erty value not resulting from wear and tear and obsolescence. The proper allowance for such depreciation of any property used in a taxpayer's trade or business is that amount which should be set aside for the taxable year in accordance with a reasonably consistent plan by which the aggregate of such amounts for the useful life of the property in the business will suffice, with the salvage value, at the end of such useful life to provide in place of the property its original cost or its March 1, 1913, value, whichever is greater, if acquired prior thereto. In every instance the amount of depreciation allowable depends upon the actual facts in the case, consequently, this office is unable to give any advice on the rate of depreciation. While the burden of proof must rest on the taxpayer to sustain the deduction taken by him, such deduction will not be disallowed unless shown to be unreasonable. Under the provisions of the Revenue Act of 1924, the capital sum to be replaced by depreciation allowance is the cost of the property in respect of which allowance is made, except that in the case of property acquired by the taxpayer prior to March 1, 1913, the capital sum to be replaced is the cost or the March 1, 1913, value, whichever is greater. In the absence of proof to the contrary, it will be assumed that the value as of March 1, 1913, is the cost of the property less depreciation up to that date. The method usually employed and which has been approved by the Commissioner, is that known as the "fixed percentage" method which contemplates that the actual depreciation deductions with respect to any property shall be equal and spread ratably over the probable useful life of the property. This is the same as the 'straight line basis' referred to by you. Accrued depreciation Up to this point the discussion has been directed largely toward the determination of the fair annual depreciation allowance in water works accounting. There is concerned also, however, in the determination of the fair value of the property as it stands, the reasonable deduction for accrued depreciation. As in the case of fair annual depreciation allowance, the accrued 2 Art. No. 166 of the Regulations 65 relating to the income tax under the Revenue Act of 1924, pages 55-58, issued by the Department to its Local Bureaus, limits the allowances to be made for obsolescence: "Art. 166. Obsolescence. No deduction for obsolescence will be permitted merely because, in the opinion of a taxpayer, the property may become obsolete at some later date. This allowance will be confined to such portion of the property on which obsolescence is definitely shown to be sustained and cannot be held applicable to an entire property unless all portions thereof are affected by the conditions to which obsolescence is found to be due." depreciation must be determined by the exercise of seasoned judgment, in the light of a knowledge of the past and probable future of the continuing plant, the results of a thorough inspection of structures and character of service rendered, and the determination of accrued depreciation by methods similar to those used in determining the fair annual depreciation allowance. Experience has shown that, as in the case of the railroads or other public utility properties rendering continuous service, any water works property comes to have a fairly uniform normal condition with respect to accrued depreciation, provided no serious deferred maintenance modifies this condition. To say that a water works property is fifty years old, when the average life of its structures may be sixty years, does not mean that 50/60ths of its value is gone, because it is to be remembered that during the fifty-year life history of the plant annual betterments have been made and from period to period of fifteen years more or less, important additions involving additional sources of supply, filter plants, additional major pipe lines, etc., have been built. Generally speaking, therefore, it may be said that in the relatively new properties of twenty years' age, more or less, experience has shown that the accrued depreciation is not likely to exceed 8 to 10 per cent. In the case of the older properties built forty or fifty years ago, for instance, the accrued depreciation is not likely to exceed 13 to 16 per cent. The variations due to character of plant, discussed with reference to fair annual depreciation allowances, apply also in the determination of the fair accrued depreciation allowance. In this connection it is significant to note that in the suit of the Spring Valley Water Company before the Federal Court of the District of California; as in that of the Denver Union Water Company before the Federal Court of the District of Colorado, subsequently appealed to and affirmed by the Supreme Court of the United States-the masters rejected the results of the application of the straight-line method of determining accrued depreciation and adopted the results of the application of a 4 per cent sinking fund as an aid to judgment in determining fair allowance for accrued depreciation. In the Spring Valley suit, with a property about fifty-five years old, the allowance for accrued depreciation was fixed TABLE 49 Accrued depreciation upon property of the Denver Union Water Company Abstract from the report of Special Master W. J. Chinn, Esq., in Denver Union Water Company vs. City and County of Denver. District Court of the United States, District of Colorado. Valuation as of May 1, 1914. Plant forty-four years old. C. Lake Cheesman Division-masonry dam and appurtenances.... 2.4 D. Intake Platte Canon diverting dam, intake chamber, racks and sluiceways... 1.3 E. Raw water Conduits-wood stave pipe, masonry intake, sand trap, etc...... 1.2 F. South Platte Canon Division-infiltration galleries, sedimentation basins, slow sand filters, pumps, earth reservoirs, buildings. 11.6 G. Raw water conduits-rapid filters (wood stave pipe and wood tanks). . . . . 38.9 H. Clear water conduits-wood stave.. 16.8 I. Bear Creek Division-flumes, earth reservoirs, masonry gate house, rapid sand filters (wood) buildings. 10.8 J. Littleton and Wynetka-buildings, flour mill, etc... 16.6 3.7 L. Cherry Creek Division-infiltration galleries, wood stave pipe, reservoir........... 4.9 M. Mississippi Avenue Division-infiltration galleries, wood stave pipe... . . 15.4 N. West Denver Station-open masonry reservoirs, power 38.3 17.2 P. Ashland Avenue Station-earth reservoir, wooden pumping station building and machinery.. 45.1 * The percentages here given have been figured from the amounts in dollars given by the Master. 543 by the Master at 13.9 per cent (on straight-line basis the Master found that the accrued depreciation would have amounted to 31.2 per cent which he adjudged erroneous and incompatible with the observed excellence of the plant); and in the Denver case, with a property forty-four years old, about 12.7 per cent. The latter is shown in greater detail in table 49. CHAPTER XXIII FINANCIAL REQUIREMENTS OF WATER WORKS FOR PROVIDING BETTERMENTS AND EXTENSIONS Good service at fair rates is the secret of success in water works enterprises. To provide good service, extensions and improvements must be made continually. The financing of these, and of renewals deferred during the great war, has been very difficult. It has involved careful study, resourcefulness, and important work in molding public opinion. Privately owned water plants are now generally under the control of state regulatory commissions, subject to the final jurisdiction of the Courts. These commissions pass upon problems of service, rates, and security issues. Credit determines borrowing capacity. Rates must be maintained to provide credit for financing new construction work. Rates producing less revenue than needed for maintaining sound credit usually involve loss in return to the property and inadequate service to the public. The above principles relating to privately owned plants are so well known as to be axiomatic to many water works men. Reference is here made to the section on Valuation and Rate-making. There are publicly owned water works needing improvements in many cities where it is difficult to secure needed funds, for one reason or another. To water works men facing such circumstances it is of interest to note the experiences of a few cities which have made progress in overcoming inadequate financial arrangements in order to proceed with needed betterments. Buffalo The Water Bureau of Buffalo has had a number of interesting experiences some of which relate to difficulties which ought not to exist with any city-owned plant. Results accomplished in putting the water department on a sounder financial basis offer a number of items worthy of note. In 1920 rising prices for labor and materials accentuated a condition which had been becoming acute through |