*3557 1. INVESTED CAPITAL. - Each one of six corporations engaged in the same line of business, transferred its business in a particular locality to a newly organized corporation. The properties conveyed consisted of fixed assets, cash and intangibles. For these assets the new corporation issued 93 per cent of its preferred and 78 per cent of its common stock, but neither one of the selling corporations received for its assets conveyed as much as 50 per cent of the total of either preferred or common stock. Held, that the restriction as to invested capital under section 331 of the Act of 1918 did not apply to the purchasing corporation, in respect to the assets acquired.
2. INVESTED CAPITAL. - INTANGIBLES. - The proof held insufficient to determine the value of certain intangible assets.
3. SPECIAL ASSESSMENT. - The evidence contained in the record of this case, held, not to make such a prima facie case as would entitle the petitioner to assessment of profits taxes under the provisions of sections 327 and 328 of the Revenue Act of 1918.
*328 This proceeding arises from the respondent's determination of a deficiency in income and profits taxes for the period from March 1 to December 31, 1920.
The petitioner complains (1) of the elimination from its alleged invested capital of the amount of $474,814.11; (2) of respondent's denial of assessment of profits taxes under section 328 of the Revenue Act of 1918.
FINDINGS OF FACT.
The petitioner, a Delaware corporation, with principal place of business at Jersey City, N.J., was organized on January 23, 1920, for the purpose of dealing in coal, with an authorized capital of 10,000 shares of preferred stock of a par value $100of per share and 40,000 shares of common stock with no par value. The petitioner was organized for the purpose of acquiring the Jersey City businesses of six retail coal companies, E. L. Young & Co., R. H. Perry Co., James Coyle, Inc., Bergen Coal Co., Burns Brothers, and Lehigh Valley Coal Sales Co. The average annual coal sales and the fixed tangible assets of the respective business were as follows:
| Average annual | Fixed tangible | |
| coal sales- | assets contri- | |
| short tons | buted to the | |
| new company | ||
| Lehigh Valley Coal Sales Co | 85,625.13 | |
| E. L. Young Co. (Jersey City and N.Y. City) | 130,856.01 | $48,868.40 |
| R. H. Perry Co | 89,627.15 | 145,906.53 |
| James Coyle, Inc | 36,924.09 | 38,446.92 |
| Bergen Coal Co | 11,352.17 | 25,028.19 |
| Burns Bros. (Jersey City only) | 71,449.08 | 47,318.18 |
| Total | 425,836.03 | 305,567.22 |
*3559 *329 Each of the above-named corporations entered into a contract with the petitioner to transfer to the petitioner all of the above described fixed tangible assets and to contribute cash aggregating $191,932.78, and also to assign and set over to the new company all of the leases, contracts, coal trade, good will, and all intangibles pertaining to their several coal selling businesses in Jersey City, and in case of E. L. Young & Co., the same assets respecting their New York City trade. The new company agreed to issue to each of the constituent companies preferred stock of a par value equal to the agreed values of fixed assets and cash contributed, and to issue to each company common stock having no par value on a basis of four shares for each $100 cash contributed and three shares for each 100 tons of annual average sales of coal as shown in the foregoing tabulation. In connection with the promotion of this new organization there was organized a so-called underwriters syndicate and in each of the contracts with the above constituent companies there were provisions to the effect that this syndicate would supply a certain amount of cash to the new company for which it would*3560 receive a similar amount of preferred stock at par, and, in addition, eight shares of common stock for each $100 of cash so supplied. These contracts further provided that the constituent companies might require the syndicate to supply any part of the cash which the former were to contribute to the new corporation, in which event the syndicate was to receive a similar amount of preferred stock at par and also four shares of common stock for each $100 of cash so supplied.
The Lehigh Valley Coal Sales Co. contributed $25,687.54 in cash but no fixed tangible assets. It did, however, enter into a contract with the new company under which it obligated itself to furnish during each year for a period of 10 years the maximum of $250,000 tons of coal per year at prices based upon agreement contained in the contract.
Pursuant to these organization contracts the new company acquired the fixed assets, cash, and intangibles, and issued the new company's preferred and common stock to the constituent companies and the underwriters as follows:
| Preferred stock | Common stock | |
| Lehigh Valley Coal Sales Co | 256 | 3,596 |
| E. L. Young Co. (Jersey City and New York City) | 881 | 5,496 |
| R. H. Perry Co | 1,727 | 3,764 |
| James Coyle, Inc | 495 | 1,551 |
| Bergen Coal Co | 284 | 477 |
| Burns Bros. (Jersey City only) | 687 | 3,001 |
| Underwriters Syndicate | 639 | 5,110 |
| Total | 4,969 | 22,995 |
*3561 *330 In effecting the capital adjustments as shown above the petitioner acquired from E. L. Young & Co., a coal yard known as the Wertheim Yard not included in the tangible assets above described and allowed Young a cash credit therefor in the amount of $27,491.88. Petitioner also transferred to Burns Brothers that portion of the E. L. Young & Co. physical assets pertaining to and connected with the Young Company's New York sales, for which Burns Brothers paid in cash $27,144.43. The petitioner also transferred to Burns Brothers the good will and other intangibles allocated to the E. L. Young & Co. New York sales, for which Burns Brothers paid into petitioner in cash $45,163.30.
Some of the retail companies mentioned were large companies operating at other points as well as Jersey City. None of the companies mentioned went out of business as a result of these transactions but continued in the operation of other lines of business in which they were interested, and their assets acquired by petitioner were not the entire assets of the respective companies but only those pertaining to the coal businesses operated by them at Jersey City.
On March 18, 1920, the board of*3562 directors of petitioner adopted the following resolution which was entered on the minutes:
After a full discussion it was unanimously RESOLVED that in the opinion of the directors, the good will, leaseholds, and contract rights under Lehigh Valley Coal Sales Co., contract acquired by this Company at the time of organization have values equal to or exceeding the following amounts.
E. L. Young Co., New York tonnage not including any leasehold values, 55?? per ton of average annual tonnage 82,115.1 cwt. $45,163.30.
Jersey City tonnage of E. L. Young Co., Burns Brothers, R. H. Perry Co., James Coyle, Inc., Bergen Coal Co., and Lehigh Valley Coal Sales Co., contract, $1.25 per ton of annual average tonnage 343,720.13 cwt. $429,650.81.
On motion unanimously RESOLVED that the good will, leaseholds and contract rights aforesaid be valued at the sum of $474,814.11 and entered in the books of account of the Company at such amount as the value of the consideration received by the corporation for the 22,995 shares without nominal or par value of the Common Capital Stock of the corporation issued as heretofore authorized by this Board.
The petitioner began business on March 1, 1920, and*3563 during the ten months ended December 31, 1920, produced taxable net income as adjusted by the respondent in the amount of $210,145.18, and in its *331 income-tax return for that period claimed invested capital at the beginning of business in the amount of $972,314.11. The respondent eliminated $474,814.11 as being an unauthorized and unproven value of good will acquired for stock.
OPINION.
TRUSSELL. Section 331 of the Revenue Act of 1918 provides:In the case of the reorganization, consolidation, or change of ownership of a trade or business, or change of ownership of property, after March 3, 1917, if an interest or control in such trade or business or property of 50 per centum, or more remains in the same persons, or any of them, then no asset transferred or received from the previous owner shall, for the purpose of determining invested capital, be allowed a greater value than would have been allowed under this title in computing the invested capital of such previous owner if such asset had not been so transferred or received.
By the organization of petitioner and the acquisition of the properties here involved, there was no reorganization or consolidation effected*3564 of the several interested corporations. Petitioner merely acquired from each of six separate corporations fixed assets and cash in various amounts, together with good will and other intangibles, and for these, in each case, it issued its capital stock. As a result of these transfers none of the selling corporations received as much as 50 per cent of the issued stock of petitioner. The selling corporations were in no way affiliated.
Respondent argues that under such conditions the interests acquired in the purchasing corporation by the individual owners of the separate properties conveyed should be combined, and if the sum total amounts to a 50 per cent interest or control, then the limitation on invested capital provided by section 331 applies. To this construction we do not agree. Section 331, quoted above, applies to instances of individual acquirement of "a trade or business" or individual "change of ownership of property" in the sense that the business or property, as the case may be, is acquired from one owner or several joint owners. It is clear to us that Congress by this provision intended to restrict those reorganizations or consolidations effected, or transfers*3565 of property made, with the intent of capitalizing unrealized appreciation in asset values, and provided, in effect, the test for such intent to be the retaining of an interest or control of 50 per cent or more in the property conveyed. In those cases where the former owner or owners of the particular property was willing to surrender the interest or control of 50 per cent or more which he or they theretofore held in the property, the limitation on invested capital would not apply.
The construction which respondent places on the section quoted would lead to results which, in our opinion, were never contemplated. *332 For instance, a corporation which purchased assets of a determinable value from another for 49 per cent of its capital stock, and thereupon was entitled to include that value in its invested capital, might lose such right if it subsequently purchased from another corporation an asset for 1 per cent of its stock; or a corporation purchasing assets from each of 50 corporations, in a similar number of transactions, for 1 per cent of its stock in each case, might be denied the inclusion in its invested capital of the values so acquired. The conclusion that*3566 the restriction sought to be imposed by Congress in enacting section 331 was never intended to apply to such transactions, does not require argument.
Our conclusion that the limitation on invested capital provided by section 331 does not apply in this case does not, however, permit the inclusion in petitioner's invested capital of any amount on account of the intangible assets acquired for stock. No cost to the former owners is shown for these assets and the evidence in the record is insufficient for us to determine their actual value. The resolution by petitioner's board of directors declaring them to have a certain value and their entry on the books of the company in that amount is not proof of that fact. .
The only additional evidence as to value of these assets is the testimony of the secretary of petitioner who gave it as his opinion that they were worth in excess of the amount entered on the books, based on the productive earnings of the corporation for the 10 months of operation following their acquisition, but we are unwilling to find a value on the basis of earnings for a short period which may have resulted from a*3567 purely temporary condition and not be representative of the regular and average income producing value of the assets.
It appears, however, that in the amount of $474,814.11, eliminated from invested capital by the respondent, there is included the amount of $45,163.30, which was paid in to and became the property of the petitioner as a part of the capital transactions taking place at the time the petitioner was organized; that this amount of cash was intact in the treasury of the petitioner on March 1, 1920, when the petitioner began business.
The circumstances of these transactions were that E. L. Young & Co., one of the organizers of petitioner, had certain intangible assets value in the organization at $45,163.30, and for which petitioner agreed to issue 1,863 shares of its no par value common stock. Prior to organization of petitioner, Burns Brothers, another of the organizers of petitioner, agreed to purchase these assets for $45,163.30 in cash. Contracts were executed by these two parties, one to turn over these assets to petitioner when organized and the other to pay petitioner *333 for them the amount stated. Before any stock was issued petitioner stood bound*3568 to accept these assets from E. L. Young & Co. and deliver them to Burns Brothers for cash.
The performance of these contracts were incidents of the one general transaction of organization of petitioner, carried out in one day, and at the conclusion thereof petitioner was possessed of certain tangible assets and cash representing the investments of the several constituent companies, and for which its capital stock was issued as follows:
| Fixed assets contributed by five constituent | ||
| companies | $305,567.22 | |
| Wertheim Yards (Young & Co.) | 27,491.88 | |
| Total | 333,059.10 | |
| Less: Tangible assets transferred to Burns Bros | 27,144.43 | |
| Total | $305,914.67 | |
| Cash contributed by constituent companies and | ||
| underwriters | $191,932.78 | |
| Cash paid in by Burns Bros. for Young & Co. New | ||
| York fixed assets | 27,144.43 | |
| Cash paid in by Burns Bros. for transfer of Young | ||
| & Co.'s New York tonnage | 45,163.30 | |
| Total | 264,240.51 | |
| Less: Credit allowed E. L. Young & Co. for Wertheim | ||
| Yards | 27,491.88 | |
| Balance cash in treasury | 236,748.63 | |
| Total | 542,663.30 |
While it is true that the $45,163.30 of intangible assets paid in by E. L. Young & Co. for stock, could not, as such, be included*3569 in invested capital of petitioner, it is shown that these assets were, in the course of the organization, converted into cash. The issue of 1,863 shares of common stock to E. L. Young was then represented by $45,163.30 in cash, which was properly to be included in invested capital as cash against which the stock of petitioner was outstanding. Petitioner's total invested capital on March 1, 1920, was, therefore, the sum of the fixed assets plus cash in the treasury and aggregated $542,663.30.
Petitioner's contention for assessment of profits taxes under the provisions of section 328 of the Revenue Act of 1918 appears to be based wholly upon the disallowance of intangibles in invested capital and the comparatively large net income produced during the period here under review. It may be conceded that the amount of taxable income produced during this 10-month period is generously large but that fact alone does not warrant the application of the relief provided by section 328 of the Revenue Act of 1918, as the record of this case seems to warrant the interpretation that petitioner's income for this *334 10-month period resulted, not so much from its intangible values which*3570 have been eliminated from invested capital, as from the elimination of competition in petitioner's business; the reduction of overhead as a result of the consolidation, and perhaps the general conditions prevailing in the trade in which this petitioner was engaged. We are, therefore, of the opinion that the petitioner has not made by this record a prima facie case requireing consideration of its profits taxes under the provisions of the relief section above referred to.
The deficiency should be recomputed in accordance with the foregoing findings of fact and opinion.
Reviewed by the Board.
Judgment will be entered pursuant to Rule 50.
TRAMMELL, concurring: I concur in the result reached. With respect to the inclusion in invested capital of $45,163.30 representing the cash received for intangible assets which were paid in by E. L. Young & Co. for 1863 shares of the petitioner's no par value stock, I agree that this amount should be included in invested capital but do not concur in the majority opinion with respect to the basis upon which it is allowed.
In my opinion, the fact that these intangible assets were sold for cash immediately after*3571 their transfer to the petitioner and the fact that there was an agreement that they would be transferred at that price entered into prior to the transaction, seem to me to establish the value of these intangible assets. This reduces the situation to a case where intangible assets of the value of $45,163.30 were paid in to the corporation for stock, and upon this ground they should be included in invested capital under the provisions of section 326, subject to the limitation on intangible assets acquired for stock. Since the capitalization was such that the entire value would be included in invested capital upon this basis, the same result is reached as is reached in the majority opinion and in my opinion this is a much sounder basis than that set forth in the majority opinion.
SMITH and MURDOCK agree with the above.