Creech v. Commissioner

R. W. CREECH, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. ESTATE OF H. G. RANDALL, LUTHER H. RANDALL, EXECUTOR, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Creech v. Commissioner Docket Nos. 101780, 104905. United States Board of Tax Appeals 46 B.T.A. 93; 1942 BTA LEXIS 908; January 16, 1942, Promulgated *908 1. Two of the stockholders of a coal mining corporation became indebted to the corporation in large amounts extending over a period of years. In 1933 one of these stockholders died and left an estate eith this large indebtedness outstanding against it and with substantially no assets except the stock owned in the coal corporation. His son, who was executor of the estate and an officer and director of the corporation, was anxious to get the indebtedness of the estate settled up. In 1936 he and the other stockholder who was indebted to the corporation agreed with the corporation that the estate and the other stockholder would each sell to the corporation 285 shares of his stock at a price slightly in excess of its book value, the consideration to be credited by the company to the accounts of the two selling stockholders. There was no pro rata purchase or redemption of shares owned by other stockholders of the corporation. The shares purchased by the company were held in its treasury until 1940, when they were transferred to a bank as collateral for a loan, where they still remain. Held, the transaction did not represent a distribution essentially equivalent to a dividend*909 under section 115(g), Revenue Act of 1936, nor was it a partial liquidation as defined in section 115(i), but was a sale of the stock to the corporation, and the resulting gains are taxable to petitioners as capital gains under the provisions of section 117, Revenue Act of 1936. 2. Petitioner Creech fully identified the shares sold by him, in a letter he wrote to the corporation at the time of the sale, to be from certain lots purchased at different dates and at different prices, and delivered the certificates which represented the actual shares designated and sold. Held, that respondent's contention that the first in, first out rule should be applied to this petitioner is denied. 3. The basis for determining the gain on the shares sold by the estate of H. G. Randall was their fair market value at the time of the death of the decedent in 1933. This fair market value is determined from the evidence. Sidney J. Hayles, C.P.A., and Noah J. Stone, Esq., for the petitioners. F. L. Van Haaften Esq., for the respondent. BLACK *93 Deficiencies in income tax were determined by the respondent against petitioners for the year 1936 in the*910 amounts of $64,577.37 and $54,861.41, respectively. The proceedings have been consolidated. The principal issue common to both proceedings is whether an amount of $128,250 credited to the account of each petitioner by the Creech Coal Co. in consideration for the surrender to the company by each petitioner of 285 shares of the capital stock of the company, *94 which stock was not retired by the company but was held in its treasury and later used by the company as collateral security for a loan, should be treated as a taxable dividend under section 115(g) of the Revenue Act of 1936, as the respondent determined and now contends; or whether the credits (large amounts in excess of the credits had been withdrawn from the company by Creech and Randall over a period of years from 1920 to 1933) represented "amounts distributed in partial liquidation" as that term is used in section 115(c) and defined in section 115(i) of the Revenue Act of 1936, as the respondent contends in the alternative; or whether the transactions were, as petitioners contend, nothing more than sales of stock by petitioners to the company at a price of $450 per share. In the event we hold that the credits*911 should not be treated as taxable dividends under section 115(g), an additional issue in each proceeding is the determination of the "adjusted basis" of the shares surrendered by each petitioner. FINDINGS OF FACT. R. W. Creech is a citizen of the State of Kentucky and resides in Twila, Kentucky. Luther H. Randall is a citizen of the State of Georgia, with offices at Atlanta, and is the duly appointed executor of the estate of his father, H. G. Randall, deceased. Income tax returns for the calendar year 1936 were filed on behalf of each petitioner with the collector of internal revenue for the district of Kentucky. The Creech Coal Co., sometimes hereinafter referred to as the corporation, was organized as a corporation in 1915 under the laws of the State of Arizona, with its principal office in Twila, Kentucky. Its chief business was that of mining coal and selling it at wholesale. During the period from 1915 to 1936, it operated two mines under one lease through one tipple, and also ran the customary company store. At the end of 1936, the estimated remaining life of the lease was approximately six years. At that time the company had no intention of liquidating, but from*912 time to time had been looking over some additional properties containing coal seams and discussing the advisability of securing them. It knew it could secure these additional coal lands. The only question was as to the price. At the time the Creech Coal Co. was organized it issued 2,000 shares of common stock of the par value of $100 per share. No change from its original capital stock of $200,000 has ever been made. Its present capital stock consisting of 1,430 shares outstanding and 570 shares of treasury stock, is the original 2,000 shares. The Creech Coal Co. never declared a stock dividend. Since 1918 the stockholders of the Creech Coal Co. and the number of shares held by each at the close of the years 1918 to 1937, inclusive, were as follows (years in which no change occurred are omitted): Shares held Stockholder [1936] 1. R. W. Creech [265] 2. Nannie Creech (wife of 1) [250] 3. G. W. Creech (son of 1) [100] 4. G. W. Creech, trustee for Laura Creech (daughter of 1) [50] 5. Grover Creech (son of 1) [50] 6. Anna Corn (daughter of 1) [50] 7. H. G. Randall 1,000 1,000 [600] 8. Estate of H. G. Randall [314] 9. L. H. Randall (son of 7) [299] 10. Mrs. E. R. Starbuck (daughter of 7) [100] 11. P. H. Randall (brother of 7) [1] 12. R. D. Safriet [1] 13. Creech Coal Co. (treasury) [570] Total 2,000 2,000 2,000 2,000 2,000 2,000 2,000 *913 *95 Petitioner R. W. Creech is president of the Creech Coal Co. He is now past 79 years of age and has been in poor health since 1938. Prior thereto he was actively engaged with the company. His wife, Nannie Creech, is still living. She acquired her stock in the company with funds that she inherited from her father. Their son, G. W. Creech, is now vice president and general manager of the company. On and after December 31, 1920, he owned 100 shares in the company, 50 of which were given to him by his father and 50 of which he purchased. Grover Creech sold his 50 shares to his father on July 23, 1925, for a consideration of $25,230.77. H. G. Randall was actively engaged at the plant until the fall of 1933. He died December 3, 1933. L. H. Randall and his sister Mrs. E. R. Starbuck were the two beneficiaries of their father's estate. L. H. Randall is vice president and treasurer of the Creech Coal Co. He purchased a part of his stock in the company at $500 per share several years prior to the taxable year 1936. R. D. Safriet has been secretary of the company since October 1928. An analysis of petitioner R. W. Creech's personal account with the Creech Coal Co. *914 , showing the debits and credits to the account during the year and the resulting debit balance at the end of the year, for the years 1920 to 1936, inclusive, is as follows: Year Withdrawal debits Other debits Salary credits Other credits Debit balance [1920] $55,350.84 $1,003.47 $24,000.00 $12,326.20 $20,028.11 [1921] 96,948.06 13,046.88 24,000.00 10,500.00 95,523.05 [1922] 43,421.74 50,253.28 24,000.00 560.00 164,638.07 [1923] 26,417.35 11,679.91 24,000.00 612.50 178,122.83 [1924] 8,036.82 6,521.32 18,999.96 1,634.15 172,046.86 [1925] 27,822.73 4,054.18 11,999.94 9,276.04 182,647.79 [1926] 5,020.55 4,028.17 10,000.04 1,010.64 180,685.83 [1927] 16,964.79 1,793.00 10,000.00 38,000.57 151,443.05 [1928] 9,312.95 1,503.85 10,000.00 852.77 151,407.08 [1929] 27,000.00 1,556.39 10,000.00 169,963.47 [1930] 14,153.61 34,211.50 10,000.00 431.96 207,896.62 [1931] 6,564.84 1,657.65 10,000.00 102.29 206,016.82 [1932] 2,568.67 2,100.82 5,000.00 150.00 205,536.31 [1933] 2,630.26 7,316.72 5,000.00 100.00 210,383.29 [1934] 2,303.29 21,475.38 1,249.98 5,159.00 227,752.98 [1935] 8,318.39 236,071.37 [1936] 5,250.00 101,625.00 139,696.37 *915 *96 An analysis of H. G. Randall's personal account (estate of H. G. Randall after December 3, 1933) with the Creech Coal Co., showing the debits and credits to the account during the year and the resulting debit balance at the end of the year, for the years 1920 to 1936, inclusive, is as follows: Year Withdrawal debits Other debits Salary credits Other credits Debit balance [1920] $31,854.39 $413.57 $19,999.92 $12,253.52 $14.52 [1921] 53,904.13 119,777.41 19,999.92 153,696.14 [1922] 31,214.21 9,944.24 19,999.92 174,854.67 [1923] 7,644.38 19,100.71 19,999.92 181,599.84 [1924] 3,764.25 419.19 15,999.96 169,783.32 [1925] 18,281.02 1,892.15 10,999.98 178,956.51 [1926] 5,266.35 2,648.03 10,000.04 176,870.85 [1927] 24,387.41 1,559.75 10,000.00 37,500.00 155,318.01 [1928] 5,978.50 27,482.54 10,000.00 300.00 178,479.05 [1929] 5,112.52 1,635.91 10,000.00 175,227.48 [1930] 5,717.45 39,182.52 10,000.00 210,127.45 [1931] 2,803.75 3,874.47 10,000.00 206,805.67 [1932] 8,206.93 4,050.51 5,000.00 214,063.11 [1933] 2,791.20 9,329.46 5,000.00 17.10 221,166.67 [1934] 5,147.37 6,438.94 5,000.00 227,752.98 [1935] 8,704.60 236,457.58 [1936] 5,250.00 101,625.00 140,082.58 *916 At or about the time the Creech Coal Co. was organized, but in any event prior to December 31, 1918, the company issued 400 shares of its capital stock to C. H. Davis, either as part or full consideration for the coal lease under which the company has operated. Davis in turn sold Will Ward Duffield 100 of these 400 shares, and Duffield at some time prior to December 31, 1918, sold the 100 shares to petitioner R. W. Creech. Also, prior to December 31, 1918, Davis, through Duffield as his nominee, disposed of the remaining 300 shares to the then stockholders of the Creech Coal Co. The purchase price of these 300 shares, to the extent of $75,000, was assumed by the Creech Coal Co., for which assumption the stockholders executed notes receivable by the company as follows: Grant Mason $8,750 T. F. Gibson 16,000 W. M. Lane 7,500 Robert G. Lane 1,250 H. J. Gibson 3,500 George Hodges $500 R. W. Creech 37,500 Total 75,000 On July 15, 1918, H. G. Randall assumed the notes, totaling $37,500 that had been given by Mason, the two Gibsons, the two Lanes, and Hodges. Later, in 1921 as to Randall, and in 1922 as to Creech, the Creech Coal Co. charged Creech's*917 and Randall's personal accounts, respectively, with $37,500 each and credited its notes receivable account with $75,000. The charge to Creech is included in the above amount of $50,253.28 for the year 1922 in the column "Other debits" and the charge to Randall is included in the above amount of $119,777.41 for the year 1921 in the column "Other debits." During the year 1927 Creech's and Randall's personal accounts were each credited with the amount of $37,500 (see column entitled "Other credits" in *97 above analyses) and a new account was opened on the corporation's books, called joint stockholders account, and the amount of $75,000 was debited to this account in 1927. During the year 1935 this account was increased to $78,000. The increase of $3,000 represented interest for one year at 4 percent. During the year 1934 several adjustments were made in Creech's and Randall's personal accounts, so that at the end of the year each account had a debit balance of $227,752.98. An analysis of the surplus account of the Creech Coal Co. for the years 1918 to 1936, inclusive, is as follows: Year Explanation Debit Credit Credit balance [1918] Profit $105,177.65 $105,177.65 [1919] Loss $22,282.02 82,895.63 [1920] 11 adjustments 5,116.67 87,859.66 [1920] Profit 417,555.69 583,194.31 [1921] 12 adjustments 232,349.30 96,472.40 [1921] Profit 114,734.26 562,051.67 [1922] Federal taxes 19,533.57 [1922] Profit 74,362.47 616,880.57 [1923] 7 adjustments 9,798.90 1,535.64 [1923] Profit 14,775.22 623,392.53 [1924] 4 adjustments 1,520.60 663.58 [1924] Loss 18,098.37 604,437.14 [1925] 4 adjustments 12,629.48 259.21 [1925] Profit 10,150.31 602,217.18 [1926] Depreciation adjustment 1,933.19 [1926] Profit 97,907.98 698,191.97 [1927] 15 adjustments 55,759.91 24,458.59 [1927] Loss 8,531.85 658,358.80 [1928] 5 adjustments 332.80 24,031.88 [1928] Loss 15,175.17 666,882.71 [1929] 6 adjustments 26,686.31 1,281.45 [1929] Loss 46,292.35 595,185.50 [1930] 2 adjustments 1,433.43 [1930] Loss 52,271.00 541,481.07 [1931] 5 adjustments 217,337.47 [1931] Loss 79,741.27 679,077.27 [1932] Loss 47,206.29 631,870.98 [1933] Profit 27,645.21 659,516.19 [1934] 3 adjustments 18,639.07 [1934] Dividends, Apr. 20 10,000.00 [1934] Dividends, Dec. 31 40,000.00 [1934] Profit 86,751.94 677,629.06 [1935] 6 adjustments 24,448.67 32,865.68 [1935] Profit 16,970.84 703,016.91 [1936] 7 adjustments 7,770.76 10,915.48 [1936] Dividends, Dec. 21 50,000.00 [1936] Profit 14,300.05 670,461.68 *918 The 89 (44 debit and 45 credit) adjustments mentioned in the above analysis included no charge to surplus for dividends paid. The only dividends paid during this period were the two dividends of $10,000 and $40,000, respectively, in 1934 and the dividend of $50,000 in 1936. The first dividend in 1934 was at the rate of $5 per share. All the stockholders were paid at that rate, except the estate of H. G. Randall was paid on the basis of 780 shares instead of 600 and L. H. Randall was paid on the basis of 119 instead of 299. The second dividend in 1934 was at the rate of $20 per share and all the stockholders were paid at that rate. The dividend in 1936 was at the rate of $25 per share and all the stockholders were paid at that rate. In 1937 the corporation paid a dividend of $28,600, which was at the rate of $20 per share on the stock outstanding. In 1938 *98 the corporation had a loss of $34,324.17 and paid no dividends. In 1939 the corporation paid a dividend of $7,150, which was $5 per share on the stock outstanding, and in 1940 it paid a dividend of $14,300, which was $10 per share on the number of shares outstanding. The following are the balance sheets of the*919 Creech Coal Co. as of the dates indicated, as shown by its books: Dec. 31, 1932 Dec. 31, 1933 Dec. 31, 1934 Dec. 31, 1935 Dec. 31, 1936 ASSETS: Cash $1,164.44 $2,006.66 $5,456.64 $11,531.66 $5,714.47 Notes receivable 9,824.43 515.00 1,760.00 1,370.00 90.00 Accounts receivable 36,258.18 98,600.46 181,839.31 244,120.96 241,697.23 Inventories 27,650.78 33,523.95 32,535.66 26,549.19 30,562.89 Mineral and timber rights 17,997.67 15,688.02 11,768.83 7,665.87 4,791.71 Properties and equipment 192,261.07 148,025.61 122,183.44 93,769.88 87,607.55 Stockholders' accounts rec 523,896.70 545,261.01 531,257.68 551,880.61 281,300.16 Deposit in closed bank 463.48 389.33 389.33 Deferred charges 1,121.13 1,096.34 1,096.34 1,096.34 1,096.34 Investments 52,088.84 50,237.53 53,804.71 56,132.48 45,909.28 Treasury stock 256,500.00 Total 862,263.24 894,954.58 942,166.09 994,506.32 955,658.96 LIABILITIES: Notes payable 1,000.00 Accounts payable, trade 12,634.75 16,430.83 23,036.20 49,379.58 37,423.69 Accounts payable miscl 14,558.24 16,160.71 26,018.67 31,000.55 41,023.26 Accrued taxes 3,199.27 2,846.85 13,243.07 2,089.76 3,074.26 Reserves for judgment 2,800.00 2,800.00 2,800.00 Reserves for insurance claim 11,656.59 8,325.33 3,950.33 Capital stock 200,000.00 200,000.00 200,000.00 200,000.00 200,000.00 Surplus 631,870.98 659,516.19 665,411.56 699,911.10 667,387.42 Total 862,263.24 894,954.58 942,166.09 994,506.32 955,658.96 *920 On September 11, 1928, a separation agreement was entered into between H. G. Randall and his wife, Laura Randall, under which H. G. Randall agreed to pay his wife $25,000 in cash and $300 per month until his wife had been paid an additional $75,000 without interest. Laura Randall agreed to accept these payments "as full settlement of all claims which she has as his wife against him or against his estate in the event she should survive him." The agreement further provided that, in the event of the death of H. G. Randall before the full $75,000 had been paid, "then the balance so unpaid at the time of his death is to be a claim against his estate and to be paid out of his estate in payments of $300.00 every month to her until fully paid in accordance with the terms of this agreement." H. G. Randall was survived by his wife, who is still living. Outside of the 600 shares of stock of the Creech Coal Co., he left a relatively small estate, made up of the following: Value $6,000 Georgia Power Co. 5% bonds $4,250 Life insurance 2,000 8 shares stock Thomaston Cotton Mill (pfd.) [320] 56 shares Randall Fuel Co. (common) 6,254 $1,500 Missouri Pacific bonds [300] $500 Republic of Argentine bond [500] 1/3 interest in Crystal River Fishing Lodge [500] *921 *99 The principal debts of H. G. Randall at the time he died were his obligations under the separation agreement and the large account he owed the Creech Coal Co. His son, L. H. Randall, who was the sole surviving executor of his father's estate, was concerned as to how he would liquidate these obligations. After certain conferences with the stockholders of the Creech Coal Co., it was finally agreed that the estate of H. G. Randall and R. W. Creech would each sell to the company 285 shares of the company's stock at $450 per share and that the consideration therefor should be credited against the personal accounts of these two stockholders, thus reducing their indebtedness to the company. On December 21, 1936, the stockholders of the Creech Coal Co. held a special meeting. A copy of the minutes of this meeting are as follows: Minutes of a special meeting of stockholders of the Creech Coal Co. held in the offices of the corporation in Twila, Kentucky, called in accordance with the by-laws, all of the stockholders being present or represented and voting thereat. Upon motion to be made and carried, Mr. R. W. Creech was duly appointed chairman of the meeting, and Mr. *922 R. D. Safriet, Secretary of the meeting. Upon motion duly made and carried, the following preambles and resolutions were unanimously adopted: Whereas certain stockholders of the company, to-wit, Mr. R. W. Creech and the estate of H. G. Randall, are heavily indebted to the corporation and Whereas it is deemed expedient that this indebtedness be reduced and liquidated as soon as possible and Whereas Mr. R. W. Creech and the Estate of H. G. Randall, through its proper representative and administrator, Mr. L. H. Randall, have offered to sell to the corporation 285 shares each of the stock of the corporation, Creech Coal Company at $450 per share, ex the dividend declared today, and have the proceeds thereof credited to their indebtedness, and Whereas it has been shown to the meeting that the price of $450 per share represents a fair value of the stock at the present time, Now, therefore, be it resolved that the offer of Mr. R. W. Creech and the estate of H. G. Randall be ordered accepted, and that the officers and directors of the corporation be, and they are hereby instructed to accept certificates for the afore-mentioned 570 shares, properly endorsed by said stockholders*923 and to place them in the treasury as treasury stock. After some discussion it was unanimously resolved that the 570 shares purchased shall be held in the treasury subject to withdrawal and sale only upon the unanimous vote of the stockholders. There being no further business to transact, upon motion duly made and carried, the meeting adjourned. On December 22, 1936, R. W. Creech wrote a letter to the Creech Coal Co., the body of which is as follows: In accordance with the resolutions of your stockholders and of your Board of Directors at meetings held on December 21, 1936, I am selling to you at the price of Four Hundred and Fifty Dollars ($450.00) per share, two hundred *100 and eighty-five (285) shares of my stock in your Company. In compliance with the terms of that sale I desire to transfer to you the following specified shares: (1) Seventy-five (75) shares of stock acquired by me from Will Ward Duffield on or about July 14, 1917; (2) Fifty (50) shares of stock acquired by me from Will Ward Duffield on or about July 14, 1917; (3) Fifty (50) shares of stock acquired by me from Grover H. Creech on or about July 23, 1925; (4) One Hundred and Ten (110) shares*924 out of the stock originally subscribed for by me and purchased by me directly from the Company upon its organization. I am delivering to you herewith, properly endorsed in blank, all of my certificates of stock in your Company, and request that you transfer to your Treasury out of said certificates the 285 shares of stock above specifically identified, and when you have done so, reissue to me a new certificate for the remaining shares which I may own in your Company. The instructions set forth in the letter just quoted were carried out by R. D. Safriet, the secretary and bookkeeper of the Creech Coal Co. The following stipulation was entered into at the hearing: It is agreed that Stock Certificate 18 of the corporation was issued to Mr. R. W. Creech for 150 shares of stock, at a cost to Mr. Creech of $15,000 or $100 per share; and Stock Certificate No. 49 of the corporation was issued to Mr. R. W. Creech for 132 shares and at a cost to Mr. Creech of $33,000, or $250 per share. It is further agreed that in the event the Board determines that there was a sale or partial liquidating dividend, and should further find that the petitioner has not successfully identified the*925 exact shares disposed of, then the Board may use, as the basis for gain or loss on the transaction, the cost of $28,500 on 285 shares. That refers to the stock of Mr. R. W. Creech. On December 22, 1936, R. W. Creech turned over to Safriet, properly endorsed in blank, all of the 550 shares of stock which he then owned in the Creech Coal Co., and which stock was represented by five certificates, numbered 18, 48, 49, 86, and 91, and Safriet delivered to Creech one certificate, No. 98 for 265 shares. Certificate No. 18 was for 150 shares which Creech had purchased from the Creech Coal Co. at the time it was organized at a cost of $15,000. Certificate No. 49 was for 132 shares which Creech had purchased from Duffield on or about July 14, 1917, at a cost of $33,000. Certificate No. 91 was for 50 shares which Creech had purchased from his son Grover on or about July 23, 1925, at a cost of $25,230.77. Certificates Nos. 48 and 86 were for the remaining 218 shares. The 285 shares which Creech sold to the Creech Coal Co. were identified as coming from the following lots: Number of shares Certificate No. Date acquired Cost [1915] $11,000.00 [1917] 31,250.00 [1925] 25,230.77 Total, 285 67,480.77 *926 *101 At or about the same time in 1936, the estate of H. G. Randall likewise sold to the Creech Coal Co. 285 shares of stock at $450 per share, or for a total consideration of $128,250. The fair market value of the stock of the Creech Coal Co. at the time it was acquired by the estate from the decedent H. G. Randall was $350 per share. The 570 shares thus acquired by the Creech Coal Co. were set up on the books of the company as treasury stock at a cost of $256,500. The offsetting credit entries were as follows: Personal account of R. W. Creech $94,500 Personal account of Estate of H. G. Randall 94,500 Joint stockholders' account 67,500 256,500 The credit of $67,500 to the joint stockholders' account still left a debit balance in this account of $10,500. This debit balance was then closed out by charging one-half to the personal account of R. W. Creech and one-half to the personal account of the estate of H. G. Randall. These charges of $5,250 each to the personal accounts are shown for the year 1936 in the column "Other debits" of the above schedules showing the analyses of the two personal accounts. Likewise, the two credits of $94,500 each*927 are included for the year 1936 in the amount of $101,625 appearing in the column "Other credits." The 570 shares were purchased by the Creech Coal Co. "ex the dividend declared" on December 21, 1936, of $25 per share. Each of the personal accounts was therefore credited on December 22, 1936, with $7,125 representing the dividend of $25 per share on the 285 shares sold, which with the credit of $94,500 makes up the total of the above amount of $101,625. During the year 1940 the Creech Coal Co. purchased additional coal lands adjacent to the coal which was then being mined, because their supply was being depleted, and paid therefor $190,000. In order to raise the $190,000 in cash to pay for the additional coal lands it became necessary to borrow from a bank of Cincinnati, Ohio, hereinafter referred to as the bank, as much of this amount as could be obtained. Upon approaching the bank for a loan the officers of the company were informed that under the laws of Arizona the company could not borrow in excess of two-thirds of its capital stock. The capital stock being $200,000 and the company owing some $1,000 in small debts, it was only possible for them to borrow $132,000. *928 In order to secure the loan of $132,000 from the bank, the Creech Coal Co. gave as collateral the 570 shares of capital stock of the Creech Coal Co. which were being held in its treasury subsequent to purchase from its two stockholders as above set out, and a note in the amount of $100,000 of the Randall Fuel Co. due October 31, 1946. The 570 *102 shares of treasury stock of the Creech Coal Co. are still up as collateral with the bank. On his income tax return for the calendar year 1936, petitioner Creech reported a capital loss of $75 on the sale of the 285 shares, and in a schedule attached to the return, he computed this claimed loss as follows: Shares Creech Coal Company Date acquired Date sold Gross sales price Cost Gain or loss Allowable 30% [50] 7-24-1925 12-22-36 $22,500 $25,000 $2,500 $750 [50] 7-14-1917 12-22-36 22,500 55,000 32,500 9,750 [110] 6-13-1917 12-22-36 49,500 11,000 38,500 11,550 [75] 7-14-1917 12-22-36 33,750 37,500 3,750 1,125 Total $128,250 $128,500 $250 $75 Petitioner Randall, in his 1936 income tax return, under "Schedule C - Capital Gains And Losses", reported the sale of the*929 285 shares as follows: 1. Description of property and period held 2. Date acquired 3. Date sold 4. Price 5. Cost 8. Gain or loss (c) Over 2 years but not over 5 years: 285 Shrs. Creech Coal Co Dec. 1933 Dec. 1936 $128,250 $128,250 None. The respondent, in his determination of the deficiencies herein, disallowed the claimed loss of $75 in the return of Creech, and in the case of each petitioner determined that the $128,250 credit to each petitioner should be treated as a taxable dividend under section 115(g) of the Revenue Act of 1936. The transfer in 1936 by each petitioner of 285 shares of stock of the Creech Coal Co. to the company in consideration for the cancellation by the company of an indebtedness of $128,250, owed the company by each petitioner, was a sale of the stock by each petitioner to the company, and was not made under such facts and circumstances as to make the transaction essentially equivalent to the distribution of a taxable dividend under section 115(g) of the Revenue Act of 1936 or to make them "amounts distributed in partial liquidation" of a corporation as that term is used in section 115(c) and defined in section*930 115(i) of the same act. OPINION. BLACK: In each of these consolidated proceedings, in his determination of the deficiencies, the Commissioner has held: (b) It is held that the acquisition by the Creech Coal Company of 285 shares of its common capital stock from you for a total consideration of $128,250.00 was essentially equivalent to the distribution of a taxable dividend under Section 115(g) of the Revenue Act of 1936. *103 Each petitioner, by an appropriate assignment of error, has contested the correctness of this determination, and that presents the principal issue which we have for decision. If it is decided in favor of the Commissioner, then the result is an affirmation of the deficiencies because other more or less minor adjustments made by the Commissioner in each taxpayer's return for the taxable year are not contested. On the other hand, if we decide the principal issue in favor of the petitioners, there are other issues enumerated in our preliminary statement which we must decide. Section 115(g) of the Revenue Act 1936, upon which the Commissioner relies, is printed in the margin. 1 *931 The pertinent part of article 115-9 of Regulations 94, which is the applicable regulation, is also printed in the margin. 2 *932 It will be noted that as an example of a distribution which will be generally considered as coming within the provisions of section 115(g) the regulation gives the following: "A cancellation or redemption by a corporation of a portion of its stock pro rata among all the shareholders will generally be considered as effecting a distribution essentially equivalent to a dividend distribution to the extent of the earnings and profits accumulated after February 28, 1913." Such a situation as described in the above quoted regulation was present in (petition for review dismissed, Ninth Circuit, Sept. 2, 1941), a case strongly relied upon by respondent in his brief. In the instant case, however, there was no redemption of a portion of its stock by the corporation pro rata among all its shareholders such as described in the Treasury regulations and as was present in the Levit case. There was a purchase by the corporation from two of its principal stockholders of a portion of their stock for the purpose of *104 substantially reducing their indebtedness to the company. The circumstances attending this purchase of stock have been*933 fully detailed in our findings of fact and will be discussed to some extent presently. While in the instant case, as we have already pointed out, the corporation did not purchase stock from its shareholders pro rata, nevertheless it is true that the Board has held that a pro rata redemption of stock is not necessary to bring the transaction within the provisions of section 115(g) if other facts and circumstances show that the distribution was essentially equivalent to the payment of a dividend. Such a case was , another case upon which the Commissioner strongly relies. In that case the taxpayer was the owner of 2,914 shares of the corporation's 3,000 shares of outstanding stock. Within the taxable year he delivered to the corporation 843 shares of his stock in consideration for the cancellation of his note for $66,679.22 given to the corporation in a prior year to settle up withdrawals which he had made from the corporation over a period of years. We held that the redemption was one essentially equivalent to the distribution of a taxable dividend under section 115(g) of the Revenue Act of 1932. We based our decision in that case largely*934 upon the fact that the taxpayer, who was in absolute control of the corporation, had failed to show any plausible motive other than tax evasion for causing the corporation to pursue the form of the transaction which was used. After enumerating certain things which the taxpayer in that case had failed to prove, we said: "* * * the failure, in short, on the part of petitioner to put forward any convincing affirmative reason for the redemption other than the motive apparent on the record of tax evasion, convinces us that the redemption of the 843 shares of the Natwick Co.'s stock on December 31, 1932, was essentially equivalent to a taxable dividend within the meaning of section 115(g) and should be, accordingly, so treated." Do the facts of the instant case bring it within the ambit of the Natwick case? Respondent strongly argues that they do. We disagree. The facts show that R. W. Creech and H. G. Randall, the two principal stockholders of the Creech Coal Co., over a period of years had become indebted to the corporation in large amounts. At the end of the year 1933 the debit balance of R. W. Creech was $210,383.29, and the debit balance of H. G. Randall was $221,166.67. *935 In addition to these sums they owed the corporation $75,000 on joint stockholders' account which represented the purchase price of 300 shares of stock acquired from the corporation prior to 1920. In December 1933 H. G. Randall died and left an estate heavily indebted to the corporation. The principal asset of the estate was the stock which it owned in Creech Coal Co. The remaining assets of the estate were of comparatively *105 small value and if sold would have paid only a very small part of the debt which the estate owed the corporation. L. H. Randall, who was the surviving executor of the estate and one of the officers and directors of the Creech Coal Co., testified that in 1936 he was anxious to get the indebtedness of his father's estate to the corporation reduced and that he knew of no other way that it could be done except to sell part of the stock which the estate owned in the corporation to the corporation, and have the sale price of the stock credited to the estate's debit accounts on the books of the company. He also testified that as officer and director of the corporation he was anxious to get the indebtedness of R. W. Creech correspondingly reduced on the*936 books of the corporation, that the indebtedness had stood for a long time, and that all parties in interest were anxious to get both debit accounts reduced. He testified that in 1936 negotiations were begun with R. W. Creech and certain minority stockholders of the corporation, and that it was finally agreed that R. W. Creech and the estate of H. G. Randall would each sell to the corporation 285 shares of stock at $450 per share, and that the corporation would credit the resulting amounts to the respective accounts of the debtors. The price of the stock was largely based upon its book value at the time of purchase, which was approximately $433 per share. This agreement was carried out on December 22, 1936. On December 21, 1936, a cash dividend of $50,000 was declared, being a dividend of $25 per share. Each of the personal accounts of R. W. Creech and H. G. Randall was credited on December 22, 1936, with $7,125 representing the dividend of $25 per share on the 285 shares sold. Other stockholders were paid their dividends in cash. If it be contended that the corporation, at the time of the purchase of the 570 shares in question, could have declared out of its surplus large*937 enough dividends to have credited the indebtedness of R. W. Creech and the Randall estate with as much as was paid them for the stock and still have been in no worse cash position, that, of course, would be true if these two had been the only stockholders. But they were not the only stockholders. They owned only 1,150 shares of the corporation's outstanding stock and other members of the Creech and Randall families owned 850 shares of the corporation's stock. To have declared a dividend sufficient to credit R. W. Creech and the estate of H. G. Randall with $256,500 on their accounts (which was the aggregate of the amounts credited by reason of the stock purchase), would have required a dividend in excess of $220 per share. Of course, in so far as R. W. Creech and the estate of H. G. Randall were concerned, that could have been done without the outlay of any cash. But to have paid a similar dividend and have paid it in cash to the other stockholders who were not indebted to the corporation, and it may be *106 remarked that corporate dividends are usually paid pro rata, would have required approximately $180,000 in cash. Evidently the corporation was in no position to pay*938 such a dividend at that time and there is no reason to believe that the directors would have agreed to pay a dividend of $220 per share to R. W. Creech and the estate of H. G. Randall and leave the minority stockholders out of the distribution. The $50,000 dividend which the corporation paid in December 1936 was substantially twice the earnings of the corporation in the combined years of 1935 and 1936 and was apparently as much as the corporation could have reasonably disbursed in dividends at that time. This case is not like such cases as , where stockholders turned in a ratable number of shares for cancellation and when the redemption and cancellation had been completed the stockholders owned exactly the same proportional interest in the corporation as they did before. That sort of a case falls squarely within the Treasury regulations which we have printed in the margin. As we have already pointed out, we have no pro rata redemption in the instant case. Here, after the purchase of the 570 shares of stock, the several stockholders owned substantially different proportional interests in the corporation than they did*939 before. The 570 shares of stock which were sold to the corporation were not canceled and retired, but were retained in the treasury of the corporation, and carried on its books as an asset at the cost figure of $256,500. In 1940 the corporation purchased additional coal lands adjacent to the coal seam which was then being mined, and paid $190,000 therefor. This additional coal land was absolutely necessary for carrying on the corporation's coal mining business. The negotiations for such purchase extended over a period of years, the corporation trying to buy for a less price than the owners asked. When it was finally purchased in 1940, the corporation had to borrow $132,000 of the money for the purchase from the First National Bank of Cincinnati, Ohio. It placed with the bank as collateral security for the loan the 570 shares of stock involved in this proceeding, and such shares are still held by the bank as collateral security for the loan. Thus, after weighing all the facts and circumstances of this case, we conclude that the purchase by the corporation of 570 shares of its common stock from two of its stockholders was for legitimate business purposes of both the corporation*940 and the two stockholders involved and was not essentially equivalent to the distribution of a taxable dividend. On this issue we hold in favor of the petitioners. Cf. . Another case urged by respondent, in favor of his determination that the acquirement by the corporation of the 570 shares in question was essentially equivalent to the distribution of a taxable dividend *107 under section 115(g), was . In that case a 500 percent stock dividend was declared in 1920, thereby capitalizing earnings to that extent, and in the taxable year 1935 each stockholder was given the privilege of turning in 10 percent of his stock at $100 per share rather than book value which was considerably more than $100 per share. Some of the stockholders, including the two principal stockholders, turned in their percentage of the stock for redemption in 1935 and others did so in subsequent years. In the Hirsch case, following , we held for the Commissioner. In this holding we said: Although it may not be said in these proceedings that there was any relation between*941 the declaration of the 500 percent stock dividend in 1920 and the redemption of the shares in 1935, we think that the evidence supports the determination of the respondent that the redemption of the shares was essentially equivalent to the distribution of a taxable dividend. * * * Our decision in the Hirsch case was affirmed by the Ninth Circuit on the ground that the Board's finding that the redemption of the stock was essentially equivalent to distribution of a taxable dividend is supported by substantial evidence. See . In the instant case the Creech Coal Co. had never paid a stock dividend and there was no pro rata redemption of the corporation's outstanding stock nor was any offer made to the stockholders of a pro rata redemption such as there was in the Hirsch case. In the Hirsch case the stock redeemed was canceled and retired, whereas in the instant case the 570 shares acquired have not been canceled, but are still held as treasury stock of the corporation. Because of these and other differences between the facts of the instant case and the Hirsch case, we do not regard the latter as controlling*942 in the instant case. It may well be that the Commissioner would have been justified in treating the withdrawals made by Creech and by Randall from the corporation in prior years as taxable dividends to them in the years in which such withdrawals were made, but we do not have that question before us and we, therefore, make no attempt to decide it. All the parties, the corporation, Creech, the estate of Randall, and the Commissioner, have treated the withdrawals as representing loans made by the corporation to these two stockholders and we have no cause to treat them otherwise. Regarding the respondent's alternative contention that the purchase by the corporation of the 570 shares in question was a partial liquidation of the Creech Coal Co., we hold upon the authority of , and , that the credits to each petitioner of $128,250 did not represent "amounts distributed in partial liquidation" as that term is used in *108 section 115(c) and defined in section 115(i) of the Revenue Act of 1936. We hold further that the transactions were ordinary sales of stock by petitioners to the Creech*943 Coal Co. at a price of $450 per share. Stock which is purchased by a corporation and held in its treasury is not retired stock. . This brings us to a consideration of the proper basis to be used in the case of ease petitioner. Petitioner Creech in his return claimed a cost basis for the 285 shares sold as follows: Date acquired Shares Cost June 13, 1917 [110] $11,000 July 14, 1917 [125] 92,500 July 24, 1925 [50] 25,000 Total [285] 128,500 The parties have stipulated that the 110 shares acquired June 13, 1917, cost $11,000 and that the 125 shares acquired July 14, 1917, cost $31,250; and the evidence shows that the 50 shares acquired July 24, 1925, cost $25,230.77. Petitioner Creech in his brief concedes that he is entitled to a cost basis of only the sum of these three amounts, which is $67,480.77, instead of $128,500 used in his return. On the other hand, the respondent contends that petitioner has failed to identify the shares sold and that, therefore, under the first in, first out rule, petitioner is limited, under the stipulation mentioned in our findings, to a cost basis for*944 the 285 shares of $100 per share or $28,500. Cf. ; ; . We think the evidence clearly proves that petitioner has identified the 285 shares sold as coming from certificate Nos. 18, 49, and 91, as fully set out in our findings, and that the cost basis of these shares is the above amount of $67,480.77. The gain to petitioner Creech should be recomputed upon that basis. The estate of H. G. Randall in its return claimed a basic for the 285 shares sold of $128,250, which incidentally is the same as the selling price. Section 113(a)(5) of the Revenue Act of 1936 provides that "If the property was acquired * * * by the decedent's estate from the decedent, the basis shall be the fair market value of such property at the time of such acquisition." The parties agree that the estate acquired the 285 shares of Creech Coal Co. stock in question from the decedent at the time of his death on December 3, 1933. They disagree only as to the fair market value of the stock on that date, petitioner contending it was $450 per share*945 and the respondent contending on brief it was $157.13 per share. The respondent *109 made no determination of the value of this stock in his deficiency notice, but in his brief he arrives at the value of $157.13 by taking the book value of the stock from the balance sheet of the company as of December 31, 1933, after eliminating as an asset the entire amount of the stockholders' accounts receivable in the amount of $545,261.01. We think that the elimination of this $545,261.01 is unwarranted. There is nothing in the record to indicate that these stockholders' accounts were not worth their face value. The stock of the Creech Coal Co. at the time of the death of decedent Randall on December 3, 1933, had a book value of approximately $429 per share. We don't think it can be held, however, that it had a fair market value at that time equal to its book value. For five years prior to decedent's death in 1933 the corporation had very substantial losses. Its losses as shown by its books were: 1928 loss, $15,175.17; 1929 loss, $46,292.35; 1930 loss, $52,271.00; 1931 loss, $79,741.27; 1932 loss, $47,206.29. It is true that the corporation had a profit in 1933, the year of*946 the death of the decedent, of $27,645.21, and for the next three years 1934, 1935, and 1936, the corporation also had profits. The fact that the corporation had made profits in the four years 1933, 1934, 1935, and 1936 probably accounts for the fact that in 1936 the corporation was willing to purchase the shares involved in this proceeding $450at per share, which was somewhat in excess of book value. It must be remembered, however, that it is not as of December 22, 1936, that we have to value the stock. The basic date as of which we must value the stock is December 3, 1933, and, as we have already pointed out, that date followed several years of very substantial losses, with the exception of the year 1933 itself. We have no evidence as to what value was placed upon the stock for estate tax purposes, following the death of H. G. Randall. No sales of the stock in question were shown at or near the basic date. The sales of the stock for $450 and $500 per share which are shown in the record occurred either in the years of big profits, 1917 to 1920, or within a few years thereafter. After considering all the evidence, such as the factors above mentioned and opinion evidence at*947 the hearing, which was rather meager, we have found as a fact that the fair market value of the stock of the Creech Coal Co. at the time it was acquired by the estate of H. G. Randall from the decedent was $350 per share. The gain on the 285 shares sold by the estate of H. G. Randall in 1936 should be computed accordingly. Reviewed by the Board. Decision will be entered under Rule 50. KERN, MELLOTT *110 KERN, dissenting: I respectfully dissent, for the reason that in my opinion the circumstances present in this case require the application of the principle stated by the Board in the case of J. Natwick,36 B.T.A. 866. MELLOTT, dissenting: I agree with the views expressed by Mr. Kern in his dissent. The two families, each of which owned 50 percent of the stock of the corporation, have collectively received more than a quarter of a million dollars of its earnings and profits. If the Commissioner had attempted to treat the withdrawals by the stockholders in the earlier years as dividends they would have successfully resisted. See *948 . Shall this substantial portion of the earnings go wholly untaxed? If "actualities" are considered the whole transaction was nothing more than a reciprocal cancellation of the indebtedness of the two families to their wholly owned corporation. But if the holding of the majority that section 115(g) is not applicable is correct, then I have considerable doubt as to the holding that section 115(c) is not applicable. That is premised upon the assumption the stock, under the rationale of William A. Smith and W. C. Robinson, cited in the majority opinion, was treasury stock. The provision contained in the minutes of the special meeting making the stock not subject to withdrawal or sale except "upon the unanimous vote of the stockholders" prevents it being true treasury stock; for "Treasury stock is an asset in the company's treasury and may be resold at any time as suits the corporate owner's purpose * * *." . (For the general effect of a restrictive covenant see *949 , and .) The majority place great reliance upon the testimony of the interested parties to the effect that all were anxious to reduce the indebtedness of the two principal stockholders. They collectively - ignoring in this connection the stock owned by other members of their families - owned 57 1/2 percent of the stock and the corporation had an earned surplus of more than two-thirds of a million dollars. There was no real reason for the corporation to fear that the indebtedness would never be paid or for the stockholders to fear that they would be unable to make payment. A portion of their stock could have been retired and their indebtedness liquidated at any time. Perhaps all were conscious of the fact that this would make the amounts previously withdrawn then taxable to them. This may well have been the reason they undertook to make it appear that the stock, though effectively retired, was still outstanding. OPPER agrees with this dissent. Footnotes 1. SEC. 115. DISTRIBUTIONS BY CORPORATIONS. * * * (g) REDEMPTION OF STOCK. - If a corporation cancels or redeems its stock (whether or not such stock was issued as a stock dividend) at such time and in such manner as to make the distribution and cancellation or redemption in whole or in part essentially equivalent to the distribution of a taxable dividend, the amount so distributed in redemption or cancellation of the stock, to the extent that it represents a distribution of earnings or profits accumulated after February 28, 1913, shall be treated as a taxable dividend. ↩ 2. Art. 115-9. Distribution in redemption or cancellation of stock taxable as a dividend. - * * * The question whether a distribution in connection with a cancellation or redemption of stock is essentially equivalent to the distribution of a taxable dividend depends upon the circumstances of each case. A cancellation or redemption by a corporation of a portion of its stock pro rata among all the shareholders will generally be considered as effecting a distribution essentially equivalent to [*] dividend distribution to the extent of the earnings and profits accumulated after February 28, 1913. On the other hand, a cancellation or redemption by a corporation of all of the stock of a particular shareholder, so that the shareholder ceases to be interested in the affairs of the corporation, does not effect a distribution of a taxable dividend. * * * in all other cases the facts and circumstances should be reported to the Commissioner for his determination whether the distribution, or any part thereof, is essentially equivalent to the distribution of a taxable dividend. ↩