Rev. Rul. 58-479

Advice has been requested (1) whether amounts paid by marine suppliers as commissions to various personnel of ships of foreign registry are deductible as ordinary and necessary business expenses under section 162 of the Internal Revenue Code of 1954; and (2) whether such amounts are subject to income tax withholding under section 1441 of the Code.

The taxpayer, a marine supplier, otherwise known as a `ship chandler,' operates such business at a seaport of the United States. The taxpayer services both American and foreign ships with supplies. It is the taxpayer's practice, with respect to `tramp steamers' of foreign registry, to pay commissions to the masters of such ships in return for the placing of orders with the taxpayer. Under this practice, the shipmaster arranges for supplies with a particular ship chandler, and after such supplies are placed aboard ship, receives a pre-arranged percentage of the supply invoice, in cash, as a commission, for his sole benefit, from the ship chandler. The ship owners are aware of such practice.

Section 162 of the Code provides in part:

(a) IN GENERAL.-There shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including-

In interpreting the requirement that an expense be ordinary and necessary in order to be deductible for Federal income tax purposes, the word `ordinary' has consistently been given the connotation of normal, usual, or customary. An expense is ordinary where experience shows that payments for such item are the common and accepted practice in the field of business involved. An expense is necessary where it is appropriate and helpful in the development of the taxpayer's business. See Thomas H. Welch v. Helvering , 290 U.S. 111, Ct. D. 755, C.B. XII-2, 112 (1933); and Pearl E. Deputy et al. v. Pierre S. duPont , 308 U.S. 488, Ct. D. 1435, C.B. 1940-1, 118. Where an expense qualifies as ordinary and necessary, deduction will not be denied unless the payment of such expense frustrates sharply defined national or state policy. See Thomas B. Lilly v. Commissioner , 343 U.S. 90, Ct. D. 1741, C.B. 1952-1, 16.

Section 1441(a) of the Code provides for the withholding of tax equal to 30 percent of any income items specified in subsection (b) of that section received by a nonresident alien individual to the extent that such items constitute gross income from sources within the United States. Items which constitute such gross income are enumerated in subsection (b) in part, as follows:

(b) INCOME ITEMS.-The items of income referred to in subsection (a) are * * *, dividends, rent, salaries, wages, premiums, annuities, compensations, remunerations, emoluments, or other fixed or determinable annual or periodical gains, profits, and income, * * *.

O.D. 907, C.B. 4, 232 (1921) holds that a commission paid on account of a single transaction does not constitute fixed or determinable annual or periodical income.

S.M. 975, C.B. 1, 184 (1919) holds that the winnings of horses at a racetrack are not fixed or determinable annual or periodical income subject to the withholding of tax.

G.C.M. 21575, C.B. 1939-2, 172, holds that prizes awarded to nonresident alien artists for the best pictures exhibited in the United States do not come within the meaning of fixed or determinable annual or periodical income and are not, therefore, subject to the withholding of tax.

Section 1.1441-2(a) of the Income Tax Regulations provides that the term `fixed or determinable annual or periodical' income is merely descriptive of a class of income. The fact that an item is paid in a lump sum or in repeated payments is immaterial so long as such item falls within the class of income contemplated by the statute. Income is fixed when it is to be paid in amounts definitely predetermind. Income is determinable whenever there is a basis of calculation by which the amount to be paid may be ascertained. In Commissioner v. Pelham G. Wodehouse , 337 U.S. 369, Ct. D. 1722, C.B. 1949-2, 62, the Supreme Court of the United States, in determining that a single payment to a nonresident alien author for publication rights to a story constituted income subject to the withholding of tax under section 143(b) of the Internal Revenue Code of 1939 (now section 1441 of the 1954 Code), stated:

Fixed and determinable income, from a tax standpoint, may be received either in annual or other payments without altering in the least the need or the reasons for taxing such income or for withholding a part of it at its source. One advance payment to cover the entire 28-year period of a copyright comes within the reason and reach of the Revenue Act as well as, or even better than, two or more partial payments of the same sum.

Similarly, in Sax Rohmer et ux. v. Commissioner , 153 Fed.(2d) 61, certiorari denied, 328 U.S. 862, it was held that a lump-sum payment for publication rights, made to a nonresident alien, constituted fixed or determinable annual or periodical income from sources within the United States.

The transactions involved in O.D. 907, S.M. 975, and G.C.M. 21575, supra , to the extent that they relate to what constitutes fixed or determinable annual or periodical income, are now considered to be, for Federal income tax purposes, within the meaning of the Wodehouse and the Rohmer decisions, supra .

The facts in the instant case indicate that the payment of the commissions in question is a trade custom practiced for over 100 years. Such custom prevails not only in all of the larger coastal ports of the United States but also throughout the world. The practice is such a standard procedure that a shipmaster denied the commission by one ship chandler will take his business elsewhere. The practice is known to the ship owners and is recognized as a legitimate means of supplementing the relatively small salary of the foreign shipmaster. See Frank J. Valetti et ux. v. Commissioner , 28 T.C. 692 acquiescence, page 8, this Bulletin; Eugene Richardson et al. v. Commissioner , T.C. Memo 1957-122; Alexander Fiambolis et ux. v. United States , 152 Fed.Supp. 10.

Accordingly, it is held that payments as commissions by a marine supplier to masters or other personnel of `tramp steamers' of foreign country registry, where normal, usual, and customary in the industry, appropriate and helpful in obtaining business, and with the knowledge and consent of the ship owners, are deductible as ordinary and necessary business expenses under the provisions of section 162(a) of the Code.

Such amounts paid to shipmasters or to other personnel are subject to the withholding of Federal income tax under section 1441 of the Code.

Pursuant to the authority contained in section 7805(b) of the Code, this Revenue Ruling will be applied prospectively only, beginning November 1, 1958, with respect to the withholding of tax on amounts so paid to shipmasters or to other ship personnel.

The application of the provisions of any of the bilateral tax conventions to which the United States is a party to the recipient of such commissions will be determined by the facts existing in the particular case.

O.D. 907, S.M. 975, and G.C.M. 21575, supra , are hereby revoked.