Court Opinion

ID: 4602240
Source: CourtListenerOpinion
Date Created: 2020-11-20 19:29:17.350057+00
Date Added: 2024-06-11T07:52:38.220008
License: Public Domain

INDEPENDENT OIL COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Independent Oil Co. v. CommissionerDocket No. 67700.United States Board of Tax Appeals35 B.T.A. 32; 1936 BTA LEXIS 572; November 5, 1936, Promulgated *572  Petitioner, a corporation, exchanged assets for all the stock of a new corporation and, pursuant to a plan of reorganization, exchanged 75 percent of that stock for stock of a third corporation.  Held, that these transactions constituted a nontaxable reorganization.  S. Leo Ruslander, Esq., and R. J. Cleary, Esq., for petitioner.  Dean P. Kimball, Esq., for the respondent.  ARUNDELL*33  This case involves a deficiency in income tax for 1930.  The deficiency proposed by the Commissioner was $205,415.13 and an additional deficiency is asked by amended answer.  The principal issue involved is whether or not the transactions concerned resulted in a tax-free reorganization.  FINDINGS OF FACT.  The petitioner was a Pennsylvania corporation, organized in 1924 to take over the business theretofore operated by Benjamin Cohn as an individual since 1910 or 1911.  The petitioner was a distributor of petroleum products, principally gasoline and lubricating oil, operating as a middleman between manufacturers and retail dealers, and it operated a few retail stations of its own.  It did not manufacture its own products and had no fixed source of supply, *573  but bought from various manufacturers and refiners on specifications furnished to them.  The petitioner did business in 24 contiguous counties in central Pennsylvania.  Its gross volume of business ran several million dollars a year.  For some time prior to 1930 the company had realized the necessity of securing a fixed and dependable source of supply, both as to quality and quantity, and the desirability of marketing a product with a nationally known name or brand.  The Vacuum Oil Co. in 1929 was manufacturing and selling its nationally known lubricant, "Mobiloil", and was also beginning to enter the gasoline field by buying interests in such distributors as the petitioner.  Negotiations were begun between the Vacuum Oil Co. and the stockholders of the petitioner with a view to Vacuum's obtaining an interest in the petitioner.  The negotiations were carried on by agents of the Vacuum Investing Co., a subsidiary of Vacuum Oil Co.  This resulted in a contract dated January 31, 1930, which will be described at some length.  The parties were the Vacuum Oil Co. and the Vacnum Investing Co., designated in the contract as "we" (and hereinafter referred to as Vacuum or Vacuum Oil Co. *574  , and all the stockholders of the petitioner, designated in the contract as "you" (and hereinafter referred to as the stockholders).  The contract provided that a new corporation (hereinafter referred to as the new corporation or the new company) should be organized by Vacuum with the name "Independent Oil Company, Inc." or such similar name as should be available, the capital stock to be represented by 35,000 shares of common stock without par value.  The stockholders agreed that they would acquire or cause the petitioner to acquire all of this capital stock and also certain income certificates which in general would provide that the holders would be entitled to an amount not in excess *34  of $500,000 if the new company made an average income in excess of 8 percent on its invested capital (capital stock of $3,500,000 plus surplus) over the next 10 years.  In exchange for this stock and income certificates the petitioner would transfer all of its assets which were used in the oil business (listed in exhibits attached to the agreement), and working capital not in excess of $485,000, free and clear of all liabilities, mortgages, liens, and encumbrances except a $15,000 mortgage*575  liability.  The stockholders agreed that petitioner would deliver to the Vacuum Oil Co. and Vacuum agreed to take from petitioner 26,250 shares of the capital stock of the new corporation, and a 10-year option on the remaining 8,750 shares, which were to be put in escrow under conditions detailed in the contract.  In exchange therefor Vacuum agreed to deliver to the petitioner on the date of closing enough shares of its stock to equal $1,312,500, based upon the agreed valuation of the average stock market price of Vacuum stock for the 30 days preceding the date of closing, and in addition enough shares of its stock at the agreed valuation to equal $812,500, which stock should be immediately placed in escrow to be sold as should be directed by Vacuum over a period of five years, but at least one-fifth of the stock to be sold each year.  The proceeds of this stock were to be paid over to the petitioner as the stock should be sold, and Vacuum obligated itself to pay at the end of five years whatever difference there might be, if any, between such proceeds and the sum of $1,312,500.  This difference was referred to as the "unpaid balance" and at the time of closing was stated nominally*576  as $500,000; upon sales of stock in excess of the value at which they were escrowed this "unpaid balance" was to be correspondingly reduced; on sales below the escrowed value the "unpaid balance" was to be correspondingly increased.  The contract further provided: The present company [petitioner] or its designees shall be entitled to all cash dividends upon the escrow stock, and in addition there shall be paid to the present company or its designees (in stock or at our option in cash), at the time of each sale of escrow stock (a) an amount equal to the cash dividends, if any, paid since the date of closing or the last sale of escrow stock, as the case may be, upon the number of shares of stock of Vacuum Oil Company which would have been required at the beginning of such period to pay the unpaid balance, as it existed during such period after all previous adjustments made as aforesaid, and (b) an amount equal to such proportion of the cash dividends paid during the twelve months next preceding the date of sale, as the period from the date of payment of the last dividend or last sale of escrow stock, whichever is later, to the date of sale, bears to one year, upon the stock sold*577  and upon such additional number of shares as would have been required at such date of payment of the last dividend or last sale of escrow stock to pay the then unpaid balance.  *35  The contract also provided that the stockholders would cause the petitioner: * * * to cause the present company to discontinue all operations of every kind which might compete or interfere with the new corporation, immediately after the date of closing, and to dissolve as soon thereafter as may be practicable.  The contract likewise provided that the new corporation at the time of organization should have a board of directors of seven members, including Samuel, Harry, and Charles Cohn, the other members of the board to be designated by Vacuum, and thereafter directors to be elected by cumulative voting of the stockholders.  Samuel M. and Charles N. Cohn also agreed that upon formation of the new corporation they would enter its service as executives thereof at Altoona, Pennsylvania, devote their entire time and best business endeavors in its interest, and remain in its service for five years from the date of closing, provided the new corporation did not elect to sooner terminate their services. *578  The stockholders also agreed that within ten days from the date of the execution of the contract they would cause petitioner to ratify its terms, pursuant to law, in a manner satisfactory to Vacuum.  On February 3, 1930, the stockholders and directors of the petitioner approved the proposed contract with Vacuum dated January 31, 1930.  The form of this contract fulfilled the demands of the Vacuum Oil Co's business policy.  Vacuum required that a new corporation be organized so that it would be free from any undisclosed liabilities of the old corporation; also the new corporation would start out with no substantial liabilities, and with adequate working capital.  By this contract Vacuum retained the old management and gave them sufficient interest in the new corporation to furnish an incentive for successful operation.  The $812,000 worth of Vacuum stock was put in escrow because it was believed that its value would so increase before its sale that a material part of the purchase price would be saved.  The 25 percent of the new company's stock was optioned to Vacuum so that Vacuum might acquire the entire interest in the new company if it so desired.  On April 4, 1930, the closing*579  occurred.  The petitioner transferred to the new company, "Independent Oil Company, Inc., of Pennsylvania", a Delaware corporation, all of its assets except certain securities, a small amount of cash and accounts receivable, and a small piece of real estate valued at approximately $4,000, to which satisfactory title could not be furnished.  In exchange the petitioner received all the capital stock of the new company, namely 35,000 shares, and the $500,000 of income certificates above described.  The *36  petitioner then placed in escrow 8,750 shares of the new company's stock under a 10-year option to Vacuum and transferred the remaining 26,250 shares (75 percent) of the new company's stock to the Vacuum Oil Co.  Under the valuation formula prescribed by the contract the petitioner received in exchange 22,978 shares of Vacuum stock, of which 8,786 shares were immediately placed in escrow to be sold as provided in the contract.  All the escrowed stock was sold during 1932, and Vacuum's obligation was discharged in that year.  The 22,978 shares of Vacuum received by petitioner had a fair market value of $2,125,000 when received.  A resolution of the board of directors of the*580  petitioner, dated July 2, 1930, "authorized, empowered and directed" its officers, pursuant to the plan of reorganization, to distribute to the stockholders pro rata the assets received in the exchanges.  By further resolutions of July 23 and September 4, 1930, the assets here concerned were made available to the stockholders on request in accordance with a stockholders' agreement dated September 2, 1930.  The corporation was dissolved by court decree on December 28, 1930.  The petitioner on the date of closing ceased to transact business.  The new company after April 4, 1930, conducted the business formerly operated by the petitioner and is still operating it under the management of Samuel and Charles Cohn.  OPINION.  ARUNDELL: Summarizing the facts, they are that in 1930 the petitioner transferred assets to a newly organized corporation for all of its stock, and then exchanged 75 percent of the stock so acquired for stock of Vacuum plus a so-called obligation of Vacuum.  On the first exchange the petitioner also received income certificates of the new corporation, but the parties appear to be agreed that these were without value.  In his original determination in this proceeding*581  the respondent held that the transfer by petitioner of 26,250 shares of stock of the new corporation to Vacuum was a sale resulting in taxable gain; he did not compute any gain on petitioner's exchange of assets for stock of the new corporation.  By amended answer the respondent claims that petitioner realized a greater gain than originally determined.  He alleges primarily that petitioner sold or exchanged less than substantially all of its assets for a mixed consideration consisting of 8,750 shares of stock of the new corporation, 14,192 shares of Vacuum stock, a $1,312,500 obligation of Vacuum, and certain income certificates of the new corporation.  In the alternative, the *37  respondent alleges that the exchange of assets by petitioner for stock and income certificates of the new corporation was a taxable transaction.  The question for decision is whether or not the transfers and exchanges described in the findings of fact resulted in recognizable gain to the petitioner.  Counsel for the petitioner, analyzing each step, contends that each was a nontaxable exchange.  Counsel for the respondent maintains that what was done must be viewed as a single transaction, the substance*582  of which was the transfer by the petitioner of only a part of its assets for 25 percent of stock of the new company plus stock and an obligation of Vacuum.  Counsel for the respondent contends in the alternative that, if each step be separately considered, then taxable gain resulted because the petitioner transferred, less than "substantially all" of its assets.  The parties cite cases supporting both the single transaction and the separate step theories.  The very number of cases on each side demonstrates that neither theory has universal application.  It may well be that a completed series of transactions has all the outward appearance of a nontaxable reorganization and yet some of the separate steps may be such as to give rise to gain or loss.  On the other hand, each separate step may fit exactly into the words of the statute and yet the completed undertaking may fall outside the statute.  Cf. . It is not possible to say that either theory should be exclusively applied to the varying situations that arise in the many exchange and reorganization cases that are presented to us.  In this case it is unnecessary to say which should*583  be applied, for it is our opinion that either approach to the question produces the same result, namely, that the transactions gave rise to no taxable gain to the petitioner.  Viewing the transactions as the respondent primarily contends should be done, i.e., as an accomplished result and the several steps merely as parts of the whole, and considering the result first from the standpoint of the petitioner, we find that at the outset petitioner owned property used in its oil distribution business; at the conclusion of the transactions, in place of direct ownership it had a 25 percent interest through stock ownership in the transferee plus the interest represented by the income certificates, and also a further substantial interest through its stock interest in Vacuum, which owned the other 75 percent of the transferee's stock.  While the petitioner's relationship to the assets was substantially changed, nevertheless it acquired and held a definite and substantial interest in the transferee.  Cf. ; *584 . *38  Still viewing the transactions as a whole, but from the standpoint of Vacuum's participation, we find that what occurred was that Vacuum acquired 75 percent of all the stock of the new corporation.  This acquisition was not accomplished by purchase, but by the issue of Vacuum stock to the petitioner.  This acquisition contains all the elements of the definition of reorganization in section 112(i)(1)(A) of the Revenue Act of 1928, as an "acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation." Under the definition in section 112(i)(2) both Vacuum and the new company were parties to the reorganization.  Moreover, it is plain, we think, that the petitioner was a party to the reorganization.  Its assets and its participation were necessary parts in the carrying out of the plan of reorganization.  See ; affd., *585 . Considering the several steps separately, the first taken was the exchange by petitioner of part of its assets for all of the stock of the new corporation.  The respondent's argument that the petitioner transferred less than substantially all of its properties applies only upon an attempt to fit this step into the last clause of section 112(i)(1)(A) defining a reorganization as the "acquisition by one corporation of substantially all of the properties of another corporation." We have not found as a fact whether or not the assets transferred constituted substantially all the properties of the petitioner, and we think it unnecessary to do so, for in our view the transaction fits equally well into other parts of the definition section of the statute.  It perhaps does not come within that part of paragraph (A) which defines reorganization as including the acquisition by one corporation of a majority of the stock of another.  That part of the definition has been held to be limited to cases where the corporation acquiring the stock of another continues in existence.  *586 . It does, however, come within paragraph (B), which treats of the "transfer by a corporation of all or a part of its assets to another corporation if immediately after the transfer the transferor or its stockholders or both are in control of the corporation to which the assets are transferred." Reaching this point, we meet the objection of the respondent that under the plan of reorganization the petitioner was not to remain in control of the new corporation and that, under the cases viewing a series of transactions as only parts of the whole, we must say that there was no statutory control under paragraph (B) by the petitioner immediately after the exchange.  But the assertion of this view is directly opposed to that of each step being a separate transaction The application of the cases cited by respondent denies the very premise *39  on which the argument is based, namely, that as a matter of law the steps can be separately considered.  The attempt to separate the steps and then to argue that the effect of each can not be separately judged confuses the two concepts with which the respondent starts his reasoning.  If each step is*587  separate, then the fact that each was pursuant to a plan is immaterial on this point.  The existence of a plan may be highly material under other provisions of the statute, but the definition section which we are now considering does not mention it.  Under the separate step theory, the first transaction, namely, that between the petitioner and the new corporation, would come within either subsection (4) or (5) of section 112(b).  Subsection (4) exempts from tax the gain on a transfer of property by one corporation a party to a reorganization to another corporate party solely for stock or securities of the other, and subsection (5) grants exemption on a transfer of property to a corporation for stock or securities where immediately after the exchange the transferor is in control of the transferee corporation.  Under subsection (5) the transfer need not be pursuant to a plan of reorganization in order to be exempt from tax.  Still considering the steps separately, the second one was the exchange by petitioner of 75 percent of the stock of the new corporation for stock of Vacuum.  Section 112(b)(3) provides for the nonrecognition of gain or loss on the exchange of stock or securities*588  in a corporate party to a reorganization for stock or securities in another corporate party.  Section 112(b)(4) similarly provides for nonrecognition where a corporate party to a reorganization exchanges property for stock or securities in another corporate party.  Whether weregard the stock of the new company in the hands of the petitioner as "stock" or as "property", its exchange by the petitioner for Vacuum stock would be nontaxable under one or the other of these provisions.  In , there was a similar triangular transaction and the court held broadly that it came under both subsections (3) and (4).  Under whichever provision it comes, it is nontaxable if the petitioner received only stock or securities of Vacuum.  The respondent contends that the petitioner received not only stock of Vacuum, but also the obligation of Vacuum to pay $1,312,500, and that because of the receipt of this obligation the transaction does not come within either subsection (3) or (4) of section 112(b).  We do not agree with this view of the respondent.  The substance of the agreement between the parties was that the petitioner was to get*589  stock of Vacuum and that was what it actually received.  It received a total of 22,978 shares, of which it placed in escrow 8,786 shares to *40  be later sold.  There seems to be no dispute as to the petitioner's actually receiving 14,192 shares of Vacuum stock.  The contract with respect to this stock provides that "$1,312,500 * * * shall be delivered the present company [petitioner] in stock of Vacuum * * *." On the basis of the agree price per share this stock amounted to 14,192 shares.  The next provision of the contract is that "$812,500 * * * in stock of Vacuum Oil Company shall on the date of closing be endorsed in blank and placed in escrow * * *." The number of shares necessary to meet this provision was 8,786.  The respondent adds together the $812,500 just mentioned and the $500,000 designated in the contract as the "unpaid balance" and treats the sum, $1,312,500, as an obligation of Vacuum received by petitioner in addition to the Vacuum stock.  In this we think there was error.  First, the $812,500 was not a money obligation.  It was payable and was paid in stock of Vacuum.  The evidence is that 8,786 shares were delivered to petitioner and by it endorsed and placed*590  in escrow to be sold.  The petitioner according to the agreement was to receive the dividends on the stock while held in escrow and was to receive and did receive the proceeds of sales of the stock.  Second, the so-called "unpaid balance" of $500,000 was not an obligation of Vacuum susceptible of treatment as "property." It was not an obligation on the part of Vacuum to pay any definite or ascertainable amount.  It was in substance only a guaranty that the petitioner would realize a certain amount on the sale of the escrowed stock.  Not until the stock was sold could it be determined whether or not Vacuum would be liable for any sum at all, and this possibly might not occur for five years after the taxable year.  Vacuum had no liability under this part of the contract in the taxable year, and there is no showing that any liability ever did arise.  But even if the guaranty can be considered to be property, its wholly contingent nature renders it without value, and there is no measure for a tax under section 112(c)(1), which bases the tax on the value of "other property" acquired in an exchange.  These conclusions are based on our construction of the contract.  The petitioner presented*591  valuation evidence, but that was based on the assumption of the guaranty being a direct obligation to pay, and was offered only as an alternative to the conclusions we have reached.  We accordingly hold that none of the transfers and exchanges here involved gave rise to recognizable gain to the petitioner.  Minor adjustment made by the respondent in the income reported are not in issue.  Reviewed by the Board.  Decision will be entered under Rule 50.TURNER dissents.