United States v. Phellis

• Decision Date: 21 November 1921
• Docket Number: No. 260,260
• Citation: 42 S.Ct. 63,257 U.S. 156,66 L.Ed. 180
• Parties: UNITED STATES v. PHELLIS
• Court: U.S. Supreme Court

257 U.S. 156

42 S.Ct. 63

66 L.Ed. 180

UNITED STATES

v PHELLIS.

No. 260.

Argued Oct. 11, 1921.

Decided Nov. 21, 1921.

Mr. James M. Beck, Solicitor General, of Washington, D. C., for the United States.

[Argument of Counsel from pages 157-161 intentionally omitted] Messrs. Wm. A. Glasgow, Jr., of Philadelphia, Pa., and Frank S. Bright, of Washington, D. C., for appellee.

[Argument of Counsel from pages 161-165 intentionally omitted] Mr. Justice PITNEY delivered the opinion of the Court.

The court below sustained the claim of C. W. Phellis for a refund of certain moneys paid by him under protest in discharge of an additional tax assessed against him for the year 1915, based upon alleged income equivalent to the market value of 500 shares of stock of a Delaware corporation called the E. I. du Pont de Nemours & Co., received by him as a dividend upon his 250 shares of stock of the E. I. du Pont de Nemours Powder Company, a New Jersey corporation. The United States appeals.

From the findings of the Court of Claims, read in connection with claimant's petition, the following essential facts appear: In and prior to September, 1915, the New Jersey company had been engaged for many years in the business of manufacturing and selling explosives. Its funded debt and its capital stock at par values were as follows:

                    5% mortgage bonds.............. $ 1,230,000
                    4 1/2% 30-year bonds............ 14,166,000
                    Preferred stock ($100 shares)... 16,068,600
                    Common stock ($100 shares)...... 29,427,100
                                                    -----------
                     Total                          $60,891,700
                 

It had an excess of assets over liabilities showing a large surplus of accumulated profits; the precise amount is not important, except that it should be stated that it was sufficient to cover the dividend distribution presently to be mentioned. In that month a reorganization and financial adjustment of the business was resolved upon and carried into effect with the assent of a sufficient proportion of the stockholders, in which a new corporation was formed under the laws of Delaware with an authorized capital stock of $240,000,000, to consist in part of debenture stock bearing 6 per cent. cumulative dividends, in part of common stock, and to this new corporation all the assets and good will of the New Jersey company were transferred as an entirety and as a going concern, as of October 1, 1915, at a valuation of $120,000,000; the new company assuming all the obligations of the old except its capital stock and funded debt. In payment of the consideration, the old company retained $1,484,100 in cash to be used in redemption of its outstanding 5 per cent. Mortgage bonds, and received $59,661,700 par value in debenture stock of the new company (of which $30,234,600 was to be used in taking up, share for share and dollar for dollar, the preferred stock of the old company and redeeming its 30-year bonds), and $58,854,200 par value of the common stock of the new company, which was to be and was immediately distributed among the common stockholders of the old company as a dividend, paying them two shares of the new stock for each share they held in the old company. This plan was carried out by appropriate corporate action; the new company took over all the assets of the old company, and that company, besides paying off its 5 per cent. bonds, acquired debenture stock of the new company sufficient to liquidate its 4 1/2 per cent. 30-year bonds and retire its preferred stock, additional debenture stock equal in amount at par to its own outstanding common stock, and also two shares of common stock of the Delaware corporation for each share of the outstanding common stock of the New Jersey corporation. Each holder of the New Jersey company's common stock (including claimant), retained his old stock and besides received a dividend of two shares for one in common stock of the Delaware company, and the New Jersey corporation retained in its treasury 6 per cent. debenture stock of the Delaware corporation equivalent to the par value of its own outstanding common stock. The personnel of the stockholders and officers of the two corporations was on October 1, 1915, identical, the new company having elected the same officers as the old; and the holders of common stock in both corporations had the same proportionate stockholding in each. After the reorganization and the distribution of the stock of the Delaware corporation, the New Jersey corporation continued as a going concern, and still exists, but except for the redemption of its outstanding bonds, the exchange of debenture stock for its preferred stock, and a holding of debenture stock to an amount equivalent to its own outstanding common and the collection and disposition of dividends thereon, it has done no business. It is not, however, in process of liquidation. It has received as income upon the Delaware company's debenture stock held by it dividends to the amount of 6 per cent. per annum, which it has paid out to its own stockholders including the claimant. The fair market value of the stock of the New Jersey corporation on September 30, 1915, prior to the reorganization, was $795 per share, and its fair market value, after the execution of the contracts between the two corporations, was on October 1, 1915, $100 per share. The fair market value of the stock of the Delaware corporation distributed as aforesaid was on October 1, 1915, $347.50 per share. The Commissioner of Internal Revenue held that the 500 shares of Delaware company stock acquired by claimant in the distribution was income of the value of $347.50 per share and assessed the additional tax accordingly.

The Court of Claims, observing that from the facts as found claimant's 250 shares of stock in the New Jersey corporation were worth on the market, prior to the transfer and dividend, precisely the same that the same shares plus the Delaware company's shares received by him were worth thereafter, and that he did not gain any increase in the value of his aggregate holdings by the operation, held that the whole transaction was to be regarded as merely a financial reorganization of the business of the company, producing to him no profit and hence no income, and that the distribution was in effect a stock dividend nontaxable as income under the authority of Eisner v. Macomber, 252 U. S. 189, 40 Sup. Ct. 189, 64 L. Ed. 521, 9 A. L. R. 1570, and not within the rule of Peabody v. Eisner, 247 U. S. 347, 38 Sup. Ct. 546, 62 L. Ed. 1152.

We recognize the importance of regarding matters of substance and disregarding forms in applying the provisions of the Sixteenth Amendment and income tax laws enacted thereunder. In a number of cases besides those just cited we have under varying conditions followed the rule. Lynch v. Turrish, 247 U. S. 221, 38 Sup. Ct. 537, 62 L. Ed. 1087; Southern Pacific Co. v. Lowe, 247 U. S. 330, 38 Sup. Ct. 540, 62 L. Ed. 1142; Gulf Oil Corporation v. Lewellyn, 248 U. S. 71, 39 Sup. Ct. 35, 63 L. Ed. 133.

The act under which the tax now in question was imposed (Act of October 3, 1913, c. 16, 38 Stat. 114, 166, 167), declares that income shall include, among other things, gains derived 'from interest, rent, dividends, securities, or the transaction of any lawful business carried on for gain or profit, or gains or profits and income derived from any source whatever.' Disregarding the slight looseness of construction, we interpret 'gains profits, and income derived from * * * dividends,' etc., as meaning, not that everything in the form of a dividend must be treated as income, but that income derived in the way of dividends shall be taxed. Hence the inquiry must be whether the shares of stock in the new company received by claimant as a dividend by reason of his ownership of stock in the old company constituted (to apply the tests laid down in Eisner v. Macomber, 252 U. S. 189, 207, 40 Sup. Ct. 189, 64 L. Ed. 521, 9 A. L. R. 1570), a gain derived from capital, not a gain accruing to capital, nor a growth or increment of value in the investment, but a gain, a profit, something of exchangeable value proceeding from the property, severed from the capital however invested, and coming in, that is, received or drawn by the claimant for his separate use, benefit, and disposal.

Claimant's capital investment was...