Hugh Smith, Inc. v. Comm'r of Internal Revenue

Citation8 T.C. 660
Decision Date28 March 1947
Docket NumberDocket No. 8389.
PartiesHUGH SMITH, INC., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
CourtUnited States Tax Court

OPINION TEXT STARTS HERE

1. Petitioner was controlled by an individual, Hugh Smith, until after Smith's death and thereafter by his estate. Smith owned, controlled, and operated certain companies engaged in the business of bottling the finished product of Coca-Cola for sale, and after his death those companies were owned, controlled, and operated by his estate. On September 3, 1931, petitioner entered into a contract with Coca-Cola Bottling Works (Thomas) Inc., by which petitioner was granted the exclusive right and license to ‘use and vend on bottled Coca-Cola the trade mark name Coca-Cola, and all labels and designs pertaining thereto.‘ Thomas, Inc., was to furnish petitioner all syrup used by petitioner and as consideration for such right and syrup petitioner was to pay Thomas, Inc., an amount measured by $1.30 per gallon for all gallonage of syrup used by petitioner. On September 3, 1931, Thomas, Inc., and agreed to furnish Smith all syrup required by him. Furnishing of syrup an amount measured by $1.50 per gallon for all certain of the taxable years his estate also used certain gallonage. Held, that the the allocation by respondent of income to petitioner of 20 cents per gallon for all gallonage of syrup used by Smith was proper under section 45 of the applicable statutes.

2. During all of the taxable years more than 50 per centum in value of petitioner's outstanding stock was owned by not more than five individuals. It is not shown by the record that less than 80 per cent of its income was derived from its use of the ‘the trade mark name Coca-Cola and all labels and designs pertaining thereto.‘ Held, that petitioner must be treated during all the taxable years as a personal holding company and that the income allocated to it herein is taxable to petitioner as royalties within the meaning of the applicable statutes; held, further, that petitioner is entitled to certain dividends credits and not entitled to certain other claimed dividends credits.

3. Held, that petitioner is not subject to penalty for failure to file personal holding company returns. F. E. Hagler, Esq., for the petitioner.

F. M. Thompson, Jr., Esq., and S. Earl Heilman, Esq., for the respondent.

The respondent determined deficiencies in taxes and penalties as follows:

+-----------------------------------------------------------------------------+
                ¦            ¦Income   ¦Excess   ¦Declared value   ¦Personal holding ¦25%     ¦
                ¦Year        ¦tax      ¦profits  ¦excess profits   ¦company surtax   ¦penalty ¦
                ¦            ¦         ¦tax      ¦tax              ¦                 ¦        ¦
                +------------+---------+---------+-----------------+-----------------+--------¦
                ¦1934        ¦         ¦         ¦                 ¦$2,501.18        ¦$625.30 ¦
                +------------+---------+---------+-----------------+-----------------+--------¦
                ¦1935        ¦         ¦         ¦                 ¦2,557.36         ¦639.34  ¦
                +------------+---------+---------+-----------------+-----------------+--------¦
                ¦1936        ¦         ¦         ¦                 ¦1,528.14         ¦382.04  ¦
                +------------+---------+---------+-----------------+-----------------+--------¦
                ¦1937        ¦$3,229.47¦$1,574.64¦                 ¦10,136.76        ¦2,534.19¦
                +------------+---------+---------+-----------------+-----------------+--------¦
                ¦1938        ¦1,796.29 ¦1,513.96 ¦                 ¦9,824.75         ¦2,456.19¦
                +------------+---------+---------+-----------------+-----------------+--------¦
                ¦1939        ¦2,041.60 ¦1,678.88 ¦                 ¦11,138.94        ¦2,784.74¦
                +------------+---------+---------+-----------------+-----------------+--------¦
                ¦1940        ¦2,625.55 ¦         ¦$1,996.45        ¦13,320.22        ¦3,330.06¦
                +------------+---------+---------+-----------------+-----------------+--------¦
                ¦1941        ¦1,272.31 ¦         ¦                 ¦16,929.99        ¦4,232.50¦
                +------------+---------+---------+-----------------+-----------------+--------¦
                ¦1942, Jan. 1¦158.49   ¦         ¦                 ¦5,000.81         ¦1,250.20¦
                ¦to May 31   ¦         ¦         ¦                 ¦                 ¦        ¦
                +-----------------------------------------------------------------------------+
                

The issues to be determined are: (1) Whether the respondent erred in increasing petitioner's reported ‘royalty‘ income under section 45, of the Internal Revenue Code and similar prior statutes to equal 20 cents per gallon of Coca-Cola syrup purchased and used by its principal stockholder during each year, (2) whether petitioner was a personal holding company, and, if so, whether it is entitled to dividends paid credits, and (3) whether petitioner is subject to a penalty for each taxable year for failure to file personal holding company returns.

FINDINGS OF FACT.

The petitioner was a Tennessee corporation. It filed its income tax returns with the collector for the district of Tennessee from its organization July 17, 1931, to the date of its dissolution on May 30, 1942. It never filed a personal holding company tax return.

On October 12, 1932, 60 shares of petitioner were issued in units of 5 shares as follows: 45 shares to Hugh Smith, 10 shares to Laura Smith, his wife, and 5 shares to Kate Flake, secretary and bookkeeper of Hugh Smith. Hugh Smith paid for these 60 shares by turning over to petitioner a Packard automobile valued at $5,100, a Chevrolet automobile valued at $700, and cash of $200, or a total of $6,000. On October 30, 1936, Hugh Smith surrendered a certificate for 5 shares, and in lieu thereof, a certificate for 5 shares was issued to Pete Pitzer, an employee of Hugh Smith. On March 27, 1937, Hugh Smith surrendered another certificate for 5 shares and, in lieu thereof, a certificate for 5 shares was issued to R. E. Sanford, an employee of Hugh Smith. No other stock was issued by petitioner.

Prior to September, 3, 1931, Hugh Smith, as an individual, had operated for many years a Coca-Cola bottling business at Union City, Dyersburg, and Martin Tennessee, and at Fulton and Hickman, Kentucky, under a contract between him and Coca-Cola Bottling Works (Thomas), Inc. (hereinafter referred to as Thomas, Inc.), of Chattanooga, Tennessee, which had a contract with the parent Coca-Cola Co. granting it exclusive rights and privileges in regard to the bottling and selling of Coca-Cola in certain states, including Kentucky and Tennessee, which rights and privileges it was permitted to assign to others within its prescribed territory. Thomas, Inc. was known as a ‘parent bottler under the Coca-Cola Company.‘

Coca-Cola Co. advised Smith in 1931 that in the opinion of its legal department his right to bottle Coca-Cola under his contract with Thomas, Inc., was personal to him, ending with his death, and there was no legal obligation upon Thomas, Inc., to reissue such rights to his heirs or beneficiaries, and suggested that he form a corporation, surrender his contract to Thomas, Inc., and have that company reissue new rights to such corporation. Accordingly, in July 1931 Smith caused the incorporation of petitioner under the laws of Tennessee, for the purposes of acquiring the right from Thomas, Inc., so that it might be ‘perpetuated‘ indefinitely and this afford Smith the power to give his heirs and beneficiaries the benefit of such right. It was not contemplated by Smith that the corporation would engage in the Coca-Cola bottling business.

On September 3, 1931, Thomas, Inc., as first party, and petitioner, by its president, Hugh Smith, as second party, entered into a ‘Bottlers Contract (First Line),‘ in which Thomas, Inc., transferred to petitioner ‘the sole and exclusive right and license that it received by approved transfer from from the Coca-Cola Company to use and vend on bottled Coca-Cola the trade mark name Coca-Cola, and all labels and designs pertaining thereto, in connection with the product 'Bottled Coca-Cola’ in the territory,‘ described as follows:

In the cities of Union City and Martin, Tennessee; Fulton and Hickman, Kentucky, and at all points in Lake, Weakley and Obion Counties, Tennessee; and all points in Dyer County, Tennessee lying north of the Obion River, points within fifty (50) miles of Jackson, Tennessee, being excepted.

Also, all points in Fulton, Hickman and Carlisle Counties, Kentucky, except the town of Bardwell, lying south of a direct line drawn due east and west across Carlisle County, Kentucky, from Laketown, Kentucky, to the Graves County, Kentucky, line.

Thomas also agreed to ‘obtain and furnish‘ petitioner ‘sufficient syrup for bottling purposes to meet the requirements‘ of petitioner in the territory above described, provided Thomas ‘can obtain the delivery to it of such syrup from the Coca-Cola Company under the contract existing between‘ Thomas and the Coca-Cola Co. In consideration of the transfer petitioner, among other things, agreed ‘to buy of or through‘ Thomas, Inc., all the Coca-Cola syrup required or used by it in the preparation for market of its bottled goods and to pay for such syrup $1.30 per gallon delivered to any point in the above described territory where a plant might be established. The consent of Coca-Cola Co. to the contract was endorsed thereon, with the proviso that the contract between the Coca-Cola Co. and Thomas, Inc., would not thereby be altered or changed. On the same date petitioner, by Hugh Smith, its president, as first party, entered into a ‘Sub-bottler's Contract‘ with Hugh Smith, an individual, trading as Union City Coca-Cola Bottling Co., Fulton Coca-Cola Bottling Co. Martin Coca-Cola Bottling Co., and Hickman Coca-Cola Bottling Co., as second party, whereby petitioner transferred to Hugh Smith ‘the sole and exclusive right and license that it received from the Coca-Cola Bottling Works (Thomas), Inc., of Chattanooga, Tennessee, to and all labels and designs...

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