when the expenditures in question consisted of the insertion of "special features" (A. R. R. 611 and I. T. 1278). Money spent for the sole purpose of building up the circulation structure will be an allowable addition to tangible or intangible property where proper proof is submitted. Without proper proof Sections 327-8 may be invoked (A. R. M. 141). In view of the fact that the permanent capitalization of advertising expenditures was not permitted by the Department, Sections 327-8 may be used as a basis for the computation of the excess profits tax in the case of the manufacturers of proprietary medicines where trade-marks (which in most cases are the primary income-earning factors) have not been acquired for cash (A. R. M. 12). A corporation which prior to 1909 capitalized advertising and other expenses can properly claim these now as invested capital (A. R. M. 134).

Discount on bonds, previously written off to surplus, cannot now be restored, the corporation at the time having exercised its option (A. R. R. 394; see also Art. 848). The same rule applies to development expenses (S. M. 1831). Additional income tax assessments, if less than $5,000 or less than 5% of the original assessments, may be considered as paid from current earnings and not as adjustments of prior invested capital (T. B. M. 51). On the other hand, refunds due from the Government may be included as invested capital before paid (O. D. 1079). The cash surrender value of an insurance policy on the lives of officers may be included in invested capital even though additions thereto were proper business expenses prior to 1917 (A. R. R. 229, overruling O. D. 132 and O. D. 524). Loan value, in case the policy has no surrender value, may be added to invested capital (O. D. 745). Premiums paid on the life of a guarantor of a debt cannot be capitalized (O. D. 1109).

INTANGIBLES: LIMITATION THEREON

If a mixed group of tangibles and intangibles was acquired in the purchase of a business, a split must be made as between tangibles and intangibles and a proportionate part of the cost price assigned to each. Intangibles included good-will, patents, copyrights, franchises, and so forth. Bonds were assumed to apply to tangible property.

Intangibles acquired in exchange for stock, but not for cash, must be valued at the lowest of the following:

(a) Cash value at the time acquired

(b) Par value of the stock issued

(c) Twenty-five per cent (20% under the 1917 act) of the par value of the total stock of the corporation outstanding at March 3, 1917, if acquired before that date; or outstanding at the beginning of the taxable year if acquired after March 3, 1917, or if the amount outstanding at the beginning of the taxable year is less than that at March 3, 1917.

A limitation on intangibles seemed desirable because of the inherent difficulty surrounding the proof of their valuation, especially where the good-will had been acquired many years previous. (Sec. 326 (a) (4) and (5); Revenue Act of 1921).

A contract purchased with capital stock was held to be an intangible asset; but a leasehold, purchased also with stock, was looked upon as tangible property (O. D. 635). Developmental expenses incurred in connection with patents before January 1, 1909, may be added back now to invested capital if the corporation can prove these were proper capital expenditures; but such expenses subsequent to that date cannot now be capitalized (Art. 843). Where a new group of stockholders acquired the outstanding stock of a corporation by a cash purchase from the old stockholders, the amount in excess of the book value of the assets could not be regarded as good-will of the corporation (A. R. R. 413; 1 B. T. A. 49). Where bonds and stock are issued in exchange for a mixture of tangible and intangible assets, and no other means of apportionment exists, the stock will be regarded as the payment for intangibles (T. B. R. 49). A corporation in 1897 acquired tangible and intangible assets of approximately equal value, the par value of the stock issued for the total assets (which were current assets) being equal to the value of the tangible assets alone. Since (a) the original purchase price could have been split equally between tangibles and intangibles, (b) the maximum for intangibles in 1918 was 25% of the par value of the capital stock, and (c) the tangible assets acquired had long since been turned over or liquidated in the business, the corporation was allowed to add 25% of the par value of its capital stock to earned (not paid-in) surplus as the maximum allowance under the law (A. R. R. 307). Expenditures of a

predecessor corporation relating to intangibles and charged off the books cannot be added now to invested capital (T. B. R. 19). A deduction of 1/17 of a patent account in a 1917 return was disallowed inasmuch as all the patents included thereunder, except one, had expired. The corporation had not in previous years deducted any allowance for patents, and had thus exercised its option of permanently capitalizing the intangible (A. R. M. 95). This rule has recently been changed whereby no option exists in connection with the write-off of patents; they must be depreciated (T. D. 3877). The value of a patent acquired in 1899 was reduced from the par value of the common and preferred stock given in exchange to the market price at which the stock was selling on the stock exchange. Under Section 207 of the Revenue Act of 1917 the limitation (20% in the case of good-will and other intangibles acquired for stock) did not apply to patents, and the entire amount, without reduction in this case, was permitted to be included in the investment capital for 1917 (A. R. R. 436). Where the 25% limitation is to be applied to no-par-value stock, the minimum capital necessary to commence business as required by the state law will govern (New York and Illinois, $5 per nopar-value share); in case no minimum requirements exist, the fair market value when issued (O. D. 348). A stock dividend from the value of patents put on the books several years after they were acquired by the corporation was excluded from invested capital (A. R. R. 9). Revaluation in 1917 of secret formulas acquired in 1909 on the theory of developed values and on the theory that they were tangible property was not permitted, the corporation having deducted developmental costs in its tax returns, and the committee holding that secret formulas were intangibles and subject to the 20% limitation under the 1917 act when acquired for stock (A. R. R. 29). Another corporation sought to be assessed under the provisions of Section 209 of the 1917 act but was not permitted the privilege of the relief section because of the existence of a secret process which had been developed through the investment of corporate funds and borrowed money and charged off prior to 1910 (Lincoln Chemical Company v. Edwards; 272 Fed., 142; 289 Fed., 458; T. D. 3458; S. R. 1132). The fair value at the time of exchange and not cost of land given in exchange for intangible rights to future business was the basis for the valuation of the intangibles (A. R. M. 131). The amount of stock issued for intangible property, the subsequent revaluation of such property, or the earnings subsequent to the acquisition of intangible property, cannot be accepted as proof

of the value of intangibles at date of acquisition (A. R. R. 2991; S. R. 2017; 1 B. T. A. 96; 3 B. T. A. 873).

Good-will value acquired other than by purchase was denied (1 B. T. A. 612; 3 B. T. A. 212). Good-will ordinarily must be proved by earning power (1 B. T. A. 907, 1120, 1260). In these decisions A. R. M. 34 (see page 65) is, in effect, upheld. Rates of 10% and 20% were used in one case where the stock issued at the time of the organization had no par value and where, therefore, the paid-in value of good-will could be established; lower rates of capitalization would have been justifiable here, but the statutory limitation would have prevented a larger allowance (2 B. T. A. 302). Earnings for a period of 15 years were in one case taken as an index to earning power (4 B. T. A. 175). In I B. T. A. 1124, expert opinion was introduced without a showing of prior profits; a value of $75,000 out of $200,000 claimed was allowed.

Amended returns should be filed for all years when a corporation desires to set up amounts paid for intangibles which were charged off in prior years (O. D. 901). Improvements on a lease which had expired, the improvements going to the lessor, could not be included in the good-will account of the lessee upon renewal of the lease even though the lessee paid for the improvements out of capital (A. R. R. 384). Patents, and formulas not patented, but merely ideas, were considered the equivalent of patents when transferred by an inventor for stock. He later completed the patents and transferred the rights as contracted (A. R. R. 328). An amount paid by a corporation to take up notes made and delivered by principal stockholders as part of the purchase price of stock from retiring stockholders was not considered payment in cash or other tangible property for goodwill or other intangible property, and was not properly a part of invested capital, regardless of the fact that the retiring owners had contracted not to enter into business again for a period of years (A. R. R. 250). Royalty contracts purchased with stock were considered intangibles and subject to the limitation thereon (I. T. 1374).

XXIII

INVESTED CAPITAL:

CHANGES DURING YEAR-INADMISSIBLES

Changes in invested capital during year. Additions and deductions: Federal taxes, dividends, stock sold and retired. Inadmissible assets.

So far invested capital at the beginning of the taxable year has been discussed. The law further provides that the invested capital thus arrived at shall be "averaged" for the taxable year without, however, considering profits made during the year. This is accomplished by adding or subtracting the averaged credits to or reductions of the invested capital at the beginning of the year. For example, if stock amounting to $100,000 is sold for cash at par on July 1, 1921, the amount to be added to the invested capital at January 1, 1921, is the fraction thereof obtained by ascertaining the number of days between July 1 and December 31 (including July 1) and dividing by 365 (366 for 1920). In this case the fraction is 184/365, and $50,410.96 is to be added to the invested capital on January 1, 1921 (Art. 853-4).

(a) Additions. Contributions of capital or surplus are the sources of additions during the year to invested capital. Cash need not be received but the property must have a cash value which will be the value for purposes of computing invested capital. The illustration just cited indicates the method of averaging. The number of days between the date of the transaction and December 31 or the end of the fiscal year is always inclusive; that is, it always includes the date of the transaction as well as December 31. Hence the number of days from July 1 is 184 days; from May