Mt. Morris Drive-in Theatre Co. v. Commissioner
Encyclopedia
Mt. Morris Drive-in Theatre Co. v. Commissioner., 25 T.C. 272
(1955), was a case in which the court considered whether the $8,224 spent to construct a drive-in theatre's drainage system was deductible as an ordinary and necessary business expense, as a loss or if it was a non-depreciable capital expenditure. The court held that it was a capital expenditure.
. He built a drive-in theater
on the land which was adjacent to David and Mary D. Nickola's farm land and trailer park. By removing the covering vegetation, slightly changing the land's grade and building gravel-covered ramps and aisles the petitioner caused excessive rain water to drain onto the Nickolas' property, causing damage to their crops and roadways.
After repeatedly complaining, the Nickolas filed a lawsuit against the petitioner on or about October 11, 1948, asking for an award for damages done to their property, and for an injunction forcing the petitioner to correct the drainage problem. The suit was settled on July 27, 1950. The petitioner agreed to install a mutually agreed-upon drainage system which was completed in October 1950. The project cost the petitioner $8,224.
The petitioner claimed that the entire cost of the drainage system was deductible in 1950 as an ordinary and necessary business expense incurred in the settlement of a lawsuit. In the alternative, the petitioner claimed the cost was a loss, to be deducted from claimed profits for the year.
Over the dissenting opinion
of four judges, the majority found that the character of the transaction was that of a capital expenditure
, and thus not deductible as an Expense
.
When the Mt. Morris Drive-in Theatre Co. purchased the land in 1947, it was to convert it into a drive-in theatre. The company should have foreseen that the construction would cause drainage problems that would affect the adjacent properties. It should have included proper drainage in its original construction plan, which certainly would have been considered a Capital Expenditure for tax purposes. See Expenses versus Capital Expenditures
.
Instead, under threat of litigation, the petitioner corrected the problem a year later, and sought to deduct the cost as an ordinary and necessary business expense, or a loss. Focusing on the fact that there was no sudden, unforeseeable or catastrophic factor that caused the construction, the court held that this was not an ordinary business expense or a deductible loss. Additionally, the court reasoned that until the drainage system installed, the construction of the theatre incomplete, and thus the petitioners capital investment incomplete.
Contrast this decision with Midland Empire Packing Company v. Commissioner
, in which the Tax Court held that an expenditure to line basement walls with cement to prevent further oil leakage constituted a repair and was thus deductible as an ordinary and necessary business expense. Although it appears that the Tax Court set forth conflicting opinions, the two decisions are easily reconcilable. The installation of the drainage system in this case was an acquisition and construction of a new capital asset that did not previously exist. Nothing was replaced nor repaired when the drainage system was installed. On the other hand, the new basement lining in Midland Empire Packing Company v. Commissioner
repaired basement walls that had been in existence for over 25 years. The repairs to the basement were necessary to continue the property’s operation for the duration of its expected life. Thus the two cases are distinguishable.
Dissent
The dissent found that the construction of drainage system was an ordinary and necessary business expense that did not increase the value of the property. Thus they found no Capital Expenditure.
Postscript
On appeal, a divided United States Court of Appeals for the Sixth Circuit
affirmed the Tax Court's opinion. Judge McAllister joined the dissent reasoning that had the petitioner opted to pay damages to the neighbors, rather than completing the repair, the settlement expenses could have been deducted. He saw the construction agreement as substantially similar to a settlement for damages.
Case citation
Case citation is the system used in many countries to identify the decisions in past court cases, either in special series of books called reporters or law reports, or in a 'neutral' form which will identify a decision wherever it was reported...
(1955), was a case in which the court considered whether the $8,224 spent to construct a drive-in theatre's drainage system was deductible as an ordinary and necessary business expense, as a loss or if it was a non-depreciable capital expenditure. The court held that it was a capital expenditure.
Facts
In 1947, petitioner purchased 13 acres (52,609.2 m²) of farm land on the outskirts of Flint, MichiganFlint, Michigan
Flint is a city in the U.S. state of Michigan and is located along the Flint River, northwest of Detroit. The U.S. Census Bureau reports the 2010 population to be placed at 102,434, making Flint the seventh largest city in Michigan. It is the county seat of Genesee County which lies in the...
. He built a drive-in theater
Drive-in theater
A drive-in theater is a form of cinema structure consisting of a large outdoor screen, a projection booth, a concession stand and a large parking area for automobiles. Within this enclosed area, customers can view movies from the privacy and comfort of their cars.The screen can be as simple as a...
on the land which was adjacent to David and Mary D. Nickola's farm land and trailer park. By removing the covering vegetation, slightly changing the land's grade and building gravel-covered ramps and aisles the petitioner caused excessive rain water to drain onto the Nickolas' property, causing damage to their crops and roadways.
After repeatedly complaining, the Nickolas filed a lawsuit against the petitioner on or about October 11, 1948, asking for an award for damages done to their property, and for an injunction forcing the petitioner to correct the drainage problem. The suit was settled on July 27, 1950. The petitioner agreed to install a mutually agreed-upon drainage system which was completed in October 1950. The project cost the petitioner $8,224.
The petitioner claimed that the entire cost of the drainage system was deductible in 1950 as an ordinary and necessary business expense incurred in the settlement of a lawsuit. In the alternative, the petitioner claimed the cost was a loss, to be deducted from claimed profits for the year.
Opinion of the Court
MajorityOver the dissenting opinion
Dissenting opinion
A dissenting opinion is an opinion in a legal case written by one or more judges expressing disagreement with the majority opinion of the court which gives rise to its judgment....
of four judges, the majority found that the character of the transaction was that of a capital expenditure
Capital expenditure
Capital expenditures are expenditures creating future benefits. A capital expenditure is incurred when a business spends money either to buy fixed assets or to add to the value of an existing fixed asset with a useful life extending beyond the taxable year...
, and thus not deductible as an Expense
Expense
In common usage, an expense or expenditure is an outflow of money to another person or group to pay for an item or service, or for a category of costs. For a tenant, rent is an expense. For students or parents, tuition is an expense. Buying food, clothing, furniture or an automobile is often...
.
When the Mt. Morris Drive-in Theatre Co. purchased the land in 1947, it was to convert it into a drive-in theatre. The company should have foreseen that the construction would cause drainage problems that would affect the adjacent properties. It should have included proper drainage in its original construction plan, which certainly would have been considered a Capital Expenditure for tax purposes. See Expenses versus Capital Expenditures
Expenses versus Capital Expenditures
Under United States income tax law, to make a deduction in the current taxable year, a taxpayer must be able to show that a particular cost is a business expense and not a capital expenditure...
.
Instead, under threat of litigation, the petitioner corrected the problem a year later, and sought to deduct the cost as an ordinary and necessary business expense, or a loss. Focusing on the fact that there was no sudden, unforeseeable or catastrophic factor that caused the construction, the court held that this was not an ordinary business expense or a deductible loss. Additionally, the court reasoned that until the drainage system installed, the construction of the theatre incomplete, and thus the petitioners capital investment incomplete.
Contrast this decision with Midland Empire Packing Company v. Commissioner
Midland Empire Packing Company v. Commissioner
Midland Empire Packing Company v. Commissioner., 14 T.C. 635 , was a case in which the United States Tax Court ruled that Midland Empire Packing Company was permitted to deduct the costs of lining its basement walls and floor...
, in which the Tax Court held that an expenditure to line basement walls with cement to prevent further oil leakage constituted a repair and was thus deductible as an ordinary and necessary business expense. Although it appears that the Tax Court set forth conflicting opinions, the two decisions are easily reconcilable. The installation of the drainage system in this case was an acquisition and construction of a new capital asset that did not previously exist. Nothing was replaced nor repaired when the drainage system was installed. On the other hand, the new basement lining in Midland Empire Packing Company v. Commissioner
Midland Empire Packing Company v. Commissioner
Midland Empire Packing Company v. Commissioner., 14 T.C. 635 , was a case in which the United States Tax Court ruled that Midland Empire Packing Company was permitted to deduct the costs of lining its basement walls and floor...
repaired basement walls that had been in existence for over 25 years. The repairs to the basement were necessary to continue the property’s operation for the duration of its expected life. Thus the two cases are distinguishable.
Dissent
The dissent found that the construction of drainage system was an ordinary and necessary business expense that did not increase the value of the property. Thus they found no Capital Expenditure.
Postscript
On appeal, a divided United States Court of Appeals for the Sixth Circuit
United States Court of Appeals for the Sixth Circuit
The United States Court of Appeals for the Sixth Circuit is a federal court with appellate jurisdiction over the district courts in the following districts:* Eastern District of Kentucky* Western District of Kentucky...
affirmed the Tax Court's opinion. Judge McAllister joined the dissent reasoning that had the petitioner opted to pay damages to the neighbors, rather than completing the repair, the settlement expenses could have been deducted. He saw the construction agreement as substantially similar to a settlement for damages.