United States v. Morton

• Decision Date: 03 January 1968
• Docket Number: No. 18760.,18760.
• Citation: 387 F.2d 441
• Parties: UNITED STATES of America, Appellant, v. W. M. MORTON, Sr., and Milton Taylor, Trustees, Logan Investment Company Stockholders' Trust, Transferees of Assets of Logan Investment Company, a Missouri Corporation, Appellees.
• Court: U.S. Court of Appeals — Eighth Circuit

387 F.2d 441 (1968)

UNITED STATES of America, Appellant, v. W. M. MORTON, Sr., and Milton Taylor, Trustees, Logan Investment Company Stockholders' Trust, Transferees of Assets of Logan Investment Company, a Missouri Corporation, Appellees.

No. 18760.

United States Court of Appeals Eighth Circuit.

January 3, 1968.

William Friedlander, Atty., Dept. of Justice, Washington, D. C., for appellant; Mitchell Rogovin, Asst. Atty. Gen., Lee A. Jackson, Harry Baum, Attys., Dept. of Justice, Washington, D. C., and F. Russell Millin, U. S. Atty., Kansas City, Mo., were on the brief.

R. Eugene McGannon, of Hoskins, King, Springer & McGannon, Kansas City, Mo., for appellee; Joseph A. Hoskins and Philip J. Erbacher, Kansas City, Mo., of the same firm were on the brief.

Before VOGEL, Chief Judge, and GIBSON and LAY, Circuit Judges.

FLOYD R. GIBSON, Circuit Judge.

The appellant, United States of America (hereafter referred to as "Government") appeals from a judgment entered by the District Court for the Western District of Missouri, the Honorable Richard M. Duncan, Senior District Judge, ordering a refund of income taxes paid by appellees for the year 1960 plus interest to the date of payment, in the amount of $37,293.01. The case was tried to the Court, without a jury, on joint stipulations of facts.¹

This case on appeal presents two questions: (1) Are the nonrecognition of gain or loss provisions of § 337(a) (26 U.S.C. § 337(a)) of the I.R.C. applicable to a factual situation where a fire loss occurs before a complete plan of liquidation has been adopted by a corporation, but where the settlement of the fire loss claim and the payment thereon did not occur until after the adoption of the liquidation plan? (2) Are expenses incurred in processing and collecting a fire loss deductible as ordinary and necessary expenses of the corporate liquidation proceedings and thus chargeable against ordinary income, or must these expenses be considered as selling and processing expenses, not allowable as a § 162(a) (26 U.S.C. I.R.C. of 1954, § 162(a)) business expense but chargeable only against the amount of the proceeds collected on the fire loss?

The appellees are Trustees of the Logan Investment Company Stockholders Trust and, as Trustees, hold assets of the Logan Investment Company, Inc., the taxpaying entity against which the tax in question was assessed. Prior to dissolution the Logan Investment Company, Inc. owned certain rental properties. One of the properties called the "Logan Building" was severely damaged by fire on October 30, 1960. Thereafter on November 28, 1960 the Board of Directors adopted a resolution providing for dissolution and liquidation of the corporation, which resolution was approved and in substance adopted at a meeting of the corporate shareholders on December 10, 1960. The shareholders' resolution (1) provided that the corporation be dissolved under a plan of complete liquidation under which the Directors were authorized to sell the Logan Building in its then damaged condition, along with all of the other corporate assets; (2) authorized the Directors to settle, on such terms as they deemed best, the claim against the four insurance company insurers of the Logan Building; and (3) ordered distribution, within the permissible period of twelve months allowed by § 337, of all funds derived from liquidation after establishing an adequate reserve to cover liabilities.

The plan of liquidation adopted by the stockholders on December 10, 1960 was also in turn adopted by the Board of Directors on that same date; and the Directors in carrying out the plan of liquidation authorized the sale of the Logan Building for $85,000. Articles of Dissolution of the corporation were filed on December 14, 1960. On December 29, 1960 the Board of Directors accepted a settlement offer of the four insurance companies covering the loss on the Logan Building. The payment of this loss was subsequently made on January 28, 1961 in the amounts of $129,306.30 for the Logan Building and $1,247.12 for air conditioners. The payment of the insurance proceeds resulted in a gain of $117,172.90, after deducting the remaining allocated undepreciated cost of the Logan Building and $6,010.27 expense allocated by the Internal Revenue agent to the corporate dissolution and to the expense of processing and collecting the fire insurance claim. The corporate taxpayer was on a cash accounting basis.

These expenses are detailed in the District Court's Memorandum Opinion and will not be repeated here. Most of these expenses were incurred in the liquidation and dissolution proceedings, including care and safety precaution measures on the fire damaged building. But also included were appraisal and photo expenses of $433.12 incurred in processing the fire loss claim and a $1250 attorney's fee that covered both services rendered in connection with the fire loss claim and the liquidation of the corporation. This latter amount is not broken down between the two items of corporate liquidation and collection of the fire loss claim.

The Internal Revenue Service treated the gain on the fire loss as a long term capital gain under § 1231, I.R.C. taxable at the capital gain rate. The taxpayer contends that there is no tax due from the corporation as the gain on the fire loss should be treated as a nonrecognizable gain under § 337(a) I.R.C. with the gain subsequently being taxed to the distributee shareholders. The taxpayer also contends that all of the expenses in connection with the dissolution and liquidation of the corporation, including expenses incurred in processing and collecting the fire loss claim, are deductible as ordinary business expenses and thus chargeable against ordinary corporate income for the period in question.

The Government now concedes that the expenses incurred in connection with the dissolution and liquidation of the corporation as distinguished from expenses incurred in collection of the fire loss claim are deductible as ordinary and necessary business expenses. It strenuously urges, however, that expenses in connection with the fire loss claim are analogous to the selling of a corporate capital asset and should be deductible not as ordinary expenses, but only chargeable against the capital gain realized on collection of the fire loss.

The District Court held: (1) That the involuntary conversion occasioned by the fire loss was not taxable to the corporation under § 337 I.R.C.; and (2) That all of the expenses incurred in the corporate dissolution and liquidation including the expense of processing and collecting the insurance claim were deductible as ordinary business expenses. We affirm the District Court on the first issue and reverse the District Court in part on the second issue holding that the expenses incurred in processing and collecting the insurance claim should be treated as capital expenses incurred in the sale of a capital asset and as such should be accorded the same tax treatment as is accorded the capital asset.

APPLICABILITY OF SECTION 337(a)

Section 337(a), I.R.C. of 1954 (26 U.S.C. § 337(a))² provides for nonrecognition of any loss or gain in the sale or exchange of property occurring in a complete corporate liquidation that complies with the mandate of that section. Any gain or loss resulting therefrom is transferred to and taxed against the distributee shareholders.

This remedial section was enacted to equalize the disparate treatment accorded corporate liquidations in Commissioner of Internal Revenue v. Court Holding Co., 324 U.S. 331, 65 S.Ct. 707, 89 L.Ed. 981 (1954) and United States v. Cumberland Public Service Co., 338 U.S. 451, 70 S.Ct. 280, 94 L.Ed. 251 (1950), which cases recognized and gave tax significance to the technical method used in the corporate dissolution. The basis, reason, and purpose for the enactment of that section is clearly set forth in the Congressional Reports, Senate Report No. 1622, 83rd Cong., 2nd Sess., pp. 48-49, 258-259 (3 U.S.C. Cong. & Adm. News (1954) pp. 4621, 4677-4680, 4876-4897); House Report No. 1337, 83rd Cong., 2nd Sess., pp. 38-39, A106-A107 (3 U.S.C. Cong. & Adm. News (1954) pp. 4017, 4064, 4244-4245). As stated in the House Report, the section was intended to ignore the technicalities found to be of significance by the courts in deciding whether a sale of corporate assets in liquidation had actually taken place by the corporation or by the shareholders after liquidation in kind. That Report states at pp. 38-39 (3 U.S.C. Cong. & Adm. News (1954), p. 4244):

"* * * Accordingly, under present law, the tax consequences arising from sales made in the course of liquidation depend primarily upon the formal manner in which transactions are arranged. The possibility that double taxation may occur in such cases results in causing the problem to be a trap for the unwary."

It is now settled that an involuntary conversion of property into cash as well as a voluntary conversion is within the purview of § 337(a). In Towanda Textiles, Inc. v. United States, 180 F.Supp. 373 (Ct.Cl.1960), the Court of Claims held in a factual situation where a capital corporate asset was destroyed by fire after a complete plan of liquidation had been adopted that the capital gain resulting from collection of insurance proceeds was exempt from corporate tax under § 337(a), stating at p. 376:

"Literally, an involuntary conversion is not a sale but what Congress had in mind was a conversion of a corporation\'s capital assets into cash, whether voluntary or involuntary, and the distribution of cash to the stockholders."

And, after pointing out it was inconceivable that Congress would have drawn a distinction between a gain from a voluntary conversion and an involuntary conversion, the Court held at p. 376:

"This being true, we must hold, in order to carry out the clear purpose of Congress, that an involuntary conversion comes within the intent of Congress when it exempted the corporation from

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