Summary
In Irving v. United States, 44 F.2d 246 (Ct.Cl.) the court looked through an issue and exchange of checks very similar to what took place here and held that the transaction constituted "a stock dividend" for purposes of tax liability.
Summary of this case from Thurber v. Commissioner of Internal RevenueOpinion
No. J-288.
November 3, 1930.
Suit by Samuel Lloyd Irving against the United States.
Judgment for plaintiff.
This suit was instituted to recover $3,062.29 alleged to represent the amount of income tax erroneously collected for 1923, upon the ground that a dividend of $15,100 included in the return as a cash dividend was in fact a stock dividend, and therefore not taxable. It is agreed that if plaintiff is entitled to recover, the amount for which judgment should be entered is $2,274.03, with interest.
Special Findings of Fact.1. Plaintiff, a resident of Chester, Pa., was during 1922 and 1923 a stockholder and director of the Irving Worsted Company, a Pennsylvania corporation, organized January 1, 1912, with a capital stock of $20,000 which, prior to 1921, had been increased to $400,000. In 1921 the capital stock of the corporation was increased to $750,000, the additional stock being taken by the old stockholders, with the exception of $25,000 par value, which was sold to employees of the corporation on a deferred-payment basis, and on December 31, 1922, all stock subscriptions had been fully paid.
On January 1, 1922, plaintiff owned 1,117 shares of stock of this corporation and purchased during the year 1922 for cash at $100 par $80,800 of additional stock. These purchases were made on January 3, 1922, in the amount of $77,500, and on November 27, 1922, in the amount of $3,300. This brought plaintiff's stock holdings in the corporation to 1,925 shares.
2. During 1922 the corporation was engaged in an expansion program which necessitated the expenditure of substantial sums for plant enlargements and improvements, and during this year the corporation expended $155,000 for machinery and equipment and $39,000 for real estate and buildings; also, in that year, construction of a building was commenced for completion in 1923.
3. During the latter part of 1922 the matter of the payment of a dividend by the corporation was informally discussed from time to time by the plaintiff, L.H. Schoff, H.R. Shirley, and J.M. De Lone, all of whom were directors of the corporation, its majority stockholders, and who were all actively engaged in the management of the corporation's business. A very substantial majority of the corporate stock of the company was owned by Irving, Schoff, and Shirley. The directors felt that the corporation was obligated to pay a dividend to the employee stockholders, and they were anxious that this be done. They were of the opinion that the earnings of the corporation justified the payment of such a dividend. At the same time they knew and felt that the corporation should retain all of its cash resources possible for expenditures which had been undertaken, were then being made, and which in the near future would be necessitated in carrying out the expansion program theretofore decided upon.
4. As a result of these conferences between the directors, they evolved a plan for the declaration of an 8 per cent. dividend, predicated, however, upon the understanding which they, as directors, had with each other and all of the other stockholders, other than the employees who were small stockholders, whose stock holdings aggregated only approximately 4 per cent. of the then outstanding stock of the corporation and on which stock the directors desired to pay a cash dividend, that they would receive their dividends in stock; that immediately upon the declaration of the dividend they would indorse the check for their proportion of the dividend to the corporation for additional stock to be issued to them by the corporation.
At the time of these conferences the corporation did not have sufficient cash or surplus with which to pay a dividend of 8 per cent. upon its outstanding stock.
Following the formulation by the directors of the plan referred to, plaintiff discussed the matter in detail with all of the directors and all of the stockholders of the corporation with the exception of the minority employee stockholders, and each of the directors and all of the stockholders concerned approved the plan, and agreed that upon the declaration of a dividend the corporation should issue stock to them for their proportion of the 8 per cent. dividend.
5. The plaintiff thereafter informed the directors of the corporation that he had obtained the approval of the plan mentioned by the directors and all the stockholders, other than the employee stockholders. It was the desire of the directors that the 8 per cent. dividend be paid in cash to the employee stockholders. A meeting of the stockholders was called and held on December 18, 1922, at which the capital stock of the corporation was increased from $750,000 to $1,000,000 by the following resolution:
"A special meeting of the stockholders of the Irving Worsted Company, called in pursuance of the by-laws, was held on the above date, all of the stockholders being present.
"It was, on motion duly made and seconded, resolved that the capital stock of this company be increased from $750,000 to $1,000,000.
"On motion adjourned."
A meeting of the board of directors of the corporation was called and held on December 30, 1922, at which the following resolution was adopted:
"A meeting of the directors of the Irving Worsted Company, called in pursuance of the by-laws, was held on the above date, all of the directors being present.
"On motion duly made and seconded, it was resolved that a dividend of 8 per cent. be declared, payable on or before March 30, 1923, to stockholders as they appear of record on the books of said company, as of January 15, 1923, and subscribers to stock subsequent to that date shall receive a dividend at the rate of 8 per cent per annum and to date from the date of payment in full of their respective subscriptions.
"On motion duly made and seconded, the right to subscribe for additional stock in this company to the amount of 8 per cent of their respective holdings is granted to the stockholders. * * *"
6. On December 30, 1922, the date on which the resolution declaring the dividend was adopted by the board of directors, the corporation had only a cash balance of $21,087. On that date it had a surplus, including the cash balance, of $30,535.32; $58,000 would have been required for the payment of an 8 per cent. dividend in cash on all stock issued and outstanding, whereas but $1,861.23 was required for the payment of the dividend in cash on the stock holdings of the employee stockholders. No provision was made for the borrowing of any money by the corporation for dividend purposes and at the time of the declaration of the dividend the company had already borrowed to within $10,000 of its established lines of credit at its banks.
7. The plan agreed upon by the directors prior to the declaration of the dividend, that they and the other majority stockholders would take stock for their proportion thereof, was carried out in the following manner: On December 31, 1922, the corporation, which on that date had cash on hand and in bank of only $21,566.44, drew two checks, one for $50,463.06 and one for $5,600, aggregating $56,063.06, payable to the "Irving Worsted Company Dividend Account." These two checks were indorsed by the company and deposited in a special dividend account in the First National Bank at Chester, Pa. On January 2, 1923, the company issued a dividend check to plaintiff for $15,100, one to Kingsley Montgomery for $800, one to H.R. Shirley for $12,700, one to Joseph H. Hinkson for $800, one to Thomas M. Allen for $1,200, one to L.H. Schoff for $22,500, one to Marguerite C. De Lone for $1,200, and one to Joseph M. De Lone for $1,600 against said special dividend account. The dividend check for $15,100 drawn to the order of plaintiff was promptly indorsed by him to the corporation, and was retained by the corporation. This check was deposited by the corporation in the dividend account hereinbefore referred to.
Stock in an amount corresponding to the amount of the dividend check was issued by the corporation to the plaintiff. The exact date upon which the certificate or certificates for the additional shares were issued is not shown. The same situation obtained and the same procedure was followed as to each of the other persons and as to the dividend checks referred to above.
8. On March 15, 1922, the corporation paid an 8 per cent. dividend in cash aggregating $1,861.23, as provided in the resolution of December 30, 1922, to its employee stockholders on the stock held by them. The said employee stockholders respectively cashed their dividend checks and received and retained the cash proceeds thereof for their own use and benefit.
9. March 15, 1923, plaintiff filed an income-tax return for 1923 on Form 1040, in which he included as income the sum of $15,100 as a cash dividend from the Irving Worsted Company. As a result of the inclusion of this amount as a cash dividend, plaintiff paid to the government a tax of $2,274.03 in excess of the tax for which he would have been liable had said item not been included in his return.
10. December 23, 1926, plaintiff filed a claim for refund of $3,062.29 on the ground that he had erroneously included in his income the amount of $15,100 as a cash dividend when, in fact, the amount represented a stock dividend, and therefore not taxable as income. The commissioner rejected the claim for refund June 9, 1927.
John C. Kramer, of Washington, D.C. (Speer Woodis, of Washington, D.C., on the brief), for plaintiff.
Charles B. Rugg, Asst. Atty. Gen., and Ralph C. Williamson, of Washington, D.C., for the United States.
Before BOOTH, Chief Justice, and GREEN, LITTLETON, and WILLIAMS, Judges.
The question in this case is whether the dividend of $15,100, representing plaintiff's proportion of an 8 per cent. dividend declared by the Irving Worsted Company on December 30, 1922, was a cash or a stock dividend. We are of opinion upon the facts that it was a stock dividend.
The facts in this case bring it within the principle announced in United States v. Mellon (D.C.) 279 F. 910, affirmed (C.C.A.) 281 F. 645, and United States v. Davison (D.C.) 1 F.2d 465.
The Irving Worsted Company did not have sufficient cash or surplus to pay the 8 per cent. dividend to the majority stockholders. Cf. Henry Vogt Machine Company v. United States (Ct.Cl.) 39 F.2d 986. It had already borrowed almost to the limit of its credit, and there was a definite binding agreement by the majority stockholders, of which the plaintiff was one, with the corporation through its board of directors that they would receive stock for their proportion of dividend. All of these stockholders made this agreement with the directors before the dividend was declared. Prior to the declaration of the dividend, and in view of this agreement, the stock of the corporation was increased to permit of the payment of the dividend in stock, and it was so paid. The formality of issuing checks, for the payment of which there was no fund, and the indorsement thereof by the plaintiff and the stockholders who were parties to the agreement, did not change the situation. It was never intended that the dividend to these stockholders should be paid in cash, and they could not have enforced such payment. The decision of the United States Board of Tax Appeals in Appeal of Hunt, 5 B.T.A. 356, is not in point. In that case the stockholders merely agreed among themselves that they would take stock and presumably the corporation had sufficient funds with which to pay the cash dividend.
Plaintiff is entitled to recover. Judgment will be entered in his favor for $2,274.03 with interest. It is so ordered.