Randolph v. Commissioner of Internal Revenue

• Decision Date: 10 April 1935
• Docket Number: No. 9930,10055.,9930
• Citation: 76 F.2d 472
• Parties: RANDOLPH et al. v. COMMISSIONER OF INTERNAL REVENUE. HELVERING, Com'r of Internal Revenue, v. RANDOLPH et al.
• Court: U.S. Court of Appeals — Eighth Circuit

76 F.2d 472 (1935)

RANDOLPH et al. v. COMMISSIONER OF INTERNAL REVENUE.

HELVERING, Com'r of Internal Revenue, v. RANDOLPH et al.

Nos. 9930, 10055.

Circuit Court of Appeals, Eighth Circuit.

February 27, 1935.

Rehearing Denied April 10, 1935.

Abraham Lowenhaupt, of St. Louis, Mo. (F. M. Curlee and Stanley S. Waite, both of St. Louis, Mo., on the brief), for Virgil P. Randolph, Jr., and another.

John MacC. Hudson, Sp. Asst. to Atty. Gen. (Frank J. Wideman, Asst. Atty. Gen., and Sewall Key, Sp. Asst. to Atty. Gen., on the brief), for the Commissioner of Internal Revenue.

Before GARDNER, SANBORN, and VAN VALKENBURGH, Circuit Judges.

SANBORN, Circuit Judge.

These are petitions to review an order of the Board of Tax Appeals redetermining deficiencies in the income taxes of Shelby H. Curlee, as trustee, for the years 1926 and 1927. Curlee v. Commissioner of Internal Revenue, 28 B. T. A. 773. For the year 1926, the Commissioner had determined a deficiency of $10,280.39, which the Board, upon appeal, reduced to $5,027.52. The Commissioner's petition challenges the Board's ruling in this regard. For the year 1927 the deficiency as determined by the Commissioner was $47,769.61, and this was sustained by the Board. Virgil P. Randolph, Jr., and First & Merchants' National Bank of Richmond, Va., who succeeded Shelby H. Curlee as trustees, challenge the ruling of the Board sustaining the deficiency for the year 1927. Before the Board, the proceedings were heard together upon a stipulation of facts covering both appeals, and the petitions for review were consolidated by this court.

The undisputed facts are briefly these: Virgil P. Randolph, as trustor, on February 1, 1922, transferred 865 shares of the common stock of the Curlee Clothing Company, a Missouri corporation, to Shelby H. Curlee, as trustee. The trustees, both original and successor, will be referred to as "the taxpayer." The trust agreement provided that the trustor should have the income from the trust for life, and that thereafter income and corpus should go to designated beneficiaries. Of the 865 shares of stock, 600 were acquired before March 1, 1913, and their value on that date was $200 a share; 252 shares were received as a stock dividend in January, 1914; and 13 shares were acquired at a cost of $225 a share upon a ratable distribution to stockholders in 1919. On June 16, 1925, the Missouri corporation, which will be referred to as the "old company," was reorganized as a Delaware corporation, which will be referred to as the "new company." The old company had a capital of $537,000, evidenced by 5,370 shares of $100 par value common stock, and an earned surplus of $4,605,118.51, all of which had been accumulated since March 1, 1913. The new company took over the business and assets and assumed the obligations of the old company. For each share of stock of the old company held by them, the stockholders of that company received one share of the no par value common stock of the new company. The new company set up no surplus account, but reflected the value of its assets in its capital account. In January, 1926, the new company amended its charter. It retired its no par value common stock, and substituted therefor common stock of the par value of $100 a share, and 25,000 shares of $100 par value preferred. The new stock, both preferred and common, was issued ratably to the stockholders of the new company upon surrender of their old no par value shares of common. The taxpayer received for 865 shares of no par value common stock 865 shares of the new $100 par value common stock and 4,026 shares of the new preferred stock, together with $57.50 in cash in lieu of a fractional share of preferred. The new common stock was then worth $491.50 a share, and the new preferred was worth $100 a share. In 1926 the taxpayer sold 225 shares of the new $100 par value common stock for cash at $491.50 a share, and exchanged 240 shares of such common stock for 1,179 shares of preferred stock. The preferred stock received in exchange for the 240 shares of common will be referred to as the "purchased preferred," and the 4,026 shares received by the taxpayer on surrender of its no par value common will be referred to as the "substituted preferred." In 1927 the new company redeemed for cash and retired all of its outstanding preferred stock at $105 a share, one-half on January 1, 1927, and the balance on July 1, 1927. It charged $100 of the $105 paid for the retirement of each share of preferred to its capital account, and the $5 premium to surplus account. From the time of the formation of the new company in 1925 to September 30, 1926, it had earned $716,263.85, and for the year ending September 30, 1927, $551,515.35. Cash dividends were paid to stockholders upon both common and preferred stock outstanding during 1926 and 1927. At the time of the redemption of the preferred stock in 1927, the taxpayer had 400 shares of common and 5,205 shares of preferred, of which 1,179 shares were "purchased preferred." One-half of all of the taxpayer's preferred stock was redeemed January 1, 1927, and the balance on July 1, 1927.

The Commissioner and the Board were faced with two problems:

(1) What was the taxable gain resulting from the sale by the taxpayer in 1926 of 225 shares of par value common stock of the new company for $110,587.50?

(2) What taxable gain, if any, resulted to the taxpayer in 1927 from the redemption of the preferred stock received from the new company?

The Commissioner was of the opinion that the substituted preferred stock received by the taxpayer in 1926 was to be treated as a stock dividend, and that, in order to determine the taxable gain resulting from the sale of the $100 par value common stock in 1926, it was necessary to ascertain the cost or 1913 value of the common stock held by the trust for which the new common and preferred were substituted in 1926, and to allocate that cost or value to both classes of the substituted stock upon the basis of their relative value, using $491.50 a share as the value of the common, and $100 a share as the value of the preferred. This by reason of Article 1599 of Treasury Regulations 69, which provides: "(2) Where the stock distributed in reorganization is in whole or in part of a character or preference materially different from the stock in respect of which the distribution is made, the cost or other basis of the old shares of stock shall be divided between such old stock and the new stock in proportion, as nearly as may be, to the respective values of each class of stock, old and new, at the time the new shares of stock are distributed, and the basis of each share of stock will be the quotient of the cost or other basis of the class with which such share belongs, divided by the number of shares in the class. The portion of the cost or other basis of the old shares of stock to be attributed to the shares of new stock shall in no case exceed the fair market value of such shares as of the time of their distribution."

Upon the Commissioner's basis of determination, the deficiency in taxes was $10,280.39.

As to the second question — the redemption of the preferred stock in 1927 — the Commissioner was of the opinion that such redemption of the substituted preferred stock was to be regarded as "essentially equivalent to the distribution of a taxable dividend," but that the redemption of the purchased preferred stock was not to be so regarded. In reaching his conclusion, the Commissioner relied upon section 201 (a) of the Revenue Act of 1926, c. 27, 44 Stat. 9, 10, 26 USCA § 932 (a), which provides: "The term `dividend' when used in this title chapter * * * means any distribution made by a corporation to its shareholders, whether in money or in other property, out of its earnings or profits accumulated after February 28, 1913." And upon paragraph (g) of the same section (26 USCA § 932 (g), which provides: "If a corporation cancels or redeems its stock (whether or not such...