*1260 1. Though the corporation was not formed, or, during its first three years, availed of for the purpose of avoiding surtax on its stockholder, where the facts reveal that in the year 1926 petitioner corporation, which had a surplus of $178,000, borrowed $100,000 and loaned its principal stockholder $195,000, meanwhile distributing only $12,000 in dividends, which loan was not reduced during the subsequent six years although during such time petitioner paid its principal stockholder an aggregate of $200,000 as salary, it is held that during the taxable years 1926, 1927, and 1928 the corporation was availed of to prevent the imposition of surtax on its shareholders and it liable for the additional tax of 50 percent under the provisions of section 220 of the Revenue Act of 1926 and section 104 of the Revenue Act of 1928.
2. Section 220 of the Revenue Act of 1926 and section 104 of the Revenue Act of 1928 are not unconstitutional.
*827 The respondent determined deficiencies as follows:
| Docket No. | Year | Deficiency |
| 53108 | 1924 | $42,462.92 |
| 53108 | 1925 | 49,877.93 |
| 53108 | 1926 | 38,584.01 |
| 61321 | 1927 | 28,937.58 |
| 61321 | 1928 | 23,267.63 |
*1261 The deficiencies represent an additional tax of 50 percent consequent on a determination that petitioner came within the provisions of section 220 of the Revenue Acts of 1924 and 1926 and section 104 of the Revenue Act of 1928.
The petitioner alleges that respondent erred in the finding that sections 220 and 104 were applicable; that these sections are unconstitutional; and that certain minor additions to income were improper.
FINDINGS OF FACT.
Taxpayer corporation was organized in July 1923. At the time of, or shortly after, incorporation William C. deMille and his wife, Anna G. deMille, joined in transferring to the corporation the following property at the values stated, in exchange for capital stock:
| REAL ESTATE: | |
| Undivided 1/3 in Lick Tract, Los Angeles | $47,657 |
| Undivided 1/2 in lots 50 & 51, Tract 4943 | 3,000 |
| No. 4821 Hollywood Blvd., (3.14 acres) | 213,200 |
| First Mortgage, 1606 Gower St | 1,000 |
| Due on Bear Valley sale | 5,500 |
| SECURITIES & INVESTMENTS: | |
| Grauman's Theatre Certificate | 1,000 |
| 20 Shares Central Investment Corp | 1,400 |
| 10 Shares Fed. Trust & Savings Bank | 1,200 |
| 35 Shares L.A. Speedway Association | 3,500 |
| Motion Picture Prod. Association note | 100 |
| Rights in Dramatic Properties | 17,000 |
| Cash in Bank | 4,943 |
| Total | 299,500 |
*1262 In the taxable years petitioner had stock outstanding in the amount of $299,800, representing 2,998 shares, of which all but 12 shares were held by William C. deMille.
During the taxable years petitioner was engaged primarily in contracting for the supervision and direction of the making of pictures under contracts with other picture companies. It entered into the following contracts: Contract dated May 8, 1923, with Famous *828 Players-Lasky Corporation; contract dated March 1926, with Cinema Corporation of America; and contract dated 1928 with Metro-Goldwyn-Mayer Corporation.
In its operation petitioner had a small staff of expert employees, which included William C. deMille, who served as director, an assistant director, a cameraman, a film cutter, a bookkeeper, and one or two others. These persons were paid by petitioner and formed the nucleus of its operations. Petitioner owned no studio or any of the properties usually incident to such ownership. All of its activities in producing a picture were financed by the company with whom petitioner contracted. This entailed the employment of a great number of persons in various capacities, all of whom were paid by*1263 the contracting company.
The total cost of producing a picture varies from a hundred thousand dollars or less to (in one instance) more than four million dollars, depending on the type of picture, the cost of properties, and the number of persons employed. The introduction of sound reproduction has increased the expense of production greatly. To build and equip an adequate studio for sound pictures would entail an expenditure of approximately $1,000,000.
Under one of the contracts held by taxpayer it was required to produce eight pictures, using the Lasky Studios and facilities, with a fixed limit of cost of $150,000 per picture. Other pictures were produced at the Pathe Studios and at the Ince Studios.
Petitioner produced on the average four pictures a year, involving an aggregate expense of from $600,000 to $800,000 each year. This expense was financed and paid by the studios.
Petitioner's surplus at the end of each year was as follows:
| 1924 | $77,223.16 |
| 1925 | 153,265.76 |
| 1926 | 178,100.51 |
| 1927 | $223,054.98 |
| 1928 | 240,446.40 |
| 1929 | 291,955.43 |
| 1930 | $248,150.00 |
| 1931 | 224,810.08 |
| 1932 | 204,790.53 |
During the taxable years petitioner paid dividends*1264 as follows:
| 1924 | $2,998.00 |
| 1925 | 11,992.00 |
| 1926 | 11,992.00 |
| 1927 | $11,992.00 |
| 1928 | 11,992.00 |
| 1929 | 11,992.00 |
| 1930 | $13,653.50 |
| 1931 | 17,998.00 |
| 1932 | 4,497.00 |
During the years 1923 to 1932 William C. deMille borrowed various sums from petitioner, the net amount due each year being as follows:
| 1923 | $4,412.32 |
| 1924 | 7,793.67 |
| 1925 | 11,614.75 |
| 1926 | 206,587.27 |
| 1927 | $201,970.12 |
| 1928 | 208,151.03 |
| 1929 | 208,255.19 |
| 1930 | 196,631.80 |
| 1931 | $199,152.47 |
| 1932 | 206,380.58 |
In the year 1926 William C. deMille was divorced from his then wife, Anna George deMille, in connection with which action he made *829 a property settlement involving the payment to Anna G. deMille of a large sum of money. To meet this demand William C. deMille borrowed the sum of approximately $195,000 from petitioner corporation, giving his note, on which interest has been paid to the corporation irregularly. The corporation at the same time borrowed $100,000 from a bank, giving a mortgage as security, which sum has been reduced to $35,000. The principal of the loan to William C. deMille has not been reduced.
Petitioner paid William C. deMille the following amounts*1265 as salary:
| 1924 | $31,500 |
| 1925 | 36,400 |
| 1926 | 36,400 |
| 1927 | $36,400 |
| 1928 | 36,400 |
| 1929 | 52,000 |
| 1930 | $49,000 |
| 1931 | 25,900 |
Petitioner was not formed for the purpose of avoiding surtaxes on its stockholders. During the years 1924 and 1925 petitioner corporation was not availed of for such purpose. During the years 1926, 1927, and 1928 petitioner corporation was availed of for the purpose of avoiding surtaxes on its stockholders.
OPINION.
VAN FOSSAN: In this case it is necessary to peer into the mind of the taxpayer to determine its intent. In this process the declaration of the owning stockholder is important, but it is neither conclusive in its character nor exclusive of other evidence. In our search for corroboration or negation of the declarations, we may properly consider all other pertinent facts, the attendant circumstances and the normal inferences to be drawn therefrom. In short, though intent is a state of mind, it is nevertheless a fact to be proved and found as are other facts.
Section 220 of the Revenue Act of 1924 provides, in part, as follows:
SEC. 220. (a) If any corporation, however created or organized, if formed or availed of for*1266 the purpose of preventing the imposition of the surtax upon its shareholders through the medium of permitting its gains and profits to accumulate instead of being divided or distributed, there shall be levled, collected, and paid for each taxable year upon the net income of such corporation a tax equal to 50 per centum of the amount thereof, which shall be in addition to the tax imposed by section 230 of this title and shall (except as provided in subdivision (d) of this section) be computed, collected, and paid upon the same basis and in the same manner and subject to the same provisions of law, including penalties, as that tax.
Section 220 of the Revenue Act of 1926 and section 104 of the Revenue Act of 1928 are substantially identical.
To be subject to the additional tax the corporation must be formed or available of for the purpose of avoiding surtaxes on its stockholders. *830 The record throws little light on the circumstances surrounding the formation of the corporation in 1923, but from such evidence as we have we would not be justified in concluding that it was specifically formed for the prohibited purpose. We must, therefore, examine the record to determine*1267 whether, in the taxable years, it was available of for such purpose.
The year 1924 was the first year of substantial corporate operation. At the end of this year a surplus of $77,000 had been accumulated. DeMille testified that his sole purpose in accumulating a surplus was to strengthen the financial position of the company with a view to expanding activities and achieving independent production. It requires no argument to support the premise that the cited sections do not contemplate that a business should remain static; it must be assumed that any business shall have the right to grow. Necessarily incident to the exercise of this right are the making and pursuit of plans both as to organization and as to finances which will permit the accomplishment of the contemplated development.
Thus, with petitioner's ambition no fault is to be found. Nor is the election of the means of accomplishment, of itself, to be categorically condemned. If such purpose be truly sole and the amount so built up not in excess of the reasonable requirements of the business it would seem that a corporation was within its rights and does not violate the statute. The word "reasonable" is a relative*1268 term. What would be reasonable in one situation or for one business might be clearly unreasonable in another.
After carefully studying the entire picture, testing the declaration of intent by the rule of conduct and weighing the surplus accumulations by the scales of reasonableness, we are of the opinion that as to the years 1924 and 1925 the facts and inferences therefrom do not justify a conclusion that in these years the taxpayer corporation was availed of for the purpose interdicted by the statute.
In the year 1926 a new factor enters and demands our consideration. Previous thereto petitioner had loaned relatively small sums to its principal stockholder. Though these loans are suggestive, we do not deem them conclusive. In 1926, however, deMille had need of approximately $200,000 to effect a divorce settlement with his wife. Here again he turned to the corporation. Instead of distributing its surplus to himself as dividends, he caused the corporation to borrow $100,000 on a mortgage of its property and then in turn borrowed $195,000 from the corporation. This transaction we believe marked the crystallization of a new attitude toward the corporation and its utilization*1269 for the very purpose proscribed *831 by the statute. Since the company belonged to deMille it was open to him to have distributed the earnings to himself instead of borrowing in the manner indicated. Except for taxes, the practical net result both to the corporation and to deMille would have been substantially the same in both cases. He chose to borrow the surplus.
As stated by the court in , "these loans are incompatible with a purpose to strengthen the financial position of the petitioner but entirely accord with a desire to get the equivalent of his dividends under another guise."
Assuming that the accumulations during 1924 and 1925 were for a legitimate purpose, the loaning of this large sum marks the definite abandonment of that purpose and leaves us no alternative as to intent. The loan to deMille was made without security. Any repayment by deMille would have to be made chiefly out of his salary. That it was not seriously intended that the loan should ever be repaid may be deduced from the fact that although deMille received from petitioner between 1927 and 1932 payments of salary aggregating*1270 $200,000 his loan has not been reduced.
Furthermore, with the abandonment of any serious purpose to expand the business, the surplus, even if theretofore wholly reasonable, became definitely unreasonable for the needs of petitioner's business. We conclude that for the years 1926, 1927 and 1928 petitioner was availed of for the purpose of avoiding surtaxes on its stockholders.
Petitioner advances the Constitution as a bar, This defense has been fully considered in previous cases and the statute adjudged to be constitutional. ;.
As to the minor issues of deduction, we sustain the respondent. As to some of the allegations of error no evidence was produced. As to the remainder, the evidence fails to overcome the presumption of correctness attaching to respondent's findings.
Reviewed by the Board.
Decision will be entered under Rule 50.
MORRIS and MATTHEWS dissent.