9 T.C. 15">*16 The petitioner seeks redetermination of a deficiency in income tax for the fiscal year ended January 31, 1940, and of deficiencies in income tax, declared value excess profits tax, and excess profits tax for the fiscal years ended January 31, 1941 and 1942. In an amended answer the respondent makes a claim under section 272 (e) of the Internal Revenue Code for increases in the deficiencies. The deficiencies determined and the increases claimed are as follows:

The petitioner concedes that its taxable income has been understated by reason of the accrual in excess of actual liability of (a) Arkansas sales tax in the1947 U.S. Tax Ct. LEXIS 155">*159 amounts of $ 4,314.43, $ 3,487.77, and $ 9,216.55, respectively, for the fiscal years ended January 31, 1940, 1941, and 1942; and (b) rent in the amount of $ 1,925 for the fiscal year ended January 31, 1942.

The respondent concedes that the petitioner is entitled to deductions in the fiscal year ended January 31, 1942, for compensation paid to E. Lasker Ehrman, one of its directors, in the amount of $ 6,000, and to Julian G. Blass, Jr., one of its employees, in the amount of $ 3,600; and that for such year there is an overstatement of the petitioner's excess profits net income on account of recoveries of bad debts in the amount of $ 1,512.27. The respondent further concedes that the petitioner is entitled to credit for payment of an additional tax liability of $ 29,786.18 for the fiscal year ended January 31, 1940.

This leaves for decision the following issues:

(1) Whether the amount of $ 99,681.30 carried on the petitioner's books as unrealized profit on its installment accounts receivable at the close of the fiscal year ended January 31, 1939, and not theretofore reported as income, should be included in the petitioner's income for 9 T.C. 15">*17 the fiscal year ended January 31, 1940, 1947 U.S. Tax Ct. LEXIS 155">*160 for which year the respondent denied the petitioner the right to report income from installment sales on the installment basis and recomputed its income on the accrual basis;

(2) Whether the petitioner was availed of in the fiscal year ended January 31, 1941, for the purpose of preventing the imposition of surtax on its shareholders within the meaning of section 102, Internal Revenue Code;

(3) Whether the petitioner is entitled to deductions for the fiscal year ended January 31, 1942, for compensation paid to its president and two of its vice presidents in excess of the amounts allowed by the respondent;

(4) Whether in computing the petitioner's excess profits tax for the fiscal years ended January 31, 1941 and 1942, the petitioner should be granted relief under section 722 of the Internal Revenue Code by restoring to earnings of the base period fiscal year ended January 31, 1939, a loss incurred in that year from the sale of its shoe department in the amount of $ 7,037.59;

(5) Whether the petitioner is entitled to a deduction in the fiscal year ended January 31, 1942, of $ 41,854.17, which amount it had set aside under an employee's profit-sharing pension plan for payment of bonuses1947 U.S. Tax Ct. LEXIS 155">*161 to employees during the fiscal year ended January 31, 1943; and

(6) Whether excess profits net income for the fiscal year ended January 31, 1941, should be increased to the extent of $ 5,568.75 by computing the amount of petitioner's deduction for contributions at 5 per cent of its excess profits net income before deduction of contributions, rather than at 5 per cent of its normal tax net income before deduction of contributions.

FINDINGS OF FACT.

The petitioner is a corporation of the State of Arkansas and owns a retail department store in Little Rock in that state. Its books were kept on the basis of a fiscal year ended January 31, and its Federal tax returns for the fiscal years ended January 31, 1940, 1941, and 1942, were filed with the collector of internal revenue for the district of Arkansas. At all times its books were kept and its returns were made on the accrual basis, except with respect to income from installment sales, as hereinafter stated.

The petitioner has an outstanding capital stock of $ 871,600. From 1937 to 1941 this stock consisted of 8,716 shares of common stock of the par value of $ 100 each. In January 1941, pursuant to resolutions approved by the stockholders1947 U.S. Tax Ct. LEXIS 155">*162 on January 10 of that year, the charter was amended fixing the authorized capital stock at 50,000 shares of common stock having a par value of $ 20 per share, all of the 8,716 9 T.C. 15">*18 shares then outstanding were turned in for retirement, and the stockholders received for each share surrendered 5 shares of the new common stock of the par value of $ 20 per share. Certificates for 43,580 shares of the new common stock were issued to the stockholders or their nominees on January 31, 1941, and are now outstanding.

Noland Blass and Julian G. Blass, who are sons of Gus Blass, the founder of the business, and Jesse Heiman, who is a relative of Gus Blass, entered the employ of the petitioner prior to 1910, and some years later, in 1919, became officers and directors of the petitioner. After the death of Gus Blass, and for a number of years up to the fall of 1939, Julian G. Blass was president, Noland Blass was vice president, and Jesse Heiman was treasurer. Julian G. Blass died in the fall of 1939, and Noland Blass has been president and Jesse Heiman has been a vice president and treasurer since his death. M. M. Murphey, an employee and stockholder, was secretary throughout the taxable1947 U.S. Tax Ct. LEXIS 155">*163 years, and Hugo Heiman, stockholder and the brother of Jesse Heiman, was a vice president during the fiscal year ended January 31, 1942. Noland Blass, Jesse and Hugo Heiman, and M. M. Murphey, together with E. G. Watkins, David Bluthenthal, and A. E. Sparling, employees and stockholders of the petitioner, and E. Lasker Ehrman, an attorney who owned none of the petitioner's stock, constituted the board of directors during the fiscal years ended January 31, 1941 and 1942.

(1) Income from installment sales. -- The petitioner sold a substantial part of its merchandise, such as furniture, ranges, refrigerators, radios, etc., on the installment plan. From 1918 up to and including the fiscal year ended January 31, 1942, the petitioner consistently followed the practice, at the end of each annual accounting period, of setting up as deferred profit 50 per cent of the total of the then outstanding installment accounts receivable, entering the amount in an account entitled "Unrealized Profit." At the close of the following accounting period it credited the balance in the unrealized profit account back to profit and loss and credited 50 per cent of the total of the installment accounts1947 U.S. Tax Ct. LEXIS 155">*164 receivable outstanding at the end of such following year to the unrealized profit account. On its income tax returns from 1918 up to and including the fiscal year ended January 31, 1942, the petitioner consistently followed the practice of deducting from gross income the amount of the increase in the unearned profit account during the taxable year; and, in those years in which the account reflected a decrease, it included the amount of the decrease in its income. The petitioner's returns for the taxable years from 1918 up to and including the fiscal year ended January 31, 1939, reporting income from installment sales in the manner stated above, were accepted by the Commissioner and his predecessors in office.

9 T.C. 15">*19 The balance in the unearned profit account at the beginning and end of each year, together with the annual increase or decrease therein, for the fiscal years ended January 31, 1937 to 1942, were as follows:

1947 U.S. Tax Ct. LEXIS 155">*165 The increases in the unearned profit account in the fiscal years ended January 31, 1940, 1941, and 1942, in the respective amounts of $ 17,231.01, $ 41,251.15, and $ 23,720.55, were claimed by the petitioner as deductions on its returns for those years.

The petitioner's returns for the fiscal years ended January 31, 1940 and 1941, were reviewed by an examiner from the office of the revenue agent, who, in a report submitted in October 1942, accepted as proper the petitioner's method of reporting income from installment sales. In March 1943 the examiner informed the petitioner that he had received instructions from the Commissioner to reject the use of the installment method unless the petitioner could adjust its books so as to comply with the requirements of the regulations concerning installment basis returns. Upon being told that the petitioner was unable at that late date to reconstruct its records so as to satisfy such requirements, the examiner recomputed the tax liability on the accrual basis, and he also included in the petitioner's income of the fiscal year ended January 31, 1940, the amount of $ 99,681.30 (the balance in the unrealized profit account as of January 31, 1939) 1947 U.S. Tax Ct. LEXIS 155">*166 as profit not previously returned as income pertaining to payments due on installment contracts as of the close of the preceding year. The petitioner signed a waiver of restrictions on the assessment of deficiencies based on such action.

The examiner returned the waiver to the petitioner several weeks later, and, at the direction of the Commissioner, he recomputed the petitioner's tax liability without including the amount of $ 99,681.30 in the income of the fiscal year ended January 31, 1940. The Commissioner issued a 30-day letter, dated May 4, 1943, notifying the petitioner of proposed deficiencies for the fiscal years ended January 31, 1940, 1941, and 1942. The petitioner thereupon filed a protest, dated June 1, 1943, asserting the right to use the so-called installment method which it had used since 1918 and alleging that it had "consistently followed the method set out in arriving at the unrealized profit 9 T.C. 15">*20 on installment sales. While the amount of percentage (50 per cent) is slightly in excess of the actual mark-on of these departments, the differential is small and the adjustments involved in comparison to the profits * * * are not of substantial consequence."

Between1947 U.S. Tax Ct. LEXIS 155">*167 June 1 and the end of 1943 the petitioner's officers sought to settle the matter in conference with the technical staff and they made a survey of the petitioner's records in an effort to adjust the books and meet the requirements of the regulations. The petitioner obtained an extension of time for filing its return for the fiscal year ended January 31, 1943, pending the disposition of its protest. The mark-on percentage (the portion of gross profit marked on the merchandise when first received) was estimated by the petitioner's officers in 1943 to run from 36 to 42 per cent, and the maintained gross profit (the portion of the profit after adjustment of the mark-on for subsequent reductions due to damaged and shop worn articles) was estimated by them to run from 33 to 41 per cent. However, the percentage of profit on the installment sales could not be computed on the basis of such percentages, because it was impossible for the petitioner to ascertain from its records which articles fell within those profit ranges and how much of the merchandise sold in each department of the store was included in the total installment sales. The petitioner finally concluded that it could not reconstruct1947 U.S. Tax Ct. LEXIS 155">*168 its records beginning with February 1, 1939, so as to comply with the regulations, and it abandoned its claim for the use of the installment method. Its protest of June 1, 1943, was denied by the technical staff in the latter part of 1943.

The petitioner filed its return for the fiscal year ended January 31, 1943, on the accrual basis, and after the year 1943 it kept its accounts strictly on that basis. On March 10, 1944, the petitioner filed amended returns, prepared on the accrual basis, covering the fiscal years ended January 31, 1940 and 1941, in which it made no claim for deduction of the annual increases in the unearned profit account. In the amended return for the fiscal year ended January 31, 1940, it included the amount of $ 99,681.30 as "additional income from change of reporting income from installment sales as directed by the Commissioner," and it paid an additional tax of $ 29,786.18 shown to be due on such return. On April 6, 1944, almost a month after the filing of the amended returns, the respondent mailed to the petitioner a notice of deficiency based on the original returns in which he disallowed the deductions of the annual increases in the unrealized profit1947 U.S. Tax Ct. LEXIS 155">*169 account which the petitioner had claimed on its original returns for the fiscal years ended January 31, 1940, 1941, and 1942, stating his reasons in the statement attached to the notice of deficiency as follows:

9 T.C. 15">*35 Said increases * * * do not represent your true unrealized profits on installment sales computed in accordance with the provisions of section 19.44-1 of Reg. 103. It is held that you are not entitled to report income from installment sales under the above section for the reason that you have not maintained your books of account in such manner as to enable an accurate computation to be made on such basis in accordance with the provisions of said section.

The Commissioner did not include the amount of $ 99,681.30 in the taxable income of the petitioner in determining the income tax liability of the petitioner for the fiscal year ended January 31, 1940. In determining its excess profits credit based on income for the fiscal years ended January 31, 1941 and 1942, he reduced the petitioner's excess profits net income for the base period years (the fiscal years ended January 31, 1937, 1938, 1939, and 1940) by disallowing as deductions the annual increases in the unearned1947 U.S. Tax Ct. LEXIS 155">*170 profit account of $ 33,412.74 in the fiscal year ended January 31, 1937, and $ 17,231.01 in the fiscal year ended January 31, 1940, and by eliminating from income the annual decreases in the unearned profit account of $ 4,934.34 in the fiscal year ended January 31, 1938, and $ 5,513.18 in the fiscal year ended January 31, 1939. He did not include the amount of $ 99,681.30 in the excess profits net income for the base period fiscal year ended January 31, 1940.

(2) Accumulation of surplus. -- Upon the death of Gus Blass the stock which he held in the petitioner passed to his daughter and his sons, Julian and Noland. With other shares of the stock which Julian and Noland had previously acquired, they and their sister owned 51 per cent of the petitioner's outstanding stock, and all three collaborated in controlling the affairs of the petitioner corporation until Julian died in the latter part of 1939. Thereafter, and throughout the fiscal years ended January 31, 1941 and 1942, Noland controlled this stock, amounting to 22,350 of the 43,580 common shares issued on January 31, 1941, under a voting trust agreement with his sister and Julian's two surviving children. During the two1947 U.S. Tax Ct. LEXIS 155">*171 fiscal years last mentioned 40 per cent of the petitioner's stock was owned by 14 stockholders, including Jesse and Hugo Heiman, Camille Thalheimer, and members of their families, who were related to Noland Blass by blood or marriage; and 9 per cent was owned by 17 stockholders, including M. M. Murphey, secretary of the petitioner, and E. G. Watkins and David Bluthenthal, employees of the petitioner, none of whom was related to Noland Blass.

In distributing profits in the fiscal year ended January 31, 1936, and prior years, the petitioner always awaited a final report from its auditors after the close of the year's operations and declared and paid the dividends during the year following the year of such close of operations. For the fiscal year ended January 31, 1936, the net 9 T.C. 15">*22 profit, after deduction of income tax liability, was $ 141,138.29, and the surplus at the close of the year was $ 1,086,351.51. Dividends from the profits of that year were declared and paid in the amounts of $ 43,080 on June 16, 1936, and $ 96,518.18 on December 28, 1936. For the fiscal year ended January 31, 1937, the net profit, after deduction of income tax liability, was $ 192,758.64, and during1947 U.S. Tax Ct. LEXIS 155">*172 that year, on January 16, 1937, it declared a dividend of $ 87,160, which was paid from the earnings of that year on January 29, 1937. The dividends thus paid during the fiscal year ended January 31, 1937, amounted to $ 226,758.18. Thereafter, in order to avoid the tax on undistributed profits, the petitioner decided to pay dividends out of each year's earnings prior to the close of the year, and during the fiscal years ended January 31, 1938, 1939, and 1940, it paid dividends out of the earnings of those years in the amounts and at the times shown below:

For the fiscal year ended January 31, 1941, the petitioner's net profit, after deduction of income tax liability, was $ 240,134.70. The petitioner's directors, after being advised that under the law it was not required to distribute its profits in the year in which they were earned, decided at a meeting held on January 4, 1941, to revert1947 U.S. Tax Ct. LEXIS 155">*173 to the former policy of making the distribution after receipt of the final report of its auditors, and the petitioner paid no dividends during that fiscal year. On March 12, 1941, the petitioner declared a dividend of $ 239,690 which it paid on April 20, 1941. In the fiscal year ended January 31, 1942, the petitioner's net profit, after deduction of income tax liability, was $ 252,175.33. After the close of that fiscal year and on February 10, 1942, it declared a dividend of $ 239,690, which it paid on June 10, 1942.

Of the dividend of $ 239,690 paid by the petitioner on April 20, 1941, $ 224,592.50 was paid to 29 individuals, including Noland Blass and all of the stockholders who are related to him, who owned 94 per cent of the petitioner's stock and reported the distributions in their income for the calendar year 1941, they being on the calendar year basis, and paid the tax thereon. The remainder of the dividend was paid to 12 individuals who owned 6 per cent of the petitioner's stock and who are not related to Noland Blass and whose annual accounting period is not shown by the record, but they also reported such dividends and paid the tax thereon.

9 T.C. 15">*23 The assets and liabilities1947 U.S. Tax Ct. LEXIS 155">*174 of the petitioner at the close of the fiscal years ended January 31, 1937, to January 31, 1942, as shown by balance sheets attached to its returns for those years, were as follows:

1947 U.S. Tax Ct. LEXIS 155">*176 The item "other investments $ 353,668.08," shown on the balance sheet at January 31, 1941, includes stocks of 11 private corporations that were carried on the petitioner's books at a cost of $ 221,526.47 and had a market value of $ 95,069.64 at that date. The increase in the surplus account at the close of the fiscal year ended January 31, 1940, includes $ 97,000 received by the petitioner in that year as insurance on the life of Julian G. Blass.

The building occupied by the petitioner's store was held under a lease which expired in 1937. In 1934 the petitioner began negotiations with the lessor for a long term lease and in 1938 it obtained a renewal of the old lease for a 10-year term, without any option for further renewal. In 1945 it was carrying on negotiations with the lessor for a long term lease and had several propositions under consideration, including one which would require the erection of a building by petitioner adjacent to the present one at a cost of about $ 750,000 and architects were employed to study the project.

9 T.C. 15">*24 Jesse Heiman, a stockholder of the petitioner, established 4 trusts on January 31, 1941, and caused to be issued to the trusts on that date 1947 U.S. Tax Ct. LEXIS 155">*177 an aggregate of 3,000 of the $ 20 par value shares which he was entitled to receive on January 31, 1941, in exchange for $ 100 par value shares owned by him. The shares transferred to each trust, the dividends paid to each trust on the shares during the calendar year 1941, and the income tax reported by each trust attributable to such dividends, were as follows:

In determining the income tax liability of Jesse Heiman for 1941, $ 2,932.10 of the $ 16,500 of dividends was included by the Commissioner in his income as income taxable to the grantor. The income tax liability of Jesse Heiman for 1941, if computed by including in his income the balance of the above dividends of $ 13,576.90 and deducting the income tax of the four trusts attributable to the dividends, would be $ 6,353.18 greater than the income tax which was assessed against Jesse Heiman on his return for the calendar year 1941.

Camille Thalheimer, 1947 U.S. Tax Ct. LEXIS 155">*178 a stockholder of the petitioner, established 2 trusts on January 31, 1941, and caused to be issued to the trusts on that date an aggregate of 2,250 of the $ 20 par value shares which she was entitled to receive on January 31, 1941, in exchange for $ 100 par value shares owned by her. The shares transferred to each trust, the dividends paid to each trust on the shares during the calendar year 1941, and the income tax reported by each trust attributable to such dividends, were as follows:

The income tax liability of Camille Thalheimer for the calendar year 1941, if computed by including in her income the above dividends of $ 12,375 and deducting the income tax of the trusts attributable to the dividends would be $ 3,755.10 greater than the income tax which was assessed against Camille Thalheimer on her return for the calendar year 1941.

9 T.C. 15">*25 Noland Blass, as president of the petitioner, signed all of the certificates for the $ 20 par value stock which were issued in1947 U.S. Tax Ct. LEXIS 155">*179 exchange for the $ 100 par value stock on January 31, 1941. Prior to that date Noland Blass had no knowledge of the intention of Jesse Heiman and Camille Thalheimer to establish the trusts hereinabove mentioned, and the trusts were not discussed by or known to the directors prior to that date.

The Commissioner ruled that the petitioner was availed of during the fiscal year ended January 31, 1941, for the purpose of preventing the imposition of surtax on its shareholders through the medium of permitting earnings or profits to accumulate instead of being divided or distributed, determined petitioner's undistributed section 102 net income to be $ 262,134.57, and imposed a surtax under that section in the amount of $ 89,921.81.

The petitioner was not availed of during the fiscal year ended January 31, 1941, for the purpose of preventing the imposition of surtax on its shareholders.

(3) Compensation of officers. -- On its returns for the fiscal years ended January 31, 1937, to January 31, 1942, the petitioner claimed deductions for compensation of its officers as follows:

1947 U.S. Tax Ct. LEXIS 155">*180 The respondent allowed the deductions claimed in the fiscal years ended January 31, 1940 and 1941. With respect to the deductions claimed in the fiscal year ended January 31, 1942, for salaries paid to Noland Blass, Jesse Heiman, and Hugo Heiman, the respondent determined that $ 42,000 constituted a reasonable allowance for the services of Noland Blass, and $ 7,000 and $ 8,166.66 constituted reasonable allowances, respectively, for Jesse and Hugo Heiman, and that the remainder of the amounts paid should be disallowed as excessive.

During the fiscal year ended January 31, 1942, the petitioner's store, for purposes of management, was organized into three separate departments: total store merchandising and publicity, general store management, and finance and credit.

The total store merchandising and publicity department contained the following managers: A general merchandise manager, who also acted as divisional merchandise manager of the main merchandise 9 T.C. 15">*26 departments of the store (e. g., the small wares, men's wear, women's ready-to-wear, food, and home furnishings departments), and who also merchandised those departments and worked with the buyers and supervised the heads 1947 U.S. Tax Ct. LEXIS 155">*181 of stock and the sales people employed therein; a downstairs merchandise manager, who merchandised the downstairs store and worked with the buyers and supervised the heads of stock and the salespeople in that part of the store; and a publicity director, who promoted sales and supervised the advertising, the art department, the direct mail service, etc.

The general store management department contained two divisions. One division was headed by a general superintendent, who carried on the work of equipping, planning, maintaining, and protecting the store, hiring and training employees, and supervising the delivery, packing, and other operational services; and the other division was headed by an administrative assistant, who supervised the office and clerical force, the offices of the cashier and paymaster, the accounting division, and sections which handled invoices and orders, accounts receivable, accounts payable, statistics, etc.

The finance and credit department consisted of the office of the secretary of the company, which handled legal matters, taxes, insurance, contracts and leases, trade-marks and trade names, corporate records, investments, and bank relations; the offices of1947 U.S. Tax Ct. LEXIS 155">*182 the credit manager and division credit managers; the collections department; and the authorizing division. In addition it operated the post office and handled adjustments, the purchase of supplies, the welfare work, and employee relations.

Many department stores are organized along the general plan indicated above, including the store of Stix, Baer & Fuller Co., in St. Louis, Missouri. It is customary in some stores to employ separate individuals in the positions of general merchandise manager, downstairs merchandise manager, publicity director, and divisional merchandise manager.

Noland Blass has performed all of the duties of the office of president of the petitioner since he succeeded his brother as president in the latter part of 1939. He was vice president for a number of years prior to that time. He first entered the employ of the petitioner in 1910, upon graduating from Cornell University, where he majored in economics and business administration. He worked in the store in various capacities, starting as a floor manager, and thereafter operated the mail order department and served as a merchandise manager of some of the small departments. He served in Europe during the1947 U.S. Tax Ct. LEXIS 155">*183 first World War and upon his return in 1919 he was elected to the board of directors. During the year 1913 he made a survey of the business, on the basis of which the petitioner disposed of its wholesale business and reorganized and improved its retail operations.

9 T.C. 15">*27 The function of the divisional merchandise managers and downstairs merchandise managers is to place orders for the merchandise for their respective departments, and their purchases are closely supervised by the general merchandise manager as to type and quantities in order to maintain the stock in the store in balance and at the levels required to meet seasonal demands. Beside the duties of president and executive head of the company and of manager of the total store merchandising and publicity department, Noland Blass, in the taxable year, performed the duties of merchandise manager for the entire store, and he frequently went to market with buyers of various departments.

Noland Blass also served as director of the publicity department. During the taxable year he appointed David Bluthenthal as his assistant to take over part of that work. Bluthenthal was one of the petitioner's buyers and owned some of the 1947 U.S. Tax Ct. LEXIS 155">*184 petitioner's stock. His salary in the taxable year was $ 9,500.

In the general store management department, which during the taxable year was headed by Noland Blass, the petitioner employed Don Braman as general superintendent and E. G. Watkins as administrative assistant, at salaries of $ 4,900 and $ 8,250, respectively. They had been in the petitioner's employ for some years, and Watkins was one of its stockholders. They actively directed the various branches of work allotted to their respective divisions under the petitioner's plan of organization, consulting with Noland Blass on the more important phases of the work and on matters affecting store policy.

Jesse Heiman and Hugo Heiman have been in the employ of the petitioner since 1907 or 1908, when they both graduated from Columbia University. They have been directors of the petitioner and have served as such since 1919. Jesse Heiman was the treasurer for a number of years prior to 1939, and since that time he has been vice president and treasurer. During the fiscal year ended January 31, 1942, he managed the finance and credit department and devoted his entire time to the work of that department.

Hugo Heiman was a vice president1947 U.S. Tax Ct. LEXIS 155">*185 of the petitioner during the fiscal year ended January 31, 1942. In that year, as in others, his principal duty was that of buyer for the furniture department. In addition he had charge of the warehouse, in which furniture and other merchandise was stored, handled public relations work, and represented the petitioner at meetings of trade associations and in civic affairs.

The amount of $ 53,500 paid to Noland Blass as salary in the fiscal year ended January 31, 1942, was determined by him on the basis of the value which he placed upon his services. He had no written agreement and there was no formal resolution of approval by the directors, but all the directors approved that amount in informal meetings.

9 T.C. 15">*28 The petitioner's assets and liabilities for the years 1937 to 1942, inclusive, are set forth in our findings under issue (2), supra. The petitioner's gross sales and its gross profit from sales, gross income, deductions (including total of officers' salaries), and net income, as shown by its income tax returns, together with the dividends paid, during the fiscal years ended January 31, 1937, to January 31, 1942, were as follows:

The petitioner's net profit, without deduction for income tax, amounted to about 10.98 and 10.14 per cent of its gross sales in the fiscal years ended January 31, 1938 and 1939, and 11.51, 11.63, and 11.7 per cent in the fiscal years 1940, 1941, and 1942.

The W. C. Stripling Co. operates a general department store in Fort Worth, Texas, which, like that of petitioner, contains small wares, furniture, men's clothing, women's ready-to-wear, house furnishings, and other smaller departments, and a basement store. It has a capital stock of $ 1,500,000, all but a few of its shares being owned by members of the Stripling family. Its surplus on January 31, 1941, was $ 618,380.40. The salaries paid to its officers in that year were:

1947 U.S. Tax Ct. LEXIS 155">*187 W. K. Stripling, president, exercised general supervision over the activities of the company and did the buying for the men's clothing department, going to the general department store market in New York and other cities. W. C. Stripling, vice president, assisted the president in the management of the store, merchandised the small wares department, and supervised the other departments. J. C. Griffith managed the office and the credit department, and had charge of the purchase of supplies and the maintenance of the store premises. The company employed three merchandise managers, who merchandized the larger departments and the basement store, and a director of publicity. The latter received a salary of $ 300 per month.

In the fiscal year ended January 31, 1942, the gross sales of the Stripling Co. amounted to $ 3,191,887.94. Its gross profit from sales, 9 T.C. 15">*29 gross income, deductions, and net income, and the dividends paid, were as follows:

Its net income in 1947 U.S. Tax Ct. LEXIS 155">*188 the preceding years, before income tax, ranged from $ 108,000 in 1937 to $ 169,000 in 1940.

Stix, Baer & Fuller Co. operates a general department store in St. Louis, Missouri. It is organized, for management purposes, in substantially the same manner as the petitioner, and has a similar classification of merchandising departments. Its capital and surplus as of January 31, 1941, was $ 6,482,365.22.

The salaries paid to its officers in the fiscal year ended January 31, 1942 were:

Arthur B. Baer, Sidney R. Baer, and Leo C. Fuller constitute the board of management, which formulates policies and passes upon all important matters. Fuller was in charge of the total store merchandise and publicity department and was assisted by M. S. Jalenko, as general merchandise manager, at a salary of $ 33,000, who, in turn, had five divisional merchandise managers for the small wares, men's wear, women's ready-to-wear, home furnishings, and food departments, at salaries1947 U.S. Tax Ct. LEXIS 155">*189 totaling over $ 100,000; F. Wolff, as downstairs store merchandise manager, at a salary of $ 31,000; and J. M. Goldstein, as publicity director, at a salary of $ 18,000. Arthur B. Baer was in charge of the general store management department and was assisted by a controller, who supervised the accounting, expense budgets, and inventory and stock controls, at a salary of $ 32,000, and by a general superintendent.

Sidney R. Baer was in charge of the finance and credit department and was assisted in that work by the assistant secretary and a credit manager.

In the fiscal year ended January 31, 1942, the gross sales of Stix, Baer & Fuller Co. amounted to $ 18,825,466.01. Its gross profit from sales, gross income, deductions, and net income, and the dividends paid, were as follows: 9 T.C. 15">*30

Its net income in the preceding years, before income tax, ranged from $ 477,000 in the fiscal year ended January 31, 1937, to $ 848,000 in the fiscal year ended January 31, 1941.

1947 U.S. Tax Ct. LEXIS 155">*190 A reasonable allowance for compensation for services actually rendered by the petitioner's three executive officers is: Noland Blass, $ 42,000; Jesse Heiman, $ 10,000; Hugo Heiman, $ 10,000.

(4) Relief under section 722. -- The petitioner filed an application for relief under section 722 of the Internal Revenue Code on September 15, 1943, in which it claimed refunds in the fiscal years ended January 31, 1941 and 1942, in the amounts of $ 1,032.69 and $ 15,240.05, respectively. The respondent denied the application on the ground that the petitioner had failed to show that the tax computed under chapter 2, subchapter E, Internal Revenue Code (without the benefit of section 722), for either of said years resulted in an excessive and discriminatory tax. The relief claimed was based on the income item of $ 99,681.30 involved in issue (1), supra, and a loss of $ 7,037.59 from the sale of petitioner's shoe inventory and equipment. At the trial the petitioner abandoned its claim under section 722 based on the income item of $ 99,681.30. The facts proved with respect to the loss of $ 7,037.59 are as follows: For five years prior to 1939 the petitioner operated its shoe department1947 U.S. Tax Ct. LEXIS 155">*191 at a loss, due to the fact that it was unable to carry inventories sufficient in quantity and in variety of widths, colors, and prices for the acceptance of customers desiring the more stylish and higher priced shoes. On December 1, 1938, it leased the shoe department to the Wohl Shoe Co., a successful and style conscious operator, which specialized in leasing and operating shoe departments in department stores throughout the country. In that transaction the Wohl Shoe Co. paid a price for the petitioner's shoe stock and fixtures which was $ 7,037.59 less than the book value of those assets. In the following two years the petitioner realized a profit from the lease of its shoe department.

In addition to the lease of the shoe department, the petitioner in January 1939 had leased its millinery department, and subsequently it leased a photo studio and a beauty parlor. On its return for the fiscal year ended January 31, 1939, the petitioner reported income of $ 45,000 from leases.

(5) Deduction of payments for employees' bonuses. -- On its income tax return for the fiscal year ended January 31, 1942, the petitioner 9 T.C. 15">*31 deducted the amount of $ 41,854.17 which was set aside1947 U.S. Tax Ct. LEXIS 155">*192 pursuant to an agreement between the petitioner and certain trustees, dated January 8, 1942, and designated as "Gus Blass Company's Employees' Profit Sharing Pension Plan," for the payment of bonuses during the fiscal year ended January 31, 1943.

The agreement provides as follows:

1. That the Company has this day paid over to the Trustees the sum of $ 42,350.28, estimated as 9 percentum of the net profits of the Company before payment of income taxes as shown by its books for the eleven months period beginning February 1, 1941, and terminating on December 31, 1941, to be held by said Trustees for the benefit of certain employees of the Company, as hereinafter more particularly set forth. If the sum mentioned in this paragraph is by final determination larger then 9 percentum, the excess is to be returned to The Gus Blass Company by the Trustees.

2. Promptly after the close of the fiscal year of the Company on January 31, 1942, the Company will prepare and deliver to the Trustees a list of all of its employees, except the President, Vice Presidents and Treasurer. These Officers shall not be entitled to participate because of large stock holding in the Company. Every other person1947 U.S. Tax Ct. LEXIS 155">*193 who was in the employ of the Company during the fiscal year ending January 31, 1942, may participate. The list so furnished shall state the monthly pay rate of each of such employees on January 31, 1941, or on July 31, 1941 for those employees who were not on the regular payroll January 31, 1941. The list so furnished by the Company will be divided into groups, each group being given a specific designation, "A," "B," "C," "D," and "E."

3. The Trustees shall thereupon apportion a proportionate share of said fund to each employee on said list. The purpose of listing employees in groups is that the Company believes that certain of the employees, because of greater energy, ability, and loyalty have made greater contributions to the success of the Company than others. For that reason all employees of the Company shall not be entitled to share on an equally proportionate basis, but the members of each group shall share on an equally proportionate basis with every other member of that group.

The Trustees shall calculate the base annual benefit apportionable to the employees in the following manner.

A. The aggregate salaries of the employees in Group A shall be multiplied by 4. The aggregate1947 U.S. Tax Ct. LEXIS 155">*194 salaries of the employees in Group B shall be multiplied by 3. The aggregate salaries of the employees listed in Group C shall be multiplied by 2. The aggregate salaries in Group D shall be multiplied by 1 1/2 and the aggregate salaries of Group E shall be taken without increase. To the total of each group shall be added the amounts of any contribution that the Trustees may now be called upon by law to make for Social Security, Unemployment Insurance, etc. and a grand total obtained of the adjusted salaries of all groups including the contributions of the Trustees mentioned herein.

B. The Trustees shall then calculate the percentage that the final total of each group (A, B, C, D, E) is to the grand total, and shall apportion to each group a corresponding percentage of the money made available to the Trustees by the Gus Blass Company. The Trustees shall then prorate equitably the amount apportioned to each group, to each person in that group on the percentage basis that his or her salary is of the total of all salaries in that group.

9 T.C. 15">*32 4. The Trustees shall at some time during each month of the fiscal year beginning February 1, 1942, and terminating January 31, 1943, pay1947 U.S. Tax Ct. LEXIS 155">*195 to each employee on said list remaining in the employ of the Company one-twelfth (1/12) of the amount which has been finally apportioned to him or her, respectively, except the amount that the Trustees must pay for Social Security, Unemployment Insurance, etc. Any amounts that the Trustees may be called upon to contribute or pay by law enacted after this date shall be deducted equitably from the net amount apportioned to each person on each list. Any employee who would be entitled to participate under the benefits of this plan who leaves the employ of the Company, either voluntarily or by discharge, during the fiscal year, shall not be entitled to receive any further benefits hereunder, and any sums which would have been payable to him or her had he or she remained in the employ of the Company shall be held and disposed of by the Trustees as hereinafter set forth.

5. Any employee who leaves the service of the Company, either voluntarily or by discharge, shall forfeit all rights to participation in the funds, except as to the amount which has already been paid to him or her under the terms of this Agreement.

6. The Company shall have no control over the funds so paid to the Trustees, 1947 U.S. Tax Ct. LEXIS 155">*196 nor any reverter rights therein. Said Funds and any income therefrom shall be administered by the Trustees for the sole and exclusive benefit of the employees of the Company who are entitled to participate under the terms of the plan.

7. Any amount left in the fund at the end of the fiscal year for any reason shall be used by the Trustees in one of the two following manners:

(a) If the Company has, prior to the end of the then fiscal year, made additional payments to the fund out of a percentage of the profits earned during the first eleven months of said fiscal year, the amount remaining in the existing fund shall be added to the sum or sums so paid by the Company to the Trustees, and shall be apportioned among the employees entitled to receive benefits during the succeeding fiscal year.

(b) If no additional contribution or payment is made by the Company to the Trustees out of profits in the first eleven months of the fiscal year (1942-1943), then any sums remaining in the hands of the Trustees shall be apportioned and paid to the employees who are still in the employ of the Company and entitled to participate in the benefits of said fund at the close of the fiscal year in the same1947 U.S. Tax Ct. LEXIS 155">*197 proportion in which their shares were originally calculated.

* * * *

9. The Company may, in January, 1943, and in each succeeding January thereafter, if it deems proper, pay to the Trustees a proportion of the net profits of the Company during the first eleven months of the then fiscal year for the benefit of employees upon the same terms and conditions as set forth above for the money this day paid to the Trustees. In that event the trust shall continue and be administered by the Trustees from year to year in the same manner as set forth above. In no event, however, shall the Company participate in any of the benefits from any of the funds paid in to the Trustees, or have any reverter interests therein.

* * * *

13. It is the purpose of this instrument to set up a plan under which the Company may annually pay over to the Trustees profits arising out of the first eleven months of any fiscal year for the benefit of those employees who have helped earn such profits during the entire year. All funds so paid to the Trustees 9 T.C. 15">*33 shall be for the exclusive benefit of those employees, provided they remain in the employ of the Company, in the proportion set forth above.

14. It is also1947 U.S. Tax Ct. LEXIS 155">*198 the intention of the parties that the Company, after having appropriated and paid said money to the Trustees, shall have no further control over it, and that it, together with any earnings which may accrue to it, shall be distributed among the employees entitled thereto.

The purpose of the plan was to provide additional compensation for petitioner's employees under a method designed to raise the salary level of the older employees and to adjust the inequality between their salaries and the salaries of the new and less experienced employees who, due to the shortage of help, had been employed at high salaries.

The deduction of $ 41,854.17 was allowed by the respondent. In his amended answer the respondent alleges that the said amount does not constitute a proper accrual of the fiscal year ended January 31, 1942, and that the income for that year is understated by reason of the erroneous allowance of the deduction.

(6) Excess profits net income -- contributions. -- In an amended answer seeking an increase in the deficiencies for the fiscal year ended January 31, 1941, the respondent proposes to increase the petitioner's excess profits net income of that year by $ 5,568.75, computed1947 U.S. Tax Ct. LEXIS 155">*199 as follows:

OPINION.

(1) Profit from installment sales. -- The first issue, presenting the question of whether the petitioner's income of the fiscal year ended January 31, 1940, should be increased by $ 99,681.30, arises in the following manner: The petitioner was on the accrual basis, except that with respect to installment sales it annually posted 50 per cent of its uncollected installment receivables at the end of the year to an unrealized profit account, and on its returns it deducted from income the amount by which that account disclosed an increase, or included in income the amount by which it disclosed a decrease, over the preceding year. The petitioner had used this method consistently, and the increases in the respective amounts of $ 17,231.01, $ 41,251.15, and $ 23,720, were deducted on its original returns for the fiscal years ended January 31, 1940, 1941, and 1942. ¹ Upon consideration of the returns 9 T.C. 15">*34 1947 U.S. Tax Ct. LEXIS 155">*200 for those years and after extended hearings on the petitioner's protest, the respondent concluded that the petitioner was not entitled to use the installment method, determined that its income from installment sales should be computed on the accrual basis, and denied the deductions claimed on the returns in the amounts above stated.

The petitioner does not contest the disallowance of the deduction of the increases in the unrealized profit account, nor does it complain of the respondent's action in placing it on the accrual basis. In its assignment of errors it charges that, since the respondent required it to change from the installment to the accrual method of reporting income, he should have included under his regulation hereinafter set out, in petitioner's taxable income of the year 1940, in which the change was made, the balance1947 U.S. Tax Ct. LEXIS 155">*201 of $ 99,681.30 standing in the unrealized profit account at the close of the preceding year 1939.

When the method of reporting income is changed it is necessary in certain cases to make some adjustment to protect the taxpayer and the revenue. The Commissioner's regulations provide that a taxpayer seeking to change his method must secure the consent of the Commissioner and file with his return an application for permission to change, setting forth all items which are affected; and permission will not be granted unless the taxpayer and the Commissioner agree to the terms and conditions under which the change will be effected. Regulations 103, sec. 19.41-2. See Ross B. Hammond, Inc., 36 B. T. A. 497, 505; affd., 97 Fed. (2d) 545; Estate of L. W. Mallory, 44 B. T. A. 249. Where the taxpayer applies for a change from the installment to the straight accrual method, and permission is granted, the regulation provides that:

The taxpayer will be required to return as additional income for the taxable year in which the change is made all the profit not theretofore returned as income pertaining to the 1947 U.S. Tax Ct. LEXIS 155">*202 payments due on installment sales contracts as of the close of the preceding taxable year.

The petitioner contends that the Commissioner's acts herein are tantamount to approval of a request by it to change to the accrual method; that its income from installment sales can not be clearly reflected on any other basis than the accrual basis; and that, therefore, the $ 99,681.30 should be included in its income for the year 1940, as required by the above quoted provision of the regulations. If the petitioner should prevail in this contention, the $ 99,681.30 will be added to its base period income and there will be a resulting increase of a large amount in the excess profits tax credit to be used in computing the petitioner's excess profits taxes for the years 1941 and 1942.

At the opening of the trial the respondent filed an amended answer admitting "that in his deficiency notice [he] required the petitioner to account for profits on installament sales on the accrual basis," and 9 T.C. 15">*35 alleging that he erred in so doing. He contends that this admission of error removes from our consideration any question of change in method of reporting income; and that, under the pleadings, because1947 U.S. Tax Ct. LEXIS 155">*203 of this admission of error, the petitioner stands before the Court, with respect to 1940, 1941, and 1942, in the same position as it did in 1939 and prior years, when it was on the installment basis, and the Commissioner stands here as if he had not made any change with respect to the method of reporting income. Insisting that the petitioner thus was on the installment basis at all times and that the peitioner used a method which fulfilled the underlying purpose of the installment method and had not at any time taken any action to obtain permission to change to any other basis, the respondent urges that the petitioner has no right under the statute or the regulations to include the $ 99,681.30 in its income of the year 1940.

While the respondent would now, on the strength of his admission of error, place the petitioner in the same position as if no change had ever been made in its method of reporting income, and thereby defeat the petitioner's claim for an adjustment under the accrual theory, yet, in his computations of proposed deficiencies for 1940, 1941, and 1942, submitted with his amended answer, the petitioner's income remains on the accrual basis, and its deductions for annual1947 U.S. Tax Ct. LEXIS 155">*204 increases in the unrealized profit account, allowable under the installment method, are not allowed. In our opinion, the respondent's admission does nothing more than admit that he made a mistake. Whether his action was right or wrong, it does not alter the fact that the petitioner's method was changed. We therefore must reject the view that the petitioner was on the installment basis at all times and that such basis was never changed.

The regulation requiring consent of the Commissioner to a change in method does not limit the right to change to cases where the consent is given upon formal application of the taxpayer. The respondent's consent can be implied from his acceptance of a changed method of reporting, without rejection or other indication of his nonacquiescence. Fowler Brothers & Cox, Inc., 47 B. T. A. 103, 109; affd., 138 Fed. (2d) 774; S. Rossin & Sons, Inc. v. Commissioner, 113 Fed. (2d) 652, reversing 40 B. T. A. 1274; Home Ice Cream & Ice Co., 19 B. T. A. 762; Ganahl Lumber Co., 21 B. T. A. 118.1947 U.S. Tax Ct. LEXIS 155">*205 And where, as here, the change is directed by the Commissioner in the first instance, it can not be soundly argued that the taxpayer must secure formal permission to change in order to comply with the regulations. Reynolds Cattle Co., 31 B. T. A. 206. Where the change is made from the installment to the straight accrual method, the regulation provides that the taxpayer "will be required" to return as additional income for the taxable year in which the change is made all the profit not theretofore returned 9 T.C. 15">*36 as income pertaining to payments due on installment sales contracts as of the close of the preceding year. This part of the regulation is mandatory in terms, and the necessity of returning such profit is present whether the change be made at the direction of the Commissioner or upon the application of the taxpayer.

We are of the opinion that the $ 99,681.30 should be included in the petitioner's income for the fiscal year ended January 31, 1940. There is no dispute between the parties as to other adjustments which result from our so holding respecting this item, and they should be made by the parties in the computations under Rule 50.

(2) 1947 U.S. Tax Ct. LEXIS 155">*206 Accumulation of surplus. -- The respondent determined that the petitioner was availed of in the fiscal year January 31, 1941, for the purpose of preventing the imposition of the surtax upon its shareholders through the medium of permitting its earnings or profits to accumulate instead of being divided or distributed, contrary to the prohibition of section 102 of the Internal Revenue Code, and he imposed the surtax levied by that section. If the earnings or profits were permitted to accumulate beyond the reasonable needs of the business, that fact must be considered as determinative of the purpose to avoid surtax upon the shareholders unless the petitioner by a clear preponderance of the evidence proves to the contrary. Sec. 102 (c).

The petitioner contends that its surplus was reasonably necessary for the current and future needs of its business, and that its purpose in paying the dividend after the taxable year was to return to its former policy of paying dividends after final audit of its books.

The petitioner's president, Noland Blass, corroborated by E. G. Watkins, an employee and director, testified that the accumulation was reasonably necessary for the conduct of the 1947 U.S. Tax Ct. LEXIS 155">*207 business. The reason assigned by Blass was that the tenure of the business premises was limited and the petitioner was faced with the possibility of constructing a new building on the premises in order to obtain a long term lease. The petitioner occupied the building on the premises under a lease which was extended in 1938 for a 10-year term, without any option of renewal, and the matter of obtaining a long term lease was discussed with the lessor from time to time. In 1945 various proposals were being considered, one of which involved the construction by the petitioner of a new building at a cost of about $ 750,000. The petitioner engaged an architect in 1945 to make a study of the matter. Noland Blass did not state what the other proposals were, or whether the petitioner had actually obligated itself by them to undertake construction of the new building. In so far as the situation existing in 1941 is concerned, his testimony is vague and indefinite and shows only that the petitioner was having difficulty in obtaining a long term lease.

An accumulation of earnings for the construction of new buildings 9 T.C. 15">*37 may be reasonable under certain conditions, General Smelting Co., 4 T.C. 313, 323;1947 U.S. Tax Ct. LEXIS 155">*208 but where, as here, nothing has been agreed upon and no definite action has been taken, and it further appears that the corporation in the taxable year had available funds sufficient to finance any proposed construction, there is no justification, on such grounds, for further accumulating earnings in the current year. As of January 31, 1941, the petitioner's surplus was $ 1,359,449.62. It had current assets of $ 1,469,516.04 and total liabilities other than capital of only $ 629,416.52. In the years prior to 1941 it had accumulated from past earnings investments in Federal and state and municipal bonds and corporate stocks, which were not necessary in the operation of its department store. Those investments amounted to $ 1,102,980.07 at January 31, 1940, and $ 1,140,004.70 at January 31, 1941. The latter amount was equal to 40 per cent of the entire assets. There is no proof that the bonds were not worth their face value; and, with respect to the corporate stocks carried on the books at $ 221,526.47, it is to be noted that, even if due allowance should be made for their decline in market value to $ 95,069.64 (but see Helvering v. National Grocery Co., 304 U.S. 282">304 U.S. 282),1947 U.S. Tax Ct. LEXIS 155">*209 the petitioner's investments would still be about $ 1,000,000 and well over the requirements, if such existed, for new construction. In other words, even if the petitioner had a definite plan for new construction, it still could have distributed the earnings of the fiscal year ended January 31, 1941, without lessening its ability to finance a $ 750,000 project. The evidence, in our opinion, warrants the conclusion that the petitioner in the fiscal year ended January 31, 1941, had permitted its earnings and profits to accumulate beyond the reasonable needs of its business. Whitney Chain & Mfg. Co., 3 T.C. 1109; affd., 149 Fed. (2d) 936; 304 U.S. 282">Helvering v. National Grocery Co., supra;Perry & Co. v. Commissioner, 120 Fed. (2d) 123.

Our conclusion that in the fiscal year ended January 31, 1941, petitioner had permitted its earnings and profits to accumulate beyond the reasonable needs of its business establishes the presumption, under section 102 (c), that it was the purpose of petitioner to avoid surtax upon its shareholders for the year ended January 31, 1941. 1947 U.S. Tax Ct. LEXIS 155">*210 This presumption can, however, under further provisions of section 102 (c), be overcome by a clear preponderance of evidence to the contrary. The question is therefore narrowed to whether or not the earnings and profits of petitioner for the fiscal year ended January 31, 1941, were accumulated in that year with the purpose on the part of petitioner of preventing the imposition of surtax for that year on its shareholders. Corporate Investment Co., 40 B. T. A. 1156, 1171; General Smelting Co., supra.

The petitioner's directors at a meeting in January 1941 decided to revert to the former policy of postponing the payment of dividends 9 T.C. 15">*38 until after the receipt of the auditor's final report as to its earnings on the operations for the fiscal year ended January 31, 1941. The minutes of that meeting contain no record of such decision, but Noland Blass and E. G. Watkins testified that such decision was made, and Blass, corroborated by Watkins, testified that the reason for the change was as follows:

At that time, we were advised that the necessity [of paying] dividends out of the earnings inside of the fiscal year in which1947 U.S. Tax Ct. LEXIS 155">*211 they were made, had been eliminated by reason, I think, of repeal of the law or modification, or for some reason we did not have to do it according to the law. Under the circumstances, we preferred to go back to our previous method of paying dividends after we had received the actual information from our auditor's reports.

On March 12, 1941, after the close of the fiscal year ended January 31, 1941, and after receiving the final report from its auditor of its net earnings for that year, the petitioner declared a dividend of $ 239,690, and paid it on April 20, 1941; and, after the close of the next fiscal year, ended January 31, 1942, and, on February 12, 1942, after receiving the final report of its auditor, the petitioner declared a dividend of $ 239,690 and paid it on June 10, 1942. The April 20, 1941, dividend was approximately the same in amount as the petitioner's net profit of $ 240,134.70 for the fiscal year ended January 31, 1941; and the June 10, 1942, dividend was $ 12,485.33 less than the net profit of $ 252,175.33 for the fiscal year ended January 31, 1942. Ninety-four per cent of the dividend distributed by the petitioner on April 20, 1941, was made to stockholders1947 U.S. Tax Ct. LEXIS 155">*212 who were on the calendar year basis and who reported the dividend as income received in the calendar year 1941, and the balance was distributed to other stockholders who are not shown to be on the calendar year basis, but who reported their dividends as income and paid the tax thereon. The petitioner contends that it had no reason to believe that deferring the payment to April 1941 would effect a reduction in the surtax on its stockholders. The respondent argues that, by virtue of section 115 (a) of the Internal Revenue Code, ² the two distributions mentioned must be considered as having been made respectively out of the earnings of the fiscal years ended January 31, 1942 and 1943; that the petitioner thus skipped a dividend in the fiscal year ended January 31, 1941, and thereby increased its surplus by the amount undistributed, and, if it had desired to change its policy, it could and should have paid another dividend before the end of the fiscal year January 31, 1942. His position is that, while the stockholders, on the calendar year basis, reported 9 T.C. 15">*39 their shares of the April 20, 1941, dividend in their returns for 1941, the dividend was a dividend for the fiscal year1947 U.S. Tax Ct. LEXIS 155">*213 ended January 31, 1942, and they never received a dividend for the fiscal year ended January 31, 1941, and hence the surtax on the unpaid dividend for the latter year was avoided by them.

The fact that the $ 239,690 distribution was not made until April 20, 1941, and that, consequently, under section 115, must be deemed as having been made from petitioner's net earnings for the fiscal year ended January 31, 1942, rather than from such earnings for the fiscal year ended January 31, 1941, and that consequently, as argued by respondent, there was no distribution of petitioner's net earnings in the fiscal year ended1947 U.S. Tax Ct. LEXIS 155">*214 January 31, 1941, is not determinative of the question involved; since, even if there was no distribution in the fiscal year ended January 31, 1941, of petitioner's net earnings for that year, it still would not be liable for the tax under section 102 if during that fiscal year petitioner had no intention of preventing the imposition of surtax on its stockholders by failing to distribute any of its net earnings for that year. Cecil B. DeMille, 31 B. T. A. 1161, 1174; affd., 90 Fed. (2d) 12; Corporate Investment Co., supra;Almours Securities, Inc., 35 B. T. A. 61, 69; affd., 91 Fed. (2d) 427; certiorari denied, 302 U.S. 765">302 U.S. 765; R. L. Blaffer & Co., 37 B. T. A. 851, 856; affd., 103 Fed. (2d) 487; certiorari denied, 308 U.S. 635">308 U.S. 635. That petitioner had no such intention is, we think, demonstrated by the facts: (a) That petitioner awaited the final report of its auditor made after the end of the fiscal year, in order to definitely ascertain1947 U.S. Tax Ct. LEXIS 155">*215 its net profits for that year; (b) that the distribution made in April 1941 was in the identical amount, less $ 444.70 of its net earnings for its fiscal year ended January 31, 1941; and (c) that such distribution was included in the income of petitioner's stockholders for the calendar year 1941, just as would have been the case had the distributions been received by the stockholders at any time in January 1941 during the fiscal year of petitioner ending on January 31, 1941. In a case where it appeared that the distribution of all of the year's earnings, if it had been made, would have resulted in a very nominal surtax on the shareholders, such fact was held to be sufficient to refute any purpose of avoidance. Charleston Lumber Co. v. United States, 20 Fed. Supp. 83; appeal dismissed, 93 Fed. (2d) 1018. Here, the distribution of the year's earnings was made and the tax was not avoided, but was paid by the distributees; and the claim that there was a purpose of avoidance must be rejected.

The respondent, in the face of the proof that there was no avoidance of the surtax on the stockholders, has undertaken to show avoidance1947 U.S. Tax Ct. LEXIS 155">*216 by the stockholders Jesse Heiman and Camille Thalheimer, and he relies upon the rule that the statute does not require that surtax be avoided by all of the stockholders. Trico Products Corporation, 46 B. T. A. 346, 382; 9 T.C. 15">*40 affd., 137 Fed. (2d) 424. This position of respondent is untenable. On January 31, 1941, Jesse Heiman and Camille Thalheimer transferred a part of their stock to members of their families in trust and the trustees received dividends on that stock in the distribution of April 20, 1941, and paid the tax thereon. The evidence shows that in the case of each of the two stockholders, his or her income tax liability for 1941, computed by including in his or her income the dividends received by the trusts and deducting the income tax of the trusts attributable to such dividends, was greater than the income tax assessed against him or her on his return for 1941.

The evidence clearly shows that the petitioner had no purpose and intention of preventing the imposition of surtax on Jesse Heiman and Camille Thalheimer with respect to distributions on the stock conveyed by them to the trusts. The reason that these1947 U.S. Tax Ct. LEXIS 155">*217 two stockholders did not in their taxable calendar year 1941 and on April 20 of that year receive dividends on the stock transferred to the trusts, as did the other stockholders on their stock, was solely because of their transfers of such stock to the trusts. In this connection, it is shown by the evidence that the president of petitioner knew nothing of the trusts until new stock certificates for the trustee-transferees were presented to him on January 31, the date of execution of the trusts for his signature as an officer of the corporation, and that the trusts had not been mentioned to or discussed by any of the directors prior to that date. The transfers to the trusts were, in our opinion, the sole acts of Jesse Heiman and Camille Thalheimer, made without any prior understanding with petitioner or its officers. If Jesse Heiman and Camille Thalheimer escaped surtax, it was not due to any act or intention of the corporation, its officers, or directors, and we see no reason for imputing to the corporation an intention to accomplish that result. Trico Products Corporation, supra, therefore does not apply.

In our opinion the petitioner has overcome1947 U.S. Tax Ct. LEXIS 155">*218 the presumption of section 102 (c), and we therefore hold that the petitioner was not availed of in the fiscal year ended January 31, 1941, for the purpose proscribed by section 102 (a). The imposition of the tax on the petitioner under section 102 is disapproved.

(3) Salaries of officers. -- The petitioner in computing its net income for the fiscal year ended January 31, 1942, deducted salaries paid to Noland Blass, Jesse Heiman, and Hugo Heiman in the amounts of $ 53,500, $ 16,000, and $ 15,000, respectively. The respondent held all three salaries to be excessive in part and allowed deductions in the amounts of $ 42,000, $ 7,000, and $ 8,166.66, respectively. In his brief he concedes that the evidence establishes that $ 10,000 is a reasonable allowance for services of Jesse Heiman and for services of Hugo Heiman. The question now is whether the petitioner is entitled to 9 T.C. 15">*41 deduct the additional amounts of $ 11,500 in the case of Noland Blass, and $ 6,000 and $ 5,000, respectively, in the cases of Jesse Heiman and Hugo Heiman.

Noland Blass. -- We think that the amount of $ 42,000 constitutes reasonable compensation for the services rendered by Noland Blass. The1947 U.S. Tax Ct. LEXIS 155">*219 record shows that he was well qualified to manage the petitioner's business and that, in addition to assuming the responsibilities and duties as president and chief executive officer, he devoted a large part of his time to the performance of a varied amount of managerial work. The merchandising of the entire store, including the main departments and the downstairs store, was handled by him without the aid of divisional merchandise managers customarily employed in such operations; he served as publicity director; and he supervised both divisions of the store management department, which embraced the store maintenance and operational services and the clerical and bookkeeping work. The only managerial work which did not come under his direct supervision was that relating to finance and credit, which was handled by Jesse Heiman. Under the management of Noland Blass, and during the years 1940, 1941, and 1942, the petitioner earned a net profit in each year, before taxes, of over 11 per cent of its gross sales, and in 1942 the petitioner's net profit, before taxes, was 15 per cent higher than in 1941. The salary of $ 53,500 was not measured by any percentage of earnings or increase 1947 U.S. Tax Ct. LEXIS 155">*220 in earnings, nor was it fixed under any agreement to pay on that basis. Noland Blass was in full control of the corporation and merely fixed his own salary at what he thought his services were worth, and the other directors acquiesced. It is upon the multiplicity of services performed by him and the earning record of the company that the petitioner rests its claim of reasonableness of the salary paid.

There can be no doubt that Noland Blass' services were more than ordinarily are assigned to a single individual in a department store and were of substantial value to the petitioner; but, when all the facts and circumstances are fairly considered, an allowance of $ 53,500 as his salary nevertheless seems excessive. In the years 1940 and 1941 the salary paid Noland Blass was $ 36,000, and, so far as the evidence shows, there was no difference whatever between the character and amount of such services in those years and in the taxable year 1942. The gross sales in 1942 were $ 618,000 greater than in 1941, but, if such increased sales involved an added burden to the duties of Noland Blass and if the increase of 15 per cent in the profits in 1942 should be regarded as attributable solely1947 U.S. Tax Ct. LEXIS 155">*221 to his personal services, an increase in salary of $ 17,500, or 50 per cent, seems entirely unwarranted.

Furthermore, the salary of $ 53,500 seems unreasonably high when considered in connection with the situation in the stores of the Stripling 9 T.C. 15">*42 Co. and Stix, Baer & Fuller Co. The Stripling store is comparable with that of the petitioner in that both stores had the same amount of capital and the same volume of business in 1942 -- the capital and surplus of each being about $ 2,000,000 and the gross sales amounting to about $ 3,000,000. Stripling paid $ 18,000 to its president and $ 10,000 to each of its two other executives. Those officers performed all of the supervisory and managerial work, except the merchandising and publicity. The company employed three merchandise managers and a publicity director, the latter being paid $ 300 per month. Its earnings in 1942, before deducting income tax, were 80 per cent higher than in 1941. The Stix, Baer & Fuller store was decidedly larger than the petitioner's store, its capital being $ 6,000,000 and its sales volume $ 18,000,000 in 1942. Its earnings in 1942 were 90 per cent higher than those of 1941. Its top executives received1947 U.S. Tax Ct. LEXIS 155">*222 salaries of $ 32,000. They supervised the various departments, but the merchandising and publicity work were actively carried on by numerous employees at salaries ranging from $ 18,000 to $ 33,000.

There are such variations in the portion of the department store management assumed by each of the above officers of both Stripling and Stix, Baer & Fuller, as compared with the duties performed by Noland Blass, that the salary paid to any one of them can not be laid down as a yardstick to measure precisely the value of Noland Blass' services; but it is to be noted that the salary of $ 42,000 allowed by the respondent for Noland Blass exceeds the total salaries paid by the Stripling Co. to its three executive officers and is $ 10,000 more than the top salary paid to any of the officers or managers by Stix, Baer & Fuller, which did six times as much business as the petitioner. Even if the services of Noland Blass were wider in scope than those of any one of such officers, the respondent's allowance seems adequate. We therefore approve the determination of the respondent in allowing the deduction to the extent of $ 42,000.

Jesse Heiman. -- The duties of Jesse Heiman, in addition to1947 U.S. Tax Ct. LEXIS 155">*223 those performed as vice president and treasurer, consisted of running the finance and credit department. His duties were substantially the same in scope as those performed by J. C. Griffith of the Stripling Co. That company paid Griffith $ 10,188.63 for the year 1942, and we agree with the respondent, who concedes that $ 10,000 is a reasonable allowance for the services of Jesse Heiman for that year.

Hugo Heiman. -- Hugo Heiman served as a buyer for the furniture department, supervised the warehouse, and represented the company in trade and civic affairs. His responsibilities and duties were less extensive than those of Jesse Heiman, but, in view of the respondent's concession, we hold that $ 10,000 is a reasonable allowance for his services for the year 1942.

9 T.C. 15">*43 It is true that a witness relied upon by petitioner as an expert testified that the salaries paid Noland Blass, Jesse Heiman, and Hugo Heiman were reasonable, but in view of the showing made as to his qualifications and in further view of other facts of record which enable us to decide for ourselves the reasonableness or unreasonableness of such salaries, we can not adopt the opinion of this witness on the question1947 U.S. Tax Ct. LEXIS 155">*224 of reasonableness of the salaries.

(4) Relief under section 722. -- The petitioner has assigned error in the denial by respondent of its claim for relief under section 722 of the Internal Revenue Code. Under this assignment of error it alleges in its petition that its base period earnings should be adjusted (a) by increasing the income of the fiscal year ended January 31, 1940, by the item of $ 99,681.30 involved in issue (1), supra; and (b) by restoring to the income of the fiscal year ended January 31, 1939, a loss of $ 7,037.59 sustained in connection with a lease of its shoe department. In making his opening statement the petitioner's counsel withdrew this issue in so far as it was based on the item of $ 99,681.30, and stated that the petitioner sought adjustment on account of the shoe loss under section 722 and, in the alternative, under section 711. The respondent opposed consideration of section 711 on the ground that no issue under that section had been raised by the pleadings. The petitioner did not apply for leave to amend its pleadings to assert an adjustment under section 711.

In its brief the petitioner directs its argument principally to the applicability1947 U.S. Tax Ct. LEXIS 155">*225 of section 711, but, on the record before us, we are unable to consider an adjustment claimed under that section. In presenting a claim for relief under section 722, a taxpayer using the excess profits credit based on income must show that its average base period net income is an inadequate standard of normal earnings because of the existence of one or more factors described in subdivisions (1) to (5) of section 722 (b). Lamar Creamery Co., 8 T.C. 928. And, if the taxpayer in his claim before the Commissioner relies only upon the existence of the factors described in one of such subdivisions, this Court will not consider a contention based on factors described in one or the other of such subdivisions. East Texas Motor Freight Lines, 7 T.C. 579, 588; Monarch Cap Screw & Manufacturing Co., 5 T.C. 1220, 1229. Cf. Blum Folding Paper Box Co., 4 T.C. 795. It is therefore obvious that, upon a review of the Commissioner's final determination on a claim for relief under section 722, this Court may not look beyond section 722 and apply some other section of the 1947 U.S. Tax Ct. LEXIS 155">*226 statute, such as 711.

The petitioner contends that it is entitled to relief under subdivision 4 of section 722 (b). With regard to the contents of the application for relief filed with respondent and the supporting facts, the record shows only that petitioner filed with the respondent an 9 T.C. 15">*44 application for relief under section 722, which respondent denied. The record does not show what facts, if any, were presented to the respondent in the application, or otherwise, in support of that application. Petitioner's claim for relief under section 722 is therefore not properly before us. East Texas Motor Freight Lines, supra;Monarch Cap Screw & Manufacturing Co., supra; and Blum Folding Paper Box Co., supra.

(5) Deduction of payments for employees' bonus. -- The respondent, in his amended answer, alleges that he erroneously allowed the petitioner to deduct $ 41,854.17, which deduction was claimed on the petitioner's return for the fiscal year ended January 31, 1942, as an amount set aside under an agreement for the payment of bonuses during the fiscal year ended January 31, 1943. He contends1947 U.S. Tax Ct. LEXIS 155">*227 that the amount is not a proper accrual for the fiscal year ended January 31, 1942, since the right of the employee to the bonus was contingent upon his remaining in the service of the petitioner during the following fiscal year. He cites as authority the cases of Horn & Hardart Baking Co., 19 B. T. A. 704; 20 B. T. A. 486; Western States Envelope Co., 10 B. T. A. 856; and Commercial Electrical Supply Co., 8 B. T. A. 986. The cases cited by respondent are distinguished in that in those cases the funds payable to the taxpayer's employees contingent upon their remaining in the employ of the taxpayer were retained by the taxpayer in reserve accounts and the portions of the funds which would otherwise go to employees except for their failure to remain the prescribed time in the employ of the taxpayer would upon such failure be retained by the taxpayer. This is not true here, since under the provisions of the trust instrument none of the funds agreed to be paid the trustee for the benefit of petitioner's employees could ever be returned to or received by it.

We think1947 U.S. Tax Ct. LEXIS 155">*228 the present case is controlled by the decision in Oxford Institute, 33 B. T. A. 1136. There the taxpayer made payments of stated amounts every month to trustees for the account of each employee, under a contract and trust agreement providing for payment of the amount accumulated for the account of each employee as a bonus at the end of ten years, provided he remained in the employ of the taxpayer. The taxpayer was on the cash basis, and for the year 1932 it claimed deductions for the amounts paid over in that year to the trustee for future distribution under the agreement. The Board of Tax Appeals held that the payments were deductible as "expenses paid" during 1932. The rationale of the decision is that the money was paid out by the taxpayer as required by an irrevocable trust and was put beyond its control, and that the fact that it was subject to be paid back to the taxpayer upon the happening of contingencies within the control of the employees does not change the character of 9 T.C. 15">*45 the payments as present expenses. And this Court has held, under circumstances similar to those here, that an amount which is not merely the subject of an accounting1947 U.S. Tax Ct. LEXIS 155">*229 reserve, but which is actually paid in the taxable year to a trust under terms which require that it be held for the employees, and which thoroughly prevents its ever going back to the employer, is deductible. Gisholt Machine Co., 4 T.C. 699, 706. Under the agreement of January 8, 1942, here involved the fund in the hands of the trustees was as effectively placed beyond the control of the petitioner as was the fund involved in the Oxford case. The agreement not only states that the fund is for the sole and exclusive benefit of the employees, without any right of reverter in the petitioner, but also, with respect to employees who might forfeit their rights therein by leaving the employment, it provides that the shares allotted to them shall be distributed among the remaining employees. The liability of petitioner for the $ 41,854.17 became fixed and definite at the time when the agreement was made and that amount was paid over to the trustees, which was on January 8, 1942. The fact that the taxpayer in the Oxford case was on the cash basis, while the petitioner in this case is on the accrual basis, does not require a different conclusion 1947 U.S. Tax Ct. LEXIS 155">*230 from that reached in the Oxford case.

We are of the opinion that the amount of $ 41,854.17 accrued as a liability in the fiscal year ended January 31, 1942, and hold that it is a proper deduction in computing the net income of that year. No contention is made that the amount is not an ordinary and necessary business expense.

(6) Excess profits net income -- Contributions. -- In computing income tax liability for the fiscal year ended January 31, 1941, the petitioner deducted $ 19,006.78 for corporate charitable contributions under section 23 (q) of the Internal Revenue Code. That amount was based upon 5 per cent of the net income before deduction for such contributions. In determining the deficiencies, $ 19,006.78 was allowed as a deduction not only in computing the net income for income tax purposes, but also in computing the excess profits net income. The respondent, however, in his amended answer, alleges that, for excess profits tax purposes, the deduction should be computed on the basis of 5 per cent of the excess profits net income computed under section 711 (a) (1) of the Internal Revenue Code, before deduction of the charitable contributions. Such computation 1947 U.S. Tax Ct. LEXIS 155">*231 will reduce the deduction for contributions to $ 13,438.03, and the respondent contends that the excess profits net income is understated by the difference between that amount and $ 19,006.78, or $ 5,568.75. The petitioner contends that there is no authority in the statute for the method of computation proposed by the respondent.

The taxable year involved is the petitioner's fiscal year beginning on February 1, 1940, and ending on January 31, 1941. The applicable 9 T.C. 15">*46 statute is Title II of the Second Revenue Act of 1940, approved October 8, 1940, which added the excess profits tax provisions to the Internal Revenue Code as sections 710 et seq.Section 710 (a) imposes, for each taxable year beginning after December 31, 1939, a tax on the "adjusted excess profits net income" of every corporation. That "adjusted excess profits net income" is defined in section 710 (b) as the excess profits net income (as defined in section 711) minus a specific exemption and certain credits. Section 711 is in part as follows:

SEC. 711. EXCESS PROFITS NET INCOME.

(a) Taxable Years Beginning After December 31, 1939. -- The excess profits net income for any taxable year beginning after December1947 U.S. Tax Ct. LEXIS 155">*232 31, 1939, shall be the normal-tax net income, as defined in section 13 (a) (2), for such year except that the following adjustments shall be made:

(1) Excess profits credit computed under income credit. -- If the excess profits credit is computed under section 713, the adjustments shall be as follows:

None of the adjustments referred to in section 711 (a), those adjustments being set out in subdivisions (A) to (F) of section 711 (a) (1), requires a change in the basis of deductions for contributions, since none treats of contributions.

We find no authority in the language of section 711 (a) (1) for computing the petitioner's excess profits net income in the manner contended for by the respondent. The term "normal tax net income" mentioned in section 711 (a) is the normal tax net income "as defined in section 13 (a) (2)" of the Internal Revenue Code, and such normal tax net income is the basis of the income tax imposed on corporations by chapter 1 of the code. That Congress intended the normal tax net income for the purpose of section 711 to be the same as the normal tax net income for the purpose of computing the corporation income tax is evident not only from the use in section1947 U.S. Tax Ct. LEXIS 155">*233 711 of the qualifying words, "as defined in section 13 (a) (2)," but it is made doubly clear by section 728 of the code (added by the Second Revenue Act of 1940), which states that "the terms used in this subchapter shall have the same meaning as when used in Chapter 1" (that is, the chapter imposing the income tax). Looking to chapter 1, we find all of the provisions necessary to the determination of the normal tax net income of the corporation. Thus, under section 21, the net income is "the gross income computed under section 22 less the deductions allowed by section 23"; under section 13 (a) (1), the adjusted net income is "the net income minus the credit provided in section 26 (a) relating to interest on obligations of the United States," etc.; and under section 13 (a) (2), the normal tax net income is "the adjusted net income minus the credit for dividends received provided in section 26 (b)." In computing the net income, the corporation is allowed, under section 23 (q), to deduct "contributions * * * to an amount which does not exceed 5 per centum of the taxpayer's net income as computed 9 T.C. 15">*47 without the benefit of this subsection." If Congress had intended that, for the1947 U.S. Tax Ct. LEXIS 155">*234 purposes of computing excess profits tax, the deduction under section 23 (q) should be limited by 5 per centum of the net income computed in a manner other than that provided for income tax purposes, it could have so provided in appropriate language when specifying the adjustments to be made to the normal tax net income for computation of excess profits net income; and, as above stated, the only adjustments specified are those in paragraphs (A) to (F) in section 711 (a) (1), none of which requires a change in the basis of deductions for contributions.

We think the computation proposed by the respondent in his amended answer is contrary to the plain and unambiguous terms of the statute, and it is disapproved.

Reviewed as to section 722 by the Special Division.

Reviewed by the Court, except as to issue 4.

Decision will be entered under Rule 50.