*1828 The stock of a wholly-owned subsidiary of petitioner became worthless while petitioner owned it. Held:
(1) That the stock cost petitioner $210,000.
(2) That the worthlessness occurred in 1921.
(3) That such worthlessness resulted in a net loss which may be carried forward to 1922 and 1923.
*787 Respondent determined deficiencies in income taxes for the years 1922 and 1923 in the respective amounts of $2,834.13 and $13,888.98. The issue raised by the pleadings is whether petitioner suffered a net loss in 1921, by reason of stock becoming worthless, which it may carry forward and deduct in 1922 and 1923. The respondent, upon leave granted, amended his answer to allege that the amount of net loss - exclusive of the claimed stock loss - that he allowed to be carried forward to 1922 was greater than the amount of loss actually sustained, hence the deficiency for 1922 should be increased to $4,018.65.
FINDINGS OF FACT.
Petitioner, a California corporation, is engaged in dealing in furs and women's apparel. In 1913 and prior thereto petitioner*1829 had an interest in Wulfsohn Gans Fur Company, an unincorporated concern. At November 15, 1913, petitioner's capital investment in that concern was $50,000, and in addition it owed petitioner $69,963.67.
In October, 1913, the Ganss Fur Company was incorporated under the laws of Nevada and within the year took over the assets and assumed the liabilities of the Wulfsohn Ganss Fur Company. On November 15, 1913, the Ganss Fur Company issued 490 shares of its stock to the Wulfsohn Ganss Company. That company on January 12, 1914, transferred the certificate to I. Liebes, who on the same date endorsed and delivered it to petitioner who has since held it. The remaining 10 shares of common stock were issued as directors' qualifying shares. Of the preferred stock, consisting originally of 1,500 shares, only 1,000 shares were issued. They were issued on November 15, 1913, to Wulfsohn Ganss Fur Company. That company on January 12, 1914, transferred the stock to I. Liebes, who on the same day endorsed the certificate and delivered it to petitioner, who has since held it.
*788 The authorized capital stock of the Ganss Fur Company was increased in 1918 to 1,500 shares common and*1830 4,500 shares of preferred. In June, 1918, petitioner acquired 200 additional shares of common and 400 additional shares of preferred stock at a cost of $60,000. Later in 1918 petitioner purchased additional stock in the Ganss Fur Company for $5,000.
From 1914 through the years here involved petitioner owned the entire issued capital stock of the Ganss Fur Company, except qualifying shares. The stock was acquired by petitioner at a total cost of $210,000.
The Ganss Fur Company had its principal place of business in New York. It was operated as a branch of petitioner.
In 1920 the price of furs began to drop. In the face of the falling market an officer of the Ganss Fur Company bought a large quantity of furs. As prices continued downward, the company found itself badly involved financially before the close of the year. At the beginning of 1920 its surplus amounted to $247,722.61; at the end of the year it had a deficit of $747,711.05. In the fall of 1920 petitioner's secretary went to New York and found that the liabilities of the Ganss Fur Company greatly exceeded its assets. At the close of 1920 the Ganss Fur Company's assets included cash of $41,003.56; accounts*1831 receivable, $246,990.14; bills receivable, $17,684.79; merchandise inventory priced at market, $454,936.
As of December 31, 1920, the Ganss Fur Company stock account, which was carried at the figure of $210,000, was closed on petitioner's books with the notation "To close out N.Y. Investment."
Petitioner's president went to New York in April, 1921, to determine the condition of the Ganss Fur Company, remaining there until early in June. While there he concluded that it would be necessary to wind up the affairs of the fur company. At that time the company was still in business attempting to dispose of its stock. A meeting of creditors was called in 1921 at which petitioner offered to settle its liabilities for 10 cents on the dollar. This proposal was rejected and the fur company continued its efforts to liquidate its stock of goods. Liquidation was completed in the fall of 1921 and creditors received less than the 10 per cent previously offered them.
Upon liquidation of its merchandise the Ganss Fur Company ceased doing business. Petitioner did not share in the distribution to creditors and has never received any return on its investment in the stock of the Ganss Fur*1832 Company.
For the year 1921 petitioner filed a separate return showing a loss for the year of $33,954.86. The correct loss for that year, excluding any loss on account of the Ganss Fur Company stock or its operations, *789 was $26,478.71. Subsequently two amended returns were filed, one of which took into account the claimed loss of $210,000 on the Ganss Fur Company stock and the other, which was a consolidated return, showed the operating loss of that company in 1921 in the amount of $251,186.72.
Petitioner filed a separate return for 1922, claiming a net loss of $185,326.95. This amount was arrived at by deducting from 1922 income a claimed net loss for 1921 computed as follows:
| Net loss per original return (1921) | $33,954.86 |
| Less: nontaxable interest | 12,523.04 |
| 21,431.82 | |
| Plus: loss on Ganss Fur Co. stock charged to surplus | 210,000.00 |
| Net loss carried forward from 1921 | 231,431.82 |
The respondent disallowed the item of $210,000 and determined a net income of $24,673.05. The result of this computation of respondent is to allow as a net loss deduction $21,431.82 ($33,954 carried over from 1921 less $12,523.04 nontaxable interest). The correct*1833 net loss for 1921 was $26,478.71, excluding any deductions on account of the Ganss Fur Company stock or its operations, as found above. After the original return was filed, petitioner filed two amended returns, one of which was a separate return and the other a consolidated return in which petitioner was shown as affiliated with the Ganss Fur Company.
For 1923 petitioner filed a separate return showing a net loss of $74,215.15, which was arrived at by claiming, among other deductions, a claimed net loss carried over from 1921 in the amount of $185,326.95. The respondent, in view of his finding that petitioner had net income in 1922, held that there was no net loss to be carried over from 1921 and determined petitioner's net income to be $111,111.80. After filing its original return for 1923 petitioner filed an amended separate return and later a consolidated return in the latter of which it was shown as affiliated with the Ganss Fur Company.
OPINION.
ARUNDELL: The basic facts, simply stated, are these: Petitioner prior to the taxable years acquired all the stock of the Ganss Fur Company, and the stock became worthless while petitioner owned it.
Petitioner claims that*1834 the stock cost it $210,000; that the stock became worthless in 1921; that by reason thereof it sustained a net loss in 1921 in the amount of $210,000 which it is entitled to carry over to 1922 and 1923. Respondent denies that the stock cost $210,000, or that it became worthless in 1921. Respondent further *790 claims that even if the stock did become worthless in 1921, petitioner did not sustain a deductible loss because of its affiliation with the Ganss Fur Company.
The evidence establishes, and we have found as a fact, that the cost of the stock to petitioner was $210,000. Respondent questions the items of $69,963.67 and $50,000 which are claimed by petitioner to represent a part of the cost. The amount of $69,963.67 was an amount owing to petitioner by the Wulfsohn Ganss Fur Company when that company was succeeded by the Ganss Fur Company. That amount was taken over by the Ganss Fur Company as a debt and was liquidated by the issuance of stock subsequent to March 1, 1913. The $50,000 item represented petitioner's capital investment in the Wulfsohn Ganss Fur Company and for it petitioner acquired stock of the Ganss Fur Company. We think these items are to be included*1835 in the cost of the stock to petitioner.
There is no dispute about the fact that the Ganss Fur Company stock actually became worthless. Petitioner claims that the worthlessness occurred in 1921. Respondent denies this and contends that it became worthless in 1920. The evidence establishes that the Ganss Fur Company was in a bad way financially in 1920. At the beginning of 1920 it had a surplus of $247,722.61 and at the end of that year it had a deficit of $747,711.05. However, at the close of the year it was still a going concern; it had cash of over $41,000, receivables of over $264,000 and a merchandise inventory of $454,936 at market. We do not believe that on the evidence it can be said that the Ganss Fur Company stock was worthless at the end of 1920. At the close of 1921 the company had completely liquidated its stock and gone out of business and its stock had no value. In our opinion it must be held that the stock became worthless in 1921.
Section 204(a) of the Revenue Act of 1921 provides:
That as used in this section the term "net loss" means only net losses resulting from the operation of any trade or business regularly carried on by the taxpayer (including*1836 losses sustained from the sale or other disposition of real estate, machinery, and other capital assets, used in the conduct of such trade or business) * * *.
The Ganss Fur Company was operated as a branch of petitioner and the stock of that company was a capital asset used in petitioner's business. In our opinion the above quoted statute is broad enough to include a situation of this kind, and the stock becoming worthless in 1921 resulted in a net loss. Cf. , and cases therein cited.
Respondent argues that, as petitioner continued to own the Ganss Fur Company stock throughout 1921, the law required that they *791 be affiliated; hence, any loss arising in that year was a consolidated loss and not the separate loss of the petitioner, citing , as holding that section 204 is limited by section 240, and , in which the taxpayer was denied a loss deduction arising out of the liquidation of a wholly owned subsidiary. The Kaiwiki Sugar Co. case is authority for holding that the amount of net loss allowable*1837 may be limited by section 240, but it does not purport to treat of the question we have here. In the Utica Knitting Co. case the court said:
It would be an extremely technical evasion of the purpose of the statute [requiring consolidated returns] to hold that a conceded affiliation ceases when the subsidiary ceases to sell and manufacture goods, while at the same time the parent company owns all the stock of the subsidiary, and the subsidiary continues in business for the purpose of winding up its affairs, turning over its property to the parent, collecting its accounts and paying its debts, which very debts and accounts arose out of the knitwear business in which both the parent company and the subsidiary were engaged.
It is clear from this quotation that the two cases are different. Here the subsidiary corporation had completely gone out of business before the end of the year and it had no property to turn over to the parent company.
While it may be that at the end of 1921 petitioner and the Ganss Fur Company were technically affiliated because petitioner still owned the stock, a denial of a loss claim on account of that technicality would be to ignore the substance*1838 of the situation. Had the petitioner sold the stock in 1921 for a nominal sum - which was all that could have been realized - the case would clearly come within the case . The fact that petitioner failed to go out of its way to attempt to make a sale, when in all probability a bona fide sale could not have been effected, should not affect the result. In our opinion loss resulting from worthlessness should be treated no differently than loss resulting from sale and the situation is governed by the Remington Rand decision.
One other matter requires notice. It appears from the evidence that the respondent in computing the 1921 net loss used as a basic figure $33,954.86, whereas the correct figure is $26,478.71 - exclusive of the stock loss. This difference will probably not affect the net result in view of our allowance of the stock loss as a net loss, but it may be settled under Rule 50.
Decision will be entered under Rule 50.