Zenz v. Quinlivan, 12066.

• Court: United States Courts of Appeals. United States Court of Appeals (6th Circuit)
• Writing for the Court: MILLER, Circuit , and GOURLEY and STARR
• Citation: 213 F.2d 914
• Parties: ZENZ v. QUINLIVAN.
• Docket Number: No. 12066.,12066.
• Decision Date: 11 June 1954

213 F.2d 914 (1954)

ZENZ
v.
QUINLIVAN.

No. 12066.

United States Court of Appeals, Sixth Circuit.

June 11, 1954.

M. R. Schlesinger, Cleveland, Ohio, Bert P. Hebenstreit, Toledo, Ohio, Spengler, Nathanson, Hebenstreit & Heyman, Toledo, Ohio, Grossman, Schlesinger

213 F.2d 915

& Carter, Cleveland, Ohio, for appellant

Walter Akerman, Jr., Washington, D. C., H. Brian Holland, Ellis N. Slack, Washington, D. C., John J. Kane, Jr., U. S. Atty., Cleveland, Ohio, for appellee.

Before MILLER, Circuit Judge, and GOURLEY and STARR, District Judges.

GOURLEY, District Judge.

The appeal relates to the interpretation of Section 115(g) of the Internal Revenue Code and poses the question —

Is a distribution of substantially all of the accumulated earnings and surplus of a corporation, which are not necessary to the conduct of the business of the corporation, in redemption of all outstanding shares of stock of said corporation owned by one person essentially equivalent to the distribution of a taxable dividend under the Internal Revenue Code?

The District Court answered in the affirmative and sustained a deficiency assessment by the Commissioner of Internal Revenue.

After consideration of the records, briefs and arguments of counsel for the parties, we believe the judgment should be reversed.

Under the applicable statutes and Treasury Regulations a corporation's distribution of its earned surplus out of its accumulated earnings or profits or out of the earnings or profits for the taxable year is subject to tax as an ordinary dividend, but an amount distributed by a corporation in partial liquidation shall be treated as in complete cancellation or redemption of a part of its stock and as in full payment in exchange for the stock. However, if a corporation cancels or redeems its stock at such time and in such manner as to make the distribution and cancellation or redemption in whole or in part essentially equivalent to the distribution of a taxable dividend,¹ the

213 F.2d 916

amount so distributed in redemption or cancellation of the stock, to the extent that it represents a distribution of accumulated earnings or profits, shall be treated as a taxable dividend. Whether a distribution in connection with a cancellation or redemption of stock is essentially equivalent to the distribution of a taxable dividend depends upon the facts and circumstances of each case

The question stems from the following circumstances:

Appellant is the widow of the person who was the motivating spirit behind the closed corporation which engaged in the business of excavating and laying of sewers. Through death of her husband she became the owner of all shares of stock issued by the corporation. She operated the business until remarriage, when her second husband assumed the management. As a result of a marital rift, separation, and final divorce, taxpayer sought to dispose of her company to a competitor who was anxious to eliminate competition.

Prospective buyer did not want to assume the tax liabilities which it was believed were inherent in the accumulated earnings and profits of the corporation. To avoid said profits and earnings as a source of future taxable dividends, buyer purchased part of taxpayer's stock for cash. Three weeks later, after corporate reorganization and corporate action, the corporation redeemed the balance of taxpayer's stock, purchasing the same as treasury stock which absorbed substantially all of the accumulated earnings and surplus of the corporation.

Taxpayer, in her tax return, invoked Section 115(c) of the Internal Revenue Code and Treasury Regulation 111, Section 29.115-9 (26 CFR 29.115-9, page 424) as constituting a cancellation or redemption by a corporation of all the stock of a particular shareholder, and therefore was not subject to being treated as a distribution of a taxable dividend.

The District Court sustained the deficiency assessment of the Commissioner that the amount received from accumulated earnings and profits was ordinary income since the stock redeemed by the corporation was "at such time and in such manner as to make the redemption thereof essentially equivalent to the distribution of a taxable dividend" under Section 115(g) of the Code.

The District Court's findings were premised upon the view that taxpayer employed a circuitous approach in an attempt to avoid the tax consequences which would have attended the outright distribution of the surplus to the taxpayer by the declaration of a...