*1050 Petitioner in 1927 was a stockholder of the Kimberly-Clark Co., which was the owner of nearly all the stock of the Kotex Co., with which it was otherwise closely associated. To separate the two corporations and to reorganize the Kotex Co. a deposit committee was formed to receive part or all of the Kotex Co. stock and procure the organization of a new corporation which would exchange its stock for the Kotex Co. stock. The Kimberly-Clark Co. surrendered to the Kotex Co. all the Kotex Co. stock held by the Kimberly-Clark Co., and the Lotex Co. therefor, on January 3, 1927, issued in the name of the individual Kimberly-Clark Co. stockholders, pro rata, its new certificates of stock, including stock of the aggregate value of $58,281.60 to petitioner, which certificates were delivered to the deposit committee. Thereafter the Kimberly-Clark Co. owned no stock in the Kotex Co. The new corporation was formed and its stock transferred to the deposit committee for all the stock of the Kotex Co. Petitioner received, besides common stock, 336 shares of the preferred stock of the new corporation, which he sold during 1927 for $100 per share. Held:
1. The delivery, on January 2, 1927, of*1051 Kotex Co. stock to the deposit committee was a constructive delivery to the individual stockholders of the Kimberly-Clark Co. and constituted a taxable dividend by the Kimberly-Clark Co. to its stockholders;
2. The exchange of Kotex Co. stock for the stock of the new corporation was a nontaxable transaction. (Sec. 203(b)(4), Revenue Act of 1926.)
3. The sale in 1927 by petitioner of 336 shares of stock of the new corporation was a taxable transaction.
*690 The Commissioner determined a deficiency in income tax for the calendar year 1927 in the amount of $8,323.17, all of which is in dispute. The entire amount of the deficiency is attributable to the Commissioner's determination that the petitioner in 1927 received from the Kimberly-Clark Co. a dividend or distribution of Kotex Co. stock of the value of $58,281.60, taxalbe within the meaning of section 201(a) and (b) of the Revenue Act of 1926, which he did not report in his income tax return for that year. Respondent at the hearing through counsel made claim for an increased deficiency on*1052 account of the sale by petitioner in 1927 of 336 shares of International Cellucotton Products Co. stock, which sale was not reported by him in his return for that year and of which the respondent was not informed prior to mailing notice of deficiency. After the notice was mailed, the petitioner did advise respondent of this sale and requested that it be included in his return.
The petitioner assigns as error the respondent's determination that petitioner received from the Kimberly-Clark Co. in 1927 shares of stock of the Kotex Co. (Wisconsin) and his treating as taxable income to petitioner in that year the shares of Kotex Co. stock asserted by respondent to have been so received. The facts are very largely stipulated and such as are deemed material to the issues herein are either set out literally as stipulated or in substance in our findings of fact.
FINDINGS OF FACT.
The petitioner, Charles H. Sage, now residing at Neenah, Wisconsin, formerly resided in Forest Hills, Long Island, New York, with offices at 51 Chambers Street, New York City.
The petitioner while a resident of New York filed his Federal income tax return for the calendar year 1927 with the collector of*1053 internal revenue for the second district of New York, April 16, 1928, the time for filing the return having been extended to that date. A tax of $531.71 shown on the return was paid. The return was prepared on the basis of cash receipts and disbursements and respondent's notice of deficiency herein was prepared on the same basis.
On January 9, 1931, respondent mailed deficiency notice to the petitioner, who within due time filed his petition and respondent duly filed answer thereto.
At all times here material, petitioner owned 1,029 shares of the common stock of the Kimberly-Clark Co. and in 1926 was its eastern sales manager. The Kimberly-Clark Co. was organized under the laws of Wisconsin in 1880. Its principal place of business is Neenah, Wisconsin. In 1927 it had about fifty stockholders. Since organization, the company has been engaged in the manufacture and sale of paper and paper products.
*691 During the World War there was a wide demand for surgical dressings. Ernest Mahler, who was in the employ of the Kimberly-Clark Co., developed from wood pulp a substitute for absorbent cotion, which he called "cellucotton absorbent wadding." This product was manufactured*1054 at low cost, and was much more satisfactory than cotton for surgical dressings because it absorbed fluids over the entire area of a bandage, not simply over the wound. The Kimberly-Clark Co. sold the cellucotton wadding to hospitals, the Red Cross, the American Society for French Wounded, the Medical Corps, and the Chemical Warfare Service of the Army. The demand became so great that it was necessary for the Kimberly-Clark Co. to set up and equip an additional mill to make the wadding.
At the close of the war, large contracts for wadding were canceled by the Red Cross and the Army Medical Corps without payment of any compensation to the Kimberly-Clark Co. The Red Cross and other former purchasers had large stocks of the wadding on hand, which they endeavored to sell. The price structure was demoralized and the surplus stocks were finally taken up by the Kimberly-Clark Co. The equipment for manufacture of the wadding remained idle for about eight months after the war.
Field nurses had discovered that the cellucotton wadding could be used for sanitary napkins. Kimberly-Clark Co., after investigating this use for the product, began the manufacture of cellucotton wadding into*1055 napkins and related products. The new business grew rapidly. In 1920 the Kimberly-Clark Co. caused the Cellucotton Products Co. to be incorporated under the laws of Wisconsin and transferred the wadding business to it in return for 3,000 shares of its $100 par value stock. The 1,000 remaining authorized shares were never issued.
Between 1920 and 1926 the Kimberly-Clark Co. sold 315 of the 3,000 shares of Cellucotton Products Co. stock to certain officers and employees of the Cellucotton Products Co. who had been instrumental in originating and developing the new products made from absorbent wadding. Thereafter and at all times here material, the Kimberly-Clark Co. owned about 89 percent of the stock of the Cellucotton Products Co. and sundry officers and employees of that company owned the remaining 11 percent. In September 1926 the name of Cellucotton Products Co. was changed to Kotex Co. and its authorized capital was increased to 50,000 shares, no par value, the stockholders making a pro rata exchange of their old $100 par value stock for new no par stock. The Kimberly-Clark Co. received from the Kotex Co. 44,749 new shares for the 2,685 old shares theretofore held.
*1056 Between 1920 and 1927 the Kimberly-Clark Co. manufactured absorbent wadding at its Neenah plant and sold it to the Cellucotton *692 Products Co., the latter company fabricating the absorbent wadding into napkins and specialties and selling them under the trade names "Kotex", "Kleenex", "Fillex", etc. Cellucotton Products Co. had a wholly owned subsidiary, organized in Canada under the name Cellucotton Products Co., Ltd. (name changed in September 1926 to Kotex Co. of Canada, Ltd.), which purchased absorbent wadding from the Niagara Falls plant of the Kimberly-Clark Co., Inc., fabricated it into Kotex, Kleenex, Fillex, etc., at its plant in Niagara Falls, Ontario, and sold these products in Canada. Consolidated Federal income tax returns were filed for the years 1921-1926, inclusive, by the Kimberly-Clark Co., Kimberly-Clark Co., Inc., and Cellucotton Products Co.
The sales volume of the Kotex Co. was largely dependent upon advertising. Large sums were spent for this purpose by the Kotex Co. and its business prospered. It shared the quarters of the Kimberly-Clark Co. in Neenah, and its finances, manufacturing, and general management were directed by the Kimberly-Clark*1057 Co.
The Kimberly-Clark Co. customers were few but made large purchases and Neenah was a satisfactory manufacturing and distributing point for paper products. The situation was different with respect to the Kotex Co. Its business had grown rapidly. By 1926, 15 to 25 percent of the gross sales of the Kimberly-Clark Co. were made to the Kotex Co. and it supplied at least 30 percent of the total income of the Kimberly-Clark Co. By 1926 the Kotex Co. had become the Kimberly-Clark Co.'s largest and most profitable customer. The rapid growth of the Kotex Co.'s business gave rise to certain problems of management, advertising, and distribution which could not readily be solved at Neenah. The products of the Kotex Co. were sold on a national scale of tens of thousands of distributors. This necessitated a large bookkeeping and clerical force. The joint accounting personnel and the office facilities of the two companies at Neenah were inadequate. The shipment of large quantities of Kotex, Fillex, and Kleenex in small lots to numerous customers gave rise to express and freight demands which could not be met at Neenah. So important was the matter of advertising that daily contact with*1058 a national advertising agency was imperative from the standpoint of the Kotex sales efforts and the daily management of its business. This contact could only be had in a large city. Extensive credit and collection facilities were vital to the Kotex Co. and the facilities at Neenah were limited.
Most of the Kimberly-Clark Co.'s customers were publishers. They knew that the Kimberly-Clark Co. practically owned the Kotex Co. and dominated its affairs. These publishers insisted on obtaining Kotex advertising as a condition to buying paper from the Kimberly-Clark *693 Co., regardless of whether their publications fitted the advertising requirements of the Kotex Co. Finally, the marked difference between the sales methods of the Kimberly-Clark Co. and the Kotex Co. made it advisable to provide a wholly independent sales organization for the Kotex products. By the fall of 1926 it had become evident that the Kotex Co. had outgrown its place at Neenah, that it should be moved to Chicago, that it should have its own independent officers, directors, and employees, and that it should be separated from the Kimberly-Clark Co.
The minority stockholders of the Kotex Co. were the*1059 active force behind the company and they were men of entirely different temperament as a sales force from the sales force of the Kimberly-Clark Co., and not interested intimately in the Kimberly-Clark Co. but desirous of getting as much benefit from the Kimberly-Clark Co. as they could. It was decided to separate the two businesses, so that it could be "honestly" said the two companies were separate; the Kotex Co. "standing separately on its own feet."
A deposit agreement was prepared and executed on November 1, 1926, by the Kimberly-Clark Co. and by a deposit [*] , consisting of five persons, all directors and officers of Kimberly Clark Co. Prior to January 1, 1927, all the stockholders of the Kimberly-Clark Co. and Kotex Co. had executed the deposit agreement, which, in part, was as follows:
WHEREAS the Kotex Company, a Wisconsin corporation, hereinafter called the "Old Corporation" was originally organized as the Cellucotton Company, with an authorized capital stock of 5000 shares of $100 par value each, of which 3000 shares were outstanding, and which was changed by its corporate action to 50000 shares common stock without par value, all of which are now issued and outstanding, *1060 and whereas a plan is proposed for refinancing and reorganizing the business of said Old Corporation so as to enlarge the same and make it practicable to expand and carry it on more efficiently and on a larger scale, and as part of such plan to cause to be organized a corporation under the laws of the State of Delaware, hereinafter called the "New Corporation" which shall take over and acquire all or part of the property, assets and good will of the Old Corporation in such manner as may to the directing management seem wisest; that is, either by direct transfer of all of the assets or a part thereof, and as to the part not so directly transferred by holding and controlling through stock ownership in subsidiary, controlled and affiliated corporation or corporations either by direct ownership of stock or through stock held by trustees or other stockholders in intermediate corporations, all as may be deemed most advisable, and
WHEREAS, a large proportion of the capital stock of the Old Corporation is held by the Kimberly-Clark Company, a Wisconsin corporation, hereinafter called the "Paper Company," having an authorized capital stock of 50,000 shares of preferred stock and 110,000 shares*1061 of common stock of no par value, and as a part of the plan of reorganization it is contemplated that said Paper Company may distribute to and among its common stockholders its stockholdings in the Old Corporation in which event said common stockholders will become *694 stockholders of the Old Corporation and as such will be parties to said refinancing and reorganization.
NOW THEREFORE this agreement made as of the first day of November, 1926, by and between the holders of such stock in the Old Corporation and the holders of such stock in the Paper Company as shall become parties to this agreement in the manner hereinafter set forth, and who are hereinafter collectively referred to as "Stockholders," and
F. J. Sensenbrenner J. C. KimberlyErnst Mahler
S. F. ShattuckHarry Price
hereinafter referred to as the "Committee," all in consideration of the mutual agreements herein recited the trust hereinafter set forth by such Committee, and upon the consideration by each such consenting and/or depositing Stockholder of like consent, assignment and/or deposit by such other holders as may become parties hereto.
WITNESSETH
1. This agreement shall be signed by members*1062 of the Committee and filed with the Kotex Company at its office in the city of Neenah, Wis., and any holder of stock in the Kotex Company and/or in the Kimberly Clark Company may make himself a party to this agreement by signing this agreement or a counterpart thereof, and/or by depositing with the Committee his certificate for shares of stock in the Kotex Company duly endorsed in blank, and the shares represented by the certificates so deposited or hereafter acquired by the Committee as hereinafter provided shall be received by the Committee and held by the sole direction of the Committee, and under the terms and provisions of this agreement; and each of such Stockholders, upon subscribing to a copy of this agreement and/or depositing such certificate shall, as to the shares of stock in the Old Corporation which said Stockholder has at the time of becoming a party to this agreement or may acquire pursuant to the terms of the reorganization plan as proposed by this agreement, become a party to and be bound by the provisions of this agreement, and shall receive from the Committee signed by one of its number duly authorized a transferable certificate.
2. When the organization of*1063 the New Corporation shall have been accomplished, to the approval of such Committee, and the Committee shall have decided that such reorganization is being carried out substantially in accordance with the plan as herein outlined and in a manner approved by the Committee, such Committee shall have the power and is hereby authorized, as representing each depositor hereunder, to assign and transfer such stock and the certificate for the same to such New Corporation, or to such subsidiary corporation or trustee or trustees as the New Corporation may direct, or to surrender the same for cancellation or retirement, as may be deemed best, and to receive for each of the depositors hereunder in exchange for each share of such stock so deposited not to exceed 0.8 of a share of preferred stock and 4.4 shares of common stock of the New Corporation and to deliver to each depositor or his transferee upon the surrender of such certificate of deposit for cancellation the certificate or certificates of stock in the New Corporation to which the depositor or his transferee shall be entitled; and for the purposes aforesaid, the Committee is appointed the agent, attorney and representative of each depositor, *1064 and shall have full power and authority to represent, bind and act for each depositor in all such matters as fully as the depositors might themselves do, as the absolute owner of the shares so deposited.
*695 It was further provided in the deposit agreement in substance as follows:
3. That the committee should cause the new corporation to be organized under the laws of Delaware, with certain purposes and objects stated, the charter to provide for not less than 40,000 shares of preferred and 220,000 shares of common stock each of no par value; with
4. Power in the committee in behalf of each depositor, to make such changes as it might find desirable, including authority to provide for issuing bonds and second preferred stock not exceeding $4,000,000 par; provided, however, that the assets of the old corporation should become vested in the new corporation by direct transfer of stock or otherwise, and "in the event of the declaration by the Paper Company of a dividend payable in the stock of the Old Corporation, the shares represented by such dividend * * * shall be, in the case of each depositor, bound by the terms of this agreement."
5. If the exchange of stock should*1065 not be accomplished by March 1, 1927, the deposited certificates would be returned to the holders of the certificates of deposit.
6. The committee was to serve without compensation, to fill vacancies, and to adopt rules of its procedure; and
7. Be subject to no personal liability except for willful fraud or actual bad faith; and
8. Have power to terminate the deposit agreement when satisfied a sufficient amount of such stock would not be deposited or for any other reason.
9. Each stockholder a party to the agreement authorized the committee to assent to all steps necessary to accomplish the stated objects, giving the members of the committee through proxies full powers in the premises; and
10. With the further power to amend the agreement to carry out its intendment and to construe the agreement, each stockholder agreeing that such construction should be final and binding on him; and
11. The agreement was made binding on such stockholders and their executors, etc.
A written agreement, captioned "Reorganization Plan of Kotex Company (Wis.)", was executed in December 1926 (as of December 1, 1926) by the Kotex Co. (Wisconsin), Kimberly-Clark Co., the members of*1066 the deposit committee and by some, but not all, of the stockholders of both companies. Through error the deposit agreement and the reorganization plan both refer to the authorized capital stock of Cellucotton Products Co. as 5,000 shares, the correct number being only 4,000 shares.
*696 A new Delaware corporation was organized on December 8, 1926, under the name of International Cellucotton Products Co., with an authorized capitalization consisting of 220,000 shares of common and 40,000 shares of preferred stock, both without par or nominal value. There were also organized, in December 1926, four new corporations, Kleenex Co., Cellucotton Products Co., Kotex Co. (Delaware), and Kotex Manufacturing Co. Each of the four last-named corporations was incorporated in December 1926 under the laws of Delaware, with an authorized capital stock of 1,000 shares, no par value.
The "Reorganization Plan of Kotex Company (Wis.)" contained recitals similar to those in the deposit agreement and such are not here repeated; The plan, in part, provided:
(1) That the stockholders of the Kotex Company will forthwith exchange the shares of stock of said corporation now outstanding and owned*1067 by them, having a par value of $100 each, for their pro rata shares of said Fifty Thousand (50,000) shares of common stock without par value as heretofore authorized by said Kotex Company;
(2) That as soon as said Kimberly-Clark Company has completed the exchange of the stock owned by it in said Kotex Company, as provided in paragraph (1) hereof, it shall cause a dividend to be declared upon its common capital stock, consisting of its entire ownership of said common no par value stock in said Kotex Company. It is the understanding of all of the parties hereto that the declaration and payment of the foregoing dividend is for the express purpose of assisting in carrying out and making effective this plan of reorganization.
(3) That Kimberly-Clark Company and all stockholders of said Kimberly-Clark Company and of said Kotex Company who are parties to this contract agree, that all of the common stock, no par value of the Kotex Company which they or any of them may be entitled to receive by virtue of the exchange of the stock heretofore held by them in said Kotex Company and/or the dividend contemplated in paragraph (2) hereof, shall be deposited with and may be issued directly to*1068 the said Committee named in said deposit agreement, for the express purpose of assisting in the carrying out of this reorganization plan.
(4) That a corporation shall be organized under the laws of the state of Delaware under the name of KOTEX COMPANY, or some similar name, with a capitalization consisting of Forty Thousand (40,000) Shares of no par value preferred stock, and Two Hundred Twenty Thousand (220,000) Shares no par value common stock. That the preferred stock shall be entitled to receive dividends at the rate of Six Dollars ($6.00) per share annually, which dividends shall be cumulative, and said stock shall also be preferred as to assets upon liquidation to the extent of $100 per share and no more.
That said preferred stock may be retired at any time upon thirty (30) days' notice, at $100 per share and accrued dividends, by action of the Board of Directors of the company. Shares of preferred and common stock shall have equal voting rights, share for share. * * *
(5) That upon the completion of the organization of said Delaware company, the stockholders of the Kotex Company (Wisconsin) who have become parties to this contract, will exchange the stock, then owned*1069 by them, in the said Kotex Company (Wisconsin) for their pro rata share of said Forth Thousand (40,000) shares of no par value preferred stock and Two Hundred *697 Twenty Thousand (220,000) shares no par value common stock of said Kotex Company (Delaware).
(6) That the said Kotex Company (Delaware) when its organization has been completed, will purchase from the Kotex Company (Wisconsin) all of its assets, including trade-marks and goodwill, excepting only machinery and inventory in the state of Wisconsin and proper working capital; and the said Kotex Company (Wisconsin) agrees that it will sell said assets to the said Kotex Company (Delaware) in consideration said company paying cash therefor or rendering and cancelling a pro rata amount of the capital stock of the said Kotex Company (Wisconsin) then owned by the Kotex Company (Delaware), it being understood that all of the property so sold or transferred shall be taken over at its then book value as appears on the books of the Kotex Company (Wisconsin).
(7) That the said Kotex Company (Delaware) shall, when its organization has been fully accomplished, make and enter into such contract or contracts with Kimberly-Clark*1070 Company and the Kotex Company (Wisconsin) as may seem best under all the circumstances then existing to promote the carrying on of the business for which said Delaware company was organized.
On January 3, 1927, the deposit committee sent a notice to the Kimberly-Clark Co., requesting the company to "issue and deliver directly to it any and all certificates of the common stock of Kotex Company, Wisconsin, which any of said individual stockholders may be entitled to receive by virtue of any dividend declared by you upon the issued common stock of your company in the form of the no par stock of the Kotex Company of Wisconsin." Attached to the notice was a statement showing the names of the individual holders of common stock of the Kimberly-Clark Co. (together with their respective holdings) who had signed the deposit agreement,
Pursuant to the aforesaid notice the board of directors of the Kimberly-Clark Co., at a special meeting on January 3, 1927, adopted the following resolution:
WHEREAS, this corporation owns and holds 44,749 shares of the capital stock of the Kotex Company, a Wisconsin corporation; and
WHEREAS, this corporation has a surplus consisting in part of said shares*1071 of stock of the Kotex Company available for dividends; and
WHEREAS, this corporation has become a party to a reorganization plan and agreement between this corporation and Kotex Company and the stockholders of this corporation and the Kotex Company, which re-organization plan is dated December 1, 1926; and
WHEREAS, said re-organization plan contemplates the distribution of said stock of the Kotex Company by declaration of a dividend thereof by this corporation to the stockholders thereof;
NOW THEREFORE IT IS HEREBY RESOLVED, that for the purpose of carrying out and effectuating the re-organization plan as contemplated in the Deposit Agreement of November 1, 1926, and as agreed upon in the re-organization plan of December 1, 1926, dividend be and the same hereby is declared in the form of 44,749 shares of the no par capital stock of the Kotex Company, and that said dividend by paid by distributing to the holders of the common stock of this company said 44,749 shares of said stock of the Kotex Company pro rata in proportion to the stockholdings of the Kimberly-Clark Company as of the *698 date hereof, or by delivering said shares to the Deposit Committee to the extent that*1072 said stockholders have signed the Deposit Agreement dated November 1, 1926 or the Re-organization Agreement dated December 1, 1926; and that the request received from the Deposit Committee addreassed to Kimberly-Clark Company be complied with, and the stock certificate issued in accordance therewith; and that the original request be made a part of this record.
On January 3, 1927, the Kimberly-Clark Co. endorsed in blank the certificates representing the 44,749 shares of the Kotex Co. (Wisconsin) stock and delivered them to the Kotex Co. (Wisconsin). The latter company issued new certificates in the names of the Kimberly-Clark Co. stockholders, pro rata, and delivered the certificates to the deposit committee, thereby completing the deposit with the committee of the entire outstanding stock of the Kotex Co. (Wisconsin). On the same day, the deposit committee endorsed in blank all (except directors' qualifying shares) of the stock certificates of the Kotex Co. (Wisconsin), totaling 49,991 shares, and delivered the certificates to the Kotex Co. (Wisconsin) in exchange for one certificate issued in the name of the deposit committee for 49,991 shares. The remaining 9 shares, representing*1073 directors' qualifying shares, were endorsed in blank and were in the possession of the deposit committee, but were permitted to remain outstanding in the names of the directors.
On January 3, 1927, the deposit committee subscribed for the entire authorized 220,000 shares of common stock and 40,000 shares of preferred stock of the International Cellucotton Products Co., payment therefor to be made in 50,000 shares of the stock of the Kotex Co. (Wisconsin).
On January 4, 1927, the International Cellucotton Products Co. accepted the subscription made the previous day by the deposit committee for its entire authorized capital stock and on the same day the deposit committee delivered to the International Cellucotton Products Co. certificates, endorsed in blank, for the entire capital stock (50,000 shares) of the Kotex Co. (Wisconsin) and pursuant to the request of the deposit committee, the International Cellucotton Products Co. issued therefor to the deposit committee one certificate for the 220,000 shares of common and one certificate for the 40,000 shares of preferred stock of the International Cellucotton Products Co.
On January 4, 1927, the International Cellucotton Products*1074 Co. subscribed for all of the capital stock of the Kotex Co. (Delaware), Kleenex Co., Cellucotton Products Co. (Delaware), and Kotex Manufacturing ufacturing Co., and paid for the capital stock of each of them by transferring to them shares of stock of the Kotex Co. (Wisconsin) in various amounts, leaving 11,537 shares of that stock directly held by the International Cellucotton Products Co. Each of these transactions *699 was placed on the books of the respective companies at the book values as of December 31, 1926. Within a few days thereafter, each of these four subsidiaries surrendered the stock that it held in the Kotex Co. (Wisconsin) and received from the Kotex Co. (Wisconsin) certain assets from it in payment therefor.
On February 2, 1927, the deposit committee sent formal notices to the depositors of the Kotex Co. (Wisconsin) stock that they were entitled to receive shares of preferred and common stock of the International Cellucotton Products Co. in proportion to the stock of the Kotex Co. (Wisconsin) deposited by them respectively, on the basis of eight-tenths of a share of preferred stock and four and fourtenths shares of common stock for each share of Kotex*1075 Co. (Wisconsin) stock so deposited with the committee. Such a notice was sent to and received by the petitioner herein.
The Kimberly-Clark Co. did not own any stock of the Kotex Co. after the declaration of a dividend made by it on January 3, 1927.
Following the passage of the resolution of January 3, 1927, a journal entry in the account books of the Kimberly-Clark Co. was made, reading as follows:
| Surplus--------------------------------------------------------- | $268,500.00 | |
| To | ||
| Stock in other Cos----------------------------------------- | $268,500.00 | |
| To write off value of Kotex Co. stock a/c 44,749 shares | ||
| of Kotex Co. stock owned by K.C. Co. being distributed | ||
| as a dividend to K.C. Co. common shareholders. |
The fair market value of the stock of the Kotex Co. on January 3, 1927, was $138.81 per share.
The petitioner, a witness at the hearing, was not asked to deny or affirm the receipt of the alleged distribution of the Kotex Co. stock, and gave no testimony at variance with the respondent's determination with respect thereto.
All of the officers and directors of the Kimberly-Clark Co. were officers or directors of the Kotex Co. *1076 (Wisconsin). All of the officers and directors of the International Cellucotton Products Co. and its subsidiaries were officers or directors of Kimberly-Clark Co. The principal offices and places of business of the Kotex Co. (Wisconsin) and Kotex Manufacturing Co. were at the paper mills of the Kimberly-Clark Co. at Neenah, Wisconsin, and the Kimberly-Clark Co., Inc., at Niagara Falls, New York.
In June 1927 the deposit committee surrendered its certificates for 220,000 shares of the common and 40,000 shares of the preferred stock of the International Cellucotton Products Co. to that company and new certificates were issued to the owners of Kotex Co. stock pro rata. There were issued to the petitioner direct 1,847 shares of common and 336 shares of preferred stock of the International *700 Cellucotton Products Co. The petitioner, in July 1927, sold the 336 shares of preferred stock at $100 per share.
Counsel for the respective parties have stipulated that the computation of any gain or loss resulting from the sale will, if this Board approved, be computed under Rule 50.
OPINION.
SEAWELL: The respondent determined that the petitioner in 1927 received as a dividend*1077 distribution from the Kimberly-Clark Co. 419.866 shares of Kotex Co. stock which at the time had a fair market value of $138.81 per share, or an aggregate value of $58,281.60.
In our opinion, and we so hold, the correctness of the respondent's determination as to the fair market value of the Kotex Co. stock at the date (January 3, 1927) he asserts distribution of same was made is sustained by the record. However, in behalf of the petitioner, it is very earnestly insisted that there was in fact no distribution of Kotex Co. stock as contended by respondent and that petitioner did not actually receive any Kotex Co. stock.
Numerous authorities are cited and extended arguments made by counsel on both sides in support of their respective positions. While carefully considering them, it is not necessary to review and discuss them fully nor in detail, as certain principles enunciated in a few cases are, in our opinion, controlling and determinative of the issues involved. We have endeavored to make a full and fair statement of the material facts shown by the record and necessary to be considered in determining the issues.
The respondent"s determination of deficiency is based on*1078 the theory that the declaration by resolution of the board of directors of the Kimberly-Clark Co. on January 3, 1927, of a dividend of 44,749 shares of no par capital stock of the Kotex Co. for distribution pro rata, in proportion to the stockholdings in the Kimberly-Clark Co. and as set forth in the resolution, and the action thereafter taken, constituted a taxable dividend within the meaning of section 201(a) and (b) of the Revenue Act of 1926. The petitioner denies there was any dividend distribution of said stock, asserting that under the circumstances there could be none, and insists that what the stockholders of the Kimberly-Clark Co. were to receive and did receive in 1927 as a distribution was not Kotex Co. stock, but International Cellucotton Products Co. stock for which the Kotex Co. stock had been exchanged, and that such action brought the transaction within and governed by section 203(c) of the act, under which no gain is recognized.
That the Kimberly-Clark Co. on January 3, 1927, did own 44,749 shares of Kotex Co. no par stock and had a surplus, consisting in *701 part of those shares, sufficient in amount for a dividend distribution as recited in the aforesaid*1079 resolution, is not disputed. So far as the record shows there was no legal obstacle to prevent the Kimberly-Clark Co. from declaring and distributing as a dividend to its stockholders the 44,749 shares of Kotex Co. stock, as respondent contends in effect was done, unless, as insisted for the petitioner, such a distribution could not be made under the then existing circumstances on account of the aforesaid two prior agreements of November 1, 1926, and December 1, 1926.
In order to bring the transaction within and satisfy the requirements of section 293(c), supra, as insisted by the petitioner, the distribution would have to be made "in pursuance of a plan of reorganization, to a shareholder in a corporation a party to the reorganization", of "stock or securities in such corporation or in another corporation a party to the reorganization." The record does not indicate that any reorganization was ever contemplated by or occurred with respect to the Kimberly-Clark Co., either within the meaning of "reorganization" as defined in section 203(h)(1) of the Revenue Act of 1926 or within any accepted or recognized meaning of that term. A reorganization, in the statutory sense, did actually*1080 occur in 1927 in the case of the Kotex Co., but at the time of such reorganization the Kimberly-Clark Co. had, in our opinion, ceased to be one of its shareholders, the stock of the Kotex Co. formerly owned by the Kimberly-Clark Co. being then owned by its shareholders, who exchanged it for stock of the new corporation, the International Cellucotton Products Co.
The term "a party to a reorganization" as defined by section 203(h)(2) of the 1926 Revenue Act "includes a corporation resulting from a reorganization and includes both corporations in the case of an acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation." The Kimberly-Clark Co. was not a corporation "resulting from a reorganization." Nor was it either the acquiring corporation or a corporation the shares of which were acquired in the statutory case of "an acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation." The Kimberly-Clark Co. was not, in our opinion, in the sense of*1081 the 1926 Revenue Act, section 203(h)(1), a party to any merger or consolidation; nor was it recapitalized and there was no change in its identity, form, or place of organization. The petitioner, in our view, can find no support in any language of the statute to sustain his contention that the Kimberly-Clark Co. was "a party to the reorganization" within the meaning of section *702 203(c), supra. If such determination is correct, it necessarily follows that the declaration of a dividend of Kotex Co. stock on January 3, 1927, by the Kimberly-Clark Co. was not made by a corporation a party to a reorganization and the petitioner as a stockholder therein was not a shareholder in a corporation a party to a reorganization.
The insistence in behalf of the petitioner is that the Kotex Co. stock in the hands of the Kimberly-Clark Co. was impressed with a specific enforceable trust at the date of the dividend resolution of January 3, 1927, the Kimberly-Clark Co. prior to that date having become a party to the deposit agreement of November 1, 1926, which was signed by the Kimberly-Clark Co., Kotex Co., and all the stockholders of both companies. For petitioner it is argued that*1082 by the terms of the deposit agreement the Kotex Co. stock "could be used only for the purpose" of the exchange for stock of the International Cellucotton Products Co.
Suppose any or all of the individuals who owned the minority shares of the Kotex Co. had assigned or transferred their respective shares subsequent to having signed the deposit agreement, would such assignments or transfers by void or ineffective to pass their interests in and title to such shares, because their assignees or transferees would be obligated to make the exchange of stock as contemplated in the deposit agreement? We think not. And if not, is the transfer or assignment of Kotex Co. stock made by the Kimberly-Clark Co. on January 3, 1927, as set forth in resolution passed by its board of directors on that date, void or ineffective? We do not think so. The resolution of January 3, 1927, declared a dividend in stock of the Kotex Co. "and that said dividend be paid by distributing" to its holders of common stock "shares of said stock of the Kotex Company, pro rata, in proportion to the stockholdings of the Kimberly-Clark Company as of the date hereof or by delivering said shares to the Deposit Committee*1083 to the extent that said stockholders have signed the Deposit Agreement dated November 1, 1926 or the Reorganization Agreement, dated December 1, 1926. * * *"
On January 3, 1927, the Kimberly-Clark Co. endorsed, in blank, certificates representing 44,749 shares of Kotex Co. stock and delivered them to the Kotex Co., which issued new certificates in the names of the Kimberly-Clark Co. stockholders, pro rata, which certificates were not delivered in person to the individual stockholders entitled thereto and the owners thereof subject to terms of the deposit agreement, but, in accordance with their consent and agreements previously expressed, to the deposit committee, thereby completing the deposit with the committee of the entire outstanding stock of the Kotex Co.
*703 The deposit agreement, in part, provided:
* * * and in the event of a declaration of stock dividend or dividends upon any shares so deposited, or in the event of the declaration by the Paper Company [Kimberly-Clark Co.] of a dividend payable in the stock of the Old Corporation [Kotex Co.] the shares represented by such dividend or dividends should be, in the case of each depositor, bound by the terms*1084 of this agreement, and the provisions thereof * * *.
After the Kimberly-Clark Co. on January 3, 1927, endorsed in blank the Kotex Co. certificates as aforesaid and the Kotex Co. issued new certificates in the names of the Kimberly-Clark Co. stockholders, pro rata, in keeping with the resolution of its board of directors declaring a dividend payable in Kotex Co. stock, the stockholders of Kimberly-Clark Co. in whose names the Kotex Co. stock was issued, in our opinion and we so hold, acquired legal title to those shares as a dividend distribution, notwithstanding the limitations or restrictions by which they were bound by reason of prior agreements made with respect to the disposition to be made of the stock.
In the matter of restrictions, in Rodrigues v. Edwards, 40 Fed.(2d) 408, affirming 33 Fed.(2d) 1003, the court said:
Plaintiff concedes that the receipt of something of exchangeable value or of which he could dispose would constitute income. See Eisner v. Macomber,252 U.S. 189">252 U.S. 189, 207, 40 S. Ct. 189">40 S.Ct. 189, 64 L. Ed. 521">64 L.Ed. 521, 9 A.L.R. 1570">9 A.L.R. 1570. He asserts, however, that under the contract he could make no disposition of the stock without*1085 the consent of the company or Meyer; furthermore, that it was subject to purchase at some future book value.
In our judgment, the contract not only did not prevent plaintiff from disposing of the trust certificates, but, on the contrary, it evidenced a clear intention that he should have a right of immediate disposition thereof. The trust certificates were to bear on their face the statement that they should not be assignable except in accordance with the terms of the agreement; this clearly implied that, subject to those terms, they might be assigned. If. Uniform Stock Transfer Act, P15 (P.L.N.J. 1916, p. 402); Baumohl v. Goldstein,95 N.J.Eq. 597, 124 A. 118">124 A. 118. Clearly, therefore, they were not wholly inalienable, even though a prospective purchaser were to acquire them subject to the limitations under which they were held by plaintiff. The requirement of consent by a third person is not an absolute bar to negotiation (Farmers' Mercantile & Supply Co. v. Laun,146 Wis. 252">146 Wis. 252, 131 N.W. 366">131 N.W. 366; In re Copal Varnish Co., [1917] 2 Ch. 349); on the contrary, it implies that, if such consent be secured, the stock or trust certificate*1086 is assignable. Some restrictions upon the transferability of corporate shares or trust certificates are now common; but such shares or certificates may nevertheless be readily marketed. See "Restrictions Upon the Transferability of Shares of Stock," 42 Harv. Law Rev. 555, and cases cited.
In behalf of the petitioner it is insisted that the case of Sidney F. Tyler et al., Trustees,28 B.T.A. 367">28 B.T.A. 367, affirmed by the Circuit Court of Appeals for the Third Circuit, 72 Fed.(2d) 950, is "a square authority against all aspects of respondent's contention that Kimberly-Clark *704 stockholders are taxable upon a dividend in Kotex Company stock."
In the Tyler case, supra, in which case petitioners kept their books and filed income tax returns on the cash receipts and disbursements basis, the Commissioner determined that the profit realized from the sale of certain shares of stock was received by and taxable to petitioners in 1927 - the petitioners contending that such profits were not received by them until the year 1928. We held that the profit was not realized until 1928 and hence there was no deficiency in 1927. In disposing of*1087 the case on appeal, the Circuit Court of Appeals, in part, said:
Whether the profit was realized in 1927 or 1928 is dependent upon whether the Safe Deposit and Trust Company of Greensburg was the agent for the respondents, since they concede that, if the Trust Company was their agent, receipt of the purchase price by it in 1927 was equivalent to receipt by them.
* * *
The doctrine of constructive receipt is applicable only when there is no substantial limitation or restriction as to the time of payment to the taxpayer. The deposit agreement, however, does limit and restrict the time of payment since it specifically provides that the depositing shareholders are not to receive any money until after January 1, 1928. They could neither demand their share nor control its disposition prior to that date. Under the agreement, the respondents, could not and did not in fact or constructively receive the money for their shares until 1928. We are of the opinion therefore that the Board of Tax Appeals did not err in holding that the income was earned in 1928 and that the profit therefrom was taxable in that year.
In the instant case, the deposit agreement - when signed by stockholders*1088 of the Kimberly-Clark Co. - made the deposit committee, in our opinion and we so hold, the agent, with very broad powers it is true, of each stockholder, and in the event of a declaration by the Kimberly-Clark Co. of a dividend payable in Kotex Co. stock, the shares represented by such dividend were to be bound by the terms of the deposit agreement and issued to the committee or any member it might designate for endorsement and deposit thereunder. There was no prohibition against the declaration of a dividend in Kotex Co. stock and the reference to same in the deposit agreement as therein set forth was a clear indication that there might be such a dividend and, if so, how the stockholders of the Kimberly-Clark Co. had agreed it might be handled. Such a dividend was declared by the resolution of January 3, 1927, and Kotex Co. stock was thereafter issued in the names and for the number of shares to which each stockholder in the Kimberly-Clark Co. was entitled, such shares being dealt with by the deposit committee as authorized by the stockholder when he signed the deposit agreement of November 1, 1926, and thereby constituted the deposit committee his agent in the matter of receiving*1089 and otherwise dealing with the Kotex Co. stock dividend.
*705 The deficiency notice sets forth that the petitioner in 1927 received 419.866 shares of Kotex Co. stock as a dividend distribution from the Kimberly-Clark Co., and such, the record shows, was the correct number to which he was entitled if Kotex Co. stock was in fact distributed as a dividend on January 3, 1927. The petitioner was called as a witness at the hearing. He did not deny or affirm the receipt of the alleged distribution of Kotex Co. stock and was excused without giving any testimony at variance with the respondent's determination.
In whatever light the declaration of a dividend by the Kimberly-Clark Co. payable in Kotex Co. stock is viewed, the petitioner got the benefit thereof.
The parties agree, and we concur, that the exchange of Kotex Co. stock for International Cellucotton Products Co. stock was a non-taxable transaction. (Sec. 203(b)(4), Revenue Act of 1926.) It is not necessary to decide whether the transaction resulted in a reorganization of the Kotex Co. (See *1090 Alfred R. L. Dohme,31 B.T.A. 671">31 B.T.A. 671.)
Upon the whole record and careful consideration of the authorities cited, though we have not fully discussed them, we are of the opinion and hold that the respondent did not commit error in his determination that in 1927 petitioner received 419.866 shares of Kotex Co. stock as a dividend distribution from the Kimberly-Clark Co.; that the value of that stock at the time of distribution was $138.81 per share; and that the same was not reported on petitioner's 1927 income tax return. Respondent's determination of deficiency in the amount of $8,323.17 with respect thereto is therefore approved. The respondent having duly made claim for an increased deficiency and it appearing from stipulation of counsel for the respective parties that the petitioner in July 1927 sold 336 shares of the preferred stock of the International Cellucotton Products Co. at the price of $100 per share, which was not reported on his income tax return for 1927, and that said shares were received or acquired in the manner and on the basis set forth in our findings of fact, we are of the opinion and hold that the sale of said stock was a taxable transaction, and, *1091 counsel of the respective parties having so stipulated, provided the Board approves, the gain or loss arising therefrom will be computed under Rule 50.
Reviewed by the Board.
Judgment will be entered under Rule 50.
SMITH concurs in the result.
GOODRICH dissents.