Newmarket Manufacturing Company v. United States

• Decision Date: 18 May 1956
• Docket Number: No. 5004.,5004.
• Citation: 233 F.2d 493
• Parties: NEWMARKET MANUFACTURING COMPANY, Plaintiff, Appellant, v. UNITED STATES of America, Defendant, Appellee.
• Court: U.S. Court of Appeals — First Circuit

233 F.2d 493 (1956)

NEWMARKET MANUFACTURING COMPANY, Plaintiff, Appellant, v. UNITED STATES of America, Defendant, Appellee.

No. 5004.

United States Court of Appeals First Circuit.

Heard January 3, 1956.

Decided May 18, 1956.

Randolph E. Paul, Washington, D. C., with whom Louis Eisenstein, Washington, D. C., was on the brief, for appellant.

Joseph F. Goetten, Atty., Department of Justice, Washington, D. C., with whom H. Brian Holland, Asst. Atty. Gen., Lee A. Jackson and Harry Baum, Attys., Department of Justice, Washington, D. C., Anthony Julian, U. S. Atty., and Arthur I. Weinberg, Asst. U. S. Atty., Boston, Mass., were on the brief, for appellee.

Before MAGRUDER, Chief Judge, and WOODBURY and HARTIGAN, Circuit Judges.

MAGRUDER, Chief Judge.

Newmarket Manufacturing Company, a Delaware corporation, brought suit against the United States in the United States District Court for the District of Massachusetts, seeking to recover an alleged overpayment of income taxes for the fiscal year ending November 30, 1951. Determination of the issue presented involves an interpretation and application of the so-called "carry-back" provision of § 122 of the Internal Revenue Code of 1939, as amended, 26 U.S.C.A., whereunder a taxpayer is permitted in some circumstances to carry back a net operating loss of one fiscal year as a deduction against income earned in the preceding year. The district court, after trial without a jury, entered judgment dismissing the complaint. 130 F.Supp. 706. It seems to us that the district court committed error of law in this respect, and that plaintiff's appeal should succeed.

In 1944 Newmarket Mfg. Co., having been organized as a Massachusetts corporation, established a usual place of business in Lowell, Mass., and engaged in the business of weaving synthetic fibers.

On September 26, 1951, Newmarket Mfg. Co., the Massachusetts corporation, caused the organization under the laws of Delaware of a subsidiary of the same name. This Delaware corporation had an authorized capital stock of 450,000 shares with a par value of $2.50 each, and it issued 400 shares of its capital stock to the Massachusetts corporation for $1,000 cash. These 400 shares, which at that time were the only shares of the Delaware corporation outstanding, were later canceled on the date of the merger about to be described.

According to the Agreed Statement of Facts in this case,

"The sole purpose of Newmarket Massachusetts in causing the organization of Newmarket Delaware was to merge Newmarket Massachusetts with Newmarket Delaware, its wholly-owned subsidiary, in order to remove the taxpayer\'s corporate domicile from Massachusetts to Delaware and thereby avoid an application of the Massachusetts Corporate Franchise Tax with respect to sales made in New York State, which the Company and its counsel considered to be incorrect and unjustified under the Massachusetts statute providing for such tax."

This objective to be achieved by changing the corporate domicile of Newmarket Mfg. Co. was perfectly legitimate — the district court correctly described it as a "bona fide" corporate purpose; and of course it was not in any sense a maneuver to avoid or evade federal taxes.

During the brief period from the date of its organization on September 26, 1951, until the effective date of the merger, November 30, 1951, the subsidiary Delaware corporation carried on no business, had no liabilities, and its sole asset was the $1,000 cash paid in by the Massachusetts corporation as above stated. The tax return of the Delaware corporation for that brief period showed no income and no tax due.

At the close of business on November 30, 1951, the Massachusetts corporation merged with its wholly-owned Delaware subsidiary, in a statutory merger pursuant to the corporation laws of the two states. All the assets of the surviving Delaware corporation came from the Massachusetts corporation; the Agreement of Merger provided that, without other transfer, the surviving Delaware corporation should succeed to all the rights, assets, franchises, etc., of the two constituent corporations, that is, of the Massachusetts corporation and of its wholly-owned Delaware subsidiary; and it also stated that "all debts, liabilities and duties of the respective Constituent Corporations shall thenceforth attach to the Surviving Corporation and may be enforced against it to the same extent as if said debts, liabilities and duties had been incurred or contracted by it." The latter provision is said to be, and probably is, a prerequisite to an effective statutory merger under the corporation laws of both states. To avoid the nuisance and expense involved in the surrender of the certificates of stock of the Massachusetts corporation and the issuance in substitution therefor of new certificates of the surviving corporation, the Agreement of Merger provided that each outstanding certificate of stock of the Massachusetts corporation "shall be deemed for all corporate purposes, including the payment of dividends," to evidence the ownership of corresponding shares of the capital stock of the surviving Delaware corporation. Finally, the Agreement of Merger provided that the organization of the Massachusetts corporation, "except in so far as it may be continued by statute, shall cease as soon as" such merger should become effective, "and thereupon Newmarket Delaware and Newmarket Mass. shall become a single corporation, to wit, Newmarket Delaware, one of the parties hereto." As stated by the district court: "After the merger, the Massachusetts corporation ceased to exist as a separate corporation."

On and after the effective date of the merger, the surviving Delaware corporation had the following characteristics identical with those of the predecessor Massachusetts corporation: The par value of the shares of stock of the surviving corporation was the same as the par value of the shares of stock of the Massachusetts corporation; the number of shares of stock outstanding in the surviving corporation, and the ownership thereof, were exactly the same as the number and ownership of the shares of stock of the Massachusetts corporation; the officers of the surviving Delaware corporation were the same as those of the extinguished Massachusetts corporation; and the new corporation conducted the same business (and no other) in the same places and in the same manner as had the Massachusetts corporation immediately prior to the merger. The corporate purposes stated in the charter of the surviving Delaware corporation were substantially equivalent to the corporate purposes which had been stated in the charter of the Massachusetts corporation.

The operations of the Massachusetts corporation for the full fiscal year ending with the date of the merger, November 30, 1951, resulted in a federal income tax liability of over $400,000, according to the tax return for this period, which was filed by the surviving Delaware corporation. The latter, during the year 1952, paid the income tax shown to be due thereon.

Subsequent to the merger, during the first full fiscal year of the surviving Delaware corporation, ending November 30, 1952, that corporation, in conducting the business of weaving synthetic fibers previously engaged in by the Massachusetts corporation, suffered a net operating loss of $660,370.97 which was available for possible carry-back or carry-over. Operations for several subsequent years also resulted in net losses. On March 6, 1953, this Delaware corporation filed with the Director of Internal Revenue at Boston, Mass., a claim for refund of income taxes theretofore paid by it for the fiscal year ending November 30, 1951, on the return filed by it on behalf of the former Massachusetts corporation. The statement of claim recited that, "For the loss period, the taxpayer was a Delaware corporation; for the period for which refund is claimed, the taxpayer was a Massachusetts corporation." Further, it stated: "the loss sustained by the taxpayer in the fiscal year ending November 30, 1952, gives rise to a net operating loss carryback deduction for the Massachusetts corporation for its fiscal year ending on November 30, 1951, the date of the merger." The Commissioner having failed to act on the claim for refund for a period of more than six months from the date of its filing, the surviving Delaware corporation on September 8, 1953, filed its complaint in the court below for recovery of such refund.

We refer now to the applicable statutory provisions in the 1939 Code, as amended. They furnish no explicit guidance for the problem at hand. Section 23(s) authorizes the deduction from gross income of "the net operating loss deduction computed under section 122." The cross-reference is to a long, complicated section, the effect of which may be summarized in three parts: First, § 122(a) and (d) define "net operating loss" as, roughly, an excess of business deductions over gross income in a given taxable year. Second, for the years relevant here, § 122(b) (1) (B) provides: "If for any taxable year beginning after December 31, 1949, the taxpayer has a net operating loss, such net operating loss shall be a net operating loss carryback for the preceding taxable year." Italics added. Similarly, such net operating loss may be a carry-over for each of the five taxable years following the loss year, subject to certain adjustments. § 122(b) (2) (B). Third, the "net operating loss deduction" for a given year is, roughly, the sum of the carry-backs and the carry-overs to that year. § 122(c). In the present case we are concerned with only two taxable years and with a single carry-back; according to appellant's contention, the net operating loss which it suffered in the fiscal year ending November 30, 1952, may be carried back and applied as a deduction against the income earned by the Massachusetts corporation in the fiscal year ending November 30, 1951.

The government's answer is simple: The...