Court Opinion

ID: 6885147
Source: CourtListenerOpinion
Date Created: 2022-07-23 21:26:17.697922+00
Date Added: 2024-06-11T16:05:41.635004
License: Public Domain

JONES, Circuit Judge
(dissenting).
It will at once be acknowledged that the construction which the majority of the court place upon Sec. 14(c) (1) of the Revenue Act of 1936 accords with the cognate Treasury regulation (Regulation 94, Art. 14-3), and that the regulation has heretofore received approval in Black Motor Co. v. Commissioner, 6 Cir., 125 F.2d 977. Notwithstanding the unanimity of such respected opinion, it seems clear to me that the regulation so far departs from the plainly expressed statutory intent as to amount to independent legislation which, of course, is not within the competence of the Treasury. I, therefore, dissent from the action taken by the court on that branch of the case and shall give the reasons for my view.
The tax imposed by the Revenue Act of 1936 on the undistributed net income of corporations is graduated according to successive portions of the undistributed net income which are ascertained by reference to respectively prescribed percentages of the adjusted net income. See subdivision (b) of Section 14. As defined by the Act, Section 14(a) (1), a corporation’s “adjusted net income” is its net income less certain tax credits not here material; and, generally speaking, its “undistributed net income”, also as defined by the Act, Section 14(a) (2), is its adjusted net income less dividends paid to stockholders.
Section 14(c) (1) provides that, — “If the adjusted net income is less than $50,000, there shall be allowed a specific credit equal to the portion of the undistributed net income which is in excess of 10 per centum of the adjusted net income and not in excess of $5,000, such credit to be applied as provided in paragraph (2).’’ (Emphasis supplied.) The sole question with which we are presently concerned is as to the meaning of the provision just quoted.
While the designated subject-matter of Section 14(c) (1) is a “Specific Credit”, it is not a credit in the sense that the amount thereof is exempted entirely from taxation. What Section 14(c) (1) and (2) does is to remove an amount of the undistributed net income, commensurate with the credit, from surtax in the block of the highest tax rate •into which it would otherwise fall under Section 14(b), and subject it to surtax in the block of the lowest tax rate along with what normally falls in that block according to the schedule of Section 14(b). That this is so is fully confirmed by the method prescribed in paragraph (2) of Section 14(c) which provides for the “Application of specific credit”.
In the instant case the petitioner’s adjusted net income for the year in question-was $15,831.62. Its undistributed net income was the same amount, no dividends having been paid to stockholders. In reliance upon Section 14(c) (1), the petitioner took a specific credit of $5,000 in figuring the surtax on its undistributed net income, $5,000 being the upward limit of the credit fixed by the Act, according to the petitioner’s interpretation, when the portion of the undistributed net income in excess of 10% of the adjusted net income exceeds $5,000, which it did in this instance. The Commissioner limited the specific credit, however, to $3,416.84 and assessed a deficiency accordingly. The specific credit, which the Commissioner did allow, he derived by taking $5,000 and deducting therefrom 10% of the ($15,831.62) adjusted net income, or $1,583.16. The Board of Tax Appeals-(five members dissenting) approved the Commissioner’s method of ascertaining the credit. But, does it conform to the formula of the statute?
In support of their action both the Commissioner and the Board of Tax Appeals relied upon Treasury Regulation 94, Art. 14-3, which states in part here material that “This specific credit [under Sec. 14-*384(c)] is an amount equal to the excess of $5,000 or the total undistributed net income, whichever is less, over 10 percent of the adjusted net income and is to be deducted from the undistributed net income before computing the surtax. * * *.” (There is of course further provision, not here material, that the surtax on the amount of the credit at the lowest rate' (7%) is to be added to the surtax otherwise found on the undistributed net income less the specific credit.)
What the regulation actually does is to make the relative clause, “which is in excess of 10 per centum of the adjusted net income”, relate to its own conjoined words, “not in excess of $5,000”, whereas those words are a correlative part of the relative clause which in its entirety was intended to fix the limits of credit between that (portion of the undistributed net income) which, on the one hand, “is in excess” of a certain amount (10% of the adjusted net income) and that (portion of the undistributed net income) which, on the other hand, “[is] not in excess” of a certain amount ($5,000). In short, the regulation requires that the words (“not in excess of $5,000”) be removed from their context and placed in apposition to the words “undistributed net income”. Thus the regulation would make the provision read that “there shall be allowed a specific credit equal to the portion of the undistributed net income [,not in excess of $5,000,] which is in excess of 10 per centum of the adjusted net income * * *.” But that is not what the statute says, and if that is what Congress intended it to mean, it would have been a very easy matter to have so provided.
In justification of the interpretation which the regulation puts upon Section 14 (c) (1) it is suggested that the regulation promotes a more reasonable result than would the statutory provision if construed as actually written, — that under the regulation the specific credit reduces proportionately as the adjusted net income increases toward the disqualifying limit of $50,000. Assuming for the moment that the result under the regulation would be more equitable as between corporations just over and just under the $50,000 limit with respect to adjusted net income, the answer is that an allowance in the nature of an exemption against tax liability is of necessity arbitrarily fixed. In any circumstances, one is either within or without the embrace of an exemption and, so, entitled or not, as the case may be, to the relief which the exemption affords. It was Congress which limited the right to the credit to corporations having less than $50,000 of adjusted net incomes; and, as thus determined, Congress did not discriminate depending upon whether the corporation has $1,000 or $49,000 of adjusted net income. The statute indicates no intended gradation among the corporations entitled to the credit. Any such considerations would, of course, be for Congress to ponder and resolve. Furthermore, the ambiguity in a statute which invites resort to the rule of construction favoring adoption of that interpretation which produces the more reasonable result must be an ambiguity inherent in the statute as written and not one injected by the very interpretation which is claimed to resolve the doubt or ambiguity. It is submitted that except for the ambiguity which the Treasury regulation itself imputes to Section 14 (c) (1) there is neither doubt nor ambiguity in the provision as written.
But, in reality, the effect of the regulation defeats the intent of Congress as disclosed by the legislative history attending the enactment of the specific credit. The revenue bill1 of 1936 as it was passed by the House laid a graduated undistributed-profits tax on all corporations but did not provide for any specific credit. When the bill came to the Senate, as passed by the House, the Senate Finance Committee in reporting it with amendments expressed the view2 that the House bill had “certain fundamental defects” in respect of the undistributed-profits tax plan in that, among other things, “The plan penalizes the small corporation and the corporation with insufficient reserves and is of decided advantage to the large corporation and the corporation with excessive surplus.” (Emphasis supplied.) Accordingly, the Senate amended the bill by restoring the normal tax on corporations, which the House had eliminated, and by inserting a flat surtax of 7% on undistributed corporate profits, this being in substitution for the undistributed-profits tax adopted by the House. But, still, as amended by the Senate, the bill contained no provision for a specific credit.
It was in conference on the disagreeing votes of the two Houses that Sec. 14(c) *385was first inserted in the revenue bill. While the conference report3 does not explain the intent of Section 14(c), the situation confronting the conferees and what they did to meet it is enlightening. On the part of the House, the conferees were under the duty of pressing for a restoration of the graduated undistributed-profits tax, with rates running up to 42.5% which the House had already approved. On the other hand, the Senate conferees were under a similar duty to press for the Senate’s flat surtax of 7% on undistributed net income, keeping in mind the Senate’s desire that some measure of relief be afforded small corporations in need of reserves from earnings for working capital or development. The result of the conference was a normal tax on the net income of corporations and a surtax running up to 27% on their undistributed net income and the insertion of the specific credit. The credit, as thus made applicable to small corporations (those having less than $50,000 of adjusted net income), removed an additional part of their undistributed net income from the higher surtax blocks and placed it in the lowest, or 7%, tax rate.
It seems evident that the purpose Congress had in mind in enacting the specific credit was to relieve to a degree from the surtax at the higher rates the undistributed net income of small corporations which, by reason of their financial position, would find it necessary for sound business reasons to retain their net income undistributed. The corporation with sufficient surplus to be able to distribute current earnings currently was in no need of the credit to relieve against the surtax at the higher rates. After all, it is the undistributed net income which is subject to the surtax. The corporation therefore which is able to and does distribute its net income escapes or at least greatly minimizes the surtax. Obviously, there was neither occasion nor cause for furnishing a credit to such a corporation, however small. To put the credit on the same basis as between the small corporation able to distribute net income and the small corporation unable so to distribute would work to the disadvantage of the one unable to distribute and, by the same token, to the relative advantage of the one able to distribute. That was undoubtedly one of the defects of the bill as written (i.e. without the specific credit) to which the report of the Senate Finance Committee alluded when it said that “The plan penalizes * * * the corporation with insufficient reserves and is of decided advantage to * * * the corporation with excessive surplus” (i.e. surplus sufficient to warrant distribution of current income).
Yet, the effect of the Treasury Regulation is to place all small corporations on a parity with respect to the allowance of the specific credit. And, thereby, it penalizes the small corporation unable to distribute its net income and, at the same time, affords a relative advantage to the corporation able to distribute its earnings. On the other hand, if Section 14(c) (1) is applied, according to its plain terms, it will be found that the distributing corporation is entitled to little or no specific credit, as should be the case. The prospect that any portion of a corporation’s undistributed net income will exceed ten per cent of its adjusted net income grows less as net income is distributed.
Take, for example, two corporations each having an adjusted net income of $49,000. The one, finding it necessary to build up reasonable reserves for working capital and future development is unable to make any distribution to its stockholders and retains $49,000 of undistributed net income. Under the Treasury regulation that cor-> poration’s specific credit would be $100.4 The other corporation, possessed of sufficient working capital and under no necessity to build up reserves, distributes $44,-000 to its stockholders, leaving it with $5,-000 of undistributed net income. Under the regulation the latter corporation’s specific credit would be precisely the same as in the case of the first corporation. But, the affluent corporation pays surtax on only $5,000 of undistributed net income at the lowest rate (7%) while the corporation which needs reserves and is therefore unable to distribute its net income is com*386pelled to pay a surtax on $49,000 of undistributed net income at the rates of the graduated scale including the highest (27%). Notwithstanding each of the supposed corporations had adjusted net income of $49,000, the financial necessity of the one prevents it from escaping or reducing the surtax by distributing its net income, yet it receives under the regulation the meager credit to which the other corporation is rightly limited under the statute,5 as herein construed, as well as under the regulation. The obvious effect of the regulation seems to me to run directly counter to what was intended by Congress in the enacted terms of the specific credit.

 H. R. 12395, 74th Cong., 2nd Sess.

 Senate Rep. No. 2156, 74th Cong., 2nd Sess.

 In the instance of the supposed distributing corporation, the specific credit would likewise be $100 under the statute as written, i. e., the credit would be “egual to the portion of the undistributed net income [$5,000] which is in excess of 10 per centum of the adjusted net income [$49,000] and not in excess of $5,-000 * *

 Conference Report No. 3068, 74th Cong., 2nd Sess., to accompany H. R. 12305.

 $5,000 less 10% of §49,000 (the adjusted net income), as the Treasury regulation provides. Yet, if the terms of the statute (Section 14(c) (1)) be applied, it will be found that “the portion of its [the corporation’s] undistributed net income [$49,000] which is in excess of 10 per centum of the adjusted net income [§49,-000] and not in excess of $5,000” is $5,-000.