FARMERS UNION CORPORATION v. Commissioner, Docket No. 69647.
| Decision Date | 31 August 1960 |
| Docket Number | Docket No. 69647. |
| Citation | 19 TCM (CCH) 941,1960 TC Memo 179 |
| Parties | The Farmers Union Corporation v. Commissioner. |
| Court | U.S. Tax Court |
Ralph A. Yeo, Esq., 3404 Fernwood Street, San Mateo, Calif., for the petitioner. Aaron S. Resnik, Esq., and Godfrey Munter, Esq., for the respondent.
The Commissioner determined income tax deficiencies for the taxable years 1951, 1952, and 1953 in the respective amounts of $22,309.36, $4,830.95, and $7,676.72.
The chief issue is whether a transfer by petitioner in 1951 of all of the assets of its hardware business in exchange for 8,000 shares of petitioner's stock was a sale for stock, or a distribution in partial liquidation under section 115(c), 1939 Code, in redemption of the stock. The petitioner contends that it sold the assets at a loss. A related question is whether petitioner had a net operating loss in 1951 which can be carried over to 1952 and 1953 under section 122(b) (2)(B). The second issue is whether expenditures of $450 in 1951 and $1,650.50 in 1952 for accounting, escrow, and legal fees are deductible business expenses under section 23(a)(1)(A).
The petitioner files its returns for the taxable years with the district director of internal revenue for the first district of California located in San Francisco. The petitioner keeps its books and files its returns on the basis of calendar years and an accrual method of accounting.
The petitioner is a California corporation which was organized on May 19, 1874. Its place of business has been and is at 151 West Santa Clara Street, San Jose, California. It is referred to hereinafter as Farmers Union. Under its articles of incorporation, the petitioner is authorized to establish and operate stores and warehouses, buy and sell merchandise, machinery, and agricultural implements and products, borrow and loan money, and conduct a general commercial and mercantile business.
The petitioner has carried on business in San Jose, in the downtown section, continuously since 1874. The primary business of the petitioner, several years before the years involved here was the operation of a general, retail mercantile store which had several departments in which there were sold groceries, meats, household wares, paints, gardening tools, plumbing supplies, and builders' hardware. The store was a general country store.
Petitioner owns the land and building where its business is conducted and some other real estate. The Farmers Union building is a 3-story building. The store occupied the ground floor. The upper part of the building was leased as a small hotel. In 1951 petitioner received $13,800 rent for the space rented to the hotel operator.
During the early years of petitioner's mercantile business, San Jose was a small community which served farmers and fruit growers in the Santa Clara Valley, and petitioner's customers were largely the farmers and country people in the area. As San Jose grew into a substantial city where general commercial and industrial businesses became established and the community changed and developed, petitioner's business went through various changes and competition increased. By about 1940, the operation of certain departments in petitioner's store had become unprofitable. The grocery and meat departments were closed and the business became chiefly a hardware business.
In 1951, the petitioner transferred its mercantile and hardware assets and business, but it continued to own the building (which had been rebuilt in 1930), and it rented all of the space to tenants. It leased the store to a partnership.
The authorized and outstanding stock of the petitioner as of January 1, 1951, and prior thereto, was $200,000, which consisted of 20,000 shares of common stock having a par value of $10 per share. All of the stock was held by 134 stockholders as of June 15, 1951.
During the years which are material, the president of the petitioner was John P. McEnery, and its secretary was David C. Kirby. McEnery became president in about 1947 and he held that office until 1952. In 1955, he became the secretary. In 1951, the directors of the petitioner corporation were McEnery, George Singletary, Louis A. Rossi, and Kirby.
As of June 15, 1951, most of the 134 stockholders held stock in small lots of from 3 shares to less than 100 shares, each. Those who owned 100 shares, or more, were as follows:
Stockholders Shares
1. Carrie A. Barker............. 251
2. W. C. Bailey................. 129
3. Robert F. Benson............. 8,017
4. Emma Cerutti ................ 105
5. L. A. Fitts ................. 400
6. David C. Kirby............... 477
7. Phillip Lansdale ............ 600
8. S. and M. Le Deit............ 150
9. John P. McEnery.............. 6,236
10. Mayme Roper ................ 406
11. J. Saunders ................ 175
12. George Singletary .......... 133
Among the smaller stockholders were the following who owned the number of shares designated: Alden French, 25 shares; Margaret O. D. Haworth, 25 shares; C. E. Righter, 28 shares; and Herbert S. Stark, 28 shares.
Benson and McEnery owned the majority of the common stock of the petitioner, 14,253 shares, as follows:
Robert F. Benson..... 8,017 shares
John P. McEnery...... 6,236 shares
______
14,253 shares
The balance of the stock, 5,747 shares, was held by about 132 stockholders.
As of June 15, 1951, the combined stockholding of McEnery and Benson constituted 71 per cent of the outstanding stock of petitioner. McEnery owned, individually, 31 per cent of the outstanding stock, and Benson owned 40 per cent.
Prior to 1951, the directors of the petitioner paid a good deal of attention to a continuing problem of high inventories in the mercantile business which reflected a slowing down of sales of certain items. From time to time certain types of merchandise which were not selling quickly or profitably were discontinued. The directors instructed the manager of the store to increase his efforts to sell larger quantities of merchandise and to reduce inventories of unprofitable lines of goods. In about 1945 and thereafter, petitioner's president gave consideration to the possibility of selling petitioner's mercantile business but petitioner never received and its directors never considered any specific offer of anyone to purchase the business.
At a regular meeting of the directors on August 17, 1950, Benson proposed that consideration be given to the feasibility of separating the petitioner into 2 corporations, one to hold and operate the real estate and the other to carry on the mercantile business. The directors authorized petitioner's attorney, who was the secretary, to study the matter and to look into the tax and accounting aspects of the proposal. On September 18, 1950, at a director's meeting, the attorney gave a report on the proposal to divide petitioner into 2 corporations and he advised the directors that he had asked the collector of internal revenue for information about the tax aspects. At a meeting of the directors on November 13, 1950, the directors decided to submit the proposal to the stockholders for their approval. The then contemplated plan involved the organization of a new corporation to be called The Farmers Union Building Corporation. On November 13, 1950, at a special meeting of the stockholders, a printed outline of the proposed division of petitioner into 2 corporations was distributed and a resolution was adopted authorizing the directors to form a new corporation as of January 2, 1951, to which the real estate owned by petitioner would be transferred in exchange for all of its stock, 20,000 shares having a par value of $10 per share, which stock would be distributed on a 1 for 1 basis to all of petitioner's stockholders.
Although the above action was taken by the stockholders on November 13, 1950, for some unexplained reason the plan to form a new corporation and to separate the real estate assets from the mercantile and hardware business was abandoned. However, further consideration was given to the general proposal and at a monthly meeting of the directors on May 17, 1951, petitioner's president submitted to the directors a plan for the segregation of the business of petitioner which consisted of owning and operating its real estate from its mercantile business "by means of a sale of some of the assets of the corporation to the stockholders in exchange for the capital stock." Petitioner's secretary and attorney, Kirby, was authorized to proceed with such plan and to prepare a resolution for submission to the directors and stockholders. At the same meeting a resolution was adopted declaring a dividend payable June 30, 1951, of 40 cents per share, or $8,000.
At a special meeting of the directors on May 22, 1951, a resolution was adopted approving a plan whereby petitioner would offer to its stockholders the opportunity to exchange for 8,000 shares of petitioner's stock all of the assets used in and constituting its mercantile and hardware business, subject to designated liabilities.
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