Opinion
Docket No. 44020.
1955-06-8
WESTERN MASSACHUSETTS THEATRES, INC., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
William Shelmerdine, Jr., Esq., for the petitioner Joseph Landis, Esq., for the respondent.
William Shelmerdine, Jr., Esq., for the petitioner Joseph Landis, Esq., for the respondent.
Held, transaction by which petitioner acquired certain properties here in dispute was not one to which the nonrecognition provisions of section 112(b) (10) of the Internal Revenue Code of 1939 apply so as to give the same basis to such property in petitioner's hand as it had in the transferor's hands pursuant to section 113(a)(22) of the 1939 Code.
Respondent determined deficiencies in income and excess profits taxes petitioner for years and in amounts as follows:
+-------------------------------+ ¦Year¦Tax ¦Deficiency¦ +----+---------------+----------¦ ¦1942¦Income ¦$1,804.49 ¦ +----+---------------+----------¦ ¦1942¦Excess Profits ¦21,833.46 ¦ +----+---------------+----------¦ ¦1943¦Excess Profits ¦103,964.37¦ +----+---------------+----------¦ ¦1944¦Excess Profits ¦116,398.81¦ +----+---------------+----------¦ ¦1945¦Excess Profits ¦109,315.73¦ +-------------------------------+
By amendment to his pleadings, respondent claims additional deficiencies in excess profits tax as follows:
+--------------+ ¦1942¦$720.01 ¦ +----+---------¦ ¦1943¦1,589.10 ¦ +----+---------¦ ¦1944¦1,289.74 ¦ +----+---------¦ ¦1945¦2,603.77 ¦ +--------------+
Certain of respondent's adjustments are not in issue nor does petitioner contest respondent's claim for increased deficiencies by reason of his disallowance of the accrual of Massachusetts excise tax. Several issues raised in the petition filed herein have been settled by stipulation. All such stipulations and concessions will be reflected in the rule 50 recomputation consequent hereon.
The sole issue remaining to be resolved is whether the transaction in which petitioner acquired certain properties in 1935 was one of which section 112(b) (10) of the Internal Revenue Code of 1939 applies so as to make applicable the provisions of section 113(a)(22) in determination of the bases of such properties for depreciation and invested capital purposes.
FINDINGS OF FACT.
The stipulations filed by the parties with exhibits attached are adopted and by this reference made a part hereof.
Petitioner, Western Massachusetts Theatres, Inc., is a Delaware corporation with its principal office at Springfield, Massachusetts. Petitioner is primarily engaged in the exhibition of motion pictures and in connection therewith owns and/or operates a number of theatres. Its income and excess profits tax returns for the calendar years 1942 through 1945, here under review, were filed on an accrual basis with the collector of internal revenue for the district of Massachusetts at Boston.
On September 8, 1930, Paramount Famous Lasky Corporation, the name which was later successfully changed to Paramount Publix Corporation and Paramount Pictures Inc. (hereinafter referred to as Paramount), purchased substantially at the assets of G.B. Theatres Corporation (hereinafter called G.B.), a corporation organized and controlled by the Goldstein brothers, Samuel and Nathan. The assets so purchased by Paramount mainly consisted of certain theatre properties located in western Massachusetts and upper New York State which secured an issue of First and Refunding Mortgage Sinking Fund 6 1/2% Bonds dated March 1, 1926, and due March 1, 1956. Certain of these properties were also subject to underlying mortgages senior to that securing the G.B. bonds. As at the date of purchase of the assets, there were G.B. bonds. As at the date of purchase of the assets, there were
Olympia Theatres, Inc. (hereinafter referred to as Olympia), was organized in 1915 for the purpose of owning and operating motion picture theatres in the New England area. At the time of Paramount's purchase of assets of G.B., Paramount owned 95 per cent of the capital stock of Olympia which it had purchased in 1925, and caused such of these assets as were located in Massachusetts to be transferred thereto for a total consideration of $4,186,114.56. Included in the consideration was the assumption of certain liabilities of G.B., among which were the G.B. bonds, and which had been assumed by Paramount as part of its consideration for the assets. Of the total amount paid by Olympia, $99,927.11 represented the cost of the land, $2,757,505.18 represented the cost of the buildings, and the balance was attributable to equipment and miscellaneous assets.
At the beginning of 1933, Olympia operated or controlled more than 100 theatres located throughout New England. Some of these it owned, others it leased, and still others it controlled through subsidiaries. It had been a profitable operation. Neither of the Goldstein owned any stock therein at any time.
Early in 1933, Olympia encountered financial difficulties by reason of the appointment of receivers for Paramount and the institution of bankruptcy proceedings, against other Paramount subsidiaries located in other parts of the country. A crisis was precipitated in the financial affairs of Olympia at the end of January of that year by attachments of bank accounts and real estate in connection with certain antitrust actions filed against it. In February 1933, New England Theatres, Inc. (hereinafter called New England), a wholly owned subsidiary of Paramount, initiated proceedings in the Superior Court of Suffolk County, Commonwealth of Massachusetts, against Olympia and its wholly owned subsidiary, New England, seeking the appointment of receivers therefor. Under an interlocutory decree of the court dated February 1, 1933, receivers were appointed, and all other persons in whatever capacity acting were enjoined from taking possession of, or in any way dealing with, receivership assets. Following hearings, from which the court found Olympia was unable to meet its obligations and liabilities as they matured in the ordinary course of business; that the going concern value of the assets exceeded the liabilities; and that it was necessary to appoint receivers in order to preserve such going concern value, a decree was entered continuing the receivers and providing, in part, as follows:
That the defendants, their stockholders, officers, directors, agents and employees and the creditors of the defendants and any and all persons claiming by, through or under them or any of them and all other persons, firms, associations and corporations whatsoever be and they hereby are restrained and enjoined from interfering in any manner with said receivers taking or holding possession of the property or assets of the defendants or either of them to the possession or control of which said receivers are entitled under this decree, and with the carrying on or conducting by said receivers of the businesses of the defendants and from interfering with, transferring, selling or disposing of any of said property and assets, and from interfering in any manner whatsoever to prevent, hinder or disturb said receivers in the performance of their duties; and that, except as otherwise authorized by this Court all persons, firms, associations and corporations, including creditors, stockholders and all other persons, be and they hereby are restrained and enjoined from suing, instituting, continuing or prosecuting any action, suit or proceeding (other than proceedings ancillary hereto) at law or in equity or under any statute against the defendants or either of them, and from entering judgments against the defendants or either of them, or levying any attachment, execution or other process upon or against or creating or perfecting any lien upon or against any of said property and assets, and from taking or attempting to take into their possession or disturbing any of said property and assets.
The receivers took possession of Olympia's assets and continued operation of the business theretofore conducted by it.
An appeal from the order appointing receivers was taken to the Supreme Judicial Court of Massachusetts where the order was confirmed in an opinion captioned New England Theatres, Inc. v. Olympia Theatres, Inc., & another, 287 Mass. 485, 192 N.E. 93,certiorari denied294 U.S. 713.
Bankruptcy proceedings with respect to Paramount were instituted in March 1933. Following their appointment, consent of the receivers of Olympia was asked by representatives of the G.B. bondholders to a foreclosure of the mortgage securing the G.B. bonds, which consent was refused. The receivers did enter into an interim agreement, later extended by two subsequent agreements and ultimately by decree of the Superior Court in the receivership proceeding dated July 6, 1934, to apply the earnings of the G.B. properties toward taxes, insurance, and interest on prior mortgages with respect to such properties, and to pay over the balance to the trustees under the indenture of trust unde which the G.B. bonds were issued (hereinafter called trustees). On June 29, 1934, a petition was filed in the receivership proceedings by the trustees requesting permission to foreclose the mortgage. The permission was granted in the decree of July 6, 1934, on which date and pursuant thereto the trustees instituted foreclosure proceedings. At the same time, a bondholders' committee which had been formed in March 1933, by certain G.B. bondholders, asked the court, and was granted permission, to intervene therein.
The bondholders' committee had, on March 8, 1933, entered into an agreement with the First National Bank of Boston as depositary, which provided, in part, that the committee
may cause one or more companies to be organized for the purpose of acquiring or operating, or both, all or any part of the mortgaged property; may acquire and dispose of any of the shares and obligations of any such companies or permit others to do so; may transfer the deposited bonds or the mortgaged property or any other property in payment for such shares and obligations; and may take any legal or other proceedings or steps of any character in addition to or in lieu of the foregoing deemed by the Committee in its sole discretion to be for the benefit of the holders of the deposited bonds; and may exercise any of the foregoing rights and powers which may be applicable in the premises, in respect of the guaranty of the aforesaid bonds by Paramount Publix Corporation.
6. Any action taken hereunder which shall involve an irrevocable and complete disposition of all or substantially all interests of the bondholders or of the Committee in the mortgaged property, whether then represented by deposited bonds, by direct ownership of the mortgaged property, or by shares and/or obligations of one or more companies, shall be pursuant to a plan adopted or jointed in as hereinafter set forth, provided that no pledge, mortgage or other use of the mortgaged property as security or indemnity or in compliance with any provision of the mortgage shall be considered much a disposition and provided further that this limitation shall not apply if there shall be realized upon such disposition, the principal amount of the deposited bonds with accrued interest. The word ‘plan’ as used in this agreement includes a plan or an agreement, or a plan and an agreement together. The Committee may adopt or join in any plan for the reorganization or readjustment of the finances or affairs of the owners, whether direct or indirect, of the mortgaged property or of the rights and security of the deposited bonds with or without receivership, foreclosure, or other court proceedings. Any such plan may be adopted or joined in either before or after any foreclosure, receiver's or other sale of the mortgaged property or before or after the commencement of any foreclosure proceedings, and may be in such form, contain such terms and conditions and may vest in the Committee or other agency therein provided for such powers, including powers to amend and abandon plans and to adopt a new plan, as the Committee shall approve.
As intervening petitioner in the aforementioned foreclosure proceedings, the bondholders' committee presented to the court a document entitled ‘First and Refunding Mortgage Sinking Fund 6 1/2% Bonds of G.B. Theatres Corporation— Plan of Reorganization Dated: November 6, 1934.’ Essentially, the plan provided that a new corporation be organized under the laws of the State of Delaware to acquire the G.B. properties at the foreclosure sale and operate them together with other theatre properties. Holders of the G.B. bonds who participated in the plan would have the option of exchanging such bonds for (1) an equivalent principal amount of bonds of the new company plus cash equal to 18 months' interest on the old bonds (first alternative) or (2) a sum in cash equal to 65 per cent of the principal amount of such G.B. bonds (second alternative). No provision was included for the bondholders as such to acquire any of the capital stock of the new company. The Goldsteins were stockholders and directors of G.B. and had operated its properties prior to their conveyance to Paramount. Lares Theatres Corporation (hereinafter called Lares) was a wholly owned subsidiary of Paramount. The entire capital stock of the new corporation was to be issued to the Goldsteins who would retain the Class A stock and sell to Lares the Class B stock, contract. Lares would obtain for the new company a 10-year Paramount film franchise and the Goldsteins and Lares would advance to the new company its initial cash working capital. The Goldsteins, who then owned or controlled approximately $196,000 principal amount of G.B. bonds, agreed to deposit them and elected to take new bonds and cash under the first alternative— as did Lares, which owned or controlled $11,600 principal amount of G.B. bonds.
On November 6, 1934, the court in the foreclosure proceedings entered its decree with reference to the plan, approving the terms and conditions of the issuance of certificates of deposit by the bondholders' committee in exchange for G.B. bonds, and approving the terms and conditions of the issuance of new bonds in exchange for G.B. bonds in accordance with the provisions of the plan, and ruled that it was not material for the purpose of the proceeding that the court take any action with respect to the issuance of any securities other than the certificates of deposit and the new bonds. Thereafter, on December 21, 1934, the court entered its findings, rulings, and order for decree, wherein it found that the G.B. mortgage was a valid conveyance; that there was outstanding and unpaid under such mortgage $574,100 face amount of G.B. bonds; that defaults had occurred and then existed in the performance of the covenants; that the principal became due and payable on April 10, 1933; that the trustees under the mortgage were entitled to a decree of foreclosure and sale authorizing them to sell the property; and ordered that a decree might be entered subject to the approval of the court. On July 1, 1935, the court issued its interlocutory decree for foreclosure and sale of the property subject to the G.B. mortgage, decreeing that the property be sold and upon such sale there should be foreclosed the rights of any and all parties except the holders of prior liens and mortgages. The decree provided that any part to the action, including the bondholders' committee, or any holder of the bonds, or any creditor or stockholder, or any parties to the action, or any other person or corporation ‘* * * including the New Company as defined in the Plan of Reorganization * * *‘ might bid at the sale.
Prior to September 26, 1935, there had been deposited with the bondholders' committee $570,200 face amount of G.B. bonds (out of a total of $574,100 outstanding) by the holders thereof, who assented to the plan, and the holders of all except $2,300 face amount of the deposited bonds elected to take the first alternative providing for exchange of their bonds for new bonds of the new company to be formed under the plan, together with certain payments of interest.
As contemplated in the plan, and pursuant to the decrees above referred to, a foreclosure sale was held on July 30, 1935, at which the bondholders' committee purchased the mortgaged assets for $287,050, subject to taxes, liens, and underlying mortgages, and subject to confirmation by the court. In a decree dated August 21, 1935, the court confirmed the foreclosure and sale, directing that payment be made in cash and/or in bonds. The bondholders' committee submitted the G.B. bonds deposited with it to the trustees, who stamped the bonds to show payment of 50 per cent
of their face amount as a credit against the bid price. On October 10, 1935, a partial distribution of the G.B. earnings to that date was made, and the G.B. bonds deposited with the bondholders committee were stamped to show payment of 5 per cent of their face amount by that distribution.
In the stipulation of facts the parties, in one instance, state this figure as 50 percent and in another as 55 per cent. The discrepancy is not explained.
Petitioner (the new company) was organized on August 17, 1935. Its capital stock was solely voting common stock, of which 480 shares were designated as Class A and 520 shares as Class B. On September 26, 1935, the court in the foreclosure proceedings entered its interlocutory decree with respect to the plan and the incorporation of the petitioner. It approved the plan, the certificate of incorporation and bylaws of petitioner, required certain amendments in the mortgage indenture, and, as amended, approved the mortgage indenture, and further stated:
That this Court finds that the terms and conditions of the issue exchange of the 480 shares of Class A stock and 520 shares of Class B stock and $574,100, principal amount of Bonds of Series A of Western Massachusetts Theatres Inc. as set forth in the aforesaid Plan of Reorganization, the aforesaid Certificate of Incorporation and By-Laws of Western Massachusetts Theatres Inc. above referred to and in the Mortgage Indenture as amended as above referred to, are fair and in accordance with the provisions of said Plan of Reorganization, and that such issue and exchange be and hereby are in all respects approved.
On December 16, 1935, the bondholders' committee submitted to the first meeting of petitioner's board of directors a letter offering to take certain actions in furtherance of the plan, which offer was forthwith accepted by petitioner. Thereupon, appropriate corporate action was taken by the directors, and by petitioner's stockholders at a special meeting held later on the same day. The letter stated, in part:
The Committee proposes to distribute the New Bonds in accordance with the Plan and will deliver your entire capital stock to Messrs. Nathan E. and Samuel Goldstein (hereinafter called the Goldsteins) who propose to sell the entire Class B stock to Lares. Thereupon you will receive a ten-year paramount film franchise and Lares and the Goldsteins will lend to you such sum not exceeding $100,000 as, together with your pro rata share of the G.B. cash, will be sufficient to pay the foreclosure expenses, your organization expense, including counsel fees, and the two sums of cash specified in sub-divisions (c) and (d) above, $15,000 for expenses of the Committee and $55,594.40 representing 18 months' interest on the participating G.B. bonds) and to provide you with cash, working capital of $50,000, * * *
On December 16, 1955, the bondholders' committee transferred to the petitioner the G.B. properties acquired at foreclosure sales, subject to taxes, underlying mortgages, and encumbrances of record; the $570,200 principal amount of deposited G.B. bonds (stamped by the trustees as paid to the extent of 55 per cent
thereof) with March 1, 1933, and subsequent coupons attached; $105,422.64 in cash, representing a part of the G.B. earnings (which balance, amounting to $102,853.02, was paid to petitioner in installments, the final installment being paid on June 3, 1937); and the deficiency claim against Olympia arising out of the foreclosure.
See footnote, 1, supra.
At the same time, petitioner transferred to the bondholders' committee $574,100 principal amount of its new First and Refunding Mortgage 6% Bonds (hereinafter referred to as new bonds) secured by a mortgage of the G.B. properties and of certain additional property referred to infra and all of its capital stock.
The bondholders' committee thereupon distributed $567,900 principal amount of new bonds on a dollar-for-dollar basis to those G.B. bondholders who had elected the first alternative under the plan; $5,980 in cash to those G.B. bondholders who had not elected the first alternative; $5,800 principal amount of new bonds to the Goldsteins (in addition to the new bonds to which they were entitled as former G.B. bondholders) in return for supplying to the bondholders' committee the $5,980 in cash required to pay off the G.B. bondholders not electing the first alternative;
and all of the capital stock of the petitioner to the Goldsteins.
The remaining $400 principal amount of the new bonds were, in accordance with the plan, canceled.
The Goldsteins on December 16, 1935, sold the Class B common stock of petitioner for $107,500 in cash to Lares which had been authorized to participate in the consummation of the plan by decree of the United States District Court for the Southern District of New York dated May 17, 1934, in the bankruptcy proceedings of Paramount. On such date, each of the Goldsteins loaned $19,732.80 to petitioner, and Lares loaned $42,754.50 thereto in return for notes in these amounts bearing interest at the rate of 5 1/2 per cent per annum on the unpaid balance. These loans were made for the purposes of providing petitioner with working capital and to enable it to pay certain expenses for which it became liable under the plan.
On December 16, 1935, also, Lares and petitioner executed an agreement substantially as required by subdivision VII of the plan of reorganization, by which Lares undertook to procure the delivery of certain additional property to petitioner, in return for which petitioner agreed to assign to Lares the deficiency claim against Olympia which it had received from the bondholders' committee. The additional property consisted of the leases on 4 theatres then under lease to the Olympia receivers, the equipment in these 4 theatres, then under lease to the Olympia receivers, the equipment in all the theatres formerly subject to the mortgage securing the G.B. bonds. The obligation of Lares under this agreement was later assumed by Paramount, which discharged it by delivery to petitioner on June 3, 1937, of the 4 leases and the above-mentioned equipment. When received, this additional property became subject to the mortgage securing the new bonds. Petitioner and the Olympia receivers executed an agreement on December 16, 1935, covering the interim period which it was anticipated would be required to arrange delivery of the 4 theatre leases and the foregoing equipment. This agreement, which remained in effect from December 16, 1935, to June 3, 1937, provided that the 4 theatres whose leases were to be acquired by Lares for petitioner, were to be operated jointly by petitioner and the receivers as part of a pool which would also include 3 of the G.B. properties acquired by petitioner in the reorganization and another theatre under lease to the receivers; that the total net earnings of the 8 theatres in the pool were to be divided equally between petitioner and the receivers; and that all of the equipment contained in the G.B. properties (except the 3 properties included in the pooling agreement, the State Theatre, Utica, and the Sheldon Building) was to be rented by the receivers to petitioner for $125 a week.
In February of 1933, the Goldsteins owned approximately 34 per cent, and Lares owned approximately 2.02 per cent, of the then outstanding G.B. bonds. By reason of interim acquisitions, the Goldsteins increased their holdings of such bonds to approximately 65 per cent immediately prior to the transfer of the G.B. properties to petitioner on December 16, 1935. Upon consummation of the plan, the Goldsteins and Lares owned the same percentage of petitioner's new bonds as they had owned of the G.B. bonds immediately prior thereto, and the Goldsteins owned 48 per cent and Lares owned 52 per cent of the common stock of petitioner.
The properties of Olympia which were acquired by petitioner pursuant to the plan represented approximately 25 per cent of the book value of the total assets of Olympia at December 16, 1935, and were less than substantially all of the total assets of Olympia. The assets of Olympia not transferred to petitioner in the reorganization were with minor exceptions, conveyed by the receivers to New England on June 3, 1937, pursuant to a decree of the court in the receivership, for a total consideration of $4,000,000. Of this sum, $2,451,653.88 was paid in cash and the balance by crediting the purchaser with the amount of its allowed claims against Olympia and the amount of cash held by the receivers. Of the foregoing cash outlay, $2,000,000 had been procured by New England as a loan from Paramount.
The claims of Olympia's creditors were allowed by the court in the receivership in the aggregate amount of $3,976,840.01 including $180,000 for the deficiency claim on the G.B. bonds. After the sale of its assets to New England, Olympia paid a dividend of 94 per cent on these allowed claims, including a payment of $169,200 on the deficiency claim. Of the amount so paid $168,050.59 was attributable to those G.B. bonds participating in the reorganization, and was paid to New England as ultimate assignee of Lares' interest in the deficiency claim. Appropriate provision was made for payment to the holders of the $3,900 principal amount of G.B. bonds not participating in the reorganization. After payment of the dividend to its creditors, Olympia became a dormant corporation.
From the date of their appointment until December 16, 1935, the receivers of Olympia continued to operate the business of Olympia. From December 16, 1935, to June 3, 1937, they operated the portion of the business which had not been acquired by petitioner. After June 3, 1937, petitioner and New England each operated the properties, and carried on the business, acquired by it from the receivers of Olympia.
On its return for the taxable years 1943, 1944, and 1945, petitioner deducted depreciation in the respective amounts of $104,649.34, $104,649.34, and $102,060.24 on the buildings included in the G.B. properties, taking as its basis the adjusted basis of such properties in the hands of Olympia on December 16, 1935. In the determination of the deficiencies for those years, respondent disallowed $57,940.71, $57,940.71, and $57,507.56 of such amounts.
OPINION.
VAN FOSSAN, Judge:
The sole question here presented involves the basis properly to be ascribed to the G.B. properties in the hands of petitioner for depreciation and invested capital purposes. Specifically, the parties are at issue with respect to whether the transaction by which such properties were acquired was one to which the nonrecognition provisions of section 112(b)(10) of the Internal Revenue Code of 1939
apply so as to make petitioner's basis therefor the same as it would be in the hands of Olympia pursuant to section 113(a)(22) of the 1939 Code.
SEC. 112. RECOGNITION OF GAIN OR LOSS.(b) EXCHANGE SOLELY IN KIND.—(10) GAIN OR LOSS NOT RECOGNIZED ON REORGANIZATION OF CORPORATIONS IN CERTAIN RECEIVERSHIP AND BANKRUPTCY PROCEEDINGS.— No gain or loss shall be recognized if property of a corporation (other than a railroad corporation, as defined in section 77m of the National Bankruptcy Act, as amended) is transferred, in a taxable year of such corporation beginning after December 31, 1933, in pursuance of an order of the court having jurisdiction of such corporation—(A) in a receivership, foreclosure, or similar proceeding, or
SEC. 113. ADJUSTED BASIS FOR DETERMINING GAIN OR LOSS.(a) BASIS (UNADJUSTED) OF PROPERTY.— The basis of property shall be the cost of such property; except that—(22) PROPERTY ACQUIRED ON REORGANIZATION OF CERTAIN CORPORATIONS.— If the property was acquired by a corporation upon a transfer to which section 112(b) (10), or so much of section 112(d) or (e) as relates to section 112(b)(10), is applicable, then, notwithstanding the provisions of section 270 of the National Bankruptcy Act, as amended, the basis in the hands of the acquiring corporation shall be the same as it would be in the hands of the corporation whose property was so acquired, increased in the amount of gain recognized to the corporation whose property was so acquired under the law applicable to the year in which the acquisition occurred, and such basis shall not be adjusted to the year in which the acquisition occurred, and such basis shall not be adjusted under subsection (b)(3) by reason of a discharge of indebtedness pursuant to the plan of reorganization under which such transfer was made.
In 1933, Olympia was in receivership. The holders of certain bonds secured by a mortgage on that part of Olympia's assets, which for our purposes we have called the G.B. properties, instituted foreclosure proceedings. A bondholders' protective committee was formed and thereafter presented for the court's approval a plan calling for the creation of petitioner for the purpose of acquiring the G.B. properties from the committee after they had been bid in by it at the foreclosure sale. The plan as submitted contained one alternative which provided for the issuance of petitioner's new 6 per cent bonds to the holders of the old 6 1/2 per cent bonds in exchange therefor. Another alternative provided for a certain cash payment to bondholders so electing. At the time of the plan's submission, the Goldsteins owned approximately 34 per cent of the G.B. bonds and Lares 202 per cent. However, the plan contemplated further acquisition thereof by the Goldsteins. Thus, when the plan was actually consummated, the latter's holding thereof had increased to approximately 65 per cent. In accordance with the plan, the entire issue of petitioner's Class A and B stocks was distributed to the Goldstein's, the Class B thereafter to be sold to Lares. For each of the years involved, petitioner claimed depreciation on the buildings included in the G.B. properties computed on the basis of the adjusted basis thereof in the hands of Olympia. Respondent's disallowance of portions of the amounts so claimed by petitioner stems from his determination that the transaction in which the G.B. properties were acquired was not one from which no gain or loss would be recognized under the statute involved.
Petitioner first urges that the transaction in dispute met every literal requirement of the statute— that the properties were transferred to petitioner in a taxable year of Olympia beginning after December 31, 1933, that such transfer was pursuant to the order of the court having jurisdiction in the premises; that petitioner was organized and made use of to effectuate a plan of reorganization approved by such court; and that the transfer was in exchange solely for stock or securities. Petitioner also maintains that the words ‘property’ and ‘reorganization’ as respectively used in section 112(b)(10) do not require the transfer of all or substantially all of the properties of Olympia. However, it has long been recognized that literal compliance alone is insufficient to qualify a transaction as a reorganization within the scope of the various statutory provisions. Pinellas Ice & Cold Storage Co. v. Commissioner, 287 U.S. 462, affirming 21 B.T.A. 425; Helvering v. Alabama Asphaltic Limestone Co., 315 U.S. 179. In addition there must be compliance with the intent and purpose underlying the reorganization statutes. Bazley v. Commissioner, 331 U.S. 737. Thus, although the term ‘reorganization’ as used in section 112(b)(10) is specifically excluded from the definition thereof contained in section 112(g), it, nevertheless, as a prerequisite to its application, contemplated a continuity of the business enterprise in a modified corporate form and a continuity of interest by the owners thereof prior to consummation of the plan. Chicago Stadium Corporation, 13 T.C. 889; Davis v. Bankhead Hotel, Inc., 212 F.2d 697. See also S. Rep. No. 627, 78th Cong., 1st Sess., p. 4953; Regs. 111, sec. 29.12(b)(10)-1. That is to say, substantially the same business is to be continued in a new form by substantially the same proprietary interests. Cf. Scofield v. San Antonio Transit Co., (C.A. 5) 219 F.2d 149).
Petitioner points to the fact that its entire stock, 100 per cent thereof, was actually issued to Lares and the Goldsteins and held by them following the transaction in question. In this regard, petitioner argues that it makes no difference in what capacity they received the stock.
True it is that for the purpose of mathematically computing the percentage of stock held by the former owners of the equity interest in the old corporation to ascertain compliance with the 80 per cent control provision of the Code, the capacity in which such stock was received is irrelevant. Commissioner v. Huntzinger, 137 F.2d 128; Prairie Du Chien-Marquette Bridge Co. v. Commissioner, 142 F.2d 624; Seiberling Rubber Co. v. Commissioner, 169 F.2d 595. But, the continuity of interest factor required by the reorganization statutes has generally been held to mean that the transferor corporation or the owners of proprietary interest therein receive a proprietary interest in the new or transferee corporation by reason of, and in exchange for, their interest in the transferor. Mascot Stove Co. v. Commissioner, 120 F.2d 153; Goldstein Brothers, Inc., 23 T.C. 1047. Such was not the case here. The record is silent as to just what was given by the Goldsteins and Lares in exchange for the issuance to them of the entire stock of petitioner. One point, however, is eminently clear. Neither received such stock interest in exchange for a prior proprietary interest in the property involved. For aught that appears, the stock may have been issued thereto in consideration of new capital furnished by them. Chicago Stadium Corporation, supra; Helvering V. Cement Investors, Inc., 316 U.S. 527; Standard Coal, Inc., 20 T.C. 208. Furthermore, 33 per cent of the former bondholders received no continuing proprietary interest in petitioner in any capacity.
After considering all of the facts appearing on this record, we have concluded that respondent did not err in his determination. He therefore is sustained.
Decision will be entered under Rule 50.