Sweets Co. of America, Inc. v. Commissioner

SWEETS COMPANY OF AMERICA, INC. (A NEW YORK CORPORATION), PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. SWEETS COMPANY OF AMERICA, INC. (A VIRGINIA CORPORATION), PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Sweets Co. of America, Inc. v. Commissioner Docket Nos. 6522, 20193. United States Board of Tax Appeals 12 B.T.A. 1285; 1928 BTA LEXIS 3373; July 11, 1928, Promulgated *3373 1. REVERSAL OF RULING BY COMMISSIONER. - The Commissioner has authority to reverse a ruling of a predecessor in the office, involving a question of law. Estate of W. S. Tyler,9 B.T.A. 255; Yokohama Ki-Ito Kwaisha, Ltd.,5 B.T.A. 1248, followed. 2. EVIDENCE; ESTOPPEL. - The evidence fails to show the existence of facts sufficient to establish an equitable estoppel against the Commissioner in favor of the Sweets Company of America, a Virginia corporation, transferee of the taxpayer. 3. CONSOLIDATED RETURNS. - Where two corporations are affiliated for six months, and these two and a third corporation are affiliated for the succeeding four months, and the third corporation after having absorbed the other two by merger, exists as a sole corporation for two months, all in the same calendar year, three separate returns are required. 4. RETURNS. - Where a corporation or affiliated group exists for only a part of the time within a 12-month period measuring its taxable year, its return shall be made on the basis of a full taxable year. 5. AVERAGE INVESTED CAPITAL. - In computing the tax of a corporation or affiliated group which exists during*3374 only a part of the period measuring its taxable year, the invested capital shall be the average invested capital for the full taxable year. 6. NET LOSS. - A net loss sustained in the last two months of 1919 by a corporation returning its income on a calendar year basis may not, under section 204(b), Revenue Act of 1918, be deducted from the net income in the first six months of 1919 of a predecessor corporation merged into it, which also returned its net income on calendar year basis. 7. ID. - A net loss of an affiliated group of three corporations, during four months of a taxable year may not be deducted from the net income of an affiliated group composed of two of these corporations, during the preceding six months of the same taxable year. Philip S. Peyser, Esq., and Felix H. Levy, Esq., for the petitioners. J. Harry Byrne, Esq., for the respondent. LOVE *1286 Each of these proceedings relates to a deficiency in income and profits tax for a period commencing January 1, and ending June 30, 1919, amounting to $5,814.12, all of which is in controversy. The notice of deficiency in Docket No. 6522 is directed to The Sweets Company*3375 of America, Inc. (New York corporation), and is dated July 17, 1925. In Docket No. 20193 the deficiency notice dated August 7, 1926, asserts a liability against the Sweets Company of America, Inc. (Virginia corporation), under section 280 of the Revenue Act of 1926, as transferee of the property of the New York corporation. The two proceedings were consolidated on motion and were heard together upon stipulation and various exhibits. The petition in Docket No. 6522 contains allegations of errors of the Commissioner in substance as follows: (a) In not accepting a single consolidated return for the full calendar year 1919; (b) In determining that the petitioner should report its income for the calendar year 1919 in two fiscal periods ending June 30, 1919, and December 31, 1919, respectively; (c) In failing to find that the end of petitioner's first fiscal period for 1919 was October 31, 1919, rather than June 30, 1919; (d) In finding that the mere acquisition of 100 per cent of the stock of the Sweets Company of America, Inc. (New York corporation), by the Virginia corporation of the same name, made necessary the computation of the tax on the basis of two fiscal periods rather*3376 than a single calendar year; *1287 (e) In failing to deduct the net loss for the six-month period ending December 31, 1919, from the income from the six months ending June 30, 1919. The petition in Docket No. 20193 repeats the foregoing allegations, in substance, and contains the following alleged errors in addition: (f) In determining that he (the Commissioner) had authority to overrule his prior decision that petitioner was entitled to file a single consolidated return for 1919; (g) That on August 7, 1926, the date of the deficiency letter addressed to this petitioner, assessment was barred by the limitation provisions of the revenue acts; (h) In prorating invested capital when computing the excess-profits tax for the six-month period ending June 30, 1919. FINDINGS OF FACT. The petitioner in Docket No. 6522, the Sweets Company of America, Inc., is a New York corporation (hereinafter called the New York Sweets Co.), formerly having its principal office in New York City. The petitioner in Docket No. 20193 is the Sweets Company of America, Inc., a Virginia corporation (hereinafter called the Virginia Sweets Co.), and has its principal office in New York City. *3377 Prior to 1904, there existed in New York City a partnership, trading under the name of Stern & Saalberg, which was engaged in manufacturing special kinds of candies and sweets. On December 30, 1903, a New York corporation of the same name was organized, and thereafter the partnership transferred all of its assets to the corporation in exchange for the entire capital stock, and the corporation continued the business formerly of the partnership. On December 7, 1917, the corporation duly changed its name to "The Sweets Company of America, Inc.," in accordance with the laws of the State of New York. On April 5, 1918, the Lance Cough Drop Co., Inc., a New York corporation, was organized. Its entire capital stock was issued to Philip H. Liefert in exchange for certain property transferred to it by him. This corporation also manufactured candies and sweets. All of its capital stock thereafter was acquired by the New York Sweets Co. It is admitted that the New York Sweets Co. and the Lance Cough Drop Co. were affiliated during the period commencing January 1, 1919, and ending June 30, 1919. On or about July 1, 1919, the Virginia Sweets Co. was organized for the purpose, among*3378 others, of acquiring the business and assets of the New York Sweets Co. and the Lance Cough Drop Co. It had an authorized capital stock of $5,000,000, consisting of 500,000 shares of par value of $10 each. On or about July 7, 1919, the Virginia*1288 Sweets Co. acquired all of the issued and outstanding capital stock of the New York Sweets Co., consisting of 4,000 shares of common, 6,000 shares of second preferred each of the par value of $100 per share, in exchange for 199,970 shares of $10 par value of its own capital stock, and $41,816 in cash. The Virginia Sweets Co. at about the same time sold 100,000 of its shares to brokers for $350,000 in cash. On October 29, 1919, the Lance Cough Drop Co. was merged with the New York Sweets Co., and the name of the latter at the same time was changed from the Sweets Company of America, Inc., to the Lance Cough Drop Co., Inc., both in accordance with the laws of the State of New York. Thereafter, and on October 31, 1919, the Lance Cough Drop Co., Inc. (formerly the Sweets Company of America, Inc., the New York Corporation), was merged into the Sweets Company of America, Inc., the Virginia corporation, by appropriate corporate*3379 action and in accordance with the laws of New York. From the time of its organization until October 31, 1919, the Virginia Sweets Co. was not an operating company, but held the stock of the New York Sweets Co. From and after October 31, 1919, it carried on the business formerly of the New York Sweets Co. and the Lance Cough Drop Co. Early in March, 1920, the Virginia Sweets Co., through its attorney, applied to the them Commissioner of Internal Revenue to ascertain the correct method of making the tax return of itself and the other two companies for the year 1919; and in response it received the following letter: TREASURY DEPARTMENT, Washington, March 19, 1920. Mr. MALCOLM SUMNER, 20 Nassau Street, New York, N.Y. SIR: On the facts stated in your brief of March 6, 1920, personally submitted March 8, 1920, you are advised that the companies which you represent, namely, The Sweets Company of America, Inc., (N.Y.) The Lance Cough Drop Company, Inc., and The Sweets Company of America, Inc., (Virginia) may, under article 634 of Regulations 45, file a consolidated tax return for the calendar year 1919. The Bureau cannot at this time authorize a deduction of the*3380 loss sustained in the calendar year 1919 from the net profits of the taxpayer for the preceding taxable year. You are advised that the taxpayer should file a copy of this letter with his taxable return for the year 1919, together with a copy of "Affiliated Corporations Questionnaire", Form 819, properly executed. Respectfully GEO. NEWTON, Acting Assistant to the Commissioner. A single consolidated return for the calendar year 1919 was accordingly filed and a copy of the above letter was attached thereto. *1289 Subsequently, in 1923, Commissioner of Internal Revenue Blair, who then was in office, wrote to the attorneys for the petitioners as follows: TREASURY DEPARTMENT, Washington, March 7, 1923. BALDWIN, HUTCHINS & TODD, 120 Broadway, New York, N.Y. SIRS: Your letter of February 6, regarding the Sweets Company of America, has been before me and the contents have been given very careful consideration. You have asked that this case, insofar as the question of consolidation for 1919 is concerned, be res adjudicata and closed upon the basis of a ruling obtained before the return was filed. I am inclined to agree with your proposition that*3381 it would be bad practice to continue to reopen cases, and such a course would be unjustifiable in many cases. This, however, does not apply to your case for the reason that it was not finally closed. The ruling had not been approved by this office and the audit of the return had never been undertaken. In view of these circumstances, it is believed that the Bureau should not be precluded from reconsidering the question of affiliation. If the situation were reversed and the taxpayer felt that the ruling was incorrect, it would not hesitate to ask for reconsideration and to carry an appeal to the highest authority. The Bureau observes a doctrine of equal rights for the taxpayer and for the Bureau in matters of similar character and it could not be fairly amintained that the Bureau's position in this case is improper or unjustifiable. It is, therefore, impossible to hold that the case was finally closed by the previous decision. The Committee on Appeals and Review has considered the question on its merits and you will be further advised of the findings. Respectfully. (Signed) D. H. BLAIR, Commissioner. Thereafter, the prior ruling was reversed and this petitioner*3382 was directed to file one return covering the period from January 1, to June 30, 1919, and another return for the period from July 1, 1919, to December 31, 1919. The deficiency results entirely from the reversal of the prior ruling. It arises from the fact that there was a profit in the first six months of the year and there were losses during the remaining six months which were not offset against the profits, in computing income for the first six months. The consolidated invested capital, as adjusted, of the New York Sweets Co. and the Lance Cough Drop Co., during the time they were affiliated was $198,662.30. The Commissioner used one-half of this amount in computing the excess-profits credit for the period from January 1 to June 30, 1919. In the period from January 1 to June 30, 1919, the net income of the New York Sweets Co. was $24,567.07, and the net loss of the Lance Cough Drop Co. was $132.26, leaving the consolidated net income $24,434.81. In the period from July 1, to October 31, 1919, the net loss of the New York Sweets Co. was $18,101.35 and the net income of the Lance Cough Drop Co. was $10,155.34, with no income or loss by the Virginia Sweets Co., resulting *1290 *3383 in a consolidated net loss of $7,946.01. In the last two months of the year the Virginia Sweets Co. sustained a net loss of $74,757.41. OPINION. LOVE: The preliminary question to be decided is whether Commissioner Blair had the power to reverse the ruling of a predecessor in office in the circumstances here presented. In 1920, before making a return for 1919, the Virginia Sweets Co. applied to the them Commissioner for advice as to whether separate returns would be required for itself and for the other two corporations for the respective periods they were in existence and affiliated, or whether a single consolidated return should be made for the entire calendar year. The Commissioner then in office wrote a letter to the petitioner stating that the three companies "may * * * file a consolidated tax return for the calendar year 1919." In 1923, Commissioner Blair reversed this ruling and decided that two returns should be filed covering different periods within the year when the constituency of the affiliated group was different. The ruling involved a construction of the law, and not the determination of any question of fact. Without here going into an extended discussion of*3384 the reasons, since the question has already been decided by the Board, we see no legal objection to a reversal of a prior Commissioner's interpretation of the law which the present incumbent concludes is erroneous. The Commissioner's duty to determine the taxpayer's true tax liability would compel him to reverse a prior ruling of law in a particular case if he concluded it was a wrong interpretation. ; . Cf. ; . The language of section 273(1), Revenue Acts of 1924 and 1926, defining a deficiency clearly contemplates the possibility of previous determinations. It is contended, however, on behalf of the Virginia Sweets Co. that, even though it should be held that the incumbent Commissioner had power to assert this liability against the New York Sweets Co., the Virginia Sweets Co., as the transferee, is entitled to every equity which would be available to it in a court of equity and, hence, under the circumstances of this case, Commissioner Blair is estopped by reason*3385 of the acts of the prior Commissioner to assert this liability against the Virginia Sweets Co. The successive mergers of the Lance Cough Drop Co. into the New York Sweets Co., and of the latter into the Virginia Sweets Co. were made under and pursuant to the following statute of the State of New York: *1291 Any domestic stock corporation and any foreign stock corporation authorized to do business in this state lawfully owning all the stock of any other stock corporation organized for, or engaged in business similar or incidental to that of the possessor corporation may file in the office of the secretary of the state, under its common seal, a certificate of such ownership, and of the resolution of its board of directors to merge such other corporation, and thereupon it shall acquire and become, and be possessed of all the estate, property, rights, privileges and franchises of such other corporation, and they shall vest in and be held and enjoyed by it as fully and entirely and without change or diminution as the same were before held and enjoyed by such other corporation, and be managed and controlled by the board of directors of such possessor corporation, and in its name, *3386 but without prejudice to any liabilities of such other corporation or the rights of any creditors thereof. * * * (Sec. 15, Stock Corporation Law of 1909, ch. 61; Consol. Laws ch. 59.) The New York courts, in construing this section, hold that the possessor corporation does not acquire absolute title to the property, estate and franchises of the merged corporation; that as to a person in whose favor a liability existed at the time of the merger, the property, or any avails of the same, if disposed of, constitutes a trust fund and is held by the possessor corporation as trustee for the protection and benefit of creditors. ; ; ; . The Virginia Sweets Co. does not question its liability for the amount of any deficiency in tax that may be found to be due, except upon the ground that Commissioner Blair is estopped from asserting such tax against it, since it results from a reversal of the prior ruling. It is unnecessary, however, to discuss the availability of the Virginia Sweets Co. of the*3387 doctrine of equitable estoppel in this proceeding, because we are satisfied that the requisite elements of estoppel do not appear. It is sufficient here to point out that a statement, in order to constitute an estoppel, must relate to a matter of fact. A ruling by the Commissioner has not a res adjudicata effect. This petitioner, in case the ruling had been unfavorable to it, could have obtained a judicial determination of the question. The general rule is that a statement by one of the parties on a question of law where both parties have knowledge of the facts, can not create an estoppel. 21 C.J. 1147, 1148; . We see no reason for applying any different rule in the present situation. It may be pointed out, further, that it does not appear that the Virginia Sweets Co. was misled to its disadvantage or changed its position in reliance thereon. The next point to be considered is the merits of the ruling of Commissioner Blair directing the filing of two returns for the two different six-months periods. Corporations which are affiliated are required *1292 to make a consolidated return of net income and invested capital. *3388 Sec. 240(a), Revenue Act of 1918. For the purpose of computing income and profits tax, they are to be treated as a unit. . There is no question but that the New York Sweets Co. and the Lance Cough Drop Co. were affiliated and that there were no other members of the affiliation between January 1 and June 30, 1919. Also, these two corporations and the Virginia Sweets Co. were affiliated from the after about July 1 until the end of October, 1919. From July 1 the group was not the same as it had been before, and we think it must be regarded as a different taxable unit from that which existed before the Virginia Sweets Co. became a member. The petitioners point to the fact that the Virginia Sweets Co. was a holding company merely and not engaged in business, and assert that it was organized for the purpose of strengthening the financial position of the original company. We do not see that these facts affect the principle. Its becoming a member of the group may very materially affect the consolidated invested capital. While the group was thus constituted it was a different taxable unit from the one previously existing because there*3389 was a new member, having invested capital which had to be reckoned in the consolidated invested capital, and necessarily affecting the computation of the tax. . See , et seq. Also, the Virginia Sweets Co., as the sole corporation existing after October 31, 1919, is not the same taxable unit as the group existing before this date, composed of this company and the two New York corporations, in affiliation. The fact that the other two corporations were merged into the Virginia Sweets Co. and the latter acquired the assets and business of the others is immaterial. Only corporations which are affiliated are required to make a consolidated return. After October 31 there was only one corporation and hence no affiliation. The requirements of Section 240(a) and of the decisions thereunder, for the making of a consolidated return of net income and invested capital of affiliated corporations have no application to a sole corporation. Three returns should be made, viz: a consolidated return for the New York Sweets Co. and the Lance Cough Drop Co.; a consolidated return for the*3390 group composed of those two companies and the Virginia Sweets Co., and a return for the Virginia Sweets Co. as a sole corporation. In determining the consolidated invested capital of the New York Sweets Co. and the Lance Cough Drop Co., the Commissioner found the invested capital at the beginning of the year, made certain adjustments therein which are not in dispute and took one-half of the *1293 adjusted amount as the invested capital for the six months ending June 30. Section 326(d) of the Revenue Act of 1918, provides: The invested capital for any period shall be the average invested capital for such period, but in the case of a corporation making a return for a fractional part of a year, it shall * * * be the same fractional part of such average invested capital. * * * We think the Commissioner's determination in this regard was correct. . See also memorandum and decision upon redetermination in Younker Bros. Inc., Docket No. 5522 (). The remaining question is whether the net losses of the Virginia Sweets Co. or of the affiliated group which existed between July*3391 1 and October 31, 1919, may be deducted from the net income of the affiliated group existing during the first six months of the year. The petitioners claim the right to this deduction under section 204(b), Revenue Act of 1918, which is as follows: If for any taxable year beginning after October 31, 1918, and ending prior to January 1, 1920, it appears upon the production of evidence satisfactory to the Commissioner that any taxpayer has sustained a net loss, the amount of such net loss shall under regulations prescribed by the Commissioner with the approval of the Secretary be deducted from the net income of the taxpayer for the preceding taxable year; and the taxes imposed by this title and by Title III for such preceding taxable year shall be redetermined accordingly. Any amount found to be due to the taxpayer upon the basis of such redetermination shall be credited or refunded to the taxpayer in accordance with the provisions of section 252. If such net loss is in excess of the net income for such preceding taxable year, the amount of such excess shall under regulations prescribed by the Commissioner with the approval of the Secretary be allowed as a deduction in computing*3392 the net income for the succeeding taxable year. It will be observed that this section provides that the net loss of any taxable year ending within the time limits specified may be deducted from the net income of the preceding taxable year. The first difficulty in any attempt to find a basis for allowing the deduction of the net losses here is that the preceding year is not before us. Each of the returns here required is for the same taxable year and hence the present case is not within the terms of the statute. The situation is different from , cited by petitioners. There the corporation taxpayer was in existence eight months prior to the date marking the close of its fiscal year. The Board held that the twelve months preceding that date measured its taxable year, even though it was not operating during the entire twelve months; and it was permitted to deduct the net loss of such taxable year from net income of the succeeding taxable year under the "net loss" provision of the Revenue Act of 1921. *1294 In *3393 , also cited, a net loss in 1919 was permitted to be deducted from net income of 1918; and this case likewise does not support petitioner's contention. Aside from the objection already stated to the relief sought, is the obstacle that we have here different taxable units. Insofar as the Virginia Sweets Co. is concerned there is a different corporation. Under no principle of law with which we are acquainted may it be regarded as the same "taxpayer" as the New York Sweets Co. In , it was held that a corporation which took over the assets and business and assumed the liabilities of another corporation may not deduct from its net income the net loss of the predecessor under the Revenue Act of 1921. It may be argued that this is not a valid objection to the deduction by the New York Sweets Co. of its net loss in the four months following June 30 from net income in the preceding six months in the same year. As we have already pointed out, the Revenue Act (section 240(a)) requires that affiliated corporations shall make a consolidated return, and that the tax shall be*3394 computed as a unit. In each of the periods referred to the New York Sweets Co. was a member of a different consolidated group. If net losses of a member of one affiliated group were permitted to be offset against the net income of the same corporation while a member of a different affiliation the unit conception of an affiliation would fall. The losses within the group are deducted from the income of the group, and hence, all of the members have the benefit of such deductions. Here, for example, the net loss of the Lance Cough Drop Co. in the first six months was deducted from the income of the New York Sweets Co. in the same period. In the succeeding four months the net income of the Lance Cough Drop Co. was offset against the loss of the New York Sweets Co. If the entire net loss of the New York Sweets Co. were to be offset against its early gain, there would be, as to a part of it, a double deduction, since such part had already been offset against the net income of the Lance Cough Drop Co. This is contrary to the purpose of the statute. *3395 . If, on the other hand, only the net loss of the affiiliated group were to be offset, the situation would be that the amount thereof may be affected by the operations of a member or members of the second affiliated group who were not members of the first group. Adhering, as we do, to the settled rule that an affiliated group shall be regarded as a unit for the purpose of computing the tax, we can find no basis upon which this deduction may be allowed, and it is therefore denied. Judgment will be entered in each proceeding for the respondent.