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Keywords

contractliabilityappealwillimplied contract

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Willoughby Camera Stores v. Commissioner of Internal Revenue, 125 F.2d 607, 42-1 USTC P 9242, 28 A.F.T.R. 1108

Facts

Willoughby Camera Stores, Inc. petitioned to review a decision by the Board of Tax Appeals regarding a tax deficiency for the years 1935 and 1936. The company had promised its employees that they would participate in a general bonus distribution after two years of service. The Board of Tax Appeals initially ruled that the company could not deduct the reserves set up for these bonuses as business expenses because there was no legal liability to pay them at the time they were accrued. The company argued that the customary practice of determining bonuses at the end of each year created an enforceable obligation.

Issue

Whether Willoughby Camera Stores, Inc. was entitled to deduct amounts set up on its books as reserves for employees' bonuses from gross income as business expenses under Sec. 23(a) of the Revenue Acts of 1934 and 1936.

Rule

Under the accrual system of accounting, a taxpayer may deduct amounts as business expenses if there is an enforceable obligation to pay those amounts within the taxable year. The promise of a bonus made at the time of hiring creates an implied contract, and if the employer has a custom of satisfying such promises, employees may have a right to sue for their bonuses. The existence of a formula for determining the amount of the bonus is not strictly necessary, as long as there is a reasonable expectation of payment.

Analysis

The court found that the promise made to employees at the time of hiring created an implied obligation to pay bonuses, which was supported by the company's custom of determining bonus amounts annually. The Board of Tax Appeals' assertion that employees could not ascertain their share of the accrual was deemed irrelevant. The court emphasized that the accrual system disregards due dates, and since there was an enforceable obligation to pay a nominal sum, the deductions were proper.

Conclusion

The court reversed the decision of the Board of Tax Appeals, allowing Willoughby Camera Stores, Inc. to deduct the reserves for employee bonuses as business expenses.

Who won?

Willoughby Camera Stores, Inc. prevailed in this case because the court recognized that the company had established an enforceable obligation to pay bonuses to its employees. The court concluded that the customary practice of determining bonuses at the end of each year created a reasonable expectation among employees, thus allowing the company to deduct the reserves set up for these bonuses as business expenses.

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