Opinion
Docket No. 45706.
1955-07-19
THE STACEY MANUFACTURING COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Harry Stickney, Esq., and Robert P. Goldman, Esq., for the petitioner. R. G. de Quevedo, Esq., for the respondent.
1. Prior to March 1, 1913, petitioner made a distribution of its common stock upon common stock. Held, such distribution is not includible in petitioner's equity invested capital as a distribution of stock under section 718(a)(3), 1939 Code. Owensboro Wagon Co., 18 T.C. 1107 (revd. 209 F.2d 617), followed.
2. Held, petitioner is not entitled to include in its equity invested capital any amount as representing goodwill acquired from its predecessor partnership. Harry Stickney, Esq., and Robert P. Goldman, Esq., for the petitioner. R. G. de Quevedo, Esq., for the respondent.
Respondent determined deficiencies in income and excess profits taxes of petitioner for years and in amounts, as follows:
+----------------------------------+ ¦Year ¦Tax ¦Deficiency ¦ +------+--------------+------------¦ ¦1941 ¦Income ¦$868.05 ¦ +------+--------------+------------¦ ¦1942 ¦Excess profits¦25,995.90 ¦ +------+--------------+------------¦ ¦1943 ¦Excess profits¦19,755.81 ¦ +------+--------------+------------¦ ¦1944 ¦Excess profits¦32,081.01 ¦ +------+--------------+------------¦ ¦1945 ¦Excess profits¦26,519.20 ¦ +----------------------------------+
Some of the issues raised in the pleadings have been abandoned. Two questions remain for our determination:
1. Whether a pre-March 1, 1913, stock distribution is includible in equity invested capital;
2. Whether there should be included in the computation of petitioner's equity invested capital any amount for goodwill transferred to petitioner, upon its incorporation in 1880, from a predecessor partnership, and representing the excess of the fair market value of the assets paid in at such time over the par value of the stock issued therefor.
FINDINGS OF FACT.
The stipulation of facts filed by the parties, with exhibits attached, is adopted, and, by this reference, made a part hereof.
Petitioner, the Stacey Manufacturing Company, is a corporation organized under the laws of the State of Ohio on March 1, 1880. During the taxable years here involved, petitioner kept its books and records on the accrual basis of accounting and so filed its income and excess profits tax returns with the collector of internal revenue for the first district of Ohio, at Cincinnati.
Prior to July 15, 1912, petitioner's outstanding capital stock consisted of 1,500 shares of common stock, having a par value of $100 each. This stock had been issued at the time of incorporation of the company in 1880 in a transaction in which the petitioner took over the assets and liabilities of a predecessor partnership which had theretofore conducted the business thereafter continued by petitioner. At the meeting of petitioner's board of directors held June 12, 1912, it was resolved to submit to the stockholders the question of increasing the capital stock from $150,000 to $1,000,000. On July 15, 1912, petitioner's stockholders authorized an increase in its capital from $150,000 to $750,000 by application in due form to the secretary of state of Ohio. This application was approved and petitioner's outstanding common stock was increased from 1,500 shares to 7,500 shares of a par value of $100 each.
On December 2, 1912, petitioner's board of directors authorized a transfer from the surplus and undivided profits account of $600,000, equaling the par value of the authorized increase in capital, to the capital stock account for the purpose of payment in full of the new stock at par. Of the amount so transferred, $75,000 was to pay for 750 shares to be issued to J. E. Stacey, as per instructions of the stockholders, and approved by the board of directors; $525,000 was to pay for 5,250 shares to be declared as a stock dividend of 350 per cent on the old stock.
On January 20, 1913, petitioner made a pro rata distribution to its stockholders of 5,250 shares of common stock, being a stock dividend of 350 per cent on the then outstanding shares. On the same date, petitioner issued 750 shares of common stock to Stacey for services rendered. Upon the issuance of the stock dividend of 5,250 shares of common stock, the earned surplus account was debited in the sum of $525,000, and the capital stock account of petitioner was credited in the same amount. Upon the issuance of the 750 shares of common stock to Stacey, the earned surplus account was charged with $75,000 and the capital stock credited in the same amount.
As a result of the stock dividend distribution of 5,250 shares, some of the shareholders were entitled to fractional shares, aggregating 6 shares in all. These 6 shares were sold to the highest bidder among the stockholders, and the proceeds, amounting to $1,209, or $201.50 per share, were divided proportionately among the stockholders entitled to the fractional shares.
On April 5, 1915, as a result of legal proceedings instituted by some of petitioner's stockholders, Stacey, who had previously received the above-mentioned 750 shares of petitioner's stock, returned the same to petitioner, together with cash dividends theretofore paid on such shares in the amount of $15,000. Petitioner's board of directors declared a stock dividend of the foregoing 750 shares of capital stock, apportioned among the stockholders according to their holdings as of January 20, 1913.
Between December 31, 1915, and December 31, 1931, capital stock was reduced by the purchase and retirement of stock aggregating $389,000, leaving 3,610 shares of $100 par common stock outstanding on December 31, 1931, with a total par value of $361,000. In November 1934, the outstanding 3,610 shares of $100 par common stock were exchanged in a recapitalization under the terms of which shareholders contributed notes payable in the sum of $181,521, and the outstanding shares were turned in and exchanged for 2,000 shares of class A common no-par stock and 1,000 shares of class B common no-par stock.
As of December 31, 1912, immediately prior to the issuance of the 350 per cent stock dividend and of the 750 shares to Stacey, having an aggregate par value of $600,000, petitioner's earned surplus amounted to $534,751.71. Following the issuance of these shares, petitioner's earned surplus had a deficit of $65,248.29, which deficit was offset by a profit for the calendar year 1913 in the amount of $82,355.92. Disregarding the stock dividend of January 20, 1913, there is a deficit in petitioner's accumulated earnings and profits in each of the taxable years 1939 through 1945.
The respondent, in determining the excess profits tax deficiencies for the years here involved, computed the equity invested capital of petitioner at the beginning of the taxable year 1940 and at the beginning of the other taxable years involved, as follows:
+------------------------------------------------------------------------+ ¦Equity invested capital ¦ ¦$253,721¦ +------------------------------------------------------+--------+--------¦ ¦Original paid-in capital ¦$150,000¦ ¦ +------------------------------------------------------+--------+--------¦ ¦Stock dividend 1/20/1913 ¦600,000 ¦ ¦ +------------------------------------------------------+--------+--------¦ ¦ ¦$750,000¦ ¦ +------------------------------------------------------+--------+--------¦ ¦Less: Stock purchased and retired ¦389,000 ¦ ¦ +------------------------------------------------------+--------+--------¦ ¦Balance remaining per balance sheet December 4, 1934, ¦ ¦ ¦ +------------------------------------------------------+--------+--------¦ ¦before recapitalization ¦361,000 ¦ ¦ +------------------------------------------------------+--------+--------¦ ¦Amount allowable for equity invested capital $150,000/¦ ¦ ¦ +------------------------------------------------------+--------+--------¦ ¦$750,000 x $361,000 equals ¦72,200 ¦ ¦ +------------------------------------------------------+--------+--------¦ ¦Notes payable contributed by stockholders, prior to ¦ ¦ ¦ +------------------------------------------------------+--------+--------¦ ¦1/1/1940 ¦181,521 ¦ ¦ +------------------------------------------------------+--------+--------¦ ¦Total paid-in capital ¦$253,721¦ ¦ +------------------------------------------------------------------------+
From the time the predecessor partnership was founded in 1851, up to the time of petitioner's incorporation in 1880, and since that time, petitioner has manufactured plate and structural steel, gas holders, gas plant equipment, lamp posts, cast iron work, and, in later years, equipment tanks and holders for industrial and chemical plants, oil refineries, distilleries and breweries. From its incorporation in March 1880, through the year 1911, petitioner's net profits and the cash dividends paid were as follows:
+-------------------------------+ ¦Net Profits ¦ +-------------------------------¦ ¦ ¦ ¦ +--------------------+----------¦ ¦1880 (After Mar. 7) ¦$13,331.32¦ +--------------------+----------¦ ¦1881 ¦9,035.29 ¦ +--------------------+----------¦ ¦1882 ¦35,266.22 ¦ +--------------------+----------¦ ¦1883 ¦46,544.36 ¦ +--------------------+----------¦ ¦1884 ¦31,721.58 ¦ +--------------------+----------¦ ¦1885 ¦6,964.05 ¦ +--------------------+----------¦ ¦1886 ¦16,031.36 ¦ +--------------------+----------¦ ¦1887 ¦2,937.14 ¦ +--------------------+----------¦ ¦1888 ¦28,291.61 ¦ +--------------------+----------¦ ¦1889 ¦39,509.33 ¦ +--------------------+----------¦ ¦1890 ¦13,363.15 ¦ +--------------------+----------¦ ¦1891 ¦26,978.02 ¦ +--------------------+----------¦ ¦1892 ¦51,702.22 ¦ +--------------------+----------¦ ¦1893 ¦26,477.11 ¦ +--------------------+----------¦ ¦1894 ¦(4,162.03)¦ +--------------------+----------¦ ¦1895 ¦67,761.47 ¦ +--------------------+----------¦ ¦1896 ¦4,417.63 ¦ +--------------------+----------¦ ¦1897 ¦779.81 ¦ +--------------------+----------¦ ¦1898 ¦10,129.80 ¦ +--------------------+----------¦ ¦1899 ¦27,060.42 ¦ +--------------------+----------¦ ¦1900 ¦34,212.47 ¦ +--------------------+----------¦ ¦1901 ¦ ¦ +--------------------+----------¦ ¦1902 ¦91,704.74 ¦ +--------------------+----------¦ ¦1903 ¦139,288.55¦ +--------------------+----------¦ ¦1904 ¦90,094.99 ¦ +--------------------+----------¦ ¦1905 ¦122,345.54¦ +--------------------+----------¦ ¦1906 ¦93,339.46 ¦ +--------------------+----------¦ ¦1907 ¦123,143.71¦ +--------------------+----------¦ ¦1908 ¦156,014.71¦ +--------------------+----------¦ ¦1909 ¦3,543.16 ¦ +--------------------+----------¦ ¦1910 ¦94,431.72 ¦ +--------------------+----------¦ ¦1911 ¦94,427.09 ¦ +-------------------------------+
+------------------+ ¦Dividends Paid ¦ +------------------¦ ¦ ¦ ¦ ¦ +----+------+------¦ ¦1881¦6 1/2%¦$9,750¦ +----+------+------¦ ¦1882¦3 ¦4,500 ¦ +----+------+------¦ ¦1883¦9 ¦13,500¦ +----+------+------¦ ¦1884¦12 ¦18,000¦ +----+------+------¦ ¦1885¦15 ¦22,500¦ +----+------+------¦ ¦1886¦18 ¦27,000¦ +----+------+------¦ ¦1887¦18 ¦27,000¦ +----+------+------¦ ¦1888¦9 ¦13,500¦ +----+------+------¦ ¦1889¦21 ¦31,500¦ +----+------+------¦ ¦1890¦12 ¦18,000¦ +----+------+------¦ ¦1891¦15 ¦22,500¦ +----+------+------¦ ¦1892¦18 ¦27,000¦ +----+------+------¦ ¦1893¦18 ¦27,000¦ +----+------+------¦ ¦1894¦18 ¦27,000¦ +----+------+------¦ ¦1895¦6 ¦9,000 ¦ +----+------+------¦ ¦1896¦24 ¦36,000¦ +----+------+------¦ ¦1897¦6 ¦9,000 ¦ +----+------+------¦ ¦1898¦6 ¦9,000 ¦ +----+------+------¦ ¦1899¦9 ¦13,500¦ +----+------+------¦ ¦1900¦9 ¦13,500¦ +----+------+------¦ ¦1902¦18 ¦27,000¦ +----+------+------¦ ¦1903¦18 ¦27,000¦ +----+------+------¦ ¦1904¦27 ¦40,500¦ +----+------+------¦ ¦1905¦33 ¦49,500¦ +----+------+------¦ ¦1906¦42 ¦63,000¦ +----+------+------¦ ¦1907¦21 ¦31,500¦ +----+------+------¦ ¦1908¦60 ¦90,000¦ +----+------+------¦ ¦1909¦60 ¦90,000¦ +----+------+------¦ ¦1910¦36 ¦54,000¦ +----+------+------¦ ¦1911¦51 ¦76,500¦ +------------------+
OPINION.
VAN FOSSAN, Judge:
The first question is whether the pre-March 1, 1913, pro rata stock distribution of common on common is properly to be included in petitioner's equity invested capital for excess profits tax purposes in the taxable years involved under section 718 of the Internal Revenue Code of 1939, the pertinent provisions of which are set forth below.
Specifically, the problem is whether such a distribution is to be deemed a distribution of earnings and profits within the meaning of the cited statute.
SEC. 718. EQUITY INVESTED CAPITAL.(a) DEFINITION.— The equity invested capital for any day of any taxable year shall be determined as of the beginning of such day and shall be the sum of the following amounts, reduced as provided in subsection (b)—(3) DISTRIBUTIONS IN STOCK.— Distributions in stock—(A) Made prior to such taxable year to the extent to which they are considered distributions of earnings and profits; and(B) Previously made during such taxable year to the extent to which they are considered distributions of earnings and profits other than earnings and profits of such taxable year;(4) EARNINGS AND PROFITS AT BEGINNING OF YEAR.— The accumulated earnings and profits as of the beginning of such taxable year;
The precise question posed has previously been before this Court on two occasions, first, in Owensboro Wagon Co., 18 T.C. 1107, revd. (C.A. 6, 1954) 209 F.2d 617; and then again in Geo. W. Ultch Lumber Co., 21 T.C. 382. In each, we held adversely to the taxpayer's contention, that a distribution of common on common, whether prior or subsequent to March 1, 1913, is not considered a distribution of earnings and profits, and is, therefore, not to be included in equity invested capital under section 718(a)(3). The factual situation involved in the Owensboro Wagon Co. case is, for all practical purposes, identical to and indistinguishable from that in the present proceeding. Here, as there, the question is of importance to the petitioner only because losses sustained subsequent to March 1, 1913, have dissipated the earnings involved in the distributed stock dividend, but for which such earnings would be includible in equity invested capital as accumulated earnings and profits. See sec. 718(a)(4), Code of 1939.
Our opinion in the Owensboro Wagon Co. case was reviewed by the full Court and adopted without dissent. Our subsequent reversal by the Court of Appeals for the Sixth Circuit, the court to which this case will go if appealed, makes mandatory a reconsideration of the rationale employed by us in reaching our conclusion. We know of no case involving the exact question now pending on appeal before any Court of Appeals. See Baker Land & Title Co. v. United States, 126 F. Supp. 561 (W.D.,Wis., 1954). Accordingly, we have fully reconsidered the question in the light of, and with due regard for, the views expressed by the Court of Appeals in its opinion. After such study we remain unconvinced of any error in our position. Thus, in all good faith, we must reaffirm the position heretofore taken by us, and, with high respect for the honorable Court of Appeals, decline to follow. Respondent's action as to this item is, therefore, sustained.
There remains the question of what amount, if any, is properly includible in petitioner's equity invested capital in representing goodwill acquired by it from its predecessor partnership.
Petitioner contends that it is entitled to include in its equity invested capital an amount for goodwill acquired from its predecessor partnership equivalent to the difference between the fair market value of the assets thereof and the par value of the stock issued in exchange therefor. It is respondent's position that no goodwill was transferred from the predecessor partnership to petitioner at the time of its incorporation in 1880.
Equity invested capital is purely a statutory concept. La Belle Iron Works v. United States, 256 U.S. 377. And the specific items to be included therein are set out in the statute. Goodwill is properly so includible as a part of paid-in capital. C. M. Hall Lamp Co. v. United States, 201 F.2d 465. In the instant case, however, the evidence does not establish any amount for goodwill transferred to petitioner in 1880 from the partnership. There is no showing as to the fair market value of the partnership assets acquired by petitioner nor as to the fair market value of petitioner's stock given in exchange therefor. In this regard, Regulations 112, section 35.718-1, provide, in part, as follows:
If stock having no established market value is issued for intangible property, and it is necessary to determine the fair market value of such property, the following factors, among others, may be taken into consideration in determining such value: (a) The earnings attributable to such intangible assets while in the hands of the predecessor owner; and (b) any cash offers for the purchase of the business, including the intangible property, at or about the time of its acquisition. * * *
Petitioner has offered no evidence to meet either of the above suggested factors. It is stipulated that the records of the earnings of the predecessor partnership prior to petitioner's incorporation in 1880 are unobtainable. Petitioner, thus, relies instead, upon its subsequent earnings. But, as we said in Holters Co., 16 B.T.A. 325, at page 332:
The petitioner also relies on the fact that since it was formed it has earned profits much in excess of a fair return on its investment in physical assets as evidence that it received more than bare manufacturing facilities and equipment from its predecessors. We have several times held that large profits earned subsequent to incorporation is not convincing evidence that goodwill was acquired from predecessor concerns. * * *
The foregoing is apposite here. Moreover, there is no evidence of any value ascribed to goodwill by the predecessor partnership either prior to or at the time its assets were taken over by petitioner. Cf. Landesman-Hirschheimer Co. v. Commissioner, 44 F.2d 521. In view of the foregoing, therefore, we affirm respondent as to this issue.
Decision will be entered under Rule 50.