Opinion
Docket Nos. 3132-74–3142-74.
1976-01-22
CROW–BURLINGAME CO. OF PINE BLUFF, ET AL.,1 PETITIONERS v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT
Lewis H. Mathis and Raymond R. Morris, for the petitioners. H. Steven New, for the respondent. See also H.Rept. No. 749, 88th Cong., 1st Sess. (1963), 1964–1 (Part 2) C.B. 445, 452. 8
Held: Stock which was sold to the employees of subsidiary corporations subject to a repurchase option was “excluded stock” within the meaning of sec. 1563(c)(2)(A)(iii), I.R.C.1954. The repurchase option favored the parent corporation indirectly even though a third corporation, owned principally by employees of the parent and the subsidiaries, was formally designated as the optionee. Lewis H. Mathis and Raymond R. Morris, for the petitioners. H. Steven New, for the respondent.
FEATHERSTON, Judge:
Respondent determined the following deficiencies in petitioners' income taxes for 1970:
+-------------------------+ ¦Docket No. ¦Deficiency ¦ +------------+------------¦ ¦ ¦ ¦ +------------+------------¦ ¦3132-74 ¦$1,097.88 ¦ +------------+------------¦ ¦3133-74 ¦2,109.07 ¦ +------------+------------¦ ¦3134-74 ¦1,065.46 ¦ +------------+------------¦ ¦3135-74 ¦817.17 ¦ +------------+------------¦ ¦3136-74 ¦867.84 ¦ +------------+------------¦ ¦3137-74 ¦745.68 ¦ +------------+------------¦ ¦3138-74 ¦1,211.07 ¦ +------------+------------¦ ¦3139-74 ¦1,086.91 ¦ +------------+------------¦ ¦3140-74 ¦798.86 ¦ +------------+------------¦ ¦3141-74 ¦835.80 ¦ +------------+------------¦ ¦3142-74 ¦247.18 ¦ +-------------------------+
The issue for decision is whether 11 subsidiary corporations with a common parent constituted a “controlled group of corporations” within the meaning of section 1563(a)(1).
The answer turns on whether the portion of the stock of the 11 subsidiaries, which was owned by their respective employees and which was subject to an option to repurchase held by yet another corporation, was “excluded stock” within the meaning of section 1563(c)(2)(A)(iii).
All section references are to the Internal Revenue Code of 1954, as in effect for the year in issue, unless otherwise noted.
FINDINGS OF FACT
Crow–Burlingame Co. (hereinafter referred to as Crow–Burlingame) had its principal place of business in Little Rock, Ark., at the time its petition was filed. Each of the other petitioners also had its principal place of business in a city in Arkansas.
Crow–Burlingame, incorporated on or about April 21, 1919, initially engaged in the automotive parts, equipment, and supply business as a jobber in Little Rock, Ark. Subsequently, Crow–Burlingame expanded its area of operations to include branch stores elsewhere in Arkansas, northern Louisiana, and northeast Texas. Each branch store was operated as a division of Crow–Burlingame.
Until 1950, Crow–Burlingame conducted its jobbing business by purchasing replacement parts directly from the manufacturers and selling such parts directly to retailers. Soon after 1950, Crow–Burlingame began dealing with automobile parts warehouses as its immediate suppliers.
Following World War II, and particularly by 1959, the number of Crow–Burlingame's competitors increased substantially. In addition, the number of automotive parts warehouses increased, and they competed with Crow–Burlingame for available employees. Also, the automotive parts warehouses employed the technique of offering to finance individuals who wanted to establish their own automotive parts jobbing businesses.
Crow–Burlingame lost a number of its local store managers who took positions with the automotive parts warehouses or opened their own independent automotive parts jobbing businesses. To deal with this problem, the president of Crow–Burlingame, in a letter dated August 20, 1959, proposed that certain Crow–Burlingame stores should be separately incorporated and that designated employees of such stores be given the opportunity to acquire stock in the corporation operating the store in which they were employed. In addition, the letter proposed that an investment company be organized and that employees of Crow–Burlingame and its associated companies be allowed to own stock in the investment company, which, in turn, would own stock in the local corporations. Crow–Burlingame, however, was to retain a controlling stock interest in the corporation owning each branch store. This proposal was adopted at a meeting of Crow–Burlingame's board of directors on August 21, 1959, and the management of Crow–Burlingame was authorized and directed to carry out the proposal.
At that time, Crow–Burlingame's board of directors consisted of eight members, four who were employees of Crow–Burlingame and four who were not. Only two of the four nonemployee directors owned shares of stock in Crow–Burlingame.
On September 8, 1959, the management of Crow–Burlingame caused C.B. Investment Co. (hereinafter CBI) to be incorporated under the laws of Arkansas. Its articles of incorporation state that its purpose was to acquire and dispose of securities. On or before December 31, 1959, 75 shares of CBI had been issued to 23 individuals. By December 31, 1960, the number of shareholders of CBI had risen to 43 and thereafter, between 1961 and 1969, ranged between a low of 39 and a high of 47. On December 31, 1970, CBI had 478 shares of outstanding stock.
Crow–Burlingame and CBI proceeded, between September 28, 1959, and March 14, 1962, to form 11 corporations each of which was to own and operate a local store. These 11 corporations are petitioners in this proceeding, and are hereinafter referred to as petitioner-subsidiaries. Each of these petitioner-subsidiaries was incorporated pursuant to an agreement between Crow–Burlingame and CBI, whereby Crow–Burlingame would transfer merchandise inventory to the respective petitioner-subsidiaries and CBI would transfer cash (for working capital). In return, Crow–Burlingame and CBI received all the capital stock of the petitioner-subsidiaries. Each of the petitioner-subsidiaries thereafter owned and operated the local automotive, supply, and equipment business which, prior to incorporation, had been operated as a division of Crow–Burlingame.
Between December 1959 and June 1974, Crow–Burlingame used the same techniques in forming and managing other corporations to own and operate local stores in still other cities throughout Arkansas, including corporations located at Benton, Camden, England, Fordyce, and Lake Village. Such other corporations are not parties to this proceeding.
Although the specific percentage varied from subsidiary to subsidiary, Crow–Burlingame received approximately 78 percent of the shares of stock issued by each of the 11 petitioner-subsidiaries, and CBI received approximately 22 percent. CBI later sold varying percentages of its stock to one or more employees of the respective petitioner-subsidiaries.
On or about September 11, 1959, CBI's board of directors adopted restrictions on the transfer of CBI's own stock. Those restrictions required that an owner of those shares of stock offer to sell his shares of stock to CBI if, among other circumstances, the owner should terminate his employment with Crow–Burlingame or an affiliated company. Failure by CBI to exercise the option within 30 days would release the stock from the restriction. The shares of stock in CBI when issued bore a legend imposing that restriction. The price at which the offer to sell was to be made was to be computed in accordance with a formula set forth in the minutes of the September 11, 1959, meeting of CBI's board of directors.
Similarly, at the meeting on September 11, 1959, CBI's board of directors adopted similar restrictions upon the transfer of the shares of stock that CBI sold to employees of the petitioner-subsidiaries. Such restrictions required that an owner of shares of stock in one of the petitioner-subsidiaries offer, for a 30–day period, to sell such shares to CBI in the event of the termination of his employment with the petitioner-subsidiary and on other stated conditions.
From time to time, CBI has sold shares of stock in the petitioner-subsidiaries to their respective employees. In each instance, the decision as to whether an employee would be permitted to buy stock in a petitioner-subsidiary was made by the president and board of directors of that petitioner-subsidiary. CBI then proceeded to make the sale in accordance with the plan adopted by Crow–Burlingame on August 21, 1959. All shares of stock issued to the employees of the petitioner-subsidiaries were transferred to the employees subject to the option described above. The persons to whom these shares were sold by CBI were, in all instances, employees of the particular corporation in which they were permitted to purchase stock. At all times between December 31, 1959, and December 31, 1970, CBI kept in its own name some shares of each of the petitioner-subsidiaries.
From time to time, CBI was requested to sell to employees of one of the petitioner-subsidiaries more stock than it owned in that particular corporation. In such circumstances, Crow–Burlingame sold additional shares in that petitioner-subsidiary to CBI, and CBI resold such shares to the employees. All such sales were made subject to the option to repurchase, described above.
On December 31, 1970, CBI had 478 outstanding shares of stock, owned by 39 different shareholders. These 39 shareholders, with negligible exceptions, were employees of Crow–Burlingame, one of the petitioner-subsidiaries, one of the other corporations organized to operate local Crow–Burlingame stores, or Parts Warehouse Co. (hereinafter Parts Warehouse).
All of the stock of Parts Warehouse (with negligible exceptions) was originally owned by employees of Crow–Burlingame, employees of the petitioner-subsidiaries, or its own employees.
On December 31, 1970, Crow–Burlingame had 48,185 shares of outstanding stock, owned by 72 different shareholders. Sixteen of the Crow–Burlingame shareholders also owned shares in CBI, which on December 31, 1970, amounted to approximately 46.65 percent of its outstanding stock. The shareholders of CBI who were also shareholders of Crow–Burlingame at that time owned approximately 14.43 percent of the outstanding shares of Crow–Burlingame. Crow–Burlingame and CBI shared the same office space, equipment, and clerical help. In addition, during 1970 the president and vice president of Crow–Burlingame were also president and vice president, respectively, of CBI, and both of these individuals also served on the board of directors of each of the two corporations.
The only shareholders of the 11 petitioner-subsidiaries on December 31, 1970, were Crow–Burlingame, CBI, and individuals who were the employees of the respective petitioner-subsidiaries. Crow–Burlingame's ownership amounted to approximately 71 to 78 percent of the outstanding shares of the several petitioner-subsidiaries; CBI's shares amounted to approximately 2 to 13 percent; and the employee-shareholders' holdings ranged from about 5 to 27 percent.
Between December 31, 1959, and December 31, 1974, there were eight separate transactions in which CBI reacquired shares of stock. Each reacquisition was made from a shareholder-employee of one of the 11 petitioner-subsidiaries or other subsidiaries organized pursuant to the same mechanical technique as was used in organizing the petitioner-subsidiaries. The reason for each such reacquisition was either the death, disability, retirement, or voluntary termination of service by an employee. Crow–Burlingame has never unilaterally caused the termination of the services of any employee of any of the 11 petitioner-subsidiaries so that CBI could exercise its option to reacquire the employee's shares.
Each of the petitioners filed its Federal corporate income tax return for 1970, claiming separate surtax exemptions. Respondent determined that the petitioners comprised a controlled group of corporations.
OPINION
provides that if a group of corporations constitutes a “controlled group of corporations” on a December 31, the component members of the group for the taxable year in which that date falls are entitled to a single surtax exemption, divided among them equally or in accordance with an approved apportionment plan. Under section 1562,
SEC. 1561. LIMITATIONS ON CERTAIN MULTIPLE TAX BENEFITS IN THE CASE OF CERTAIN CONTROLLED CORPORATIONS.(a) GENERAL RULE.—The component members of a controlled group of corporations on a December 31 shall, for their taxable years which include such December 31, be limited for purposes of this subtitle to—(1) one $25,000 surtax exemption under section 11(d),
however, a “controlled group of corporations” may elect each to enjoy a $25,000 surtax exemption, but a penalty is extracted in the form of an increase in the surtax rate in return for this privilege. For prior years, petitioners made this election, but they here deny they are liable for this surtax penalty for 1970. The meat of this controversy is whether they were a “controlled group of corporations” on December 31, 1970, and are thus subject to the section 1562 additional surtax for the calendar year ending on that date.
Sec. 1562 was repealed with respect to taxable years beginning after Dec. 31, 1974, by sec. 401(a)(2) of the Tax Reform Act of 1969, Pub.L. 91–172, 83 Stat. 487.
The term “controlled group of corporations” is defined by section 1563(a)(1)
to include a chain of corporations with a common parent corporation which owns at least 80 percent of the voting stock of each of the subsidiaries. In computing such 80–percent ownership, certain categories of stock, referred to in section 1563(c) as “excluded stock,” are not taken into account. The “excluded stock” category with which we are here concerned, sec. 1563(c)(2)(A)(iii),
SEC. 1563. DEFINITIONS AND SPECIAL RULES.(a) CONTROLLED GROUP OF CORPORATIONS.—For purposes of this part, the term “controlled group of corporations” means any group of—(1) PARENT–SUBSIDIARY CONTROLLED GROUP.—One or more chains of corporations connected through stock ownership with a common parent corporation if—(A) stock possessing at least 80 percent of the total combined voting power of all classes of stock entitled to vote or at least 80 percent of the total value of shares of all classes of stock of each of the corporations, except the common parent corporation, is owned (within the meaning of subsection (d)(1)) by one or more of the other corporations; and(B) the common parent corporation owns (within the meaning of subsection (d)(1)) stock possessing at least 80 percent of the total combined voting power of all classes of stock entitled to vote or at least 80 percent of the total value of shares of all classes of stock of at least one of the other corporations, excluding, in computing such voting power or value, stock owned directly by such other corporations.
is stock in a subsidiary corporation (whose parent owns 50 percent of its stock) owned by an employee of the subsidiary where the employee's stock is subject to “conditions which run in favor of such parent (or subsidiary) corporation” and substantially restrict or limit the employee's right to dispose of his stock.
Sec. 1563(c)(2)(A)(iii) provides as follows:(c) CERTAIN STOCK EXCLUDED.—* * *(2) STOCK TREATED AS “EXCLUDED STOCK”.—(A) PARENT–SUBSIDIARY CONTROLLED GROUP.—For purposes of subsection (a)(1), if a corporation (referred to in this paragraph as “parent corporation”) owns (within the meaning of subsections (d)(1) and (e)(4)), 50 percent or more of the total combined voting power of all classes of stock entitled to vote or 50 percent or more of the total value of shares of all classes of stock in another corporation (referred to in this paragraph as “subsidiary corporation”), the following stock of the subsidiary corporation shall be treated as excluded stock—* * *(iii) stock in the subsidiary corporation owned (within the meaning of subsection (d)(2)) by an employee of the subsidiary corporation if such stock is subject to conditions which run in favor of such parent (or subsidiary) corporation and which substantially restrict or limit the employee's right (or if the employee constructively owns such stock, the direct owner's right) to dispose of such stock, * * *
The parties agree that the repurchase option to which the stock of the employees of the petitioner-subsidiaries was subject constituted a substantial restriction on the employee-owners' disposition rights. The controverted issue is whether that restriction ran “in favor” of either Crow–Burlingame or the petitioner-subsidiaries. If so, the employees' stock must be excluded from the computations in determining whether Crow–Burlingame owned 80 percent of the stock of the petitioner-subsidiaries, and, if the employees' stock is so excluded, the petitioner-subsidiaries were a controlled group of corporations subject to the additional surtax. On the other hand, if that option did not run “in favor” of Crow–Burlingame or the petitioner-subsidiaries, the petitioner-subsidiaries were not a controlled group of corporations, and each petitioner is entitled to a $25,000 surtax exemption without paying the section 1562 additional surtax.
The following explanation of the “excluded stock” provisions of section 1563(c)(2)(A)(iii) in S.Rept. No. 830, 88th Cong., 2d Sess. (1964), 1964–1 (Part 2) C.B. 655, is instructive:
certain outstanding stock, although owned by separate persons, could, unless neutralized for purposes of determining control, be used by some owners as a means of divesting themselves of sufficient stock to avoid the application of this section without, as a practical matter, divesting themselves of the benefits of ownership of a corporation. Therefore, in determining whether a parent-subsidiary controlled group exists, stock of a subsidiary corporation owned by * * * employees of the subsidiary if the stock is subject to restrictions which favor the parent or subsidiary corporation * * * will not be treated as outstanding stock if the parent corporation owns 50 percent or more of the value or voting power of the stock of the subsidiary. * * * See also H.Rept. No. 749, 88th Cong., 1st Sess. (1963), 1964–1 (Part 2) C.B. 445, 452.
Sec. 1.1563–2(b)(2)(iii), Income Tax Regs., is as follows:
FN(b) Stock treated as excluded stock—FN* * *(2) Stock treated as not outstanding. If the provisions of this subparagraph apply, then for purposes of determining whether the parent corporation or the subsidiary corporation is a member of a parent-subsidiary controlled group of corporations within the meaning of paragraph (a)(2) of section 1.1563–1, the following stock of the subsidiary corporation shall, except as otherwise provided in paragraph (c) of this section, be treated as if it were not outstanding:* * *(iii) Employees. Stock in the subsidiary corporation owned (directly and with the application of the rules contained in paragraph (b) of section 1.1563–3) by an employee of the subsidiary corporation if such stock is subject to conditions which substantially restrict or limit the employee's right (or if the employee constructively owns such stock, the direct owner's right) to dispose of such stock and which run in favor of the parent or subsidiary corporation. In general, any condition which extends, directly or indirectly, to the parent corporation or the subsidiary corporation preferential rights with respect to the acquisition of the employee's (or direct owner's) stock will be considered to be a condition described in the preceding sentence. It is not necessary, in order for a condition to be considered to be in favor of the parent corporation or the subsidiary corporation, that the parent or subsidiary be extended a discriminatory concession with respect to the price of the stock. For example, a condition whereby the parent corporation is given a right of first refusal with respect to any stock of the subsidiary corporation offered by an employee for sale is a condition which substantially restricts or limits the employee's right to dispose of such stock and runs in favor of the parent corporation. Moreover, any legally enforceable condition which prohibits the employee from disposing of his stock without the consent of the parent (or a subsidiary of the parent) will be considered to be a substantial limitation running in favor of the parent corporation.
The term “conditions which run in favor” of a parent or subsidiary corporation as used in section 1563(c)(2)(A)(iii) has been the subject of a recent opinion in Mid–America Industries, Inc. v. United States, 477 F.2d 1029 (8th Cir.1973), in which the facts were similar in crucial respects to the facts of the instant case. In that case, corporation A, a jobber of automobile parts, created several subsidiary corporations, each of which owned and operated a store in a particular trade area. Employees of A, the various subsidiaries, and two other related firms were permitted to purchase 21 to 23 percent of each of the subsidiaries, with A owning the remainder. At the same time, A created another corporation, SC, to maintain a market for the stock held in the subsidiaries. The subsidiaries' stock was issued subject to a restriction giving SC a 30–day option in case the shareholder proposed to dispose of his stock or terminated his employment with A or a related firm. Concluding that A could indirectly maintain the same control over the ownership of the subsidiaries' stock as could a parent corporation in whose favor transfer restrictions ran directly, the court said (Mid–America Industries, Inc. v. United States, supra at 1033):
Section 1563(c)(2)(A)(iii) does not require that the conditions run directly in favor of the parent or subsidiary, but instead conditions which indirectly favor either the parent or subsidiary should also cause the stock to be excluded. See, Treas.Reg. sec. 1.1563–2(b)(2)(iii) (1965). A contrary position would, in our view, put form over substance. * * * The court reasoned that, since the restrictions were imposed by the subsidiaries when the stock was issued, the parent through its control of the subsidiaries could alter the restrictions so that they no longer purported to run in favor of SC and could cause them to run in favor of a more amenable subsidiary. The court added (477 F.2d at 1032):
Similarly, in the event that an employee of either Automotive [A], or one of its subsidiaries, exercised his stock ownership rights contrary to the interests and desires of Automotive, Automotive could cause the termination of his employment and thereby force the sale of his stock. The advantage of Automotive's power was evident. Through it, Automotive could maintain ultimate control over the disposition of stock in the subsidiaries which is technically owned by outsiders. It was able to indirectly maintain the same control as can a parent corporation in whose favor transfer restrictions run directly. The latter arrangement is clearly denied full benefit of the multiple surtax exemptions and tax reduction by sections 1561–1563 of the Code, and we are of the view that the former indirect arrangement is as well.
True, in the instant case, the option to repurchase the employees' stock in petitioner-subsidiaries was imposed by CBI when it resold the stock, rather than by the petitioner-subsidiaries when they issued it, and in this respect the facts are different from those in the Mid–America case. But this is a difference in form rather than substance. As a “practical matter,” Mid–America Industries, Inc. v. United States, supra at 1032, CBI was the handmaiden of Crow–Burlingame, and the option rights which nominally ran in favor of CBI indirectly favored Crow–Burlingame.
Crow–Burlingame's management caused CBI to be organized in 1959 as part of its general plan to incorporate its local stores. The declared objective in creating CBI was not to launch an independent investment program but to assist in making stock of Crow–Burlingame's local subsidiary corporations available to their key employees as a means of keeping competent personnel. Other than amounts invested in certificates of deposits and savings accounts, CBI had no assets except the stock it owned in the petitioner-subsidiaries and other Crow–Burlingame subsidiaries. Its whole reason for existence was to serve Crow–Burlingame in facilitating the local subsidiaries plan.
At all times since CBI was created, Crow–Burlingame has dominated its activities. The two corporations had the same president and vice president and the same attorneys. Two of three members of CBI's board of directors were also directors of Crow–Burlingame. The third member was Crow–Burlingame's auditor. Crow–Burlingame and CBI shared the same office space, office equipment, and clerical help. CBI did not market its stock in the petitioner-subsidiaries in the normal sense of the term. Rather the board of directors of a petitioner-subsidiary would decide whether and how many shares would be sold to an employee of that subsidiary, and CBI would then handle the sale from the shares it originally acquired in the subsidiary or from shares transferred to it by Crow–Burlingame for that purpose. In every one of the eight instances in which stock of one of the subsidiaries has become available under the option, CBI has reacquired the stock. None of this stock has been allowed to fall into the hands of outsiders.
In accordance with Crow–Burlingame's 1959 plan, all of CBI's sales of the petitioner-subsidiaries' stock have been made subject to a 30–day “option to re-purchase said stock in the event the said purchaser at any time desires to sell said stock, leave the employ of the Company for which he was working at the time of the purchase of the said stock, or in the event of the death of said purchaser.” This option gave Crow–Burlingame a whiphand if needed in dealing with any recalcitrant employee-owner of shares in the petitioner-subsidiaries. Since Crow–Burlingame owned 71 to 78 percent of the petitioner-subsidiaries' stock, it could cause the termination of the services of any uncooperative employee-owner, thereby triggering CBI's option to repurchase the stock. Mid–America Industries, Inc. v. United States, supra at 1032. The fact that Crow–Burlingame has never been forced to discharge an employee in order to control his stock is beside the point. Crow–Burlingame had this whiphand power, and that was enough to give it the same benefits of control as it would have possessed if the stock had been owned outright.
Petitioners make the technical argument, however, that the repurchase options ran nominally in favor of CBI rather than Crow–Burlingame or the petitioner-subsidiaries. But Crow–Burlingame's dominance of CBI in the manner described above, as of December 31, 1970—indeed, from 1959 to the date of the trial—demonstrates that petitioner's point is truly a technical one and without merit. CBI's interests were inseparable from those of Crow–Burlingame's. Although the options directly favored CBI, they indirectly favored Crow–Burlingame. That is sufficient under section 1563(c)(2)(A)(iii). Mid–America Industries, Inc. v. United States, supra at 1033.
Petitioners next argue that CBI was an “unrelated” corporation and the option rights may not, therefore, be treated as favoring Crow–Burlingame because neither Crow–Burlingame nor the petitioner-subsidiaries owned CBI's stock. We think, however, that the record fairly shows that Crow–Burlingame indirectly controlled a substantial majority of CBI's stock. The president of Crow–Burlingame testified that from 1959 to 1974, CBI's 478 shares of stock were owned by individuals in three categories: (1) Employees of Crow–Burlingame's subsidiaries; (2) employees of Parts Warehouse; and (3) employees of Crow–Burlingame.
As to category (1), 57 shares were owned by employees of certain petitioner-subsidiaries and another subsidiary whose stock was subjected to the CBI repurchase option discussed above.
Another 66 shares were owned by local corporations referred to as subsidiaries of Crow–Burlingame,
but the record does not expressly show that their stock was issued subject to the CBI repurchase option. 9.
In the second category, 80 shares were owned by employees of Parts Warehouse.
That corporation was organized in 1958, and all of its stock, with the exception of two or three small amounts, was purchased by employees of Crow–Burlingame. Only in the event of death of a Parts Warehouse shareholder, however, did Parts Warehouse have an option to buy that shareholder's stock. The record does not show who owned Parts Warehouse stock on December 31, 1970.
Eliminating the 66 shares owned by employees of subsidiaries not shown to have been issued subject to the CBI repurchase option and the 80 shares owned by Parts Warehouse employees, together with 13 other nonemployee-owned shares,
there remain approximately 315 shares. We think it is a reasonable inference from the testimony that most, if not all, of these 315 shares, were in the third category, owned by Crow–Burlingame's employees. This is a substantial majority of the 478 outstanding shares. CBI issued all of its shares subject to a 30–day option to reacquire the shares in case, among other circumstances, the owner's employment with the company for which he was working on the date of the purchase of such shares was terminated. This option gave Crow–Burlingame the same kind of indirect control of a majority of CBI's stock as it had over the stock owned by employees of the petitioner-subsidiaries.
Mary Morton Smith was permitted to retain 4 shares after her husband died, and the Crow–Burlingame Employees Trust, which provided benefits for the employees of Crow–Burlingame, its subsidiaries, and Parts Warehouse, owned 9 shares. CBI had no employees as such.
There is no evidence that CBI ever took any action whatever which was inconsistent with what was believed to be Crow–Burlingame's best interests. Indeed, Crow–Burlingame's former president candidly testified that the stock repurchase options taken in the name of CBI have benefited both Crow–Burlingame and the petitioner-subsidiaries. He testified the repurchase options have kept the stock of the petitioner-subsidiaries from falling into the hands of individuals who are not employees, have assured a needed supply of petitioner-subsidiaries' stock for sale to employees, and have contributed to the stabilization of the employment pattern of the petitioner-subsidiaries. These benefits are as real as if the options had run directly in favor of Crow–Burlingame or one of the subsidiaries. The evidence clearly shows that on December 31, 1970, Crow–Burlingame enjoyed the same benefits from the CBI repurchase options as it would have if it had been the outright owner of the stock owned by employees of the petitioner-subsidiaries. Mid–America Industries, Inc. v. United States, supra at 1032; S.Rept. No. 830, supra; sec. 1.1563–2(b)(2)(iii), Income Tax Regs., quoted in footnote 8 above.
Petitioners contend, however, that a more technical interpretation should be given the excluded stock provisions of section 1563(c). They maintain that, for petitioners to constitute a “controlled group of corporations,” Crow–Burlingame must be shown to have had a direct 80–percent control of the subsidiaries. This position, however, is contrary to the reasoning of Mid–America Industries, Inc. v. United States, supra at 1033, discussed above, and sec. 1.1563–2(b)(2)(iii), Income Tax Regs., quoted in footnote 8, supra, as well as the thrust of the above-cited explanation of the section in the Senate committee report which accompanied its enactment. Petitioners' position is also contrary to the following explanation of the excluded stock provisions in Barton Naphtha Co., 56 T.C. 107, 116 (1971):
The exclusion of such stock is no more than a special refinement upon the 80–percent common ownership requirement designed to assure the denial of multiple surtax exemptions where the common shareholder owns less than 80 percent of the stock but enjoys the prohibited degree of control as a result of restrictions applicable to the stock held by outsiders. Given the presence of such control, we think that the statute mandates the denial of multiple exemptions for the same reasons generally applicable to controlled corporations, irrespective of the absence of tax-avoidance motives. Any contrary interpretation of the statute would permit a shareholder possessing the prohibited degree of control to derive precisely the unwarranted benefits from multiple incorporation which the statute was intended to defeat. [Emphasis added.]
Had the statute been intended to require that the restrictions confer on the parent corporation 80–percent direct control of the subsidiaries, section 1563(c)(2)(A)(iii) more logically would have attributed ownership of the restricted stock to the parent corporation in the same manner as the statute does in the constructive ownership provisions of section 1563(e). Instead, the statute contemplates that stock burdened with restrictions which favor a parent will be treated as if it had not been issued provided that the parent has direct ownership of 50 percent (voting power or value) of the subsidiary's stock. Crow–Burlingame undisputably had the requisite direct ownership, and when the restricted stock is eliminated from consideration, it also had the requisite 80–percent ownership.
We hold that petitioners were a “controlled group of corporations” on December 31, 1970, and, consistent with their election, are subject to the additional surtax prescribed by section 1562.
Decisions will be entered for the respondent.
+------------------------------------------+ ¦ ¦Number of ¦ ¦ +-----------------+-----------+------------¦ ¦Shareholder ¦shares ¦Subsidiary ¦ +-----------------+-----------+------------¦ +-----------------+-----------+------------¦ ¦Herbert Ragar ¦25 ¦Warren ¦ +-----------------+-----------+------------¦ ¦Clarence Allan ¦20 ¦Hot Springs ¦ +-----------------+-----------+------------¦ ¦R.W. Wetherington¦10 ¦Hot Springs ¦ +-----------------+-----------+------------¦ ¦J.C. Dickey ¦2 ¦England ¦ +------------------------------------------+
10.
+-----------------------------------------+ ¦ ¦Number of ¦ ¦ +----------------+-----------+------------¦ ¦Shareholder ¦shares ¦Subsidiary ¦ +----------------+-----------+------------¦ +----------------+-----------+------------¦ ¦J.B. Moore ¦8 ¦Texarkana ¦ +----------------+-----------+------------¦ ¦Carl Fougerousse¦6 ¦Texarkana ¦ +----------------+-----------+------------¦ ¦Ottis Goodson ¦10 ¦Texarkana ¦ +----------------+-----------+------------¦ ¦Fred Watts ¦15 ¦Harrison ¦ +----------------+-----------+------------¦ ¦Dillon Seymore ¦10 ¦Texarkana ¦ +----------------+-----------+------------¦ ¦Q.L. Barnes, Jr.¦2 ¦West Monroe ¦ +----------------+-----------+------------¦ ¦A.V. Buchanan ¦7 ¦Prescott ¦ +----------------+-----------+------------¦ ¦Whitt Reeves ¦8 ¦Marshall ¦ +-----------------------------------------+
11.
+-----------------------------+ ¦ ¦Number ¦ +--------------------+--------¦ ¦ ¦of ¦ +--------------------+--------¦ ¦Shareholder ¦shares ¦ +--------------------+--------¦ +--------------------+--------¦ ¦Claude A. Hefley ¦45 ¦ +--------------------+--------¦ ¦L.L. Dickinson, Jr. ¦19 ¦ +--------------------+--------¦ ¦Lon Griffin ¦3 ¦ +--------------------+--------¦ ¦Carl C. Mertens ¦5 ¦ +--------------------+--------¦ ¦Charles Lankford ¦5 ¦ +--------------------+--------¦ ¦Wayne Tull ¦3 ¦ +-----------------------------+