Court Opinion

ID: 4604875
Source: CourtListenerOpinion
Date Created: 2020-11-20 19:35:08.647057+00
Date Added: 2024-06-11T07:53:04.803152
License: Public Domain

THE MORRIS PLAN COMPANY OF BINGHAMTON, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Morris Plan Co. v. CommissionerDocket No. 53221.United States Board of Tax Appeals26 B.T.A. 772; 1932 BTA LEXIS 1251; August 5, 1932, Promulgated *1251  Respondent's action, in disallowing certain amounts as deductions for interest, sustained, where the evidence shows that the obligation in connection with which it is claimed the amounts were paid was not an obligation of the petitioner but was an obligation of its stockholders.  John Marcy, Jr., Esq., for the petitioner.  O. W. Swecker, Esq., for the respondent.  TRAMMELL *772  This proceeding is for the redetermination of deficiencies in income tax of $275.93 for 1927 and $514.82 for 1928.  The only question presented for determination is whether the petitioner is entitled to a deduction in each of the years of an amount of $3,120 alleged to represent interest paid on indebtedness.  FINDINGS OF FACT.  The petitioner is a New York corporation, with its principal office at Binghamton.  It was organized in 1921, with a capital stock of $52,000, and the business conducted by it is that of industrial banking.  In 1922 it became financially involved, and was rendered insolvent in the latter part of that year on account of its capital of $52,000 having become exhausted because of losses.  Because of its insolvency the petitioner was prohibited from*1252  borrowing any money and was faced with dissolution.  The stockholders of the petitioner, however, desired to have it continue in business.  Consequently, certain of them made arrangements whereby sufficient funds were contributed to the capital of the petitioner to make it solvent.  Under an agreement between thirteen of the stockholders of the petitioner, designated "contributing stockholders," the Morris Plan Company of New York, which was in no wise related to or affiliated with the petitioner, certain persons designated "trustees" and all or substantially all of the remaining stockholders of the petitioner, the Morris Plan Company of New York, advanced to the petitioner $26,000 and the thirteen contributing stockholders of the petitioner also advanced to the petitioner a like amount of $26,000.  The agreement was as follows: AGREEMENT. - Made this 29th day of January, 1923, by and among the following parties: Undersigned stockholders of The Morris Plan Company of Binghamton (hereinafter called Stockholders), of the first part.  *773  Undersigned stockholders of The Morris Plan Company of Binghamton, participating, as hereinafter set forth, in advances made to The Morris*1253  Plan Company of Binghamton, (hereinafter called Contributing Stockholders), of the second part, The Morris Plan Company of New York, of the third part, and Walter H. Morse and Wallace D. McLean, as Trustees for various parties hereto (hereinafter called Trustees), of the fourth part, WHEREAS, it has become and is necessary forthwith to pay into the treasury of The Morris Plan Company of Binghamton the sum of Fifty-two Thousand Dollars ($52,000.) in order to prevent the liquidation or dissolution and to continue the business of said Company, and WHEREAS, The Morris Plan Company of New York and the Contributing Stockholders are each ready and willing to furnish and pay into the treasury of The Morris Plan Company of Binghamton the sum of Twenty-six Thousand Dollars ($26,000) making a total of Fifty-two Thousand Dollars ($52.000), provided that the Stockholders will deposit and pledge with the Trustees their stockholdings in the said Binghamton Company, as security for the repayment of said Fifty-two Thousand Dollars ($52,000) as hereinafter set forth, NEW THEREFORE, in consideration of the premises and of the said payment and of the mutual obligations herein entered into and*1254  of other valuable consideration, the receipt whereof is hereby acknowledged, the parties hereto agree as follows: (1) The Contributing Stockholders and The Morris Plan Company of New York, upon execution of this agreement and the deposit of stock with the Trustees as hereinafter set forth, will each pay forthwith into the treasury of the Morris Plan Company of Binghamton the sum of Twenty-six Thousand Dollars ($26,000) in cash.  It is understood that these sums will be paid without taking any note or other obligation of The Morris Plan Company of Binghamton therefor, but solely in reliance on the agreements of the Stockholders hereunder and such corporate action as may be unanimously taken by all the stockholders of The Morris Plan Company of Binghamton in pursuance hereof.  (2) Each of the Stockholders agrees that he will forthwith upon signing this agreement deposit and pledge with the Trustees, the number of shares of stock in The Morris Plan Company of Binghamton set opposite his signature hereto.  Certificates for said shares shall be either endorsed in blank or assigned specifically to Walter H. Morse and Wallace D. McLean Trustees.  Such Stockholders do, by signing this*1255  agreement and depositing such shares, agree that the Trustees shall hold and administer the same as the interests of the parties hereto shall appear according to the terms hereof.  (3) The Stockholders so depositing agree to assign and transfer, and do hereby assign and transfer, to the Trustees, on the trusts herein created, all their right, title and interest in and to any and all dividends, profits and surplus of The Morris Plan Company of Binghamton, whether declared in the form of dividends or not, and all their right, title and interest in and to the distribution of the said Company's assets, in case of dissolution or liquidation, until such time as the said advances to The Morris Plan Company of New York and the Contributing Stockholders shall be fully repaid, with interest on unpaid balances at the rate of six per cent. (6%) per annum.  It is understood that interest on unpaid balances will be paid without priority to either contributing party, but that the principal amount of advances made by the New York Company shall be repaid to it in full before the payment of any principal advanced by the Contributing Stockholders.  Repayment of principal, with interest, advanced by*1256  the Contributing Stockholders of Binghamton, will be made to *774  them as their interests appear, according to the sum set opposite their respective signatures hereto.  (4) The Stockholders hereby authorize the Trustees to collect and receive any and all dividends declared on the stock deposited with them and also to receive any and all payments made by The Morris Plan Company of Binghamton by way of reimbursement to the parties advancing the said sums and to distribute the same to The Morris Plan Company of New York and the Contributing Stockholders as provided herein.  The Stockholders hereby authorize the Trustees to transfer the stock deposited hereunder into the names of the Trustees, it being understood that the Trustees during the continuance of the trust herein created shall have all voting rights and other rights of Stockholders in respect of said stock.  If the Trustees shall not transfer the stock into their own names, then the Stockholders agree from time to time on request of the Trustees to give to the trustees proper proxies to vote said stock for all purposes at any annual or special meetings of Stockholders.  (5) The Trustees shall hold said deposited stock*1257  on the terms hereof, until the entite sum of Fifty-two Thousand Dollars ($52,000), with interest, shall have been repaid to the contributing parties as provided herein.  Upon the completion of such repayment, the Trustees shall reassign and transfer the shares of stock to the respective undersigned Stockholders, or to their proper legal representatives or assigns.  (6) Although no corporate note or obligation of The Morris Plan Company of Binghamton is to be taken in connection with said advances, the contributing parties rely for repayment on the payment by The Morris Plan Company of Binghamton to the Trustees from time to time, of the net profits of the said Company, after such reserves shall have been set up as shall be required by the Superintendent of Banks of the State of New York.  The undersigned Stockholders hereby agree that they will diligently endeavor to secure at the earliest practicable moment the deposit hereunder of the entire outstanding capital stock of The Morris Plan Company of Binghamton.  As soon as such a deposit of all outstanding stock shall have been made, the Stockholders specifically authorize the Trustees to hold a Stockholders' Meeting and to vote the*1258  entire capital stock of the Company for such resolution as may be approved in form by counsel for The Morris Plan Company of Binghamton and counsel for The Morris Plan Company of New York, to the effect that the Stockholders unanimously recognize the right of the Trustees to collect and receive, on the trusts hereinabove set forth, all net profits of the said Company, after the above reserve shall have been set aside until the said advances, with interest, shall have been repaid as provided herein.  (7) If, however, for any reason deposit of all outstanding stock of the Binghamton Company shall not be effected, nevertheless the undersigned Stockholders hereby individually authorize the Board of Directors of The Morris Plan Company of Binghamton to pay over to the Trustees their proportion of net profits as above set forth, and in the event of liquidation or dissolution of the Company, their proportion of distributable assets, until the said advances shall have been repaid with interest as above set forth.  (8) If the contributing parties shall not have been repaid in full, with interest, as provided herein, at the expiration of six years from date hereof, then the Trustees shall*1259  give all the stockholders of The Morris Plan Company of Binghamton notice of such non-payment, and unless the stockholders pay such deficiency within fifteen days after the giving of such notice by the Trustees, then the said Trustees may sell all or such of the deposited stock, at private or public sale, as shall be necessary to meet such unpaid balance with *775  interest.  The Trustees after reimbursing themselves for all disbursements necessarily made by them and retaining one percent of said dividends or net profits so paid to them as compensation for their services herein, and after paying such unpaid balance, with interest, to the contributing parties, as herein provided, shall distribute any surplus of cash or stock, remaining in their hands, pro rata among the undersigned stockholders according to the number of shares set opposite their respective signatures hereto.  (9) The Trustees hereby accept the said trust and agree to carry out and perform the same according to the terms hereof.  (It is understood that the Trustees accept this trust without payment for their services in connection therewith, except as hereinbefore set forth.) The Trustees shall not be held responsible*1260  for anything in connection with the said trust except for loss or damage due to their willful malfeasance.  (10) If at any time the two said Trustees shall not be able to agree in voting the stock deposited with them hereunder, they are in such case hereby authorized to give their proxy to some individual approved by both of them, and such attorney and proxy shall have all of the power to vote given to the Trustees hereunder.  In case of the death, resignation or disability of either of the Trustees, his successor shall be selected either by The Morris Plan Company of New York or by The Morris Plan Company of Binghamton, according to whether the preceding incumbent whose successor is being selected shall have represented The Morris Plan Company of New York or the Contributing Stockholders.  (11) It is understood that this agreement shall be binding and that said advances shall be due from the contributing parties forthwith upon the deposit of stock with the Trustees hereunder to be held subject to the terms of this agreement, amounting to Fifty-two Thousand Dollars ($52,000) par value.  IN WITNESS WHEREOF, the parties hereto have signed this agreement.  The Stockholders have*1261  set opposite their respective signatures the number of shares of stock severally deposited with the Trustees hereunder; the Contributing Stockholders have set opposite their respective signatures the sums severally advanced by them; The Morris Plan Company of New York has set opposite its name the amount to be advanced by it, and the Trustees have by signing this agreement, signified the acceptance of the trust.  It was not contemplated that the petitioner should sign and it did not sign the foregoing agreement, nor did it have any liability thereunder.  The agreement was carried out according to its terms and at the expiration of the 6-year period provided therein the trustees, not having received sufficient dividends from the petitioner to repay to the 13 contributing stockholders and the Morris Plan Company of New York the money advanced by them, sold the stock that had been pledged with them by the stockholders of the petitioner.  The stock was sold to the Morris Plan Holding Company of Binghamton for $52,000.  One-half of this amount was paid by the trustees to the Morris Plan Company of New York and the other half was paid to the contributing stockholders of the petitioner. *1262  During each of the years 1927 and 1928 the petitioner declared and paid to the trustees a dividend of $3,120.  According to the terms of the agreement these dividends were used by the trustees to *776  pay interest to the contributing stockholders of the petitioner and the Morris Plan Company of New York on the $52,000 advanced by them to the petitioner.  For each of the years 1927 and 1928 the petitioner deducted as an expense for interest the amount of $3,120 which it had declared as dividends and had paid to the trustees.  In determining the deficiencies here involved the respondent held that the amounts constituted dividends and as such disallowed them as deductions.  OPINION.  TRAMMELL: Counsel for the petitioner contends in his brief that the amount of $52,000 advanced to the petitioner by the Morris Plan Company of New York and the contributing stockholders of the petitioner constituted an indebtedness owing by the petitioner to them, and that the amount of $3,120 declared by the petitioner as a dividend during each of the taxable years and paid to the trustees, who in turn distributed it to the parties who had advanced the $52,000 to the petitioner, constituted*1263  interest paid by the petitioner on its indebtedness.  The respondent contends that the transaction was in substance one whereby all of the stockholders of the petitioner borrowed $52,000 from 13 of their number, designated contributing stockholders, and the Morris Plan Company of New York, pledging with trustees as collateral for the payment thereof their stock in the petitioner, and that, having thus raised $52,000, they contributed it to the capital of the petitioner without any obligation for repayment being assumed by the petitioner.  He urges that under such circumstances dividends thereafter declared by the petitioner out of its earnings and paid to the trustees who were holding its outstanding capital stock may not be deducted by the petitioner as interest paid on its indebtedness.  From a consideration of the terms of the agreement and the other facts in the case we think it is clear that the contributing stockholders of the petitioner and the Morris Plan Company of New York were to be repaid the amounts advanced by them to the petitioner first from the dividends or distributions of the earnings and profits of the petitioner as distributed by it to the trustees from time*1264  to time.  If at the end of six years such distributions had been insufficient for that purpose, then payment was to be had from the stockholders holders of the petitioner, or, in the event they failed to pay within 15 days from the time demand was made upon them, then payment was to be had from the sale of the stock deposited with the trustees.  We think it is equally clear that at the time the $52,000 was paid in to the petitioner it assumed no obligation with respect to the repayment thereof.  There is nothing in the record to indicate that *777  it was in any way liable to repay the amount either to the parties who actually paid the money over to it or to its stockholders.  The testimony of the petitioner's counsel, who was a witness in the case, indicates that if the petitioner, being insolvent as it was, had assumed such liability it would still have been subject to being closed by the banking authorities of New York State.  The whole purpose of the stockholders in having the $52,000 paid in to the petitioner was to "rehabilitate the capital" and restore the petitioner to solvency.  This certainly could not have been done if the petitioner had been liable for repayment of*1265  the amount, as it would have been just as insolvent after the amount was paid in as it was before.  The fact that the petitioner during the taxable years declared dividends in an amount exactly equal to 6 per cent on $52,000 and paid such dividends to the trustees does not establish that the petitioner was liable for the payment of the amount advanced to it.  So far as the record shows, the petitioner's earnings, after making provision for the reserves required by the superintendent of banks of the State of New York as referred to in the agreement, might have been insufficient to pay larger dividends.  Or, if the earnings would have permitted the payment of larger dividends, it might have been that for business reasons the directors of the petitioner did not deem it advisable to make larger payments than were made.  Since the stockholders of the petitioner had deposited their stock with the trustees, had specifically assigned and transferred to the trustees all dividends on the stock, and had authorized the trustees to collect and receive any and all dividends declared on the stock so deposited and to distribute them to the parties who had actually furnished the $52,000, it was the*1266  only proper thing for the petitioner to do to pay to the trustees the dividends declared.  Having thus received the dividends, it was incumbent on the trustees under the agreement to pay them over to the contributing stockholders and the Morris Plan Company of New York pursuant to the terms of the agreement.  In order for a taxpayer to be allowed a deduction for interest paid the interest must have been paid on an obligation of the taxpayer claiming it, and not on an obligation of another or others.  ; ; ; affd., . If it be conceded, for the sake of argument, that the amounts the petitioner here seeks to deduct were in fact paid as interest on the $52,000, they would not be deductible by the petitioner, since they were not paid on its obligation, but on an obligation of its stockholders.  The evidence, however, shows that the amounts in controversy were declared and paid as dividends by the petitioner and *778  appear as such in its records.  The respondent has determined that they were*1267  dividends, and the evidence before us does not indicate that they were anything else.  Therefore, we think that the respondent's action in disallowing the amounts as deductions was correct and should be sustained.  Judgment will be entered for the respondent.