Claridge Apartments Co v. Commissioner of Internal Revenue

Decision Date04 December 1944
Docket NumberNos. 28,29,s. 28
Citation65 S.Ct. 172,323 U.S. 141,89 L.Ed. 139
PartiesCLARIDGE APARTMENTS CO. v. COMMISSIONER OF INTERNAL REVENUE
CourtU.S. Supreme Court

Mr. John E. Hughes, of Chicago, Ill., for petitioner.

Mr. Chester T. Lane, of Washington, D.C., for respondent.

Mr. Justice RUTLEDGE delivered the opinion of the Court.

The issues arise out of deficiency assessments made in respect to petitioner's federal income and excess profits taxes for the years 1935 to 1938 inclusive. They involve the applicability of Section 270 of the Bankruptcy Act, as amended,1 so as to require reduction of depreciation allowances claimed.

The transactions arose in connection with a reorganization proceeding under Section 77B, 48 Stat. 912, 11 U.S.C.A. § 207. They consisted essentially of petitioner's acquisition of all the assets of the insolvent debtor corporation, by an exchange of its capital stock, without pay value for the latter's bonds then outstanding. The Commissioner contends that the exchange resulted in a cancellation or reduction of indebtedness within the meaning of Section 270, so as to require a corresponding reduction in the basis of the property transferred. Accordingly he now urges that the assessment should be made, as the section requires, upon the basis of the fair market value of the property. 2 The taxpayer's claim is made on the higher basis of the debtor corporation, in the view that Section 270 is not applicable to such a transaction.

This difference has been the basic one between the parties in proceedings before the Tax Court,3 the Circuit Court of Appeals and here. Others include a similar question with respect to the extinction of the debtor's liability for the accrued unpaid interest on the bonds and whether Section 270 is made applicable retroactively to the years prior to 1938, by virtue of the provisions of Section 276, sub. c(3) of the Chandler Act, 11 U.S.C.A. § 676, sub. c(3).4

The Tax Court decided the principal issue on the merits in favor of the taxpayer, except with respect to the accrued interest. Cf. also Capento Securities Corp. v. Commissioner, 47 B.T.A. 691, affirmed, 140 F.2d 382. It likewise limited the application of Section 270 to the year 1938 and succeeding years. 1 T.C. 163. The Court of Appeals reversed the Tax Court's decision in both respects, holding there was a cancellation of indebtedness with respect to the unpaid principal5 and that Section 270 was applicable retroactively to require the prescribed reduction in basis for each of the tax years in question. 138 F.2d 962. Certiorari was granted, 321 U.S. 759, 64 S.Ct. 788, because of the importance of the questions presented and a conflict on the question of retroactivity.6 The facts are stated shortly in the margin, to give concrete perspective.7

I.

Petitioner earnestly argues that the Tax Court's decision, so far as this was in its favor, should be affirmed on the authority of Dobson v. Commissioner, 320 U.S. 489, 64 S.Ct. 239, though in other respects it seeks a reversal of that court's judgment.8 For reasons presently to be stated, we think the case must be disposed of in its entirety by the application of Section 276, sub. c(3), which determines the extent to which Sections 268 and 270 are applicable in point of time. Accordingly, we are not required to pass upon the merits of the other interesting issues or whether they fall within the Dobson admonition. On the other hand, the question of the applicability of Sections 268 and 270, under the terms of Section 276, sub. c(3), to the transactions involved in this case obviously is one of law and of a sort not requiring the specialized experience of the Tax Court to determine. Furthermore, it involves making an accommodation between the conflicting policies, in part, of the bankruptcy laws and the revenue enactments. Sections 268 and 270 are integral parts of the former, though related in subject matter to the latter, and were so placed for purposes relevant primarily to that legislation. For these reasons the issue falls beyond the scope of the Dobson case.

II.

The question presented by Section 276, sub. c(3) must be determined in the light of the problem created by Sections 268 and 270. A statement of their history is necessary to a general understanding of that problem. It stems basically from United States v. Kirby Lumber Co., 284 U.S. 1, 52 S.Ct. 4, 76 L.Ed. 131, and subsequent decisions which have applied the principle of that case.9 By them a corporation may realize income from the cancellation or reduction of indebtedness, depending upon the circumstances in which the transaction occurs. However, the line between income producing reductions and others is not precise or definite and great uncertainty prevailed concerning it, both in 1934 when Section 77B was enacted and in 1938 when Chapter X of the Chandler Act was adopted, 11 U.S.C.A. § 501 et seq. The uncertainty was greatest perhaps in relation to transactions occurring in the course of insolvent reorganizations.10

Some of the obscurity has been created by the very legislation enacted to remove it. This has been true of the successive 'reorganization' provisions, including those for 'nonrecognition' and for transfer of 'basis,' which have appeared in the various revenue acts from 1918 (cf. 40 Stat. 1057) forward. Closely related, as these have been, to the problem whether income is realized by the cancellation or reduction of indebtedness in connection with a reorganization, they have tended to obscure if not to blot out that problem altogether in situations covered by their terms.11

By and large the provisions are the product of and have reflected efforts at compromise, none too successful, between the conflicting pulls of policy involved in the revenue acts and in the bankruptcy legislation. They were drawn and enacted however as parts of the revenue laws and have reflected increasingly the policy of that legislation.12 Accordingly, the succession of statutes relating to this field, prior to Sections 268 and 270, represents a series of shifts in the legislative pendulum from initial broad tax relief, to encourage needed reorganizations, toward narrowed exemption, in order to discourage use of reorganization for evasion of taxes. The general purpose of the provisions, however, was to postpone the tax consequences which otherwise might ensue upon transactions occurring in such circumstances that immediate imposition was regarded as economically unjustifiable.13 This continued in the 1934 general revision,14 which remained in effect during the period of this litigation.

In some respects, as compared with the preexisting legislation, the 1934 provisions broadened, but in others they restricted the scope of application of the principles of nonrecognition and transfer of basis.15 Nevertheless they were applicable to all exchanges falling within their terms, whether or not the plan was executed in connection with a judicial proceeding. Consequently, when in June, 1934, Section 77B was adopted, the 1934 revenue provisions became applicable to reorganizations under that section, but only if they met the tests prescribed in the revenue acts, including such judicially interpolated matters as 'continuity of interest' and 'business purpose.'16 Many 77B reorganizations did not qualify under these tests or on substantial grounds were thought not to do so.

The consequence was seriously to clog the use of the 77B procedure. Obstacles were imposed not only by the differences in the two statutory definitions of 'reorganization,' but also by ambiguities in each definition which in themselves created considerable areas of uncertainty.17 And underlying these remained the mystery of when income would be regarded as realized, which continued to haunt reorganizers unsure of whether they could bring themselves within the statutory exemptions. In short, the necessity of squaring the reorganization first with Section 77B, then with the different terms of the revenue provisions, and the uncertainties involved under each statute in doing this, added to the puzzle of 'realized income,' made the process of creditors' reorganization under the former act a highly dubious adventure. To an undetermined extent the effect of the revenue act's provisions was to nullify or make impossible of realization the objects of Section 77B.

In this setting Congress adopted the Chandler Act in 1938. That statute was a general revision of the provisions for bankruptcy reorganization, including those previously made under Section 77B. One of its principal objects was to encourage the freer use of bankruptcy reorganization in order to avoid unnecessary or premature liquidations. By this time Congress had become aware of the hazardous and hampering effects of the 1934 revenue provisions upon the operation of bankruptcy reorganizations under Section 77B. The objectives of the Chandler Act, in similar situations, could not be achieved without removal of these impediments. Some provision was essential to prevent them from having the same effects upon the working of the new legislation. Accordingly Section 268 was devised for this purpose and became a part of the Chandler Act itself. It had no other object, and there was no other occasion for its being, than to free Chapter X reorganizations from the tax deterrents, including tax uncertainties, imposed by the existing revenue act provisions.

The relieving effect of Section 268 was confined in three ways, namely, (1) to transactions occurring in a Chapter X reorganization; (2) to transactions involving a modification or a cancellation, in whole or in part, of the debtor's indebtedness; and (3) its benefits were limited to the debtor corporation, the trustee, if any, provided for in the plan, and the successor or transferee corporation. Within these limitations the section provided that 'no income or profit, taxable under any law * * * shall * * * be deemed to have accrued to or to have...

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