Phelps v. Commissioner of Internal Revenue, 15386.

• Decision Date: 24 July 1957
• Docket Number: No. 15386.,15386.
• Citation: 247 F.2d 156
• Parties: F. Norman PHELPS and Alice Phelps, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
• Court: U.S. Court of Appeals — Ninth Circuit

247 F.2d 156 (1957)

F. Norman PHELPS and Alice Phelps, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.

No. 15386.

United States Court of Appeals Ninth Circuit.

July 24, 1957.

W. P. Thayer, Arthur H. Deibert, William L. Kumler, Los Angeles, Cal., for petitioners.

Charles K. Rice, Asst. Atty. Gen., Marvin W. Weinstein, Ellis N. Slack, Harry Baum, C. Guy Tadlock, Attys., Dept. of Justice, Washington, D. C., for respondent.

Before HEALY and ORR, Circuit Judges and MURRAY, District Judge.

ORR, Circuit Judge.

We have for consideration a petition of F. Norman Phelps and Alice Phelps, hereafter petitioners, for a review of a decision of the Tax Court of the United States sustaining a determination by the Commissioner of Internal Revenue of a deficiency in petitioners' Federal Income Taxes for the calendar year 1948.

The question presented is whether distributions from three related corporations in redemption of stock held by the petitioners were essentially equivalent to the distribution of taxable dividends within the meaning of § 115(g), Internal Revenue Code of 1939, 26 U.S. C.A. § 115(g).

Prior to the transaction in question, petitioners held half of the outstanding stock in two companies retaining Chevrolet dealership franchises in California, Capitol Chevrolet Company and Mid-Valley Chevrolet Company. The other half of the outstanding stock was held by J. A. Kenyon through both a trust, hereafter called the Kenyon Trust, and a holding company, the J. A. K. Company. J. A. Kenyon created the Kenyon Trust for the benefit of his daughter, leaving himself as trustee with the power to deal with the corpus as absolute owner. The holding company, J. A. K. Company, was wholly owned by J. A. Kenyon. Together, the Kenyon Trust and the J. A. K. Company are referred to as the "Kenyon interest." A third Chevrolet dealership, Howell Chevrolet Company, was held 1/3 by the petitioners, 1/3 by the Kenyon interest, and 1/3 by Jackson Howell.

Each company operated Chevrolet dealerships under Direct Dealer Selling Agreements with the Chevrolet Motor Division of General Motors Corporation. Such agreements are on a yearly basis, terminating each October 31st.

On or about September 1, 1948, the Regional Manager of Chevrolet advised the companies that Chevrolet had established a new policy of not allowing any trust or holding company to own stock in any Chevrolet dealership. The Regional Manager advised the elimination of the J. A. K. Company and the Kenyon Trust from stock ownership in the three dealerships, and also suggested that a fair arrangement would be for Phelps, Kenyon, and Howell to retain the same proportionate ownership in the dealerships, in view of the past successful operation of the companies.

Motivated by a realization that the probable consequences of non-compliance would be loss of their Chevrolet franchises upon expiration, Phelps, Kenyon and Howell devised a plan to put the dealerships in conformity with Chevrolet policy. This plan eliminated the Trust by having each of the three corporations redeem a given number of shares held by the Trust, and also redeem a sufficient number of shares held by Phelps and Howell so that Phelps, Kenyon and Howell would retain exactly the same proportionate interest in each corporation. Kenyon would then purchase personally any remaining shares held by the Trust. We find nothing in the record respecting the elimination of the J. A. K. Company from stock ownership in the dealerships at the same time.

On December 21, 1948, the first step of the plan was put into effect, and the corporations made the following distributions in redemption of shares:

                                      Capitol Co.       Mid-Valley Co.      Howell Co
                  Petitioners          $75,518.30         $74,340.50        $46,508.00
                  Kenyon Trust          75,518.30          74,340.50         46,508.00
                  J. Howell             _________         __________         46,508.00
                

The redemptions left the petitioners and the Kenyon interest each owing 50% of Mid-Valley and Capitol companies, the same as before the redemptions; and the petitioners, Kenyon and Howell each holding 33 1/3% of Howell Co., also the same as before the redemptions. The shares held by the Kenyon Trust were reduced to 7% in Mid-Valley and Capitol companies and to 3 1/3% in Howell Co. A total of $439,233.60 was distributed to the shareholders in redemption of the shares, and the shares of stock so redeemed were cancelled and the stated capital reduced accordingly. All three companies had been incorporated on April 10, 1946; in more than two years of successful operations no dividends were declared or paid by any of the three corporations. Yet, at the time of the distributions in redemption, the accumulated earnings and profits of each corporation were in excess of the total amount...