*297 Decisions will be entered under Rule 50.
Berlands operates a chain of retail shoe stores. In 1944 it was desired to expand the number of retail outlets but in such a way that Berlands would not be liable on the new leases taken out in a rising rental market. Of the 51 existing branch stores, 22 were incorporated. Of the 22 subsidiary corporations so formed, 20 are the petitioners herein. Most of the leases on new stores were not required to be assumed by Berlands. The tax consequences were considered at the time of the reorganization. Held, the petitioners were not organized principally for the purpose of avoiding Federal income or excess profits tax within the meaning of section 129, I. R. C., and petitioners should, therefore, not be denied the specific exemption of section 710 (b) (1), I. R. C.
*183 The respondent determined delinquency penalties and deficiencies in the petitioners' income tax, declared value excess-profits and excess profits taxes for the fiscal years ending July 31, 1945 and July 31, 1946, as follows:
| Declared | |||||
| value | Excess | ||||
| Docket number | Year | Income tax | excess-profits | profits | Penalties |
| tax | tax | ||||
| 1945 | $ 32.50 | $ 6,015.10 | |||
| 23977 | 1946 | 1,465.95 | |||
| 1945 | 59.28 | 4,116.42 | |||
| 23978 | 1946 | 2,115.30 | |||
| 1945 | 7,163.65 | ||||
| 23979 | 1946 | 2,320.04 | |||
| 1945 | 15.70 | 7,343.37 | |||
| 23980 | 1946 | 2,833.15 | |||
| 1945 | 74.70 | 6,784.40 | |||
| 23981 | 1946 | $ 152.38 | 4,397.09 | ||
| 1945 | 26.40 | 6,544.68 | |||
| 23982 | 1946 | 2,092.13 | |||
| 1945 | 6,957.24 | ||||
| 23983 | 1946 | 2,388.06 | $ 597.02 | ||
| 1945 | 15.21 | 5,858.12 | |||
| 23984 | 1946 | 2,617.29 | 654.32 | ||
| 1945 | 19.63 | 6,451.36 | |||
| 23985 | 1946 | 2,726.21 | |||
| 1945 | 6,628.84 | ||||
| 23986 | 1946 | ||||
| 1945 | 7,542.63 | ||||
| 23987 | 1946 | 2,917.87 | |||
| 1945 | 85.91 | 7,177.14 | |||
| 23988 | 1946 | 2,664.04 | |||
| 1945 | 59.39 | 2,014.85 | |||
| 23989 | 1946 | 299.73 | 513.92 | ||
| 1945 | 55.20 | 5,602.55 | |||
| 23990 | 1946 | 1,642.36 | |||
| 1945 | 23.05 | 6,941.07 | |||
| 23994 | 1946 | 2,562.09 | |||
| 1945 | 5,599.91 | ||||
| 23995 | 1946 | 145.39 | 283.61 | ||
| 1945 | 14.08 | 5,907.16 | |||
| 23996 | 1946 | 2,253.84 | |||
| 1945 | 17.51 | 5,483.05 | |||
| 23997 | 1946 | 2,425.60 | 606.40 | ||
| 1945 | 25.23 | 6,137.84 | |||
| 23998 | 1946 | 2,458.72 | |||
| 1945 | 44.00 | 6,039.65 | |||
| 23999 | 1946 | 2,179.08 |
*299 The proceedings were consolidated for hearing and report and presented on oral testimony and a stipulation of facts with exhibits attached. The petitioners have conceded certain minor adjustments made by the respondent and respondent has conceded error in asserting delinquency penalties.
The sole issue is whether section 129 of the Internal Revenue Code denies to the petitioners the specific exemption of $ 10,000 provided for in section 710 (b) (1) of the Code.
FINDINGS OF FACT.
The stipulated facts are so found. The other facts are determined from the exhibits and the oral testimony.
The Berland Shoe Stores, Inc., hereinafter referred to as Berlands, was organized in 1928 as a corporation under the laws of the State of *184 Delaware. Prior to the formation in 1928 of the Delaware corporation, the business, consisting of the operation of about 25 retail shoe stores, was operated by several separate corporations, each operating one or more of the stores. The stores were located in Missouri, Illinois, Indiana, Ohio, Texas, Tennessee, and Alabama. In 1928 it was desired to expand the number of retail outlets and in order to do this, additional capital was needed. At the instance*300 of a New York banking house the Delaware corporation was formed to acquire the assets and assume all the liabilities of the existing corporations. The leases on the premises, occupied by the retail outlets and held by the several original corporations, were assigned to the Delaware corporation except for one lease held by one of the original corporations which was inadvertently not dissolved. Berlands was then able to sell $ 400,000 of its preferred stock through the New York banking house.
Berlands expanded its operations and made additional leases so that by 1932 it was operating 60 stores under 60 leases. The leases had been taken on in a consistently rising rental market and were on a flat rental basis. Lease terms were generally for a period of 10 years and in some cases as long as 20 years. Long leases were necessary because substantial expenses for improvement of the leased premises were incurred on the opening of a new store and the longer lease would allow sufficient time to recover the cost of the improvements. The improvements consisted of new fixtures, redecoration of the interior and the installation of a new store front.
In 1932 Berlands found itself in a critical*301 financial position. Its sales volume had decreased considerably and it was unable to meet obligations on its commercial paper. It stopped paying dividends on preferred stock in 1932. Rentals were Berlands largest fixed expense in 1932, and by seeking rent reductions it was hoped that reorganization or bankruptcy might be avoided. Berlands' president entered into negotiations with the lessors attempting to reduce the onerous rentals. Some reductions were made by the various lessors but a reduction of rentals to the current values was possible in the case of only one store. This was the store on which the lease was held by the corporation which was inadvertently not dissolved upon the formation of the Delaware corporation in 1928. That lease had never been assigned to Berlands and Berlands had not assumed the lease. The lessor of that one store met current rentals because he could not hold Berlands on the lease.
Among the leases which Berlands had assumed upon its organization in 1928 was a lease on a store in Chicago, Illinois. The lease had been entered into in 1926 by one of the original corporations for a term of 20 years at an annual rental of $ 16,000 and, in addition, *302 Berlands was required to pay the property taxes and insurance on the *185 premises and to maintain the premises in repair. In 1932, and thereafter, Berlands sought to obtain a rent reduction on this lease but the only concession which Berlands could get was relief from paying part of the taxes on the premises. Berlands at various times unsuccessfully sought to pay a lump sum to the lessor for cancellation of the lease. Finally, in 1943 Berlands was able to settle its liability on the lease for the payment of $ 38,000 and forfeiture of the $ 4,500 which had been deposited as security with the lessor by the predecessor corporation.
By 1941 rentals had again begun to increase and due in part to that factor the number of stores operated by Berlands declined from over 70 in 1941 to less than 60 in the fall of 1943. At that latter time it was believed that if Berlands' position and volume were to be maintained it would be necessary to make new leases and open additional stores even though rentals were then increasing. A high volume of business is an important factor in Berlands' operation. With the experience of 1932 in mind Berlands' president sought a way whereby the new leases*303 could be taken in such a way that Berlands itself would not become liable thereon. He conceived the idea of organizing a separate corporation to operate each store with the stock of each separate corporation to be owned by Berlands. It was believed that if the various lessors could be persuaded that Berlands' operation would be conducted in that manner henceforth, that is, operation through separate corporations, that the prospective lessors could then be more favorably approached in an attempt to persuade them to accept subsidiary corporations as lessees without liability on the part of Berlands. On the advice of counsel the plan was modified because it was pointed out that if all of the stores were separately incorporated tax disadvantages might result in that Berlands would be unable to offset its losses of an unprofitable store against other profits; that carry-back losses of subsidiaries would not apply against Berlands' profits in prior years, and that Berlands would lose its excess profits tax base if all operations were conducted through separate subsidiaries. The advice of tax counsel was also considered to the effect that it might be contended that Berlands realized *304 a profit on the transfer of the assets to subsidiaries in exchange for their stock.
The plan was accordingly modified so that only 22 subsidiaries were formed. Pursuant to an appropriate resolution of Berlands' board of directors on June 1, 1944, the 22 corporations were formed under the laws of the various States. Berlands transferred to each corporation, in exchange for all of its capital stock, the assets of one of the retail shoe businesses owned by Berlands in the State within which the respective corporation was organized. Of the 22 corporations so organized, 20 are the petitioners herein and are referred to hereinafter as *186 such. The Delaware corporation referred to herein as Berlands is not a petitioner in these proceedings.
Each petitioner was organized with a right, under its articles of incorporation, to engage in the business of selling shoes and related items at retail. Each petitioner has continued in active operation since August 1, 1944, except that (a) Berland's Inc. of Jacksonville (a dissolved corporation) became inactive on or about December 31, 1945, and was dissolved on or about August 1, 1947; (b) petitioner Berland's Inc. of Wichita Falls was inactive*305 from approximately June 28, 1945 to February 2, 1949; (c) petitioner Berland's Inc. of Fort Worth was inactive from approximately March 31, 1947 to August 29, 1947, and (d) petitioner Berland's Inc. of El Paso was inactive from approximately August 31, 1948, to February 1, 1949. None of the petitioners has ever been licensed under the laws of any State other than the State of its incorporation. Since the dissolution of Berland's Inc. of Jacksonville, no retail shoe business has been operated in the city of Jacksonville by Berlands or any of its subsidiaries.
Subsequent to August 1, 1944, Berlands has organized 27 additional new corporations with the right under the terms of their articles of incorporation to engage in the business of selling shoes and related items at retail. Berlands acquired all of the capital stock of these 27 corporations for sufficient cash. These 27 corporations were situated at locations not theretofore occupied or used by Berlands or any subsidiary of Berlands, except one location in Kansas City, Missouri, which Berlands had previously operated. Of the 27 new corporations, two were organized during the fiscal year ended July 31, 1945; six during the fiscal*306 year ended July 31, 1946; three during the fiscal year ended July 31, 1947; four during the fiscal year ended July 31, 1948; eleven during the fiscal year ended July 31, 1949, and one thereafter. None of these 27 corporations has ever been licensed under the laws of any State other than the State of its incorporation.
The following numbers of retail shoe locations were operated as indicated on the dates shown:
| Branch | Subsidiaries | Total number | |
| Date | stores | of locations | |
| July 31, 1944 | 51 | 0 | 51 |
| July 31, 1945 | 31 | 22 | 53 |
| July 31, 1946 | 31 | 24 | 55 |
| July 31, 1947 | 30 | 28 | 58 |
| July 31, 1948 | 30 | 34 | 64 |
| July 31, 1949 | 31 | 45 | 76 |
| March 31, 1950 | 31 | 51 | 82 |
After the incorporation of the various subsidiaries the merchandise buying was conducted as before, that is, through and by Berlands, the controlling corporation. Each of the petitioners paid Berlands for *187 the merchandise. Berlands also kept the accounting records of the various subsidiaries at its location. The subsidiaries paid their own operating expenses out of their own bank accounts. The officers of Berlands and the subsidiaries were, generally, the same persons.
When the petitioning subsidiary corporations*307 were formed, Berlands was immediately released from liability on six of its leases. From July 1944, to the proximate date of the hearing, there was a net gain of 31 in the number of stores operated by Berlands and the subsidiaries. The subsidiaries now operate 51 of the total of 82 stores. Berlands is liable on only six leases taken out since August 1, 1944, out of a total net increase in store units of 31.
The respondent, relying on section 129 of the Internal Revenue Code, disallowed to the petitioners in each of the taxable years 1945 and 1946, the specific exemption of $ 10,000 provided for in section 710 (b) (1) of the Code.
The petitioners were not organized principally for the purpose of avoiding Federal income or excess profits tax.
OPINION.
Respondent contends that petitioners' organization was an "acquisition" for the "principal purposes" of "evasion or avoidance of Federal income or excess profits tax" within the meaning of those words as used in section 1292*308 of the Code and that petitioners are thereby denied the specific exemption of section 710 (b) (1). 3
The petitioners contend (1) that the principal purpose of their organization was not to evade or avoid taxes and (2) that the petitioners *188 were not "acquiring" corporations within the meaning of section 129.
There is no occasion to consider the petitioners' second contention inasmuch as the basic issue is disposed of by our Findings of Fact that the principal purpose of the petitioners' formation was not to evade or avoid Federal income or excess profits tax liability. The issue being thus disposed of, little more need be said by way of exposition. In our opinion, petitioners have shown that*309 a realignment of the liability for store leases rather than tax avoidance was the principal purpose in their organization. Respondent, in effect, admits on brief that the petitioners had a business purpose but contends that this business purpose was secondary to the avoidance of taxes. It is true that the tax consequences of Berlands' reorganization were considered prior to the execution of the plan and that a limited benefit resulted. The statute does not forbid such consideration. Rather, the question under the statute is -- was tax avoidance "the principal purpose" of Berlands' actions?
It is apparent from the record, as we have set out in detail in our Findings of Fact, that Berlands found its operation hampered in the depression of the 1930s because of its inability to obtain revisions and reductions in rentals. Berlands' president believed that if the stores had been owned by separate corporations, those corporations would have been in a better position to negotiate for rental reductions than if the leases were all held by Berlands. When faced with rising rentals in 1944 and a need to expand operations in order to maintain volume, Berlands' president again considered the*310 plan which he belived would have aided the company in its difficulty with rental reductions in the 1930s. The plan to incorporate all of the branch stores was modified on advice of counsel and only 22 of the existing 51 stores were incorporated. The original purpose of establishing a precedent and persuading the lessors of future leases that liability thereon would extend only to the subsidiary lessee, was carried out. The consideration of the tax aspects of the plan was no more than should be expected of any business bent on survival under the tax rates then current. Such consideration is only the part of ordinary business prudence. It does not follow automatically from the fact that tax consequences were considered, that tax avoidance was the principal purpose of Berlands' organization of the petitioning corporations. On the record, we have found to the contrary and that such was not the principal purpose. The petitioners should not, therefore, be denied the specific exemption under section 710 (b) (1) of the Code. Alcorn Wholesale Co., 16 T. C. 75.
Decisions will be entered under Rule 50.
Footnotes
1. Proceedings of the following petitioners are consolidated herewith: Berland's Inc. of Amarillo; Berland's Inc. of Vermont & Manchester; Berland's Inc. of San Angelo; Berland's Inc. of Sacramento; 730 Euclid Corporation; Berland's Inc. of Jacksonville (a dissolved corporation), I. M. Kay, Samuel Intrater, F. B. Swarts, Statutory Trustees; Berland's Inc. of Des Moines; Berland's Inc. of Indianapolis; Berland's Inc. of Wichita Falls; Berland's Inc. of El Paso; Berland'sWest Madison, Inc.; Berland's Inc. of Los Angeles; Berland's Seventh Street Corp.; Berland's Inc. of New Mexico; Berland's Sixth Street Corp.; Berland's Inc. of Nebraska; Berland's Inc. of San Antonio; Berland's Springfield Inc.; Berland's Inc. of Fort Worth.↩
2. SEC. 129. ACQUISITIONS MADE TO EVADE OR AVOID INCOME OR EXCESS PROFITS TAX.
(a) Disallowance of Deduction, Credit, or Allowance. -- If (1) any person or persons acquire, on or after October 8, 1940, directly or indirectly, control of a corporation, or (2) any corporation acquires, on or after October 8, 1940, directly or indirectly, property of another corporation, not controlled, directly or indirectly, immediately prior to such acquisition, by such acquiring corporation or its stockholders, the basis of which property, in the hands of the acquiring corporation, is determined by reference to the basis in the hands of the transferor corporation, and the principal purpose for which such acquisition was made is evasion or avoidance of Federal income or excess profits tax by securing the benefit of a deduction, credit, or other allowance which such person or corporation would not otherwise enjoy, then such deduction, credit, or other allowance shall not be allowed. For the purposes of clauses (1) and (2), control means the ownership of stock possessing at least 50 per centum of the total combined voting power of all classes of stock entitled to vote or at least 50 per centum of the total value of shares of all classes of stock of the corporation.
* * * *↩
3. SEC. 710. IMPOSITION OF TAX.
* * * *
(b) Definition of Adjusted Excess Profits Net Income. -- As used in this section, the term "adjusted excess profits net income" in the case of any taxable year means the excess profits net income (as defined in section 711) minus the sum of;
(1) Specific exemption. -- A specific exemption of $ 10,000, and in the case of a mutual insurance company (other than life or marine) which is an inter-insurer or reciprocal underwriter, a specific exemption of $ 50,000;↩