American Smelting & Refining Co. v. United States

• Decision Date: 14 June 1941
• Docket Number: No. L-3345.,L-3345.
• Citation: 39 F. Supp. 334
• Parties: AMERICAN SMELTING & REFINING CO. v. UNITED STATES.
• Court: U.S. District Court — District of New Jersey

39 F. Supp. 334

AMERICAN SMELTING & REFINING CO. v. UNITED STATES.

No. L-3345.

District Court, D. New Jersey.

June 14, 1941.

Charles K. Seaman, Jr., of Perth Amboy, N.J. (Ellsworth C. Alvord and Floyd F. Toomey, both of Washington, D.C., of counsel), for plaintiff.

William F. Smith, Acting U. S. Atty., of Newark, N.J., Thorn Lord, Asst. U. S. Atty., of Trenton, N.J., Samuel O. Clark, Jr., Asst. Atty. Gen., and Andrew D. Sharpe and Lester L. Gibson, Sp. Assts. to Atty. Gen., for the Government.

FORMAN, District Judge.

This is an action by the plaintiff, American Smelting and Refining Company, based upon the contention that it is entitled to a deduction in its return of income for the year 1925, and involving a claim for refund to the extent of the alleged deduction.

Plaintiff owned and controlled the American Smelting Securities Company up to its dissolution on January 31, 1923 by virtue of its ownership of all common stock. In addition, there were outstanding issues of Six Per Cent. Cumulative Preferred Stock, Series A, and Five Per Cent. Cumulative Preferred Stock, Series B, both of the par value of $100 per share.

Pursuant to a plan of retirement, plaintiff issued its First Mortgage 30 Year Five Per Cent. Gold Bonds par for par for the Preferred Stock, Series B, and for each issue of Preferred Stock, Series A, an additional cash payment of $7.50 for each share thereof. Plaintiff claims that the securities received by it at all time sold on the New York Stock Exchange for at least $7.50 less than the face amount of the plaintiff's bonds, or less than the face amount of the plaintiff's bonds plus the cash payment of $7.50 where such cash payment was made.

On the theory that its bonds thus issued for property were issued at a discount of 7½%, plaintiff in its return for the year 1925 deducted the sum of $128,539.32 on account of amortization of alleged discount on the bonds. This deduction was disallowed by the Commissioner of Internal Revenue in his final determination of the taxpayer's return of income for the year in question, and the validity of his ruling in that respect is now before us for determination.

The plaintiff in this proceeding issued and exchanged its bonds for property, i. e., listed stocks of another corporation. The face amount of the bonds exceeded the fair market value of the property received as evidenced by the current quotations on the New York Stock Exchange. The plaintiff contends that the resulting difference represents a loss which should be amortized and deducted over the life of the bonds as in the case of an issuance of bonds for cash. The defendant contends that as a matter of law the amortization and deduction of such a loss is restricted to cases wherein bonds are issued for cash.

This problem has been raised before the Board of Tax Appeals in the cases of Carding Gill v. Commissioner, 38 B.T.A. 669, Southern Ry. Co. v. Commissioner, 27 B.T.A. 673, The New York, Chicago & St. Louis R. Co. v. Commissioner, 23 B.T. A. 177, Kansas City Southern Ry. Co. v. Commissioner, 22 B.T.A. 949. In each of these cases, however, the issue was avoided on the ground of lack of proof with respect to the value of the property received by the taxpayer. In the case of Kansas City Southern Ry. Co. v. Commissioner, supra, doubt was expressed that the term "discount" could be applied to anything but an exchange of securities for cash. This doubt, however, is dispelled in the later case of Carding Gill v. Commissioner, supra, wherein it may be inferred that the contention of the taxpayer would have received favorable consideration were it not for a deficiency in proof with respect to the value of the property received in exchange for the securities of the taxpayer.

Since the above cases before the Board of Tax Appeals, the court in the case of Dodge Bros, Inc. v. United States, D. C., 33 F.Supp. 312, affirmed Dodge Bros, Inc. v. United States, 4 Cir., 118 F.2d 95, has made the following pertinent observations: "The basis on which bond discount is permitted to be deducted from gross income in income tax accounting is that it constitutes in effect additional interest over the rates specified in the bonds, and is thus an added expense in the conduct of business. When interest bearing bonds or debentures, the principal of which is payable in the future, are issued for money in an amount less than the principal of the bonds or debentures, it is obvious that the borrower will sustain a definite and certain loss, if it remains solvent, in the amount of the difference between the sum received and the principal value of the obligation. The difference is commonly called discount and when amortized over the life of the bond issue is in effect added interest. The Treasury Regulations recognize this and permit amortization in proper amount, and this practice has been definitely approved in many court cases. Helvering v. Union Pac. R. Co., 293 U.S. 282, 55 S.Ct. 165, 79 L.Ed. 363; American Gas & Elec. Co. v. Commissioner, 2 Cir., 85 F.2d 527, 529, 530; Western Maryland Ry. Co. v. Commissioner, 4 Cir., 33 F.2d 695, 697; San Joaquin Light & Power Corp. v. McLaughlin, 9 Cir., 65 F.2d 677, 679. But when, as in this case, the bonds are issued for property a different situation results, because in that case it is not certain whether the transaction will involve a loss until the property so acquired is disposed of. The only immediate tax effect is to fix the cost basis of the property to the taxpayer. The income tax law is ordinarily concerned only with realized losses and gains. Lucas v. American Code Co., 280 U.S. 445, 449, 50 S.Ct. 202, 74 L.Ed. 538, 67 A.L.R. 1010; Burnet v. Huff, 288 U.S. 156, 53 S.Ct. 330, 77 L.Ed. 670; United States v. S. S. White Dental Co., 274 U.S. 398, 401, 47 S.Ct. 598, 71 L.Ed. 1120; Weiss v. Wiener, 279 U.S. 333, 335, 49 S.Ct. 337, 73 L.Ed. 720. Counsel have not been able to refer me to any decided cases...