Opinion
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, and at all times herein mentioned has been, a citizen of the United States and a resident of Briarcliff Manor, in the county of Westchester, state of New York. Plaintiff at all times herein mentioned kept his accounts and rendered his income tax returns upon the cash receipts and disbursements basis.
2. On February 23, 1924, plaintiff entered into a written contract with the Chicago Pneumatic Tool Company, a corporation of the state of New Jersey, whereby plaintiff agreed to buy from the Chicago Pneumatic Tool Company, and the Chicago Pneumatic Tool Company agreed to sell to plaintiff 1,000 shares of the capital stock of that company, and by the terms of the contract plaintiff agreed to pay to the Chicago Pneumatic Tool Company the sum of $82,500 for the shares. The contract further provided as follows:
"(2) Adjustments: This agreed purchase price shall be increased by interest thereon from the date hereof to the date of closing, less proper credits for interest on payments on account, and shall be reduced by an amount equal to the dividends actually paid by the Company on a like amount of its outstanding stock subsequent to the date hereof, plus interest thereon. "(3) Interest: The interest herein referred to shall be computed as of December 31st, of each year, excepting the year in which this transaction shall be closed, and for that year shall be computed as of the date of such closing. The rate used for each computation made as of December 31st, shall be the average rate paid by you on borrowed money during the year ending on that date. The certificate of your Auditor as to such average rate shall be conclusive hereunder. The rate shall be 5% per annum in case of all other computations hereunder." "(5) Delivery: Said stock shall e delivered to me when the payments made by me hereunder shall be sufficient to pay for the same in full, after making the adjustments above provided for."
A true and correct copy of that contract is annexed to the stipulation herein as Exhibit A, and is by reference made a part hereof. At all times herein mentioned plaintiff was, and still is, an employee of the Chicago Pneumatic Tool Company.
3. From time to time after February 23, 1924, and prior to November 19, 1928, plaintiff paid to the Chicago Pneumatic Tool Company pursuant to the terms of the contract dated February 23, 1924, the sum of $40,240 on account of 900 of the 1,000 shares; and also paid $8,250 for the remaining 100 of said 1,000 shares provided for in the aforesaid contract, which 100 shares he sold prior to November 19, 1928, and reported the profit from the sale in his income tax return, assigning as the cost of the 100 shares the sum of $8,250.
4. On December 31, 1926, plaintiff entered into a further written contract with the Chicago Pneumatic Tool Company whereby he agreed to buy from that company, and the company agreed to sell to plaintiff, 1,000 additional shares of the capital stock of that company. By the terms of the contract plaintiff agreed to pay to the Chicago Pneumatic Tool Company the sum of $108,000 for these additional shares, and the company agreed to deliver the additional shares to plaintiff upon payment of the price, and agreed to credit plaintiff with amounts equal to all dividends paid by the company after December 31, 1926, upon a like amount of its outstanding stock.
A true and correct copy of the contract is annexed to the stipulation herein as Exhibit B, and is by reference made a part hereof. Nothing was ever paid by plaintiff on this contract.
5. Thereafter, and prior to November 19, 1928, the Chicago Pneumatic Tool Company made a plan of reorganization and the plan of reorganization was that the Chicago Pneumatic Tool Company would cancel the outstanding stock of the corporation and issue in exchange for each share thereof two shares of new Class A preferred no-part value stock and two shares of new Class B no-par value stock, and in connection therewith the corporation would cancel said contracts of the plaintiff and the contracts of other employees of the corporation who had entered into similar contracts with the Chicago Pneumatic Tool Company, in consideration of returning to the plaintiff and such others the entire amounts paid by him and them pursuant to his and the above-mentioned contracts with interest thereon at 5 per cent., and in further consideration of delivering to the plaintiff and such others a sufficient number of shares of such new Class B stock as, at a value of $35 per share therefor, would equal the difference between the amount the plaintiff and such others had agreed to pay for the old stock which he and they had agreed to buy, as aforesaid, and the product of the number of shares of the old stock the plaintiff and others mentioned above had so agreed to buy, multiplied by $150 per share.
6. Thereupon the Chicago Pneumatic Tool Company made two offers in writing to plaintiff, both dated November 19, 1928, in respect to the foregoing contracts. These offers were identical in all respects, except as to the references therein to the purchase price of the stock under said respective contracts and the dates thereof. The offer in respect to the first-mentioned contract provided as follows:
"By your contract with this Company dated Feb. 23, 1924, it was agreed that you should purchase from us 900 shares of our Treasury Stock at $82.50 per share, with certain adjustments and in certain installments as provided in said contract.
"We are contemplating a change in our Capital structure which would result in giving to each holder of one share of the present stock four shares of new no par value stock, two shares of same being Class A convertible preferred stock entitled to cumulative dividends at the rate of $3.50 per share per annum, and redeemable at the Company's option at $65 per share, and the other two shares being Class B stock.
"We believe that this reclassification of the present stock would be for the advantage of the Company and of its stockholders, but before deciding upon such change, some definite provisions should be made with reference to our outstanding stock sale contracts with employees.
"In consideration of the above, we hereby make you the following offer, namely:
"If we become duly authorized to issue said Class B stock and to issue the same for the purpose mentioned below, your said contract with us of Feb. 23, 1924, shall be deemed to be cancelled, it being understood and agreed that we shall, as soon as conveniently practicable thereafter, in consideration of such cancellation, repay to you all sums heretofore paid by you under said contract, with interest thereon from the respective payment dates to the date of repayment at the rate of five per cent. (5%) per annum, and further pay to you a sum equal to the difference between the $82.50 per share you agreed to pay for said 900 shares, and a present arbitrary sum of $150.00 per shares therefor, such payment to be made in our Class B stock at $35 per share. If any fractional shares result from the above calculation, we will make cash adjustment with you on the basis of $35 per share.
"If the above meets with your approval, please return the enclosed duplicate original thereof with your written acceptance thereon, thereby constituting a contract as above, effective as soon as the same is authorized, approved, or ratified by our Board of Directors."
Plaintiff duly accepted the foregoing offers immediately, and the corporation, by action of its board of directors, duly ratified the same on December 6, 1928. A true and correct copy of each of the contracts, so entered into and ratified, is annexed to the stipulation herein as Exhibit C and Exhibit D, respectively, and is by reference made a part hereof.
On November 19, 1928, and December 6, 1928, and at all times thereafter and until these agreements were performed, the Chicago Pneumatic Tool Company was able and willing to meet its obligations under the agreements; and at all the times mentioned above the fair market value of the obligations of the Chicago Pneumatic Tool Company under these agreements was $148,052.22.
7. Thereafter, on December 31, 1928, the Chicago Pneumatic Tool Company duly and legally amended its certificate of incorporation in accordance with its aforesaid plan and thereafter fully carried out the plan for a change in its capital structure and/or reorganization.
Thereafter, and pursuant to said contracts of November 19, 1928, the Chicago Pneumatic Tool Company paid to plaintiff the sum of $45,327.22 on January 9, 1929, same consisting of $40,240, the amount plaintiff had paid to the corporation on the first contract aforesaid, and $5,062.22 interest thereon, and delivered to plaintiff 2,935 shares of the new Class B stock of that corporation on January 22, 1929. The fair market value of the 2,935 shares at the time same were delivered to plaintiff was $35 per share, or $102,725.
8. The net income of the plaintiff for the calendar year 1929, without including any amount on account of said money and shares of stock paid and delivered to the plaintiff by the Chicago Pneumatic Tool Company, as hereinabove in the next preceding finding hereof set out, was in the sum of $42,079.59.
9. On March 15, 1930, plaintiff filed his income tax return for the calendar year 1929, disclosing a net income of $47,141.81, included in which was the aforesaid sum of $5,062.22 received by plaintiff as interest. This return indicated a total tax liability for 1929 of $3,685.19, which plaintiff duly paid in four installments, as follows: $985.19 on March 15, 1930; $900 on June 15, 1930; $900 on September 11, 1930; and $900 on December 15, 1930.
A true and correct copy of the 1929 income tax return is annexed to the stipulation herein as Exhibit E, and is by reference made a part hereof.
10. Plaintiff did not include in his tax return for 1928 or 1929 any part of the sum of $102,725 set forth in finding 7 hereof, nor did he include any information or make any disclosure in his tax return for the year 1928 in respect to the foregoing transactions.
11. Plaintiff, by letter written by the guaranty Trust Company of New York dated May 1, 1930, advised the Commissioner of Internal Revenue of the terms of the foregoing transactions between plaintiff and Chicago Pneumatic Tool Company, and requested a ruling by the Commissioner of Internal Revenue in respect to said transactions. A copy of the letter is attached to the stipulation herein as Exhibit E-1, and is made a part hereof by reference. thereafter, on September 20, 1930, the Commissioner of Internal Revenue replied to that inquiry and advised plaintiff that he was not a stockholder of the Chicago Pneumatic Tool Company by virtue of the contracts which he held with that company, and therefore section 112(b)(3) of the Revenue Act of 1928 (26 U.S.C.A. § 112(b)(3) and note) was not applicable to the transactions outlined in the letter, and further advised plaintiff that the whole amount of said money in the sum of $45,3;27.22 and the fair market value of all of the shares of stock in the sum of $102,725, less only the sum of $40,240 paid by plaintiff to the Chicago Pneumatic Tool Company pursuant to the contract dated February 23, 1924, or the net sum of $107,812.22, was income taxable to plaintiff as capital net gain for the calendar year 1929.
12. Thereafter, on March 4, 1931, plaintiff filed an amended income tax return for the calendar year 1929 in which, pursuant to advices given by the Commissioner, plaintiff reported a capital net gain of $107,812.22 n addition to the net income reported in his original return for that year, except that the sum of $5,062.22 reported on the original return as interest, as aforesaid, was included in the sum of $107,812.22 reported as capital net gain on the amended return. The amended return disclosed an additional tax of $12,685.77, which plaintiff paid, together with interest thereon in the sum of $737.84, on March 4, 1931.
A true and correct copy of the amended return is annexed to the stipulation herein as Exhibit F, and is by reference made a part hereof.
On May 13, 1931, there was refunded to plaintiff the sum of $7.97 on account of taxes paid by him for the year 1929.
13. Thereafter, on June 11, 1932, plaintiff duly filed his claim for refund for the year 1929 with the collector of internal revenue in which he asked for the refund of $7,434.75 upon the ground that all money and stock received from the Chicago Pneumatic Tool Company, as aforesaid, was received in a nontaxable exchange pursuant to a plan of reorganization, and that the cash and stock received did not constitute taxable income to him in any amount in excess of the money received by him in the sum of $45,327.22.
A true and correct copy of the claim for refund is annexed to the stipulation herein as Exhibit G, and is by reference made a part hereof.
This claim for refund was rejected on a schedule dated March 8, 1933, the Commissioner of Internal Revenue sent to plaintiff by registered mail a notice of the total disallowance of the claim for refund.
On January 31, 1933, plaintiff filed an amended claim for refund for the year 1929, in which he asked for the refund of $13,423.61 upon the ground that any income received by him from the Chicago Pneumatic Tool Company by reason of the money and stock received on account of that transaction was income for the year 1928 and that he received no income by reason of the transaction in the year ; 1929; and that, in the alternative and in any event the money and stock received by him from the company on and after January 9, 1929, were received in a non-taxable exchange pursuant to a plan of reorganization and that the same did not constitute taxable income to him in any amount in excess of the money received, to wit, $45,327.22, under the provisions of section 112(b)(3) and/or section 112(b)(1) of the Revenue Act of 1928 (26 U.S.C.A. § 112(b)(1, 3) and note).
A true and correct copy of the claim for refund is annexed to the stipulation herein as Exhibit H, and is by reference made a part hereof.
The claim for refund was rejected on a schedule dated April 11, 1933, and on or after that date the Commissioner of Internal Revenue sent to plaintiff by registered mail a notice of the total disallowance of said claim for refund.
14. If the court finds that plaintiff realized income in the amount of $107,812.22 in the year 1929 by reason of the receipt by him in that year of stock of the fair market value of $102,725, and money in the sum of $45,327.22 from the Chicago Pneumatic Tool Company, and if the court further finds that said stock and money were received by plaintiff upon an exchange described in section 112(b)(1), section 112(b)(3), or section 112(c)(1) of the Revenue Act of 1928 (26 U.S.C.A. § 112(b)(1, 3), (c)(1) and note), then plaintiff is entitled to recover from the defendant the sum of $8,540.50, together with interest.
15. If the court finds that plaintiff realized no income in the year 1929 by reason of the receipt by him in that year of said stock of the fair market value of $102,725 and said money in the sum of $45,327.22 from the Chicago Pneumatic Tool Company, then plaintiff is entitled to recover from the defendant the sum of $14,206.40, together with interest.
16. Plaintiff is, and at all times herein mentioned has been, the owner of the claims sued upon and has not assigned or transferred the whole or any part thereof or any interest therein, and has at all times borne true allegiance to the Government of the United States, and has not in any way voluntarily aided, abetted or given encouragement to rebellion against the said Government. [Copyrighted Material Omitted] [Copyrighted Material Omitted] [Copyrighted Material Omitted] Truman Henson, of New York City, for plaintiff.
Guy Patten, of Washington, D.C., and Robert H. Jackson, Asst. Atty. Gen., for the United States.
Before BOOTH, Chief Justice, and GREEN, LITTLETON, WILLIAMS, and WHALEY, Judges.
BOOTH, Chief Justice.
Plaintiff sues to recover a refund of income taxes paid for the calendar year 1929. The facts are stipulated.
Plaintiff was, during the period of this controversy, an employee of the Chicago Pneumatic Tool Company, a New Jersey corporation, and as such entered into a written contract with the corporation on February 23, 1924, to purchase 1,000 shares of its capital stock. This contract was obviously one granted by the corporation to employees to encourage them in acquiring stock in the same.
By the terms of the contract plaintiff agreed to pay the corporation $82.50 per share for the stock. Payments were to be made in the following manner: The corporation was to credit at least one-half of all bonus or similar payments in excess of plaintiff's salary upon the purchase price of the stock, and to also credit plaintiff's indebtedness for the stock with an amount equal to the dividends actually paid by the corporation on a like amount of its outstanding stock subsequent to the date of the contract. Plaintiff was to pay interest upon his indebtedness and receive credit with interest on payments made.
The contract provided in terms that the stock was not to be delivered until payments therefor "shall be sufficient to pay for the same in full, after making the adjustments above provided for." The parties admit that only 900 shares of stock are involved in this case, and that on November 19, 1928, the plaintiff had paid upon the purchase price for the same the sum of $40,240.
Some time prior to November 19, 1928, the corporation concluded to make a change in its capital structure and to accomplish same there was offered and accepted by plaintiff a proposition to cancel his contract on February 23, 1924, and receive for his rights to purchase the 900 shares of stock involved the sum of $45,327.22, subsequently paid January 9, 1929, in cash, i.e., the sum paid in with interest thereon, and 2,935 shares of new class B stock which were issued and delivered to plaintiff on January 22, 1929.
It is conceded by the stipulation of facts that the fair market value of the class B stock of the corporation which plaintiff received January 22, 1929, was $102,725, i.e., $35 per share, and that this sum at least represents the difference in value between plaintiff's original contract to purchase stock, entered into February 23, 19824, and what he received as consideration for the cancellation of the same.
On March 15, 1930, plaintiff filed his income tax return for the calendar year 1929. This return disclosed a net income of $47,141.81 and a tax liability of $3,685.19. It did not include any part of the sum of $102,725 noted above. Plaintiff paid the tax of $3,685.19 during the year 1930, and on May 1, 1930, a letter advised the Commissioner of Internal Revenue of plaintiff's transactions with the corporation and asked for a ruling with respect to plaintiff's tax liability thereunder.
The Commissioner advised the plaintiff that he was not a stockholder of the corporation in 1928 and that there should have been included in his return the sum of $45,327.22 received by him in cash for the cancellation of his contract of 1924 and the sum of $102,7825, the value of his stock received in 1929, less only the $40,240 paid by him in cash prior to 1929, and that upon this basis $107,812.22 was income taxable as a capital net gain for 1929.
The plaintiff on March 4, 1931, adopting the Commissioner's ruling, filed an amended return for 1929 and paid an additional tax of $12,685.77 and $737.84 interest. Plaintiff's first refund claim was filed June 11, 1932, wherein a refund of $7,434.75 overpayment of taxes for 1929 was claimed. This claim was denied by the Commissioner on March 8, 1933. On January 31, 1933, plaintiff filed an amended refund claim setting forth an overpayment of 1929 taxes in the sum of $13,423.61. This claim was rejected by the Commissioner April 11, 1933. The refund claims were timely and the court has jurisdiction.
Both of plaintiff's refund claims were predicated upon a contention that the stock received by plaintiff in 1929 "was received in a nontaxable exchange pursuant to a plan of reorganization * * * and did not constitute taxable income to him in any amount in excess of the money received by him in the said sum of $45,327.22." The amended refund claim included the additional contention that any income received by plaintiff from the corporation was received in 1928 and plaintiff received no income in 1929.
The Revenue Act of 1928 (45 Stat. 816) now quoted is the applicable statute:
"§ 112. Recognition of gain or loss. "(a) General Rule.--Upon the sale or exchange of property the entire amount of the gain or loss determined under section 111, shall be recognized, except as hereinafter provided in this section. "(b) Exchanges solely in kind-- * * *
"(3) Stock for Stock on Reorganization. No gain or loss shall be recognized if stock or securities in a corporation a party to a reorganization are, in pursuance of the plan of reorganization, exchanged solely for stock or securities in such corporation or in another corporation a party to the reorganization. * * *"(c) Gain from exchanges not solely in kind --(1) If an exchange would be within the provisions of subsection (b)(1), (2), (3), or (5) of this section if it were not for the fact that the property received in exchange consists not only of property permitted by such paragraph to be received without the recognition of gain, but also of other property of money, then the gain, if any, to the recipient shall be recognized, but in an amount not in excess of the sum of such money and the fair market value of such other property." 26 U.S.C.A. § 112(a), (b)(3), (c)(1) and note.
In order to sustain the plaintiff's contention it is essential for the court to hold that the plaintiff was in 1928 a stockholder in the corporation, and that he exchanged his holdings for the new stock he received in 1929. We think the facts preclude such a holding. The plaintiff did not during the year 1928 do more than he was obligated to do under his contract with the corporation to maintain his right to eventually acquire stock in the corporation. It is true this right was one of greatly increased value over its original one and a substantial profit was available, and due to this situation the plaintiff was offered in 1928 an opportunity to realize this gain. Without this offer the plaintiff was possessed of an executory contract in 1928, a right to acquire stock in the future. What happened in 1928 was an offer and acceptance of a proposition essential for the corporation to make to the plaintiff in order to effectuate its change of financial structure. The plaintiff on this date was indebted to the corporation in a sum in excess of $34,000 which must be liquidated before he received a single one of the 900 shares under contract of purchase. The stock of the corporation had advanced materially in price, and the right possessed by the plaintiff to purchase the same had advanced accordingly. In other words, the plaintiff's original investment had increased in value from an amount of cash invested to the market value of his right to purchase stock.
Plaintiff, who had adopted the cash and disbursements policy in keeping his accounts and making his tax returns, did not receive any portion of his capital gains in 1928. He received both cash and stock in 1929. What he received in 1928 was an express agreement to do what the agreement obligated the corporation to do when the corporation received authority to consummate the reorganization, and pay as agreed "as soon as conveniently practicable thereafter."
The corporation did not legally amend its certificate of incorporation until the last day of the last month of the year, 1928, i.e., December 31, 1928, and manifestly plaintiff's rights in the premises were dependent upon this act. The contract of November 19, 1938, contained no provision obligating the corporation to pay the cash mentioned and deliver the 2,935 certificates of stock to the plaintiff contemporaneously with its effective date.
The plaintiff did not exchange stock for stock in either 1928 or 1928; as a practical business transaction he sold what may be and commonly is designated as "stock rights" and received for them cash and actual certificates of stock under a plan of reorganization adopted by the corporation granting the rights. For these rights he received payment in 1929 and realized the profit computed by the Commissioner upon his amended tax return in 1929. The plaintiff possessed contingent paper profits in 1928 and actual ones in 1929. MacLaughlin, Collector, v. Alliance Insurance Co., 286 U.S. 244, 52 S.Ct. 538, 76 L.Ed. 1083.
An argument is advanced that the cost price of the stock received by plaintiff in 1928 was exactly the cost of the same in 1929 and hence no profit could be realized in 1929. The fallacy of the contention as we see it is the fact that the contract to purchase stock executed in 1928 fixed, among other things, the purchase price to be paid when the stock was issued at a later date, i.e., 1929, and when issued it represented a purchase price which did not more than absorb the profits of the purchaser. The purchaser was content to reinvest his capital gains by accepting the new stock issue of the employing corporation. It is true plaintiff agreed to do this in 1928, but the agreement was not consummated until 1929. No unconditional offer existed in 1928 which bound the corporation to issue and deliver its new stock to the plaintiff simultaneously with its acceptance. The plaintiff gained no actual increase in assets until 1929.
The petition will be dismissed. It is so ordered.