Court Opinion

ID: 4617018
Source: CourtListenerOpinion
Date Created: 2020-11-21 02:35:42.351865+00
Date Added: 2024-06-11T07:55:13.738810
License: Public Domain

AMERICAN GREENHOUSE MANUFACTURING CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.American Greenhouse Mfg. Co. v. CommissionerDocket No. 20952.United States Board of Tax Appeals21 B.T.A. 1389; 1931 BTA LEXIS 2196; January 28, 1931, Promulgated 1931 BTA LEXIS 2196">*2196  Affiliation denied.  J. B. Grice, C.P.A., for the petitioner.  Hartford Allen, Esq., for the respondent.  MATTHEWS 21 B.T.A. 1389">*1389  This is a proceeding involving a deficiency in petitioner's income and profits taxes for the year 1919 in the amount of $4,918.49.  In the petition, two errors are assigned: (1) The respondent's denial of affiliation of the petitioner with the Pana Engine & Manufacturing Co. from the date of incorporation of that company to December 31, 1919, or for any part of that period, under section 240(b) of the Revenue Act of 1918; and (2) the denial of amortization for 1919 of facilities acquired for use in war work.  At the hearing the second assignment of error was withdrawn, leaving affiliation as the sole issue.  FINDINGS OF FACT.  Petitioner was organized under the laws of Illinois on December 2, 1915, and was engaged in the manufacture of greenhouses.  Philip L. McKee had been one of the principal organizers and in the year 1919 held 150 shares of the 155 shares outstanding.  On May 27, 1919, McKee transferred, by endorsement on one of his 50-share certificates, 2 shares to G. P. McKee, his wife, in order to qualify her as1931 BTA LEXIS 2196">*2197  director of petitioner.  The remaining 5 shares were held by J. H. Purdy, an office employee of petitioner.  McKee was president and treasurer of petitioner in 1919, and also a director.  The other directors during that year were Mrs. P. L. McKee and C. A. Andrews.  Andrews was not a shareholder of petitioner, but was manager of its plant.  In December, 1917, petitioner began making steam engine parts and continued to do so throughout 1918 and into 1919.  As petitioner was advised by counsel that its charter did not permit such manufacture, a corporation, the Pana Engine & Manufacturing Co was organized on April 26, 1919, to take over such manufacture.  This 21 B.T.A. 1389">*1390  corporation had an authorized capital stock of $60,000, divided into 600 shares, with a par value of $100 each.  All of the stock was subscribed prior to the issuance of the certificate of incorporation, as follows: SharesPhilip L. McKee200Clarence A. Andrews100Herbert H. Putnam100Halfdan Bjorn100Adolph H. Nielson100Stock certificates Nos. 1, 2, 3, 4, and 5, respectively, were made out to the above subscribers on April 12, 1919 (prior to date of incorporation) for the1931 BTA LEXIS 2196">*2198  number of shares subscribed.  At a meeting of the subscribers of the capital stock of the Pana Co. held on April 19, 1919, the subscribers resolved that the number of directors should be three, and elected the directors.  Officers of the corporation were elected as follows: Philip L. McKee, president and treasurer; Herbert H. Putnam, vice president; and C. A. Andrews, secretary.  At this same meeting, McKee offered to turn over to the Pana Co. certain plans, designs, patents, and jigs for the manufacture of high-speed, English-type steam engines, in full payment for 450 shares of stock.  The offer was accepted and McKee thereupon offered, as a gift to the company, 300 shares of its capital stock to be held by the corporation as treasury stock, fully paid and nonassessable.  This offer was also accepted.  The property in question belonged to the petitioner.  At a meeting of the directors of the Pana Co., held on the same day, McKee was authorized to purchase from the petitioner certain assets needed in the business of the Pana Co., at a total price of $79,646.76, payable in monthly installments of approximately $5,000 a month, until the indebtedness was fully liquidated, and to1931 BTA LEXIS 2196">*2199  secure the indebtedness, the Pana Co. was to give to petitioner, as collateral security, 300 shares of the treasury stock and the 150 shares belonging to McKee, all to be returned to the several owners when the debt was fully discharged.  At a special meeting of the board of directors of petitioner, held on May 27, 1919, the sale to the Pana Co. of the assets in question was authorized and approved, and McKee was directed to have 450 shares of Pana Co. stock issued in his own name and to hold it as collateral security for the payment by the Pana Co. of the purchase price.  This property and the property authorized to be acquired for stock was taken over and used by the Pana Co. when it begun its business operation.  21 B.T.A. 1389">*1391  On June 20, 1919, a certificate of stock for 150 shares was issued to McKee.  Stock certificates numbered 1, 2, 3, 4, and 5, which had been made out on April 12, 1919, to the original subscribers and which constituted the total authorized capital stock, were canceled on June 20, 1919, or some time prior thereto.  In addition to the 150 shares issued to McKee, on June 20, 1919, 82 shares were issued to other persons on the same date and between that date1931 BTA LEXIS 2196">*2200  and October 2, 1919, 63 shares were issued to still other persons.  The 150 shares issued to McKee on June 20, 1919, and the 145 shares issued to others, were the only shares of stock outstanding on December 31, 1919.  None of the 145 shares issued to others than McKee were issued to petitioner.  Of such shares, 23 had been sold to 18 employees of the Pana Engine & Manufacturing Co., who had purchased the stock on the insistence of McKee, and 122 shares had been sold to business men in Pana.  Nearly all of the employees purchased their shares on the installment basis and the certificates of such stock were held by the company.  As soon as the Pana Co. was organized, its promoters sought to secure financial aid by appealing to the self interest of their fellow townsmen in Pana to raise $15,000, and thus retain the industry there.  A parol understanding existed between McKee and the Pana townsmen subscribing to stock to the effect that the money so advanced would be regarded by the corporation as in the nature of a loan and the stock repurchased by the corporation on demand, with 6 per cent interest or dividends paid for the period the stock was held.  McKee personally guaranteed the1931 BTA LEXIS 2196">*2201  return of the money and 6 per cent.  This promise was made by him at a public meeting and to individuals.  The town people were approached individually and through the chamber of commerce.  In this way 122 shares (par value $12,200) were sold to business men in the town and certificates were issued on June 20, 1919, and subsequent dates in 1919.  The Pana Co. began to buy back its stock within a few months of its issuance, but none was repurchased in 1919.  The stock was eventually repurchased for cash or Liberty bonds, and, in accordance with McKee's promise, an amount equal to the par value of the stock plus 6 per cent interest was paid.  The stock certificates repurchased by the company were endorsed in blank, to McKee, or to the petitioner.  None of the employee-shareholders held any position of importance in the Pana Co. or took any active part in its management, except Andrews, who was the company's secretary and a director.  Nor did the Pana business men who had become shareholders take any active part.  During 1919 there was only one meeting of the shareholders of the company, on July 2, at which all the outstanding 21 B.T.A. 1389">*1392  shares of the corporation were represented1931 BTA LEXIS 2196">*2202  either in person or by proxy.  McKee held parol proxies of some of the employee-shareholders.  At this meeting the only business transacted was the adoption of a resolution increasing the directors from three to seven, and the election of the additional directors.  Two of the additional directors elected were business men of Pana who had bought stock.  The directors other than McKee played practically no part in the direction of the Pana Co.'s affairs.  He did not consult with any of them in the conduct of the business, not even the two who were business men of Pana.  The Pana Co. occupied the same office and the same factory building as petitioner, the petitioner estimating the space occupied throughout the plant by the Pana Co. and arbitrarily charging it a rental in excess of what the Pana Co. would have paid elsewhere.  The Pana Co. proceeded to use the property transferred to it.  Eighteen shareholders of the Pana Co. were employees of both companies and the businesses were so intermingled that one corporation would sometimes pay the employees one week and the other the next.  The petitioner obtained the orders for the Pana Co.'s products from the only customer, John Reid1931 BTA LEXIS 2196">*2203  & Co., and turned them over to the Pana Co.The Pana Co. charged whatever amount the petitioner thought proper to fix and the petitioner then rebilled the shipments to John Reid & Co.  Reid & Co., on receiving the petitioner's invoice, would remit to the petitioner the amount billed and petitioner would credit the Pana Co. on its books with whatever it thought fair, retaining in some cases as much as 40 per cent or 50 per cent as commissions.  There were no restrictions on the petitioner in this respect.  McKee was the officer of petitioner who obtained the orders and fixed the amount credited on the petitioner's books to the Pana Co.  The petitioner advanced practically all the money necessary to meet the pay rolls of the Pana Co., which were made up in petitioner's office.  OPINION.  MATTHEWS: This case arises under section 240(a) and (b) of the Revenue Act of 1918, which read as follows: SEC. 240. (a) That corporations which are affiliated within the meaning of this section shall, under regulations to be prescribed by the Commissioner with the approval of the Secretary, make a consolidated return of net income and invested capital for the purposes of this title and Title1931 BTA LEXIS 2196">*2204  III, and the taxes thereunder shall be computed and determined upon the basis of such return: * * * * * * (b) For the purpose of this section two or more domestic corporations shall be deemed to be affiliated (1) if one corporation owns directly or controls 21 B.T.A. 1389">*1393  through closely affiliated interests or by a nominee or nominees substantially all the stock of the other or others, or (2) if substantially all the stock of two or more corporations is owned or controlled by the same interests.  In the present case, Philip L. McKee was the moving spirit in both corporations and they were in effect a "one-man business," as he regarded them.  The complete control of all business and economic policy was in his hands.  On the facts no doubt can exist that he owned "substantially all the stock" of the petitioner during 1919, since he held of record 150 of the total 155 shares.  Upon the question of McKee's stock ownership in the Pana Co., the evidence is at variance.  McKee testified that he owned, for the benefit of petitioner, 450 shares of Pana stock.  The stock certificate book shows that certificate No. 66 for 150 shares was issued to McKee on June 20, 1919, and was still outstanding1931 BTA LEXIS 2196">*2205  at the close of the year.  Stock certificate No. 1, made out to McKee prior to incorporation for 200 shares, the amount he originally subscribed for, is pasted to the stub.  It has written across its face, "Void," and the stub has written on it "Canceled, June 20, 1919." These are the only two certificates of stock issued to him during the year 1919.  No stock was issued to the petitioner during the taxable year.  Unless we consider the issuance of the 150 shares to McKee on June 20, 1919, to reflect the net result of the resolution adopted by the subscribers on April 19, 1919, the stock book does not reflect the issuance of any stock in payment for the property taken over.  Neither does the stock book show that any stock was issued to McKee or to petitioner as collateral security for the payment of the property purchased by the Pana Co. from petitioner for $79,646.76.  There is no variance in the evidence as to the amount of stock owned by employees of the Pana Co. and by business men of Pana, from June 20 to the close of the taxable year, that is, 23 shares owned by 18 employees and 122 shares owned by 35 business men of Pana.  The evidence does not clearly show that the stock1931 BTA LEXIS 2196">*2206  originally subscribed for and for which stock certificates Nos. 1, 2, 3, 4, and 5 were made out on April 12, 1919, was ever paid for and delivered, but assuming that it was, McKee held in the period between the Pana Co.'s organization in April, 1919, and June 20 of that year, only 200 shares out of 600 shares outstanding, or 33 1/3 per cent, while during the period between June 20, 1919, and the end of the taxable year, he held only 150 shares out of 295 shares outstanding, or 50.8 per cent of the shares of the Pana Co.It is true that there was an identity of interest in the two corporations.  They occupied the same factory and the same office, and bad, in part, the same employees.  McKee himself made an arbitrary determination of the Pana Co.'s profits, and the Pana Co. was charged an arbitrary rental for its factory space.  There seems to 21 B.T.A. 1389">*1394  be little question that McKee controlled the business policy of the Pana Co.  But the management of the business of the corporation is not the control required by the statute.  It refers to stock control. 1931 BTA LEXIS 2196">*2207 ; ; . "Control" as employed in the statute is a broader term than ownership.  ; ; . Applying then the criterion of stock control, we find that McKee owned only 50.8 per cent of the stock of the Pana Co.  But petitioner contends that he controlled the remainder.  We do not think the facts support this view.  The employee-stockholders held only 7.8 per cent of the Pana Co.'s outstanding stock.  Most of the stock had been purchased on the installment basis and the shares were held by the company.  The evidence is not clear whether McKee held and voted their proxies, and, if so, to what extent.  McKee alone testified that he held proxies of the two classes of minority stockholders.  These proxies were in any case only parol, and nowhere is the amount stated.  Furthermore, we held in1931 BTA LEXIS 2196">*2208 , that authorization to vote by proxy does not effect a separation of the voting power from the ownership of the stock; neither does it constitute a relinquishment by the stockholder of any right of ownership or control of its stock.  There is no evidence, on the other hand, that the employee-stockholders obstructed or interfered in the management of the business.  But mere acquiescence of minority stockholders does not mean necessarily that "control" of their stock is lodged in the hands of the majority stockholders.  . As to the Pana business men who held 41.3 per cent of the Pana Co.'s stock, they stood in a somewhat different position.  They purchased it under an agreement with McKee to receive a fixed rate of income on their investment and to resell to McKee at par value whenever they should wish to obtain their money.  They did eventually redeem their stock under this rather loose and informal agreement.  It does not appear that they ever agreed not to vote their stock against McKee. 1931 BTA LEXIS 2196">*2209  It is true, there is nothing to show any opposition to his control of business policy, but, as we have said, mere acquiescence is not enough.  They were common and not preferred stock holders and so do not fall within the principle of , which would permit the exclusion of preferred stockholders from our consideration of percentages of control where they can take no active hand in the corporation's affairs as stockholders.  Nor is it clear to us that the interest held 21 B.T.A. 1389">*1395  by these stockholders was so unrelated to the money-making object of the corporation as to give their stock holdings the aspect merely of a pledge held to secure McKee's personal indebtedness, comparable to the situations set out in , and in . Had the Pana Co. been successful, it might indeed have been very difficult for McKee to have persuaded these men that they were merely creditors for the sums lent and not in reality stockholders entitled to share in the profits of the enterprise.  In view of these facts, 1931 BTA LEXIS 2196">*2210  we reach the conclusion that the 122 shares owned by business men of Pana were not controlled by McKee and his interests.  Even if we should take the view most favorable to the petitioner, therefore, and assume that McKee did control the 23 shares held by the employees, we have only to decide whether the control of 58.6 per cent of the shares of the Pana Co. by McKee entitles the petitioner to affiliation with that company.  The answer is obvious, that it does not.  The statute says "substantially all," and 58.6 per cent falls far short of that definition.  It has been repeatedly held that control by the dominant interests of the first corporation of no more than 75 per cent of the stock of the second corporation is insufficient to meet the requirements of the statute.  ; ; ; ; 1931 BTA LEXIS 2196">*2211 . Reviewed by the Board.  Judgment will be entered for the respondent.