"I am aware that some corporations have in the past met with heavy losses by reason of their machinery becoming obsolete. This is especially true with reference to those corporations using electricity for power and other purposes. Such use is the result of modern inventions which have been improved from year to year, thus rendering obsolete and practically useless expensive dynamos and machinery, but there is a difficulty in making any estimate as to the amount of depreciation in the assessment of the value of tangible property which may result from future invention, and therefore, this species of property should be left to be considered when such depreciation occurs."

An illustration of the application of the rule of allowance for functional depreciation is found in People ex rel. Queens County Water Company v. Woodbury, 67 Misc. 490; aff'd 143 App. Div. 618. The Court there said:

"So long as depreciation of property is a proper factor to take into account in determining the net earnings, I cannot see why the rule should not be applied as well to functional as to physical depreciation. In both cases the property becomes valueless because no longer capable of being applied to the purposes for which it was designed. It would be a false system of accounting which did not take into consideration the destruction of the value of property from whatever cause, so long as that cause is in constant operation and can be foreseen with reasonable certainty. A loss due to functional depreciation is incurred in the operation of the business and, therefore, should be charged as an expense of operation. (City of Knoxville v. Knoxville Water Co., 212 U. S. 1.) Machinery which to-day is sufficient for its purpose may become scrap iron through the development of inventions; and so pipes and mains sufficient for a system of water supply as it now exists, may become valueless through changes in the conditions under which it is used. Because an iron pipe will lie fifty years in the ground without disintegration, it does not follow that the pipe will be of value to the company for fifty years."

In the Brooklyn Heights R. R. Co. v. Tax Comm'rs, 69 Misc. 646; aff'd 146 App. Div. 372, the court observed:

"As surely as humanity travels to the grave, the machinery and equipment of a public service corporation travel toward the scrap pile. The plant and structures depreciate in less degree but as certainly. This is ordinary depreciation. But another form of depreciation in the case of properties here being valued takes place. The

machinery or equipment, while still capable of years of service, becomes inadequate to do the work demanded-not only by the corporation, but by the law itself. In the case particularly of electrical machinery, the type becomes obsolete by reason of invention, and increasing public demands frequently require in aid of safe and adequate service that the obsolete appliance or equipment give way to the new. Property which in itself may be almost indestructible in the hands of a public service corporation may be required to be replaced by the requirements of the public which the corporation serves. These requirements for change of plant, structure and equipment and their replacement, can be and are made by the State itself. Some of these changes are capable of definite ascertainment. Others are not so readily ascertainable. Many of them, however, may be provided against for the future by setting apart from the gross earnings a reasonable sum to create a reserve against the day when they shall come."

In People ex rel. Third Ave. R. R. Co. v. Tax Comm'rs, 136 App. Div. 155; affirmed 198 N. Y. 608, the court, following the Jamaica Water Supply case, held:

"that a public service corporation, with reference to its property which will become worthless by use and must be replaced, is entitled to set aside each year from its earnings a reasonable sum to provide for its replacement. This is outside of the ordinary annual expenses for maintenance, renewals and repairs."

(d) Allowance for money paid on claims for personal injuries.-Where a railroad company has made payments on claims for personal injuries and there is no evidence that such injuries were caused by reason of defective machinery, incompetent servants or wrongful or negligent acts of its officers or employees, the payments for such purposes are properly treated as ordinary disbursements incident to the business. People ex rel. Third Avenue R. R. Co. v. Tax Comm'rs, 136 App. Div. 155; aff'd 198 N. Y. 608.

(e) Allowance for return on investment in tangible property; what may be included therein and its valuation. The rate of return a question of fact.- In the Jamaica Water Supply Co. case the Court of Appeals laid down the following:

"In the case of Willcox v. Consolidated Gas Company (212 U. S. 19) the Supreme Court of the United States agreed with the District Court that the complainant was entitled to 6% on the fair value of its property devoted to the public use; and in a case like the present where the net earnings rule is applied, we think that the court below might properly assume, as a matter of general knowledge in the business community, that a prospective return of at least the legal rate of interest, which is 6% in this state, is requisite to induce investors to embark their money in enterprises of such a nature as that undertaken by this corporation. It is true that this is a question of fact, but the doctrine of judicial notice generally applies only to matters of fact. While evidence as to what constitutes a fair and reasonable rate of return in the business of a corporation was received in this Consolidated Gas Co. case (157 Fed. Rep. 849, 869), and may properly be taken by the court in certiorari proceedings under the Tax Law if the parties see fit to offer it, the court may, in the absence of such evidence, adopt 6% as a fair rate for the purpose of calculating the value of a special franchise under the net earnings rule."

In People ex rel. Manhattan Railway Co. v. Woodbury, 203 N. Y. 231, the Court of Appeals reiterated the rule that the rate of return to be allowed upon the tangible property is a question of fact. In this case, Judge Haight, writing the concurring opinion, says:

"The courts below have allowed the relator six per cent on the value of its tangible property as a fair and reasonable return for the investment. The relator claims that the rate should have been higher; that the business engaged in, of constructing and operating an elevated road, involved a great hazard, but has resulted in a great public benefit, and that investors in such an enterprise ought to be allowed a greater income therefrom than the ordinary rate of interest allowed by statute upon the loan of money. It may be, as claimed, that the confining of the income to the statutory rate of interest will operate to prevent persons having money to loan from investing in new and dangerous enterprises. But the question of the fair and reasonable return, we regard as one of fact under the control of the courts below and one which this court should not review."

In determining, as a question of fact, what rate of return should be allowed upon the investment in tangible property, consideration must be given to the value of the entire property

used in the operation of the franchise, in the light of the nature of the business. In the Third Avenue R. R. Co. case, 136 App. Div. 155; aff'd 198 N. Y. 608, the Court said:

"The question is not what return should be made upon the real estate or the actual tangible property, but what return should be made upon the investment represented by all of the property, tangible and intangible—that is, upon the actual money value engaged in the business. As stated by this Court in the Jamaica Water Supply Co. case, we cannot assume that the intangible part of the relator's property earns any greater per cent. of return than its tangible property. The return comes from the combined use of both. We are, therefore, to allow a fair return upon the value of the entire property, considering the risks and all the circumstances surrounding the business."

The rate of return so determined is then applied to the tangible property and the result obtained is the allowable deduction.

What may be included in the tangible property and its valuation.—The tangible property investment includes whatever the operator of the franchise invests in for the actual use and purpose of its franchise operation. A street pavement laid by a railroad company is no part of the construction of the road, but is part of the municipal property incident to the street, hence it is not "tangible property" belonging to the company. People ex rel. B. & L. E. T. Co. v. Comm'rs, 77 Misc. 235; aff'd on this point in 156 App. Div. 466; aff'd. by Ct. of Appeals,

Dec. 1913.

In People ex rel. Queens County Water Co. v. Woodbury, 67 Miscell. 490; s. c. 143 App. Div. 618, is had an illustration of the difficulty in determining just what tangible property may be considered as being necessary to the use of the franchise. The relator claimed a return upon the value of a number of acres of land and respondents contended that but a small fraction thereof was required by the corporation in the operation of the franchise.

At Special Term, Judge Blackmar observed,

"This contest illustrates the difficulty of the operation of the net earnings rule. How much land is necessary for the proper operation of the water company and for the preservation of the water supply is largely a question which, in the nature of things, must be determined by the judgment of the directors of the company. At the best, it is a matter resting in opinion merely. If the land is rapidly advancing in value, the probability is that the directors would favor more liberal purchases. There is a difference of opinion as to the source of the water supply of Long Island, and as to the necessity of extensive land holdings to protect the supply. There is a difference of opinion as to the necessity of owning land upon the banks of the streams in order to protect the purity of the water supply. I do not see how the purchase of land to prevent its acquisition by some one else and not for the purpose of securing water can be said to be necessary for the purpose of securing and distributing the supply of water." The Appellate Division, in its opinion in this case, affirming the Special Term, said,

"The difficulty is that the relator affirmatively shows that some part of such land is not required for its purposes, inasmuch as the reason given for its acquisition furnishes no just ground therefor. The court in this proceeding should not unduly disturb the sound discretion of its directors in determining the quantity of land needed for its present wants, or those reasonably expectable. But it is stated by relator's engineer that all the land is necessary 'in the first place, to properly protect us against suits for damages to farms for draining the land, and probably the most important thing is to protect us against the City of Brooklyn; that it was purchased by his advice for the protection and increase of the water supply of the company. But it appears that the relator had ample power to enjoin the city from taking land for such use as would interfere with its watershed, and that indeed it did restrain the city in such attempt. Hence some portion of the land held by the relator is for its authorized use, and a residue not defined or valued, is to prevent its acquisition by the city for a purpose injurious to the relator. But such act on the part of the city was not fairly apprehendible, because it would not have been legally possible. Hence the court is met with the impossibility of determining how much of the land held by the relator is necessary for its corporate purposes. The defendants' estimate is too limited. The relator's holding is too much. This condition of the record baffles inquiry, for the acreage with its value is a necessary factor in ascertaining the amount of a correct assessment."

NOTE-See People ex rel. Queens Co. Water Co. v. Tax Com❜rs, 157 App. Div. 165.