Georgia-Pacific Corp. v. Comm'r of Internal Revenue
| Citation | 63 T.C. 790 |
| Decision Date | 31 March 1975 |
| Docket Number | Docket No. 9074-72. |
| Parties | GEORGIA-PACIFIC CORPORATION, TRANSFEREE, PETITIONER v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT |
| Court | United States Tax Court |
OPINION TEXT STARTS HERE
Maurice O. Georges, for the petitioner.
Gary DeFrang, for the respondent.
Petitioner is the transferee of Colortype, against which a deficiency was assessed for 1968. Petitioner acquired all of Colortype's assets in a ‘C’ reorganization on Jan. 8, 1969. Colortype and its wholly owned subsidiary, McDonald filed consolidated returns for 1968 and prior years during which periods excess losses of McDonald were utilized in computing the group's consolidated income. The group did not file a consolidated return for the short period Jan. 1 to Jan. 7, 1969. Accordingly, Colortype is deemed to have disposed of its McDonald stock on Dec. 31, 1968. Held, upon the deemed disposition of McDonald's stock Colortype must include in income its excess loss account of $312,683 (the excess of McDonald's losses taken into account in computing taxable income over Colortype's basis in McDonald's stock). Treasury regulations sec. 1.1502-19 as in effect for 1968 is valid. Held, further, advances made by Colortype to McDonald were loans, rather than contributions to capital which could offset McDonald's excess losses.
Respondent determined that petitioner is liable as a transferee for a deficiency of $74,097 determined against the Multi-Colortype Co. for its taxable year 1968.
The issues to be decided are:
(1) Whether all or any of the Multi-Colortype Co.‘s advances in July 1964 and September 1967 to its wholly owned subsidiary represent capital contributions rather than loans; and (2) Whether the Multi-Colortype Co. must report as income its excess loss account with respect to the stock of its subsidiary as the result of the disposition of that stock.
Some of the facts have been stipulated and are so found.
Petitioner Georgia-Pacific Corp. (GPC), a Georgia corporation, maintained its principal office in Portland, Oreg., when it filed its petition herein. GPC is the transferee at law of the Multi-Colortype Co. (Colortype), and is liable for any deficiency in income tax determined to be owned by Colortype, plus interest thereon as provided by law.
Colortype, an Ohio corporation, was organized in 1918. During the year in issue (1968), Colortype had 104 stockholders, and no individual or family owned in excess of 25 percent of its stock. It kept its records and filed its returns on a calendar year and used the accrual method of accounting. It filed its 1968 income tax return with the Internal Revenue Service Center in Covington, Ky. On January 8, 1969, Colortype transferred all of its assets to GPC in exchange for GPC common stock and GPC'S assumption of its liabilities pursuant to a section 368(a)(1)(C) reorganization. Colortype then liquidated by transferring the GPC stock to its shareholders in redemption of their Colortype stock.
Colortype was engaged in the commercial printing business. On April 30, 1964, Colortype entered into an agreement with Standard International Corp. (Standard) to purchase the assets of Standard's McDonald Printing Division for $1 million cash. In April 1964, Colortype organized the McDonald Printing Co., Inc. (McDonald), an Ohio corporation, to receive the assets acquired from Standard and to conduct the printing business formerly handled by the McDonald Printing Division of Standard. In June 1964, Colortype contributed $400,000 to McDonald in exchange for 100 shares (representing 100 percent) of McDonald common stock. McDonald was and remained the sole subsidiary of Colortype until Colortype was dissolved.
On June 23, 1964, Colortype assigned all its interest in the April 30, 1964, agreement with Standard to McDonald, and McDonald undertook to discharge Colortype's remaining obligations thereunder. On June 26, 1964, McDonald borrowed $1,200,000 from the Fifth Third Union Trust Co. (Fifth Third) of Cincinnati to enable McDonald to complete the purchase from Standard. On July 1, 1964, Colortype advanced $700,000 to McDonald (July 1964 advance) in exchange for a promissory note payable 2 years from execution and bearing interest at 4 1/2 percent per annum. McDonald immediately used the $700,000 advance to reduce the balance owed Fifth Third to $500,000.
On November 1, 1964, McDonald repaid $100,000 principal of the July 1964 advance from Colortype. On November 2, 1964, McDonald borrowed an additional $200,000 from Fifth Third, increasing its total loan from Fifth Third to $700,000.
On July 30, 1965, McDonald and Fifth Third entered into a loan agreement (term loan agreement) whereby Fifth Third agreed to loan McDonald not to exceed $1,100,000, to be borrowed from time to time but prior to April 1, 1966. From July 30, 1965, through December 31, 1966, McDonald borrowed and repaid funds pursuant to the term loan agreement so that on December 31, 1966, the outstanding balance owed Fifth Third was $1 million. The $600,000 balance of Colortype's July 1964 advance remained unpaid during this period.
The term loan agreement with Fifth Third provided in part:
Borrower (McDonald) further covenants and agrees that from and after the date hereof and while the note of Borrower hereinabove contemplated shall be outstanding, Borrower will not, without the written consent of the Bank (Fifth Third)—
(h) Maintain, incur or create any indebtedness whatsoever other than: * * *
(8) indebtedness consented to by bank and subordinate and subordinated to Bank which by its terms cannot jeopardize or hinder payment of this loan to bank;
At the July 19, 1967 meeting of McDonald's board of directors, an income statement for McDonald for the 6-month period ending June 30, 1967, was presented. This statement reflected a $93,295 loss. A projected statement of McDonald's income for the last 6 months of 1967 was also presented. The projection was that McDonald would realize a small profit for the year. However, by July 31, 1967, the loss for the year had grown to $220,000, and by September 1967 McDonald's cash position had become severely depleted. McDonald sought to borrow more cash from Fifth Third. Fifth Third refused to loan additional funds directly to McDonald, but agreed to loan money to Colortype, which Fifth Third understood Colortype would in turn loan to McDonald. In September 1967 Colortype borrowed $300,000 from Fifth Third and then advanced that sum (September 1967 advance) to McDonald. Fifth Third agreed to a limited release of McDonald from the term loan agreement subordination requirement; on maturity of the September 1967 note payable by Colortype to Fifth Third, McDonald would be permitted to repay its $300,000 loan from Colortype, which would then repay its $300,000 loan to Fifth Third.
In connection with the application for the $300,000 loan which Fifth Third made to Colortype in September 1967, Mr. Stryker, president of McDonald and Colortype, represented to the bank that the money obtained by Colortype would be loaned to McDonald and that the loan was intended for the temporary use of McDonald. Mr. Stryker did not represent to the bank that the loan was to be contributed to the equity capital of McDonald.
Colortype paid off the September 1967 note to Fifth Third in December 1968 out of its own funds without receiving any payment from McDonald on its September 1967 advance. McDonald made all its required payments to Fifth Third on its outstanding loans from the bank. McDonald made final payment on its bank loan after the 1969 reorganization.
Colortype accrued interest income on both the July 1964 and September 1967 advances and McDonald accrued corresponding interest expense through 1968. McDonald paid the accrued interest expense through the year 1967. The books and records, financial statements, corporate minutes, and tax returns of both Colortype and McDonald characterized and treated Colortype's July 1964 and September 1967 advances as loans. Neither the shareholders nor the board of directors of Colortype authorized or approved a contribution by Colortype to the equity capital of McDonald other than the $400,000 which was contributed to McDonald in June 1964. Prior to the trial of this proceeding, neither of these corporations treated the advances as anything other than loans.
Mr. Stryker, president of McDonald and Colortype, felt that the financial statements of McDonald and Colortype which characterized the July 1964 and September 1967 advances as loans reflected the true financial structure of these two corporations, and that the shareholders of these two corporations could rely on the financial statements as reflecting the true financial structure of the corporations.
Records of Fifth Third characterized Colortype's July 1964 and September 1967 advances as loans.
During the period 1964 through 1967 McDonald realized the following taxable income and losses:
+-----------------------------------+
¦1964¦($21,127.18)¦1966¦$195,544.86 ¦
+----+------------+----+------------¦
¦1965¦138,853.05 ¦1967¦(516,550.00)¦
+-----------------------------------+
McDonald incurred heavy research and development expenses to reacquire some of Proctor & Gamble Co.‘s lost business. These expenditures contributed to the losses McDonald experienced in 1967 and 1968.
On October 5, 1971, petitioner submitted to respondent a balance sheet for McDonald as of December 31, 1968, which compared the book value and fair market value of McDonald's assets and listed its liabilities. This balance sheet represented that Colortype's investment in the equity capital of McDonald was in the amount of $400,000. The assets, liabilities, and stockholder equity set forth on the balance sheet are as follows:
+----------------------------------------------------------------+
¦ ¦Book value ¦Fair market value ¦Difference ¦
+-----------------+-------------+-------------------+------------¦
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