Opinion
No. 42067.
May 2, 1938.
Louis B. Montfort, of Washington, D.C., for plaintiff.
Guy Patten, of Washington, D.C., and James W. Morris, Asst. Atty. Gen. (Robert N. Anderson and Fred K. Dyar, both of Washington, D.C., on the brief), for the United States.
Before BOOTH, Chief Justice, and GREEN, LITTLETON, WILLIAMS, and WHALEY, Judges.
Suit by the Farmers Co-operative Company of Wahoo, Neb., against the United States for income taxes paid for 1923 through 1928.
Petition dismissed.
This case having been heard by the Court of Claims, the court, upon the stipulation of the parties, makes the following special findings of fact:
1. Plaintiff is a corporation organized in 1914 as a co-operative agricultural society under the laws of the state of Nebraska, with an authorized capital stock of $150,000, divided into 1,500 shares of common stock of a par value of $100 per share. Approximately $60,000 in par value of stock was originally subscribed for. Plaintiff is owned and controlled by producer farmers living in the vicinity of Wahoo, Neb., where it has its principal place of business.
2. The general nature of the business for which plaintiff was organized was to purchase, sell, store, ship, and handle, both direct and on commission, grain, livestock, and other farm products, and to sell articles needed and used by farmers, such as lumber, farm machinery, tools and implements, wagons, coal, and other farm supplies and personal property generally, including the conducting of a general store and mercantile business. The grain business was to be conducted at and through a grain elevator.
3. The by-laws of plaintiff provide that, in order to become a member or stockholder, one must be a farmer, retired farmer, or any other person approved by the board of directors, and be the owner of at least one share of stock; that a list showing the name and address and number of shares of stock held by each stockholder shall be kept at the principal office of the company, open to inspection, and no person shall be entitled to any interest, dividends, profits, or vote unless his name appears on such list.
The by-laws further provide that at the close of each year's business, after the expenses of doing business have been paid, an allowance for depreciation shall be made and an amount equal to 5 per cent. of the capital stock shall be carried into a reserve fund for contingencies, and then a dividend not to exceed 8 per cent. on the capital stock shall be paid to the stockholders; that, after the above distributions, the company shall set aside not less than 5 per cent. of the earnings or savings as a surplus fund to be used in conducting the business, and any remaining savings are to be distributed as a patronage dividend among the stockholder patrons on the basis of the amount of business done by each.
4. During the years 1923 to 1928, inclusive, and at all other times herein mentioned, plaintiff conducted its business with both member and nonmember producers on the ordinary co-operative plan; i.e., it marketed the products of the farmer producer patron members and nonmembers, advancing to them at the time of delivery the estimated fair market value of the products so delivered, less a margin estimated to take care of the necessary expenses of the sale of such products. No difference in the amount of the advancement or method of handling the products was made between members and nonmembers. Said products were sold in the open market, and the books of plaintiff were closed at the end of each year, showing the accumulation of savings resulting from overestimating the necessary expenses charged against such sales.
5. During the years 1923 to 1928, inclusive, and at all other times herein mentioned, plaintiff furnished patrons supplies and equipment on the basis of the cost thereof, plus freight and the estimated cost of handling such supplies. No difference was made in the treatment of, or charges made to, members or nonmembers in the purchase and furnishing of said supplies and equipment. The books of plaintiff were closed at the end of each year, showing the accumulation of savings resulting from overestimating the necessary expenses charged against such sales and the purchase of such supplies.
6. The amount of products marketed and supplies and equipment purchased for and furnished to farmer producer members of plaintiff at all times during the years involved herein exceeded the amount of products marketed and supplies and equipment furnished for farmer producer patron nonmembers of plaintiff.
The following table shows the value of the purchases made for, and supplies and equipment furnished to, all patrons, both members and nonmembers, of plaintiff:
-------------------------------------------------------------------------- | | Supplies | | | furnished | | | to non-members | Supplies | | and non-producers, | furnished | Total | such as contractors, | to other non-producers Year | supplies | dealers, | and non-members | | schools | | | city agencies | | | | | Line 1 | Line 2 | Line 3 -------------|-------------|----------------------|----------------------- 1923 ....... | $177,133.60 | $37,708.81 | $15,143.49 1924 ....... | 200,747.25 | 52,633.31 | 19,837.33 1925 ....... | 218,099.23 | 41,791.17 | 17,033.09 1926 ....... | 218,841.68 | 54,259.85 | 15,340.46 1927 ....... | 202,307.95 | 42,588.56 | 17,182.20 1928 ....... | 164,987.17 | 34,901.59 | 16,570.92 --------------------------------------------------------------------------
The amounts shown in lines 2 and 3, above, are included in the amounts shown in line 1.
The amounts shown in line 2 represent sales of supplies to contractors engaged in constructing roads, houses, churches, schools, and other buildings in the vicinity of Wahoo, and to local dealers who happened to be short of similar materials and to various school districts, city buildings, churches, etc. All such sales were made on a short profit basis; i.e., on a very small margin above handling charges, due to the fact that the orders were usually large, sometimes in carload lots, and in most instances the prices were cut to meet competitive conditions. In the vicinity in which plaintiff did business it has always been customary to make cut prices on these larger contracts, and plaintiff adopted this policy in respect thereto in order to sell its share of supplies on larger contracts.
7. From its organization until 1920 plaintiff paid the recited percentages into its reserve for contingencies, its surplus fund, paid 8 per cent. dividend on its capital stock, and paid patronage dividends to its stockholder patrons according to the business done with each. No patronage dividends were paid in cash to nonmember patrons.
After 1919, and during the period involved herein, no patronage dividends at all were paid to either member or non-member patrons, but the savings or profits — due to indebtedness of plaintiff existing at the beginning of 1920 — after paying dividends on the stock, were treated by plaintiff as a part of its assets and the excess as thus determined over its working capital requirements was used to extinguish plaintiff's fixed and current liabilities, which had not been accomplished in full at the end of 1928.
On March 9, 1929, the following resolution was passed by the board of directors:
"Whereas the Farmers' Cooperative Company of Wahoo, Nebraska, has not paid a patronage dividend since January 16th, 1920; and
"Whereas said company is organized as a true cooperative association operating under the cooperative laws of the State of Nebraska, which provide that patronage dividends shall be made available to all patrons in proportion to the amount of business transacted with each patron; and
"Whereas Article 11 in the By-Laws of said company by its wording states that patronage dividends shall be made to 'stockholders'; therefore
"Be it resolved, that it is and has been an understanding of this Board of Directors that all patronage dividends of this association shall be upon a percentage basis of all business done with members and nonmembers alike, and that the word 'stockholder' in Article 11 of said By-Laws should be 'patron,' and that the word 'Stockholder' means that before cash patronage dividends should be actually paid to nonmembers, they must use such portion of this patronage dividend that has been actually declared, to purchase sufficient capital stock of our association and qualify as bona fide members.
"Be it further resolved, that a copy of this resolution be attached to Article 11 of our By-Laws for further reference as binding on this Association for the basis of future payment of patronage dividends."
The foregoing resolution was approved at a stockholders' meeting on January 16, 1930.
During the years involved plaintiff's by-laws further provided that the interest dividends on capital stock should be cumulative and payable, in case of a deficiency, out of the net profits of the next or succeeding years.
The dividends paid by plaintiff during the years 1923 to 1928, inclusive, amounted to 8 per cent. on its outstanding capital stock. No account or credit to the individuals was set up on the books of plaintiff relative to patronage dividends attributable to business done with nonmember patrons during this period.
Plaintiff built a reserve for contingencies as follows:
-------------------------------------------------------------------------- Year | | Dr. | Cr. | Balance ---------|--------------------------|----------|------------|------------- 12-31-22 | Balance ................ | ........ | .......... | $2,750.00 12-31-23 | By surplus account ..... | ........ | $2,750.00 | 5,500.00 12-31-24 | ........................ | ........ | .......... | 5,500.00 12-31-25 | By surplus account ..... | ........ | 2,750.00 | 8,250.00 12-31-26 | By surplus account ..... | ........ | 2,750.00 | 11,000.00 12-31-27 | By surplus account ..... | ........ | 2,755.00 | 13,755.00 12-31-28 | By surplus account ..... | ........ | 2,960.00 | 16,715.00 --------------------------------------------------------------------------
In addition thereto plaintiff built up a surplus as follows:
Year: Balance 12-31-22 ............................. $ 6,760.80 12-31-23 ............................. 9,669.05 12-31-24 ............................. 13,832.31 12-31-25 ............................. 11,739.96 12-31-26 ............................. 9,972.47 12-31-27 ............................. 12,255.69 12-31-28 ............................. 16,248.43
8. Plaintiff filed its corporation income tax return for the year 1923 on June 14, 1924; for the year 1924 on March 15, 1925; for the year 1925 on May 15, 1926; for the year 1926 on March 14, 1927; for the year 1927 on March 12, 1928; and for the year 1928 on March 15, 1929, and paid the taxes disclosed therein, none of which amounts originally paid for the years 1923 and 1924 are involved in this case.
Upon final audit and review of plaintiff's income tax liability for the years 1923 to 1928, inclusive, the Commissioner of Internal Revenue assessed against plaintiff for the years 1923 and 1924 additional income taxes and interest thereon, in the following amounts: For the year 1923, $586.58, and for the year 1924, $619.37; and assessed income taxes against plaintiff as follows: For the year 1925, $656; for the year 1926, $773.25; for the year 1927, $1,113.98; and for the year 1928, $1,343.44; all of which plaintiff paid as follows:
------------------------------------------------------ Year | Date of Payment | Amount --------------|--------------------------|------------ 1923 ........ | May 6, 1926 ........... | $586.58 1924 ........ | May 6, 1926 ........... | 619.37 1925 ........ | March 13, 1926 ........ | 200.00 | May 15, 1926 .......... | 456.00 1926 ........ | March 15, 1927 ........ | 200.00 | June 9, 1927 .......... | 200.00 | September 15, 1927 .... | 373.25 1927 ........ | March 12, 1928 ........ | 300.00 | June 1, 1928 .......... | 300.00 | September 11, 1928 .... | 300.00 | December 4, 1928 ...... | 213.98 1928 ........ | April 9, 1931 ......... | 1,343.44 -------------------------------------------------------
9. Plaintiff filed with the collector of internal revenue its claims for refund for the years 1923 to 1928, inclusive, upon the ground that it was entitled to exemption as a co-operative organization under the respective applicable Revenue Acts, in the amounts and upon the dates following, to wit:
----------------------------------------------- | Refund | Year | Claimed | Date Filed -------------|--------------|------------------ 1923 ....... | $586.58 | March 11, 1929. 1924 ....... | 619.37 | March 11, 1929. 1925 ....... | 656.00 | March 11, 1929. 1926 ....... | 773.25 | May 22, 1929. 1927 ....... | 1,113.98 | May 22, 1929. 1928 ....... | 1,343.44 | January 19, 1932. -----------------------------------------------
Plaintiff's claims for refund for the years 1923, 1924, 1925, 1926, and 1927 were rejected by the Commissioner of Internal Revenue on a schedule dated October 31, 1930, and its claim for refund for the year 1928 was rejected by the Commissioner on a schedule dated July 2, 1932.
This suit is brought on six claims for refund of taxes alleged by plaintiff to have been overpaid for the years 1923 to 1928, inclusive.
The plaintiff is a co-operative association. The issue in the case is whether it is exempt from taxation on its profits under sections 231 (11) of the Revenue Acts of 1921 and 1924, 42 Stat. 253, 43 Stat. 282, section 231 (12) of the Revenue Act of 1926, 44 Stat. 39, and section 103 (12) of the Revenue Act of 1928, 26 U.S.C.A. § 103 note. The parties agree that, if plaintiff is not entitled to exemption as a cooperative organization, its taxes have been correctly determined by the Commissioner of Internal Revenue.
It appears that the plaintiff is a corporation organized in 1914 under the laws of the state of Nebraska, having a capital stock, and being owned and controlled by farmers living in the vicinity of Wahoo, Neb., where it has its principal place of business. The general nature of the business transacted was the purchase, sale, storage, and shipping of farm products and sale of articles used by farmers. The business also included the conducting of a general mercantile store and a grain elevator.
Under the by-laws in force during the years involved herein, in order to become a member or stockholder, one must be a farmer, retired farmer, or a person approved by the board of directors, and the owner of at least one share of stock. No person was entitled to any interest, dividends, or profits except a stockholder.
The by-laws further provide that at the close of each year's business, after the expenses of doing business have been paid, an allowance for depreciation shall be made and an amount equal to 5 per cent. of the capital stock shall be carried into a reserve for contingencies, and then a dividend not to exceed 8 per cent. on the capital stock shall be paid to the stockholders; that, after the above distributions, the company shall set aside not less than 5 per cent. of the earnings or savings as a surplus fund to be used in conducting the business, and any remaining savings are to be distributed as a patronage dividend among the stockholder patrons on the basis of the amount of business done by each.
Business was done with both members and nonmembers upon the same basis, i.e., plaintiff marketed the farm products of producers, advancing to all alike the estimated market value of such products, less a margin estimated to take care of the expenses of the sale thereof; and sold supplies and equipment on the basis of the cost thereof, plus freight and the estimated cost of handling same. The books of plaintiff were closed at the end of each year, showing the accumulation of savings resulting from overestimating the aforesaid costs of doing business.
The value of the purchases made for, and supplies furnished to, persons who were neither members nor producers, was approximately 30 per cent. of the total value of such business transacted with all patrons during each of the years involved herein.
From its organization until 1920 plaintiff paid the recited percentages into its reserve for contingencies, its surplus fund, paid 8 per cent. dividends on its capital stock, and paid patronage dividends to its stockholder patrons according to the business done with each. No patronage dividends were paid in cash to nonmember patrons.
After 1919 no patronage dividends at all were paid to either member or nonmember patrons, but the savings or profits — after paying dividends on the stock — were used in the extinguishment of plaintiff's fixed and current liabilities, which was finally accomplished in full about 1933.
During the years involved herein, the interest dividends on the capital stock were cumulative and payable, in case of a deficiency, out of the net profits of the next or succeeding years; during this period plaintiff paid 8 per cent. on its outstanding capital stock.
No account or credit to the individuals was set up on the books of plaintiff relative to patronage dividends attributable to business done with nonmember patrons during the period involved in this case. During this period plaintiff built up a reserve for contingencies amounting to $2,750 at the end of 1922, to $16,715 at the end of 1928, and accumulated a surplus amounting to $6,760.80 at the end of 1922, to $16,248.43 at the end of 1928.
On January 16, 1930, a resolution was adopted amending the by-laws by providing that in the future patronage dividends should apply to all business done with members and nonmembers alike and that the word "'stockholder' means that, before cash patronage dividends should be actually paid to non-members, they must use such portion of this patronage dividend that has been actually declared, to purchase sufficient capital stock of our association and qualify as bona fide members."
Both the 1921 and 1926 acts provided in substance that farmers' co-operative associations organized for the purpose of marketing the products of members or other producers, and turning back to them the proceeds of sales, less the necessary marketing expenses, or for the purpose of purchasing supplies and equipment for the use of members or other persons, and turning over such supplies and equipment to them at actual cost, plus necessary expenses, should be exempt.
Counsel for defendant make their main objection to plaintiff's claim for exemption on the ground that nonmembers did not participate in the savings resulting from the business done with them on the basis either of the quantity or the value of the products furnished, or supplies purchased by them, as required by the statute; nor were such supplies turned over to them at actual cost plus necessary expenses. It is not claimed that the fact that plaintiff paid interest dividends to its stockholders, or that it accumulated a reserve for contingencies or other necessary purposes, would subject the plaintiff to tax if it complied with the other conditions necessary to entitle it to exemption under the law, but the Treasury Regulations provide in article 532 of Regulations 74 that: "If the proceeds of the business are distributed in any other way than on such a proportionate basis, the association does not meet the requirements of the Act and is not exempt."
This regulation applies to all the years involved in the case and we think it is a fair construction of the law. If the regulation is valid, when transactions are had with or for nonmembers, the profits therefrom, less necessary operating expenses, must be returned to such patrons if the organization is to be exempt. We think the evidence shows plainly that the plaintiff did not comply either with the regulation or the statute.
During the period involved in the case, approximately 30 per cent. of all business transacted was with nonmembers, and it may be assumed that a corresponding portion of the profit realized by plaintiff in the operation of its business was obtained therefrom. During the period involved, after paying all expenses of running the business, providing for depreciation, and paying 8 per cent. interest on the capital stock, the profits realized by plaintiff were sufficient to build up a surplus at the end of 1928 of $16,248.43 and, in addition, a contingency reserve of $16,715, a total of $32,963.43, or more than half of the par value of its outstanding capital stock. During this period the plaintiff's by-laws restricted the right to receive any interest, dividends, or profits to its stockholders. In fact, under the by-laws which were in force at this time, there was no way in which nonmembers could acquire an interest in the surplus and reserve which had been created. Besides this, it appears that no account or credit was ever set up on the books with reference to patronage dividends attributable to the business done with nonmembers, and there was no basis upon which they could make a legal claim to share in the profits of the business which had been done with them. It is clear therefore that plaintiff did not comply with the condition of tax exemption, namely, that the association shall be organized and operated for the purpose of turning back to the "members or other producers" the profits or savings on the basis of the quantity or value of the business done with each of such persons.
The Board of Tax Appeals has held in many cases that there must be an equality of the treatment of members and nonmembers in order to make the association exempt, and there are a number of decisions to the same effect by the federal courts. Counsel for plaintiff contend that some of these cases involve different facts, but the rules and principles laid down by the courts apply to the case at bar.
Plaintiff cites the case of Fruit Growers' Supply Co. v. Commissioner, 9 Cir., 56 F.2d 90, to support the contention that, where a taxpayer engages in noncooperative activities as well as those which are cooperative, it will still be exempt as to the cooperative activities and taxable only on the remainder of its business. But that case was based upon different facts and involved an altogether different question. The case of Central Co-operative Oil Association v. Com'r, 32 B.T.A. 359, is also cited, but the decision therein instead of sustaining plaintiff's contention is to the contrary.
Plaintiff also contends that under the statute of Nebraska it is rated as a cooperative and consequently should be exempt. It is hardly necessary to say that the status of the plaintiff for federal taxation must be controlled by federal laws.
It follows that plaintiff's petition must be dismissed, and it is so ordered.