Smith and Freedman, Circuit Judges, and Wortendyke, District Judge.
Petitioner attacks a decision of the Tax Court upholding income tax deficiencies totalling $96,172.84 and fraud penalties totalling $52,674.18 for the years 1955 to 1960. 46 T.C. 622 (1966).
Petitioner is a Pennsylvania corporation and during the tax years involved its stock was owned one-half by Conrad V. Anderson, Jr., and the other half by Richard Schwoebel. Anderson was the president of the corporation and devoted his full time to its business which was the sale and application of road surfacing materials. Schwoebel was the secretary and treasurer of the corporation; he devoted most of his time to another business of his own, but he was able to send substantial amounts of business to the corporation and occasionally supervised specific jobs for it. This took about ten percent of his time. The Board of Directors was composed of the two owners and Arthur Sanford, an employee of the corporation who also served as vice president and assistant secretary. Anderson, with Sanford, supervised the office and the day to day operations. Anderson consulted Schwoebel on all important corporate decisions. Anderson and Schwoebel were paid salaries by the corporation; Anderson's salary ranged from four to six times that of Schwoebel. During the years involved the corporation paid one cash and stock dividend in 1956, which was distributed equally to Anderson and Schwoebel, the two stockholders.
Each year an independent auditing firm, after auditing the corporation's books, made a report of its examination to the two stockholders and prepared the corporation's income tax returns, which were signed by Anderson as president.*fn1
Anderson died unexpectedly in 1960. Under their stockholders' agreement Schwoebel will become the owner of Anderson's stock and thus the sole stockholder.*fn2 Because of Anderson's death, Schwoebel was forced to give more time to the corporation's affairs. As a result he discovered that Anderson had from 1955 until his death in 1960 diverted substantial amounts of corporate funds to his own use. The plan by which he did this was to keep individual sales from being recorded on the corporation's books and then endorsing and cashing for his own use the checks sent in payment. The checks, which were made payable to the corporation, were cashed at its bank on the authority of a letter which Anderson and Sanford wrote to the bank stating falsely that the corporation authorized Anderson to do so. These sales by the corporation and the payments for them, which came into Anderson's personal possession, therefore were not reflected on its books, and were unknown to the corporation's auditors. Sanford, who was little more than a paid office clerk, helped to cover up Anderson's defalcations but apparently received no benefit from them. Schwoebel, relying completely on the auditor's reports which in turn were based on the records supplied by Anderson and Sanford, had no knowledge of the defalcations. The corporate income tax returns, of course, were prepared by the auditors on the basis of the corporation's records, and did not reflect the receipts embezzled by Anderson.
Promptly on discovering the defalcations Schwoebel consulted his counsel, on whose advice he reported them to the Internal Revenue Service. The Service then made the present tax fraud assessments against the corporation. The corporation then brought suit against Anderson's estate for the corporate income which he had embezzled, and that action is still pending.
Petitioner conceded in the Tax Court that the funds embezzled by Anderson constituted income to the corporation and does not raise this issue here. The amicus curiae's brief, however, urges that the corporation never received these funds as taxable income because it derived no economic benefit from them as a result of Anderson's misappropriation.
We might readily dismiss this contention on the ground, as urged by the Commissioner, that it is not properly before us. It is, however, totally lacking in merit. It is axiomatic that a corporation can act only through its officers and other agents. Anderson received the payments as agent for the corporation exactly as he did with payments which were properly credited to the corporation's account. The corporation was on an accrual basis as a taxpayer, and when it made sales to its customers their liability for payment arose and thereby created an account receivable in favor of the corporation. Corporate income accrued at that time. That the funds in payment of the corporation's accounts receivable were diverted and never actually passed into the corporation's treasury is without significance for tax purposes. Union Stock Farms v. Commissioner of Internal Revenue, 265 F.2d 712, 721 (9 Cir. 1959). The fact that Anderson, the corporation's duly authorized representative who exercised dominion over the payments, was able subsequently to misappropriate the funds because he had such dominion does not alter their character as corporate income.
The amicus curiae relies principally on Alsop v. Commissioner of Internal Revenue, 290 F.2d 726 (2 Cir. 1961), but that case did not deal with the taxability of the embezzled income. It involved the right of an author, a cash basis taxpayer, who had obtained a judgment against her literary agent, to deduct it as a loss in the year she obtained it, although she had not returned the embezzled funds as income, and also whether she was taxable with the amount of the recovery on another judgment in the year of recovery when she had not reported the embezzlement itself as income. In the present case the sales were made by the corporation and the funds in payment for them were sent to the corporation's office in discharge of the customers' liability to the corporation. Moreover, we are not considering at this point the right to a deduction, but whether the accounts receivable were income to the accrual basis taxpayer or are to be deemed obliterated because the funds in payment for them were embezzled by the officer whose customary duty it was to take charge of their receipt.
Other cases relied on by the amicus, such as Harry Sherin, 13 T.C. 221 (1949), and All Americas Trading Corp., 29 T.C. 908 (1958), are not in point. In Sherin, the president of the corporation received from its sales agent a large share of illegal payments above O.P.A. ceilings on sales of goods. The corporation was paid the O.P.A. price and the president received the additional payments in cash from the sales agent. The other half-owner of the corporation was unaware of the president's conduct. The customers, of course, well knew that they were bribing the president to prefer them in the sale of goods which were in short supply. The Tax Court held that the president was not acting for the other stockholder or the corporation when he received his share of the illegal aboveceiling payments. In All Americas, the payments involved were received by an officer, but they were paid by the customers out of their own funds after the corporation had paid them for the goods which they had supplied to the corporation. The Tax Court found that the officer was not acting for the corporation in receiving the payments. These cases involved private transactions between the corporate officer and the outside party which both knew and intended to be outside the range of the corporate transaction, and in both cases the Tax Court held that the corporation had not received income. Here the transactions consisted of the normal activities of the corporation; what Anderson received was in no way the product of his personal efforts beyond the ...