*1773 1. Petitioner's payments to holders of its "full-paid stock" and "savings pass-book" shares, determined to be dividends rather than interest, and, therefore, not deductible from income.
2. Petitioner's payments to holders of "certificates of subscription to permanent stock" held to represent interest payments.
*1059 These are proceedings for the redetermination of deficiencies in income tax for the years and in amounts, as follows:
| Docket No. | Year | Deficiency |
| 14862 | 1921 | $46,248.80 |
| 31801 | 1922 | 49,847.66 |
| 39406 | 1923 | 41,008.10 |
| 45215 | 1924 | 33,116.59 |
| 45215 | 1925 | 32,784.97 |
| 45215 | 1926 | 32,665.20 |
| Total | 235,671.32 |
The errors alleged by petitioner are:
(1) The respondent has failed to hold that under the provisions of sections 231(4) of the Revenue Acts of 1918 and 1921, petitioner is exempt from income tax for the year 1921, as a domestic building and loan association. Upon hearing, petitioner specifically abandoned this allegation of error.
(2) The respondent has erroneously included in*1774 net income alleged interest paid by petitioner upon certificates of subscription to its "permanent" or "guaranteed" stock.
(3) The respondent has erroneously included in net income alleged interest paid by petitioner upon its "savings pass-book" stock and/or "installment certificates of investment."
(4) The respondent has erroneously included in net income alleged interest paid on petitioner's certificates of fully paid capital stock.
The respondent has disallowed deduction of each of the above described payments, upon the theory that they represent dividends rather than interest payments.
Upon hearing, petitioner was permitted to amend its petition in Docket No. 45215 to allege that the respondent has further committed error by including in petitioner's net income for the year 1924 the amount of $8,328.21 representing interest paid by petitioner *1060 during the year 1924 to holders of certificates of subscription to guaranteed stock. This alleged error is similar to that described in paragraph 2, above, relating to the years 1921 to 1923, inclusive.
FINDINGS OF FACT.
Petitioner is a California corporation, with its principal place of business at Los Angeles. *1775 It was organized in 1891, but was operating during the taxable years involved under amended articles of incorporation issued in 1913, which, so far as material, read as follows:
Second: That the purposes for which it is formed are to transact the general business of a mutual savings and loan association, also to receive money and accumulate funds to be loaned and to loan the same to their shareholders, stockholders and others; to permit shareholders and investors to withdraw part or all of their payments, investments or stock deposits, and prescribe the terms and conditions of such withdrawal; to cancel shares of stock the payments on which have been withdrawn; to receive deposits of money and to execute certificates therefor, to borrow money for the purpose of making loans and of paying withdrawals at maturity; it is formed to encourage industry, frugality, home building and savings among shareholders and members; the accumulation of savings; the loaning to its shareholders, members and others of the moneys so accumulated, with the profits and earnings thereon and the repayment to each of his savings and profits whenever they have accumulated, to the full par value of the shares, *1776 or at any time when he shall desire the same or when the corporation shall desire to repay the same, as may be provided in the bylaws, and to do all other acts authorized by law and more particularly by Title XVI of Part IV, Division I, of Civil Code of the State of California.
* * *
FOURTH: That the term for which said corporation is to exist is fifty years from and after the date of its incorporation.
* * *
SIXTH. That the amount of the capital stock of said corporation is twenty-five million (25,000,000) dollars, and the number of shares into which it is divided are two hundred and fifty thousand of the par value of one hundred dollars each.
By-laws of the petitioner adopted in 1913 and continued in effect until January 28, 1926, read, so far as is material herein, as follows:
ARTICLE I.
Section 1. This Association shall be known as the Fidelity Savings and Loan Association, and it is organized to provide a medium through which the savings of its stockholders and others may be invested so as to yield the largest returns consistent with safety.
* * *
ARTICLE VI.
Section 1. The authorized capital stock of this Association consists of 250,000 shares of*1777 a par value of one hundred dollars each.
*1061 Sec. 2. Stock issued shall be designated as follows:
Installment Stock - three classes - known as Class "A," Class "B" and Class "C"; Full-paid Stock, known as Class "D"; Permanent Stock known as Class "E"; Savings Pass-book Stock, known as Class "F", and Permanent Reserve Stock Class "G".
Sec. 3. The owner of installment stock shall pay to this Association, in advance, on or before the first day of each month, an installment of forty cents a month on each share of Class "A" stock; seventy cents a month on each share of Class "B" stock; and of one dollar a month on each share of Class "C" stock. Such stock shall mature and be payable at its face or par value, to the owner or holder thereof, when the amount paid, less the premium as provided in Section 8, Article 6, together with all profits credited on such shares, shall equal one hundred dollars. This stock may be issued upon the payment of the first month's dues, and each holder thereof shall pay to the Association, in advance, on or before the first day of each month, an installment of forty cents on each share of Class "A" stock, of seventy cents on each share of*1778 Class "B" stock, and of one dollar on each share of Class "C" stock, for a period not to exceed 130 months on Class "A" stock, 92 months on Class "B" stock, and 74 months on Class "C" stock.
Sec. 4. Full-paid Stock, Class "D", will be issued on payment, in advance, of its face or par value. The Association will pay cash dividends on this stock, at a rate not exceeding seven per cent per annum, semi-annually, on the first days of January and July of each year. This stock shall not further participate in profits.
Sec. 5. Permanent Stock. An issue of 10,000 shares of permanent non-withdrawable stock is authorized. The conditions of this issue shall be controlled by the Board of Directors.
This stock shall be subject to all of the rights, privileges and liabilities of stock in any other corporation.
Sec. 6. Savings Pass-book Stock. On this stock members may pay irregularly in time and amount. Dividends on this stock will be declared out of the earnings semi-annually, on the first days of January and July of each year, at a rate to be fixed by the Board of Directors - not to exceed five per cent per annum. This stock may be retired at the option of the Board of*1779 Directors on thirty days' notice.
Sec. 7. Permanent Reserve stock. The Permanent Reserve, as provided in Article X, Section 3, or any part thereof, may be capitalized and distributed pro rata to all stockholders in good standing at the time of such distribution, through the medium of Special Permanent Reserve stock. This shall be fully paid and non-withdrawable, and shall share in the earnings, the rate of dividend, to be fixed by the Board of Directors at the time of its issue, not to exceed six per cent per annum, payable semi-annually. This stock shall not further participate in profits.
Sec. 8. The Board of Directors may, at any time, limit the issue of stock, and may, after thirty days notice, require any or all members holding certificates of stock to surrender them in the order in which they were issued, and receive therefor the amount paid for such stock, together with all dividends declared.
Sec. 9. All stock of this Association other than Savings Pass-book stock and Class "D", on which no premium shall be charged, shall be sold at such premium as shall be fixed by the Board of Directors, which premium, if not paid at the time the stock is issued, shall be*1780 taken from the first payments made, or from the monthly payments, or both.
*1062 The Board of Directors, at its discretion, may require the payment of a membership fee in lieu of the premium as above provided, and it may fix the amount of such fee and provide for the manner in which it shall be paid.
ARTICLE VII.
CERTIFICATES OF INVESTMENT.
Section 1. The Board of Directors, at its discretion, may, in conformity with the state law, authorize the issue of installment or coupon certificates of investment. These must specify the date, amount, rate of interest, when payable and the conditions of withdrawal, and the withdrawal value at the end of each year.
ARTICLE VIII.
WITHDRAWAL.
Section 1. Installment shares not in arrears for dues or fines may be withdrawn upon thirty days' notice in writing. The member withdrawing shall receive the full amount paid, less the premium, together with all profits declared.
Sec. 2. Savings Pass-book stock may be withdrawn at will; however, the Directors may at any time require that reasonable notice of intention to withdraw draw be given, not in conflict with the state law.
ARTICLE IX.
TRANSFERS.
Section 1. *1781 Any member may transfer his shares, or any number of them, on payment of the transfer fee of ten cents a share.
Sec. 2. In case of the death of a shareholder, the legal representative may elect either to continue such shares to maturity or to surrender the same and receive therefor their full withdrawal value.
ARTICLE X.
FINES, PROFITS AND RESERVE
Section 1. Fines. All installments are due and payable on the first day of each month, in advance, and if unpaid after the fifteenth day of the month, they are subject to a fine of five per cent of the defaulted amount, for every neglect or refusal to make payment when payable.
Sec. 2. Profits. At least annually, at the close of the fiscal year, on December 31st, profits shall be equitably apportioned by the Secretary in proportion to the average amount to the credit of each share during the preceding year or period.
Profits from full-paid "D" stock and from Savings Pass-book stock, after paying the interest thereon, shall be credited to the installment stock as profits thereon.
Sec. 3. Permanent Reserve. Immediately before any dividend apportionment has been made, the Board of Directors shall cause to be set aside, *1782 out of the profits, a suitable sum, not less than the law requires, for a permanent Reserve.
The purpose of this shall be to protect and guarantee stockholders and others against any loss, and when once set aside, it shall be kept unimpaired. The income *1063 of this shall be available for the payment of losses. Any sum remaining after paying losses, as above provided, at the close of each fiscal year, shall be placed in the profits account.
* * *
On January 28, 1926, petitioner adopted new by-laws, the material provisions of which read as follows:
ARTICLE V.
STOCK.
Section 1. An issue of ten thousand shares of permanent stock having a par value of One Hundred Dollars a share is authorized.
Section 2. Other stock may be issued when authorized, as provided by law.
ARTICLE VI.
CERTIFICATES OF INVESTMENT.
Section 1. Certificates of Investment are authorized having a par value of One Hundred Dollars each. They may be either fully paid, or installment Certificates on which the par value shall be accumulated by regular or by irregular payments.
Section 2. Fully paid Certificates of Investment. These must be fully paid at the time of issue and*1783 bear interest payable semi-annually or quarterly.
Section 3. Installment Certificates of Investment. Two forms are authorized:
(a) Certificates on which uniform monthly payments shall be made until matured, withdrawn or cancelled. Interest at an agreed rate shall be credited at least annually on the amount paid. At maturity all further payments and interest shall cease.
(b) Certificates upon which payments may be made in such manner and in such amounts as their holder shall elect, and withdrawals made in like manner, until they have reached their matured value, or have been withdrawn and cancelled. Interest shall be credited at least annually, and no membership fee, fine or forfeiture shall be chargeable.
Section 4. Every Certificate of Investment shall specify the date of issue, the amount, how payable, the rate of interest and the conditions of payment and withdrawal.
ARTICLE VII.
DIVIDENDS.
Section 1. At least annually, at the end of the fiscal year, after the payment of losses, a dividend shall be declared, payable out of the earnings, and the balance remaining shall be placed in the Surplus, or carried in Undivided Profits.
* * *
ARTICLE X.
*1784 Section 1. As to all features not especially covered by these by-laws, the provisions of Sections 633-648-A, inclusive, of Civil Code and Amendments thereto, shall govern the transaction of business by this Corporation.
*1064 Issue No. 2 - Certificates of Subscription to Permanent Stock
Persons desiring to purchase shares of petitioner's permanent or guaranteed stock filed application in form as follows:
APPLICATION FOR STOCK
I hereby subscribe for shares of the Permanent Capital Stock of the Fidelity Savings and Loan Association.
I understand that the shares here subscribed for have a par value of One Hundred Dollars, and that I am to pay a premium of twenty-five dollars a share.
I agree to pay for these shares in .
The conditions of the purchase, rate of interest, privileges and penalties are all set forth on the back of this contract, and are hereby agreed to by the purchaser and accepted by the Association, when it receives and retains the first installment on account of such purchase.
No subscription will be taken for more than 100 shares.
Amount paid $
Signed
Address
The back of this application reads:
CONDITIONS OF PURCHASE.
FIRST. *1785 The amount of Permanent Stock authorized is Ten Thousand shares, par value One Hundred Dollars, offered at a premium of twenty-five per cent.
All subscriptions for stock may be cancelled by the association and the amount paid on stock and premiums, together with interest at six per cent thereon, returned to the subscriber, provided:
(a) Less than five thousand shares shall have been subscribed within twelve months from May 1, 1914; or
(b) Payments in the manner agreed upon fail to be made.
SECOND. Shares may be paid for in the following ways:(a) In ten equal annual payments of Twelve Dollars and Fifty Cents for each share.
(b) In one hundred twenty equal monthly payments of One Dollar and Ten Cents for each share.
(c) In a single payment of One Hundred and Twenty-five Dollars for each share.
THIRD. As soon as the first payment has been made, the Certificate will be set aside on the books of the association as sold to the purchaser, subject to conditions of the application.
Present members of the association are given the first choice, in fair proportion to their holdings, and it is hoped the entire issue will be taken by them.
No commission will be paid*1786 to agents, and the entire amount that is paid as premium will be placed in the reserve.
4th. Subscribers will be allowed interest on their payments at six per cent per annum, payable semi-annually on January 1st and July 1st, until it become full participating.
5th. This stock is permanent and non-withdrawable. It will become full participating in one hundred and twenty months from the date of this application. *1065 It will then share fully in losses, profits, surplus, profits from surplus or from any other source from which profits are derived.
When an application in the form above set out was received and accepted by the petitioner a "subscription certificate to permanent stock" was issued. This certificate embodied the conditions stated upon the back of the application as quoted above. A form of assignment of the certificate was printed upon it.
None of the permanent stock certificates were issued prior to May 1, 1924, and none of the "certificates of subscription to permanent stock" were issued after that date. On and after May 1, 1924, the petitioner issued to holders of "subscription certificates to permanent stock," certificates in form as follows:
*1787 CLASS E.
Incorporated under the laws of the State of California January, 1891.
Number
Shares
FIDELITY SAVINGS AND LOAN ASSOCIATION
Capital Stock $1,000,000
10,000 Shares, $100 each.
This certifies that is the owner of shares of the capital stock of the
FIDELITY SAVINGS AND LOAN ASSOCIATION
transferable on the books of the corporation in person or by attorney upon the surrender of this certificate properly enclosed.
In Witness Whereof, the said Corporation has caused this certificate to be signed by authorized officers and to be sealed with the Seal of the Corporation at Los Angeles, California, this any of A.D. 192 .
Secretary
President
During the taxable periods herein involved, petitioner made payments alleged to represent interest, to holders of its "certificates of subscription to permanent stock" in amounts as follows:
| 1921 | $20,430.31 |
| 1922 | 22,673.39 |
| 1923 | 24,451.21 |
| Period Jan. 1 to May 1, 1924 | 8,328.21 |
*1066 Issue No. 3 - Pass-Book Shares
From 1913 until December, 1925, petitioner had issued certain of its "savings pass-book stock" referred to in Section 6, Article VI of its by-laws, adopted in 1913. *1788 Subscribers to such shares received a small pass-book containing a certificate in from as follows:
100 shares
Certificate No.
FIDELITY SAVINGS AND LOAN ASSOCIATION
of Los Angeles, California
(A BUILDING AND LOAN ASSOCIATION)
THIS CERTIFIES THAT a member of the Fidelity Savings and Loan Association, has subscribed for and is the owner of Certificate for ONE HUNDRED Savings Pass-Book Shares of the par value of one hundred dollars each, on which dues payments may be made at any time and in any amount not less than one dollar, at his option, until the full par value of the shares has been paid, unless sooner withdrawn. Dividends from the earnings of the Association will be credited semi-annually, computed on the minimum monthly balance, at the rate of five per cent, per annum, on the second Monday of July and January of each year.
All payments, together with the dividends credited and accrued may be withdrawn on demand, excepting that the Association reserves the right to require reasonable notice of intention to withdraw not in conflict with its By-Laws.
This Certificate is issued subject to the Articles, By-Laws and Rules of the Fidelity Savings and Loan Association*1789 and is non-negotiable and is transferable only on the books of the Association, and no payment will be received and no withdrawal paid without the presentation of this Certificate.
IN WITNESS WHEREOF, the Fidelity Savings and Loan Association has caused this Certificate to be signed by its President and Secretary and its corporate seal to be affixed this day of
PRESIDENT
SECRETARY
The account pages were headed as follows:
FIDELITY SAVINGS AND LOAN ASSOCIATION
No. In account with
| Date | Deposits | Withdrawals | Balance |
In December, 1925, petitioner substituted for the above described "savings pass-book stock" a pass-book form known as an "installment *1067 certificate of investment." This change was made in order to comply with certain rulings of the respondent. The certificates are referred to in section 1, Article VI of the by-laws adopted January 1, 1926. Subscribers received a small pass-book containing a certificate in form as follows:
No.
FIDELITY SAVINGS AND LOAN ASSOCIATION
(A Building and Loan Association)
Los Angeles, California
is the owner of Installment Certificates of Investment of a par value of One Hundred Dollars*1790 each, on which payments may be made at any time and in any amount not less than One Dollar, until their full par value is accumulated. Withdrawals may be made in like manner, the Association reserving the right to demand reasonable notice of intended withdrawal. Interest, computed on the minimum monthly balance at five per cent per annum, will be credited semi-annually on January first and July first of each year.
This certificate is not transferable, and withdrawals will be paid only after identification.
FIDELITY SAVINGS AND LOAN ASSOCIATION
By
Secretary
Cashier
Holders of savings pass-book shares could make deposits or withdrawals at any time and in any amount, but petitioner preferred that each transaction involve at least one dollar. Holders of installment certificates of investment could make deposits or withdrawals at any time and in any amount not less than one dollar.
The account pages bore headings similar to those in the "savings pass-book share" account books.
The deficiency letter relating to the years 1925 and 1926 treats payments upon "installment certificates of investment" the same as payments upon "savings pass-book shares," grouping*1791 them under the name of the latter. The record does not indicate the respective proportions of each.
During the taxable periods herein involved, payments alleged to represent interest were made to holders of "pass-book shares" and/or "installment certificates of investment" in amounts as follows:
| 1921 | $47,577.42 |
| 1922 | 56,964.25 |
| 1923 | 74,466.80 |
| 1924 | $98,436.92 |
| 1925 | 125,450.06 |
| 1926 | 148,676.61 |
*1068 Issue No. 4 - Fully Paid Capital Stock
During all years herein involved, petitioner had outstanding certain certificates of "fully paid capital stock" in two forms, one of which, so far as material, reads as follows:
| Number | ||
| D 6 5139 | ||
| $5,000 | Tax Exempt in the | $5,000 |
| State of California | ||
| SAVINGS | ||
| AND | ||
| FIDELITY | ||
| LOAN | ||
| ASSOCIATION |
This certifies that is the owner of Fifty shares of the capital stock of the
FIDELITY SAVINGS AND LOAN ASSOCIATION amounting to Five Thousand Dollars, which have been fully paid.
This certificate is issued to and accepted by the owners hereof upon the following terms and conditions:
First: That the amount for which this certificate is issued shall bear interest at the rate*1792 of six per cent (6%) per annum, payable semi-annually at the office of the Association in the city of Los Angeles on presentation and surrender of the annexed coupons as they severally become due.
Second: The Fidelity Savings and Loan Association reserves the right, on or after the expiration of five years from the date hereof, to pay this certificate on any interest date, upon mailing, to its recorded owner, written notice, six months prior thereto, and thereupon said principle sum shall become due and shall be paid upon the presentation and surrender of this certificate and all unpaid coupons to the Association at its office in the city of Los Angeles, and it may be surrendered, upon three months notice, for a sum which with interest previously paid shall equal its face value with interest from the date hereof to the date of withdrawal.
Third: In consideration of the rate of dividend paid hereon, it is agreed that this certificate shall not further participate in any surplus or earnings or profits.
This certificate may be transferred by endorsement and record thereof on the Association's books acknowledged hereon.
Stamped across the face of the specimen submitted*1793 in evidence are the words "Withdrawable After One Year."
The second form differs from that set out above only in a provision that it may be surrendered "after one year," upon three months notice. There is nothing in the record to indicate the outstanding proportions of the two forms of certificates of fully paid stock.
*1069 Twenty coupons were attached to the certificate, each reading as follows:
THE FINDELITY SAVINGS AND LOAN ASSOCIATION will pay the bearer One Hundred and Fifty Dollars at its office in the city of Los Angeles, California, interest on Certificate D 6-5139.
G. H. WADLEIGH,Secretary.
During the taxable periods herein involved, payments alleged to represent interest were made to holders of certificates of "fully paid" stock in amounts as follows:
| 1921 | $265,000.00 |
| 1922 | 252,500.00 |
| 1923 | 216,350.00 |
| 1924 | $164,561.72 |
| 1925 | 125,641.38 |
| 1926 | 90,434.60 |
General Findings
Petitioner's board of directors never declared dividends upon "certificates of subscription to permanent stock," "savings pass-book shares," "installment certificates of investment," or "certificates of fully paid capital stock." When payments were due*1794 petitioner's secretary directed computation of the amount and if sufficient cash was not on hand he borrowed it from the banks. These payments were made without reference to petitioner's profits for the period involved. The annual statement submitted to the directors by the secretary reflected the difference between gross income and all expenses, including payments to holders of instruments of the four types above named.
Coupons on fully paid shares were often presented by banks or bearers. When all coupons on such a certificate had been redeemed, petitioner took up the certificate by payment and canceled it.
Holders of certificate of subscription to "permanent stock" were issued permanent stock certificates on May 1, 1924. Thereafter such stockholders shared in petitioner's profits in amounts varying from 12 per cent in 1924 to 16 per cent in 1926. These dividends were determined by the board of directors and were paid quarterly. Such payments have not been and are not now claimed as deductions.
No holder of "certificates of subscription to permanent stock," "savings pass-book shares," "installment certificates of investment," or "certificates of fully paid capital*1795 stock" has ever claimed any right to participate in the profits of the petitioner. The amounts paid by petitioner upon the instruments above named were regarded by it as amounts debited to interest.
*1070 During the years involved, petitioner had outstanding certain "installment stock" the certificates of which, so far as material, read as follows:
This certifies that , of is a member of the Fidelity Savings and Loan Association of Los Angeles, California, and has subscribed for. and is the holder of shares of the stock therein.
This certificate is issued by said corporation and accepted by the said shareholder under the following express terms and conditions: That the said shareholder shall pay or cause to be paid to the Corporation an installment of Dollars on the First day of One Thousand Nine Hundred , and a like installment on the same day of each month thereafter for the full period of months, or until the stock subscribed shall have become fully paid up, and matured; that the above shares of stock shall mature and become payable when the payments made thereon, after deducting therefrom the premium paid and the pro rata share of losses and expenses, and all advances*1796 that have already been paid, shall, together with the annual dividends apportioned, amount to the sum of One Hundred Dollars a shares.
This certificate can be assigned or withdrawn after all fees, fines and payments have been made as required, and as provided in the By-Laws.
Dividends were paid upon the "installment stock" at the rate of 12 per cent for the years 1921 to 1925, inclusive, and at the rate of 16 per cent for the year 1926. The board of directors annually authorized these payments as dividends and they are not claimed as deductions.
Dividends paid upon permanent and installment stock never exceeded the profits of the petitioner for the period covered by such payments.
The respondent has determined that the payments to holders of "certificate of subscription to permanent stock," "pass-book shares," "installment certificates of investment" and "fully paid capital stock," during each of the years involved, represent dividends and are not deductible from the petitioner's income.
OPINION.
LOVE: The question presented is the nature of petitioner's payments to holders of, or subscribers to, various classes of its stock and investment certificates, i.e., whether*1797 such payments are dividends or interest. The respondent has determined that all of the payments involved represent dividends and he has accordingly denied their deduction by the petitioner. The petitioner asserts that in each instance the payments represent interest and its argument is largely directed to distinguishing such payments from dividends as defined in the applicable revenue act. Both parties have briefed their contentions in considerable detail - to such an extent, in fact, that we do not feel justified in discussing each particular of the arguments presented.
*1071 The petitioner is a California corporation, conducting its business in that State and presumably in accordance with its statutory provisions. Among these provisions are the following from the Civil Code of California:
3633. Powers of building and loan associations. Building and loan associations as hereinafter in this title defined, shall have power to receive money and accumulate funds to be loaned, * * *; to permit shareholders and investors to withdraw part of all of their payments, investments or stock deposits, and to prescribe the terms and conditions to such withdrawal; to cancel shares*1798 of stock, the payments on which have been withdrawn; to receive money and to execute certificates therefor, which must specify the date, amount, rate of interest, and when the principle and interest are payable, and also the withdrawal value thereof at the end of each year; * * * and shall have such further powers as may be specifically set forth under this title; * * *
There follows a requirement that the articles of incorporation shall state the purpose for which it is formed. Petitioner's articles, as set forth in the findings, follow the prescribed form.
Section 634 of the Civil Code, supra, reads:
CAPITAL. The capital of every such corporation shall be divided into shares of the matured or par value of one hundred or two hundred dollars each, as provided by the articles of incorporation, and shall be paid in by the subscribers in the manner provided by the by-laws. All such payments shall be called dues. Certificates shall be issued to each shareholder on the first payment of dues by him. Shares pledged as security for the payment of a loan shall be called pledged shares, and all others free shares. All shares matured and surrendered or cancelled, shall become*1799 the property of the corporation and may be reissued. The capital shall consist of the accumulated dues, together with the apportioned profits of the corporation, and shall be accumulated by the issuance of shares in any one or more of the following forms, viz.: "installment shares," "full paid shares," "pass-book shares" and "guarantee stock."
(a) Installment shares. Installment shares shall be either "serial" or "permanent" in form. When issued in "serial" form the periodical dues on shares in each series shall commence with the date of the issue of such series and the holder must pay such dues and such amounts per share and at such times as the by-laws may provide, and such payments must continue on each share until, with the profits allotted thereto, it reaches its matured value or is withdrawn or canceled. On all such issues the dividends shall be apportioned or credited equally to each share in each series. No share of a prior series shall be issued after the issue of shares in a new series, except by way of transfer. Shares issued in "permanent" form may be issued at any time and the dividends thereon may be credited in the passbooks of the members. Shares of either*1800 form may be issued in "classes" with a different periodical payment for each class designation, to be specified in the by-laws, and shall be issued with full participation in the profits subject to apportionment as dividends.
(b) Full paid shares. Full paid shares shall be shares upon which a single payment of dues amounting to one hundred or two hundred dollars per share shall be paid at the time of subscription and upon which the holder shall be entitled to either a full participation in the net profits or to an agreed rate of dividends not exceeding six per cent per annum, payable semiannually in cash, *1072 to be specified in the body of the certificate issued. All such shares may be issued in separate classes as to participation, under regulations to be provided in the by-laws and which must be fully set forth in or upon each certificate issued.
(c) Pass-book shares. Pass-book shares are shares which shall participate in the apportionment of net profits and be credited therewith at a rate not less than seventy-five nor more than ninety per centum of the rate apportioned to installment shares, as the by-laws shall determine, and upon which the dues may be paid in*1801 at such times and in such amounts as the holder thereof may elect until said shares reach their matured value or are withdrawn. Such shares shall be withdrawable under rules to be provided in the by-laws and fully set forth in the pass-books issued. The matured value of this class of shares shall not exceed in volume twenty-five per centum of the matured value of all other shares in force. No membership fee, fine or forfeiture, shall be chargeable against such shares.
(d) Guarantee stock. Guarantee stock shall be stock, provided by the by-laws, to be set apart and sold as a fixed, permanent or guarantee capita, and shall be issued with full participation in the profits subject to apportionment as dividends. When any such stock has been once so set apart, sold and issued, it shall thereafter remain as a fixed, permanent and guarantee capital, and shall be subjected to all the conditions and liabilities attaching to the paid-in capital stock of other classes of corporations. Such guarantee stock shall protect and guarantee all other stockholders and creditors against any loss, and when once paid it must be kept unimpaired.
* * *
Article VI, section 2, of the petitioner's*1802 by-laws of 1913 provides for the issuance of seven classes of stock, including three classes of "installment stock" and one class designated as "permanent reserve stock," the payments on which are not involved in this proceeding. The other three classes, designated in the by-laws as "fullpaid stock," "permanent stock" and "savings pass-book stock," correspond, respectively, to "full-paid shares," "guarantee stock" and "pass-book" shares as defined in the above quoted statute. In December, 1925, the petitioner ceased the issuance of savings pass-book stock. Thereafter it issued its "installment certificates of investment" as provided for by Article VII and Article VI of the by-laws of 1913 and 1926, respectively.
We will first discuss petitioner's payments upon the "full-paid" stock and the "pass-book" shares, because, as will later appear, our determinations respecting them are founded upon virtually the same basis and differ from those relating to the petitioner's payments upon "certificates of subscription to permanent stock" and "installment certificates of investment."
The petitioner's argument is that the payments involved were interest and not dividends because they lacked*1803 at least three of the features which it contends characterize dividends. First, it is asserted that they were paid at a definite rate per cent, without regard to the earnings or profits, and that they were a charge upon the *1073 petitioner regardless of its income; second, that the deposits upon which these payments were made were not at the risk of the business; third, that payment was not dependent upon any action of the petitioner's directors. In effect, therefore, the petitioner contends that the payees were creditors of the petitioner, rather than stockholders in the usually understood sense.
It seems unnecessary to quote authorities for the statement that where the statutes and by-laws authorize it and the stock certificates specify it, dividends may be paid at a definite rate per cent on certain classes of stock, even though other classes are paid at a higher rate. This is one of the characteristics of practically all preferred stock, yet such stock is at the risk of the business, and payments upon it are dividends. Another common feature of preferred stock is its right to be protected against losses by the common stock, i.e., to be saved from the burden of losses*1804 so long as there is common stock to bear that burden. Under provisions of sections 634(a) and (d) of the Civil Code, supra, relating to "installment stock" and "guarantee stock" just such protection is afforded holders of "full-paid" and "savings pass-book" shares.
The fact that deposits on "full-paid" shares and "savings pass-book stock are at the risk of the business in a manner analagous to the investment of a preferred stockholder is further illustrated by the provisions of the General Laws of California, Deering, 1923, p. 360, sec. 9 [Statute of 1911 (Ex. Secs.), p. 7], relating to the liquidation of savings and loan associations whose business is being conducted improperly. Said section 9 provides that the building and loan commission shall take charge of the affairs and business of the association. If thereafter the superior court of the county approves the commissioner's action the latter shall proceed to liquidate the business. In so doing the commissioner must inventory the assets and give notice of the proceedings to all persons having claim against the association "as creditors, shareholders, members or investors." After providing for payment of liquidating*1805 expenses, the section continues:
* * * from the net realization of assets, in excess of salaries and expenses, the Commissioner shall first pay all approved claims, other than claims to stockholders, shareholders and members.
* * * And thereafter he shall distribute and pay dividends, in liquidation to stockholders, other than guarantee, and to the shareholders and members, as fast as funds to the amount of ten (10) per cent of such approved claims are available therefor, and so continue until all the assets have been realized upon and a final dividend in liquidation shall be declared and paid. * * *
There is a further provision that when all approved claims have been paid and provision made for payment of all known but unclaimed *1074 liabilities, the commissioner shall turn the remaining assets over to the holders of guarantee stock.
The fact that petitioner's directors made no formal declarations of dividends on the full-paid stock and savings pass-book shares is not conclusively indicative of the character of the petitioner's payment thereon.
Under the statute holders of full-paid shares were entitled to:
* * * either a full participation in the net profits*1806 or to an agreed rate of dividends not exceeding six per cent per annum, payable semi-annually in cash, to be specified in the body of the certificate issued.
The statute also provided that pass-book shares:
* * * are shares which shall participate in the apportionment of net profits at a rate not less than seventy-five nor more than ninety per centum of the rate apportioned to installment shares, as the by-laws shall determine.
Article VI, section 6, of the by-laws of 1913, provides that dividends on savings pass-book stock:
* * * will be declared out of earnings semi-annually, on the first days of January and July of each year, at a rate to be fixed by the Board of Directors - not to exceed five per cent per annum.
It appears, therefore, that under the statute payment of dividends on the two classes of stock mentioned was required so long as there were "net profits," and, so far as the pass-book shares are concerned, if any dividends were declared on the "installment stock." We think the petitioner's payments to holders of full-paid stock and pass-book shares were dividends and we approve the refusal of the Commissioner to permit the deduction of such payments from petitioner's*1807 income. Cf. .
In December, 1925, the petitioner, in order to obviate certain objections which the respondent had made to the allowance as interest deductions of payments upon the saving pass-book shares, discontinued the issuance of such shares, substituting therefor a form known as "installment certificates of investment." It does not appear that these certificates were substituted for outstanding pass-book shares, but only that they were issued thereafter in lieu of the latter. The installment certificates were issued in accordance with the provisions of Article VII of the by-laws of 1913 and Article VI of the by-laws of 1926. The deficiency letter covering the years 1925 and 1926, Docket No. 45215, makes no mention of petitioner's payments upon "installment certificates of investment." We have found, however, that the petitioner's payments upon such certificates in the years 1925 and 1926 are included in the amounts disallowed by respondent for those years as dividends upon the savings pass-book shares. There is nothing in the record upon which to determine what portion *1075 of the amount so disallowed by the*1808 respondent represents payments upon the installment certificates rather than payments on the savings pass-book shares.
It follows that even if we were to determine that petitioner's payments upon the installment certificates represented interest, rather than dividends such as we have determined its payments upon the pass-book shares to be, we would be unable to determine the deduction to which it would be entitled by reason of such payments. Under such circumstances, the Board declines to pass upon the issue.
; ; ; and .
The remaining issue relates to petitioner's payments to holders of "certificates of subscription to permanent stock." In 1914 the petitioner announced that it would accept subscriptions to an issue of 10,000 shares of its permanent stock. This stock was authorized by Article VI, section 5, of the by-laws of 1913, under the provisions of which it could be issued upon conditions "controlled by the Board of Directors." The conditions stipulated*1809 were that subscriptions might be paid in full, or in annual or monthly payments over a period of ten years; the stock would be set aside for the subscriber when the first payment was made, but would not be actually issued until 120 months after the subscription; subscribers would be allowed interest on their payments at 6 per cent per annum until issuance of the stock, and it would then "share fully in losses, profits, surplus, profits from surplus or from any other source from which profits are derived."
None of the permanent stock was issued prior to May 1, 1924, and none of the "certificates of subscription" to such stock was issued subsequent to that date. The respondent has determined that petitioner's payments to holders of such certificates prior to May 1, 1924, represent dividends. Subsequent to May 1, 1924, the permanent stock was issued and holders thereof received payments admitted by both parties to represent dividends. These dividends varied from 12 per cent in 1924 (subsequent to May 1) to 16 per cent in 1926.
The respondent asserts that when the stock was subscribed for and set aside pending payment, the subscriber became liable for the purchase price and entitled*1810 to the benefits of the stock, i.e., to a limited participation in the profits of the business prior to May 1, 1924, and to full participation thereafter. Upon consideration of the subscription contract and the certificate of subscription issued thereunder, we are of opinion that what holders of such certificates received was not a share in the profits of the business, but merely interest upon their payments on stock subscriptions. Neither the *1076 subscription contract nor the certificate of subscription purport to make the subscriber a stockholder in praesenti. Both specifically provide that he will not become a stockholder until at least 120 months after May 1, 1914. What he received upon subscription was not a stock interest in the petitioner, but the right to such an interest in the future, conditioned upon payment in accordance with the terms of his subscription, and in addition the right to interest upon his accumulating payments prior to the issuance of his stock. The distinction between petitioner's payments to holders of full-paid stock and savings pass-books shares, and those to holders of certificates of subscription to permanent stock, lies in the fact that*1811 the two former classes are in fact holders of stock interests in the petitioner, while the latter class are creditors who, upon compliance with certain conditions, will become holders of stock interests.
Judgment will be entered under Rule 50.