author: Teammell:

text:
    Corner Broadway-Maiden Lane, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 64176.
    Promulgated January 16, 1934.

      James 0. 'Wynn, Esq., and Robert H. Montgomery, G.P.A., for the petitioner.

      J. M. LeinenJcugel, Esq., for the respondent.
   OPINION.

Teammell:

This proceeding is for the redetermination of a deficiency in income tax of $572.26 for 1929. The only matter in controversy is the correctness of the respondent’s action in determining the petitioner’s tax liability on a separate rather than a consolidated basis. The proceeding was submitted upon a stipulation of facts, the pertinent portions of which are as follows:

The Lawyers Title and Guaranty Company is and was during the whole of the calendar year 1920 an insurance company organized under the Insurance Laws of the State of New York, and was subject to- the tax imposed by -Section 204 of the Revenue Act of 1928.
The said Lawyers Title and Guaranty Company owned during the taxable year 1929 all of the capital stock.of Lawyers Realty Company, a corporation of the State of New York, and all of the capital stock of Lawyers Trust Company, a corporation of the State of New York.
The said Lawyers Realty Company owned during the taxable year 1929 all of the capital stock of the following corporations of the State of New York:
Corner Broadway-Maiden Lane, Inc. (the petitioner herein)
Liberty Place Holding Corporation
2-4 Maiden Lane Corporation (name changed in 1930 to 170 Broadway Holding Corporation)
For the taxable year 1929, the said Lawyers Trust Company reported its income in a consolidated return, including in said return the income and losses for the year 1929 of the said Lawyers Realty Company, said Corner Broadway-Maiden Lane, Inc., said Liberty Place Holding Corporation and the said 2-4 Maiden Lane Corporation (later 170 Broadway Holding Corporation) pursuant to the provisions of Section 141 of the Revenue Act of 1928. Said return for the calendar year 1929 also included net losses incurred by the said 2-4 Maiden Lane Corporation (later 170 Broadway Holding Corporation) for the years 1927 and 1928.
The deficiency asserted by the respondent for the calendar year 1929 was caused by the denial by the respondent of the right of the said Lawyers Trust Company to file a consolidated return and to apply the losses sustained by the said 2-4 Maiden Lane Corporation (later 170 Broadway Holding Corporation) against the consolidated net income shown in the said consolidated return. The deficiency for said year is based upon the separate net income of the petitioner.

The petitioner’s assignment of error, which was denied by the respondent, is stated in the petition as follows:

(a) The respondent has erred in determining that the petitioner during the taxable year 1929 was not affiliated with any of the corporations, hereafter listed, within the provisions of Section 141 of the Revenue Act of 1928:
Lawyers Title and Guaranty Company
Lawyers Trust Company
Lawyers Realty Company
Liberty Place Holding Corporation
2-4 Maiden Lane Corporation;
and in determining that the Lawyers Trust Company did not file a proper consolidated income tax return for the year 1929, including therein the income and losses respectively of the petitioner, of the said Liberty Place Holding Corporation, said Lawyers Realty Company, and said 2-4 Maiden Lane (lorporation.

'L’he pertinent provisions of the Revenue Act of 1928 are as follows:

SEO. 141. CONSOLIDATED RETURNS OF CORPORATIONS-1929 AND SUBSEQUENT TAXABLE TEARS.
(a) Privilege to file consolidated returns. — An affiliated group of corporations shall, subject to the provisions of this section, have the privilege of making a consolidated return for the taxable year 1929 or any subsequent taxable year, in lieu of separate returns. The making of a consolidated return shall be upon (he condition that all the corporations which have been members of the affiliated group at any time during the taxable year for which the return is made consent to all the regulations under subsection (b) prescribed prior to the making of such return; and the making of a consolidated return shall be considered as such consent. In the case of a corporation which is a member of the affiliated group for a fractional part of the year the consolidated return shall include the income of such corporation for such part of the year as it is a-member of the affiliated group.
(b) Regulations. — The Commissioner, with the approval of the Secretary, shall prescribe such regulations as he may deem necessary in order that the tax liability of an affiliated group of corporations making a consolidated return and of each corporation in the group, both during and after the period of affiliation, may be determined, computed, assessed, collected, and adjusted in such manner as clearly to reflect the income and to prevent avoidance of tax liability.
(c) Computation and payment of taro. — In any ease in which a consolidated return is made the tax shall be determined, computed, assessed, collected, and adjusted in accordance with the regulations under subsection (b) prescribed prior to the date on which such return is made. Only one specific credit, computed as provided in section 26 (b), shall be allowed in computing the tax.
(d) Definition of “affiliated group". — As used in this section an “affiliated group” means one or more chains of corporations connected through stock ownership with a common parent corporation if—
(1) At least 95 per centum of the stock of each of the corporations (except the common parent corporation) is owned directly by one or more of the other corporations; and
(2) The common parent corporation owns directly at least 95 per centum of the stock of at least one of the other corporations.
As used in this subsection the term “ stock ” does not include nonvoting stock which is limited and preferred as to dividends.
(e) A consolidated return shall be made only for the domestic corporations within the affiliated group. An insurance company subject to the tax imposed by section 201 or 204 shall not be included in the same consolidated return with a corporation subject to the tax imposed by section 13.

Pertinent portions of Regulations 75 issued pursuant to the provisions of subdivision (b) of section 141, supra, are as follows:

Abt. 1. Privilege of Filing Consolidated Returns.
(a) Section 141 gives to the corporations of an affiliated group the privilege of making a consolidated return for the taxable year 1929 or any subsequent taxable year, in lieu of separate returns. This privilege, however, is given upon the condition that all corporations, which have been members of the affiliated group at any time during the taxable year for which the return is made consent to these regulations, and any amendments thereof duly prescribed prior to the making of the return and applicable to such year; and the making of the consolidated return is considered as such consent.
* * * * * * *
Abt. 10. — Exercise of Privilege.
(a) Must be Fwercised at Time Parent Piles Return.
The privilege of making a consolidated return for any taxable year of an affiliated group must be exercised at the time of filing the return of the parent corporation for such year. Under no circumstances can such privilege be exercised at any time thereafter. If the privilege is exercised at the time of filing the return, separate returns can not thereafter be filed for such year. (See, however, article 18, relating to the improper inclusion in the consolidated return of the income of a corporation.)
* i'fi * ⅜ * * *
Aet. 12. — Filing Consolidated Return and other Forms.
(а) Consolidated, Return Filed by Parent.
A consolidated return shall be made on Form 1120 by the parent corporation for the affiliated group. Such return shall be filed, at the time and in the office of the collector of the district, prescribed for the filing of a separate return by such corporation. (See article 401 of Regulations 74.)
* ⅜ ⅜ ⅜ ⅜ ⅜ ⅜
Art. 18. — Failure to Comply with Regulations.
* * ⅜ ⅜⅞ ⅜ ⅜ ⅜
(б) Parent Incorrectly Designated in Consolidated Return.
If a consolidated return includes a corporation as the parent and such corporation was not (under the provisions of section 141 of the Act) the parent, the tax liability of each corporation included in the return will be computed in the same manner as if separate returns had been filed, unless, upon application, the Commissioner approves the making of a consolidated return, or unless under article 11 a consolidated return is required for such year.
* * ⅝ ⅜ * * *

The petitioner contends that the consolidated return filed by the Lawyers Trust Co. for 1929, in which the income of the petitioner was included, was a proper return under the provisions of section 141 of the Act of 1928. The respondent contends that if a consolidated return was permissible for the Lawyers Trust Co., the Lawyers Realty Co. and its subsidiaries such return was, under article 12 of Regulations 75, required to be filed by the parent corporation, the Lawyers Title & Guaranty Co., and not by the Lawyers Trust Co., and that under article 18 the filing of such return by the Lawyers Trust Co. as parent of an affiliated group, when in fact it was not the parent corporation, results in the petitioner and each of the other corporations being subject to a tax computed in the same manner as if separate returns had been filed.

Subdivision (b) of section 141 expressly authorized the respondent to prescribe regulations relating to the filing of consolidated returns by affiliated groups of corporations. Regulations 75 were prescribed by the respondent pursuant to such express authorization. By article 12 a consolidated return for an affiliated group of corporations is required to be made by the parent corporation, hlo exception is permitted to that requirement. The first question to be decided is whether this is a valid requirement. The petitioner advances no argument or objection as to why it is not valid. We not only find none ourselves, but see much in support of it. Under these circumstances we think the validity of the requirement must be sustained. Article 18 provides that if a consolidated return includes a corporation as the parent and such corporation was not, under the provisions of section 141 of the act, the parent, the tax liability of each corporation included in the return will be computed as if separate returns had been filed. There are two exceptions to this requirement, but they are not present in the instant proceeding and are therefore not material to our consideration here. The petitioner has advanced no argument or objection directed to the reasonableness or validity of the foregoing provision of article 18. As we see no valid objection to it ourselves we think its validity should be sustained.

The consolidated return involved in this proceeding was made by the Lawyers Trust Co., acting as parent, and in addition to its income and deductions included those of the Lawyers Realty Co. and its subsidiaries, among which was the petitioner. Since the Lawyers Trust Co. owned no stock in the Lawyers Realty Co. nor its subsidiaries and it is not shown that it owned any in the Lawyers Title & Guaranty Co., it seems clear that it was not the parent of the group of corporations for which the consolidated return in controversy was made, notwithstanding that it was a member of the group.

Article 12 of Regulations 75 required that a consolidated return for an affiliated group be made by the parent corporation. The parent corporation of the Lawyers Trust Co. and the Lawyers Realty Co. was the Lawyers Title & Guaranty Co. Under article 12 a consolidated return in which those companies, as well as the petitioner and the other subsidiaries of the Lawyers Realty Co., were to be included, was required to be made by the Lawyers Title & Guaranty Co., which was the parent corporation, even though under the statute its income and deductions were not to be included therein. The return was not made by the Lawyers Title & Guaranty Co., but by the Lawyers Trust Co., as parent. Under article 18 this action resulted in rendering the petitioner taxable as though a separate return had been made. In view of the foregoing we think the respondent’s determination must be sustained. In reaching this conclusion we are not called upon to decide, nor do we decide, whether a consolidated return made for itself and subsidiaries by a corporation situated as was the Lawyers Realty Co. in this case would be proper.

Reviewed by the Board.

Judgment unit be entered for the respondent.


source: Caselaw Access Project

author: Seawell:

license: Public Domain

text:
    The Peerless Pattern Company, Petitioner, v. Commissioner of Internal Revenue, Respondent. Illustrated Fashion Features, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 54291, 59360, 59361.
    Promulgated January 16, 1934.

      Noah A. StanoUffe, Esq., and Theodore L. Harrison, Esq., for the petitioners.

      O. J. Tall, Esq., for the respondent.
   OPINION.

Seawell:

The record shows that the same individual, John H. Wright, owned all the outstanding common stock of To-day’s Housewife, Inc., during the years 1926,1927, and 1928, and also owned, from October 18, 1926, during the remainder of that year and throughout 1927 and 1928, over 95 percent of the outstanding common stock of the Peerless Pattern Co. It is further shown that at the time of its incorporation, May 10, 1927, he acquired and continued to own through 1927 and 1928 all the outstanding capital stock of the Illustrated Fashion Features, Inc.

It is seen, therefore, that all three companies after May 10, 1927, were affiliated throughout the years 1927 and 1928.

For the year 1926 separate returns were filed by the Peerless Pattern Co. and To-day’s Housewife, Inc., and one of the questions for our determination is whether the filing of separate returns in 1926 as heretofore stated constituted an election to file on a separate basis which was binding with respect to the years 1927 and 1928 for those two companies and Illustrated Fashion Features, Inc., with which they became affiliated during 1927 and 1928, in the absence of permission from the Commissioner to file on a consolidated basis for those years.

The petitioners insist that the filing on a separate basis as stated, in the circumstances disclosed by the record, did not constitute an election to file thereafter on a separate basis; that the period of affiliation of the Peerless Pattern Co. and To-day’s Housewife, Inc., during 1926 was an unsubstantial period and that the business transacted by the two companies during such period of affiliation in 1926 was so small in comparison with the total business transacted during the entire year 1926 that it was thought unnecessary to obtain permission from the Commissioner to change from the separate basis on which returns had been made in 1926 to the consolidated basis in 1927 and 1928. The record, however, shows that there was in 1926 no material advantage to the two companies in filing a consolidated return and separate returns were then filed.

It was obviously not the purpose of the. statute to allow affiliated corporations to change their policy of filing separate returns or consolidated returns, depending upon the advantage to be derived in a particular year. The fact that in the instant case in the year 1926 the tax would have been practically the, same whether the returns were filed on a separate or a consolidated basis, did not in our opinion relieve the then affiliated companies of the necessity of making an election as to how returns would be filed, nor was an election dispensed with because the amount of the business transacted was not larger during the two and one half months in 1926 the Peerless Pattern Co. and To-day’s Housewife, Inc., were affiliated. In our opinion, and we so hold, the filing of separate returns in 1926 by these companies constituted an election.

The Courts and this Board have held that, when affiliated corporations elect to file separate returns for years in which an election is granted, consolidated returns may not be filed for succeeding years without the approval of the Commissioner. Brownsville Ice & Storage Co., 18 B.T.A. 439; Baird Machine Co., 19 B.T.A. 801; Alameda Investment Co. v. McLaughlin, 33 Fed. (2d) 120; Lucas v. St. Louis National Baseball Glub, 42 Fed. (2d) 984; certiorari denied, 282 U.S. 883. The Board has also held that when two or more affiliated companies elect to file separate returns for a year during which an election might be made, consolidated returns may not be filed by those companies for subsequent years or by other companies with which they might become affiliated during such subsequent years, without permission of the Commissioner. B. Mifflin Hood Brick Co., 19 B.T.A. 785; Harbour-Longmire Co., 18 B.T.A. 33; Imperial Assurance Co., 19 B.T.A. 1068. Such were our determinations with respect to the Revenue Act of 1921, and the provisions regarding the question of election are practically the same in the Revenue Acts of 1921, 1924, 1926, and 1928, and similar conclusions have been reached in proceedings arising under the Revenue Act of 1926. A. S. Siracusa Sons, Inc., 23 B.T.A. 53; Cavanaugh Brothers Garage, 25 B.T.A. 935. In Marvel Equipment Co., 26 B.T.A. 515, we held that, where two affiliated corporations elected to file separate returns for the years 1925 and 1926, they might not, without permission of the Commissioner, file a consolidated return for 1927, even though in the taxable year two other corporations Avere added to the affiliated group. On appeal to the Court of Appeals of the Third Circuit that court reversed the Board, 67 Fed. (2d) 354. The facts in that case, however, were different from those in the instant proceedings. In that case the petitioner was a member of a new group with a new dominant parent company and it was held that under the proper construction of section 240 (a) of the Revenue Act of 1926 the petitioner had the right to the benefit of a consolidated return to be filed by the parent corporation for the period of affiliation. The court held that the new parent corporation, which was not in existence in 1925 and 1926 (being incorporated in 1927 and in that year becoming the owner of all the stock of all the other companies), had the right in 1927 to determine the kind of return, whether separate or consolidated, to be filed by the affiliated group in that year. In its opinion the court said:

* ⅜ * If an affiliated group continues during a taxable year tbe addition of a corporation to tlie group or tbe dropping of a corporation from tbe group does not destroy the affiliation as a tax computing unit for tbe purpose of determining income and profits tax, provided tbe parent company remains tbe same when tbe additions and subtractions are made. Swift & Company v. United States, 38 Fed. (2d) 319, 373-375. * * *

In the instant proceedings the same individual, Wright — the same interest — that owned over 95 percent of the voting stock of the Peerless Pattern Co. and To-day’s Housewife, Inc., in 1926 owned the same during 1927 and 1928 and in those years also owned all the capital stock of the Illustrated Fashion Features, Inc. There was no new parent corporation or new ownership interest in 1927 and 1928 different from that in 1926, when an election was made and returns on a separate basis were filed. The same individual, Wright, who virtually owned and controlled two of the affiliated companies in 1926 likewise owned and controlled the three companies in 1927 and 1928. Such being the case and returns on a separate basis having been filed in 1926, the petitioners, in our opinion and we so hold, had no right, without permission of the Commissioner, to file returns on a consolidated basis in 1927 and 1928 and the action of the Commissioner in computing the tax liability of petitioners on the basis of separate returns for those years is approved. Cf. Albert Leon & Son, Inc., 29 B.T.A. 251.

In the instant proceedings, the Peerless Pattern Co. was obligated to pay the premiums on the ten life insurance policies, aggregating $100,000, on the life of John H. Wright (the president of the company and owner of more than 95 percent of its outstanding voting stock) so long as the bonds secured by the deed of trust remained unpaid.

Section 24 (a) (4) of the Revenue Act of 1928 (the same provision being found in section 215 (a) (4) of the Revenue Acts of 1918, 1921, 1924, and 1926) provides that in computing net income no deduction shall be allowed in respect of “ premiums paid on any life insurance policy covering the life of any officer or employee, or of any person financially interested in any trade or business carried on by the taxpayer, when the taxpayer is directly or indirectly a beneficiary under such policy.”

In certain contingencies it is obvious that financial benefit might accrue to the petitioner, the Peerless Pattern Co., by reason of the payment of the proceeds of the policies and their application towards payment of petitioner’s bond obligations. The Peerless Pattern Co. is, in our opinion, indirectly a beneficiary under the policies and we hold it is not entitled in computing its net income for 1928 to deduct the $3,540 expended by it in that year in the payment of premiums upon the insurance policies taken out and carried on the life of its president, John H. Wright. Rieck v. Heiner, 25 Fed. (2d) 453; Julius S. Rippel, 12 B.T.A. 438; J. H. Parker, 13 B.T.A. 115; Hewitt Grain & Provision Co. of Escanaba, 14 B.T.A. 281; Benjamin Barron, 14 B.T.A. 1022; William S. Phillips, 24 B.T.A. 98.

The record fails to show that Wright’s yearly salary of $10,400 was not a fair and reasonable salary or that he was entitled to more or an additional amount to the extent of the life insurance premiums, $3,540, paid as aforesaid. We are, therefore, of the opinion and hold that there is no error in the respondent’s determination of the income tax liability of the petitioners for any of the years in issue.

Judgment will be entered for the respondent in each of the three dockets.


author: Lansdon,

text:
    Helen V. Crocker, Petitioner, et al.,
      v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 33780, 36205, 39152, 43464, 46729-46731, 46743, 47213, 48656, 48739, 49169, 53938, 55708.
    Promulgated January 17, 1934.

      Herman Phleger, Esq., and T. R. Meyer, Esq., for the petitioners.

      Alva G. Baird, Esq., for the respondent.

       Proceedings of the following petitioners are consolidated herewith: William H. Crocker; William W. Crocker; Charles Crocker; Ethel W. Crocker; Ethel Mary de Limur; and Helen Crocker Russell.

   OPINION.

MaRQuette: These proceedings were consolidated for hearing. The respondent has determined the following - deficiencies in income tax:

The deficiencies for 1924 against the petitioners William H. Crocker and William W. Crocker are not contested. Since the respondent has determined no deficiencies against petitioner Ethel W. Crocker for 1924 and petitioner Helen Crocker Russell for 1928, we do not have jurisdiction to determine the deficiencies against these petitioners for these years.

These proceedings were submitted on the pleadings and on the following stipulation:

1. Universal Consolidated Oil Company was incorporated under the laws of the State of California on May 9, 1922, with an authorized capital stock of Ten Million Dollars ($10,000,000), divided into ten million (10,00,000) shares of the par value of One Dollar ($1) each.

2. Universal Oil Company was incorporated under the laws of the State of California on April 27, 1911, and on May 9, 1922, it had outstanding six hundred thousand (600,000) shares of capital stock of the par value of Ten Dollars ($10) per share. Its business consisted in owning and leasing oil properties and mining thereon for oil.

3. Devils Den Consolidated Oil Company was incorporated under the laws of the State of California on February 2, 1900, and on May 9, 1922, it had outstanding seventy-three thousand seven hundred sixty-two (73,762) shares of the par value of Ten Dollars ($10) per share. Its business consisted in owning and leasing oil properties and mining thereon for oil.

4. Under date of May 91, 1922, Universal Consolidated Oil Company—

(a) Acquired all of the business and assets and assumed all of the liabilities of Universal Oil Company by issuing to Universal Oil Company in payment therefor two million three hundred fifty-seven thousand eight hundred eighty-four (2,357,884) shares of the capital stock of Universal Consolidated Oil Company; and

(b) Acquired all of the business and assets and assumed all of the liabilities of Devils Den Consolidated Oil Company by issuing to Devils Den Consolidated Oil Company eight hundred eleven thousand three hundred eighty-two (811,382) shares of the capital stock of Universal Consolidated Oil Company.

5. The opening entries on the books of Universal Consolidated Oil Company showed:

Capital stock-$3,169,266
this being the aggregate par value of shares issued to Universal Oil Company and Devils Den Consolidated Oil Company in payment for their assets (subject to their liabilities). On December 31, 1923, a surplus of One Hundred Seventy-three Thousand Eight Hundred Seventy-three and ll/100th Dollars ($173,873.11) was recorded on the books as of May 9, 1922, as the result of a revaluation of certain properties. Said surplus constituted the only surplus recorded on the books of the new company as of the last named date. The only shares in addition to the above which were issued by Universal Consolidated Oil Company, at or prior to the acquisition of the properties and assets of the Universal Oil Company and Devils Den Consolidated Oil Company, were nine hundred (900) shares, being one hundred (100) shares issued to each of the nine (9) incorporators of the company at par for cash.
6. Sauer Doush Oil Company was incorporated under the laws of the State of California. On September 29, 1922, it had in its treasury five hundred fifty-eight thousand one hundred seventy-three (558,173) shares of the capital stock of Universal Consolidated Oil Company, which constituted substantially all its assets. On that date Universal Consolidated Oil Company offered to exchange 1.42 of its shares for each share of Sauer Dough Oil Company outstanding. As a result of this offer Universal Consolidated Oil Company issued five hundred sixty-one thousand three hundred ninety-seven (561,397) shares of its stock to stockholders of Sauer Dough Oil Company in exchange for their stock in Sauer Dough Oil Company, and later took over the assets of Sauer Dough Oil Company which consisted of stock of Universal Consolidated Oil Company.
7. The predecessor companies had an undistributed surplus as of May 9, 1922, and earned since March 1, 1913, of an amount in excess of all dividends paid by the Universal Consolidated Oil Company from the time of its organization (May 9,1922) to and including December 31, 1927.
8. Charles Crocker received dividends from Universal Consolidated Oil Company during the year 1924 amounting to Seventeen Thousand Six Hundred Sixty-three and 4/lOOtli Dollars ($17,663.04) and no more, and said Charles Crocker returned all of said dividends in his income tax return for the year 1924, and paid income tax thereon.
9. The following named petitioners received dividends or distributions from Universal Consolidated Oil Company during the following years, in the following amounts, and no more, and returned and paid income tax on the following amounts out of said dividends, and no more:
10.For the purpose of determining the taxability of dividends or distributions made by Universal Consolidated Oil Company during the years 1925, 1926 and 1927, it is stipulated that said corporation, since its incorporation on May 9, 1922, has had earnings or profits available for dividends, or losses, and has paid dividends or made distributions as follows:
provided, however, that the earnings above set forth should be reduced by the following amounts:
May 9, 1922, to Dec. 31, 1922_$3, 072. 35
1923_ 25, 891. 39
1924- 5,461. 66
if the court shall determine that the said amounts were not available for the payment of dividends under the following state of facts, which are hereby stipulated to:
During the year 1923 Universal Consolidated Oil Company paid the snm of Thirteen Thousand Three Hundred Ninety and 12/100th Dollars ($13,390.12) on account of income taxes for the period from May 9, 1922 to December 31, 1922. During the year 1924 Universal Consolidated Oil Company paid the sum of Twenty-eight Thousand Sis Hundred Seven and 83/100th Dollars ($28,607.83) on account of income tases for the year 1923. During the year 1925 Universal Consolidated Oil Company paid the sum of Five Thousand Four Hundred Sisty-one and 66/100th Dollars ($5,461.66) on account of income taxes for the year 1924. By a letter addressed by the Bureau of Internal Revenue to said Universal Consolidated Oil Company under date of July 16, 1931, the Bureau of Internal Revenue determined that said Universal Consolidated Oil Company had made an overpayment of income tases for the period from May 9, 1922 to December 31, 1922 amounting to Three Thousand Seventy-two and 35/100th Dollars ($3,072.35), and that Universal Consolidated Oil Company had made an overpayment of income taxes for the year 1923 amounting to Twenty-five Thousand Eight Hundred Ninety-one and 39/100th Dollars ($25,891.39). By Certificate of Overassessment No. 1097547, addressed by the Bureau of Internal Revenue to said Universal Consolidated Oil Company during the year 1928, the Bureau of Internal Revenue determined that said Universal Consolidated Oil Company had made an overpayment of income taxes for the year 1924 amounting to Five Thousand Four Hundred Sixty-one and 66/100th Dollars ($5,461.66). Said overpayment of Three Thousand Seventy-two and 35/100th Dollars ($3,072.35) for the period from May 9, 1922 to December 31, 1922 was refunded to said Universal Consolidated Oil Company during the year 1931. Said overpayment of Twenty-five Thousand Eight Hundred Ninety-one and 39/100th Dollars ($25,891.39) for the year 1923 has never been refunded or credited to said- Universal Consolidated Oil Company, and the time for filing of a claim for refund thereof has expired, and no claim for refund thereof or petition to the Board of Tax Appeals for the year 1923 has been filed by said Universal Consolidated Oil Company. Said overpayment of Five Thousand Four Hundred Sixty-one and 66/100th Dollars ($5,461.66) for the year 1924 was refunded to said Universal Consolidated Oil Company during the year 1928.
11. The facts and figures hereinabove set forth have been stipulated to solely for the purpose of disposition of the above-entitled appeals and for the taxable years involved therein, and shall not be binding upon any of the parties hereto and/or upon Universal Consolidated Oil Company in any other proceeding.

From the pleadings we find that, in addition to the amounts of dividends or distributions stipulated in paragraph 9 of the stipulation, the following petitioners received in the respective years dividends or distributions from the Universal Consolidated Oil Co., no part of which has been returned for income tax:

Each of the petitions alleges that the Universal Oil' Co. and Devils Den Consolidated Oil Co. distributed to their stockholders the capital stock of the Universal Consolidated Oil Co. received by them as set forth in the stipulation. This allegation was denied by certain of the answers and admitted in others. Counsel for respondent in its brief now admits its truth.

The only issue submitted to us for decision is whether all the dividends above set forth constitute taxable income. It is stipulated that the predecessor companies had as of May 9, 1922, an undistributed surplus earned since March 1, 1913, in an amount in excess of all the dividends paid by the Universal Consolidated Oil Co. from its organization to and including December 31,1927. The petitioners contend that the Universal was a new corporation, distinct from its predecessors, with the result that what was a surplus to the old corporations was capital to the new, or, to put it otherwise, that the distributions here involved, except to the extent that they included earnings made by Universal itself, did not constitute dividends as that term is defined in section 201 (a) of the Revenue Acts of 1921, 1924, and 1926.

The petitioners rely on Irving S. Robeson, 18 B.T.A. 323. Since the decision in that case, the Circuit Court of Appeals for the Second Circuit has decided Commissioner v. Sansome, 60 Fed. (2d) 931, and the Circuit Court of Appeals for the Ninth Circuit has decided United States v. Kauffmann, 62 Fed. (2d) 1045. These cases hold that, where there has been a reorganization in which the stockholders of an old company have received stock in the new corporation in exchange for their stock in the old, and where under the Revenue Act of 1921 the transaction was tax-free, the earnings of the old corporation continue to be earnings in the hands of the new, the distribution of which constitutes a taxable dividend. It is true that in the above cases there was only one predecessor corporation, while here there were three. It is also true that it is merely stipulated that the surplus of the three was sufficient to pay the dividends so that it may be that one of them had a deficit. If so, petitioners have failed to this extent in their proof. But we do not think that such a fact, even if true, makes any difference. If the successor corporation had a surplus inherited from all its predecessors sufficient to pay the dividends, it matters not in what proportions it was contributed. Such is the effect of our decision in George F. Baker, Jr., Executor, 28 B.T.A. 704. In the latter case the available earnings, the distribution of which by the successor corporation we held to constitute a taxable dividend, were composed largely of earnings of five predecessor corporations which varied greatly in amount. On the authority of the above cases we approve the ruling of the respondent. Having reached this conclusion, we find it unnecessary to decide the question raised by paragraph 10 of the stipulation.

Reviewed by the Board.

Decision will be entered under Rule 50.

Muedock, McMahon, and GoodRich dissent.

Lansdon,

dissenting: I am unable to agree with conclusion of the majority in this proceeding. In my opinion its effect is to impose a tax not authorized by Congress. It seems to me not only to ignore plain statutory provisions applicable to the precise situation here, but to substitute a rule therefor by construction and interpretation which plainly contravenes the constitutional provisions that all taxes must be levied by the Congress. There is, of course, no possible question that as to the new corporation all the assets of the old companies became its capital when acquired for stock on May 9, 1922.

The term capital means not the capital stock’ but the actual property or estate of the corporation, whether in money or property. In People v. Commissioner of Taxes and Assessments for City and County of New York, 23 N.Y. 172, the court said, it [capital] is the aggregate of the sum subscribed and paid in, or secured to be paid in by its shareholders, with the addition of all gains or profits realized in the use or in investment of those sums, or if losses have been incurred then it is the residue after deducting such losses.” Again, in Smith v. Dana, 77 Conn. 543; 60 Atl. 117; it was held that “The capital of the corporation is the money furnished by subscribers or promoters of the corporation to be used by it in its business or undertakings, citing American Life Ins. Co. v. Ferguson, 66 Ore. 417; 134 Pac. 1029. In Christiansen v. Eno, 106 N.Y. 97; 12 N.E. 648, the court said: “ The capital of a corporation consists of its funds, securities, credits and property of whatever kind which it possesses.” It is perfectly clear that all the property which a corporation acquires by the issue of stock or by profits from operation is its capital.

When the Consolidated issued its stock for assets of three prior corporations the property so acquired became its capital, but for some reason not disclosed by the record it distributed certain amounts thereof (not in partial or complete liquidation) not only to the shareholders of the predecessor corporation, but ratably to all its stockholders. Under the laws of California, California Civil Code, sec. 309, such distributions are not dividends and may be made only with the permission of the commissioner of corporations of that state. Martin Zellerbach, 38 Cal. 300. In section 201 (d) of the Revenue Acts of 1924 and 1926, which are applicable here, Congress has specifically provided for the taxation of such distributions.

The real facts here are that at date of its organization Consolidated acquired certain assets theretofore the property of the other corporations, by the issue of its stock therefor. At such date its books showed capital in the amount of the values obtained for its capital stock and indicated neithed earned nor paid-in surplus except a relatively small amount resulting from the write-up in value of certain assets it acquired. It was a new corporation in which the persons who had owned all the stock and controlled all the operations of the Universal Oil Co., the Devils Den Consolidated Oil Co. and the Sauer Dough Oil Co. held little more than one third of the authorized stock and in which the stockholders of none of the prior corporations owned more than one fourth of the authorized capital of the new corporation and only one held a majority of the new stock when issued. In these circumstances their rights as minority interests were far different from their position as sole owners of the stock of the old companies. Marr v. United States, 236 U.S. 53. It is obvious, therefore, that the determinations of the Commissioner wholly ignored corporate entities in which the rights of the respective shareholders were substantially different.

Disregard of corporate entities sometimes may be necessary in a practical adjustment of tax liabilities, but it is proper only when it is impossible otherwise to reach a practical result reflecting true tax liability. This is usually when there has been no real change in corporate or economic identity, where the corporation is a one-man concern or closely held by members of the same family, Search Light Home Co. v. American Graphophone, 240 Fed. 745, where it is necessary to protect the public interest or where there is fraud. In United States v. Milwaukee Refrigerating Transit Co., 142 Fed. 247, the court said :

If any general rule can be laid down in the present state of authority, it is that a corporation will be looked upon as a legal entity as a general rule and until sufficient reasons to the contrary appears; but when the notion of legal entity is used to defeat public convenience, justify wrong, protect fraud or defend- crime, the law will regard the corporation as an association of persons; and, where one corporation is organized and owned by the officers and stockholders of another making their interests identical, they may be treated as identical when the interest of justice requires it.

In the present proceeding there is no charge of fraud and the public interest is adequately protected by statutory provisions for the ultimate taxation of any income included in the distributions in question. In my opinion there is no occasion to disregard the doctrine of separate corporate entities.

1 am not unmindful that respondent relies on the opinions of the United States Circuit Court of Appeals in the Second and Ninth Circuits in Commissioner v. Sansome, 60 Fed. (2d) 931, and United States v. Kauffmann, 62 Fed. (2d) 1045, and our decision in George F. Baker, Jr., Executor, 28 B.T.A. 704. The first two cases cited are undistinguishable from each other as to facts. The Kauffmann case was decided solely on the authority of Sansome, with only a brief discussion of underlying legal principles and consequences. It is not necessary, therefore, to discuss it specifically in connection with the present proceedings. In the Sansome case the reorganization consisted only of a slight change of name and of the issue of five shares of stock of the successor for each share of the predecessor. There was no change in legal identity that resulted in new rights or obligations of the stockholders. All of the stock of the prior and successor corporations was owned by the same persons and in exactly the same proportions. The books of account of the old corporation were continued by the new without change and the surplus of the old appeared as such therein. The opinion of the circuit court might well have been based on the single proposition that there had been no actual change from an old to a new corporate entity, and that conclusion finds ample support in Marr v. United States, supra. Notwithstanding his conclusion that the reorganization in the San-some case effected no change in legal form sufficient to create a new taxable entity, the learned judge proceeded further to discuss the case on what he regards as broad statutory grounds and it is this discussion that it is alleged is applicable here. He suggests that section 202 (c) (2) of the Revenue Act of 1921 should be read as a mere gloss of section 201 and then concludes, apparently by ignoring section 201 (c) , that Congress could not have intended that taxation of a distributed surplus of an old corporation merged into a new should await some future event. In my opinion there is no necessity for construction or interpretation of the statutory provisions here involved. The general rule is that where the language of a statute is clear and unambiguous, it shall be applied literally. In United States v. Merriam, 263 U.S. 179, the Supreme Court said:

On behalf of the government it is urged, that taxation is a practical matter and concerns itself with the substance of the thing upon which the tax is imposed rather than with the legal forms or expressions. But in statutes levying taxes the literal meaning of the words employed is most important for such statutes are not to be extended by implication beyond the clear import of the language used. If the words are doubtful, the doubt must be resolved against the government and in favor of the taxpayer. [Citing Gould v. United States, 245 U.S. 151.]

In English jurisprudence, from which many of the principles governing American taxation have been derived, the rule set out by the Supreme Court has long been observed. In Partington v. Attorney General, L.R. 4 N.L. 100, 122, Lord Cairns said:

I am not at all sure that in a case of this kind — a fiscal case — form is not amply sufficient; because as I understand the principle of all fiscal legislation it is this: If the person sought to be taxed comes within the letter of the law, he must be taxed, however great the hardship may appear to the judicial mind to be. On the other hand, if the crown, seeking to recover the tax, cannot bring the subject within the letter of the law, the subject is free, however apparently within the law the case might otherwise appear to be. In other words, if there be admissible in any statute what is called an equitable construction, certainly such construction is not admissible in a taxing statute, where you can simply adhere to the words of the statute.

The very situation which the learned judge would deal with by interpretation and construal is provided for literally in section 201 (c) of the Act of 1921, supra, which is somewhat enlarged and greatly clarified in identical sections 201 (d) of the Revenue Acts of 1924 and 1926. In both acts Congress provided that when distributions are not made out of earnings or profits accumulated after March 1, 1913, the amount thereof shall be applied against and reduce the basis of the stock as set out in section 204 of such acts and if in excess of such basis, such excess shall be taxable as a gain from the exchange of property, and adds further that such provisions shall also apply to the distribution of depletion reserves based on the discovery value of mines.

All the above pertinent provisions read together clearly indicate that Congress considered the exact situation here. There is direct recognition that a corporation may make the sort of distribution under review, and when so made taxation at both normal and surtax rates will follow the part thereof in excess of capital invested in stock into the hands of the distributees. There is no surrender of the right to tax income and the privilege of postponement is penalized by the addition of normal taxes when the whole amount is finally realized through distribution. In my opinion Congress has recognized all possible contingencies resulting from distributions not out of earnings or profits accumulated by a corporation after March 1,1913, but even if there has been an omission, neither administrative nor judicial procedure can amend or add to an act of Congress by interpretation or construal. It should also be borne in mind that these proceedings are governed by the Revenue Acts of 1924 and 1926, which, as to the provisions applicable here, are different from those of the Revenue Act of 1921 that govern the Samóme case. It may well be, therefore, that the decisions upon which the respondent relies have no application to situations governed by later enactments and the entire opinion in that case may be applicable there without in any way affecting the controversy in this proceeding.

The respondent also relies upon our opinion in George F. Baker, Jr., Executor, supra, in which was cited with approval the decisions of the courts in the Sansome and Kauffmann cases. I think the facts in the Baker case also clearly distinguish it from the present proceedings. There, prior to the year 1900, the New Jersey General Security Co., the dividend-paying entity, acquired all the stock of five other corporations. Later it caused such five corporations to be merged into a single organization, the Passaic Consolidated Water Co., in which it owned all the capital stock. In the taxable year it distributed amounts appearing as surplus on the books of the five merged companies as dividends to its own stockholders. Here is a situation in which corporate identity may be ignored, since in substance there was only one business entity after the year 1900. All the corporations involved were chartered under the laws of New Jersey and at all times all the stock of the five merged companies, as well as that of their successor, was owned by the company which distributed the dividends upon which the respondent determined surtaxes to be due. In all essential facts there never was but one business entity after the year 1900, and that entity accumulated the distributed earnings after February 28, 1913. The situation, therefore, falls fairly within the circumstances of the Sansome and Kawff-marm cases and the rule applied therein is applicable. Certainly the facts in the proceedings at bar are widely different. Here the old corporations did not cause the organization of the new concern, but sold their assets for stock and their stockholders potentially, at least, became minority interests in the new corporation, which from the first had stockholders not interested in the predecessor corporations and at the dates of distribution may have been completely controlled by new interests. In our opinion the rule followed in the Baker proceeding has no application here.

It is highly desirable that the statutory provisions for taxation and the administrative and judicial interpretations thereof shall be consistent and harmonious. Approval of the respondent’s determination herein would be highly inconsistent with many of his own regulations and with numerous decisions of the Board and the Courts. Net losses sustained by a corporation which loses it identity by merger or consolidation with a successor may not be applied to reduce the tax liability of the new taxable entity so created. In the Maytag Co., 17 B.T.A. 182, where one corporation exchanged all its assets subject to liabilities for the common and preferred stock of a successor and distributed such stock to its shareholders, we held that a net loss sustained by the prior corporation could not be applied to reduce the tax liability of its successor in the succeeding taxable years because the successor was not the taxpayer that sustained the loss. In our opinion there we pointed out that the conclusion reached is consistent with other decisions of the Board involving questions of depreciation and invested capital. The rule established in Maytag Co. has since been applied in Plumber's Supply Co., 20 B.T.A. 459; Standard Silica Co., 22 B.T.A. 97; Athol Mfg. Co., 22 B.T.A. 105; affd., 54 Fed. (2d) 230; Clark Dredging Co., 23 B.T.A. 503; Overbrook Nat. Bank of Philadelphia, 23 B.T.A. 1390; New Colonial Ice Co., 24 B.T.A. 886. In West Point Marion Coal Co., 19 B.T.A. 945, in which the petitioner was denied the benefit of a net loss sustained by its predecessor in the prior year, we said:

The petitioner is not entitled to the deduction claimed under this section because it sustained no net loss in the year 1921. See White House Milk Co., 2 B.T.A. 860. Its existence and the operation of any business by it from which a loss might have resulted did not begin until some time in 1922. See Florida Grocery Co., 1 B.T.A. 412. This result is not altered by the identity of the petitioner’s stockholders and the holders of the shares of the predecessor association. The petitioner corporation is a taxable entity separate and distinct from its stockholders and separate and distinct from its predecessor. See E. C. Huffman, 1 B.T.A. 52; John K. Greenwood, 1 B.T.A. 291, and cases there cited.

It is also well established that a corporation, is not entitled to compute depletion on the basis of discovery value to a predecessor from which it has acquired assets by the issue of its stock. Darby-Lynde Co., 20 B.T.A. 522; affd., 51 Fed. (2d) 32; Rialto Mining Corp., 25 B.T.A. 980. Although invested capital is a highly artificial statutory concept in the Revenue Acts of 1917, 1918, and 1921, Congress expressly provided that all values acquired by the issue of the stock of a corporation should be regarded as capital at risk in business at their fair market value at date of acquisition, regardless of the amounts allowable to predecessors. Regal Shoe Co., 1 B.T.A. 896; Rosenbaum Brothers, Inc., 11 B.T.A. 736. We have also held that the basis for depreciation of assets acquired for stock is the fair market value at date of acquisition, regardless of cost to prior owners. Monarch Electric & Wire Co., 12 B.T.A. 158. See also American Printing Co. v. United States, 53 Fed. 98. All the decisions and opinions cited in this connection recognize the separate entity of prior and successor corporations and are based on the proposition that whatever a corporation receives at the time of its organization in exchange for its stock becomes then and there a part of capital structure at fair market values. Taken together they constitute a consistent and harmonious whole into which an affirmation of the respondent’s determination in these proceedings would introduce a highly discordant element.

It is stipulated that the combined surplus of the three corporations that were merged into the Universal Consolidated Oil Co., taken with the earnings of such concern after its organization, was sufficient to pay all the dividends in controversy. We do not know the surplus of each of the prior concerns. One or two of them may have had an actual capital deficit at May 9, 1922. If so, the theory of the respondent would certainly result in distributions to stockholders of corporations with no earnings available therefor and so impose a tax on capital, to the extent of the amounts received by such stockholders, thus creating a situation not contemplated by either the statute or the Constitution. It is also stipulated that 900 shares of Consolidated stock were issued for cash at or prior to date of incorporation, but how many additional shares were sold for cash prior to the issue of any of the dividends is nowhere disclosed. Certainly the owners of the 900 shares who received their ratable portion of the distribution in question reaped when they had not sown, as did any others who may have purchased for cash before such distributions were made.

Upon the stipulated facts and in conformity with the reasons above set out, I think the amounts in controversy were dividends only to the extent that they were paid out of the earnings of the Universal Consolidated Oil Co. accumulated in its own operations after May 9, 1922. The excess over such earnings should first be applied against the stock basis as provided in section 204 of the Revenue Acts of 1924 and 1926, and the remainder, if any, taxed to the recipients as provided in section 201 (d) of the same acts. Irving S. Robeson, 18 B.T.A. 323.

Teammell agrees with this dissent.

       Sue. 201. (d) If any distribution (not in partial or complete liquidation) made by a corporation to its shareholders is not out of increase in value of property accrued before March 1, 1913, and is not out of earnings or profits, then the amount of such distribution shall be applied against and reduce the basis of the stock provided in section 204, and if in excess of such basis, such excess shall be taxable in the same manner as a gain from the sale or exchange of property. The provisions of this paragraph shall also apply to distributions from depletion reserves based on the discovery value of mines.

       Sec. 202. (c) (2) When in the reorganization of one or more corporations a person receives in place of any stock or securities owned by him, stock or securities in a corporation a party to or resulting from such reorganization. The word “ reorganization ” as used in this paragraph, includes a merger or consolidation (including the acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation, or of substantially all the properties of another corporation), recapitalization, or mere change in identity, form, or place of organization of a corporation, (however effected).

       Sec. 201. (c) Any distribution (whether in cash or other property) made by a corporation to its shareholders or members otherwise than out of (1) earnings or profits accumulated since February 28, 1913, or (2) earnings or profits accumulated or increase in value of property accrued prior to March 1, 1913, shall be applied against and reduce the basis provided in section 202 for the purpose of ascertaining the gain derived or the loss sustained from the sale or other disposition of the stock or shares by the distributee.


author: McMahon:

text:
    Erwin R. Effler, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 50160.
    Promulgated January 17, 1934.

      Le Roy E. Eastman, Esq., and Erwin R. Effler, Esq., for the petitioner.

      L. EL. Rushbrook, Esq., and Harold Allen, Esq., for the respondent.
   OPINION.

McMahon:

We are here called upon to determine whether the respondent erred in including in the taxable income of the petitioner for the year 1926 the amount of $60,000 constituting a part of the amount of $285,533.33. This item of $285,533.33 is the aggregate of amounts which were actually paid by certain trusts to the partnership of Smith, Baker, Effler & Eastman in the year 1926, and constituted either fees to Smith and Baker, two of the members of the partnership, for their services as trustees, or such trustees’ fees and, in addition, fees to the partnership for legal services. The greater part of this amount was paid by checks from the trusts to the partnership. A small amount was paid by transferring three United States bonds to the partnership. The books of the partnership show that the full amount of $285,533.33 was received in the year 1926 and it was treated therein as income in that year. The books of the partnership show that on December 21, 1926, a dividend of $285,-533.33 was declared by the partnership. Each partner received in 1926 a check for his share of this amount of $285,533.33, the petitioner receiving a check for $79,949.33, being his 28 percent share under the partnership agreement. The books of the partnership show that each partner received his share during 1926. In this regard the following testimony of Cecile B. Carmichael, bookkeeper of the partnership, is pertinent:

Q. So that the entire amounts oí these several items of cash received including the $3,000 bonds, were put through the firm’s books as fees received, is that right?
A. Yes, sir.
£ ⅜ * ⅜ ⅜ ⅜ £
Q. Now, what do your books show about the disposition that was made of this money, this $285,000?
A. On December 21st, 1926, journal page 138, I show cheeks drawn to the members of the firm:
Rufus H. Baker_$46, 685.34
Barton Smith_ 79, 949. 33
Erwin R. Efller_ 79,949.33
LeRoy B. Eastman_ 79,949.33
Q. And what is the entry after those names?
A. To cash to you.
Q. And that is after each one?
A. After each one.

Before causing the trusts to pay the amount of $285,533.33 to the partnership, Smith insisted that the petitioner and Eastman agree to the placing of $60,000 of each of their shares in trust until certain claims against Smith arising out of the sale of certain of the trust assets were settled. The petitioner and Eastman agreed to this. Petitioner and Eastman each deposited his check upon receiving it, but each immediately placed $60,000 in trust and signed an indemnity agreement. Smith and Baker each returned his partnership share of the amount of $285,533.33 as income in the year 1926. In the returns filed on behalf of the trusts for the year 1926 the amounts comprising the item of $285,533.33 were deducted as having been paid out in the year 1926.

The respondent held that the full amount of $285,533.33 constituted income of the partnership of Smith, Baker, Effler & Eastman in the year 1926 and that the petitioner is taxable in 1926 upon his 28 percent share, $79,949.33. Of this amount the petitioner returned as taxable to him in the year 1926 the amount of $19,949.33, and no question is raised as to the taxability of that amount, the controversy being as to the taxability in 1926 of the remainder, $60,000.

There is considerable controversy between the parties over the question of just what the item of $285,533.33 represents. The petitioner, in his brief, argues upon the theory that it represents solely trustees’ fees, whereas the respondent contends that it was in payment of both fees to the trustees and legal fees to the partnership. However, we find it unnecessary to determine this question, since in either event it is our opinion that the amount of $285,533.33 constituted income of the partnership in the year 1926.

The income tax is imposed upon the income received in any particular accounting period, regardless of whether any particular transaction which as a whole extends over a number of years results in a profit or loss.

In Burnet v. Sanford & Brooks Co., 282 U.S. 359, the Supreme Court stated in part:

That such, receipts from the conduct of a business enterprise are to be included in the taxpayer’s return as a part of the gross income, regardless of whether the particular transaction results in net profit, sufficiently appears from the quoted words of Section 213- (a) and from the character of the deductions allowed. Only by including these items of gross income in the 1920 return would it have been possible to ascertain respondent’s net income for the period covered by the return, which is what the statute taxes. * * *

In Florence B. Fawsett, 23 B.T.A. 1148; affirmed in Fawsett v. Commissioner, 63 Fed. (2d) 445; certiorari denied, 290 U.S. 641, we stated:

Questions of postponing tax liability until transactions have been concluded in later years have been before the Board in numerous eases and we have uniformly held that the income tax is imposed on an annual basis [emphasis supplied] and its imposition can not await the winding up of a business, but is imposed annually upon the gains which arise from transactions from year to year. Atkins Lumber Co., 1 B.T.A. 317; R. E. Thompson et al., 7 B.T.A. 391; Cleveland Railway Co., 10 B.T.A. 310; C. H. Swift & Sons, Inc., 13 B.T.A. 138; Deer Island Logging Co., 14 B.T.A. 1027; Arthur E. Earle, 15 B.T.A. 668; affd., 38 Fed. (2d) 965; and American Industrial Corporation, 20 B.T.A. 188.
In the last mentioned case the Board, in speaking of the principle for which petitioner is now contending, said (p. 197) :
* * * Upon the petitioner’s theory its tax liability can be projected indefinitely into the future, and, in effect, the Government must assume the hazards of the business with no share in its management and must await collection of its revenue until it is petitioner’s pleasure to conclude its operations. Speaking of an analogous contention, the Board said, in Mesta Machine Co., 12 B.T.A. 523, 537, that it “ would enable a taxpayer to postpone indefinitely the return of income which has actually been received, which result, in our opinion, is inconsistent with the theory of the tax laws.”

To the same effect is Trojan Oil Co., 26 B.T.A. 659.

See also Board v. Commissioner, 51 Fed. (2d) 73, and Ford v. Commissioner, 51 Fed. (2d) 206. In the latter case, the court stated:

* ⅞ * rjile -true normal criterion to be applied in this class of case is the actual receipt and retention during the year in question of what was then considered to be income, not whether the taxpayer exposed himself to possible personal liability. [Emphasis supplied.]

Under the principles set forth in the above authorities, we think it clear that the amount of $285,533.33 constituted income to the partnership in the year 1926.

The proof shows that the amount of $285,533.33 was actually paid over to the partnership in the year 1926 and, as heretofore stated, that Smith and Baker, two of the members of the partnership, un-qualifiedly received the benefit of their shares therein in the year 1926 and returned such shares as taxable income to them in that year. It is true that Smith, before causing the amount in question to be transferred to the partnership, insisted, and the petitioner and Eastman agreed, that the petitioner and Eastman should each place $60,000 in trust pending the settlement of claims against Smith. However, this does not affect the question of whether it was income to the partnership in the year 1926 under the revenue act. Even if it were considered that the full amount of $285,533.33 constituted, in the first instance, fees to Smith and Baker as trustees, such amount became, under the partnership agreement, income of the partnership in the year 1926, the year such amount was earned and paid. It is true, as pointed out by the petitioner, that under the articles of partnership only the net amount of the personal fees to the members of the partnership, after all expenses, taxes, salaries, and losses are paid, constituted partnership income. If expenses, taxes, salaries, or losses had been paid by Smith and Baker in the year 1926 in earning fees from the trust, then under the articles of partnership the amounts thereof would be deducted before computing the amount which inured to the benefit of the partnership. But no such expenditures were made by Smith or Baker in the year 1926 and, as hereinabove indicated, the trust did pay out the amount of $285,533.33 in 1926 as compensation either to the trustees or to the trustees and the partnership, and the partnership actually received it in 1926.

The fact that at the close of 1926 the probate court of Lucas County, Ohio, had not approved the trustees’ reports, and the fact that at that time claims of Gould and Miniger against Smith had not been settled, do not serve to postpone the taxability of the amount of $285,533.33 beyond the year 1926. There is no showing here by petitioner that the authorization or approval by the probate court of the payment of $285,533.33 by the trustees was required before actual payment, and the prospect was that its approval after payment would not be challenged. Furthermore, for the pui~pose of applying the Federal revenue acts, those acts have their own criteria for the determination of what is taxable income, irrespective of local law. Burnet v. Harmel, 287 U.S. 103.

Under the provisions of section 218 (a), (c) of the Revenue Act of 1926, the full share of a partner in the partnership income of any particular year is taxable to him whether distributed or not. Having held that the amount of $285,533.33 was income to the partnership in 1926, it follows that even if the petitioner’s partnership share therein were not distributed to him it would be taxable to him. But here it was actually distributed to him. The fact that the petitioner placed a portion of his share in trust in accordance with the demand of Smith, does not relieve him of his liability to pay a tax thereon in 1926. Cf. Ruprecht v. Commissioner, 39 Fed. (2d) 458, affirming Charles C. Ruprecht, 16 B.T.A. 919, wherein the court stated:

To permit partners to distribute the profits otherwise than according to the partnership agreement and thereby escape their liability imposed by law, would disrupt the scheme of taxation adopted by Congress.

See also Robert A. Faesy, 1 B.T.A. 350.

It was the position of the petitioner that, at the time Smith made his demands, he, petitioner, could not and should not be compelled to agree thereto. He yielded to Smith’s insistence without compulsion and out of deference to Smith. In this connection, the following testimony of the petitioner is enlightening:

A. * * * I told him [Smith], I did not think that that was quite a fair condition to impose. I have tried to say that we were dealing with a man of advanced age and ill, and I think Tour Honor will permit me to say that contact in the firm for many years with a man of that character — of the highest character — certainly forces a feeling of loyalty and perhaps some embarrassment when a paper is put before you as strenuous as this instrument was — Mr. Eastman, when he saw how Mr. Smith reacted, urged me to waive any objections, but I felt I should stand on the objection, and I said sa It finally resulted in our yielding to his insistence that he would hold that money in those trusts. * ⅜ *

We conclude that the action taken by tbe petitioner in placing $60,000 of bis share in trust was his own act which could not be legally compelled, and, as pointed out above, such action, irrespective of how commendable his motives were, can not operate to relieve him of his tax liability upon his full share in the year 1926. When the petitioner in 1926 received a check for his full share he was, as a matter of law, free to doi with it as he wished, and we are no more concerned with his motives in placing a part of it in trust as he did than we would be if he had placed it in trust for the benefit of some member of his family or for some charitable or educational purpose.

The evidence shows that in years subsequent to 1926 the petitioner received interest upon the $60,000 which had been placed in trust and that he returned such interest as taxable income to him. This is wholly inconsistent with the theory now advanced by petitioner that he did not become the owner of the $60,000 in 1926, and it sustains our conclusion.

The fact that in later years a portion of the petitioner’s share was required to be contributed toward the payment of the settlement of the litigation against Smith, and other expenses, has no bearing upon the question of the taxability of his entire share in the year 1926. See North American Oil Consolidated v. Burnet, 286 U.S. 417, and Ford v. Commissioner, supra.

The petitioner concedes that the form of the transactions herein is against his contention, but contends that the substance of the transactions supports his view that the amount of $60,000 was not taxable to him in the year 1926. However, we believe that the form truly reflects the substance of the transactions. It is elementary that taxation is a practical matter and that we must look to what actually happened. Tested by what actually happened here, the $60,000 was income to the petitioner in 1926.

The petition contains five assignments of error, all of which, however, are directed toward showing that the respondent erred in including the $60,000 in petitioner’s taxable income for the year 1926. Our discussion above disposes of the contentions advanced by the petitioner in assignments of error (a), (b), and (e). Our holding above that the form reflects the substance, that Smith had no legal right to impose any condition upon the petitioner’s use of his full share of the partnership income in question and that it was actually received by petitioner in 1926, makes further discussion unnecessary of the petitioner’s contention in assignment of error (c) that the condition was a condition precedent to the vesting of title to the $60,000 in the petitioner. With regard to assignment of error (d), it matters not whether the $60,000 was set up by the petitioner as a reserve against expenses and losses incident to litigation against Smith. In any event such amount was first income to the petitioner.

Decision will he entered for the respondent.

       See. 218. (a) Individuals carrying on business in partnership shall be liable for income tax only in their individual capacity. There shall be included in computing the net income of each partner his distributive share, whether distributed or not, of the net income of the partnership for the taxable year * * *.
      * * * * * * *
      (c) The net income of the partnership shall be computed in the same manner and on the same basis as provided in section 212 except that the deduction provided in paragraph (10) of subdivision (a) of section 214 shall not be allowed.


author: Tbammell :

text:
    Estate of Benjamin Piller, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 63023.
    Promulgated January 17, 1934.

      Albert Mam/nhevmer, Esq., and Lowis Sv/nvmers, Esq., for the petitioner.

      W. FranM Gibbs, Esq., for the respondent.
   OPINION.

Tbammell :

The petitioner contends that the amount of $10,605.63 disallowed by the respondent was paid by the deposit with the tax commission of the State of New York of the Bertal Building Corporation bonds and that under section 23 of the Revenue Act of 1928 the amount constituted an allowable deduction in determining taxable net income. The respondent contends that the deposit of the bonds did not constitute payment of the taxes and that the amount in controversy was not allowable.

The Revenue Act of 1928 provides:

SEO. 23. DEDUCTIONS FROM GROSS INCOME.
In computing net income there shall be allowed as deductions:
⅛ ⅜ ⅝ ⅜ ⅝ ⅜ ⅜
(c) Taxes generally. — Taxes paid or accrued within the taxable year,—
* * ⅜ ⅜ ⅜ ⅜ *
For the purpose of this subsection, estate, inheritance, legacy, and succession taxes accrue on the due date thereof, except as otherwise provided by the law of the jurisdiction imposing such taxes, and shall be allowed as a deduction only to the estate.

To a taxpayer keeping its books and filing its returns on the cash receipts and disbursements basis, as did the petitioner, taxes are deductible only in the amount actually paid during the taxable period. Milton D. Eisner, Executor, 9 B.T.A. 210; Corinth State Bank, 14 B.T.A. 1162. The petitioner therefore is entitled to the deduction of the amount in controversy only if the circumstances here presented constituted a payment.

The matter for determination resolves itself into the question of whether the deposit of corporate bonds with the tax commission by the petitioner constituted payment of the tax with respect to the contingent interests. In Salomon v. State Tax Commission, 278 U.S. 484, involving contingent interests similar to those here involved, the constitutionality of the New York Transfer Law imposing a transfer tax with respect to contingent interests was attacked. In sustaining the validity of the law the United States Supreme Court said in part:

The tax on the transfer of contingent remainders is not payable until the death of the life tenant; and it is measured by the value at the testator’s death of the estate transferred, undiminished by the value of the intervening life estate. For the due payment of the deferred tax the executor must furnish adequate security. The amount of the security is fixed by a temporary taxing order. Laws of 1925, c 144 §§ 230 and 241.
■As the remainders are contingent, it is impossible to know before the contingency happens in whom the remainders will vest; and it may be impossible to determine until then the relationship of the beneficiaries to the testator and the portions of the estate they will respectively receive. Thus the rate of taxation will remain uncertain. For this reason the statute postpones until the contingency happens both the definitive assessment of the tax on the transfer of the contingent remainders and the payment thereof.
⅜ * ⅝ * * * *
The argument presented is unsound, because it ignores the fact that the lax in respect to the contingent remainders is not payable until after the death of the life tenant. The temporary taxing order, entered upon the testator’s death, is made solely to ensure that the tax so deferred will he paid when ultimately assessed. The requirement may be satisfied by depositing with the State either approved securities or cash. In either event the income collected from the security prior to the time when the tax becomes payable is accounted for to the executor; and after the tax has been paid, the securities or cash remaining on deposit will be accounted for to him. By applying the applicable rate to the full value of that which comes into enjoyment and not exacting payment of the tax until then a just result is sought. For the definitive assessment of, the contingent remainder and the payment of the tax thereon are postponed to the same date.

In view of the foregoing it seems clear that the Court did not think that a deposit of corporate securities with respect to the tax constituted payment, thereof, but- considered it to be a method of pro•viding security to ensure payment of the tax when it becomes payable, . . . . ■ -

The petitioner urges -that under the decisions of the New York courts the deposit of'securities by it constituted payment of the tax with respect to the contingent interests, and relies upon the fer curiam opinion of the New York Court of Appeals- in Bausher v. Lynch, 178 N.E. 818, affirming the decision of the New York Supreme Court in Bausher v. Lynch, 247 N.Y.S. 675. In that case the executors, instead of depositing securities of the estate to ensure the payment of the transfer tax with respect to contingent interests as determined by the temporary order of the surrogate, as they were permitted to do under the law, paid the amount so determined. In the income tax return for the estate filed under the New York income tax law they deducted as taxes paid the amount of the payment thus made. The state tax commission refused to allow the deduction as not being one coming within that portion of the New York income tax law which provides that “ In computing net income there shall be allowed as deductions: * * * Taxes * * * paid or accrued within the taxable year * * - The commission contended, among other things, that ‘ the payment did not constitute the payment of a tax, but was a.deposit as security for the payment of a tax vvhich would be levied later upon the termination of a particular life estate. In holding the amount to be deductible the New York Supreme Court said:

Sections 230 and 241 provide that, under certain conditions, the estate is given the option to file a bond for the ultimate payment of the tax or to secure its payment by the deposit of securities. The estate in this proceeding did not take advantage of such option. If a bond had been given or security deposited, of course the taw would not have been paid and the amount fixed would not he deductible. Salomon v. State Tax Commission of New York, 278 U.S. 484, 49 S.Ct. 192, 73 L. Ed. 464 and Matter of Hecht’s Estate, 219 App. Div. 656, 220 N.Y.S. 325, affirmed 246 N.Y. 602, 159 N.E. 668, ⅜ * *
This estate must be credited with this deduction when the payment was made or not at all. There will be no income belonging to the estate which will be taxable at tbe death of the life tenant. The income will belong to the life tenant until her death and to the remainderman thereafter. The determination of the state tax commission should be annulled, ⅜ * * and the matter remitted to them for the purpose of deducting the inheritance tax payment. [Italics supplied.]

We do not think the decision supports the petitioner’s contention. The court has clearly indicated that deposit of security was not payment of the tax and that the amount thereof was not deductible for the purpose of determining net income under the New York income tax law.

In view of the holdings of the United States Supreme Court and the courts of New York set forth above relative to the deposit of securities in connection with the transfer tax involving contingent interests, we do not believe it can be said that the deposit of the securities here in controversy constituted the payment of the tax. The tax not having been paid during the taxable period, the amount thereof is not an allowable deduction in computing the net income of the petitioner, which keeps its books and files its returns on the cash receipts and disbursements basis.

Judgment will be entered for the respondent.


author: Lansdon :

text:
    Mente & Co., Inc., Petitioner, et al.,
      v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 51305, 51701, 54708, 54917, 54959, 54960, 59722.
    Promulgated January 17, 1934.

      Irving R. Saal, Esq., for the petitioners.

      Warren F. Wattles, Esq., for the respondent.

       Proceedings of the following petitioners are consolidated herewith.: Eugene W. Mente; J. C. Mente; George W. Billups; Mrs. Isaac T. Rhea; Isaac T. Rhea; and Max Goldsmith.

   OPINION.

Lansdon :

Seven petitions, as identified by the docket numbers in the above caption, are consolidated in these proceedings. The first in order shown pertains to the fiscal year ended March 31,1928, and the others to the calendar year 1928. All are appeals from the respondent’s determinations of income tax deficiencies against the several petitioners, and in addition thereto the petitioners, at the last four docket numbers, severally make claims of overassessments of their taxes, for which they ask affirmative relief by way of refunds. The respective deficiencies, in order of docket numbers, are $11,850.47, $698.34, $1,060.26, $249.19, $4,922.33, $4,951.17 and $34.93. The over-assessment claims are $30.86, $1,298.49, $1,270.13 and $40.75.

The petitioner in Docket No. 51305 contends that the respondent erred in refusing to allow deductions from its gross income of (1) $94,219.81 representing depreciation of physical assets, and (2) of a sum of $1,538.03 for a loss sustained; and in adding to its income (1) $137.33 as realized capital gain, and (2) $28,409.51 as a payment of interest allowed by the United States upon a tax refund in favor of its predecessor. The first two errors were abandoned by the petitioner at the hearing.

In the other appeals the petitioners allege that the respondent erred in computing their taxes for 1928 by holding that certain funds distributed to them as stockholders of a dissolved corporation constituted taxable dividends instead of returns of capital.

Petitioner Mente & Co. is a corporation organized about August 6, 1925, as successor to a corporation bearing the same name, hereinafter sometimes referred to as the old corporation.” The other petitioners are former stockholders of the old corporation who exchanged their holdings for stock of petitioner.

Some time prior to June 2, 1925, the stockholders of the old corporation decided upon a plan of reorganization which involved, among other things, change of corporate financial structure and the raising of additional capital by sale of securities. On the date last mentioned the old company’s stockholders and directors met and authorized the corporation’s president, I. T. Rhea, to make all necessary arrangements to carry out their plans. Pursuant to that authority Rhea employed certain fiscal agencies known as “ Hemphill, Noyes & Company ” and “ Hibernia Securities Company, Inc.,” hereinafter referred to as the securities companies, to underwrite the financial structure of the proposed new company and to market its stock and other securities.

After some preliminary negotiations, on July 1,1925, Rhea made a written proposal to the securities companies which outlined a basis for a contract. This proposal recited in some detail the proposed plans and financial requirements. Among other things it stated that the new company was to take over the old company’s name and all of its outstanding capital stock. It was then to issue 135,000 shares of no par value stock, of which 125,000 was to be common, divided into classes A and B, and 10,000 cumulative 7 percent preferred. It was also to issue, in gross, $750,000 in 10-year 7 percent debenture bonds. Certain portions of these securities were to be purchased by the securities companies and, as an inducement for such purchase, Shea agreed that before payment was required he would provide, through contracts with the new company, an indemnity agreement that would protect the underwriters from any claims for unpaid taxes that might later be made against the old company by the Federal Government in excess of a fixed reserve built up and taken over by the new company. In consideration for this indemnity agreement, Rhea’s proposal contained a condition that he should be entitled to receive, if, when, and, as paid by the Federal Government, any and all sums which might be paid subsequently to the new company by way of any tax refund which the old company would, if in existence, be entitled to receive on account of overpayment by it of Federal taxes for any period prior to April 1, 1925. This proposal was accepted by the securities companies under their corporate seals on July 1, 1925.

On August 6, 1925, the name of the old company was legally changed from “ Mente & Co., Inc.,” to “ Burlap Manufacturing Company, Inc.,” and on the same day its stockholders exchanged their stock for common and preferred stock and gold debenture bonds of the new “ Mente & Co., Inc.,” and took over as of April 1, 1925, all of the assets of the Burlap Manufacturing Co., which was then dissolved.

On September 12, 1927, the Treasury Department of the United States issued its checks in the sum of $154,384.99, payable to “ Mente & Co., Inc.,” $109,174.91 of which represented a refund of taxes to the old company and $45,210.08 interest upon the same. Petitioner Mente & Co. received the proceeds of these checks and credited their entire sum to an account which it opened up in its books under the caption of “ I. T. Rhea, Trustee, stockholders, old corporation.”

In the early part of the year 1928 Mente & Co. paid over to Rhea the sum so credited to him, plus $1,949.43 in interest. Rhea made certain deductions for costs of accountants’ and attorneys’ fees connected with the collections of the refund payments, and then distributed the net balance among the stockholders of the old company in proportion to their stockholdings as of August 6, 1925, and without regard to their holdings in petitioner, which were relatively different. In such distribution, except Mente & Co., the petitioners (Mrs. Isaac T. Rhea in community with her husband, Isaac T. Rhea) received in cash the sum of $11.09255, plus, for each share of that company’s stock owned by them on August 6, 1925. It is stipulated that the cost of petitioners’ old stock was in excess of $50 per share, and that at the date of the old company’s dissolution it had earned surplus and undivided profits in excess of $500,000.

In computing the tax" of petitioner Mente & Co. the respondent increased its net income by the sum of $28,409.51 as interest, less certain costs, received from the Federal Treasury upon the $109,-174.91 tax refund allowed to the old company. In- determining the deficiencies against the other petitioners in these proceedings, the respondent held that the sums distributed to them by Rhea were taxable to them as corporate dividends of the new company.

Petitioners Isaac T. Rhea and Mrs. Isaac T. Rhea and the respondent have stipulated that for tax purposes the' income of these petitioners should be divided equally between them, upon a community. basis; also, that the total earned net income of that community was $34,481.37 in the tax year and that in preparing the income tax return for Mrs. Isaac T. Rhea, and in determining the deficiency against her, the earned income credit was computed upon the basis of an állowance of $5,000 as earned income.

In the taxable year petitioner Eugene W. Mente sold, for the amount of $230,000, certain New York City 3½ percent bonds which he had acquired more than two years prior thereto at a cost of $222,-934.33. In making out his income tax return for 1928 he reported the profit from that sale as capital net gain, taxable at the rate of 12½ percent, and the respondent so treated it in the computation of the deficiency herein appealed from by that petitioner. He alleges in his petition that inclusion of this profit in his taxable income was an error and asks to have it excluded. There is no merit in this prayer and it is accordingly denied.

Petitioner Mente & Co. contends that it should not be taxed for the interest paid by the United States upon the tax refund allowed its predecessor because (1) the sum was. exempt as interest on an obligation of the Federal Government, and (2) because it was not income to it, but the property of the stockholders of the predecessor, to whom it accounted by payment through their trustee, I. T. Rhea. The first of these contentions is without merit and is denied. Kansas City Southern Ry. Co., 16 B.T.A. 665; affd., 52 Fed. (2d) 372. We think the petitioner’s last point is well taken. Facts in the record show that the old stockholders’ plans to reorganize the old company contemplated the creation of a capital structure through the sale of stock and other securities. The indemnity contract made by its president, Rhea, with the securities companies in advance of reorganization was a necessary and indispensable part of that plan, without which the financial arrangements with the securities companies could not have been worked out. Its cost may well be regarded as a reorganization expense, inasmuch as the benefit inured to all concerned. Rhea was to receive payment for his indemnity agreement by taking over the old company’s claim against the Federal Government for overpayments of taxes in prior years. In other words, he was to assume the burden in return for the benefits, whatever they might be, and through this agreement the old company’s tax account was reserved from the intangibles which were carried into the capital of the new organization.

We think the indemnity undertaking of Rhea for himself and the old company stockholders was no different in its object and effect than in a situation which might have obtained had a regular bonding or indemnity company written it for a premium stated in money. We also think that the form of payment provided for, although contingent and uncertain, was in no sense less justly due to these stockholders than would be a cash premium charged by a surety company for a similar service. The facts in this record support the contentions of petitioner Mente & Co. and show that it never was the beneficial owner of the tax refunds involved here. It, therefore, was at no time entitled to the interest paid thereon, from which it follows that the respondent erred in including such interest in the income of petitioner. On this issue the respondent must be reversed.

The individual petitioners contend that the distributions made to them of the aforesaid tax refund and interest must be regarded as returns of capital and, therefore, not a part of their1 taxable incomes.

From what we have so far held respecting these funds, it is obvious that we must treat the distribution to the stockholders as belated dividends made by the trustee in liquidation of a residue of the assets of the old company. R. G. Hubbard, 2 B.T.A. 1287; Wm. E. Fulton, 15 B.T.A. 1018; affd., 42 Fed. (2d) 436. In this view the payment to each petitioner constitutes a return of capital only to the extent that it may be said to replace an unreturned balance, if any, of his investment in the old company’s stock. Ben Stocker, 12 B.T.A. 1348.

The parties have stipulated that the cost to the petitioners of their stock in the old company was in excess of $50 per share, and that they exchanged that stock on August 6, 1925, for common and preferred stock and debenture bonds of the reorganized corporation; also, that included in the assets taken over by the new corporation were undivided surplus and profits amounting to more than $500,000. The respondent has based his determination on the theory that in the circumstances the surplus of the old company was available for distribution by the new company in the taxable year as earnings accumulated after March 1, 1913, and relies on Commissioner v. Sansome, 60 Fed. (2d) 931 and George F. Baker, Jr., Executor, 28 B.T.A. 704. Inasmuch as we hold that the amount distributed was never the property of the new company, the cases are not in point.

It nowhere appears in the record what value, market or otherwise, the stock, bonds, etc., which the petitioners received from the new company in exchange for their stock in the old company had on the date that exchange was made; nor are there any facts from which we may determine their value. In view of this failure in the proof, we are unable to say that the petitioners, or either of them, had any unreturned part of their original investment in the old company’s stock at the time the distribution was made. We, therefore, hold that the petitioners have failed to show that the payments made to them which are here in dispute represented returns of capital, and sustain the holdings of the respondent in respect thereto. Benedict Crowell, 21 B.T.A. 849; Allschild Tobacco Co. v. Commissioner, 42 Fed. (2d) 609; Atlanta Casket Co. v. Rose, 22 Fed. (2d) 800; Anderson v. Farmers Loan & Trust Co., 241 Fed. 280; Reinecke v. Spalding, 280 U.S. 227.

Reviewed by the Board.

Decision will be entered u/nder Bule 50.