Robinette v. COMMISSIONER OF INTERNAL REVENUE

• Decision Date: 19 March 1945
• Docket Number: No. 10908.,10908.
• Citation: 148 F.2d 513
• Parties: ROBINETTE v. COMMISSIONER OF INTERNAL REVENUE.
• Court: U.S. Court of Appeals — Ninth Circuit

148 F.2d 513 (1945)

ROBINETTE v. COMMISSIONER OF INTERNAL REVENUE.

No. 10908.

Circuit Court of Appeals, Ninth Circuit.

March 19, 1945.

Jesse H. Steinhart, John J. Goldberg, and Richard Jennings, all of San Francisco, Cal., for petitioner.

Samuel O. Clark, Jr., Asst. Atty. Gen., and Sewall Key, Robert N. Anderson, Leonard Sarner, and Muriel S. Paul, Sp. Assts. to Atty. Gen., for respondent.

Before GARRECHT, MATHEWS, and BONE, Circuit Judges.

BONE, Circuit Judge.

This case presents a question framed by the Commissioner of Internal Revenue as follows:

"A parent corporation, within the scope of Section 112(b) (6) of the Revenue Act of 1936 completely liquidated a wholly owned subsidiary having earnings or profits accumulated after February 28, 1913. In 1939 the parent made a distribution to its shareholders. Was the distribution made from the parent's earnings or profits under Section 115(a) and (h) of the Internal Revenue Code?"

The principal issue is whether the rule in Commissioner v. Sansome, 2 Cir., 60 F.2d 931, cert. denied 287 U.S. 667, 53 S.Ct. 291, 77 L.Ed. 575, applies here. In that case, on reorganization, the original corporation sold all its assets to another company which assumed all existing liabilities and issued its shares to the stockholders of the old corporation without change in the proportion of holdings. The original corporation carried on its books a large surplus and undivided profits which the new company carried over at the same figure. The new company, however, made no profits, and the taxpayer claimed the right to take liquidating dividends to amortize his cost, returning any overplus as profit for the year 1924 when last payment was made. The Circuit Court of Appeals disallowed taxpayer's claim and instead held that under the Revenue Act, §§ 201 and 202(c) (2), 42 Stat. 228, 230, where reorganization caused neither gain nor loss, the original corporation's profits distributed in 1923 on liquidation of successor were taxable as successor's earnings.

The case before us involves the income tax liability of taxpayer, Lenore S. Robinette for period February 1, 1939 to December 31, 1939. She seeks review of an adverse decision of the Tax Court. Metropolitan Properties Company owned all of the stock of Cole-French Company. Both were California corporations. Taxpayer was a stockholder in Metropolitan Properties Company and in the period mentioned, she received cash distributions from that concern but only returned as taxable income approximately one-fourth of the amount received. This was due to the fact that Metropolitan Properties Company advised her that the other three-fourths was a distribution from capital of the corporation and did not represent profits, earnings or surplus and therefore was not taxable. While so owned by Metropolitan Properties Company, and on December 24, 1936, the Cole-French Company turned all of its assets (subject to liabilities) over to Metropolitan Properties Company in exchange for all of its shares which were then cancelled. Cole-French Company was then dissolved and completely liquidated by Metropolitan Properties Company. Under Section 112(b) (6) Revenue Act of 1936, 26 U.S.C.A. Int.Rev. Acts, p. 856, no gain or loss to Metropolitan Properties Company was recognized.

Later, and in 1939 Metropolitan Properties Company made a distribution to its own stockholders and the Tax Court affirmed the determination of the Commissioner of Internal Revenue that upon the liquidation of Cole-French Company in 1936, the earnings or profits of Cole-French Company which passed to Metropolitan Properties Company should be included in determining whether these 1939 cash distributions of Metropolitan Properties Company were taxable in full, as dividends paid out of its earnings or profits accumulated after February 28, 1913, under the doctrine of Commissioner v. Sansome, supra.

The fair market value of the Cole-French Company's assets, less liabilities received by Metropolitan Properties Company exceeded the adjusted basis of the stock of Cole-French Company, in the hands of Metropolitan Properties Company by not less than $200,000. There was a later decline in these values during 1939.

Immediately prior to December 31, 1928, Cole-French Company had issued and outstanding 2500 shares of its capital stock of the par value of $100 per share. These were issued pursuant to a subscription agreement under which the shareholders paid to the corporation $10 per share and agreed to pay the remaining $90 per share in such amounts and at such times as called for by resolution of the Board of Directors of Cole-French Company. On December 27, 1928, the company not having called on its shareholders to pay any of the balance due on such stock subscriptions, the Directors adopted a resolution directing the secretary of the company to make a journal entry as of December 31, 1928, debiting the profit and loss account with $225,000 and crediting the capital account with said sum of $225,000, so that the credit to the capital stock account would equal the par value of the 2500 shares issued. The secretary was also directed to certify on the face of all outstanding certificates of capital stock that the same "are now fully paid up". Company funds involved in this bookkeeping transaction are hereinafter referred to.

At the time of the adoption of this resolution none of the stockholders of Cole-French Company reported any taxable income by reason of its adoption, nor was any taxable income, by reason thereof, included in their income by the Commissioner. Cf. Michaels v. McLaughlin, D.C., 20 F.2d 959.

When dissolved, as indicated, the books of Cole-French Company recorded an item of capital stock liability in a sum exceeding one million dollars. This included $250,000 consisting of the $25,000 paid prior to December 31, 1928 by stockholders on account of the purchase price of the 2500 shares of the aggregate par value of $250,000, and also the $225,000 recorded as a debit to surplus and a credit to capital stock. After December 31, 1928 the said 2500 shares of stock were carried on the books as a capital stock liability in the sum of $250,000 and these shares were considered as fully paid shares. Such was the record before the Tax Court.

In arriving at the deficiency asserted against the taxpayer, the Commissioner determined that the Cole-French Company, as of December 24, 1936, had earnings, profits and surplus amounting to $244,968.69 which sum included the $225,000 which had been so transferred from surplus to capital on the company books in 1928, and further, that this latter amount constituted part of the earnings and profits of Metropolitan Properties Company which were sufficient to cover the entire amount of the cash distribution by Metropolitan Properties Company to its stockholders during the taxable period of 1939 here in question. The Commissioner insists that this cash distribution came from and out of earnings or profits accumulated by Cole-French Company, its wholly owned subsidiary, after February 28, 1913 and that the court must look to the source of these cash distributions in disposing of this case. His main contention is that Section 115(h) of the Internal Revenue Code 26 U.S.C.A. Int.Rev.Code § 115(h) specifically supplies the answer — in other words, that the law in effect in 1939 determines the applicable rule.

Taxpayer lays emphasis on the application of the Revenue Act of 1936, asserting it to be controlling. She further contends that the rule announced in the Sansome case, supra, is applicable only to exchanges in reorganization and that Congress in enacting Section 115(h) of the Revenue Act of 1936, 26 U.S.C.A. Int.Rev.Acts p. 870, did not enact a like rule with respect to complete and isolated liquidations of subsidiary corporations, hence the Tax Court erred in reading into Section 115(h) an intent derived from the policy disclosed by the 1938 amendment to this Section. Sh...