14 T.C. 1320">*1321 Respondent determined that Warner Welded Products realized $ 90,000 in excessive profits for the 10-month period March 1 to December 31, 1944, from renegotiable contracts within the meaning of the Renegotiation Act of 1943 (section 403, Sixth Supplemental National Defense Appropriation Act, 1942, as amended by section 701, Revenue Act of 1943.)

The first issue is whether Warner Welded Products and Warner Manufacturing Co. were "under the control of or controlling or under common control with" the other during the fiscal period, within the meaning of section 403 (c) (6) of the Renegotiation Act.

If the necessary control exists, the second issue is the amount of excessive profits realized by petitioner on renegotiable war contracts during the fiscal period.

FINDINGS OF FACT.

Thomas W. Warner, Jr., and Jean Warner Sprague are brother and sister, residing in or near Los Angeles, California. On or about October 2, 1943, they organized Warner Welded Products, a limited partnership, which commenced operations on March 1, 1944, and, during the 10-month period ended December 31, 1944, inclusive, engaged in and received its income from the operation of a copper furnace welding1950 U.S. Tax Ct. LEXIS 153">*156 plant, located in Glendale, California. Thomas W. Warner, Jr., as the general partner, managed and operated the partnership business. Jean Warner Sprague, as the limited partner, had no authority over the management or operation of the business, and had no authority to represent or bind the partnership. The partners made 14 T.C. 1320">*1322 equal contributions to the partnership and were to share the profits equally. The partnership books for the fiscal 10-month period were kept on an accrual basis.

Prior to and during the fiscal period herein, the Warner Manufacturing Co. was a California corporation. Its outstanding stock was owned by the following persons in the amounts indicated:

By virtue of a trust agreement executed in May, 1943, for a term of three years, all of the above stock was held by Thomas W. Warner, Sr., as trustee, with all the powers, rights, and privileges that each might have as a shareholder of the company.

Warner Manufacturing Co. conducted its business on the basis1950 U.S. Tax Ct. LEXIS 153">*157 of a fiscal year ending July 31. Its principal officers and their salaries for the fiscal years ended July 31, 1944 and 1945, were as follows:

Its board of directors during the 10-month fiscal period March 1 to December 31, 1944, consisted of the two Warners and David R. Faries.

For the fiscal years ended July 31, 1944 and 1945, Warner Manufacturing Co. had sales subject to renegotiation of $ 2,172,862.24 and $ 4,419,928.31, respectively. Respondent determined that Warner Manufacturing Co. realized no excessive profits on its renegotiable sales for the fiscal years 1944 and 1945.

For the 10-month fiscal period herein Warner Welded Products had sales subject to renegotiation of $ 212,858.25, earned discount of $ 11.95, and nonrenegotiable sales of $ 34,154.03, or a total of $ 247,024.23. Its nonrenegotiable business included rental payments from Warner Manufacturing Co. at the rate of $ 1,000 per month for a total of $ 10,000. All of its sales for the 10-month fiscal period were subcontracts and had a war-end use within the meaning1950 U.S. Tax Ct. LEXIS 153">*158 of the Renegotiation Act of 1943. Its percentage of renegotiable to nonrenegotiable business was 89.81 per cent and 10.19 per cent, respectively, and items of cost, administrative expense, and net profit were apportioned accordingly.

During the 10-month fiscal period Warner Welded Products paid salaries of $ 15,000 and $ 5,000 to T. W. Warner, Jr., and Jean Warner 14 T.C. 1320">*1323 Sprague, respectively. Jean Warner Sprague rendered no personal services to the partnership. T. W. Warner, Jr., devoted approximately 10 per cent of his time to the business of the partnership. His 1944 individual income tax return reported salaries of $ 22,300 from Warner Manufacturing Co., $ 12,000 from T. W. Warner Co., and $ 15,000 from Warner Welded Products.

Copper furnace welding or brazing operations were carried on by Warner Manufacturing Co. prior to the formation of Warner Welded Products. On or about March 1, 1944, the latter took over the former's brazing operations. ¹ Warner Manufacturing Co. posted a notice in its shop that on March 1, 1944, the employees engaged in that work would be transferred to the partnership. Each employee filled out a new application form and thereafter was on the1950 U.S. Tax Ct. LEXIS 153">*159 pay roll of the partnership. The largest number of employees that the partnership had during the fiscal period was 32, the majority of whom were unskilled. Several employees of Warner Manufacturing Co. were part time employees of the partnership during the 10-month fiscal period. The employees of the partnership received written or shop instructions directly from the managing partner, Thomas W. Warner, Jr. The elder Warner issued no written or shop instructions to the partnership employees, but he gave verbal instructions to the partnership's plant superintendent "as to changes, improvements in the plant, or anything like that."

The partnership and the corporation occupied adjoining space in the same building. Their plants were separated by a fire wall. Free access was obtained through 1950 U.S. Tax Ct. LEXIS 153">*160 a fire door which was open during working hours. The materials used by the partnership were purchased by Warner Manufacturing Co. on its purchase orders and its credit. The partnership paid the corporation a commission of 30 per cent on materials purchased and a commission of 10 per cent on all welding to handle the paper work. The bookkeeping for the partnership was handled by the corporation. The partnership's sales were made to Warner Manufacturing Co. During the fiscal period the corporation paid some of the operating expenses of the partnership, which amounts the partnership set up on its books as accounts payable to the corporation. These amounts were subsequently paid to the corporation.

The plant superintendent of Warner Welded Products occupied the same position with Warner Manufacturing Co. prior to March 1, 1944. He was very competent, was responsible for T. W. Warner, Jr., becoming interested in the furnace welding business, and did a great deal of the consulting with customers. He operated the electric welding furnaces at all times, whether T. W. Warner, Jr., was present or 14 T.C. 1320">*1324 absent, and was in charge of plant operations when the latter was away. T. W. 1950 U.S. Tax Ct. LEXIS 153">*161 Warner, Jr., was neither an engineer nor a metallurgist.

Warner Welded Products operated two electric furnaces during the 1944 fiscal period, one a 50-foot furnace and the other a 107-foot furnace. Other machinery and equipment used by the partnership included a couple of experimental furnaces, miscellaneous spot welders, presses of one kind and another, a large degreaser, a sandblasting outfit, and some copper sprays. The partnership operated its other machinery and equipment in conjunction with its principal operation, which was electric furnace welding. Machinery and equipment covered by certificates of necessity of the partnership were depreciated at 20 per cent per year by respondent in determining excessive profits, and machinery and equipment not covered by certificates of necessity were depreciated at 10 per cent per year. The partnership held certificates of necessity for the fiscal period 1944 totaling $ 86,129.72, which included the big furnace at $ 39,404.41. Depreciation on the small furnace was claimed by T. W. Warner, Jr., as its owner, in his individual income tax return for 1944 based upon a cost of $ 13,879.50 with a 20 per cent rate per year. The only charge1950 U.S. Tax Ct. LEXIS 153">*162 made to the partnership for the use of this furnace was the maintenance thereof.

Upon audit of the partnership's books respondent made adjustments which increased sales by $ 2, decreased cost of sales by $ 1,289.92, and decreased administrative expenses by $ 12,265.20. A summary of the partnership's profit and loss statement for the 10-month fiscal period, taking into account the foregoing adjustments, is as follows:

Four of the adjustments made by respondent in determining partnership profits involved Jean Warner Sprague and her automobile. Insurance, expenses, and depreciation on her Cadillac automobile in 1950 U.S. Tax Ct. LEXIS 153">*163 the respective amounts of $ 59.70, $ 137.11, and $ 461.42 were eliminated, the first from cost of sales and the other two from administrative expense, for the reason that the automobile was her personal car and used very little in the business. Respondent eliminated the $ 5,000 salary paid Jean Warner Sprague from administrative expense for 14 T.C. 1320">*1325 the reason that she rendered no services to the partnership. The salary of $ 15,000 paid T. W. Warner, Jr., for his services for the 10-month period was reduced by respondent to $ 8,333.33, which represented an annual salary of $ 10,000 per year. Respondent allowed a depreciation deduction of $ 8,002.38 on machinery and equipment, which was $ 1,232.22 less than the amount claimed by the partnership. Respondent allowed a 20 per cent rate of depreciation on machinery and equipment covered by certificates of necessity, as claimed, but allowed only a 10 per cent rate on all other machinery and equipment.

Warner Welded Products and Warner Manufacturing Co. operated as a single production unit during the 10-month fiscal period, the partnership's business being supplemental to the corporation's. T. W. Warner, Jr., as general manager and1950 U.S. Tax Ct. LEXIS 153">*164 executive vice president, was responsible for the corporate operations and as managing partner was solely responsible for the operations of the partnership. Thomas W. Warner, Sr., president of the corporation, served it principally in an advisory and policy-making capacity. The corporation and the partnership were under common control within the meaning of section 403 (c) (6), Renegotiation Act of 1943.

Respondent's analysis of the partners' capital accounts shows the original investments of the partners, their profits for the 10-month fiscal period per audit, the amount withdrawn by each, and their capital accounts at December 31, 1944, as follows:

On his individual income tax return for 1944 T. W. Warner, Jr., reported his share of the profits of Warner 1950 U.S. Tax Ct. LEXIS 153">*165 Welded Products as $ 56,127.78.

In compliance with the provisions of section 403 (c) (1), Renegotiation Act of 1943, the renegotiation proceedings with the petitioner were commenced by the mailing of a registered letter to the petitioner setting a time and place for a conference, such letter being dated September 12, 1945.

On March 15, 1946, an "Order Under Delegated Authority" was dated, issued, and entered determining that the petitioner received or 14 T.C. 1320">*1326 accrued excessive profits in the amount of $ 90,000 for the fiscal period involved.

A reasonable compensation for the personal services actually rendered Warner Welded Products by Thomas W. Warner, Jr., during the fiscal period was $ 10,000 per year.

Jean Warner Sprague rendered no services to the partnership, and the payment of $ 5,000 to her as a salary is not deductible in determining excessive profits. Items of insurance, depreciation, and expenses on her personal automobile were properly disallowed in determining excessive profits.

The partnership built and equipped its plant to do electric furnace welding. It manufactured none of the parts used in its furnace welding. Its operations do not appear to have been above1950 U.S. Tax Ct. LEXIS 153">*166 average in efficiency, except for economy in the use of manpower. It had no prewar earnings or basis for comparison of war and peacetime products. It employed only private capital in the enterprise. A large proportion of its facilities was covered by certificates of necessity. Its procurement problems, credit, and inventory risks were taken care of by Warner Manufacturing Co. While it reduced prices on certain items, such as the self-sealing gas tank cap, the cam maneuverability flap control, and the nozzle plate rings, it assumed no risk incident to any reasonable pricing policies. Its principal contribution to the war effort was establishing the first furnace welding plant on the west coast and its use of furnace welding in place of other types of welding. Its operations were relatively simple in that furnace welding required only two skilled employees per shift. It turned over its invested capital 2 1/2 times during the 10-month fiscal period, and approximately one-half of its sales represented gross profits. Its net profits for 10 months exceeded its invested capital, and each partner withdrew more than he or she had invested and in addition increased their respective1950 U.S. Tax Ct. LEXIS 153">*167 capital accounts.

During the 10-month fiscal period ended December 31, 1944, the partnership derived "excessive profits" of $ 90,000 within the meaning of section 403, Renegotiation Act of 1943.

The omitted portions of the stipulated facts are incorporated herein by reference.

OPINION.

Petitioner ²1950 U.S. Tax Ct. LEXIS 153">*168 challenges not only our jurisdiction to redetermine the excessive profits, if any, but also the respondent's right to determine excessive profits in the first instance. It contends that section 403 (c) (6), Renegotiation Act of 1943, fixes the jurisdictional amount at a minimum of $ 500,000, and that its renegotiable 14 T.C. 1320">*1327 sales and all other income for the fiscal period ended December 31, 1944, was less than $ 250,000. Respondent concedes that unless "common control" existed between the partnership and the corporation, as provided by section 403 (c) (6), Renegotiation Act of 1943, there is no jurisdiction in this Court or the respondent. The pertinent provisions of the section appear in the margin. ³

Respondent's regulations as to common control ⁴ provide in part as follows:

348.4 Tests of "Control". In determining whether the contractor controls or is controlled by or under common control with another person, the following principles should be followed:

* * * *

(5) Other cases: Actual control is a question of fact. Whenever it is believed that actual control exists even though the foregoing conditions are not fulfilled, 1950 U.S. Tax Ct. LEXIS 153">*169 the matter may be determined by the Department or Service conducting the renegotiation.

Petitioner's objection to the common control theory is that if the incomes of the two entities are to be combined under this theory, then aggregate costs should also be combined in order to determine combined aggregate profits. It is urged that respondent refused to renegotiate on an over-all aggregate basis, which petitioner says is contrary to the mandatory requirements of the Renegotiation Act of 1943, and insisted on and did renegotiate the corporation and the partnership separately. Petitioner insists that when respondent isolates its income from the corporation's the jurisdictional floor becomes operative and neither respondent nor this Court can renegotiate its war contracts.

Our concern is the proper interpretation of the statutory language "under common control" when applied to the present facts. In other words, were the corporation and the partnership1950 U.S. Tax Ct. LEXIS 153">*170 under common control? This is a factual question, the determination of which depends upon all the facts and circumstances of record. . Our findings show that the Warners, father, son and daughter, owned the entire proprietary interests in both business enterprises. Petitioner stresses the father's stock control of the corporation, by virtue of the voting trust agreement, and the son's absolute control of the partnership under the partnership agreement with his sister, as precluding common control. The 14 T.C. 1320">*1328 son's directorship in the corporation, says petitioner, gave him no control, as there were two other directors, nor did his duties as general manager of the corporation give him control, since the father decided all policy questions. Actually, says petitioner, the son was an employee of the corporation, just as any other general manager is an employee of his firm.

Several answers might be made to petitioner's contentions, but we point out here that, while the father held voting control under the trust, the son and daughter were the beneficial owners of 80 per cent of the corporate1950 U.S. Tax Ct. LEXIS 153">*171 stock and the father, as trustee, was bound to protect and respect their interests. The voting trust was strictly a family arrangement which could have been terminated at any time by common agreement among the members of the Warner family. The son's management of the corporate business was conceded on the witness stand, and the father's statements to the draft board regarding the major role played by the son in managing and operating the corporate business leave no doubt in our minds that the son controlled the business. If the father controlled and operated the business by deciding questions of policy which the son carried out as an employee of the corporation, that fact could have been substantiated by the father and perhaps by the sister, neither of whom appeared as a witness. The record indicates, and we are convinced, that the son controlled the operations of both enterprises, and we have accordingly found that the corporation and the partnership were under common control.

Our conclusion as to common control is abundantly supported by the manner in which the two businesses were conducted. Although separate entities, the partnership's purchases and sales were handled through1950 U.S. Tax Ct. LEXIS 153">*172 the corporation. The latter purchased supplies and materials, provided the credit, kept the books, and maintained the inventory for both businesses. The brazing operations were definitely a part of the corporate operations prior to March 1, 1944. And this is true whether the corporation leased the brazing equipment from Thomas W. Warner, Jr., and a partner, other than his sister, or whether it operated as a department or a division within the corporate set-up. No good reason appears why the son and daughter could not have increased their investment in the corporation and enlarged its brazing operations. But, be that as it may, they elected to conduct their brazing business as a separate enterprise, and we must accept the facts as they are. Whatever the reason, the two enterprises operated and functioned as though they were one production unit under the control and guidance of Thomas W. Warner, Jr.

Recent decisions of this Court have involved the question of whether common control existed. In , we had members of a family operating two separate businesses. The respondent 14 T.C. 1320">*1329 determined that the requisite 1950 U.S. Tax Ct. LEXIS 153">*173 control existed so that he could renegotiate Southland Steel even though the amount of its renegotiable sales was less than the jurisdictional amount of $ 500,000. We disapproved respondent's action and refused jurisdiction for the reason that the sister, who was the sole owner of Southland, had only a 3 to 4 per cent stock interest in Butane Equipment Co., and, although an officer and a director of Butane, took no part in its management and attended only one directors' meeting during a four-year period. By comparison the partners here owned an 80 per cent interest in the corporate business, which the son operated as general manager. See , where the president and general manager controlled the corporate stockholders and directors and caused the corporation to transfer war contracts to him individually for his personal advantage.

In , we held that two partnerships owned equally by two general partners were under common control and that each partnership could be renegotiated, since their combined1950 U.S. Tax Ct. LEXIS 153">*174 receipts exceeded the jurisdictional minimum of $ 500,000, although separately their receipts were less than $ 500,000. In the course of our opinion we used the following language, which appears singularly apt to the present circumstances:

The purpose of the "common control" clause in question is at least in part to prevent contractors from establishing, either in corporate or partnership form, a series of ad hoc business enterprises, each of which is to work on a phase of war contracts, in order to prevent the total receipts of the individual contractors derived from war contracts or subcontracts from reaching the jurisdictional minimum. See Senate Report No. 440, Part 2, 80th Cong., 2d sess., p. 11.

In view of the foregoing, we are of the opinion that the partnership and the corporation were under common control during the 10-month fiscal year, and that the renegotiable sales of petitioner and all persons under common control with it exceeded $ 500,000, the jurisdictional minimum. Respondent is therefore entitled to renegotiate the petitioner and determine whether it realized excessive profits.

Petitioner's next contention is that, if subject to renegotiation under the common1950 U.S. Tax Ct. LEXIS 153">*175 control theory, respondent must, under the law, aggregate the income and costs of both business enterprises in order to determine whether the consolidated profits were excessive. The record indicates that the corporation was renegotiated separately, perhaps by a different technical service, and determined to have realized no excessive profits. It is argued, without supporting proof, that if income, costs, and profits of the two businesses were consolidated there would be no excessive profits; but that, due to the provisions of the Renegotiation Act, the corporation has no standing before this Court, since it has not been "aggrieved by an order of" respondent determining excessive profits against it. Sec. 403 (e) (1), Renegotiation Act of 1943.

14 T.C. 1320">*1330 The mandatory provision of the law relied upon by petitioner is that portion of section 403 (c) (1) which appears in the margin. ⁵1950 U.S. Tax Ct. LEXIS 153">*177 Petitioner interprets these provisions of the Renegotiation Act, when read in conjunction with the provisions of section 403 (c) (6), supra, to mean that respondent Board is required by the mandatory word "shall" to aggregate income, costs, and profits of the partnership and the corporation before1950 U.S. Tax Ct. LEXIS 153">*176 respondent can determine that excessive profits were realized by the two businesses under common control. We can not follow petitioner's argument. Section 403 (c) (1), when read in conjunction with 403 (c) (6), ⁶ provides for the aggregating of amounts received or accrued on all contracts during the fiscal year of the contractor or subcontractor. This is the mandatory provision of which petitioner speaks. Congress, however, provided for an exception when it stated that amounts received or accrued under one or more separate contracts may be renegotiated separately at the request of the contractor or subcontractor. The size of petitioner's war contracts was such that there could be no renegotiation of one or more contracts separately. In any event, no such request was made here and we need not concern ourselves with the exception.

The mandatory provisions of section 403 (c) (1) are that respondent Board shall exercise its powers with respect to the aggregate of the amounts received or accrued during the fiscal year by a contractor, or that respondent Board shall exercise its powers with respect to etc., a subcontractor. The statute speaks in the disjunctive. It does not say the aggregate of the amounts received or accrued by a contractor and a subcontractor; it says the aggregate of the amounts received or accrued by a contractor or subcontractor. The statutory construction for which petitioner contends is not, in our opinion, well founded, and respondent is not required to consolidate income, costs, and profits of two enterprises under common control before it can determine whether either realized excessive profits on its war contracts.

Paragraph 310 of respondent's regulations for fiscal years ending after June 30, 1943, permits renegotiation on a consolidated basis with two or more1950 U.S. Tax Ct. LEXIS 153">*178 business enterprises which are under common control as a result of common ownership in the discretion of the Department conducting the renegotiation and with the consent of the entities consolidated if, (a) such consolidation is reasonably necessary to protect 14 T.C. 1320">*1331 the interests of the Government, and (b) the renegotiation on consolidated basis is not inequitable to minority interests in one or more of the enterprises. Paragraph 311 of respondent's regulations provides for allocation of excessive profits in cases of consolidated renegotiation. Paragraph 312 provides as follows:

312. Where Consolidated Basis Not Used. Companies should not be consolidated for purposes of renegotiation unless they have the same fiscal year for Federal tax purposes and unless the parent-subsidiary relationship or common control existed for the entire fiscal period. Whenever parent and subsidiary companies are renegotiated not on a consolidated basis but separately, renegotiations with the individual members of the controlled group should be conducted concurrently if possible.

Petitioner's contention that the regulations are invalid and void is premised upon its interpretation of the mandatory1950 U.S. Tax Ct. LEXIS 153">*179 provisions of 403 (c) (1), hereinbefore discussed. It is charged that respondent seeks to thwart the affirmative legislative intent by the simple expedient of promulgating a regulation. The fallacy of petitioner's argument lies in the basic premise. Respondent is not required by law to consolidate enterprises under common control in determining whether one of the enterprises realized excessive profits. Actually, the regulations protect contractors and subcontractors from being renegotiated on a consolidated basis by requiring their consent to the consolidation. Other conditions are also prescribed for renegotiation on a consolidated basis, so that the Government and any minority interest in one of the consolidated enterprises will be protected. The statute itself contains no provision requiring renegotiation on a consolidated basis. The regulations promulgated by respondent permit renegotiation on a consolidated basis only under certain conditions, which are designed to protect the interests of the several parties concerned. Regulations to the same effect existed under the Renegotiation Act of 1942, and if Congress had desired to change the administrative procedure in renegotiations1950 U.S. Tax Ct. LEXIS 153">*180 on a consolidated basis, it undoubtedly would have provided therefor in the Renegotiation Act of 1943. We hold against petitioner on its contention that the regulations are invalid, void, and contrary to the statute.

The remaining question is the amount of excessive profits petitioner realized from its war contracts during the fiscal period. After a full and careful examination of the facts of record, we are convinced and have found that petitioner realized excessive profits in the amount determined by respondent. In so concluding, we have examined the items of insurance, depreciation, and expenses disallowed with respect to the personal car of Jean Warner Sprague and sustain respondent in his disallowance thereof. We have also considered and sustained respondent's disallowance of a salary of $ 5,000 to the limited partner, 14 T.C. 1320">*1332 who admittedly rendered no personal services to the partnership whatsoever. We reject petitioner's contention that this $ 5,000 item, denominated salary on the books, should be allowed as payment to Jean Warner Sprague for the use of or risking her capital in the business.

In determining a reasonable salary for the services rendered by Thomas W. 1950 U.S. Tax Ct. LEXIS 153">*181 Warner, Jr., we have considered the time devoted to the partnership and the time devoted to his other interests. Granting that he was in entire control of the partnership operations, it still appears from the uncontradicted testimony that he devoted only 10 per cent of his time to the partnership. Considering the gross sales, the net profits, and the time devoted to the business, a salary of $ 10,000 per annum for renegotiation purposes seems to be reasonable compensation, and we so hold.

Petitioner contends that additional costs should be allowed in determining its excessive profits. Included therein are a salary allowance of $ 20,000 to Thomas W. Warner, Jr., the $ 5,000 allowance to Jean Warner Sprague, heretofore considered, a rental payment of $ 14,688 for the small furnace, an interest item of $ 585, and a capital risk item of $ 48,309.90. The last three items were not paid out by the partnership, nor were liabilities therefor incurred; they simply represent charges which petitioner contends should be used to reduce its profits. Petitioner's accountant testified with respect to these various items and with respect to the depreciation disallowance by respondent. We have1950 U.S. Tax Ct. LEXIS 153">*182 carefully examined the claimed additional costs and the reasons advanced for their allowance, but we are not convinced that they represent proper deductions in determining petitioner's excessive profits. The difference between the parties on the depreciation deduction allowable on machinery and equipment not covered by certificates of necessity is only $ 504.80, and results from a change in the rate by petitioner. The only justification advanced for the change was that a higher rate was used on the income tax return than the 10 per cent rate used by the respondent. We can not accept the accountant's testimony as proof of the proper rate to be used for depreciating petitioner's other machinery and equipment.

Considering the record before us and the statutory factors which must be taken into account in determining the amount of excessive profits realized by petitioner from its renegotiable contracts it is our opinion, and we have found, that petitioner had excessive profits during the 10-month fiscal period ended December 31, 1944, in the amount of $ 90,000 as determined by the respondent Board.

An order will be entered in accordance herewith.