WELCH V. HELVERING, 290 US 111 (TAX)

Issue: Whether payments by taxpayer, who is in business as a commission agent, are allowable deductions in the computation of his income if made to the creditors of a bankrupt corporation in a endeavor to strengthen his own standing and credit.

We may assume that the payments to creditors of the Welch Company were necessary for the development of the petitioner's business as least in the sense that they were appropriate and helpful. But the problem is not solved when the payments are characterized as necessary. Many necessary payments are charges upon capital. There is a need to determine whether they are both necessary and ordinary.

Now what is ordinary is nonetheless a variable affected by time and place. Men do at times pay the debts of others without legal obligation or the lighter obligation imposed by the usages of trade or by neighborly amendities, but they do not do so ordinarily, not even though the result might be to heighten their reputation for generosity and opulence. Indeed, if language is to be read in its natural and common meaning, we should have to say that payment in such circumstances, instead of being ordinary is in a high degree extraordinary. There is nothing ordinary in the stimulus evoking it, and none in the response.

Reputation and learning are akin to capital assets, like the goodwill of an old partnership. For many, they are the only tools with which to hew a path way to success. The money spent in acquiring them is well and wisely spent. It is not ordinary expense of the operation of a business.

INDOPCO V. COMMISSIONER (TAX)

Petitioner's expenses do not qualify for deduction under Section 162(a).

Deductions are exceptions to the norm of capitalization and are allowed only if there is clear provision for them in the Code and the taxpayer has met the burden of showing a right to the deduction. Commissioner v. Lincoln Savings & Loan Assn holds simply that the creation of a separate and distinct asset may be a sufficient condition for classification as a capital expenditure, not that it is a prerequisite to such classification. Nor does Lincoln Savings prohibit reliance on future benefit as means of distinguishing an ordinary business expense from a capital expenditure.

Although the presence of an incidental future benefit may not warrant capitalization, a taxpayer's realization of benefits beyond the year in which the expenditure is incurred is important in determining whether the appropriate tax treatment is immediate deduction or capitalization. The record in the instant case amply supports the lower court's findings that the transaction produces significant benefits to petitioner extending beyond the tax year in question.

CIR V. GENERAL FOODS (TAX)

To be deductible from gross income, the subject advertising expense must comply with the following requisites:

1. the expense must be ordinary and necessary;
2. it must have been paid or incurred during the taxable year;
3. it must have been paid or incurred in carrying on the trade or business of the taxpayer; and
4. it must be supported by receipts, records, or other papers.

The parties are in agreement that the subject advertising expense was paid or incurred within the corresponding taxable year and was incurred in carrying on a trade or business. Hence, it was necessary. However, their views conflict as to whether or not it was ordinary. To be deductible, an advertising expense should not only be necessary but also ordinary. These 2 requirements must be met.

The Commissioner maintains that the subject advertising expense was not ordinary on the ground that it failed the 2 conditions set by US jurisprudence:

1. reasonableness of the amount incurred; and
2. the amount incurred must not be a capital outlay to create "goodwill" for the product and/or private respondent's business.

Otherwise, the expense must be considered a capital expenditure to be spread out over a reasonable time.

We find the subject expense for the advertisement of a single product to be inordinately large. Therefore, even if it is necessary, it cannot be considered an ordinary expense deductible under NIRC.

Advertising is generally of 2 kinds:

1. advertising to stimulate the current sale of merchandise or use of services; and
2. advertising designed to stimulate the future sale of merchandise or use of services.

The second type involves expenditures incurred to create or maintain some form of goodwill for the taxpayer's trade or business. If the expenditures are for the advertising of the first kind, then except as to the question of the reasonableness of the amount, there is no doubt such expenditures are deductible as business expenses. If however, the expenditures are for advertising of the second kind, then normally they should be spread out over a reasonable period of time.

We agree with the CTA that the subject advertising expense was of the second kind. Not only was the amount staggering, the respondent corporation itself also admitted, that the subject media expense was incurred in order to protect respondent corporation's brand franchise.

The protection of brand franchise is analogous to the maintenance of goodwill or title to one's property. This is a capital expenditure which should be spread out over a reasonable period of time. This was akin to the acquisition of capital assets and therefore expenses related thereto were not to be considered as business expenses but as capital expenditures.

ATLAS CONSOLIDATED MINING V. CIR (TAX)

The decisive question is whether or not the expenses paid for the services rendered by a public relations firm labelled as stockholders relation service fee is an allowable deduction as business expense under the NIRC.

The law allowing expenses as deductions from gross income for purposes of income tax is Sec 30(a)(1) of the NIRC which allows a deduction of "all the ordinary expenses paid or incurred during the taxable year in carrying on a trade or business." an item of expenditure, in order to be deductible under this section of the statute, must fall squarely within its language.

The statutory TEST OF DEDUCTIBILITY where it is axiomatic that to be deductible as a business expense, 3 conditions are imposed, namely:

1. the expense must be ordinary and necessary;
2. it must be paid or incurred within the taxable year; and
3. it must be paid or incurred in carrying in a trade or business.

In addition, not only must the taxpayer meet the business test, he must substantially prove by evidence or records the deductions claimed under the law, otherwise, the same will be disallowed. The mere allegation of the taxpayer that an item of expense is ordinary and necessary does not justify its deduction.

We sustain the ruling of the tax court that the expenditure paid as compensation for services carrying on the selling campaign in an effort to sell Atlas' additional capital stock is NOT an ordinary expense in line with the decision of the US Board of Tax Appeals in several cases. Accordingly, as found by the CTA, the said expense is not deductible from Atlas' gross income because the expenses relating to recapitalization and reorganization of the corporation, the cost of obtaining stock subscription, promotion expenses, and commission or fees paid for the sale of stock reorganization are CAPITAL EXPENDITURES.

That the expense in question was incurred to create a favorable image of the corporation in order to gain or maintain the public's and its stockholders patronage, does not make it deductible as business expense. Efforts to establish reputation are akin to acquisition of capital assets, and therefore, expenses related thereto are not business expense but capital expenditure.