Central Aguirre Sugar Co. v. Commissioner

Central Aguirre Sugar Company, et al., Petitioners, v. Commissioner of Internal Revenue, Respondent Central Aguirre Sugar Co. v. Commissioner Docket No. 41666 United States Tax Court 24 T.C. 630; 1955 U.S. Tax Ct. LEXIS 151; June 30, 1955, Filed *151 Decision will be entered for the petitioner. Petitioner, a domestic corporation, owned a majority of the voting stock of a foreign corporation from which it received nonliquidating dividends in the taxable year. The dividends consisted of cash plus property which had appreciated in value over its cost or adjusted basis to the subsidiary. The subsidiary had sufficient earnings or profits from other sources available for the distribution of dividends in excess of the cash plus the fair market value of the property distributed. Held, that the distribution in question was a dividend out of those earnings to the extent of the fair market value of the property distributed, and that petitioner is deemed by section 131 (f) of the 1939 Code to have paid a proper proportion of the foreign income taxes paid by the subsidiary upon or with respect to such earnings or profits. National Carbon Co., 2 T. C. 57, followed. Carl J. Marold, Esq., for the petitioners. Joseph Landis, Esq., for the respondent. Harron, Judge. Murdock, J., concurring. Opper and Fisher, JJ., agree with this concurring opinion. HARRON *631 The Commissioner determined deficiencies in income tax and declared value excess-profits tax for the taxable year ended July 31, 1945, in the amount of $ 445,624.22 and $ 70,130.38, respectively. The Commissioner has conceded error in one of his adjustments. There remains for decision the question of the amount of the foreign tax credit to which petitioner is entitled under section 131 (f) of the 1939 Code. FINDINGS OF FACT. The stipulated facts are found according to the stipulation. The stipulation of facts is incorporated herein by this reference. The petitioner, Central Aguirre Sugar Company, is a trust which was created on August 1, 1928. It has 10 trustees. It is a voluntary association taxable as a corporation. It has its principal*153 office in Boston, Massachusetts. It keeps its books and makes its tax returns on an accrual basis for a fiscal year which begins on August 1 and ends on July 31. Petitioner's return for the taxable year was filed with the collector of internal revenue for the district of Massachusetts. The petitioner, from the time of its creation until December 22, 1947, was known as Central Aguirre Associates. Its name was changed to Central Aguirre Sugar Company. Because the name of a foreign corporation which is involved under the issue to be decided also is Central Aguirre Sugar Company, the petitioner may sometimes be referred to hereinafter as Associates in order to avoid confusion. During all times material, Associates, the petitioner, owned all but 16 shares of the outstanding stock of a foreign corporation, Central Aguirre Sugar Company, which was incorporated under the laws of Puerto Rico. That is to say, petitioner owned 179,984 shares out of 180,000 shares, the only stock issued, all of which was voting stock. This foreign corporation is referred to hereinafter as Sugar Company. Sugar Company, at all times material, owned all of the outstanding stock, 5,000 shares of common stock, *154 of another corporation, Ponce and Guayama Railroad Company, hereinafter referred to as Railroad Company. All of the common stock of Railroad Company was voting stock and was the only stock issued. Railroad Company operated a railroad in Puerto Rico. Sugar Company kept its books and reported income on the basis of a fiscal year beginning on August 1 and ending on July 31, the same as the petitioner. During the fiscal years ended July 31, 1942, July 31, 1943, and July 31, 1944, Railroad Company paid to Sugar Company dividends in the amounts set forth below, and Railroad Company paid income *632 taxes to Puerto Rico with respect to its accumulated profits in the same amount as the dividends as are set forth below: Railroad Company Foreign tax Dividends paid on profits Fiscal year paid equal to dividends 7/31/42 $ 150,000 $ 27,247.46 7/31/43 180,000 32,148.72 7/31/44 320,000 64,330.80 Total $ 650,000 $ 123,726.98 During the fiscal year ended July 31, 1945, Sugar Company paid dividends, partly in cash and partly in common stock of Railroad Company. The cash dividends totaled $ 273,906.78 of which petitioner received all except $ 120.56, *155 1 namely, $ 273,786.22. The property which was distributed as a dividend consisted of 3,608 shares (out of 5,000) of common stock of Railroad Company. Petitioner received the entire 3,608 shares of stock. In its return for the taxable year, petitioner reported all of the dividends paid by Sugar Company in the total amount of the cash received plus the fair market value of the stock of Railroad Company. Petitioner reported the fair market value of the stock as $ 300 per share, or $ 1,082,400. The Commissioner, in determining the deficiency, determined that the stock of Railroad Company had a fair market value at the time it was received by the petitioner of $ 553.01 per share, and, accordingly, he increased the amount of the dividends received from Sugar Company, which were taxable to petitioner, by $ 912,860.08. The parties have stipulated that the fair market *156 value of the Railroad stock at the time of receipt was $ 400 per share, and that the fair market value of the 3,608 shares was $ 1,443,200. The parties are agreed that the total amount of the dividends, including cash, which Sugar Company paid petitioner in the taxable year is $ 1,716,986.22. The parties are agreed that the total amount of dividends paid by Sugar Company, including cash, during its fiscal year ended July 31, 1945, is $ 1,717,106.78, which sum includes the cash dividend of $ 120.56 which petitioner did not receive. The parties are agreed that the 3,608 shares of stock of Railroad Company which petitioner received as a dividend in the taxable year had an adjusted basis in the hands of Sugar Company of $ 100 per share, or $ 360,800. *633 Sugar Company paid the dividends of cash and stock here involved on October 16, 1944, and June 27, 1945, which dates were within its fiscal year ended July 31, 1945, as follows: Stock of Railroad Company Number of Date Cash shares Value Oct. 16, 1944 $ 129,685.72 1,714 $ 685,600 June 27, 1945 144,221.06 1,894 757,600 Total $ 273,906.78 3,608 $ 1,443,200 The accumulated profits*157 of Sugar Company, at the time it paid the dividends of cash and Railroad Company stock, which were available for the payment of dividends were in excess of $ 1,716,982.22, which is the total amount of the dividends received by and taxable to petitioner. During its fiscal year ended July 31, 1945, Sugar Company did not pay any dividends other than the dividends paid on October 16, 1944, and June 27, 1945, which are set forth above. Sugar Company had paid Puerto Rican income taxes on all of its accumulated profits which were in excess of $ 1,717,106.78. Sugar Company's accumulated profits in the amount of $ 1,717,106.78 were net profits after payment and accrual of foreign taxes upon profits or earnings of larger amounts. On July 31, 1944 (and on August 1, 1944), Sugar Company's accumulated and undistributed profits, after payment of foreign taxes, were in excess of $ 861,429.88. Sugar Company's net earnings (or accumulated profits) for the fiscal year ended July 31, 1945, after Puerto Rican taxes, amounted to $ 855,676.90. The latter amount, when added to Sugar Company's accumulated profits on July 31, 1944, increased accumulated profits to in excess of $ 1,717,106.78 (leaving*158 out of consideration the distributions of dividends which were paid on October 16, 1944, and June 27, 1945). Puerto Rican tax paid and deemed to have been paid on 1945 earnings of $ 855,676.90, amounted to $ 179,175.17. 2 The most recently accumulated $ 1,717,106.78 of all of the accumulated profits of Sugar Company were earned by Sugar Company during its fiscal years ended on July 31 of 1941, 1942, 1943, 1944, and 1945, as is shown in the schedule set forth below. The petitioner's pro rata shares of the accumulated profits available for dividends based upon its stockholdings in Sugar Company are set forth in the following schedule, such pro rata shares totaling $ 1,716,986.22. The Puerto Rican taxes paid and deemed to have been paid by Sugar Company with respect*159 to petitioner's pro rata shares of Sugar Company's *634 most recently accumulated profits are set forth in the following schedule, and they amount to the total sum of $ 380,796.74. I II III Petitioner's Puerto Rican Accumulated share of taxes paid and Year ended July 31 profits accumulated deemed to have undistributed as of profits been paid on 7/31/44 available for petitioner's dividends share, col. II. [1944] $ 481,639.64 $ 481,605.83 $ 125,382.07 [1943] 47,895.42 47,892.06 11,118.04 [1942] 242,584.89 242,567.86 49,634.77 [1941] 89,309.93 89,303.64 15,504.60 Total $ 861,429.88 $ 861,369.39 $ 201,639.48 [1945] 855,676.90 855,616.83 179,157.26 Total $ 1,717,106.78 $ 1,716,986.22 $ 380,796.74 All of the income of the petitioner for the taxable year ended July 31, 1945, derived from sources outside the United States was derived from sources in Puerto Rico. This income was as follows: Dividends from Central Machette Company (a Puerto Rican corporation) $ 130,500.00 Dividends from the Railroad Company 79,376.00 Dividends from the Sugar Company: Cash dividends $ 273,786.22 Stock of the Railroad Company 1,443,200.00 1,716,986.22 *160 The foreign tax credit for Puerto Rican income taxes paid by the petitioner by withholding at the source during the fiscal year in question on the above dividends is $ 313,212.45. In addition, the amount of foreign taxes deemed to have been paid by petitioner with respect to the above-described dividends from Central Machette Company and from the Railroad Company is $ 42,246.78. OPINION. The controversy in this proceeding concerns the amount of the foreign tax credit to which petitioner, which is taxable as a domestic corporation, is entitled under section 131 (f) (1) of the 1939 Code with respect to two nonliquidating distributions which it received in the taxable year from its subsidiary, a foreign corporation which paid income and profits taxes to a possession of the United States. The provisions of section 131 (f) (1) are set forth in the margin. 3 Each of the distributions included a distribution of property, stock of another corporation, as well as cash. *161 *635 The subsidiary, Sugar Company, distributed 3,608 shares of stock of Railroad Company, its subsidiary. The adjusted basis of the 3,608 shares of stock of Railroad Company to Sugar Company was $ 360,800, and the fair market value of the stock at the time when petitioner received the stock was $ 1,443,200. The cash dividends distributed by Sugar Company to petitioner amounted to $ 273,786.22. The petitioner included the dividends of stock and cash in its taxable income for its fiscal year ended July 31, 1945, in the total amount of the fair market value of the stock, plus the cash, namely, $ 1,716,986.22. Sugar Company had accumulated profits for its fiscal years 1945, 1944, 1943, 1942, and 1941, without taking into account the appreciation in value of the 3,608 shares of Railroad Company stock, in excess of $ 1,716,986.22, upon or with respect to which it had paid or accrued foreign income taxes in excess of $ 380,796.74. The respondent has allowed a foreign tax credit under section 131 (f) (1) in the amount of $ 132,876.31 which he computed on the basis of the receipt of a dividend by petitioner in the amount of $ 634,586.22, which is the sum of $ 360,800, the adjusted*162 basis of the stock, plus the cash dividends of $ 273,786.22. The petitioner contends that the allowable foreign tax credit is $ 380,796.74 based upon the dividend of $ 1,716,986.22 upon which it is taxable. It is agreed that Sugar Company's most recently accumulated profits were in excess of $ 1,716,986.22. The dispute arises because of the appreciation in value of the Railroad stock in the amount of $ 1,082,400. The method of computing the tax credit is not disputed by the parties. They agree as to the amounts to be used as the denominator and multiplicand of the fraction once the issue presented has been decided. The controversy centers on the amount to be used as the numerator. Respondent contends that the numerator (the dividend) should be in the amount of $ 634,586.22, the total of the cash which was distributed plus $ 360,800, the adjusted basis of Railroad Company stock to Sugar Company. The petitioner contends that the numerator (the dividend) should be $ 1,716,986.22, the amount of the dividend which is includible in its gross income. *636 The question to be decided is: What is the amount of the dividend which is to be used as the numerator in the fraction by which*163 the amount of the foreign tax credit is to be computed? The respondent contends that the dividend received by petitioner represented a distribution out of the accumulated profits of Sugar Company to the extent of only its basis for the stock, $ 360,800, plus the amount of the cash which was also distributed. He bases his contention upon the assertion that no foreign tax was paid upon the appreciation in the value of the stock of Railroad Company, $ 1,082,400, because the accumulated profits of Sugar Company, upon which foreign taxes were paid, could not include the unrealized appreciation in value of the stock of the Railroad Company. It is the statutory scheme, for the purposes of chapter 1 of the 1939 Code, Income Tax, that "any distribution made by a corporation to its shareholders, whether in money or in other property, (1) out of its earnings or profits accumulated after February 28, 1913, or (2) out of the earnings or profits of the taxable year," is a dividend. Sec. 115 (a). This provision applies for the purposes of section 131 (f) (1) because it is part of chapter 1. The distributions by Sugar Company of money and other property, stock, were dividends to the extent of*164 the fair market value thereof because Sugar Company had earnings or profits, without resorting to appreciation, in an amount sufficient to cover such fair market value, and its accumulated profits were available for distribution. And the dividends were, under the presumption of section 115 (b), distributed out of Sugar Company's accumulated profits. The presumption contained in section 115 (b) extends to the purposes of chapter 1, and hence it applies for the purposes of section 131 (f) (1). The cash plus the fair market value of the stock of Railroad Company was, therefore, a distribution out of the accumulated profits of Sugar Company, and petitioner's foreign tax credit properly can be computed on the basis of a dividend in the amount of $ 1,716,986.22 out of accumulated profits which were in excess of $ 1,717,106.78. It is agreed that Sugar Company had paid foreign taxes upon such profits. We approve petitioner's contention. The respondent, in our opinion, is precluded in this case by the broad mandate of sections 115 (a) and (b) from restricting the meaning of "dividends" in section 131 (f) (1), which is precisely what he does by the position he takes in this case. To give*165 the term "dividend" one meaning for the purpose of determining taxable income under section 22 (a), and another meaning for the purpose of computing the same taxpayer's foreign tax credit under section 131 (f) (1), as respondent does here, violates the statutory design and ignores the statutory presumption. Furthermore, the respondent's construction in this case of the term "dividends" in section 131 (f) (1), and his application of that section *637 under the facts of this case is not in harmony with the legislative intent which underlies section 131 (f) which, in about the same terms, has been in the Revenue Acts since 1918. That section envisioned the receipt by parent domestic corporations of taxable distributions from foreign subsidiaries, and its purpose was to alleviate to some extent the burdens of double taxation. . To treat the distribution as a dividend in one amount, for the purposes of section 22 (a), for the purpose of income tax on petitioner, and to treat the distribution as a dividend in another amount, for the purpose of section 131 (f) (1), in computing the foreign tax credit, *166 has but one result, a frustration of the purposes of section 131 (f) (1) and a curtailment of its applicability. The wording of sections 115 (a) and (b), referring as they do to "any distribution," and "every distribution," and "for the purposes of this chapter" (with exceptions which are not material), calls for a consistent treatment of dividends throughout chapter 1 of the Code. In his determination, under the facts of this case the respondent has restricted the application of section 131 (f) (1). If his view is in principle the preferable view, then the Congress may adopt it. We may not, by giving approval here to the respondent's determination, legislate upon the subject. Under the facts of this case, we think it is inconsistent and contrary to statutory mandate to treat the distributions in question as taxable dividends in the amount of $ 1,716,986.22 for the purposes of section 22 (a), and to treat the same distribution as a dividend of only $ 634,586.22 for the purposes of the foreign tax credit under section 131 (f) (1). The same taxpayer is involved, and the same income is involved, first for income tax, and second for a credit which is intended to obviate double taxation, *167 and, therefore, to alleviate the tax burden. The petitioner seeks a foreign tax credit against income, taxable to it in the full amount under section 22 (a), in the amount of $ 1,716,986.22. Respondent would allow only a credit with respect to $ 634,586.22 of such income, even though the foreign tax has been paid on $ 1,716,986.22. Clearly, he denies petitioner the full benefit of section 131 (f) (1). In order that there may not be any misunderstanding about the validity of petitioner's claim, it is pointed out that petitioner is not asking for a credit based upon the entire amount of the foreign income tax paid by its subsidiary. Cf. Petitioner seeks only a credit for the proportion of the amount of foreign taxes paid by its subsidiary which section 131 (f) (1) describes. For example, referring to Sugar Company's most recently accumulated profits: Sugar Company's net earnings before taxes for its fiscal year ended July 31, 1945, were $ 1,082,308.79. The Puerto Rican income tax thereon was $ 226,631.89. Net earnings after *638 the foreign tax amounted to $ 855,676.90. A part of the foreign*168 tax paid allocable to the latter amount is $ 179,175.17. Petitioner's share of $ 855,676.90 is $ 855,616.83, and a portion of the foreign tax paid allocable to that amount of earnings is $ 179,157.26; and a proportion of the last amount is what petitioner seeks as a credit. In , the same issue under almost identical facts was considered by this Court. National Carbon Co., has not been reversed. We reach the same result here as was reached there. However, in addition to the reasoning of National Carbon Co., which is closely followed here, we recognize and stress the interrelation of section 22 (a) and section 131 (f) (1), and take into consideration the legislative purpose which underlies section 131 (f) (1). Decision will be entered for the petitioner. MURDOCK Murdock, J., concurring: This case, in my opinion, is not distinguishable from National Carbon Co., 2 T. C. 57, and upon authority of that case I concur in the result. Footnotes 1. It is understood that $ 120.56 of the cash dividends was paid to the holders of the 16 shares of stock of Sugar Company which petitioner did not own.↩ 2. This figure is found in the schedule attached to the deficiency notice. Also, the deficiency notice shows that Sugar Company's profits for its fiscal year ended July 31, 1945, were, before taxes, $ 1,082,308.79, and were, after taxes, $ 855,676.90.↩ 3. SEC. 131. TAXES OF FOREIGN COUNTRIES AND POSSESSIONS OF UNITED STATES. (f) Taxes of Foreign Subsidiary. -- (1) Foreign subsidiary of domestic corporation. -- For the purposes of this section, a domestic corporation which owns a majority of the voting stock of a foreign corporation from which it receives dividends in any taxable year shall be deemed to have paid the same proportion of any income, war-profits, or excess-profits taxes paid or deemed to be paid by such foreign corporation to any foreign country or to any possession of the United States, upon or with respect to the accumulated profits of such foreign corporation from which such dividends were paid, which the amount of such dividends bears to the amount of such accumulated profits. The term "accumulated profits" when used in this subsection in reference to a foreign corporation, means the amount of its gains, profits, or income in excess of the income, war-profits, and excess-profits taxes imposed upon or with respect to such profits or income; and the Commissioner with the approval of the Secretary shall have full power to determine from the accumulated profits of what year or years such dividends were paid; treating dividends paid in the first sixty days of any year as having been paid from the accumulated profits of the preceding year or years (unless to his satisfaction shown otherwise), and in other respects treating dividends as having been paid from the most recently accumulated gains, profits, or earnings. * * *↩