*1030 1. Petitioner received certain shares of stock during the taxable year which respondent has determined had a fair market value of 12 1/2 cents per share. Held, on all the evidence, that the stock had a fair market value when received of 12 1/2 cents per share.
2. Petitioner's board of directors duly resolved during the taxable year to set aside its net profits for that year to retire its bonded indebtedness. Accordingly, entries were made in its journal debiting to surplus and crediting a certain amount to a bond retirement account. During the taxable year petitioner set aside shares of stock as security for the payment of certain of its bonds. Petitioner claims that, in computing its Title IA adjusted net income for purposes of the personal holding company surtax, it is entitled to a deduction for amounts irrevocably set aside to pay or retire an indebtedness, in accordance with the provisions of section 351(b)(2)(B) of the Revenue Act of 1936, as amended by section 355 of the Revenue Act of 1937. Held, the book entry made with reference to the resolution of the board of directors, being revocable at will by petitioner, does not constitute an irrevocable setting*1031 aside of an amount within the meaning of the statute, nor does it constitute payment of indebtedness; held, further, that the deposit of stock as security for the payment of bonds does not constitute the irrevocable setting aside of an amount to pay or retire an indebtedness for the reason that such security might be returned to petitioner without having been used to pay or retire the indebtedness.
*1048 This proceeding is for the redetermination of deficiencies in income tax and personal holding company surtax for the year 1937 in the amounts of $1,492.53 and $8,108.45, respectively. The two questions raised are (1) whether petitioner received "taxable income in the form of dividends [in] an amount of $2,252.25 in connection with the receipt within the year 1937 by petitioner of 18,018 shares of capital stock of New Jersey Realty Co.", and (2) whether the petitioner is entitled to a deduction, in computing its adjusted net income for the purposes of the personal holding company surtax, for amounts irrevocably set aside to retire an indebtedness*1032 in accordance with the provisions of section 351 of the Revenue Act of 1936, as amended by section 355 of the Revenue Act of 1937. The evidence before the Board consists of a written stipulation of facts incorporated herein by reference, supplemented by the testimony of one witness.
*1049 FINDINGS OF FACT.
The petitioner, a personal holding company, is a corporation organized under the laws of the State of New Jersey, and has its principal place of business in Newark. The returns for the taxable year were filed with the collector of internal revenue for the fifth district of New Jersey. The outstanding capital stock of petitioner consisted of 5,000 shares of $100 par value, all of which were owned by J. S. Rippel.
During 1937 the petitioner received 18,018 shares of the New Jersey Realty Co. stock, with respect to which the parties have stipulated as follows:
4. For a period beginning January 1934 Fidelity Union Title & Mortgage Guaranty Co. was in Trusteeship under the jurisdiction of the Chancery Court of the State of New Jersey.
5. A plan of reorganization occurred June 1, 1937, wherein the shareholders of Fidelity Union Title & Mortgage Guaranty Co. received*1033 shares in a new corporation, New Jersey Realty Co., which exchange respondent has recognized as a tax-free reorganization.
6. Petitioner in 1937 received, as result of such reorganization, 875 shares of New Jersey Realty Co. in exchange for petitioner's 875 shares of Fidelity Union Title & Mortgage Guaranty Co. stock.
7. The owners of outstanding guaranteed mortgages of Fidelity Union Title & Mortgage Guaranty Co. received in exchange therefor in said reorganization class "A" and class "B" bonds of New Jersey Realty Co., determined in this manner:
(a) The property behind every guaranteed mortgage was in 1937 appraised and to the extent ot the appraised value thereof the owners of guaranteed mortgages were given "A" bonds of New Jersey Realty Co.;
(b) For the difference between said appraised value and the amount of their mortgage claim plus all accrued and unpaid interest on their guaranteed mortgages said owners were given New Jersey Realty Co. "B" bonds.
8. Interest was to be accrued and paid on class "A" bonds at the rate of 2 1/2% per annum and an additional 1 1/2% per annum if earned.
9. Interest on class "B" bonds was not accruable and payable only if and*1034 to the extent there was no arrearage of interest on class "A" bonds.
10. On October 1, 1937, New Jersey Realty Co. had outstanding class "A" bonds amounting to $5,881,226.94 and class "B" bonds amounting to $2,655,214.47, which were liens ahead of the capital stock of New Jersey Realty Co.
11. New Jersey Realty Co., a corporation of the State of New Jersey, on October 1, 1937 had a total of 420,000 common shares of $1.00 par outstanding.
12. The operating results of New Jersey Realty Co. for the seven months' period ended December 31, 1937, with no provision for the 1 1/2% interest on class "A" bonds and with no provision for class "B" interest, reflected a loss of $154,517.60.
13. Petitioner, a stockholder of Fidelity Union Trust Co., on October 1, 1937 received 17,143 shares of New Jersey Realty Co. stock distributed as a dividend in securities by said Fidelity Union Trust Co.
The petitioner was advised by letter of transmittal received at the time of the delivery of the dividend by the Fidelity Union Trust *1050 Co. that the New Jersey Realty Co. stock had sold for 12 1/2 cents per share on October 1, 1937. Petitioner thereafter carried the stock on its*1035 books at 12 1/2 cents per share.
The following is a brokerage record of shares of the New Jersey Realty Co. capital stock:
| Date | Shares sold | Cents per share |
| Oct. 1, 1937 | 200 | 12 1/2 |
| Oct. 6, 1937 | 25 | 25 |
| Nov. 15, 1937 | 12 | 20 |
| Dec. 17, 1937 | 75 | 25 |
| Dec. 17, 1937 | 75 | 25 |
| Total | 387 | |
| Aug. 3, 1938 | 200 | 20 |
| Nov. 29, 1938 | 50 | 10 |
| Nov. 29, 1938 | 50 | 10 |
| Dec. 30, 1938 | 100 | 1 |
| Total | 400 | |
| Jan. 20, 1939 | 50 | 5 |
| Feb. 8, 1939 | 200 | 8 |
| Mar. 9, 1939 | 10 | 14 |
| May 4, 1939 | 300 | 8 |
| May 4, 1939 | 300 | 7 |
| May 29, 1939 | 2 | 10 |
| Oct. 23, 1939 | 500 | 7 1/2 |
| Nov. 4, 1939 | 8 | 6 |
| Dec | None | |
| Total | 1,370 |
In 1937 the petitioner had bonds outstanding as follows:
$1,000,000 5 1/2% collateral trust gold bonds, due October 1, 1937
$1,000,000 5% collateral trust gold bonds, due December 1, 1937
$1,000,000 6% collateral trust gold bonds, due November 1, 1942
The 5 1/2 percent gold bonds due October 1, 1937, were issued by the petitioner in accordance with the provisions of an indenture dated October 1, 1927. The indenture provided that the petitioner would deposit as security for the bonds certain shares of stock of the Federal Trust Co., a New Jersey corporation, of an aggregate*1036 par value of at least $300 for every $1,000 bond issued. Section 2 of article I of the agreement provided that whenever any bonds issued under the indenture were redeemed by the company the trustee would reassign to the petitioner shares of stock held as security in the aggregate par value of $300 for each bond surrendered by the petitioner to the trustee. Section 4 of article II provided that in the event that the market value of the shares of stock of the Federal Trust Co. held by the trustee fell below the sum of $1,250, and remained below that price for 60 days, the trustee was empowered to demand additional security in order that there might be maintained security having a market value of at least $1,250 for each bond issued. In the event the market value of the security increased beyond $1,250 a share the trustee was to reassign the excess security to the petitioner. Article II, section 6, of the indenture provided that until a default on the part of the petitioner the shares of stock deposited as security were not to be transferred to the name of the trustee. The petitioner was to receive all dividends and enjoy the voting and subscription rights in the stock. In this*1037 section it was *1051 further agreed that in the event of a default upon the part of the petitioner the trustee was to have the power to cause the deposited stock to be transferred to its name during the continuance of the default and during such time the trustee was to have and exercise all of the powers of ownership with reference to the shares of stock, but, if any such default was made good by the petitioner or waived by the bondholders, the petitioner was entitled to have the shares retransferred to its name and to enjoy the rights of ownership as though the default had never occurred. In the event of any continuing default, the trustee was empowered to conduct a public sale of the security and to distribute the proceeds to the bondholders. Any excess of proceeds of such sale over the amount needed to pay the claims of bondholders was to be returned to petitioner. Upon full payment of principal and interest the security was to be returned to petitioner and all interest of the trustee therein was to cease.
The petitioner deposited the required security with the Merchants & Newark Trust Co., as trustee, and, from time to time, deposited additional security when required*1038 to do so. On October 1, 1937, the bonds issued under the October 1, 1927, indenture matured and the petitioner was without funds to make the necessary payments. Accordingly, an agreement, dated September 28, 1937, was entered into between the trustee for the bondholders and the petitioner extending the maturities of the bonds to October 1, 1947, and reducing the interest payable to 4 1/2 percent per annum. As a consideration for this extension agreement the petitioner agreed to deposit 10,000 shares of the capital stock of the Fidelity Union Trust Co., a New Jersey corporation, as additional security for the payment of the bonds. It was agreed that, except as modified in the indenture of September 28, 1937, the extension of the bonds was to be subject to the terms and conditions expressed in the original trust indenture, dated October 1, 1927. Other than the extension of maturities and reduction of interest rate, the only modification of the original indenture was the cancellation of section 2 of article I, and section 4 of article II.
In accordance with the agreement petitioner deposited the additional security with the trustee on October 27, 1927. The market value of the*1039 Fidelity Union Trust Co. stock thus deposited was $350,000.
On December 31, 1937, the petitioner's board of directors passed the following resolution:
Resolved, that the profits of this Company for the year 1937 be set aside and used to pay and retire the bonded indebtedness outstanding of this Company consisting of three million dollars of bonds.
*1052 Entries were made in petitioner's general journal debiting surplus with the amount of $9,963.43 and crediting that amount to an account entitled "Provision for Retirement of 6% bonds November 1, 1942."
OPINION.
SMITH: In the determination of the deficiency the respondent included in the taxable income for 1937 "the fair market value of 18,018 shares of capital stock of New Jersey Realty Co. received during the taxable year 1937", which value he "determined to be 12 1/2 cents a share at the time of receipt."
In the petition it is alleged:
Respondent was in error in considering as a dividend the receipt by petitioner of 875 shares in reorganization, which respondent has otherwise officially held to have been a tax-free reorganization within the year 1937.
In the answer to the petition this allegation of fact*1040 is denied.
In the signed stipulation of facts filed in this case is the following paragraph:
A plan of reorganization occurred June 1, 1937, wherein the shareholders of Fidelity Union Title & Mortgage Guaranty Co. received shares in a new corporation, New Jersey Realty Co., which exchange respondent has recognized as a tax-free reorganization.
The 18,018 shares of capital stock of the New Jersey Realty Co. received by the petitioner in 1937 consisted of 875 shares received on the reorganization "which exchange respondent has recognized as a tax-free reorganization", and 17,143 shares of that stock received as a dividend. Accordingly, we have two questions presented relative to the 18,018 shares of stock, the first of which is whether 875 shares were received by the petitioner in 1937 as a result of the tax-free exchange and, second, the fair market value of the 17,143 shares received as a taxable dividend.
Relative to the first question, we have no information as to the 875 shares except that the respondent has recognized them as having been received in a tax-free reorganization. It was apparently the intention of the parties to stipulate that the 875 shares in question*1041 were received in a tax-free reorganization. We therefore sustain the petitioner in its contention that the 875 shares were received in a tax-free reorganization and were improperly included by the respondent in taxable income.
Relative to the second point, the petitioner contends that the stock of the New Jersey Realty Co. had no fair market value when received by it in 1937. It contends that that corporation had a very large bonded indebtedness; that at the end of its first seven months of operation it had incurred an operating loss of $154,517.60, with no provision made for interest on its more than $8,000,000 of outstanding *1053 bonds; and that the evidence of a sale of only 2,157 shares of stock in 1937 at prices ranging from 12 1/2 cents per share to 25 cents per share in 1937 is no criterion of the value of a block of 17,143 shares.
It is to be noted, however, that the few sales that were made in 1937 were at a price of 12 1/2 cents or more per share; that the petitioner placed these shares upon its books of account at a value of 12 1/2 cents per share; and that the respondent has determined that that was their fair market value at date of receipt. In our opinion*1042 the evidence submitted by the petitioner does not overcome the presumption of the correctness of the respondent's determination that the 17,143 shares had a fair market value at the date of receipt of 12 1/2 cents per share. We accordingly approve his determination.
In its petition to this Board the petitioner alleges error on the part of respondent as follows:
Omission to privilege as "credit" for computation of surtax under Section 14 and surtax under Section 351 the amount restricted as to dividend disbursement and set aside by petitioner to retire its outstanding bonded indebtedness.
On brief petitioner abandoned its claim for credit in the computation of tax due under section 14. Thus, there remains only the question whether petitioner is entitled to a deduction in the computation of personal holding company surtax. The applicable provision of the statute is section 351(b)(2)(B) of the Revenue Act of 1936, as amended by section 355 of the Revenue Act of 1937, which provides in part as follows:
SEC. 355. UNDISTRIBUTED ADJUSTED NET INCOME.
For the purposes of this title the term "undistributed adjusted net income" means the adjusted net income (as defined in section*1043 356) minus -
* * *
(b) Amounts used or irrevocably set aside to pay or to retire indebtedness of any kind incurred prior to January 1, 1934, if such amounts are reasonable with reference to the size and terms of such indebtedness.
With regard to this section the Senate Finance Committee reported as follows:
The word "irrevocably" is added to protect the revenue, so that amounts may not be set aside for retirement of debt, and deductions secured, although finally such amounts are never used to retire the indebtedness. [Senate Finance Committee Report, 75th Cong., 1st sess., S. Rept. 1242.]
At the close of the year 1937 petitioner's board of directors duly resolved to set aside and use its entire profits for that year to pay and retire its outstanding bonded indebtedness. Thereafter, entries were made in petitioner's general journal as of December 31, 1937, and with reference to the resolution, debiting to surplus and crediting to an account entitled "Provision for Retirement of 6% bonds November *1054 1, 1942" the amount of $9,963.43. The petition raises the question whether the resolution and book entries entitle petitioner to the deduction under section 355(b).
*1044 The statutory language is unmistakable and clear in meaning and we have no difficulty in applying it to the facts. The ordinary meaning of the word "irrevocable" is that the action referred to is incapable of being recalled or revoked; past recall. Webster's New International Dictionary, 2d Ed. Unabridged. The evidence shows that the amount which petitioner claims to have set aside irrevocably actually remained completely subject to its dominion and control. No consideration was furnished for its action in making the resolution or credit by any other party. It does not appear that the profits in question were actually ever used to retire the bonds, nor were they in fact deposited in a sinking fund for that purpose. The book entries were entirely under the control of the petitioner and the credit could have been removed from its books at will. Under these circumstances it can not be said that petitioner irrevocably set aside its profits to retire its indebtedness.
It is also well to note that this case is distinguishable from *1045 Atlantic Land Co.,43 B.T.A. 74">43 B.T.A. 74. In that case we held that unrestricted book credits of a declared dividend to the accounts of individual stockholders constituted actual payment of the dividend within the meaning of section 27(a) of the Revenue Act of 1936. In the instant case the bondholders, or the trustee for the bondholders, could not have withdrawn any part of the amount alleged to have been set aside by petitioner. In no way can the book credit in the instant case be construed to have constituted a "payment" and the case is therefore not controlled by the rule of Atlantic Land Co., supra.We hold that the resolution of the board of directors and the book entries made with regard to that resolution do not entitle petitioner to a deduction under the provisions of section 355(b) of the Revenue Act of 1937.
During the taxable year petitioner deposited with the Merchants & Newark Trust Co., as trustee for its bondholders, 10,000 shares of the capital stock of the Fidelity Union Trust Co. This deposit was made in accordance with the provisions of the indenture dated September 28, 1937, which expressly stated that the stock was to be deposited*1046 as additional security for the bonds, the maturities of which were thereby extended to October 1, 1947. The shares of stock deposited had a fair market value of $350,000. Petitioner contends that the deposit constituted an irrevocable setting aside of an amount to pay or retire its indebtedness within the purview of section 355(b), supra, and claims that it is therefore entitled to the statutory deduction in computing its Title IA undistributed adjusted net income *1055 The respondent relies upon article 355-2(b) of Regulations 94, contained in chapter XXXV(A) added by Treasury Decision 4791, 1 C.B. 83">1938-1 C.B. 83. That regulation provides in material part as follows:
(b) Amounts used or irrevocably set aside. - The deduction is allowable, in any taxable year, only for amounts used or irrevocably set aside in that year. The use or irrevocable setting aside must be to effect the extinguishment or discharge of indebtedness. * * *
The question thus presented appears to be one of first impression here. It is not necessary for us to pass upon the validity of the respondent's regulations at this time. Those regulations may neither add to nor detract from*1047 the force and effect of the statute. We shall satisfy ourselves as to the applicability of the statutory provisions in the instant case.
It is clear from the original trust indenture, dated October 1, 1927, which provided for the issuance of the bonds as to which the deposit of additional security was made, that the bondholders were to have no recourse against the security except in the event of default in payment by the petitioner. Furthermore, title to the security was to remain in petitioner's name until such default. After default in payment the stock was to be transferred to the trustee only if the trustee requested the action. It does not appear that a transfer of title to the trustee was ever made. The petitioner retained the right to receive all dividends on the stock and was entitled to all rights to subscribe declared upon it.
The petitioner also retained all voting rights in the stock. The original indenture further provided that, when the whole amount of principal and interest due on the bonds was paid and the company had performed all of its obligations under the indenture, then all interest of the trustee in the shares of stock would revert to petitioner.
*1048 These provisions of the original indenture were not modified or revoked by the 1937 extension agreement but, on the contrary, were expressly continued in effect. Thus, the petitioner, which is enjoying all the incidents of ownership, except that of free disposition, in the stock in question and may ultimately regain its complete interest therein, now claims that the stock was irrevocably set aside to pay or retire its bonded indebtedness. The fallacy in petitioner's contention is at once apparent.
It does appear that the deposit of the stock was irrevocable in that petitioner could not voluntarily recall it. That alone, however, does not satisfy the conditions of the statute. The statute requires that an amount be irrevocably set aside to pay or retire an indebtedness. The agreements under which the deposit of security was made contemplated *1056 that petitioner would make the payments and that thereafter the security would be returned to it. The case is clearly one in which the amount set aside may never be used to retire the indebtedness. As indicated by the language of Senate Report 1242, supra, the statute permits no deduction in such cases.
The respondent*1049 is sustained on this issue.
Decision will be entered under Rule 50.