Court Opinion

ID: 9651387
Source: CourtListenerOpinion
Date Created: 2023-08-23 16:18:14.89655+00
Date Added: 2024-06-11T18:12:33.354316
License: Public Domain

EVANS, Circuit Judge
(dissenting).
The facts are fully stated in the majority opinion. For the purpose of this dissent only a few of them need be stressed by a restatement.
The contesting parties must trace their rights to the will, the material portions of which are set forth in the majority opinion. Clause 4 is the controlling one. Clauses 3, 5, 6, 7, and 8 are important only as they possibly illuminate the testator’s intention. More significant of such intention is the direction to the trustee to manage and invest the estate for the benefit of the wife and daughter “in such good, safe, and productive bonds, or mortgages, as will produce, if possible, a sure and regular income, the net income or interest, to be paid over to my wife, Kathryn Tur-ney Long, and Ethel Long Rike, in the following manner * *
The success of the Long Company after the testator’s death was remarkable, but that success has no bearing on any legal question before us other than to say it produced the estate over which the legal controversy arose. The company’s action in distributing but a part of its earnings, the appellant’s past at-taebs on the trustee, and her attitude toward the reinvestment of the company’s earnings are all “water over the dam,” and are quite beside the question raised on this appeal.
The determinative facts are: Long died testate; the estate was left in trust for the benefit of his widow and his daughter; the son-in-law was named trustee; the estate consisted almost entirely of stock in the Long Manufacturing Company; such holdings exceeded three-fourths of said company’s stock; the trustee was elected president of the company and acted in this capacity throughout all the years involved; the trustee successfully conducted the business for eighteen years; during such time he caused to be paid out 'part of the company’s earnings in dividends and distributed them as the will directed, between appellant and Mrs. Rike; part of the company’s earnings were not distributed; the 'undistributed earnings were put into the company’s business and contributed to its successful operation; in 1929, the trustee sold the 1,960 shares of stock for $1,800 per share. There is evidence showing that said $1,800 thus received was derived from (a) original capital, $100; (b) earnings reinvested, $500.33; and (e) intangible assets such as good will, ete., $1,199.67. There is no controversy as to item (a). As to item (b), there is sharp controversy, but there is no question but that it is made up of undistributed earnings of the company. With item (e), I need hardly concern myself. If this dissenting opinion were the majority opinion, the legal questions arising over this item would necessitate determination.
I agree with my associates that the rule governing the division of undistributed earnings of a corporation, the stock of which is held by the trustee, is in this ease governed by the decisions of Illinois. Kawin & Co. v. American Colortype Co. (C. C. A.) 243 F. 317; Smith v. Sweetser (C. C. A.) 19 F.(2d) 974; In re Morrison (C. C. A.) 261 F. 355; Franzen v. Chicago, M. & St. P. Ry. Co. (C. C. A.) 278 F. 370.
Likewise, I agree that the Illinois courts have adopted the so-called Massachusetts rule governing the distribution of dividends between life tenant and remainderman. Lloyd v. Lloyd, 341 Ill. 461, 173 N. E. 491; De Koven v. Alsop, 205 Ill. 309, 68 N. E. 930, 63 L. R. A. 587.
But the Illinois courts, as well as others which have announced their adoption of the so-called Massachusetts rule, have modified it and extended its boundaries. As illustrative *136of these modifications, the late case of Lloyd v. Lloyd, 341 Ill. 461, 173 N. E. 491, 493, might be cited. There the majority opinion expresses an intention to follow the rule which is “in accord with those followed by the Supreme Court of Massachusetts.” Nevertheless, the dividend under consideration was not, strictly speaking, a cash dividend. Referring to such dividend, the court said: “It has frequently been said in our decisions that in determining the nature of a dividend the substance rather than the form will be considered * * *.” This is hardly a statement of the Massachusetts rule. The dividend declared was held to be income passing to the life tenant, on the theory that a distribution of stock of another corporation as a dividend, “in its legal effect ordinarily is like a cash dividend.” Certainly the Massachusetts rule, if correctly stated to be that “cash dividends however large are regarded as income and stoek dividends however made as capital,” has many modifications or limitations, of which Lloyd v. Lloyd is an illustration. See also 2 Cook on Corporations (8th Ed.) § 555; Talbot v. Milliken, 221 Mass. 367, 108 N. E. 1060; Boston Safe Deposit & Trust Co. v. Adams, 219 Mass. 175, 106 N. E. 590; Gray v. Hemenway, 212 Mass. 239, 98 N. E. 789; In re Heaton’s Estate, 89 Vt. 550, 96 A. 21, L. R. A. 1916D, 201.
However, in view of the professed adoption of the Massachusetts rule by the Illinois courts, I am not inclined to question the propriety of its application, nor of its controlling influence in a proper case. Its inapplicability in the instant ease is due to three reasons: (1) All arbitrary court rules must give way to a conflicting expressed intention of the testator. (2) The position of the trustee, when the stock of the Long, Manufacturing Company was sold, made it impossible for him to commit the corporation to any position which would prejudice either the life tenant or the remaindermen. (3) The so-called Massachusetts rule applies to dividends, declared and not to distribution of earnings of a corporation upon its dissolution.
(1) The so-called Massachusetts rule, like the so-called Pennsylvania rule and the so-called Kentucky rule, is merely one of construction. All such rules are subservient to the one which recognizes the controlling intention of the testator. Eastman v. State Bank of Chicago, 259 Ill. App. 607, 609; In re Heaton’s Estate, 89 Vt. 550, 96 A. 21, L. R. A. 1916D, 201; Hyde v. Holmes, 198 Mass. 287, 84 N. E. 318; Heard v. Eldredge, 109 Mass. 258, 12 Am. Rep. 687; Spooner v. Phillips, 62 Conn. 62, 24 A. 524, 16 L. R. A. 461; In re Sherman Trust, 190 Iowa, 1385, 179 N. W. 109; Rhode Island Trust Co. v. Peckham, 42 R. I. 365, 107 A. 209.
By paragraph 4 of the will the testator directed that “the net income of interest, derived from my estate,” should be divided equally between the life tenant and the daughter, after the payment of the first $10,-000 to the life tenant. This provision, taken in connection with the clause directing the trustee to so invest the property as to produce “a sure and regular income,” indicates rather clearly an intention on the part of the testator to have the earnings of his estate divided ¿hiring the life of the life tenant. The testator possessed no property of substantial value other than the stock of the Long Company, so that it is fair to assume that he was speaking of such stock and its earnings when he drew his will. It is also fair to assume that he realized that his holdings in the company were so large that the trastee named in his will was in a position to name the officers and the directors of the company and to completely control its affairs even to the point of liquidating it. His holdings were so large that he might well have viewed himself, for the purposes of distributing its earnings, as the company. As he held more than three-fourths of all of the shares of stoek in the company and possessed little other property, it would, therefore, be reasonable to construe the words “income or interest” as meaning the earnings of the company whose stock he so largely and eontrollingly held. It would be reasonable to construe the words “income and interest” as more comprehensive than dividends. In re Estate of Samuel P. Nird-linger, 290 Pa. 457, 139 A. 200, 56 A. L. R. 1303. My conclusion is that those clauses construed together negative the thought that the nondistributed earnings of the corporation on the dissolution of the company passed to the remaindermen.
(2) 'When the stoek in the Long Company was about to be sold in the fall of 1928, the duties of the trustee became such that Rike could no longer serve. That Rike had rendered most valuable services as trustee must be readily conceded. The value of such services inured to both the life tenant and the remaindermen. But in 1928, the conflict of interest between the life tenant and the remain-dermen became an irreconcilable one. The trustee held the key to the situation. He could have caused a sale of the corporate assets and declared a cash dividend out of the surplus and profits. This would have satisfied the life *137tenant. Likewise, he could have sold the stock, and by noncorporate action, strengthened the claim, of the remaindermen in the contention that the undistributed earnings of the corporation included in the sale price of the stock, was capital. In short, he could by action or nonaetion commit the corporation to a course which would have had a distinct bearing upon the rights of the contesting parties in and to the undistributed earnings of the corporation. Because of his direct and indirect control of the affairs of the corporation and because of his relationship to the remaindermen, he was, notwithstanding his previous excellent record, no longer qualified to act as trustee. Bennett v. Weber, 323 Ill. 294, 154 N. E. 105; Tyler v. Sanborn, 128 Ill. 144, 21 N. E. 193, 4 L. R. A. 218, 15 Am. St. Rep. 97.
Under the circumstances, it seems to me the court should have relieved the trustee of the duty of acting or nonacting when such action or nonaetion prejudiced either of the parties. Neither the corporation nor the trustee should, by its or his actions, in any way prejudice or benefit either party. Had the trustee been an intimate relative of the life tenant instead of the husband of the remain-derman, and had he sold the corporate assets and attempted to declare a dividend out of capital, the court would look beyond his action to the real facts and apply the tests which the testator saw fit to prescribe for the disposition of his estate. My conclusion, therefore, is that the court must distribute the earnings just as though the trustee had not by nonaetion apparently committed the corporation to the remainderman’s (his wife’s) side of the controversy.
(3) ’Accepting the conclusions reached under 1 and 2, it seems to the writer that we must approach the distribution of the funds in the hands of the trustee as though the Long Company had liquidated and had on hand funds, a portion of which represented earnings of the Long Company which had been put back into the business for its better operation, but which had never been capitalized by corporate action.
This being the fact situation, we must first determine what is the status of the said undistributed earnings. Did they constitute capital? If so, they belong to the remaindermen. Were they “income or interest” as that term was used by the testator? If so, they should be divided as clause 4 provides. I think they were “income and interest.” The functions and the place of capital in the corporate assets are fundamentally distinct from those of undistributed px*ofits or surplus. The latter may be dedicated temporarily to corporate uses, for the conduct or enlargement of the corporate business, but they may be withdrawn from such purpose and become available for distribution as dividends.
Capital, on the other hand, always remains capital. Smith v. Dana, 77 Conn. 543, 60 A. 117, 121, 69 L. R. A. 76, 107 Am. St. Rep. 51.
It follows, therefore, that so long as the assets of a corporation are equal to or in excess of its liabilities plus its capital, the accumulated earnings may be declared to be dividends and paid out as such. They do not acquire the status of capital until proper corporate action is taken to give them that status. If, before the corporation acts either to declare dividends, or to make the surplus, capital, by increasing its capital stock, etc., there is a liquidation of the corporation’s affairs, they are undivided .earnings, or they are “income or intex’est,” to borrow the language of the testator. They would not he capital.
While I think the direction of the testator is sufficiently clear to require the distribution of the surplus earnings and undivided profits equally between the life tenant and the remainderman as required by clause 4 of the will, yet, if there were any doubt, that doubt would be resolved in favor of the policy which favors the life tenant. For it has been held, and the holdings are based upon reason, that “Life tenants are usually the nearest and dearest objects of the testator’s bounty — therefoi’e any claim that the provision for them may be voted up or down, increased or diminished as the corporation may elect, and that such action precludes the court from looking into- the real nature and substanee of the tx’ansaetioix and adjusting the rights of the parties aeeox’ding to justice and equity, 'is. a proposition tlxat cannot be accepted.’ ” MacEachron v. Trustees of Iowa College, 190 Iowa, 1385, 179 N. W. 109, 111; McLouth v. Hunt, 154 N. Y. 179, 48 N. E. 548, 550, 39 L. R. A. 230.
It is for these reasons that I, with some hesitancy and reluctance, find myself compelled to express my reasons for differing from the studious and carefully prepared opinion of my associate.