Portland Oil Co. v. Commissioner of Internal Revenue

• Decision Date: 08 February 1940
• Docket Number: No. 3444.,3444.
• Citation: 109 F.2d 479
• Parties: PORTLAND OIL CO. v. COMMISSIONER OF INTERNAL REVENUE.
• Court: U.S. Court of Appeals — First Circuit

109 F.2d 479 (1940)

PORTLAND OIL CO. v. COMMISSIONER OF INTERNAL REVENUE.

No. 3444.

Circuit Court of Appeals, First Circuit.

February 8, 1940.

John T. Noonan, of Boston, Mass., for petitioner for review.

Robert N. Anderson, Sp. Asst. to Atty. Gen. (Samuel O. Clark, Jr., Asst. Atty. Gen., and Sewall Key, Sp. Asst. to Atty. Gen., on the brief), for Commissioner.

Before WILSON and MAGRUDER, Circuit Judges, and PETERS, District Judge.

MAGRUDER, Circuit Judge.

Portland Oil Company, a Maine corporation, petitions for review of a decision of the Board of Tax Appeals (38 B.T.A. 757) redetermining a deficiency in petitioner's income tax for the calendar year 1931 in the amount of $114,804.32. This decision by the Board affirmed the Commissioner's determination, except as to a penalty for fraud, which was disallowed, respondent having abandoned the claim for such a penalty. By stipulation, the correctness of the computation is conceded, provided there is any liability at all. Petitioner was transferee of a certain installment contract, which it claims to have acquired on a "stepped up" basis. If this contention is correct, no gain was made by petitioner in 1931 upon receipt of payment of the full balance of the contract. The Revenue Act of 1928 (45 Stat. 791) is involved, particularly Sections 44, 112 and 113, 26 U.S.C.A. §§ 44, 112, 113 note. Relevant portions of the Act are reproduced in the footnote.¹

Bu-Vi-Bar Petroleum Corporation, hereinafter referred to as Bu-Vi-Bar, was incorporated in Delaware in 1917 and up to 1930 was actively engaged in "wild-cat" operations in the oil fields of Kansas and Oklahoma. On December 15, 1930, Buell and Herndon were the sole stockholders, president and vice-president respectively, Buell holding 8957 shares and Herndon 2982. Buell had gradually acquired a controlling interest in the corporation during the 20's and had been an officer since 1921 or 1922. Herndon had been a stockholder since about 1923.

Bu-Vi-Bar became the owner of a one-tenth interest in certain leases and equipment of oil properties, called the Sedgwick County Block, in Kansas. With reference to this, it is stipulated as follows:

"Bu-Vi-Bar Petroleum Corporation, on December 16, 1929, entered into a contract with Continental Oil Company in which Bu-Vi-Bar Petroleum Corporation agreed to assign and transfer to Continental Oil Company its one-tenth (1/10) interest in and to certain leases of oil properties in Kansas and equipment relating thereto, the consideration for such transfer being the agreement of Continental Oil Company to pay therefor the principal sum of $1,650,000 in installments beginning on the first day of January, 1930 and continuing through October 1, 1932, together with interest at six percent (6%) per annum on the unpaid balance due on the purchase price on each monthly paying period. The contract further provided that Continental Oil Company should have the option on the first day of any month to anticipate payments and to pay any part or all of the unpaid balance of the purchase price and interest thereon to the date of payment. * * * The assignments referred to in said contract were executed and delivered to Continental Oil Company on December 17, 1929.

"During 1930 and prior to December 30, 1930, Bu-Vi-Bar Petroleum Corporation received principal monthly payments aggregating $555,000, together with interest, from Continental Oil Company under the aforesaid contract with Continental Oil Company dated December 16, 1929. The basis to Bu-Vi-Bar Petroleum Corporation, for determining the gain or loss on the sale or other disposition of the leases and property which were the subject matter of the aforesaid contract with Continental Oil Company was $153,378.11. The portion of this basis attributable under the installment method to collections by Bu-Vi-Bar Petroleum Corporation in 1930, was $51,591.77. Bu-Vi-Bar Petroleum Corporation reported the profit arising from the sale under the said contract dated December 16, 1929, of the leases and property rights to Continental Oil Company on its Federal income tax return for the calendar year 1930 on the installment basis and reported $503,408.23 on account thereof on said return as taxable income. * * * The balance of the gain which would have been taxable in the hands of Bu-Vi-Bar Petroleum Corporation if it had collected the remaining $1,095,000 and had been taxable thereon when collected would have been $993,213.66."

Early in 1930 there was a partial reorganization involving the incorporation of Buell-Herndon and Company, and the transfer to it, in exchange for its stock, of all the assets of Bu-Vi-Bar except the Continental installment contract above mentioned, followed by the distribution of this Buell-Herndon stock to the shareholders of Bu-Vi-Bar. This transaction is not now in question.

In the fall of 1930 Buell consulted an attorney who specializes in tax matters, and invoked his services to formulate a program which would, if possible, achieve two purposes, (1) a saving of taxes on the large prospective gains to accrue to Bu-Vi-Bar from the installment contract, and (2) fulfillment of a long-cherished desire of Buell to give independent financial security to his wife and their fifteen-year-old daughter, and a desire of Herndon to make similar provision for Mrs. Herndon.

At a subsequent conference between the attorney and Messrs. Buell and Herndon, in November, 1930, the attorney outlined a "plan," which was later carried out in faithful detail under his supervision. This plan prescribed the formation of a new corporation; cash gifts to "the women;" use of this money by the women, "if they saw fit," in subscribing to the capital stock and bonds of the new corporation; declaration by Bu-Vi-Bar of a partial liquidating dividend, consisting of cash and securities, the product of payments to Bu-Vi-Bar during 1930 on account of the installment contract; transfer to the new corporation of Bu-Vi-Bar's then sole remaining asset, the installment contract, in exchange for capital stock and bonds of the new corporation; distribution of these securities by Bu-Vi-Bar to its shareholders, Buell and Herndon, who were at the same time to turn in their stock in Bu-Vi-Bar and cause that corporation to be dissolved. In conjunction with Buell and Herndon, the attorney determined the amounts which were to be given to the women. "The gifts must be more than 20% each." The attorney testified, "My thought was so that the transaction would not come under Section 113(a) (7) of the 1928 Act, which refers to 80 percent." It was explained that under existing rulings no taxable gain would accrue to Bu-Vi-Bar upon its disposition of the installment contract, though the attorney expressed some doubt as to the effect of Section 44(d); that the new corporation would acquire the installment contract on a "stepped up" basis, which would avoid taxes to such corporation upon its receipt of the remaining installments; that the amounts received by Buell and Herndon in the partial liquidating dividend would be subject to tax; but that no taxable gain to them would accrue upon their receipt of the securities of the new corporation, in the final dissolution of Bu-Vi-Bar.

Buell and Herndon liked the plan, and went home "to see what they could do about carrying it out." Buell informed his wife and daughter of his intention to make them gifts, and explained the plan to them. "I didn't agree to that but I said that I would be willing," Mrs. Buell testified. Betty Jane testified, "I told him I thought it was a very good idea and I would like to. My father was my financial advisor and I relied on his advice." In fact, the daughter signed her stock subscription and her check therefor three days before the gift to her was actually made. Herndon made a similar explanation to Mrs. Herndon; the plan "seemed to suit her."

The willingness of the women to play their parts having been ascertained, the execution of the plan got under way. The new corporation, called the Portland Oil Company, the present petitioner, was formed on December 2, 1930, with the issue of one qualifying share to each of three nominees. On December 2 or 3, Buell arranged with the First National Bank and Trust Company of Tulsa, Oklahoma, for a thirty-day loan to himself in the amount of $276,000 and a similar loan to Herndon in the amount of $92,000. Buell explained to the bank officials that the loans were to be applied to the making of the gifts to the women in pursuance of the aforesaid plan; that it was contemplated that the women would use the money to subscribe to securities of the Portland Oil Company, so that the money would thus probably remain in the bank during the period of the loan, to the credit of the account of the Portland Oil Company in said bank; that the receipt by Buell and Herndon of the partial liquidating dividend of Bu-Vi-Bar, as part of the plan, would put them in funds to repay the loan. The gifts to Mrs. Herndon and Miss Buell, in the amount of $92,000 each, were consummated on December 6, 1930; the gift to Mrs. Buell in the sum of $184,000 was consummated December 8. On the latter date, the Portland Oil Company issued, pursuant to subscription, 240 shares of its capital stock (par value $100 each) to Mrs. Buell, together with its registered 60-year six per cent gold bonds, in an amount of $160,000, and to Miss Buell and Mrs. Herndon 120 shares of stock and $80,000 of bonds each. At this time, apart from the three qualifying shares held by the directors, the women held all of the authorized capital stock of petitioner.

By appropriate corporate action Bu-Vi-Bar on December 17, 1930, distributed to Buell its cash assets in the amount of $222,576.46 and securities of a value of $48,122.50 in exchange for 2988 shares of his stock in said corporation, and distributed to Herndon $89,961.20 in cash in exchange for 993 shares of his stock in said corporation. With these funds or their...