Performance Systems, Inc. v. United States

• Citation: 382 F. Supp. 525
• Decision Date: 30 August 1973
• Docket Number: Civ. A. No. 6758.
• Court: U.S. District Court — Middle District of Tennessee
• Parties: PERFORMANCE SYSTEMS, INC., Successor to Minnie Pearl's Chicken System, Inc., Plaintiff, v. UNITED STATES of America, Defendant.

382 F. Supp. 525

PERFORMANCE SYSTEMS, INC., Successor to Minnie Pearl's Chicken System, Inc., Plaintiff, v. UNITED STATES of America, Defendant.

Civ. A. No. 6758.

United States District Court, M. D. Tennessee, Nashville Division.

August 30, 1973.

John L. Chambers, James David Leckrone, Nashville, Tenn., for plaintiff.

Charles H. Anderson, U. S. Atty., Martha Johnson, Asst. U. S. Atty., Nashville, Tenn., for defendant.

MEMORANDUM

MORTON, District Judge.

This is an action for the recovery of federal corporate income taxes for the year 1967 in the total amount of $171,572.00. Jurisdiction is founded upon the provisions of 28 U.S.C. § 1346(a)(1).

The parties having stipulated all pertinent facts, the plaintiff moved for summary judgment. The defendant government opposed that motion and cross-moved for summary judgment. The Court finds from the stipulation of facts and the statements of the parties in their respective motions for summary judgment that the sole issue remaining for determination is whether the merger of a wholly-owned subsidiary corporation, Minnie Pearl's Chicken System, Inc., into its parent, then known as Hooker Enterprises, Inc., constituted a reorganization as described in Section 368(a)(1)(F) of the Internal Revenue Code of 1954, so that subsequent losses of the parent attributable to the business of its former subsidiary could be carried back to a separate taxable period of the subsidiary.

The plaintiff, Performance Systems, Inc., is a Tennessee corporation with its principal place of business in Nashville, Tennessee. The plaintiff is the successor corporation to Minnie Pearl's Chicken System, Inc. and is referred to as the parent corporation. Minnie Pearl's Chicken System, Inc. was incorporated on July 11, 1967, as a wholly-owned subsidiary of the parent corporation, and on January 22, 1968, was merged into the parent. Minnie Pearl's Chicken System, Inc. is referred to as the subsidiary corporation. The corporate name of the parent corporation at that time was Hooker Enterprises, Inc., which was subsequently changed to Minnie Pearl's Chicken System, Inc., which was subsequently changed to Performance Systems, Inc.

For the year ending December 31, 1967, the subsidiary corporation timely filed an income tax return reflecting taxes due in the amount of $169,630.00, which were paid by the subsidiary corporation. Additional taxes in the amount of $7,521.28 were assessed against and paid by the subsidiary after examination. The subsidiary also filed a federal corporation income tax return for the short period beginning January 1, 1968, and ending January 22, 1968, which reported a net operating loss. Based upon a carryback of that net operating loss to the period ended December 31, 1967, the Internal Revenue Service refunded to the subsidiary $5,579.00. As a result of the above transactions, the subsidiary has paid a net amount of $171,572.00 in income taxes for the year ended December 31, 1967.

For the year ended December 28, 1969, the parent filed a consolidated income tax return reporting a net operating loss of $8,367,168.00. The plaintiff timely filed a claim for refund seeking recovery of the income taxes paid by the subsidiary for the year ended December 31, 1967. The refund claim is based upon a carryback of the parent corporation's net operating loss for its year ended December 28, 1969, to the subsidiary's year ended December 31, 1967. The foregoing claim for refund was not allowed by the Internal Revenue Service, and the plaintiff formally waived notice of disallowance of that claim and timely commenced this action.

Section 381(b) of the Internal Revenue Code permits carryback of a net operating loss in this situation only if the merger of the subsidiary into the parent qualifies as a reorganization defined in Section 368(a)(1)(F) of the Internal Revenue Code. The sole question presented is whether the merger on January 22, 1968, qualifies as such a reorganization.

The parties have stipulated all of the relevant facts in this case, and the stipulations of fact together with accompanying exhibits are incorporated herein by reference. The original pretrial order in this case set forth a single issue of fact remaining for decision, namely, whether the business activity which produced the income of the subsidiary in 1967 also incurred the loss in 1969. Subsequently, the parties jointly applied for, and were granted, an amended pretrial order which rescinded the previous order and provided that the parties would submit a stipulation of all material facts and issues in this case accompanied by motions for summary judgment and briefs in support thereof. The statements of both parties in their respective motions filed in response to the amended pretrial order to the effect that the sole issue remaining is whether the stipulated merger constituted a reorganization described in Section 368(a)(1) (F), thereby permitting a carryback of losses pursuant to Section 381(b), precludes any factual issue of continuity of business, identity of ownership, business purpose, or otherwise. The Court finds from the pleadings and stipulations that all issues of fact of such nature have been admitted by the defendant in favor of the plaintiff, the defendant relying solely upon the determination of the Court as to the interrelationship of Section 368(a)(1)(F), 332, and 381 of the Internal Revenue Code. The Court is not unmindful of the fact that by eliminating all other issues, the parties have presented the Court with a determinative issue of law considered by the Commissioner of Internal Revenue to be of "prime importance," unsullied by peripheral issues. With this in mind, some discussion of the factual background of this case is in order.

Prior to the merger of January 22, 1968, Minnie Pearl's Chicken System, Inc. was a wholly-owned subsidiary of the then parent corporation, Hooker Enterprises, Inc. (now the plaintiff corporation, Performance Systems, Inc.). Both the parent corporation and the subsidiary engaged in the business of selling and development of franchises for fast-food retail outlets selling specially-prepared fried chicken and certain complementary food items.

On January 22, 1968, the subsidiary corporation was merged into the parent corporation, Hooker Enterprises, Inc., apparently for good business reasons. The merger qualified as a statutory merger under the laws of the State of Tennessee. The parent corporation, Hooker Enterprises, Inc., immediately changed its name to Minnie Pearl's Chicken System, Inc. Thereafter in February 1969, the parent corporation again changed its name to Performance Systems, Inc., still the parent corporation, and the plaintiff herein. On January 22, 1968, the parent corporation owned all of the stock of the Minnie-Pearl subsidiary corporation. The stock ownership of the parent corporation both before and after the merger was identical. The overall business described above was continued after the merger; the surviving parent corporation continued to perform both the business which had been previously carried on by the parent corporation and also that business which had been previously carried on by the subsidiary. There was no change in the form or location of corporate assets, no change in the personnel or management, and no change in the type or method of business operations as a result of or after the merger. Officers and directors of the parent corporation and the subsidiary were identical before and after the merger.

The primary activity of the parent corporation and the subsidiary since their inception was the development of a nationwide system of retail outlets selling specially-prepared fried chicken and complementary food items and the sale and development of franchises and franchise outlets. There were no changes in the manner or purpose in and for which this business was carried on prior and subsequent to the merger.

The plaintiff, Performance Systems, Inc., is the parent of an affiliated group of subsidiary corporations which filed a consolidated income tax return for the year ended December 28, 1969, reporting a net operating loss of $8,367,168.00. The parties have stipulated that the parent corporation's share of the consolidated net operating loss for the year ended December 28, 1969, as computed in accordance with Treasury Regulations § 1.1502-79(a)(3), is sufficient that, if it may properly be carried back and applied against the income of the subsidiary corporation for its initial period ended December 31, 1967, all taxes paid by the subsidiary corporation for that initial period would be refundable. It is also stipulated that at least so much of that loss as would result in that refund was incurred by the parent corporation in connection with that separate business activity which had formerly been carried on by the subsidiary prior to the merger on January 22, 1968.

The general statutory basis for the carryback of net operating losses is found in Section 172 of the Internal Revenue Code, which allows a taxpayer to carry back a net operating loss deduction to each of the three taxable years preceding the year of the loss. However, the effect of a corporate reorganization on the availability of carrybacks and carryforwards of net operating losses is governed by Section 381 of the Internal Revenue Code, which permits a corporation that acquires the assets of another corporation through liquidation of a subsidiary or certain types of corporate reorganizations to succeed to the tax benefits of the acquired corporation. That section, of course, contains certain restrictions on the availability of net operating losses and provides that, except in the case of an "F" reorganization, net operating losses incurred subsequent to the acquisition may not be carried back to taxable years of the acquired corporation prior to the acquisition or reorganization.

The issue in this case is whether or not, under the facts stipulated by the...