Commissioner of Internal Revenue v. Chase Nat. Bank

• Decision Date: 14 August 1941
• Docket Number: No. 233-236.,233-236.
• Citation: 122 F.2d 540
• Parties: COMMISSIONER OF INTERNAL REVENUE v. CHASE NAT. BANK OF CITY OF NEW YORK (four cases).
• Court: U.S. Court of Appeals — Second Circuit

122 F.2d 540 (1941)

COMMISSIONER OF INTERNAL REVENUE v. CHASE NAT. BANK OF CITY OF NEW YORK (four cases).

Nos. 233-236.

Circuit Court of Appeals, Second Circuit.

August 14, 1941.

Samuel O. Clark, Jr., Asst. Atty. Gen. (Sewall Key and Michael H. Cardozo IV, Sp. Assts. to Atty. Gen., of counsel), for petitioner.

Weston Vernon, Jr., of New York City (Timothy N. Pfeiffer, Hugh L. M. Cole, and Jesse R. Fillman, all of New York City, of counsel), for respondent.

Before L. HAND, AUGUSTUS N. HAND, and CHASE, Circuit Judges.

CHASE, Circuit Judge.

Four petitions to review decisions of the Board of Tax Appeals redetermining deficiencies in the income taxes for 1934 of four separate investment trusts were consolidated and heard together.

The Chase National Bank of the City of New York is the trustee of each trust created by an agreement made with it by the American Depositor Corporation, a New York corporation with its principal office in the City of New York. The Commissioner determined that each trust was to be classed as an association whose income was taxable, under Sec. 801 (a) of the Revenue Act of 1934, 26 U.S.C.A. Int.Rev. Acts, page 790, like that of a corporation. The Board held that they were not taxable under the provisions of that statute and the Commissioner brought petitions for review.

Two of the trusts were ceated when the American Depositor Corporation and the Chase Bank executed two agreements in September, 1931, dated as of July 1, 1931, whereby two fixed trusts called "Corporate Trust Shares, Accumulative Series" and "Corporate Trust Shares, Series AA" came into being. On September 23, 1932, the other two trusts were created when the same parties executed what are called supplemental agreements to set up what are known as "Corporate Trust Shares, Accumulative Series (Modified)" and "Corporate Trust Shares, Series AA (Modified)."

The purpose underlying each trust was to provide investors with a means for acquiring an undivided beneficial interest in a comparatively static list of securities and enable them to participate in a relatively wide-spread investment.

In the case of the Accumulative Series first created, The American Depositor Corporation, which will be called the depositor for convenience, chose common stocks of thirty American corporations after due consideration of their favorable characteristics for investment purposes and made up what were called "units" consisting of sixteen shares of the common stock of each corporation. The units were deposited with the Chase Bank, which will now be called the trustee, and the trustee issued to the depositor certificates which in the aggregate entitled the holders to ten thousand undivided one ten-thousandth interests in a unit. These certificates will be called trust shares. The agreements provided that the depositor might make up additional units of the same number and kinds of stocks, adjusted to reflect any common stock received on the first unit by way of a stock dividend, merger, consolidation, sale of assets, or exchange of stock and that like certificates representing trust shares should be issued by the trustee upon the deposit with the trustee by the depositor of an additional stock unit together with cash equal to any undistributed cash held by the trustee on account of previously deposited units. The stock certificates making up the units were to be registered in the name of the trustee or its nominee and it had generally all the rights of an owner, except as to voting, which the depositor controlled, and as to disposal which was governed by the agreement. The trustee was to receive all increase by way of distributions and on June 30th and December 31st in each year to pay to holders of trust shares their proportionate share of currently distributable funds upon the presentation of coupons. What was to be treated as currently distributable funds was carefully defined in the agreement and comprised what should be received in stated ways less specified expenditures.

The trustee's duties in holding the stock in the units were prescribed in lengthy detail and it could exercise discretion as to such matters only in respect to an option given in connection with a reclassification or change in capital structure or in agreeing to proposals made by a protective committee when the wishes of a majority of the stockholders could not be ascertained.

The depositor was, as found by the Board, given the right within ninety days after the occurrence of stated events to notify the trustee "that it found the purchase of a certain stock in the stock unit portfolio impracticable or inadvisable, whereupon it became the trustee's duty to sell all shares of that stock held by it. The events entitling the depositor to this right were (a) that less than 2,500 shares of the stock had been sold during a 5-day period on the New York Stock or Curb Exchange; (b) that the stock had been removed for 3 days from the trading privileges of an exchange; (c) that the market value of the stock exceeded 30 times its annual cash dividends; (d) that a stock, paying dividends solely in its own common shares, had paid an annual dividend of less than 3 1/2 per cent; (e) that cash dividends on a cash-dividend paying stock had been reduced or had ceased; (f) that the market value of a stock in a stock unit portfolio exceeded 10 per cent of the market value of all. Upon the occurrence of (f), the depositor, after 90 days notice to the trustee, might in the alternative, merely reduce the number of shares of that stock in a stock unit so that its market value would not exceed 10 per cent of the market value of all shares in the unit, whereupon the trustee was required to sell such number of shares of that stock as would equally reduce the number held for all units. In its choice of these alternative actions, the depositor was directed to `consider the preservation of the sound investment character of the Stock Units and not the making of a profit by the holders of the Trust shares as a result of the sale.' Detailed directions were added for steps to eliminate fractional shares. Upon the failure of a distribution by any constituent corporation upon its shares for one year and 30 days, the trustee was to sell the deposited shares of that corporation. In case the number of constituent corporations should fall below 16 as a result of such elimination or through merger, consolidation or dissolution, the trustee was to terminate the agreement forthwith." If events which were not specified in the agreement did occur requiring the exercise of discretion in the administration of the deposited property the trustee was given absolute discretion to take action but neither it nor the depositor was to be held liable whether such action was or was not taken except that each was to be held for "its own willful default or malfeasance."

The agreement was to be effective until June 30, 1951, but was to come to an end sooner if, and when, the stock of less than sixteen constituent corporations remained in a unit; if the taxes, expenses and assessments exceeded cash available or to be expected and the trustee did not elect to advance funds for such purposes; and if the office of trustee became vacant and the depositor failed to appoint a successor. Upon termination, the property held was to be sold and the net proceeds distributed to trust share holders in the manner stated. The compensation of the trustee was to be paid by the depositor and it was to keep proper books and records open to inspection by the depositor and holders of trust share certificates.

These certificates "were to be issued by the trustee and countersigned by the depositor, to contain a list of the shares held in each constituent corporation, corrected to...