*699 Pursuant to an agreement with its stockholders, a special dividend was duly declared by a national bank out of its undivided profits and paid to three trustees, acting in behalf and as agents of the stockholders, and was paid by the trustees to a state security corporation, owned by the bank, for the purpose of enabling the security corporation to purchase stock of a new national bank, which was created by changing a state trust corporation, also owned by the bank, to a new national bank and by merging the new national bank with another national bank theretofore wholly unconnected with such national bank and its security and trust corporations. Held, their pro rata shares of such dividend are taxable to petitioners, since it was paid out of undivided profits and constructively received by them.
*444 These proceedings, duly consolidated, are for the redetermination of deficiencies in income tax for the year 1929 as follows: Docket No. 62605, $579,76, and Docket No. 62907, $173.10.
The only question involved herein is whether the petitioners received*700 a taxable dividend in 1929 upon the declaration by the Old National Bank & Union Trust Co. of Spokane, Washington, of a so-called special dividend of $140,000.
*445 FINDINGS OF FACT.
The petitioners are residents of Spokane, Washington.
The Old National Bank & Union Trust Co., hereinafter referred to as the Old National, in 1929 and for many years prior thereto, was a national bank located at Spokane, Washington, with a capital in 1929 of $1,500,000. In about 1917 the Investment & Securities Co., hereinafter referred to as the Investment Co., a Washington corporation, was organized primarily to take over some of the ineligible assets of the Old National. Both state and national bank examiners favored the organization of such corporations by banks for the purpose of liquidating the slow and doubtful assets held by them. Accordingly, the Investment Co. was organized.
In 1926 it was planned to merge the Old National, which changed its name from Old National to Old National Bank & Union Trust Co. for that purpose at that time, and the Union Trust & Savings Bank, hereinafter referred to as the Union Trust, a Washington corporation located in Spokane, Washington, as*701 a result of which the latter corporation was to cease doing business. It was found, however, that a transfer of the assets of the Union Trust would not, under the law, effect a transfer of its trust business to the Old National. Therefore the Union Trust was permitted to retain and continue its trust business, with a capital of $200,000 and a surplus of $200,000, being the minimum capital permissible under the state law in city of the size of Spokane, and all of its remaining assets were transferred to the Old National.
On May 6, 1929, all of the stock of the Investment Co., with the exception of three qualifying shares, one share for each of the three directors of the company, and of the Union Trust, except 10 shares for each of its directors, was held by three trustees, Daniel W. Twohy, one of the petitioners herein, who in 1929 and prior thereto was also chairman of the board of directors of the Old National, T. J. Humbird, and W. J. C. Wakefield, in trust for the stockholders of the Old National. Each share of stock of the Old National carried with it, as an inseparable part thereof, a 1/15000 interest in the Investment Co. and also in the Union Trust. A provision to that*702 effect was printed on the certificates of stock of the Old National.
In February 1929 the Exchange National Bank, hereinafter referred to as the Exchange Bank, one of the oldest banks in Spokane, failed, and a receiver was appointed. The chief national bank examiner for the twelfth district, Daniel W. Twohy, petitioner herein, A. W. Winterspoon, chief counsel for the Old National and its companies, and the Comptroller of the Currency and his staff had numerous conferences pertaining to the grave financial situation *446 in Spokane; and they evolved a plan, now known as the Spokane plan, under which the Old National took over the assets of the Exchange Bank and released 60 cents on the dollar to its depositors. The Spokane plan was a plan under which a bank took over certain liquid assets of a closed bank to realize as large a sum as possible for the depositors and it contemplated that the bank taking over the defunct bank should be protected with a certain class of assets permitting it to make use of such assets during the time to protect the former bank and for the purpose of getting money to the depositors of the latter bank as soon as possible. Shortly after the closing*703 of the Exchange Bank there was a run on the Brotherhood Bank, at one time bearing the name of City National Bank, the clearing house of Spokane, which run extended to the Fidelity National Bank, hereinafter referred to as the Fidelity Bank, located about four doors from the Brotherhood Bank. Several smaller banks in the community failed. The morning following the closing of the Brotherhood Bank the Old National took over all its assets and assumed the deposits of that bank in full. The capital of the Fidelity Bank was impaired. The Fidelity Bank had assets which the examiners did not want in the bank, which amounted to $140,000. It was deemed imperative by those interested that means should be devised to improve the capital of the Fidelity Bank to avoid another bank failure, which would precipitate further trouble and financial difficulties in Spokane. The only way to raise $140,000 was to take it out of the surplus of the Old National.
There was another company, not affiliated with the Old National, which owned some twenty odd banks. It was the idea of those interested to organize a holding company to take over the Old National and the new First National Bank when its reorganization*704 was completed. This plan was consummated in 1929, the holding company being known as the Old National Corporation.
To relieve the financial condition and to nationalize the Union Trust so as to take over the controlling interest in the Fidelity Bank, the following transactions were entered into, all as a part of the greater plan contemplating the organization of the Old National Corporation. At a special meeting of the board of directors of the Old National held on May 6, 1929, the following resolution was adopted:
On motion of W. J. C. Wakefield, seconded by E. P. Twohy, and unanimously carried, it was voted to declare a special dividend of $140,000.00 to be used for the purpose of purchasing the good-will of the Fidelity National Bank in connection with the procedure wherein the Union Trust & Savings Bank will obtain a national charter, then purchase a certain amount of capital stock of the Fidelity National Bank as per certain agreement which reads as follows:
"We, the undersigned, stockholders of the Old National Bank and Union Trust Company of Spokane, do hereby expressly authorize and empower such *447 person or persons as the Board of Directors of the Old National*705 Bank and Union Trust Company may designate, to receive on my behalf and as my agent, the special dividend declared by the Board of Directors of the Old National Bank and Union Trust Company on the 6th day of May, 1929, to all stockholders of said Bank, aggregating the sum of $140,000.00, and I do hereby authorize the person or persons so designated by said Board of Directors to endorse such special dividend check or checks and use the proceeds arising therefrom on my behalf for the purpose of placing the same in the hands of D. W. Twohy, T. J. Humbird and W. J. C. Wakefield, as Trustees holding the capital stock of the Union Trust and Savings Bank for the respective stockholders from time to time of the Old National Bank and Union Trust Company, said fund being used in the nationalization of the Union Trust and Savings Bank and the merging of said Bank with the Fidelity National Bank of Spokane."
It was not contemplated that any stockholder would receive any part of the $140,000 dividend in cash or additional stock. No special dividend would have been declared had the stockholders insisted upon receiving cash or additional stock of the Old National. Pursuant to such resolution*706 and agreement, the Old National on June 29, 1929, issued its check in the amount of $140,000 to the three trustees, D. W. Twohy, T. J. Humbird, and W. J. C. Wakefield. The amount of $140,000 was charged to the account of "Undivided Profits" in the general ledger of the Old National under date of June 29, 1929, and designated as special dividend #100, and credited to the dividend account. The Union Trust was nationalized and received its national charter and changed its name to First National Trust & Savings Bank, hereinafter referred to as the First National Bank. Under date of July 10, 1929, the amount of $360,000, consisting of items of $140,000 and $220,000, was credited to the account of "Surplus and Undivided Profits" in the ledger of the Investment Co., with the following notation: "u. Tr. Co. - 1st Nat'l. (as per resolution 3/31/26)." The purpose of such transfer and entry was to place the surplus of the Investment Co. in a position where it could be used to purchase stock of the First National Bank. The amount of $360,000 as shown by the entry of July 10, 1929, was paid over to the First National Bank and stock received from it. The Fidelity Bank and the First National*707 Bank were merged in 1929 under the name of the First National Bank, with a capital of $500,000 and surplus of $50,000, consisting of the liquid or free assets of the Fidelity Bank of $190,000 over and above its liability to its depositors, capital and surplus of the Union Trust of $200,000, and the special dividend of $140,000. Prior to these transactions the stockholders of the Old National owned 100 percent of the Union Trust and after the merger the Investment Co. owned two-thirds of the new First National Bank. Prior to the merger of the Fidelity Bank and the First National Bank, there had been no connection between the Fidelity Bank and the Old National, the *448 Union Trust, or the Investment Co. The stockholders of the Fidelity Bank and the Old National were not similar.
The respondent determined that the amount of $140,000 constituted a taxable dividend to the stockholders of the Old National and, as appears from the statement attached to the notice of deficiency sent to petitioner Sara A. Twohy, he adjusted her taxable income as follows:
The dividend on the 95 shares of stock owned by you amounted to $886.67. The dividend on 1083 shares of stock owned by the*708 Estate of D. D. Twohy, of which you are the sole beneficiary, amounted to $10,108.00. Total dividends of $32,283.67 are disclosed by the report of Deputy Collector Thomas R. Fear, in which these amounts are included. As only $21,479.00 was reported on line 9 of your return, income has been increased by $10,804.67. Your return has, accordingly been adjusted as follows:
| Net income reported on return | $16,585.96 |
| Add: Dividends | 10,804.67 |
| Net income adjusted | $27,390.63 |
The respondent determined that the share of the petitioner, Daniel W. Twohy, in such alleged dividend was $5,021.34 and increased his reported income in that amount, resulting in the deficiency in tax here in controversy.
OPINION.
MCMAHON: The petitioners contend that the so-called dividend of $140,000 was such only in name and should not be regarded as a taxable dividend, being but a single step in a series of transactions not entered into for profit, not enriching any of the stockholders, and merely being a matter of bookkeeping. The respondent, however, contends that such dividend is taxable and that the facts herein are similar to those in *709 ; affd., ; certiorari denied, ; in which case a national bank declared a dividend which was applied to purchase stock in a trust company organized to transact business in which the national bank could not engage. The petitioners contend that the Lonsdale case, supra, is distinguishable as no subscription for stock was involved in the distribution herein, and that such distribution was not for the purpose of forming a new corporation, but an attempt to save a serious banking situation.
The evidence discloses that in February 1929 the Exchange Bank, one of the oldest banks of Spokane, failed; that thereafter the Brotherhood Bank, located near the Fidelty Bank, after a run upon it, closed, which caused a run on the Fidelity Bank and the failure of several smaller banks; that it was decided to nationalize the Union Trust and merge the Fidelity Bank with the Union Trust; that there were some assets which the examiners did not want in the bank, amounting to $140,000, and the only way to raise the $140,000 was *449 to take it out of the surplus*710 of the Old National; and that the special dividend was declared and the Union Trust nationalized and merged with the Fidelity Bank, not only to relieve the threatened financial difficulties of the Fidelity Bank and such as might result from its threatened failure, but also as a part of a comprehensive plan which involved the creation of a holding company, known as the Old National Corporation, for the purpose of taking over the Old National and the First National Bank. Whatever causes or reasons prompted the issuance of the dividend of $140,000, the evidence shows that the dividend was issued out of the undivided profits of the Old National, and there is no evidence showing that it received anything in return therefor. The evidence further shows that pursuant to the agreement with the stockholders the $140,000 was turned over to the three trustees and by them turned over to the Investment Co., which in turn paid it to the First National Bank, together with the $220,000 capital and surplus of the Union Trust, and that the Investment Co. received therefor stock of the First National Bank. These facts show that the provisions of the resolution were substantially carried out. While*711 the resolution stated that "the Union Trust & Savings Bank will obtain a national charter, then purchase a certain amount of the capital stock of the Fidelity National Bank", which quoted provision is open to the construction that the Union Trust after being nationalized would buy the stock of the Fidelity Bank, it however stated, following the quoted provision, "as per agreement" of the stockholders, which provided for a merger of the two banks. As stated on brief by petitioners, , is authority for the principle that a national bank can not lawfully purchase stock in another national bank. It was known that neither the Old National nor the First National Bank could take over the Fidelity Bank by a purchase of its stock. The purchase of its good will and stock was accomplished bt merger with the First National Bank as expressly provided in the stockholders' agreement. The language of the resloution proper must be construed in the light of the stockholders' agreement which is a part of the resolution. In our opinion the proof does not disclose an abandonment of the plan as outlined in the resolution as*712 claimed by the petitioners.
Although the capital and surplus of the Union Trust and the dividend, in both of which the stockholders of the Old National had a prior interest, was used in these transactions, a new and different entity, with different rights and powers and subject to other laws, was created by the merger of the Union Trust, changed from a state trust company to a national bank under Federal laws, and an entirely theretofore unconnected and unaffiliated national bank. The dividend was declared by the Old National and its stockholders consented *450 to have such dividend applied to the purchase of the stock of the First National Bank, a new entity, separate and distinct from the Union Trust and possessing new and different assets from those theretofore possessed by the Union Trust. It is to be noted that the Fidelity Bank was not taken over under the so-called Spokane plan, as were the Exchange Bank and the Brotherhood Bank. As far as we know no dividend was declared and paid by the Old National to take over such banks. The case of *713 , is also controlling here. It involved a similar question and the facts therein are more similar to those in the instant proceedings than the facts in the Lonsdale case, supra, in that there the plan involved no subscriptions for stock and the stockholders did not receive stock in exchange for the dividend; the plan called for the unanimous consent of the stockholders in advance of the dividend declaration, the stockholders having no other alternative than to apply the dividend in the manner proposed; the dividend was paid to trustees, and the certificates of stock of the parent company were endorsed to show that they carried with them a pro rata share in the new corporation. The Board therein held that a dividend declared by a national bank, which pursuant to an agreement with its stockholders was paid to trustees for their account for the purpose of organizing a subsidiary corporation and acquiring its capital stock, is taxable income to the stockholders though not actually received by them. Under the agreement of the stockholders, the stockholders expressly authorized and empowered the person or persons to be designated*714 by the Old National to receive on their behalf and as their agent the special dividend declared by such bank, and under that agreement the bank turned over the check covering the dividend to the three trustees, who tereby became the agents of the stockholders to receive the dividend in their behalf. The receipt of income by an agent is receipt by the principal. ; affd., ; certiorari denied, ; ; . The facts here are not so different as to justify a conclusion other than that reached in the Lonsdale case and the Andrews case.
It was testified by the chief counsel of the Old National that no "profit was contemplated out of the transaction"; that the "$140,000 was really a loss" and that it was not expected that the stockholders of the Old National would be benefited by the transaction. Daniel W. Twohy, petitioner, testified that there was no thought of profit in the declaration of the dividend and that "In fact, we knew it would entail a loss." However, there is no evidence*715 showing that the $140,000 was lost to the stockholders in 1929. It was invested in the new First National Bank and as far as we know it remained *451 in that bank during 1929. We are not concerned here with the question of whether or not the investment of the dividend was intended to be or proved to be profitable to the stockholders or to the companies involved. The question before us is whether under all the circumstances present here the special dividend of 1929 is taxable to these petitioners.
The respondent, in effect, determined that the special dividend herein constituted taxable income to the petitioners under section 22 of the Revenue Act of 1928, which provides that gross income includes, among other things, "gains or profits and income from any source whatever." Furthermore, section 25 of the 1928 Act provides that there shall be allowed as a credit against net income, for the purpose of the normal tax, but not for the surtax, the amount received as dividends from a domestic corporation, and section 115(a) of the same act defines "dividend" as "any distribution made by a corporation to its shareholders, whether in money or other property, out of its earnings*716 or profits accumulated after February 28, 1913." (Emphasis supplied.) These provisions contemplate that dividends are a part of taxable net income and that they are allowable as a credit for the purpose of computing the normal tax only. The dividend here is also within the definition of section 115(a), since, as heretofore stated, it was distributed out of the undivided profits of the Old National to the trustees acting on behalf of its stockholders and as their agents.
The burden of proof that their prorata shares of such dividend was not income to them rested upon the petitioners. . In our opinion they have failed to discharge such burden.
We are of the opinion that the dividend of $140,000 distributed by the Old National Bank is taxable as such, and the action of the respondent herein is approved.
Decision will be entered for the respondent.