Biggs, Seitz and Gibbons, Circuit Judges.
Appellant taxpayer seeks review, pursuant to 26 U.S.C. § 7482, of the decision of the Tax Court which disallowed a claimed embezzlement loss deduction for the taxable year ending June 30, 1962 on the ground that taxpayer had a reasonable prospect of recovery until 1964. At issue is the year of deductibility of an embezzlement loss of $33,013.37. If the taxpayer is entitled to the claimed deduction in 1962, net operating loss carrybacks to the years ending June 30, 1959, June 30, 1960, and June 30, 1961 will result.
Taxpayer, a New Jersey corporation, was in the years in question engaged in the retail food and liquor business in Clayton, New Jersey. Its 40 shares of $1,000 par value common stock were owned 50 per cent by Jean Wlodkowski, 25 per cent by Edmund Jezemski, and 25 per cent by Apolonia Jezemski. Apolonia Jezemski is the wife of Edmund Jezemski, but in 1962 they were estranged and had been living apart since 1959. Jean Wlodkowski was the president of taxpayer, and Edmund and Apolonia Jezemski its vice-president and secretary-treasurer respectively.
Apolonia Jezemski kept all of taxpayer's books, attended to its banking details, received the bank statements, and reconciled those statements with taxpayer's books. In November, 1961 Apolonia requested her husband and Jean Wlodkowski to distribute to her what she considered to be her share of petitioner's bank deposits. When they refused, she told them she would get her money. Nevertheless they continued the arrangement whereby she was in charge of taxpayer's books and received its bank statements.
During the taxable years in issue taxpayer maintained a checking account at the Clayton National Bank, Clayton, New Jersey. Checks drawn on this account required the signatures of all three of taxpayer's officers. No running balance was maintained in the taxpayer's checkbook. Hence the monthly bank statements were the only indications available to the corporate officers of its bank balance. These statements showed balances as follows:
$46,675.07 January 30, 1962
47,331.71 February 26, 1962
49, 733.95 March 23, 1962
Between February 2, 1962 and May 7, 1962, twelve checks totaling $36,513.37 were drawn on the account, on which Apolonia forged the signatures of the other two officers. Of this sum, $3,500 was redeposited on March 7, 1962. Thus the total loss was $33,013.37. Jean Wlodkowski and Edmund Jezemski never looked at either the February 26, 1962 statement, on which one forged item of $3,500 appeared, or the April 30, 1962 statement, on which three forged items appeared. They did see the March 23, 1962 statement, and failed to observe that the March 7, 1962 deposit of $3,500 (equal in amount to the $3,500 February forgery) had been erased from the statement after it left the bank. They did not check individual items. The May 14, 1962 statement came to Edmund Jezemski's attention and for the first time he noticed a large discrepancy between opening and closing balances and examined the checks. On May 17, 1962 he notified the bank of the forgeries.
Although the Commissioner contended in his notice of deficiency that the withdrawals were distributions of profits and capital to a stockholder-officer, he now concedes that Apolonia's withdrawals by forged checks are thefts within the meaning of 26 U.S.C. § 165(e). The Tax Court found, and it is not disputed, that none of the embezzlements were ever reimbursed from any source and that in 1962 there was no reasonable prospect of recovery from Apolonia. There is no question but that the loss was discovered in 1962. See 26 U.S.C. § 165(e).
Despite their failure to take even the most elementary precaution of examining bank statements and checks when they had prior notice of Apolonia's hostility, Jean and Edmund in August, 1962 caused the taxpayer to file a civil suit in the Gloucester County Court against the bank on the ground that it should not have honored the forgeries. The Gloucester County Court entered judgment on August 2, 1963 for taxpayer in the amount of $33,013.37, but the Superior Court of New Jersey, Appellate ...