1940 BTA LEXIS 938">*938 Petitioner is not a holding company within the statutory definition of section 351(b)(1) of the Revenue Act of 1934, and hence is not taxable under section 351(a).
42 B.T.A. 927">*927 This proceeding was brought to redetermine a deficiency in the surtax of the petitioner for the fiscal year ended June 30, 1935, in the sum of $20,423.44. A penalty of $5,105.86 is also involved.
The issues are: (1) Whether or not the petitioner was a personal holding company as defined in section 351(b) to the Revenue Act of 1934 and (2), in the alternative, whether or not the petitioner was entitled to deduct a loss sustained upon liquidation of its subsidiary, the Bechtel Co., Inc.
FINDINGS OF FACT.
The facts were stipulated and in so far as they are material to the issues are substantially as follows:
The petitioner is a corporation, having been organized under the laws of Delaware on May 8, 1933, under the name of "W. A. Bechtel Co., Inc." It began business on July 1, 1933. Its name was duly changed to "W. A. Bechtel Co." on or about October 1, 1934. Its principal1940 BTA LEXIS 938">*939 office and place of business is at San Francisco, California.
The petitioner duly filed its corporation income and excess profits tax return for the fiscal year ended June 30, 1935, on Form 1094 and filed no other return for that year. In its return it stated that its business 42 B.T.A. 927">*928 was "construction contractor." The return contained the following items of gross income and deductions:
| Gross Income | ||
| Gross income from construction work | $133,622.16 | |
| Interest on loans, notes, mortgages, bonds, bank deposits, etc | 859.45 | |
| Rental of equipment | 7,788.59 | |
| Profit from joint ventures | M-51,254.04 | |
| Capital gain or loss | 8,717.14 | |
| Dividends on stock of domestic corporations | 391,169.00 | |
| Other income | 32,415.33 | |
| Total income | 523,317.63 | |
| Deductions | ||
| Compensation of officers | $10,900.00 | |
| Rent on business property | 2,427.00 | |
| Interest | 8,987.21 | |
| Taxes | 3,943.87 | |
| Bad debts | 5,000.00 | |
| Dividends | 391,169.00 | |
| Depreciation | 14,860.87 | |
| Salaries and wages | 7,034.22 | |
| Cost of construction work | 135,032.60 | |
| Other expenses | 37,220.74 | |
| 616,575.51 | ||
| Net income | M-$93,257.88 | |
The return also showed the following assets, among others, at the beginning1940 BTA LEXIS 938">*940 and end of the taxable year:
| Beginning of year | End or year | |
| Notes and accounts receivable | $999,394.48 | $191,875.95 |
| Supplies and materials | 2,561.22 | |
| Obligations of state, etc | 17,283.80 | 17,283.80 |
| Stocks, domestic corporations | 993,496.10 | 729,401.01 |
| Other investments | 150,254.74 | 117,120.65 |
| Land and buildings | 48,134.10 | 48,134.10 |
| Machinery and equipment | 265,952.18 | 225,808.67 |
| Office equipment | 11,192.09 | 11,355.66 |
| Track | 2,320.92 | 2,320.92 |
| Warehouse equipment | 7,316.50 | 7,316.50 |
The dividends of $391,169 were received from the following corporations:
| Bechtel-Kaiser-Warren Co | $382,000 |
| Industrial Underwriters Inc | 8,869 |
| American Tel. & Tel. Co | 225 |
| R. J. Reynolds Tobacco "B" | 75 |
42 B.T.A. 927">*929 The profits from joint ventures were as follows, as they appeared on the partnership returns duly filed:
| Fiscal year ended | Profit | |
| W. A. Bechtel Co. and Henry J. Kaiser | December 31, 1934 | $1,131.58 |
| W. A. Bechtel Co., Henry J. Kaiser Co., and Southern California Roads Co | February 28, 1935 | M-52,390.51 |
| W. A. Bechtel Co. and Utah Construction Co | December 31, 1934 | 4.89 |
| Total | M-51,254.04 |
The petitioner's "other1940 BTA LEXIS 938">*941 income" consisted of $22,313.39 "fees from other companies", $9,753.85 sales of salvage materials, and $348.09 miscellaneous income. Its capital gain item was derived from the sale of 100 shares each of stock of the R. J. Reynolds Tobacco Co. "B" and American Telephone & Telegraph Co., 700 shares of Six Companies of California, 97 shares of Utah-Bechtel-Morrison, Inc., and 850 shares of Bechtel Co. Equipment, the latter three companies being engaged in operations relating to the construction business. Among the petitioner's expenditures were $10,918.51 for estimating and bidding, $7,996.82 for traveling expenses, and $4,255.19 for equipment maintenance.
On August 25, 1934, the petitioner, at that time acting under its former name, "W. A. Bechtel Co., Inc.," and the Henry J. Kaiser Co., entered into a written contract with the Standard Oil Co. of California, for the consideration therein named, to perform certain work in connection with the removing from the ground, cleaning, and hauling to the Kettleman Pipe Reclamation Plant of the Standard Oil Co. of California of approximately 110 miles of 12-inch pipe belonging to the latter company. The contract provided for a lineal foot1940 BTA LEXIS 938">*942 compensation for ditching, for lifting pipe (including cutting collars and joints, etc.), and for loading and hauling the pipe. Extra work was also included on a cost-plus basis. The contract was assignable only with the consent of the oil company.
On October 3, 1934, the petitioner acquired, for the consideration of $11,500, all of the right, title, and interest of the Henry J. Kaiser Co. in and under the contract dated August 25, 1934, and to all of the proceeds to be derived from the performance of that contract. The oil company consented to the assignment of the Kaiser Co.'s interest.
On October 4, 1934, the petitioner and the Bechtel Co., a Nevada corporation, hereinafter called the Nevada corporation, entered into a written agreement, providing that the Nevada corporation would perform fully and completely all of the work required of the petitioner to be done under the provisions of the contract of August 25, 1934. The unit prices were slightly under those named in the 42 B.T.A. 927">*930 August 25, 1934, contract. Thereafter, and prior to June 30, 1935, the Nevada corporation performed all of the work required to be performed under the contracts of August 25 and October 4, 1934. 1940 BTA LEXIS 938">*943 During the fiscal year ended June 30, 1935, the Standard Oil Co. of California paid to the petitioner, pursuant to the contract of August 25, 1934, the sum of $133,622.16 in four installments, termed "estimates", and after completion of the work a fifth installment representing the percentage retained pursuant to the terms of the contract. The work performed consisted of excavating and lifting 502,405 feet of pipe, loading and hauling 501,248 feet of pipe, and certain extra work similar thereto. During that year the petitioner paid to the Nevada corporation, pursuant to the provisions of the contract of October 4, 1934, the sum of $123,532.60.
Throughout the entire fiscal year ended June 30, 1935, petitioner's outstanding stock consisted of 1,561 shares of common capital stock of no par value, of which 1,483 shares were owned, directly, by three individuals. All of such shares of common stock were of equal value. During the fiscal year ended June 30, 1935, the petitioner declared and paid dividends to its stockholders in the amount of $229,467.
In his determination of the deficiency involved in this proceeding, the respondent determined that the petitioner is a personal holding1940 BTA LEXIS 938">*944 company, and in his deficiency notice made the following statement:
Inasmuch as 80 percent or more of your gross income for the taxable year was derived from dividends, interest, and gains from the sale of stock, and more than 50 percent in value of your outstanding stock was owned by not more than five individuals, your company was a personal holding company during the taxable year within the meaning of section 351(b) of the Revenue Act of 1934 and subject to the surtax imposed by that section.
On July 1, 1933, the petitioner purchased all of the capital stock of the "Bechtel Company, Incorporated," a California corporation, hereinafter called the California corporation, for a total sum of $404,800. The petitioner and the California corporation filed a consolidated return for the fiscal year ended June 30, 1934. The operations of the California corporation during that fiscal year resulted in a net profit, incorporated in the consolidated return so filed.
During the fiscal year ended June 30, 1935, and on June 28, 1935, the California corporation transferred all of its assets to and all of its liabilities were assumed by the petitioner by way of a distribution in complete1940 BTA LEXIS 938">*945 liquidation and dissolution. On such transfer, the petitioner received assets having a value of $264,340.36 and assumed liabilities of $4,409.95. At the time of the liquidation and dissolution all of the outstanding capital stock of the California corporation was owned by the petitioner. The loss resulting from the liquidation and dissolution of the California corporation was attributable to the distribution by the California corporation to the petitioner, by way 42 B.T.A. 927">*931 of dividends, during a period in which the corporations were affiliated, of earnings or profits accumulated prior to the date upon which the distributing corporation, the California corporation, became affiliated with the petitioner.
OPINION.
VAN FOSSAN: The first issue presents the question whether or not 80 percent or more of the petitioner's gross income for the fiscal year ending June 30, 1935, was derived from royalties, dividends, interest, annuities, or gains from the sale of stocks or securities, the petitioner not being a regular dealer therein, and thus brought it within the definition of a personal holding company contained in section 351 of the Revenue Act of 1934. 1 It is stipulated that1940 BTA LEXIS 938">*946 more than 50 percent in value of its outstanding stock was owned by not more than five individuals.
1940 BTA LEXIS 938">*947 As will appear later in the opinion, the specific item which determines the qualifying percentage is the transaction with the Standard Oil Co. of California, covered by its contract with the petitioner and the Kaiser Co. dated August 25, 1934. The completion of that contract resulted in the payment of $133,622.16 to the petitioner for the work described therein.
The petitioner secured a subcontractor (Nevada corporation) to perform the work and paid it $123,532.60. It also paid $11,500 to the Kaiser Co. for the assignment of the company's interest in the contract. In its income tax return for the taxable year the petitioner included in its gross income the amount received from the oil company and claims that it rightfully belongs there, since it was derived from the operation of its business.
The petitioner insists that it is essentially an operating company engaged in construction work. We think that the record supports its contention. In its income tax return, it stated its business to be "construction contractors." Its return showed profits or losses from three "joint ventures" in construction enterprises, the net income or 42 B.T.A. 927">*932 loss from which reported on partnership1940 BTA LEXIS 938">*948 returns. The petitioner received "fees from other companies" and made substantial sales of salvage materials. Its schedules showed large sums representing construction and warehouse equipment, lands and buildings, track, etc. Its listed expenditures included the cost of estimating and bidding, traveling charges, and equipment maintenance, etc. From these facts and figures, garnered from the petitioner's return, we have no reason to doubt that it was actively engaged in the business of construction contracting.
The respondent asserts that the petitioner's gross income consists of the following items:
| Interest | $859.45 |
| Rental | 7,788.59 |
| Capital gain | 8,717.14 |
| Dividends | 391,169.00 |
| Other income | 32,415.33 |
| "Gross Income" | 440,949.51 |
He excludes the controversial item of $133,622.16 because, as he says, the transaction resulted in a loss of $1,410.44. He argues that gross income may be derived from two sources, services and capital, and that the amount received from the oil company was from neither.
The petitioner contends that the contract with the oil company was entered into in the usual course of its normal business, that the entire amount received therefrom1940 BTA LEXIS 938">*949 was properly included in its gross income, and that the cost of performing the contract was duly and properly deducted.
As we view the record, the question is a comparatively simple one. The petitioner and the Kaiser Co. agreed with the oil company to remove and haul away about 110 miles of 12-inch pipe. The petitioner later bought out the Kaiser Co.'s interest in the contract. It then subcontracted the work to the Nevada corporation, by which it was completed. The entire transaction resulted in a small loss, due, doubtless to the fact that the pipe mileage was reduced from 110 miles to less than 96 miles. It is immaterial whether the contract produced a loss or a gain. Obviously, it was entered into for profit.
The Nevada corporation, as a subcontractor (and so designated in the contract of October 4, 1934), was the agent of the petitioner to perform a special and designated task. The petitioner received from the oil company the contract price for producing the work specified in the agreement of August 25, 1934. Pursuant to the contract of October 4, 1934, the petitioner paid to the Nevada corporation the agreed price for accomplishing the purpose of the former contract. 1940 BTA LEXIS 938">*950 There was no assignment to the Nevada corporation of the petitioner's rights under its contract with the oil company, whose assent to any assignment 42 B.T.A. 927">*933 was required and was, in fact, secured when the petitioner purchased the Kaiser Co.'s interest. On the contrary, the oil company continued to look to the petitioner to render the specified services and the petitioner, in turn, held the Nevada corporation responsible for completing the actual work. In its dealings with the petitioner, the oil company in no way recognized the Nevada corporation as having any interest or rights in the contract between the petitioner and the oil company.
It would scarcely be contended that, if the petitioner had contracted with different persons to execute various parts of the contract, e.g., with one, to remove the pipe, with another to clean it, and with a third, to haul it away, and had employed an expert to supervise the entire project, the amounts paid under the prime contract would not be included in the petitioner's gross income and the amounts paid to subcontractors and employees would not be listed in the petitioner's deductions.
The respondent, on brief, also charges that the1940 BTA LEXIS 938">*951 transaction was "designed and calculated as a device by means of which the petitioner sought to escape its just burden of taxation." We find in the record no suggestion of such a motive. As we have said heretofore, the subject matter of the contract was completely in accord with the petitioner's business. The total amounts paid by the oil company, therefore, were properly included in the petitioner's gross income derived from that business. It follows that the petitioner is not subject to the statutory penalty imposed by the respondent for failure to file a return on Form 1120H as prescribed by article 351-8 of Regulations 86.
In view of our holding on the above issue, it becomes unnecessary to discuss the second, or alternative, issue.
Decision will be entered under Rule 50.
Footnotes
1. SEC. 351. SURTAX ON PERSONAL HOLDING COMPANIES.
(a) IMPOSITION OF TAX. - There shall be levied, collected, and paid, for each taxable year, upon the undistributed adjusted net income of every personal holding company a surtax equal to the * * *
* * *
(b) DEFINITIONS. - As used in this title -
(1) The term "personal holding company" means any corporation (other than a corporation exempt from taxation under section 101, and other than a bank or trust company incorporated under the laws of the United States or of any State or Territory, a substantial part of whose business is the receipt of deposits and other than a life-insurance company or surety company) if - (A) at least 80 per centum of its gross income for the taxable year is derived from royalties, dividends, interest, annuities, and (except in the case of regular dealers in stock or securities) gains from the sale of stock or securities, and (B) at any time during the last half of the taxable year more than 50 per centum in value of its outstanding stock is owned, directly or indirectly, by or for not more than five individuals. * * * ↩