Chapter XII. GOOD WILL. While Good Will is an intangible asset and so can be classed in the same category as patents, trade-marks and copyrights for consideration of taxes, it differs from all the others in many important particulars and is subject to several special rules laid down by the Internal Revenue officials. The necessity of these will be apparent when the peculiarities of this asset are outlined. Good Will is an asset of great worth in many instances, but is so elusive in its nature that even its definition is difficult. The one most frequently quoted is that given by Lisle in his book "Accounting in Theory and Practice"-"Good Will is the monetary value placed upon the connection and reputation of a mercantile or manufacturing concern, and discounts the value of the turnover of a business in consequence of the probability of the old customer's continuing." The modern view seems to have grown away from the older idea that good will attaches to the place of doing business, or solely to the name of the concern, one of the English cases stating: "Good Will, I apprehend, must mean, every advantage that has been acquired by the old firm in carrying on its business, whether connected with the premises in which the business was previously carried on, or with the name of the late firm, or with any other matter carrying with it the benefit of the business." Some of the peculiarities of good will as an asset are: 1. It has no definite duration-no fixed term of life. 2. It may increase or decrease in value as a capital asset even though it is not carried on the books at all, and though every expenditure tending to build it is charged off each year as current expense. 3. It is incapable of depreciation or appreciation on the books of a company-the amount at which it is stated in a balance sheet being meaningless except as an indication of what it may have cost in the first instance. No one would buy or sell good will on the basis of the book valuation, its value being computed anew in case of sale. 4. Any profit or loss resulting from an investment in good will can be taken only when the business, or a part of it to which the good will attaches, is sold (or in some exceptional cases the loss may be charged when the good will has become obsolete). Because of these and other peculiarities, its treatment on the books of a company is quite different from the accounting for patents, for example, and the Treasury Department has set down the following rules for guidance in the disposition of this asset as affecting income tax returns: A. REGARDING INCOME FROM SALE OF GOOD WILL. "Any profit or loss resulting from an investment in good will can be taken only when the business, or a part of it, to which the good will attaches, is sold, in which case the profit or loss will be determined upon the basis of the cost of the assets, including good will, or their fair market value as of March 1, 1913, if acquired prior thereto. If nothing was paid for good will acquired after February 28, 1913, no deductible loss is possible, although, on the other hand, upon the sale of the business there may be a profit. It is immaterial that good will may never have been carried on the books as an asset, but the burden of proof is on the taxpayer to establish the cost or fair market value on March 1, 1913, of the good will sold." (Art. 41, Reg. 45, Rev.) "Good will does not represent a value attaching to physical property. It is held to be an intangible asset whose value, separate and apart from the business with which it is connected, is not capable of determination." (Par. 123, Reg. 33, Rev.) "Any loss resulting from or on account of an investment in good will can be determined only when the property or business to which the good will attaches is sold or disposed of, in which case the profit or loss will be determined upon the basis of the value of the assets, including good will, if acquired prior to March 1, 1913, or their cost, if acquired subsequent to that date." (Art. 167, Reg. 33, Rev.) B. REGARDING ATTEMPTED REDUCTION OF ANNUAL INCOME BY DEPRECIATING GOOD WILL ON THE Books. The old rule was: "For the purpose of income tax, good will is capable of neither depreciation nor appreciation. An amount claimed to represent its decline in value is not an allowable deduction from gross income in computing the tax liability of an individual or corporation." (Par. 123, Reg. 33, Rev.) "Good will' represents the value attached to a business over and above the value of the physical property, and is such an intangible asset that it is not subject to wear and tear, and no claim for depreciation in connection therewith can be allowed." (Art. 167, Reg. 33, Rev.) "No deduction will be allowed for the depreciation of good will, trademarks, and trade brands." (Art. 168, Reg. 33, Rev.) These regulations were promulgated on January 2, 1918, and applied particularly to the Acts of September 8, 1916, and October 3, 1917. The more recent regulations, Reg. 45, promulgated April 17, 1919, set forth in Art. 163: "DEPRECIATION OF INTANGIBLE PROPERTY.-Intangibles, the use of which in a trade or business is definitely limited in duration, may be the subject of a depreciation allowance. Examples are patents and copyrights, licenses and franchises. Intangibles, the use of which in a business or trade is not so limited, will not usually be a proper subject of such an allowance. If, however, an intangible asset acquired through capital outlay is known from experience to be of value in a business for only a limited period, the length of which can be estimated from experience with reasonable certainty, such intangible asset may be the subject of a depreciation allowance, provided the facts are fully shown in the return or prior thereto to the satisfaction of the Commissioner. There can be no such allowance in respect of good will, trade names, trademarks, trade brands, secret formulae, or processes." but on October 7, 1919, by Treasury Decision 2929, this Article was modified by eliminating the sentence reading "There can be no such allowance in respect of good will, trade names, trade-marks, trade brands, secret formulae, or processes." Just what effect this decision will have on depreciation of good will by going concerns is not apparent. The rulings so far published on the subject have been made in cases dealing with distillers, brewers, and dealers in liquor, in their new status created by the enactment of the prohibition laws, and apparently specify the treatment to be accorded tax returns in exceptional cases. "(1) Distillers and dealers in liquors are entitled to make a deduction (based upon actual cost or fair market value as at March 1, 1913) from gross income, on account of depreciation or obsolescence of their intangibles, such as good will, trade-marks, trade-brands, etc., such deductions being limited to assignable assets, the value of which has been destroyed by prohibition legislation, and (2) in arriving at the taxable income for the first taxable year ending on or after January 31, 1918, the obsolescence fully accrued on that date is to be allowed as a deduction in computing the income subject to taxation under the Revenue Act of 1918, plus a further deduction of such proportion of the remaining value of the intangible assets as the interval between January 31, 1918, and the end of the taxable year bears to the total interval between January 31, 1918, and January 16, 1920 (unless at an earlier date the taxpayer discontinues his business, in which case such earlier date shall mark the close of the period), and (3) for any taxable year following the taxable year just referred to a deduction in respect of the value of such intangible assets on January 31, 1918, based upon a ratable distribution, will be permissible." (T. B. R. 44. 15-19-445.) "Deductions from gross income on account of depreciation or obsolescence of intangibles, such as good will, trade-marks and trade-brands, allowed distillers and dealers in liquors, are also applicable to brewers." (O. D. 298. 24-19-565.) "Obsolescence is not ordinarily applicable in the case of intangibles, but will be allowed in exceptional cases, as in the case of the discontinuance of a going business because of the exhaustion of its source of supply, where the cost of the good will, or its value as of March 1, 1913, if acquired prior to that date, can be definitely shown and the period of its obsolescence determined with reasonable accuracy." (O. D. 472. 17-20-884.) |