Scott Paper Co. v. Comm'r of Internal Revenue
| Decision Date | 28 April 1980 |
| Docket Number | Docket Nos. 1775-73,2897-74. |
| Citation | 74 T.C. 137 |
| Parties | SCOTT PAPER COMPANY, PETITIONER v. COMMISSIONER of INTERNAL REVENUE, RESPONDENT |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Scott issued debentures which were convertible into shares of common stock. Interest on the debentures was paid twice yearly, on Mar. 1 and Sept. 1. Scott, a calendar year, accrual method taxpayer, annually deducted interest pursuant to sec. 163, I.R.C. 1954, in an amount equal to the sum of (1) interest accrued from Jan. 1 to Dec. 31 on debentures which were not converted during that taxable year; and (2) interest accrued from Jan. 1 to the date of conversion on debentures which were converted during that taxable year. Respondent disallowed that part of the claimed interest deduction which accrued between the date of conversion and the prior interest payment date. Held, no part of the common stock received by converting debenture holders was received in exchange for interest owed the debenture holders. Held, further, neither the fact nor the amount of Scott's liability for interest on the debentures was fixed or determinable between interest payment dates. Held, further, Scott is not entitled to a debenture interest deduction for the period from the last interest payment date to the date when a debenture was converted.
Scott expanded its pulp- and paper-making facility in Mobile, Ala., which included additions and improvements to the electrical distribution system. It claimed an investment credit under sec. 38, I.R.C. 1954, for the electrical improvements, which was disallowed in part by the Commissioner. Held, that portion of the electrical distribution system under scrutiny (hereinafter the primary electric) is not an inherently permanent structure. Held, further, the primary electric is a structural component of a building and not eligible for the investment credit to the extent that it supplies power for the overall operation and maintenance of buildings. Held, further, the primary electric otherwise is tangible personal property which qualifies for the investment credit. Thomas V. Lefevre, Herbert Odell, and Alvin C. Warren, Jr., for the petitioner.
Gerald V. May, Jr., for the respondent.
The Commissioner determined deficiencies in the Federal income tax of petitioner as follows:
+-----------------------------------+
¦ ¦Taxable ¦ ¦
+------------+---------+------------¦
¦Docket No. ¦year ¦Deficiency ¦
+------------+---------+------------¦
¦ ¦ ¦ ¦
+------------+---------+------------¦
¦1775-73 ¦1961 ¦$111,876 ¦
+------------+---------+------------¦
¦ ¦1962 ¦17,155 ¦
+------------+---------+------------¦
¦ ¦1963 ¦14,968 ¦
+------------+---------+------------¦
¦ ¦1964 ¦23,303 ¦
+------------+---------+------------¦
¦2897-74 ¦1965 ¦225,950 ¦
+------------+---------+------------¦
¦ ¦1966 ¦98,888 ¦
+------------+---------+------------¦
¦ ¦1967 ¦70,274 ¦
+------------+---------+------------¦
¦ ¦1968 ¦116,386 ¦
+------------+---------+------------¦
¦ ¦19691 ¦98,552 ¦
+-----------------------------------+
These cases have been consolidated for trial, briefs, and opinion. The issues presented for our decision are:
(1) Whether petitioner is entitled to deduct interest on converted debentures which accrued from the last interest payment date to the date of conversion; and if so, whether the conversion of debentures into stock resulted in income to petitioner by reason of the cancellation of indebtedness;
(2) Whether, and to what extent, primary electric improvements qualify as section 38 property under section 48(a)(1), I.R.C. 1954,2 for purposes of determining petitioner's investment credit.
Some of the facts have been stipulated. The stipulation of facts and the exhibits attached thereto are incorporated by this reference.
Scott Paper Co. (hereinafter Scott or petitioner) is a corporation organized under the laws of the State of Pennsylvania and, at all times pertinent to these cases, has had its principal place of business in Philadelphia, Pa. Scott filed its Federal income tax returns for the taxable years in issue with the Office of the Internal Revenue Service, Philadelphia, Pa. Scott files its Federal income tax returns on a calendar year basis and, in computing its tax liability, employs the accrual method of accounting.
Issue 1. Interest on Debentures
On March 31, 1956, Scott executed an Indenture Agreement with J. P. Morgan & Co., Inc. That agreement set forth the terms and conditions covering 3-percent convertible debentures (hereinafter the debentures) which were subsequently issued by Scott. The debentures were issued in the following denominations and forms: $100 with interest coupons attached, $1,000 with interest coupons attached, and $1,000 without interest coupons.
Interest on the debentures was payable on March 1 and September 1 of each year until maturity. With respect to the payment of interest, the debenture certificates provided as follows:
Scott Paper Company * * * hereby promises * * * to pay interest on (the specified) principal sum at (the specified) offices in (specified) coin or currency from April 3, 1956, until payment of said principal sum has been made or duly provided for, at the rate of 3 percent per annum, semi-annually on March 1, and September 1 in each year, but until maturity only upon presentation and surrender of the coupons for such interest installments hereto attached as they severally mature.
Scott's covenant under the indenture agreement with respect to the payment of interest was as follows:
Section 2.01. The Company will duly and punctually pay the * * * interest on the Debentures at the times and places and in the manner specified in the Debentures or in the coupons, if any, thereto belonging. The interest on the coupon Debentures becoming payable on or prior to the maturity of the Debentures shall be payable only upon presentation and surrender of the several coupons for such interest installments as are evidenced thereby and as such coupons mature. The interest on registered Debentures without coupons shall be payable only to or upon the written order of the registered holders thereof.
The debentures were convertible into shares of Scott common stock. With respect to conversion of the debentures, the debenture certificates provided as follows:
The holder of this Debenture is entitled, at his option * * * to convert this Debenture at the principal amount hereof, or any portion hereof which is $100 or a multiple thereof, into Common Shares of the Company, as said shares shall be constituted at the date of conversion, at the conversion price of $77, for each Common Share, or at the adjusted conversion price in effect at the date of conversion determined as provided in the Indenture, upon surrender to the Company of this Debenture for conversion * * * with all unmatured coupons, if any, appertaining hereto, all in accordance with the terms and provisions of the Indenture. As provided in the Indenture, the conversion price is subject to adjustment in certain cases as set forth therein. No adjustment or payment is to be made on conversion for interest accrued hereon or for dividends on securities issued on conversion. The Company is not required to issue fractional shares upon any such conversion, but shall make adjustment therefor in cash on the basis of the current market value of such fractional interest (computed as provided in the Indenture) or, at its option, may issue scrip certificates in respect thereof, all as provided in the Indenture.
The adjustments to the conversion price described in the debenture certificate were to be made when Scott issued additional common shares without consideration, or for consideration less than $77, or when Scott changed the number of outstanding common shares by combination or reclassification of shares, splitup, etc. The indenture agreement set forth the following conversion procedure in language similar to that used in the debenture certificates:
Section 4.02. In order to exercise the conversion privilege, the holder of any Debenture to be converted shall surrender such Debenture, together with all unmatured coupons thereto appertaining, to the Company * * * and shall give written notice to the Company * * * that the holder elects to convert such Debenture or a specified portion thereof. * * * As promptly as practicable after the receipt of such notice and the surrender of such Debenture as aforesaid, the Company shall issue and shall deliver * * * to such holder * * * a certificate or certificates for the number of full shares issuable upon the conversion of such Debenture * * * and cash or scrip, as provided in Section 4.03 hereof. * * * No adjustment or payment shall be made for interest accrued on any Debenture that shall be converted or for dividends on any Common Share that shall be issued upon the conversion of such Debenture * * *
The following table shows for calendar years 1961 through 1969 the principal amounts of debentures which were converted into Scott common stock and the number of shares of common stock into which those amounts were converted.
+-----------------------------------------------+
¦ ¦Principal amount ¦Number of shares of ¦
+------+------------------+---------------------¦
¦ ¦of converted ¦common stock issued ¦
+------+------------------+---------------------¦
¦Year ¦debentures ¦on conversion ¦
+------+------------------+---------------------¦
¦ ¦ ¦ ¦
+------+------------------+---------------------¦
¦1961 ¦$44,246,100 ¦1,719,464 ¦
+------+------------------+---------------------¦
¦1962 ¦9,818,300 ¦382,077 ¦
+------+------------------+---------------------¦...To continue reading
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