The Commissioner of the Internal Revenue Service's ruling has the support of a presumption of correctness, and the petitioner has the burden of proving it to be wrong. Unless the court can say from facts within its knowledge that certain payments are ordinary and necessary expenses according to the ways of conduct and the forms of speech prevailing in the business world, the tax must be confirmed.
Payments by a commission agent of debts of a bankrupt corporation of which he was formerly secretary, for the purpose of strengthening his own standing and credit, are not ordinary expenses within the meaning of the Revenue Act allowing deductions, in computing net income, of "all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business."
In 1922, petitioner was the secretary of the E. L. Welch Company, a Minnesota corporation, engaged in the grain business. The company was adjudged an involuntary bankrupt, and had a discharge from its debts. Thereafter the petitioner made a contract with the Kellogg Company to purchase grain for it on a commission. In order to reestablish his relations with customers whom he had known when acting for the Welch Company and to solidify his credit and standing, he decided to pay the debts of the Welch business so far as he was able. In fulfilment of that resolve, he made payments of substantial amounts during five successive years. The petitioner sought to use these payments as deductions in computing his income. The Commissioner of the Internal Revenue Service, however, disallowed these deductions as ordinary and necessary expenses ruling that these payments were rather in the nature of capital expenditures, an outlay for the development of reputation and good will. The Board of Tax Appeals sustained the action of the Commissioner, and the Court of Appeals for the Eighth Circuit affirmed.
Are the payments deductible as ordinary and necessary expenses?
The Supreme Court affirmed the ruling that these payments were not deductible from income as ordinary and necessary expenses, but rather, were in the nature of capital expenditures, an outlay for the development of reputation and good will. Although petitioner's payments were necessary because they were appropriate and helpful to the continuation of his business, his payments of another's debts with no legal obligation to do so were not ordinary because they were not the common and accepted means of heightening his reputation for generosity and opulence. Since petitioner failed to sustain his burden of overcoming the presumption of correctness of respondent's ruling, he was not entitled to the deduction.