Bass v. COMMISSIONER OF INTERNAL REVENUE

• Decision Date: 30 December 1941
• Docket Number: Docket No. 105220.
• Parties: EDITH B. BASS, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
• Court: U.S. Board of Tax Appeals

45 B.T.A. 1117 (1941)

EDITH B. BASS, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Docket No. 105220.

Board of Tax Appeals.

Promulgated December 30, 1941.

Edward C. Thayer, Esq., and E. Barton Chapin, Esq., for the petitioner.

Charles P. Reilly, Esq., for the respondent.

The Commissioner determined a deficiency of $150,596.51 in the petitioner's income tax for the calendar year 1937. The petitioner assigns as error the action of the Commissioner in holding that 2,725 ½ shares of preferred stock of Bird & Son, Inc., received by the petitioner in 1937, constituted a taxable dividend.

FINDINGS OF FACT.

The petitioner filed her individual income tax return for 1937 with the collector of internal revenue for the district of New Hampshire.

Bird & Son, Inc., was incorporated in 1918 under the laws of Massachusetts. It has engaged successfully and increasingly in the business of manufacturing and selling paper and paper products. Its authorized and outstanding capital stock on September 14, 1937, consisted of 600,000 shares of common stock without par value. All of those shares were held by a voting trust which was to terminate on October 9, 1937. Voting trust certificates for most of the stock were held by officers and employees of the corporation and members of the Bird family. There was no market for the voting trust certificates and many holders thereof had indicated that they were in need of some cash and had requested that some arrangement be made to afford a satisfactory market in case they desired to sell a portion of their holdings. A committee was appointed in May 1937 to consider the question. The committee proposed a plan which was ultimately approved and carried out.

The recommendations of the committee were prompted, first, by a desire to provide marketable shares and thus satisfy the shareholders, and, second, to provide the corporation with some additional marketable shares which it could sell and thus eliminate large borrowings which were being used in the business or which could be used to capitalize profits, if that should prove desirable. The committee members gave some consideration to the tax consequences of the plan and received advice of counsel on that subject. They felt that the approaching termination of the voting trust provided a suitable time for the change. They believed that $6,000,000 was a sufficient and proper capitalization for the corporation and surplus should not be changed but should be left as it was for future corporate purposes.

The plan was to increase "the authorized shares of capital stock from 600,000 shares without par value of common stock to 50,000 shares par value $5,000,000 of preferred stock and 600,000 shares without par value of common stock, 30,000 shares of preferred stock to be issued in exchange for 300,000 shares without par value of common stock, having a stated value on the books of the corporation of $3,000,000, and the number of shares without par value of common stock to then be increased to 600,000, so that the entire exchange would be effected without change in capital, the 30,000 shares of preferred stock to be issued being represented by $3,000,000 of capital and the 600,000 without par value of common stock being represented by $3,000,000 of capital (instead of $6,000,000 as heretofore)." The remaining 20,000 shares of preferred were to be retained for whatever future use the directors might deem proper. The preferred and common stock was to be listed on a stock exchange. No change was to be made in the existing surplus and undivided profits.

The board of directors proceeded to carry out the plan immediately after receiving the approval of the state authorities on September 14, 1937. The certificate for 600,000 shares of the outstanding common held by the voting trustees was surrendered and canceled. Temporary certificates for 30,000 shares of preferred and for 300,000 shares of common were issued in the name of the voting trustees. The temporary certificate just mentioned for 300,000 shares of common was canceled and a temporary certificate for 600,000 shares of common was issued in the name of the voting trustees. The certificates, above mentioned, were all dated September 15, 1937, and the various acts just described relating to those certificates were all performed on one day. Appropriate entries were made on the books of the corporation. The capital stock account on September 14, 1937, showed a stated capital of $6,000,000 represented by 600,000 shares of no par common stock. That capital stock account, at the conclusion of the above described transaction, showed $3,000,000 represented by 600,000 shares of no par common stock and $3,000,000 represented by 30,000 shares of preferred. No entries were made in the surplus account as a result of the transactions. The earned surplus, as shown on the books, remained at $5,701,003.82 throughout the transactions. The stated capital of $6,000,000 included a prior capitalization of earnings in the amount of $4,000,000.

The 600.000 shares of common stock prior to September 15, 1937, represented the entire capitalization of the corporation in the amount of $6,000,000, whereas, after the above transactions, the 600,000 shares of common represented on the books only $3,000,000 of the total capitalization of $6,000,000, but otherwise the common stock was the same in every respect after the transactions as it had been before.

The holders of voting trust certificates were requested to send in the certificates so that they could receive certificates for common and preferred stock to which they would be entitled upon termination of the voting trust on October 9, 1937. The petitioner was the owner on September 14, 1937, of a voting trust certificate representing 54,510 shares of common stock. She surrendered that certificate and received in 1937 a certificate for 54,510 shares of common stock and a certificate for 2,725½ shares of preferred stock. The fair market value of the preferred stock at the time she received it was $86 per share.

The common stock was listed...