. l 7~,0~3o06 Add disallowances& Directors' Fees, See retu~n ����� P9'C , 85~ . 33 Salary of Kuenzle . and Streiff, �See return ,,,,, 12,000,00 Bonus of Kuenzle and Streiff, See return ,,,,, 50,000,00

/ I '' DECISION - Q.T.A. CASE NO. 143 Commissions of Kuenzle and ~ treiff ~ �See return ��������� P54,322,90 �Transportation _and Representa- tion, Schedule RIeIpa�i�r��on���B�u�i�l�d�in�g 281100.00 Schedule VII ��� 19 1931.00 Depreciations, .Schedules IV and V ���������� 2,673.42 Local Selling Ex- penses, Sche- dule III-a ����� 5,635,51 Charges to Sales Account, Sche- dule III-b ����� 1,036,15 Traveling Ex- 2~6.58~,26 penses, Sche� dule -XI �������� 2,029.90 Total net income . per investigation ������������� Pl,444,626,32 Tax due thereon ����������������� P 231 1140,00 Less withholding tax already . paid �������������������������� 188,487,00 Deficiency ���������������������� ~ 42,653,00 19 5 1 Net income as per return �������� ~1,254,426.82 Add disallowances: Directors.� Fees, See retu~n ����� t71,669.38 Salary of Kuenzle and Streiff, See return ����� 12,cx:x:>.oo Bonus of Kuenzle and Streiff, See return ����� 50,000.00 Commissions of Kuenzle and $treiff, See return ��������� 45,064,62 Transportation and Representa- t1�, Schedule AIllIow�a�n�c�e��f�o��r���� 27,750,00 loss of Macapa- gal, Schedule VI 612~37 Fine, Schedule VI 300.00 Depree iations. \l

.' ��- ' DECISION - CTA CASE NO. 143 - 5- Schedules !)I and V ��������� P 3,719,55 Local Selling Expenses, Sche- dule II-a ����� Charges to Sales 1,097,61 Account, Sche- 3,682,54 dule III�b ���� Traveling Ex- penses, Sche- dule II ������� 3,063.90 218,959,97 Total net income per investigation ������������� Pl14731 386,97 Tax due thereon ����������������� P 404,548,00 Less amount of tax paid ��������� 343,240,00 =========== Deficiency tax ������������������ P 61,308,00 1952 Net income per ~eturn ����������� P 833,940,99 Add disallowances& 208,585,99 Directors' Fees,,, P58,184,11 Salary of� Kuenzle �and Streiff ����� Bonus of Kuenzle 121000,00 and Streiff ����� 47,eoo,oo Commissions of Kuenzle and Streiff ��������� 28,894,68 Transportation _and Representa- tion, Schedule AIllIow�a�n�c�e���fo��r����� 28,615,14 loss in money counter, Sche� dule VI ��������� 838,00 Discretionary Expenses, Sche� dule VI ��������� 6,000,00 Depreciations, Schedules IV and V ����������� 2,692,20 Local Selling .Expenses, Sche� dule III-a ������ 1,145,31 Charges to Sales Account, Sche- dule III�b ���� � Reserve for price 41 634,70 fluctuAtion charged to Purchase Schedule X ������ 18,680,95

DECISION � G.T.A. CASE NO, 143 Total net income per investigation ������������� P~ 1042,526.Q8 Tax due thereon ����������������� P 283,907.00 Less amount of tax already paid ������������������ 225,5Q39QQ Deficiency tax ������������������ P=====5=8='=404===0�==0 1953 Net income per return P 821,202.51 Add disallowances: Directors' Fees �� P47,936.60 Salary of' Kuenzle �and Streiff ��� o. 12,000.00 Bonus of Kuenzle and Streiff ����� 47,500,00 Commissions of Kuenzle and Streiff ��������� 33,992,58 Transportation and Representa- tion, Schedule AIllIow��an��ce��f�o��r����� 271 576,54 185.095.89 loss in money countert Sche- 972.00 dule VI ������ ;.. 2,167,20 2,016o98 Depreciation, 4.475,16 Schedule IV ����� 61458,83 Local Selling Expenses, Sche- dule III-a ooeo�o Charges to Sales Account, Sche- dule III-b ������ Traveling Ex� penses 1 Sche- dule XI ��������� Total net income per investigation ������������� fl.QQ61298,40 Tax due thereon ����������������� P 273,763.00 Less amount of tax already paid ���oeoeo���������� 22l.937.QQ Deficieocy tax ������������������ t 511826.00 5. That the petitioner had claimed all the abovementioned disallowed items as deductions in its respective returns.

)t ..,,I i I DECISION - C.T.A. CASE NO. 143 - 7- 6~ That the said disallowances were based on the respective grounds contained in the re- port of respondent's Supervising Examiner Gre- gorio Mendoza. copy of which is Annex "A" of the Petition for Review, and its origiQal, folio 118 of the Bureau of Internal Revenue records of this case, is marked Exhibit "A" for pur- poses of this stipulation. ~~ 7. That the deficiency income tax in ques- � tion is but a matter of difference of opinion _ ~147 between the petitioner, on one side, and the respondent, on the other side, whether the de- ductions which were disallowed by the respon� dent and which are enumerated in paragraph 4 of this stipulation, are deductible or not, and not that the petitioner's income tax returns under consideration are�_ false or fraudulent. So That the directors' fees, salaries, bonuses, ~ and commissions p~id to Directors A. P. Kuenzle and H. A. Streiff for the taxable years 1949, 1950, 1951, 1952 and 1953 are in- dicated in the financial statements attached to the petitioner's income tax returns for the said years, as fo~lows: -Name 1949 Bonus Commission A.P. Kuenzle Dirfe.uct.o! rs_' Salary H.A. Streiff A.P. Kuenz1e P2D,585.68 P6,ooo.oo P25,ooo.oo P25,884.47 H.A. Streiff .20,585.68 .6,000.00 .25 1000.00 .25 1 884.47 1 9 50 P20,648. 71 P6,CXX>.OO P25,000.00 P27 ,161.45 .20,648. 71 .6,CXX>.OO .25,000.00 .27,161.45 1951 A.P. Kuenz1e Pl6~2ss.43 P6,ooo.oo P25,ooo.oo P23,532.31 H.A. $treiff .16,288.43 .6,000.00 .25,000.00 22,532.31 1 25 2 A.P. Kuenz1e P13,223.66 P6,ooo.oo �23,750.00 Pl4,447.34 H.A. Streiff .13,223.66 .6,000.00 .23,750.00 .14,447.34 125 3 A.P. Kuenz1e �10,894.69 P6,ooo.oo P23,750.00 P16,996.29 H.A. Streiff 10,894.69 .6,000.00 .23,750.00 161 996.29 tors w9.. That the directors' fees paid to direc� Eggmann, A. Jung, ~nd E. Rupp for the

DECISION - C.T.A. CASE NO. 143 - 8- taxable years 1949,1950, 1951, 1952 and 1953 are indicated in the financial statements at- tached to the petitioner's income tax return for the said years, as fgllows: DIRECTCRS 1 FEES w.sggmaz A. J~_ E. Rupe Total 1949 Pl 6,468.54 ~16,468.54 ~16,46(54 ~49,405.62-. 1950 16,518.97 16,518.97 16,518.97 49,556.91 1951 13,030.74 13,030.74 13,030.74 39,092.22 1952 10,578.93 10,578.93 10,578.93 31,736.79 1953 8,715.74 8,715.74 8,715.74 26,789.38 lOo That, resuming from paragraphs 8 and 9 of this stipulation, the amounts of - (1) ~90,576.98 for 1949 9 P90,854.33 for 1950, �71,669.38 for 1951, P58,184oll for 1952 and P,47,936.00 for 1953, ~s directors' fees which had been disallowed& (2) ~12,000.00 for 1949, ~12,000.00 for 1950, ~ 12,000.00 for 1951, ~12,000.00 for 1952 and �12,000.00 for 1953, ~s salaries of Messrs. Kuenzle ~nd Streiff, which had been disallowed: (3) P50,ooo.oo for 1949, P50,ooo.oo for 1950, P50,ooo.oo for 1951, �47,500.00 for 1952 and 1:47,500.00 for 1853, ~s bonus of Messrs. Kuenzle ~nd Streiff, which had been disallowed; and (4) P51,768.94 for 1949, P54,322.90 for 1950, �45,064.62 for 1951, �28,894.68 for 1952 and 33,992. 58 for r1e9i5f3f1, ~s commission of Messrs. Kuenzle and St which had been disallowed, are respectively made up as follows: -Name Directors' Salary Bonus Commissions .!!! - 1949 A.P. Kuenzle P20;5a5.68 P6,coo.oo P25,ooo.oo �25,884.47 H.A. Streiff ,20,585.68 ,6,000.00 .25,000.00 .25,884.47 Jung wAo. Eggmann 16,468.54 -.-- -.-- -.-- 16,468.54 -.-- -.-- -.-- E. Rupp 16,468.54 -.-- -.-- -.-- 195Q A.P. Kuenzle �20,648.71 P6,ooo.oo P25,ooo.oo �27,161.45 H.A. Streiff .201 648.71 ,6,000.00 .251 000.00 .27,161.45

' I l' I ' DECISION - C.T.A. CASE NO. 143 wA.. Jung -.-- ~ -.---._-_ -_ p ---...------ Eggmann E. Rupp -�.o----�- ,. 1951 A.P. Kuenz1e Pl6,288.43 P6,000.00 P25,000.00 P22,532.31 H.A. Streiff 16,288.43 .6,000.00 ,25,000.00 22.532.31 A. Jung � W. JEggmann 13,030.74 -.-- -.-- -.-- E. Rupp 13,030.74 -.-- -.-- --..-M-- 13,030.74 -.-- -.-- 1952 A.P. Kuenzle Pl31223.66 P6,000.00 P23,750.00 Pl4,447.34 - H.A. Streiff .13,223.66 .6,000.00 _23,750.00 ,14,447.34 wA.. Jung Eggmann 10,578.93 -.-- -.-- -.-- 10,578.93 -.-- -.-- -.-- E. Rupp 10,578.93 -.-- -.-- -.-- l 953 A.P. Kuenzle Pl0,894.69 P6,000o00 P23,750.00 Pl6,996.29 H.A. Streiff ,l0,894o69 6,000.00 ,23, 750.00 16,996.29 Jung wA.. Eggmann 8,715.74 -.-- -.-- -.-- 8,715.74 -.-- -.-- -.-- E. Rupp 8,715.74 -.-- -.-- -.-- 11. That all toofDtihreecstoarlsarwie. sE, gbgmonaunsne, sAa.ndJung commissions paid and E. Rupp for the taxable years 1949, 1950, 1951, 1952 and 1853 had been allowed by the res- pondent as deductions (therefore, are not ques- tioned), which are set forth in the financial statements attached to the petitioner's income tax returns for the said years, as follows: Salary Bonus Commission Wo Eggmann '9 4 9 A. Jung f:l5,000o00 Pl2,ooo.oo ll25,884.47 Eo Rupp -.... -o�- ,15,500.00 --.-- 12,000.00 12,000.00 1 9 50 w. Eggmann -.-- -.-.. P15,ooo.oo P20,ooo.oo il27,161.45 , 15,~.00 -1)-- A. Jung E. Rupp 11,600.00 12,000.00 1951 w. Eggmann -.-- -.-- f:l0,375o00 P17,500.00 !:22,532.31 .13,000.00 Ao Jung 8,730.00 15,000.00 .. o�- E. Rupp

.- ~ ��.. . j DECISIOO - C.T.A. CASE NO. 143 - 10 - 1952 w. Eggmann Pl2,ooo.oo Pl6,65o.oo �14,447.34 -o-� "12,350.00 --0.---� A. Jung 9,000.00 14,250.00 E. Rupp 1953 w. Eggmann ~12 ,000.00 ~16,650.00 �16 ,996.29 A. Jung -.-- .12,350.00 -.-- Eo Rupp 9,CQO.OO 14,250.00 -.-- 12. That the said amounts of directors' fees, salary, bonus and commission paid to~~. A. _Po Kuenzle and Mr. H. A. Streiff, for the years 1949 to 1953, inclusive, were disallowed by the res- pondent on the theory by the respondent that these two individuals were permanently living abroad, as in fact they are. 13. That the petitioner contested the alleged deficiency income taxes assessed by respondent under letter by petitioner's counsel, dated Jan- uary 14, 1955, appearing i~ folios 125 to 142 of the Bureau of Internal Revenue records of this case, which is marked as Exhibit "B" for purposes of this stipulationo .' 14. That the said protest made by the peti- . tioner was denied by the respondent under the lat- ter's letter dated April 21, 1955, appearing in folios 147-148 of the Bureau of Internal Revenue records of the case, which is marked Exhibit "C" for purposes of this stipulation. 15. That due to the refusal of the petitioner to settle the deficiency income taxes in question, under the petitioner's contention that such assess- ments are erroneous,_the respondent issued a war- rant of distraint and levr on the property of the petitioner, on April 21 , 955, appearing on folio 149 of the Bureau of Internal Revenue records of this case, which is marked Exhibit "D" for purposes of this stipulation. 16. That by agreement between counsel for ~oth parties, the respondent advised the City Trea- surer of the City of Manila to suspend the execu- tion of the warrant of distraint and levy, under his letter dated July 20, 1955, appearing on folio 174 of the Bureau sofmIanrkteedrnEaxl hRiebvietnu�ae� records of this case, which i for purposes of this stipulation. 17. That the disallowed items for "deprecia- tion" for the taxable years 1949 to 195~ consist of tQe depreciation of autos and trucks as well

. . " -,t ~ ~ '! DECISION - C.T.A. CASE NOo 143 - 11 - as buildings, totalling �14,218.85 1 of which the amount of ~8 1 974.66 is the depreciation of the buildings and the amount of �5,244.19 is the depreciation of the autos anq trucks; and that the petitioner and the respondent hereby agree that, for the years under consi- deration, the depreciation of the buildings in the aggregate amount of �8,974.66 be dis- allowed and the depreciation of the autos and trucks to be disallowed ahould be in the ag- gregate amount of ~1,646 .13. The parties will present at the trial of this case a state- ment of the breakdown of both amounts indi- cating the amounts corresponding to each year. 18. That petitioner hereby agree that the fine of P300.00 be disallowed. 19. That respondent agrees that deduc- tions for "allowances for loss in money coun- ter" in tht amounts of P838.00 for 1952 and � �97~.00 for 1953 be allowed. 20. That the parties reserve to themselves the right to submit additional evidence oral as well as documentary. 21. That the officials of the petitioner, who were the recipients of the amounts of �28,100.00 for 1950, P27,243.33 (not P27,750.00 ~s found by the Bureau of Internal Revenue Ex- aminer Gregorio Mendoza ) for 1951, t28,756.12 (not �28,.15.14 as found by the Bureau of In- ternal Revenue examiner Gregorio Mendoza) for 1952, and ~28 1072.51 (not 1R2e7ve1 n5u7e6 . 54 as found by the Bureau of Internal examiner Gre gorio Mendoza) fo r an1d95t3h1 f or �trans portat ion and repr esentatio n�, e they r es- pos~tion pectively h�ld and_the amounts paid to them individually are as follows: ~ Position Held MQ 12i1 ~ 1:25..1 Bogo, D. Supervisor -.-- p -.-- p - .. -- p 6E!!7.10 Valley Branch p Eggmann, w. General ~fa.nager 3, 000 . 00 3, 000. 00 3, ooo. oo 3, 000 .00 Fernandez , H. Sales Super- 2, 400. 00 2, 400. 00 831. 15 -.-- visor Ferrandiz , H. Factory 2, 400.00 2, 400.00 2, 400.. 00 1, 292 . 05 upervisor Garcia, R. Factory 1, 200.00 1, ooo. oo 900.00 1, 200. 00 Supervisor Hub~r , J, Asst. :Manager, 28. 33 613. 01 2, ooo.oo Valley Branch 1�,200. 00

DECISION - C.T. A. CASE NO. 143 - 12- Koller , F. Sales l'ilna.ger r: .3, 000. 00 ~ .3, 1000. 00 P 3, 000 . 00 �J, ooo. oo Redinger, C. Chief, En- 3, 000. 00 3, 000. 00 3, 000 . 00 3, 000. 00 gineer Ramp, 1:1. Supervisor, 500. 00 500. 00 -.-- -.-- Reupke , J � . Valley Branch 3, 000. 00 3, ooo. oo 2, :704. ll Factory Superin- tendent 3, ooo. oo Rupp, E. Hanager, -.-- -.-- -.-- iJalley Branch 3, 000. 00 Schmid, H. Asst. Account- -.-- -.-- -. -- 685 . 48 ant -.-- 500. 00 Roeder , R. -.-- 970. 98 Streuli, Po Asst. Engineer 1, 200,. 00 328.77 1, ooo. oo 1, 200. 00 Supervisor, Valley Branch Sulzer, H. Chief- 3, 000,.00 3, 000. 00 3, 000., 00 3, ooo. oo Ac c o u n t a nt Teucher, U. Factory -. - 3, 000. 00 .3, 000. 00 3, 000. 00 Accountant -.-- 675 . 00 900.,00 675 . 00 Tomelden, B. Auditor Wehrli, G. Asst .. Sales 1, 200..a QQ ,___l , G4Q.,.OO ---b,9Mlt,.2g 1, 000. 00 !vtmager - T 0 TAL P28, 100, 00 fl:27, 24.3. 33 F-28, 756. 12 �28, 072. 51 J:Q'IAL,....ruL~ �28 , 10Q. OO ?27,750. 00 F281015 .14 �27 , 576 . ~ ~~� ~_506 . 67) != 7!:r,0. 98 p {t95 . 97 B, I .:fi, Differe~ 22. That the total amounts declared by the pe- titioner as deductions. for utraveling expenses�, actually paid to its officials and other employtes were: P9,987.02 for 1949, Pll,365o54 for 1950, P11,695..58 for 1951- P5,293.60 for 1952 and 1161 998.45 for 1953; of which amounts the follow- ing traveling expenses were allowed and disallowed, as deductions: Beneficiary Total Amount Claimed Allowed Disallowed Mrs. J. Reupke 1949 . p 918.79 None (Ror passage to 11 918.79 Uqited States)

DECISION - C.T.A. CASE NO. 143 - 13 Mr. and Mrs . H. 1 9 50 Sulzer (For passage to ~ 3 , 751 . 00 ~ 1 , 875 . 50 ~ 1 , 875 . 50 Europe and return) 308. 80 154. 40 154.40 fv'Ir . and Mr s. H Sulzer (For additional pay- ment for passage from Europe to Manila) 19 51 Ivir. and Mrs. W. Eggmann and child (For passage to Europe and return) ~ 5,106 . 50 ~ 2 , 042.60 � 3 , 063 . 90 1953 Mr . and Mrs . M ~ 4 , 897 . 20 ~ 2 , 448 . 60 � 2 , 448 . 60 Ferrendiz (For ~4 , 939 . 20 � 2,469.60 ~ 2 , 469 . 60 passage to Europe ~ 3 , 079 . 65 � 1 , 539.82 ~ 1 , 539 . 83 and return) Mr . and Mrs . J . Reupke (For pas- sage to Europe and return) Mr . and Mrs. H. A. Streiff (One- half of cost of passage from Europe to Manila and to Europe) 23 . That t he amount of � 8 , 974. 66, represent- ing depreciation of buildings , which the peti- tioner and the respondent have ag re ed to be dis- allowed, subject matter of paragraph 17 of this stipulation , is broken down in respect to the years they correspond as follows: ------- For 1949 ~ 1 , 543 . 42 ------- -------- For 1950 1 , 548. 42 For 1951 1,548. 42 ------- For 1952 ------- For 1953 2 , 167. 20 2 1167.20 ~ 8,974.6 6

DECISION - C. I . A. CASE NO. 148 - 14 - The amount of ~ 1 , 646 . 12 representing de - preciation of autos and trucks , which the pe- titioner and the respondent have agreed to be disallowed , also subject matter of paragraph 17 of this stipulation , co~responds to 1951. As stated el sewhere in the stipulation of facts , simultaneous with the filing of the petition for review, petitioner filed a motion to restrain respondent and/ or his representatives from executing , or causing the ex- ecution of, the warrant of distraint and levy issued by the latter on April 21 , 1955 , for the collection of the alleged deficiency income taxes in question . How- ever , by a reement of the parties, respondent suspended the execution of the s aid warrant of distraint and levy. The first question , therefore , is whether or not res - pondent's right to c ollect through summary administra - tive methods the alleged deficiency income taxes for the years 1949 to 1953 , inclusive , has already pres- cribed. There is no dispute that the income tax returns of petitioner for the years in question wer e filed on the following dates: For t he ta xabl e year 1949 - - - March 30 , 1950 For the taxable year 1950 - March 6 , 1951 For the taxable year 1951 - - - February 26 , 1952 For the taxable year 1952 - March 10 , 1953 For the taxable year 1953 - - - February 26 , 1954. Under Section 51 (d) of the National Internal Re- venue Code , in cases of erroneous , false or fraudulent returns , the Collector of Internal Revenue shall~ upon the discovery thereof , at any time within three years

DECISION - C . T. i'.� CJ...SE NO. 1 43 - 15 - af ter said return is due , or has been made , make a return upon information obtained as provided for in the said code or by existing law , or require the neces - sary corrections t o be made , and the assessment made by him thereon shall be paid by su ch person or corp- oration i mmediately upon notification of the amount of such assessment . The established jurisprudence under this provision of law is that after three years have elapsed from the date on which income tax returns which have been found to be false , fraudulent or erroneous may have been made , t he Collector of Internal Revenue cannot make any summary collection thru administrative methods but must do so thru judicial proc eedings . (See Collector of Internal Venue v. Vi l legas , 56 Phil . 554; Collector of Internal Revenue v. Haygood , 65 Phil. 520; Philippine Sugar Development Co . v. Posadas , 68 Phil . 216) . This doctrine has been consistently followed and applied by this Court in several cases , among which are , Jose Zulueta v. Collector of Internal Revenue , C. I . A. Case No . 62; Jose Yulo v. J . Antonio Araneta , C. I. A. Case No . 84; Car men Cuenc o vs . Co l lector of Internal Revenue , C. I . A. Case No . 113; and William Li Yao v. Collector of Internal Revenue , C. I . A. Case No. 30. As the warrant of distraint and levy wa s is sued on APril 21 , 1955 on the pr operty of petitioner , it follows that respondent c an no longer co l lect the alleged deficiency income ta xes of the former for the taxabl e years 1949 , 1950 and 1951 , through summary administrative proc eed- ings .

... DECISION - C. I . A. CASE NO. 143 - 16 - This brings us to the principal question in- volved in this case , as raised by the pleadings and as elucidated in the stipulation of facts , whether or not the disallowance by respondent of the items men- tioned therein claimed by petitioner as deductions in its income ~ tax returns for the years 1949 to 1953 , in - clusive , is legally justified. At the outset , it will be noted that most of the items in question involve expenses claimed by pe- titioner ~s incurred in carrying on its business and therefo~allowable as deductions for income tax pur- poses. Under the provisions of Section 30 (a) (1) of the National Internal Revenue Code , a taxpayer is not allowed to claim expenses as deductions unless the same are ordinary and necessary in the maintenance and operation of his trade or business . These include a reasonable allowance for salaries or other compen- sation for personal services actually rendered and travel ing expenses while away from home in the pursuit of a trade or business. And in a suit for the al l ow- ance of items representing business expen ses , the bur- den of establishing that the same are ordinary and ne - cessary ~est upon him in order to show that he is en- titled to the deductions which the Collector of Inter- nal Revenue has disallowed . "The all owance of deductions is a mat- ter of legisl ative grace and the burden is upon the taxpayer to show that the statute sanctions the deduction claimed ." (Woolford Realty Co . v29. 1Ruo.sse ., 286 U. S. 319_; Brown v. Helvering , 193 ; New Colonial Ice Co . v. Helvering , 292 U. S . 435 ; McDonald v. Comm. , 323 U. S. 51)

DECISION - C. I.A . CASE NO. 143 17 Consequently, for purposes of determining taxable net income , deductions ~ill have to be limited to amounts which , in accordance with the evidence presented , are no more than ordinary and necessary expenses of carry- ing on the business . In the light of the above , we shall now discuss the different disputed items ad seriatim. 1. Directors ' Fees , Salaries , Bonuses and Commis - sions of Kuenzle and Streiff for 1949 to 1953 , inclu- sive , shown and indicated under paragraph 8 of the Sti- pulation of Facts . - A. P. Kuenzle and Harry A. Streiff are the non- resident president and vice- president , res- pectively, of petitioner, a resident corporation orga- nized and existing under the laws of the Philippines . They are also directors and stockholders of petitioner , owning , together with their families , practically all the shares of stock . In accordance with the by- laws of the corporation they are supposed to perform all duties pertaining to the general supervision of the officers. In view of their permanent absence from the Philippines , however , they perform only those duties , which , by their nature , could be done by means of directive s . Conse- quen~ly , their actual services are largely limited to the statement of the general policies of petitioner with- out executive supervision and functional control over the implementation of such polic ies and without any means of checking whether the same are put i nto proper opera- 0 tion. While regular correspondence is maintained bet- ween them and petitioner , they act onl y on matters that

DECISION - C. T.A. CASE NO. 143 - 18 - are brought to their personal attention. It follows that the evidence before us supports the conclusion that personal services actually ren- dered by A. P. Kuenzle and Harry. A. Streiff are not as worthless as determined by respondent. A reason- able allowance therefor, how.ever, would not, in our opinion, exceed ~6 , 000.00 per annum each as has been determined by petitioner and a bonus not to exceed the amount of their respective salary. v We do not have here any evidence regarding the nature, extent or value of the services of A. P. Kuen- zle and Harry A. Streiff so as to entitle them to fur - ther compensation in forms of commissions. Neither is there any showing as to the basis of apportionment of such commissions, whether the nature and extent of their services , the amount of their stockholdings, the value of their services , or otherwise. )!Jhfu this Court .:should be slow to reject the determination of a corporation as to the reasonableness of the s ~laries of its employees, petitioner has not presented any proof that a correct determination would exceed that of respondent. Since the amounts of commissions given to A. P. Kuenzle and Harry A. Streiff do not comport with the statutory qua - . lifications of tax deductions, same are therefore dis- allowed as determined by respondent . The same is true with regards to the directors' 0 fees paid to A . P. Kuenzle and Harry A. Streiff during the years in question . The record of the case does not show the nature or extent of the services rendered by

DECISION - C.I.A. CASE NO. 143 - 19 - the board of directors or the individual members there- of, the basis of apportionment, the value of their ser- vices, or the reasonableness of the purported directors' fees, Neither is there any showing that A. P. Kuenzle or Harry A. Streiff presided over or even attended any of the meetings of the board of directors and/or of the stockholders. In fact, nowhere and inno wise does the record show of any meeting of the board of directors during all the years 1949, 1950, . 1951, 1952 and 1953. We believe we do not find it necessary to deter- mine here whether the amounts allegedly representing directors' fees paid by petitioner to these officers as compensation for their services as directors cannot be allowed as ordinary and necessary expenses within the purview of Section 30(a)(l) of the National In- ternal Revenue Code. However, suffice it to say that these extraordinary and unusual amounts paid by peti- tioner to these directors in the guise and form of com-� pensation for their supposed services as such, without any relation to the measure of their actual services, � cannot be regarded as ordinary and necessary expenses within the meaning of the law. While petitioner argues that as president and vice-president, respectively, the entire salaries, bonuses, commissions and directors' fees paid to A. P. Kuenzle and Harry A. Streiff r~re sent compensation for services actually rendered, it should be noted that for purposes of determining tax- able net income, deductions are limited to amounts which are reasonably commensurate with the personal services

DECISION - C.T. Ao CASE NO. 143 - 20 - actually rendered . And in view of the circumstance that these individuals practically own all the shares of stock of the corporation� we would require more con- vincing proof of the reasonableness of their purported compensation and that proof must also show that such alleged salaries, bonuses, commissions and directors' fees are not disguised distributions of profits ~ The pretension has heretofore been made that the fact that the operations of petitioner during the years in question have resulted in substantial gains, as shown by the income tax returns of the corporation for said yearsR is eloquent proof that the p~licies laid down by A. P. Kuenzle and Ho A. Streiff have been of great bene- fit to petitioner . While it might superficially appear that the total compensation paid to these non-resident ~ executives, who practically own all of the shares of stock of petitioner, is reasonable in proportion to corporate earningi, it does not appear that these amounts given to them as compensation are reasonable in compari- son to their actual services. To test salary deduc- tions alone by determining the ratio of the total com- pensation of two non- resident officers, owning practical- ly all the shares of stock, in proportion to earnings, would result in the disregard of the statutory require- ment of substantial relation between individual service and the compensation therefor , �and the recognition of a mathematical gross maximum for two individuals who are in a position to dictate, by reason of proprietary and official considerations, the fixing of their corporate

'� DECISION ... CeT.A. CASE NO. 143 .. 21 - salarieso There is no evidence of the prevailing salaries, � bonuses, co~nissions and other fees paid to employees actually and personally performing similar services in comparable enterprises~ the availability or non-avail- ability of others to fill the offices held by them and the salary policy of petitioner as to all its employees. Neither is there evidence of how much petitioner would have to pay to get others to do what Ao Po Kuenzle and Ho Ao Streiff did. Nevertheless, the record of the case shows that there were services performed by them and as best, we determined the deduction indicated by the evi- dence. 2. Directors' Fees paid to W. Eggmann, A. Jung and Eo Rupp for the years 1949, 1950~ 1951, 1952 and 1953, as shown and indicated in paragraph 9 of the Stipulation of Facts:- Petitioner deducted these amounts among its busi- ness expenses but respondent disallowed them on the ground that the election of W. Eggmann , Ao Jung and Eo. Rupp to the board of directors was null and void per seo After petitioner has presented its evidence to prove that the ground relied upon by respondent for �he disallowance of the directors' fees has no basis in law or in fact, the latter, however, admitted in his memorandum that Wo Egg- mann, A. Jung and E. Rupp are members of the _board of directors but argues for the first time for the disal- lowance of these deduction on the ground that petitioner has not sustained the burden of showing that these indi- viduals have rendered actual services commensurate to their fees as directorso In our opinion, the argument must fail. . )~ )

DECISION - C.I.A. CASE NO. 143 - 22 - f without in the least attempting to express an opinion whether these amounts exceeded those which, as a matter of common knowledge, ~re usually paid to directors for the discharge of their customary duties, we believe that, after the case has already been sub- mitted for decision, respondent cannot anymore change his stand and raise for the first time in his memoran- dum the question as to whether or not w. Eggmann, Ao Jung and Eo Rupp have rendered actual services as di- rectors of the corporation. Otherwise, if we are to permit respondent to switch from one view to another whenever his convenience suits him, and at this stage of the proceedings after he has already admitted of the weakness of his ground, would be tantamount to allowing him to place taxpayers in a position where, in the prosecution of their tax cases, there would be nothing to guide them but the whims and caprices of his subordinate officersi./Respondent relies upon the theory that his assessment is prima facie correct unless controverted, but having predicated the disal- lowance of the directors' fees in question solely on his belief that the election of the recipients as di- rectors is null and void per se, we believe he cannot now successfully insist that the same should also be disallowed on the alleged ground that petitioner has not established that Wo Eggmann, A. Jung and E o Rupp did not render services reasonably commensurate with "� their compensation. More so, after he had already admitted that the basis of his assessment is ground- 1

DECISION - C. T. A. CASE NO. 143 ... 23 - less and at a stage of the proceedings where petitioner cannot anymore defend it selfo The amounts paid as directors' fees tow�. Eggmann g A. Jung and Eo Rupp for the years ~n question and disallowed by respondent should therefore be allowed. / 3o Loc al Selling Expenses: ~ The next disputed item ~ . refers to the sell ing expenses from 1949 to 1953, in- c lusive, invo~ving an aggregate amount of �15 , 983.47 broken down as follows: 1949 6, 088.06, 1950 5 , 635 . 51, 1951 1 1 097 . 61, 1952 1,145. 31 and 1953 2 , 016.98 . Res- . pondent disallowed this item on the ground that at the end of avery semester, the same is debited to this ac - count and credited to accounts payable with the expla- nation "Salesman Liquidationo 11 Inasmuch as the credits to accounts payabl e do not represent specific liabilities but in the nature of reserves, respondenti maintains that they are not al~owable deductions . The record shows � thru the testimony of Mr. \'l o Eggmann, that thes-e disputed amounts are not reserves but expenses actually incurred by petitioner's sales- men paid to them and made to accrue as of the end of the year in conformity with sound accounting principles to match income earned with expenses incurred . It ap- pearing that the expenses in question are ac tual busi- ness expenses which form part of the normal selling costs, consequently, they are deductible from the gross income for income tax purposes. 4o Transportation and Representation Allowances:- The recipients of the transportation and representation

'. DECISION .. C. T. A. CASE NO. 143 .. 24 - al l owances , who are all members of the staff of peti- tioner , t he position they respectively held and the amounts paid to them individually are set forth in paragraph 21 of the stipulation of facts o Petitioner contends that since the allowances in question have been actually disbur sed and received by the respective recipient , it has al ready incurred a business 'expense deductible under the income tax law. On the other hand, respondent maintains~ after petitioner has pre- sented its evidence, that in the cases of c. Reginger, Bo Tomelden, M. Fernandez , Ro Garcia , J . Reupke , Ho Schmid , R. Roeder, Ho Sulzer and V. Teucher, the na- ture of their work is such that their positions do not require traveling or representation expenseso While he argues that the expenses claimed for these individuals are not reasonable nor necessary in the pursuit of the business of the corporation and consequently are not deductible, respondent does not question anymore the reasonableness and necessity of the expenses of the other recipientso With regard to D. Bogo , w. Eggmann, Mo Ferrandiz, J . Huber, Fo Koller, W. Ramp , E. Rupp, Po Streuli and Go Wehrli , we shall therefore consider . that respondent is satisfied that the two requirements of the law of "ordinary and necessary" and "trade or business" have~been duly fulfilledo it fol lows that their re~pective transportation and representation al ~ lowances , as shown in paragraph 21 of the stipulation of facts , are deductible o Hence , the following dis- cussion wil l be l imited to those employees whose trans-

DECISION - C.T.A. CASE NO. 143 - 25 ... poxtation and representation allowances are disputed by respondento As already stated above, even if the expense is incurred in carrying on a trade or business, it must also be an ordinary and necessary expense proximately related to the trade or business. "Necessary" may mean merely �appropriate" or "helpful" to the-business; J_ a but "ordinar~ connotes payment which is normal in relation to the business of the taxpayer and the cir- cumstances. (See Deputy v. du Pont� 308 u.s . 488)o Now, how appropriate and helpful were the ex- penditures in question in the operation or maint e~ance of petitioner's business? While this Court should be slow to override the judgment of petitioner which led to these payments , as such payments may be assumed to have been required by its business, the record of the case is silent as to the motivations and requ~rements which prompted petitioner to conclude that such dis- bursements were necessary to the conduct of its busi- nesso Neither is there any evidence that the trans- portation and representation allowances in question have some reasonably normal relation to the ordinary conduct of petitioner's business and the circumstances r surrounding their payments. We believe that expenses are not deductible merely because they are incurred in connection -with the business of the taxpayer. As the law requires, the payments must also constitute necessary and ordinary expenses of carrying on the busi- ness ~ Since petitioner has not sustained the burden

1 DECISION ... C.ToA. CASE NO. 143 - 26 - of showing that the transportation and representation allowances paid to c. Re9inger, B. Tomelden, M. Fer- nandez, Ro Garcia, J. Reupke, H. Schmid, R. Roeder, Ho Sulzer and W. Teucher during the years in question were in fact part of its ordinary and necessary ex- � penses, same must, for this reason, be disallowed. 5o Charges to Sales Account:- This item refers ~ to ucharges to sales accountu from 1949 to 1953, in- clusive, representing a totai amount of ~18 ,299 .39 broken as follows: 1949 4,470o84, 1950-~1,03f>.l5, 1951 3 1 682.54, 1952~4 1 634o70 and 1953~4,475.16. Respondent disallowed this item on the ground that the amounts represented by it, are in the nature of reserves like charges to selling expenses and are not actual expenses incurredo In like manner , the testi- mony of Mr . Wo Eggmann in this regard, which was never � contradicted, is to the effect that these amounts re- present accrual of turnover discounts to petitioner 's wholesale customers pertaining to sales made during the year but only paid at the close of the calendar year. Such being the case, and it appe~ing that they were not disallowed by respondent . because they are not ordinary and necessary expenses of carrying on the busi- ness of petitioner, we believe that they are deductible for purposes of determining taxable net income. 6. Depreciation (1949 to 1953, inclusive:- The parties have agreed that the disallowed items for de- preciation for the years in question consist of the depreciation of autos and trucks, as well as buildings , �- �- .... ,

DECISION - CoT.A. CASE NO. 143 - 27 - totalling �-14,218.85, of which the amount of ~8 ,974.66 is the depreciation of the buildings and the sum of ~5.244o l9 is the depreciation of the autos and truckso Both parties have also agreed that the depreciation of the buildings in the said amount of ~8 ,974. 66 is to ;be disallowed and the depreciation of the autos and trucks to be disallowed should be in the sum of �1,646.13. (par. 17 1 Stipulation of Facts). The breakdown of the amount of ~8 ,974. 66 in respect to the years they cor- respond is as follows: 1949~1,543.42, 1950 1 1 548.42, 1951 1,548 o42, 1952 2,167o20 and 1953 2,167.20o The amount of ~1 ,646.12 representing depreciation of autos and trucks corresponds to 1951. (par. 23, Sti- pulation of Facts) o We shall consider these amounts in the computation of the entire taxeso 7. Allowances for losses of Munoz (for 1949 only), Macapagal (for 1951 only) money counter (for 1952 and 1953 only), and fine:- With respect to the "allowances for losses in money counter" in the amounts of �838.00 for 1952 and ~72 o 00 for 1953, respondent has agreed not to question the deductibility of the same. (pare 19, Stipulation of Facts). The petitioner has agreed also that the item on fine amounting to ~300o00 be disallowedo It is therefore unnecessary to pass upon these items. Anent the allowance for loss of funds in the custody of Macapagal in 1951, the amount involved is ~612.37 as shown by paragraph 5 of the petition for review and paragraph 4 of the stipulation of fa ctso

DECISION - C.I. A. CASE NOo 143 - 28 - While petitioner claims that the amount involved is only � 281.37, there being no proof presented to this effect, the sum stated in the stipulation of facts should govern~ Respondent contends that this amount ; ~ not a deductible item because it can be paid or com- pensated by the employee concerned . On the other hand, petitioner insists that it is a deductible item for it was not actually recovered from the employee. r rt has already been held that the deduction for losses is ' forfeited to the extent that the taxpayer could .have mitigated his losso In the case of Mes- senger Corpb v. Smith, 136 F (2d) 172, the taxpayer had failed to file a claim against its bankrupt debtor, because the estate was believed to be too small to war- rant the action. The loss was denied to the extent that recovery could have been had. For tax purposes, the court held , the taxpayer was under duty to file its claimo Without trying to express an opinion whe- ther the potential recovery factor carries with it an action in court , in the instant case, petitioner has not shown of any step or steps which it had taken to recover or even mitigate the loss . And more so , when the person concerned is its own employee . ) With regards to the allowance for the loss of Munoz for 1949, it appellrs that Munoz was petitioner's salesman stationed in San Fernando , Pampangao He made a sale on credit in Angeles and later on sent his driver to collect the money. His driver was held up and robbed of his collection amounting to ~ 1 , 903 . 04. This occurred

DECISION - CoT.A. CASE NO. 143 - 29 - sometime in November of 1948, but petitioner's manage- ment had the matter investigated only in the early part of 1949. After it was satisfied that Munoz or his driver could not be entirely blamed for such loss, pe- titioner bor~e one-half of the sum of ~1 ,903 . 04 , or �95lo92, and the other half was paid by Munoz. The deductibility of the said amount of ~ 951.92 borne by the corporation is now the point in controversy bet- ween the parties . Respondent contends that the responsible employee should be the one to shoulder the burden and not the corporation; and if ever the loss should be allowed, it should have been claimed in 1948, not in 1949. Pe- titioner claims otherwise. ~Under the circumstances surrounding the disap- pearance of the money in question, petitioner took every step to mitigate , if not to recover, its loss. 'hil~ it does not appear that an action was brought for the recovery thereof, an investigation was con- ducted by petitioner and the facts brought out therein were such that the salesman was not entirely to be blamed. Respondent admits that the loss resulted from robbery, and although the liability of the salesman / was found by the corporation to be doubtful, petitioner was able to reduce its loss by one-halfo) And on the contention of respondent that the loss should have been claimed in 1948, it will be noted that the law contem- plates the deduction from gross income of. losses only which are fixed by identifiable events. ~ The income

DECISION - C.T.Ao CASE NO. 143 - 30 - tax law is concerned only with realized losses and it was only in 1949 that petitioner reasonably ascertained the fact of and the amount of the loss so as to justify its deduction.. Before that, the loss was not yet evi- denced by a closed and completed transaction as the possibility of reimbursement was still real and sub- stantial.. The said amount of ~ 51 . 92 is therefore an allowable deduction in 1949.~ So Traveling Expenses:- The total amounts de- ~ clared and claimed by petitioner as deductions for traveling expenses paid to its officials and employees, together with their families, were D9,987.02 for 1949, ~ 11,365.54 �for 1950, �11,695o58 for 1951, � 5,293.60 for 1952 and ~16,998.,45 for 1953. {par. 22, Stipulation of Facts). All these total amounts were claimed by pe- titioner as business expenses, but respondent disallowed 918 .. 79 for 1949, 2v 0 29o90 for 1950, ~3,063.90 for 1951 and ~6 .458.,83 for 1953, on the ground _that they are personal in nature , having been incurred as traveling expenses of the wives of certain employees of the corp- oration., As correctly stated by petitioner i n its memoran- dum, the amounts in question represent additional com- pensation paid by the corporation to the recipients thereof. Hence, the allowance of these deductions from gross income does not turn on whether they were incurred in the pursuit of a trade or business while away from home, but depends on whether they constitute ordinary and necessary expenses paid or incurred in carrying on

DECISION - C.T.A. CASE NO. !13- - 31 - the business of petitioner. \ It is already well-settled that even though pa~nent is intended to be and is compensation for services rendered, only such part thereof maybe de- ducted as represents reasonable compensation under all the circumstanceso It is also well-established that the burden of proof of reasonableness is on the taxpayer, and a claim for salary deduction will be disallowed unless its reasonableness is provedo Thus, amounts paid by a corporation to its officers having no substantial relation to the measure of their ser- vices and disproportionate to their value, are not in reality pa~nent for services, and cannot be regarded as "ordinary and necessary expensestt within the mean- ing - of the law; and that such amounts do not become part of the "ordinary and necessary expenses" merely because the payments are made in accordance with an agreement between the corporation and its officers. Even if binding upon the parties, such an agreement does not change the character of the purported compensation or constitute it, as against the government, an ordi- nary and necessary expenseo (See Botany Worsted Mills Vo UoSo , 278 U.S. 282, 73 L. Ed . 279, 49 S. Ct. 129 (1929). In the light of the above, does the record of the case show whether the amounts disallowed by res- pondent constitute ordinary and necessary expenses paid or incurred by petitioner in carrying on its business? While it is true that there is no fixed yardstick by which the question of the reasonableness of the com-

DECISION - C.T.A o CASE NO. 143 - 32 - I pensation in any particular case can be measured, petitioner has not presented any evidence from which this Court can make the necessary inference that the amounts disallowed by respondent were in fact parts of its ordinary and necessary expenses. The evidence for petitioner shows that the employment contracts between the corporation and the recipients of the traveling expenses in question, who are foreigners, provide that the latter are entitled to transportation expenses to the Philippines for themselves and their families, and also for home leave to their respective countries after every few years in this country, with the traveling expenses �~themselves and their fami- lies paid by the corporation, but as stated above, such an agreement does not change the character of the purported compensation or constitute it, as against the government, an ordinary and necessary expense. The amounts claimed by petitioner as deductions for tra- veling expenses under this item must, for this reason, be therefore disallowedo 9. Repair of Building, 1950:- This item refers c1. to the sum of ~-19 ,93lo05 representing expenses for the construction of a new fence around a certain part of petitioner's factory compound in Manila, which respon- dent contends as crergeable to capital expenditures. ~etitioner charged off the entire amount as expense during the year in which it was incurred, instead of charging it to capital expenditures and depreciating its value. 1' 1

DECISION - C.T.A. CASE NO. 143 - 33 - ( In determining whether an expenditure is a capital one or is chargeable against operating income, it is necessary to bear in mind the purpose for which the expenditure was made. To repair is to restore to a sound state or to mend , while a replacement con- notes a substitution. A repair is an expenditure for the purpose of keeping the property in an ordinarily efficient operating condition. It does not add to the value of the property, nor does it appreciably prolong its life. It merely keeps the property in an operating condition over its probable useful life for the uses for which it was acquired. Expenditures for that purpose are distinguishable from those for re- placements, alterations, improvements or additions which prolong the life of the property, increase its value, or make it adaptable to a different use. The one is a maintenance charge, while the others are additions to capital investment which should not be applied against � current earnings �.~ (See Illinois Mer� chants Trust Co., Executor, 4 BTA 103; Jo Bently Squier, 13 BTA 1225) Theoretically, the expenses charge- able to earnings include the general ex- penses of keeping up the organization of the company, and all expenses incurred in operating the works and keeping them in good condition and repair; whilst ex- penses cha~geable to capital include those which are incurred in the original construction of the works, and in the subsequent enlargement and improvement thereof. (Union Pacific R. R. Co. v. United States , 99 UoSo 402). Applying these principles to the facts of the case, there is no question that by this expenditure, "'l1

DECISION - C. I.A. CASE NO. 143 - 34 - there was an original construction of a hallow block fence with iron grills around the compound occupied by petitioner and in the subsequent improvement thereof . The record of the case is clear that the amount in question did not merely involve the cost' of incidental repairs for the purpose of keeping the property of the corporation in an ordinarily efficient operocing con- dition , but an addition which prolonged the life of such property and which materially increased its value . It was not just a maintenance charge or an expense of keeping up the business of petitioner . We are there- fore of the opinion that the sum of � 19,931 . 05 re- ferred to under this item is a capital expenditure which should not be applied against current earnings . I 10. Discretionary Expen ses of Mr . Eggmann for tJ... 1952: - w~. Eggmann is the treasurer and acting manager of petitioner and in 1952, he was given the sum of ~ 6,000 . 00 to be spent as in his judgment will redound to the benefit and interest of the corporation . I ~t ap- pears that the said amount was spent by him in so many little items that it would be very difficult to classify them . While petitioner claims that it was actually spent for such purpose, respondent however disallowed the same on the ground that the former failed to prove that the expenditure constitute an ordinary and neces- sary business expense of the corporation. In our opi- nion, the argument should be sustained . The giving of discretionary funds to top executives of business enterprises is a common practice in any in- dustryo However, since in most instances there is a large

_., . ' DECISION - &. ToAo ~ASE NO. 143 - 35 - personal element involved , the necessity of such ex- penditures or the direct business benefits to be de- rived therefrom is a prerequisite to the al lowance of the same as deduc tibl e expense . These expenses must be not only necessary but also ordinary within the accepted and known meanings of these two terms . And the fact that the taxpayer thinks that the expense is a proper deduction will not control because to be de- ductible, it must meet the test laid do~n by the income tax law. Without in the least attempting to belittle Mr. Eggmannts judgment as to the necessity of such expendi- tures because of the substantial difference in opinion as to their value , it will be notic ed that petition~ � fail ed to prove the direct business benefits which rea- .son~bly stemmed from the expenditure of the discretionary fund i n question. Petitioner claims ' that the said amount was spent in connec tion with its business , but no evi- dence to this effect was presented by it. It needs hardly necessary to add that to be deductibl e , these expenses must be both ordinary and necessary and incurred in carry- ing on the business of the corporation , and the burden of proof is upon petitioner to show the definite reason- abl e business purpose behind such expenditures and that the same were reasonably c alculated to accompl ish that purpose . We are not unmindful of the fact that , perhaps , because the results f l owing from these expenditures are more or l ess intangibl e in nature , i t may sometimes be diff io~lt to prove that the payment s constituted ordinary

.-~ DECISION - C. I . A. CASE NO. 143 - 36 - and necessary business expenses, but the record of the case shows that there was not even a substantial compliance with the requirements of the lawo For this reason, the amount of �6 , 000. 00 representing discre- tionary expenses of Mr . Eggmann for 1952 should there- - 1 fore be disallowed . 11 . Reserve for Price Fluctuation for 1952:- ~ The last disputed item refers to reserve for price fluctuation for 1952 , which involved the sum of i1:18,680. 95. The disallowance of this item by respon- dent is based on the general proposition that amounts deposited in a reserve to cover contingent liabilities cannot be deducted until such liabilities become fixed . It appears that in 1950, petitioner created a "Reserve for Price Fluctuation" but such reserve was not claimed as a deductio~ for ~ that year , since no los s c hargeable to this account was actually sustained . In 1952 the corporation sustained an actual loss on a sale of raw leaf tobacco and such loss was chargeable in that year against this reserve which was created for the purpose in 1951 . Clearly therefore, the amount in question represented loss actually sustained by petitioner in 1952 and is in conformity with the theory of respondent that if the price really fluctuates, the loss will be deducted in the year it is sustainedo Pe- titioner having claimed the deduction in question for 1952, the year when the loss �was actually sustained� and not for 1951 when the reserve was created, the amount of ~18,680 . 95 should therefore be allowedo

i' �' ' ' DECISION - C.I.A. CASE NO. 143 - 37 - From the foregoing, we are therefore of the opinion and so hold that: (1) the directors' fees and commissions of A. Po Kuenzle and Ho Ao Streiff for 1949 to 1953, inclusive, as itemized in paragraph 8 of the stipulation of facts, are totally disallowed but their entire salaries and yearly bonuses not to exceed the amount of their respective salary rate are allowed; {2) the entire directors' fees of W. Eggmann, ~Jung and E. Rupp for the years 1949, 1950, 1951, 1952 and 1953, as indicated in paragraph 9 of the stipulation of facts~ are considered as allowable deductions; (3) the local selling expenses of ~etitioner from 1949 to 19531 inclusive, involving an ag gr egate sum of ~15,983o47 1 appearing in paragraph 4 of the stipulation of facts, are deductible from the gross income; (4) the transportation and representation allowances paid to c. \ B. Reginger , Tomelden, Mo Fernandez, R. Garcia, Jo Reupke, H. Schmid, Ro Roeder, H. Sulzer and Wo Teucher during the years 1950, 1951, 1952 and 1953, as set forth in paragraph 21 of the stipulation of facts, are disallowed, while those of D. Bogo , W. Eggmann, M. Ferrandiz, J. Huber, Fo Koller~ Wo Ramp, Eo Rupp, P. Streuli and G. Wehrli are allowed; (5) the charges to sales account from .l949 to 1653, in- clusive, representing a total amount of ~18,299o39, as shown in paragraph 4 of the stipulation of facts, are deductible; ~( o) the depreciation of building and that of the autos and trucks to be disallowed are the sum~of ~8 ,974o66 and P-1 ,646.13, respectively, which are broken down in respect to the years they correspond in para-

DECISION - C.I.A. CASE NO. 143 / - 38 - graph 23 of the stipulation of facts; (7) the allow- ances for losses in the money counter in the amounts of ~838.00 for 1952 and �972 .00 for 1953 are allowed, although the fine of �300o00 is disallowed, and with regards to the allowance for loss of funds in the cus- tody of Macapagal in 1951 in the sum of P612 .37t same is not deductible while that of Munoz for 1949 in the amount of ~95 1.92 is an allowable deduction; (8) the amounts of ~9 18.79 for 1949, ~2 ,029.90 for 1950, ~3 ,063.90 for 1951 and 6,458.8 3 for 1953 representing traveling expenses disallowed by respondent are not allowable deductions; (9) the sum of ~19 ,931.05 repre- senting expenses for the construction of a new fence around petitioner's compound is a capital expenditure so that it cannot be charged off as expense in 1950; (10) the discretionary expenses of Mr . Eggmann for 1952 in the amount of 6,000.00 is disallowed; and (11) the reserve for price fluctuation for 1952 in the amount of ~18 ,680.95 is allowed. WHEREFORE , the appealed decision is hereby mo- dified in the sense that petitioner Alhambra Cigar &Cigarette Manufacturing Company should pay respon- dent Collector of Internal Revenue the sums of ~16~008 .30, ~27 ,157. 00 , �38 ,888.00, ~32 ,092.00, and r32 ,108 .00, representing deficiency income taxes for the years 1949, 1950, 1951, 1952 and 1953, respectively, or a total of ~146,253.30 , computed as follows:

� DECISION - CoToA. CASE NO. 143 .. 39 - 1949 Net Income as per return ~ 950, 248 . 34 Add disallowances: � 41, 171 . 36 ' Directors' fees Bonus of Kuenzle 38 , 000, 00 I .,'\ and Streiff \ 'I Commissions of 51 , 768 . 94 . Kuenzle & Streiff 1 , 543. 42 Depreciation of ! 918 . 79)/ 133 , 402. 51 buildings Traveling Expenses Total Net Income f: l. 083 . 650,85 Tax due on above Jl: 130 , 038 , 10 Tax already paid 114 .029 , 80 Deficiency ~ 16 ,008 , 30 1 9 50 Net Income as per return ' .. t . �-1 , 178 , 043,06 Add disallowanc es � 41 , 297,42 Directors ' Fees 38 , 000 , 00 } Bonus of Kuenzle 54,822. 90 ' and Streiff Commissions of 1,548 . 4~ . 2,029 . 90 Kuenzle &Streiff ' Depreciation of buildings (12, 6oo.oo' ' 19 a931 . 05 \.1 ~' 169 p 729 ! 69 Traveling Expenses Transportation and representation expenses Repair on buildings Total Net Income �-1. 347,772. 75 Tax due on above ~ 215 , 644 . 00 Tax already paid 188 ,487. 00 Deficiency f:. 27,157,00 19 51 Net Income as per return ~ 1 , 254 , 426 . 82 Add disal l owances: � 32 , 576. 86 ' Directors� fees Bonus of Kuenzle. 38 t 000. 00 ,) 1 tI and Streiff

DECISION - C.I.A. CASE NO. 143 - 40 - Commissions of Kuenzle &Streiff � 45 ,064. 62 Allowances for loss " of Macapagal Depreciation of buildings 1 , 548 . 42 ~ Depreciation of autos 1,646. 12 ' and trucks Traveling Expenses (3 , 063 . 90). ,. Transportation and representation expenses \16 , 075 . 00) \ Fine 300, CXY2f 138 , 887, 29 Total Net Income iP-1,393,314.11 Tax due on above ~ 382,128.00 Tax already paid 343, 240,00 Deficiency ~ 38,888.00 1952 Net Income as per return � 833.940.99 Add disallowances: >I Directors' fees � 26 , 447 . 32 Bonus for Kuenzle 114,611 . 33 and Streiff 35,500.00 Commissions for Kuenzle &Streiff Depreciation of 28 , 894. 68 buildings 2,167. 20 '" Transportation and representation expenses ( 15, 602 . 13 Discretionary expenses 6,000 . 00 1/,, Total Net Income � 948, 552,32 Tax due on above ~ 257 , 595. 00 Tax al:ready paid 225 , 503. 00 Defidiency � 32.092.00 1953 Net Income as per return ~ 821 ~202,51 Add disallowances: i! 21,789.38, Directors ' fees 35,500,00 t .)I, ~t ~ - Bonus of Kuenzle 33,992o58, and Streiff Commissions of Kuenzle &Streiff

DECISION - - 41 - C.I. A. CASE NO. 143 - 2,1 67.20 Depree iation of ( 6,458 . 83 ) buildin s ( 14,764. 59)_ ~ 11 4 , 672~58 Traveling Expenses Transportation and 935 , 875,.09 254 , 045.00 representation 221 , 937,00 expenses ._,32!108. 00 Total Net Income Tax due on above Tax already paid Deficiency S u m m a r 'l 1949 J.1!� 16 ,008. 30 1950 27 ,1 57. 00 1951 38,888,.00 1952 32 _, 092. 00 1953 32,108.00 Total deficiency -146,253.30 tax due SO ORDERED. anila , Philippines , July 31 , 1956. ~~ MARIANO NABLE Presiding Judge W COI'-JCUR: ROiviAN I '� UMALI As s ociate Judge