IN RE SCRANTON CORPORATION, 11338.

• Decision Date: 23 October 1964
• Docket Number: No. 11338.,11338.
• Parties: In the Matter of the SCRANTON CORPORATION, Debtor.
• Court: U.S. District Court — Middle District of Pennsylvania

235 F. Supp. 770

In the Matter of the SCRANTON CORPORATION, Debtor.

No. 11338.

United States District Court M. D. Pennsylvania.

October 23, 1964.

Nogi, O'Malley & Harris, Scranton, Pa., for trustees.

Bernard J. Brown, U. S. Atty., Scranton, Pa., for United States Internal Revenue Service.

SHERIDAN, Chief Judge.

This is a petition by the trustees of The Scranton Corporation (Scranton), debtor in reorganization proceedings under Chapter X of the Bankruptcy Act, for an order to enjoin the Tax Court of the United States from proceeding upon certain petitions of Storm-Vulcan, Inc. (Storm-Vulcan) and Scranton Factors Corporation (Scranton Factors), wholly owned subsidiaries of Scranton, and to have this court assert its jurisdiction over the matters pending before the Tax Court.

On April 3, 1959, Scranton filed a petition for reorganization under Chapter X of the Bankruptcy Act. The duly appointed trustees filed consolidated income tax returns for the years 1958 and 1959. These returns included the income of Storm-Vulcan and Scranton Factors, the only two subsidiaries of Scranton to show income during those years. The net losses of Scranton and other subsidiaries were enough to offset the income of Storm-Vulcan and Scranton Factors.

The Internal Revenue Service disallowed the "consolidation," and assessed tax deficiencies against Storm-Vulcan and Scranton Factors. The basis for the disallowance was that all members of an affiliated group, which comprises the parent and all subsidiary corporations whose stock is at least 80 percent "owned" by the parent, must file a consent to the consolidation and the income of each must be included in the return, and Mutual Broadcasting System, Inc. (Mutual), "owned" by Scranton, did not file a consent and its income was not included in the return. The Internal Revenue Service, therefore, treated the income of each member of the consolidated group as returnable separately. The trustees contend that Mutual was not a member of the affiliated group for consolidated return purposes, and, therefore, that the deficiencies were erroneously assessed.

The trustees of Scranton undertook negotiations with the Internal Revenue Service at the various administrative stages. While the negotiations were being carried on, the trustees filed petitions to have the Tax Court make a determination of these matters. These petitions, it is contended, were filed to "protect the record" during the negotiating process. The trustees now seek to have this court assert jurisdiction over these matters and to restrain the Tax Court from proceeding.

While the issue of the ownership of Mutual is not before the court on the instant petition, for background purposes, the reoganization proceedings and Mutual's connection therewith may be briefly summarized as follows.

During 1958 and 1959, F. L. Jacobs Company, Detroit, Michigan (Jacobs), Scranton and Hal Roach Studios (Hal Roach) came under the domination of Alexander Guterma and associates. Jacobs held the majority of Scranton's outstanding capital stock and Scranton held all of the stock of Hal Roach. Guterma was chairman of the board of directors of the three concerns. During this time also, Hal Roach wholly owned or had 50 percent stock interests in Rabco T.V. Productions, Inc. (Rabco), W-R Corporation, Passing Parade Films, Inc. and R. & M. Productions, Inc. The trustees' investigations showed that these companies and others had been involved in numerous intricate and financial transactions apparently outside the ordinary course of business. Many of the transactions were not recorded on the books and records of the company and others were unauthorized. The officers of the companies, other than the Guterma group, were unaware of many of the transactions which included joint acquisition of companies, unusual borrowings, and guarantees by one company of the borrowings of another. One of these transactions included the purchase of Mutual. In September, 1958, Scranton and Hal Roach purchased all of the capital stock, and certain loans receivable, of Mutual. Hal Roach furnished the $250,000 down payment. For a portion of the balance of the purchase price Hal Roach and Scranton jointly made notes which were endorsed by Jacobs and Guterma as guarantors, and Scranton issued 20,000 shares of its common stock for the balance of the price. Apparently there is no evidence as to how the ownership of Mutual was to be considered between Scranton and Hal Roach. Six months later Mutual was sold at a substantial loss. By that time Scranton became guarantor of substantial obligations of Mutual. As a part of the sale consideration the purchaser agreed to furnish Scranton and Hal Roach over a period of years commercial announcement time aggregating $1,350,000. Four months later, however, Mutual filed in the United States District Court for the Southern District of New York a petition for arrangement under Chapter XI of the Bankruptcy Act. Its arrangement called for a payment of 10 percent to general creditors, but after negotiations, it agreed to fully abide by its agreement to furnish Hal Roach and Scranton with the commercial announcement time. Hal Roach (subsequently sold) had no use for this time and so it was being used by Scranton alone to advertise its products. By virtue of fractional payments to Mutual's creditors, Scranton could incur substantial liability as a guarantor of Mutual's obligations.

In 1959, Guterma was convicted of violating federal securities laws and has since pleaded guilty to many other charges. Shortly after Guterma's arrest, Scranton, Hal Roach, Jacobs and Rabco filed petitions for reorganization under Chapter X of the Bankruptcy Act. Proceedings under the Bankruptcy Act have been filed by other firms, not mentioned in this summary, which were also involved in the unusual transactions. The trustees in each of these proceedings filed numerous claims and cross-claims arising from the unusual transactions previously described.

For bookkeeping purposes only the trustees have considered Scranton the owner of Mutual, and the amounts advanced by Hal Roach for the purchase of Mutual have been reflected as advances to Scranton. It is anticipated that the issue of Mutual's ownership and liability for its debts will be the subject of litigation between Scranton and Hal Roach at a future time, when this and other unusual transactions will be considered in determining the validity of intercompany claims.

Neither Storm-Vulcan nor Scranton Factors was brought in as a party to the reorganization proceedings in this court. Storm-Vulcan, located in Texas, is engaged in the business of manufacturing automotive engine rebuilding equipment, and is apparently a profitable enterprise and a leader in its field. Scranton Factors was initially formed to undertake factoring, but became a conduit through which Guterma siphoned off assets of Scranton and various of Scranton's subsidiaries. Its principal asset was a stock subscription receivable from Scranton. It apparently has no income and some liabilities.

The Government contends that this court has no jurisdiction over the matters pending before the Tax Court, and has no jurisdiction to enjoin the Tax Court from proceeding.

Section 111 of Chapter X of the Bankruptcy Act, 11 U.S.C.A. § 511, provides in part:

"Where not inconsistent with the provisions of this chapter, the court in which a petition is filed shall, for the purposes of this chapter, have exclusive jurisdiction of the debtor and its property, wherever located."

In commenting on this section as it relates to the bankruptcy court's jurisdiction over subsidiaries, it is stated in 6 Collier, Bankruptcy, ¶ 3.11, at pages 629-31 (14th ed.):

"Accordingly, in the case where a subsidiary is not undergoing reorganization, either because no petition has been filed by or against it or because it is not eligible to relief under Chapter X, the jurisdiction of the court wherein the parent's proceeding is pending presents special problems in relation to the subsidiary. Except in circumstances in which the parent and subsidiary are so completely `one' that the corporate veil may be pierced with impunity and technicalities laid aside, the tendency of the courts, in general, is to interpret their jurisdiction over the debtor parent as limited to the parent's property ownership, i. e., to the stock held by the parent corporation. Hence the court in which the parent is being reorganized has no jurisdiction to enjoin an action against a subsidiary of the debtor, even though the debtor is a substantial shareholder, and though the outcome of the plan will be affected by the pending suit.

Such a suit is not against the debtor's property, since it is directed not against the debtor's stock but against the assets of the subsidiary. * * *"

The trustees have not argued, and at least in the case of Storm-Vulcan it does not appear, that there is a basis for "piercing the corporate veil." The trustees have not shown that Scranton, Storm-Vulcan and Scranton Factors are other than separate in organization, corporate structure, and operations. There is no indication that Scranton will have to pay the tax assessment if the disallowance is upheld. No deficiency has been assessed against Scranton by reason of the disallowance. Storm-Vulcan and Scranton Factors are not parties in any proceeding filed under the Bankruptcy Act. While Internal Revenue has filed a proof of claim against Hal Roach and Rabco in the reorganization proceedings before this court, the claim relates to FUTA and withholding taxes and not to corporate income taxes. If the only effect on Scranton's property would be the conjectural effect on Scranton's stock interest in the subsidiaries by reason of their payment of the tax assessment because of a decision adverse to them in the Tax Court, it would seem clear that the matter did not involve a controversy concerning Scranton or its property over which this court...