Opinion
Docket Nos. 31489 31490 31491 31492 31493.
1952-03-19
WILLIAM A. JOPLIN, JR., AND LOUELLA L. JOPLIN ET AL., PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Don O. Russell, Esq., for the petitioner. Gene W. Reardon, Esq., for the respondent.
Petitioners William A. Joplin, Jr., Joseph F. Kohn and S. Crews Reynolds were members of a tax exempt farmers' marketing cooperative corporation, reporting their income on the case receipts and disbursements basis of accounting. In the taxable years involved, the net earnings of the cooperative were allocated and distributed to its members in the form of credits to its capital reserve account and the issuance of certificates of its preferred stock having a par value of $25 per share. Held, petitioners received and realized income upon the receipt of the certificates of preferred stock to the extent of the fair market value of the certificates, which is determined to be equal to the par value thereof. Held, further, that petitioners did not realize income in the taxable years on the share of the net income which was merely credited to the capital reserve account of the cooperative. Don O. Russell, Esq., for the petitioner. Gene W. Reardon, Esq., for the respondent.
The proceedings were consolidated and involve deficiencies in income tax for the years 1946, 1947 and 1948, as follows:
+----------------------------------------------------------------------------+ ¦Petitioner ¦1946 ¦1947 ¦1948 ¦ +---------------------------------------------+---------+----------+---------¦ ¦William A. Joplin, Jr., and Louella L. Joplin¦ ¦ ¦$4,200.12¦ +---------------------------------------------+---------+----------+---------¦ ¦Joseph F. Kohn and Anna Kohn ¦ ¦ ¦1,018.54 ¦ +---------------------------------------------+---------+----------+---------¦ ¦Joseph F. Kohn ¦$2,495.51¦$30,282.05¦ ¦ +---------------------------------------------+---------+----------+---------¦ ¦S. Crews Reynolds and Gertrude Reynolds ¦ ¦ ¦10,573.11¦ +---------------------------------------------+---------+----------+---------¦ ¦S. Crews Reynolds ¦3,370.58 ¦39,947.43 ¦ ¦ +----------------------------------------------------------------------------+
The sole issue, common to all petitioners, is whether the respondent erred in holding that the part of the retained savings or net earnings of the Osceola Products Company, a tax exempt cooperative, for its fiscal years ended June 30, 1946, June 30, 1947, and June 30, 1948, which was allocated to its patrons on a patronage basis and distributed in the form of credits to the capital reserve account and issuance of preferred stock, is includible in the taxable income of the patrons.
Some of the facts have been stipulated and are found accordingly.
FINDINGS OF FACT.
Petitioners William A. Joplin, Jr., and his wife, Louella L. Joplin, filed a joint return for the calendar year 1948, on a cash receipts and disbursements basis of accounting.
Petitioner Joseph F. Kohn filed a separate income tax return for the calendar years 1946 and 1947 and a joint return with his wife, Anna Kohn, for the calendar year 1948, on a cash receipts and disbursements basis of accounting.
Petitioner S. Crews Reynolds filed a separate income tax return for the calendar years 1946 and 1947 and a joint return with his wife, Gertrude Reynolds, for the calendar year 1948, on a cash receipts and disbursements basis of accounting.
All the aforementioned returns were filed with the collector of internal revenue for the first district of Missouri for each of the respective taxable periods.
The Reynolds-Joplin Cotton Company of Hayti, Missouri, a partnership, filed a Federal partnership return for its fiscal year June 1, 1947, to May 30, 1948, on the cash receipts and disbursements basis of accounting, with the collector of internal revenue for the first district of Missouri. The partnership interests were held as follows:
+----------------------+ ¦S. Crews Reynolds ¦51%¦ +------------------+---¦ ¦W.A. Joplin, Jr ¦49%¦ +----------------------+
The wives are parties to these proceedings by reason of the fact they and their petitioner-husbands filed joint returns in the year 1948.
The Osceola Products Company was incorporated about August 1945 under the laws of the State of Arkansas providing for the formation and operation of agricultural cooperative associations. Its authorized capital stock consists of 500 shares of common stock of the par value of $100, and 78,000 shares of preferred stock of the par value of $25. The common stock carries the voting rights and is non-dividend bearing. It can be held only by producers of agricultural products and only one share may be owned by each member of the association. The preferred stock has no voting rights and bears noncumulative dividends not to exceed 6 per cent per annum. Members of the Osceola Products Company must be producers and own one share of its common stock. The members are not limited in the number of shares of preferred stock they may own.
The Osceola Products Company has a fiscal year accounting period. Its principal place of business is at Osceola, Arkansas. It engages in processing cotton seed and soybeans and marketing the oil and by-products produced therefrom for its member and nonmember patrons. It operates in the following manner: The farmer-producer patrons ship their cotton seed and soybeans to the association's mill and receive in payment the prevailing market price less a 10 to 20 per cent reserve which is retained by the association to cover any potential loss. These products are processed and sold by the association.
The Osceola Products Company is a tax exempt cooperative association under section 101(12) of the Internal Revenue Code.
The by-laws of the Osceola Products Company provide that an audit be made of its books and accounts after the close of each fiscal year to determine the net savings from the business operations. The by-laws further provide for the allocation and distribution of such net savings in the following order and manner:
(a) An amount not exceeding six percent (6%) of the par value of the fully paid-up shares of preferred stock outstanding shall be set aside for payment of dividends on such stock.
(b) The remainder of the net savings shall be allocated to all patrons of the association on a patronage basis. The basis of allocation shall be prescribed by the board of directors and may show the division of net savings of each activity, or business, of the association.
(c) Before any distribution is made of the net savings after provision for the payment of the dividends on preferred stock, there shall first be reserved an amount equal to not less than five percent (5%) of the net savings for the purpose of establishing, building up and maintaining an allocated reserve of not less than twenty-five percent (25%) of the aggregate par value of all outstanding capital stock. Such deduction shall be made from the net income of each activity or business of the association as prescribed by the board of directors.
(d) From the balance remaining to the credit of non-member patrons, eligible for member patrons, eligible for membership in the association and approved by the board of directors, there shall first be deducted the par value of one share of common stock, or the unpaid balance due thereon, and when any such patron has complied with all the conditions for membership, a certificate from common stock paid for in this manner shall be issued to him.
(e) An amount of the net savings determined in the manner provided for in sub-section (b) of this section, which amount shall be determined by the board of directors, shall be retained by the association for capital purposes and distributed to the patrons as credits on paid-in common or preferred stock. The amount so retained from each patron shall be in the same proportion to the savings allocated to him, as the total amount retained by the association bears to the total amount of savings allocated to all patrons; provided, however, that the board of directors shall have the right to waive the retention of such allocations for common stock to non-member patrons, or to any one or more of them, and to distribute the same as non-voting preferred stock and/or credits for preferred stock. At the close of the fiscal year, the association shall issue certificates of preferred stock to each patron for all unissued full shares standing to his respective credit.
(f) The remainder of the patronage allocations may then be distributed to the respective patrons in cash.
In September 1945 the Osceola Products Company entered into a written loan agreement with the St. Louis Bank for Cooperatives under which the bank agreed to make long term loans to such cooperative association in an amount not to exceed $127,000. The agreement contained the condition that while long term loans under the agreement were outstanding the cooperative association would declare or pay cash dividends only upon written approval of the bank. As of June 30, 1946, the outstanding amount of such long term loan was $103,000. This long term loan was paid off by the Osceola Products Company during its next fiscal year ended June 30, 1947.
For each of its fiscal years ended June 30, 1946, June 30, 1947, and June 30, 1948, by act of its board of directors pursuant to the by-laws, the net savings or net earnings of the Osceola Products Company, after payment of dividends on preferred stock, were allocated and distributed at the end of each such fiscal year to its member and non-member patrons on a patronage basis by the association making credits to the capital reserve, issuance of its preferred stock, and payment of cash dividends. The allocation of such patronage dividends was made on the basis of the tonnage shipped to the cooperative association by each patron. Accordingly, S. Crews Reynolds, Joseph F. Kohn, and the Reynolds-Joplin Cotton Company were credited with amounts to the capital reserve, amounts allocated for payment in preferred stock, and cash dividends as follows:
+-----------------------------------------------------------------------------+ ¦Association's fiscal year ended— ¦ ¦ ¦ ¦ +-----------------------------------------+-----------+-----------+-----------¦ ¦Name of patron ¦ ¦ ¦ ¦ +-----------------------------------------+-----------+-----------+-----------¦ ¦ ¦June 30, ¦June 30, ¦June 30, ¦ ¦ ¦1946 ¦1947 ¦1948 ¦ +-----------------------------------------+-----------+-----------+-----------¦ ¦S. Crews Reynolds ¦ ¦ ¦ ¦ +-----------------------------------------+-----------+-----------+-----------¦ ¦ ¦ ¦ ¦ ¦ +-----------------------------------------+-----------+-----------+-----------¦ ¦Capital reserve credit ¦$258.96 ¦$2,812.15 ¦$2,165.75 ¦ +-----------------------------------------+-----------+-----------+-----------¦ ¦Amounts allocated for payment in ¦4,485.91 ¦52,795.33 ¦ ¦ ¦preferred stock ¦ ¦ ¦ ¦ +-----------------------------------------+-----------+-----------+-----------¦ ¦Cash dividend ¦ ¦ ¦6,111.82 ¦ +-----------------------------------------+-----------+-----------+-----------¦ ¦Total ¦4,744.87 ¦55,607.48 ¦8,277.57 ¦ +-----------------------------------------------------------------------------+
Joseph F. Kohn Capital reserve credit 162.10 2,215.83 1,208.42 Amounts allocated for payment in preferred stock 2,808.01 41,599.94 Cash dividend 3,410.22 Total 2,970.11 43,815.77 4,618.64
Reynolds-Joplin Cotton Co. Capital reserve credit 1,536.60 Amounts allocated for payment in preferred stock 28,848.10 Total $30,384.70 FN1 The Commissioner determined that $15,496.20 (51% of $30,384.70) and $14,888.50 (49% of $30,384.70) of the above total amount credited and distributed to the Reynolds-Joplin Cotton Co. during the latter's partnership year ended May 31, 1948, was includible for the calendar year 1948 in the taxable income of the partners, S. Crews Reynolds and William A. Joplin, Jr., respectively.
5,130 1/2¦128,262.50 ¦ +-------------+---------+--------+-------------+-----------¦ ¦June 30, 1948¦25 ¦2,500 ¦
The following schedule shows the amounts allocated to S. Crews Reynolds, Joseph F. Kohn, and the Reynolds-Joplin Cotton Company (a partnership) by the Osceola Products Company for its fiscal years ended June 30, 1946, June 30, 1947, and June 30, 1948, for payment of the association's preferred stock, the number of preferred shares issued to said patrons, and the total par value of such shares:
+----------------------------------------------------------+ ¦ ¦Amount ¦ ¦ ¦ +-------------------------+------------+---------+---------¦ ¦ ¦allocated ¦ ¦ ¦ +-------------------------+------------+---------+---------¦ ¦ ¦for payment ¦Number ¦ ¦ +-------------------------+------------+---------+---------¦ ¦ ¦of preferred¦of shares¦Total par¦ +-------------------------+------------+---------+---------¦ ¦ ¦stock ¦issued ¦value ¦ +-------------------------+------------+---------+---------¦ ¦S. Crews Reynolds ¦$4,485.91 ¦179 ¦$4,475.00¦ +-------------------------+------------+---------+---------¦ ¦S. Crews Reynolds ¦52,795.33 ¦2,112 ¦52,800.00¦ +-------------------------+------------+---------+---------¦ ¦Joseph F. Kohn ¦2,808.01 ¦112 ¦2,800.00 ¦ +-------------------------+------------+---------+---------¦ ¦Joseph F. Kohn ¦41,599.94 ¦1,664 ¦41,600.00¦ +-------------------------+------------+---------+---------¦ ¦Reynolds-Joplin Cotton Co¦28,848.10 ¦1,153 ¦28,825.00¦ +----------------------------------------------------------+
The following schedule shows the number of outstanding shares of common stock which were issued at $100 per share and the number of outstanding shares of preferred stock which were issued at $25 per share of Osceola Products Company as of June 30, 1946, June 30, 1947, and June 30, 1948:
+----------------------------------------------------------+ ¦ ¦ ¦Total ¦ ¦Total ¦ +-------------+---------+--------+-------------+-----------¦ ¦ ¦Number ¦issuance¦Number of ¦issuance ¦ +-------------+---------+--------+-------------+-----------¦ ¦Fiscal year ¦of shares¦price of¦shares of ¦price of ¦ +-------------+---------+--------+-------------+-----------¦ ¦ ¦of common¦common ¦preferred ¦preferred ¦ +-------------+---------+--------+-------------+-----------¦ ¦ ¦stock ¦stock ¦stock ¦stock ¦ +-------------+---------+--------+-------------+-----------¦ ¦June 30, 1946¦18 ¦$1,800 ¦ 4,011 1/2¦$100,287.50¦ +-------------+---------+--------+-------------+-----------¦ ¦June 30, 1947¦23 ¦2,300 ¦ FN1 3,006 1/2 shares issued for cash; net savings allocated against issuance of 1,005 shares.FN2 Increase of 1,119 shares of outstanding preferred stock issued for cash.FN3 Of increase of 21,235 1/2 shares of outstanding preferred stock 484 issued for cash and net savings allocated against issuance of 20,751 1/2 shares.
26,366 ¦659,150.00 ¦ +----------------------------------------------------------+
The certificates of preferred stock provided on their face that they were transferable on the books of the association on the surrender of the certificate properly endorsed by the holder or by a properly authorized attorney.
When issued the preferred stock had a fair market value equal to the par value of $25 a share.
OPINION.
LE MIRE, Judge:
The question presented is whether income was realized by the taxpayers, in the respective taxable years involved, upon the allocation and distribution of the net savings or earnings of the Osceola Products Company to the petitioners who were members of the association, in the form of credits to its capital reserve account and the issuance of preferred stock of such corporation.
The petitioners, William A. Joplin, Jr., Joseph F. Kohn, and S. Crews Reynolds, were members of the Osceola Products Company, a nonprofit cooperative corporation exempt from tax under the provisions of section 101(12) of the Internal Revenue Code, in effect in the taxable years involved herein. All of the income tax returns of the taxpayers for the taxable years in question were filed on a cash receipts and disbursements basis of accounting.
The taxpayers contend that the income of a tax exempt farmers' marketing cooperative represents income to the cooperative; that the portion thereof allocated to the capital reserve account and the portion represented by the issuance of preferred stock are not taxable income to a member reporting on a cash basis until the cash is realized therefrom; and, in the alternative, if the preferred stock represents the receipt of something of value to be reported as income in the year of receipt then the amount to be reported is the fair market value of the preferred stock at the time of its receipt. It is conceded by the taxpayers that the $25 par value preferred stock has a fair market value equal to one-half its par value.
The taxpayers argue that the cases relied upon by the respondent such as United Cooperatives, Inc., 4 T.C. 93; Colony Farms Cooperative Dairy, Inc., 17 T.C. 688, involved nonexempt cooperatives and not the patrons; and that the cases of Harbor Plywood Corporation, 14 T.C. 158, affirmed per curiam 187 F.2d 734; and George Bradshaw, 14 T.C. 162, which involved the question of realization of income by members of a nonexempt cooperative reporting on an accrual basis of accounting, are not controlling here.
Since the filing of briefs herein, this Court has decided Estate of Wallace Caswell, 17 T.C. 1190, in which we held that members of a tax exempt cooperative on a cash basis of accounting realized income upon the receipt of certificates representing their interests in the capital reserve of the cooperative, which certificates they were free to sell, exchange or assign to the extent of the fair market value thereof.
We think the Caswell case is controlling here on the question of the realization of income by the petitioners on the receipt of the certificates of preferred stock of the cooperative. We, therefore, hold that the petitioners realized income to the extent of the fair market value of those certificates in the years of their receipt.
The respondent's determination that the petitioners are also taxable on their proportional shares of the net earnings of the cooperative which were credited to the capital reserves but in respect of which no certificates or other evidence of such interests were issued to the members can be sustained only on the theory of constructive receipt and reinvestment of such amounts by the petitioners. Since the cooperative had a right under its charter and its by-laws, and under the provisions of section 101(12) of the Code, to retain a portion of the net earnings for operating capital reserve, such retained reserves were its income, although exempt from tax, and not income to the patrons until actually distributed, or made available to them. See United Cooperatives, Inc., supra; Harbor Plywood Corporation, supra; and Dr. P. Phillips Cooperative, 17 T.C. 1002.
We do not think that the taxable or nontaxable status of the cooperative determines the tax liability of the patrons on such non-distributable profits . In no case should the constructive receipt theory apply, we think, unless at some time the earnings of the cooperative were made available to or were subject to the control of the patron.
Therefore, with respect to the amounts credited to capital reserve we hold that the petitioners received no taxable income.
There remains for determination the fair market value of the certificates of preferred stock. The charter of the Osceola Products Company authorized the issuance of preferred stock on the basis of a par value of $25 per share. It is a generally recognized principle of law that where a corporation is authorized to issue its shares of stock having a par value it can not issue such shares for a consideration less than par. When the certificates in question were issued, the net earnings of the cooperative were charged with the sum of $25, the par value of the shares. The certificates of preferred stock were transferable, bore 6 per cent noncumulative dividends, and could be redeemed upon call of the board of directors for cash at the par value plus dividends thereon declared and unpaid. Upon dissolution, the preferred shares were entitled to receive the par value plus declared and unpaid dividends before any distribution upon the common stock. The record further establishes that in each of the respective taxable years in question various amounts of preferred stock were sold and issued, for which the corporation received the par value of $25 per share.
At the hearing, the taxpayers offered the testimony of two local bankers who expressed the opinion that the fair market value of the preferred shares was around 50 per cent of their par value. We regard such opinion evidence of little probative value in the light of the other facts and circumstances disclosed by this record. We hold that the fair market value of the preferred stock was the equivalent of its par value, and have so found as a fact. Cf. Estate of Wallace Caswell, supra.
Decisions will be entered under Rule 50. 1. Proceedings of the following petitioners are consolidated herewith: Joseph F. Kohn and Anna Kohn; Joseph F. Kohn; S. Crews Reynolds and Gertrude Reynolds; and S. Crews Reynolds.