*637 In the early part of 1928 a Delaware corporation and a California corporation were engaged in the same or related businesses. The stockholders of the California corporation desired to merge the businesses of the two corporations into a single corporation to be organized under the laws of Nevada. With this end in view the Delaware corporation declared a dividend on May 17, 1928, of substantially all of its earned surplus payable to its stockholders of record on June 1, 1928. On the same date it transferred substantially all of its remaining assets to a Nevada corporation in exchabnge for all of the shares of stock of the Nevada corporation which were received on the same date. For the purpose of minimizing income taxes certain stockholders of the Delaware corporation then caused a corporation to be organized under the laws of the Republic of Panama, the petitioner herein, with its principal office and place of business in Montreal, Canada, and on May 26, 1928, exchanged their shares of stock in the Delaware corporation for all the shares of stock of the Panama corporation. The latter corporation, on or about June 1, 1928, as the principal stockholder of the Delaware corporation, *638 received $611,825.76 which was its pro rata share of the dividend payable on that date. The Delaware corporation was dissolved on June 4, 1928, and on June 6, 1928, the petitioner received substantially all of the shares of stock of the Nevada corporation upon the surrender of its shares of stock in the Delaware corporation, and, in addition, a small liquidating dividend in cash amounting to $5,547.50. On or about June 27, 1928, it sold in Canada for cash to parties in the United States its shares of stock in the Nevada corporation and has since continued as an investment corporation with its principal office and place of business in Montreal, Canada. Held, that the dividends received on June 1 and June 6, 1928, were taxable dividends deductible from gross income of the petitioner; held, further, that the petitioner realized no taxable gain upon the distribution to it of shares of stock of the Nevada corporation upon the dissolution of the Delaware corporation, since there was a reorganization of the Delaware corporation under section 112(i)(1) of the Revenue Act of 1928, and the distribution of the shares of stock of the Nevada corporation falls under section 112(b)(3) *639 of the taxing act; held, further, that the petitioner realized no taxable gain from the sale in Canada of shares of stock of the Nevada corporation to parties in the United States.
*909 This proceeding is for the redetermination of deficiencies in income tax for 1928 and 1929 of $74,291.19 and $4,245.28, respectively. The allegations of error stated in the petition are that the respondent erred:
(1) In refusing to permit the petitioner to deduct from gross income in computing its net taxable income for 1928 and 1929, pursuant to the provisions of section 23(p)(1) of the Revenue Act of 1928, $900 and $36,224.41, respectively, representing dividends received from domestic corporations.
(2) In concluding that a distribution of $617,373.26 made by United Filters Corporation to the petitioner during the year 1928 constituted a distribution in liquidation within the meaning of section 115(c) and/or section 112(c)(1) of the Revenue Act of 1928, and in refusing to permit the petitioner to*640 deduct this amount in computing its net taxable income pursuant to the provisions of section 23(p)(1) of the Revenue Act of 1928.
The respondent admits error with respect to the first allegation of error.
By an amended answer filed in this proceeding on November 6, 1933, the respondent contends that he erred:
(1) In not including in the petitioner's taxable net income for the year 1928 the amount of $2,350,000, being the fair market value of shares of capital stock of United Filters, Inc., received by the petitioner on liquidation and dissolution of the United Filters Corporation as a result of the petitioner's stock ownership in the latter corporation.
(2) In the alternative, in not including in the petitioner's net income for 1928 the amount of $1,966,000, being the consideration received by the petitioner in 1928 on the sale of the whole or a part of the said shares of stock of the United Filters, Inc., theretofore received by the petitioner on liquidation and dissolution of the United Filters Corporation.
*910 FINDINGS OF FACT.
The United Filters Corporation, hereinafter referred to as the Delaware corporation, was organized on or about May 22, 1917, and*641 was from that time until dissolved in 1928, as more fully hereinafter set forth, engaged in the manufacture and sale of industrial filters, with its principal office and place of business at Hazleton, Pennsylvania. Its total outstanding stock was 9,448 1/2 shares. On May 26, 1928, E. J. Sweetland owned 5,567 shares and certain employees of the corporation associated with Sweetland in its management together owned 3,658 2/5 shares.
The Oliver Continuous Filter Co., hereinafter referred to as the California corporation, was a corporation organized under the laws of the State of California, and was engaged in the manufacture and sale of industrial filters, with its principal office and place of business at San Francisco. Its principal stockholder was E. L. Oliver, who, with members of his immediate family, owned a substantial majority of the outstanding stock.
Oliver was desirous of combining the businesses of the Delaware and California corporations into one corporation. With this end in view, numerous conferences were held between Oliver, acting for the California corporation, and Sweetland, acting for himself and the other stockholders of the Delaware corporation, and R. *642 A. Young, Sweetland's attorney. Sweetland and the other stockholders of the Delaware corporation were agreeable to disposing of their interests in the Delaware corporation. A price was tentatively agreed upon. Oliver conferred with bankers in San Francisco as to how the money might be raised with which to acquire the shares of stock of the Delaware corporation. On April 10, 1928, the Crocker First National Bank, by A. J. Lowrey, manager of the securities department, and E. H. Rollins & Sons made a proposition to Oliver in which it was stated:
Either the Oliver Continuous Filter Company or a new company will finance this merger by the issuance of the following shares:
| To be presently issued | |
| Class A $2 dividend, no par voting | 60,000 sh. |
| Class B common $1.50 dividend, no par. voting | 170,000" |
* * *
You have agreed to sell us and we have agreed to purchase from you the 60,000 shares of A stock at $25 per share, and 70,000 shares of B stock at $20 per share, which will provide you with a total of $2,900,000.
The proposition made to Oliver by the bankers was accepted and agreed to by Oliver.
On April 11, 1928, Oliver addressed a letter to Sweetland*643 which stated in part:
*911 This letter, when, approved by your representative, will serve to confirm the agreement which has this day been arrived at between you (acting for yourself and the stockholding group of employes of United Filters Corporation) and the undersigned individually and as President of Oliver Continuous Filter Co.
The undersigned and/or the Oliver Continuous Filter Co. have agreed to purchase and you have agreed to sell 9448 1/2 shares of the capital stock of United Filters Corporation, which you guarantee represents all the stock of that corporation which is outstanding and which is not held in the Treasury of the said corporation.
* * *
The price to be paid for the said 9448 1/2 shares of stock is the sum of $2,350,000 to be paid in cash at the time hereinafter provided.
This agreement was upon receipt approved for Sweetland by R. A. Young, his attorney.
The agreement referred to above was to be effective only after audits of the books of the Delaware corporation had been made and after title to the properties, transfers, etc., had been approved by counsel for the purchasers. It was also subject to certain adjustments.
This agreement*644 was not literally carried out. It did, however, furnish the basis for other understandings and agreements later had and fully performed.
Sweetland and the other stockholders of the Delaware corporation appreciated that if the Delaware corporation sold its assets or if the stockholders sold their shares for cash, liability to income taxes would be incurred in large amounts, and the sellers desired to minimize or avoid these tax liabilities, if possible. Young believed that this could be done under the reorganization provisions of the income tax laws. On April 23, 1928, he sent a telegram to Oliver which read in part as follows:
Retel April twenty first my plan as tentatively worked out is as follows Stop We will organize a corporation under laws of some other country or province having the same share capital as Unifilt [Delaware corporation] Stop Stock of this corporation will be exchanged share for share for Unifilt stock Stop Unifilt will then be dissolved and its assets will pass to the foreign corporation Stop The foreign corporation will then sell assets to you or new company and receive cash proceeds Stop Minority stock interest in foreign corporation will be bought*645 in for cash and Sweetland will be left owning entire stock of foreign corporation which he can do with as he sees fit Stop It seems to me that this will accomplish all the purposes your attorneys have in mind so far as anti trust laws concerned Stop It will aid materially Unifilt stockholders in connection with tax matters Stop Please understand this only tentative and does not have Sweetland's approval as yet expect confer with him as to details tomorrow and will advise you further in meantime would like opinion your attorneys regarding suggestions Stop Final contract of sale might be signed outside United States if thought necessary believe entire matter can be handled on perfectly legal basis and with greatest degree economy and safety Stop * * *
*912 On April 27, 1928, he sent another telegram to Oliver reading in part as follows:
Retel twenty sixth Stop If we organize Nevada corporation and had it take over assets Unifilt and sell such assets for cash its profit would be based on cost of assets to Unifilt under section two hundred four Revenue Act Nineteen Twenty Six Stop If same transaction put through by foreign corporation not doing business in United States and*646 sale takes place outside United States do not believe any tax liability would arise Stop All individual taxes on individuals would be avoided so long as proceeds of sale left in foreign company Stop I am quite confident of this and it is important factor from Sweetland's standpoint * * *
It was finally agreed that a new corporation should be organized, under the laws of the State of Nevada, for the purpose of effecting a merger of the two companies; that the Nevada corporation would first issue all of its shares of stock to the Delaware corporation for the major portion of its assets, reserving from the sale approximately $615,000 of assets, substantially all of its accumulated earnings, for the payment of a dividend by the Delaware corporation to its shareholders; that a corporation (petitioner herein) should then be organized under the laws of Panama, with principal office in Montreal, Canada, which would issue all of its shares of stock to the stockholders of the Delaware corporation; that the Delaware corporation would then be dissolved and the Panama corporation would then be in possession of all the outstanding shares of stock of the Nevada corporation, which it would sell*647 in Canada to the San Francisco bankers and to employees of the new corporation, as provided in certain agreements. It was believed that by this method of operation neither the Delaware corporation nor its stockholders would be rendered liable to income taxes and that the Panama corporation, by selling the shares of the Nevada corporation in Canada, would derive no taxable profit from the sale.
In pursuance of this plan United Filters, Inc., hereinafter referred to as the Nevada corporation, was incorporated May 17, 1928, under the laws of Nevada.
The first meeting of the board of directors of the Nevada corporation was held in New York City on May 17, 1928, at 1:30 p.m. At this meeting it was resolved that a proposition should be made to the Delaware corporation to acquire from it the business and assets of the Delaware corporation on a going concern basis, excepting therefrom $460,000 in cash and certain obligations of its employees under stock purchase agreements, and should issue to the Delaware corportion in payment therefor 52,223 shares of its A stock and 52,223 shares of its B stock, all of its shares presently to be issued.
On the same day at 2 p.m., in New York City, *648 there was a meeting of the board of directors of the Delaware corporation at which the treasurer of the corporation reported that the corporation had on *913 hand surplus earnings of more than $613,774.50, which amount was sufficient to pay a dividend of $64.96 per share on the outstanding stock of the corporation. A dividend of this amount was declared payable to the stockholders of record as of June 1, 1928, and the treasurer of the corporation was authorized and directed to pay such dividend on that date. There was then presented the proposition which had been made to the Delaware corporation by the Nevada corporation for the acquisition of the major portion of its assets in exchange for all of the shares of stock of the Nevada corporation then to be issued. This proposition was accepted.
At this same meeting the president of the Delaware corporation stated that a complete plan of reorganization had been worked out and that such plan was as follows:
(1) A new corportion, known as United Filters, Incorporated, has been organized under the laws of Nevada;
(2) The present United Filters Corporation will sell to the new Nevada corporation the good will, business and*649 assets of United Filters Corporation, reserving certain cash and accounts receivable, in exchange for all of the stock of the Nevada corporation to be presently issued;
(3) The present United Filters Corporation will be dissolved and the stock in the new corporation shall be exchanged pro rata for the stock of the United Filters Corporation which will be dissolved.
By a resolution duly made, seconded, and unanimously adopted, the plan as outlined was approved.
It was also voted that a meeting of the stockholders be called to be held on June 2, 1928, for the purpose of voting upon a proposition to dissolve the corporation.
Thereafter, and on the same day, May 17, 1928, the assets of the Delaware corporation to be sold were transferred to the Nevada corporation and certificates for 52,223 shares of A stock and 52,223 shares of B stock of the Nevada corportion were received in payment therefor.
The petitioner was incorporated under the laws of Panama on May 26, 1928, with its principal office at Montreal, Canada, and with an authorized capital stock of 10,000 shares of no par value of which 9,418 1/2 shares were issued on May 26, 1928, in exchange, share for share, for 9,418*650 1/2 shares of the Delaware corporation. These were the only shares of stock ever issued by the petitioner. The holders of 30 shares of stock of the Delaware corporation refused to exchange their shares of stock for shares of stock of the petitioner.
On or about June 1, 1928, the petitioner as the owner of 9,418 1/2 shares of the Delaware corporation, received its pro rata share of the dividend declared by that corporation on May 17, 1928, in the amount of $611,825.76. Of this amount $473,514.91 was in cash and $143,858.35 in promissory notes payable on demand, accepted as the equivalent of cash.
*914 On June 4, 1928, the Secretary of State of Delaware issued a certificate of dissolution of the Delaware corporation and the corporation was dissolved as of that date. At a meeting of the board of directors of the Delaware corporation held on June 5, 1928, the president reported that a certain amount of cash, representing surplus profits of the corporation, would remain in the treasury of the corporation after all expenses, which the corporation would be required to pay, had been paid. Thereupon, by appropriate resolution, there was declared a final liquidating dividend*651 of the cash which might remain in the treasury of the corporation after the payment of all expenses, such cash to be paid, pro rata, to the stockholders of record as of June 5, 1928. The corporation at such time had an earned surplus in excess of the amount of such payment. The chairman then stated that, pursuant to the plan of reorganization of the Delaware corporation, the meeting had been called to consider and take action on a proposal to exchange the stock of the Nevada corporation then owned and held by it for its own issued and outstanding stock. Thereupon, by appropriate resolutions, the officers of the Delaware corporation were authorized and directed on and after June 6, 1928, to effect an exchange of the stock of the Nevada corporation then owned by the Delaware corporation for its own issued and outstanding stock, and to distribute said stock of the Nevada corporatin pro rata to the stockholders of the Delaware corporation upon surrender by them of the certificates of stock of the Delaware corporation. Pursuant to said authorization, and on or about June 6, 1928, there were delivered to the petitioner, in Montreal, Canada, 52,058 shares of A stock and 52,058 shares*652 of B stock of the Nevada corporation in exchange for 9,418 1/2 shares of the Delaware corporation. The 52,058 shares of A stock and 52,058 shares of B stock of the Nevada corporation so received by the petitioner had a fair market value when received of $2,342,575. At or about the same time the petitioner received $5,547.50 as its pro rata share of the final liquidating dividend, as provided for in the resolution of the directors of June 5, 1928.
Negotiations then took place to effect the sale in Canada by the petitioner of its shares of stock in the Nevada corporation. Certain of the stockholders and employees of the dissolved Delaware corporation desired to acquire shares of stock in the Nevada corporation and were willing to pay slightly more per share than the bankers were willing to pay for the shares to be acquired by them. They were permitted to acquire 5,200 shares of the A stock and 10,000 shares of the B stock at an aggregate price of $376,575.
The 52,058 A shares and 52,058 B shares of stock of the Nevada corporation received by the petitioner corporation on June 6, 1928, had a fair market value on that date of $2,342,575. The difference *915 between this*653 amount and $2,350,000, which Oliver and his associates had agreed on April 11 to pay for all the shares of stock of the Delaware corporation, after the distribution by the Delaware corporation of its accumulated earnings, is the value given to the shares of stock of the Nevada corporation which were never acquired by the petitioner, but which were distributed to the owners of 30 shares of the Delaware corporation who refused to exchange their Delaware shares for shares of stock of the petitioner.
On June 9, 1928, the bankers in San Francisco addressed a letter to Oliver reading in part as follows:
Under date of April 10, 1928, we entered into an agreement with you relative to the merging of the properties of United Filters Corporation with the properties of the Oliver Continuous Filter Company, and we supplemented said contract by another agreement dated April 20, 1928. Having made certain of the investigations therein provided to be made on our part, we now supersede into the former contracts herein mentioned and make a firm commitment to you as follows:
1. A corporation has been organized under the laws of the State of Nevada under the name of United Filters, Incorporated, *654 to be known hereafter as Oliver United Filters Incorporated, a copy of the articles of incorporation of which corporation as they are to be amended is hereto annexed and made a part hereof. The stock which we are to purchase is the A and B stock described in said articles.
* * *
Upon compliance with the conditions hereinbefore mentioned, we agree to pay you for 50,000 shares of the A stock and 50,000 shares of the B stock of the Nevada corporation, the sum of $2,268,750.
This firm commitment was accepted and agreed to by Oliver.
The Bank of Montreal, at Montreal, Canada, was the depositary for the assets of the petitioner. The bankers in San Francisco who were desirous of acquiring the shares of stock of the Nevada corporation from the petitioner understood, and were advised, that they could acquire them by purchase in Canada and not in the United States. They were made to understand that they could acquire them through the Royal Trust Co., of Montreal, Canada. On June 18, 1928, the Crocker First National Bank of San Francisco and E. H. Rollins & Sons sent a telegram to the Royal Trust Co. stating that they might be interested in acquiring 46,858 shares of A stock of*655 the Nevada corporation, and 42,058 shares of B stock of that corporation which they understood was under the control of the Bank of Montreal, and requested that the Royal Trust Co. ascertain at what price such stock could be obtained. The number of shares specified was all the shares of stock of the Nevada corporation owned by the petitioner less those to be sold to the stockholders and former employees of the Delaware corporation. On June 19 the Royal Trust Co. sent a telegram to the Crocker First National Bank of San Francisco in reply to its telegram of June 18, stating that they were in touch with and had reason to *916 believe that they could acquire the block of stock referred to and upon receipt of a firm bid it would be glad to see what could be done.
On June 20, 1928, the directors of the Oliver Continuous Filter Co. (the California corporation), held a meeting in Oakland, California, at which it was agreed that the California corporation would purchase 46,858 shares of A stock and 42,058 shares of B stock of the Delaware corporation at a price at $1,966,000. The figure of $1,966,000 was the difference between $2,342,575, the stipulated market value of the petitioner's*656 total holdings of shares of stock in the Nevada corporation, and $376,575 which the stockholders and employees of the Delaware corporation were to pay for 5,200 A shares and 10,000 B shares of the Nevada corporation.
The California corporation was to make this purchase in case the bankers in San Francisco failed to purchase these shares from the petitioner. The contract was never performed, since the bankers themselves acquired the stock.
On June 25 Young advised Oliver's attorney in San Francisco by telegraph that the "transaction" would be closed in Ottawa, instead of in Montreal, on account of provincial taxes; that Rollins & Sons should therefore telegraph an offer to the Royal Trust Co. in Ottawa in Canadian funds, after ascertaining the rate of exchange in San Francisco; that the stock of the Nevada corporation would be in Ottawa; and that delivery could be made on the following Tuesday upon receipt of the funds there.
The bankers in San Francisco were desirous of purchasing from the petitioner 46,858 shares of A stock and 42,058 shares of B stock of the Nevada corporation at the earliest date possible. It was appreciated that the bankers could not get possession of*657 the securities purchased in Ottawa for a period of two or three days from the date of purchase, if the securities after purchase were sent by mail from Ottawa to San Francisco. Young had suggested to the bankers that time might be saved if the Royal Trust Co. purchased the certificates in Ottawa, immediately canceled them, and then upon telegraphic advice had the Nevada corporation in San Francisco reissue the certificates, one of the officers of the Nevada corporation being at the time in San Francisco. This suggestion was adopted. Certificates representing 46,858 shares of A stock and 42,058 shares of B stock of the Nevada corporation owned by the petitioner were registered in the name of G. C. Pratt and H. V. Cullinan, nominees of the Bank of Montreal. These certificates were on deposit with the Bank of Montreal for safe keeping. They were subsequently, pursuant to the petitioner's instructions, forwarded by that bank to its Ottawa branch. The securities were endorsed in blank by Pratt and Cullinan and their signatures guaranteed by the Bank of Montreal.
*917 New certificates for the same number of shares of the Nevada corporation partially made out but still requiring*658 the signature of G. C. Dall, vice president of the company, of San Francisco, were held in San Francisco. It was arranged that as soon as the Royal Trust Co. purchased the certificates in Canada and canceled them it should inform the proper parties in San Francisco of that fact, whereupon new certificates would be issued by the Nevada corporation to the bankers in San Francisco. This arrangement was to enable the bankers to have the certificates in their possession so that they could immediately offer shares of stock of the Nevada corporation to the public.
The bankers in San Francisco did not wish to offer securities of the Nevada corporation to the public until the Nevada corporation had also acquired the assets of the California corporation. The Nevada corporation at the time was under the complete domination and control of the petitioner, which owned all of its shares of stock. The petitioner caused the Nevada corporation to agree to issue to the California corporation 7,777 shares of its A stock and 117,777 shares of its B stock for the assets of the California corporation, thereby making its outstanding stock 60,000 shares of class A and 170,000 shares of class B stock. *659 The name of the Nevada corporation was also at this time changed to Oliver United Filters, Inc. These certificates for additional shares of the Nevada corporation were placed on deposit with the Bank of Montreal (San Francisco) under an escrow agreement by which they were to be issued to the California corporation as soon as the bankers had paid for and secured title to 46,858 shares of A stock and 42,058 shares of B stock of the Nevada corporation then owned by the petitioner. The California corporation also placed with the Bank of Montreal (San Francisco) a bill of sale and deeds to all of its properties, the same to be delivered to the Nevada corporation as soon as the bankers had acquired the shares of the Nevada corporation from the petitioner.
On June 22, 1928, attorneys for Sweetland addressed a letter to the Bank of Montreal (San Francisco) in which it is stated:
We have made arrangements with your Head Office in Montreal for the purchase of a block of stock of United Filters, Incorporated, [Nevada corporation] which stock they expect to sell to the Royal Trust Company, of Montreal, for the account of E. H. Rollins & Sons, of San Francisco.
On June 23, 1928, the*660 petitioner by its president, E. J. Sweetland, addressed a letter to the Bank of Montreal, at Ottawa, Ontario, reading as follows:
The undersigned, Hazleton Corporation, hereby offers to sell to you 46,858 Shares of the "A" Stock and 42,058 Shares of the "B" Stock of United Filters, Incorporated, for the total sum of One Million Nine Hundred Sixty-four Thousand Dollars ($1,964,000) American currency, or its equivalent in Canadian currency at the current rate of exchange.
*918 This offer is irrevocable and may be accepted by you at any time within a period of ten (10) days from the date hereof.
The bankers in San Francisco deposited with the Bank of Montreal (San Francisco) on June 26, 1928, a check for $1,966,000 with the request that it pay by wire in Canadian funds that sum to the Royal Trust Co. of Montreal, Canada, at its office at Ottawa for the purpose and under the conditions stated in the letter.
On June 27, the Bank of Montreal addressed a letter to the petitioner, care of Bank of Montreal, Montreal, Quebec, reading as follows:
Referring to your letter of 23rd instant, we accept your offer and now confirm the purchase from you of -
46,858 shares United*661 Filters, Inc. Class "A" Stock
42,058 shares United Filters, Inc. Class "B" Stock
at $1,967,686.25 net Canadian Funds.
We enclose our purchase note covering the transaction for your files.
We note that we are to release for this purpose the shares presently held by us for safekeeping and as instructed by you we are transferring the above proceeds to the credit of your good selves with our Montreal Branch.
On the same date the Bank of Montreal entered into an agreement with the petitioner that the funds to be paid by the bankers for the petitioner's shares of stock in the Nevada corporation should not be released to the petitioner until the bankers in San Francisco advised it that the terms of the escrow agreement had been carried out and they had received new certificates of the Nevada corporation for 46,858 shares of A stock and 42,058 shares of B stock of the Nevada corporation in acceptable form. The bankers did not make this a condition of paying over to the petitioner the agreed purchase price for the securities to be acquired by it.
On June 27, pursuant to instructions received from the bankers in San Francisco, the Bank of Montreal (San Francisco) sent to the*662 Royal Trust Co. at Ottawa the equivalent in Canadian funds of $1,966,000 in United States funds for the purchase of the shares above referred to. This money was deposited in the Ottawa branch of the Bank of Montreal on the same date.
The Bank of Montreal sold to the Royal Trust Co. at Ottawa, on June 27, 1928, the certificates for 46,858 shares of A stock and 42,058 shares of B stock of the Nevada corporation registered in the name of G. C. Pratt and H. V. Cullinan, nominees of the Bank of Montreal. As soon as the Royal Trust Co. acquired them it immediately canceled them by writing the word "canceled" across the face of each certificate, pursuant to authority duly conferred upon it by the Nevada corporation, and advised the proper parties in San Francisco of the action taken, whereupon the Nevada corporation reissued the shares to the bankers. The Royal Trust Co. then sent the canceled certificates by air mail to San Francisco. Requisite taxes were paid *919 in Canada on the transfer of the shares of stock from the petitioner to the Bank of Montreal and also on the transfer by the Bank of Montreal to the Royal Trust Co.
As soon as the Ottawa branch of the Bank of*663 Montreal was advised by the bankers in San Francisco that they had received certificates in acceptable form for the shares purchased, the Bank of Montreal released to the petitioner the equivalent in United States funds of $1,964,000, which was the amount that the petitioner was to receive for them.
The statutory basis to petitioner of the 46,858 shares of A stock and of the 42,058 shares of B stock of United Filters, Incorporated (Nevada) sold by petitioner in 1928 was $747,944.52 if the exchange by petitioner of United Filters Corporation (Delaware) stock for stock of United Filters, Incorporated (Nevada) was one in which no gain or loss is recognizable under the statute. However, if the petitioner's exchange of stock of United Filters Corporation for United Filters, Incorporated stock was one in which gain or loss is recognizable under the statute, then the statutory basis to petitioner of said United Filters, Incorporated stock was equal to the amount received by petitioner upon the subsequent sale of that stock for cash. [So stipulated.]
The dividends of $611,825.76 and $5,547.50 received by the petitioner on June 1 and June 6, 1928, respectively, were paid out of earnings*664 of the Delaware corporation accumulated from the date of its organization in 1917 and constituted taxable distributions "made in pursuance of a plan of reorganization" within the purview of section 112(c)(2) of the Revenue Act of 1928.
The transfer by the Delaware corporation of a portion of its assets to the Nevada corporation in exchange for all of the shares of stock of the latter qualified as a "statutory reorganization" under section 112(i)(1) of the Revenue Act of 1928 and both of the corporations were parties to the reorganization.
The sale by the petitioner of 46,858 shares of A stock and 42,058 shares of B stock of the Nevada corporation was made in Ottawa, Canada. All of the petitioner's right, title, and interest in and to such shares were transferred by the petitioner to the Royal Trust Co. in Ottawa, Canada, as agent for the bankers, on June 27, 1928.
OPINION.
SMITH: In this proceeding the petitioner contends that the dividends of $611,825.76 and $5,577.50 received by it from the Delaware corporation on June 1 and June 6, 1928, respectively, constituted "taxable dividends" received by it from the Delaware corporation, within the meaning of section 112(c)(2) *665 of the Revenue Act of 1928, 1 which it is entitled to deduct from its gross income under section 23(p). It also contends that any gain realized by it from the exchange of shares of stock of the Delaware corporation for shares of stock of the Nevada corporation on June 6 is not to be recognized *920 for tax purposes in accordance with section 112(b)(3) of the Revenue Act of 1928. 1 We shall first consider the reorganization issue.
*666 The petitioner submits:
(1) There was a statutory "reorganization [of the Delaware corporation]";
(2) There was an exchange by petitioner of stock of old United [Delaware corporation] for stock of new United [Nevada corporation] in pursuance of a plan of reorganization which exempted such exchange from taxation under the provisions of Section 112(b)(3).
(3) The distributions of cash and accounts receivable were made in pursuance of the plan of reorganization and had the effect of the distribution of a taxable dividend within the meaning of Section 112(c)(2).
The basis for the respondent's objection to the petitioner's contentions is that there was no reorganization of the Delaware corporation; that it was contemplated prior to May 17, 1928, that the Nevada corporation would be organized and that the Delaware corporation and the California corporation would transfer assets to the Nevada corporation in exchange for shares of stock to be issued by that corporation; that such reorganization was not completed until on or about June 27, 1928, at which time neither the Delaware corporation nor its shareholders had control of the Nevada corporation.
Section 112(i) of the*667 Revenue Act of 1928 provides as follows:
(i) Definition of reorganization. - As used in this section and sections 113 and 115 -
(1) The term "reorganization" means (A) a merger or consolidation (including the 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 or substantially all the properties of another corporation), or (B) a transfer by a corporation of all or a part of its assets to another corporation if immediately after the transfer the transferor or its *921 stockholders or both are in control of the corporation to which the assets are transferred * * *
(2) The term "a party to a reorganization" 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.
We think that the evidence clearly shows that there was a reorganization of the Delaware corporation within the meaning of both clause (A) and clause (B) *668 of section 112(i). The Delaware corporation transferred all of its operative assets to the Nevada corporation in exchange for all of the shares of stock of the Nevada corporation. Neither the California corporation nor the Oliver interests were parties to the reorganization. The Delaware corporation remained in control of the Nevada corporation until it was dissolved, when the control passed to the petitioner, which then remained in control until June 27, 1928. This constituted a reorganization of the Delaware corporation under both clause (A) and clause (B). See ; ; ; , ; .
Under the plan of reorganization the Delaware corporation was to distribute all of its assets to its stockholders. In pursuance of that plan it declared a dividend on May 17 of $64.96 per share payable to its stockholders of record on June 1. After such*669 distribution it had only a small amount of cash on hand. It also, pursuant to the plan of reorganization, distributed its remaining cash and turned over to its stockholders all of the shares of stock of the Nevada corporation in exchange for the outstanding shares of its own stock.
The petitioner is a foreign corporation. Under the reorganization provisions of the Revenue Act of 1928, a foreign corporation is not to be treated differently from a domestic corporation. The dividends paid by the Delaware corporation and received by the petitioner in the amounts of $611,825.76 on June 1, and $5,547.50 on June 6, 1928, were paid out of the accumulated earnings of the Delaware corporation. Such dividends constitute distributions which have the effect of taxable dividends received by it under section 112(c)(2). Being dividends, they are deductible from the gross income of the petitioner under section 23(p) of the taxing statute.
The respondent objects to this conclusion, contending that the dividends received by the petitioner from the Delaware corporation are not "taxable dividends" within the meaning of section 112(c)(2). He takes the position that inasmuch as a corporation*670 is entitled to deduct from gross income dividends received by it from domestic *922 corporations it is not taxable upon them and hence that they do not constitute "taxable" dividends to it.
This argument of the respondent is directly opposed to ; and , which we think correctly construe the statute. In the last named case the court stated:
* * * The phrase "a taxable dividend" means only that the distribution is of profits and not of capital, and of profits accumulated since February 28, 1913. and thus in nature and in history subject to income tax. * * *
To the same effect see ; and .
The respondent submits that "the two cash distributions made to petitioner by United Filters Corporation [Delaware corporation] were payments in liquidation of its stock and are taxable as liquidating dividends."
Section 115(c) of the Revenue Act of 1928 provides:
(c) Distributions*671 in liquidation. - Amounts distributed in complete liquidation of a corporation shall be treated as in full payment in exchange for the stock, and amounts distributed in partial liquidation of a corporation shall be treated as in part or full payment in exchange for the stock. The gain or loss to the distributee resulting from such exchange shall be determined under section 111, but shall be recognized only to the extent provided in section 112. * * *
It will be noted that the gain or loss to the distributee resulting from distributions in liquidation "shall be recognized only to the extent provided in section 112." We think it a fair inference from the evidence of record that the cash distributions made by the Delaware corporation were distributions in liquidation of that corporation. At the meeting of the board of directors of that corporation on May 17, 1928, a dividend of $64.96 per share payable to the stockholders of record on June 1, 1928, was declared. Immediately thereafter the board of directors adopted a plan of reorganization which provided for the dissolution of the Delaware corporation. We have found as a fact that there was a reorganization of the Delaware corporation*672 within the purview of section 112(i) of the taxing statute. The declaration of the dividend on May 17 was incident to such reorganization. It was a part of the plan or reorganization. Likewise, the distribution of the remaining cash voted by the former directors of the Delaware corporation on June 5 and received by the petitioner on June 6 was a part of the plan of reorganization.
We think it is clear that it was the purpose of Congress to treat as taxable dividends to the recipients dividends paid by a liquidating corporation, a party to a reorganization, out of earnings which had been accumulated subsequent to February 28, 1913. Since the two *923 dividends received by the petitioner on June 1 and June 6 in the amounts of $611,825.76 and $5,547.50, respectively, were taxable dividends to it, they constitute legal deductions from the gross income of the petitioner under section 23(p).
The contentions of the petitioner with respect (1) to the dividends received by it from the Delaware corporation, and (2) to its claim that the gain realized by it from the exchange of shares of stock of the Delaware corporation for shares of stock of the Nevada corporation is not recognized*673 for tax purposes under section 112(b)(3), are sustained.
The remaining question for consideration is whether the petitioner derived taxable gain from the sale by it on June 27, 1928, of shares of stock of the Nevada corporation. Admittedly the petitioner realized a gain from the sale. The petitioner contends, however, that the sale was made outside the United States and that the gain is not subject to United States income tax.
Upon this point it is to be noted that the petitioner is a foreign corporation. The shares of stock of the Nevada corporation owned by it were personal property. A foreign corporation is liable to income tax upon income derived from sources within the United States. Section 119 of the Revenue Act of 1928 provides in part:
(e) Income from sources partly within and partly without United States. - * * * Gains, profits and income derived from the purchase of personal property within and its sale without the United States or from the purchase of personal property without and its sale within the United States, shall be treated as derived entirely from sources within the country in which sold, * * *
(f) Definitions. - As used in this section the*674 words "sale" or "sold" include "exchange" or "exchanged"; * * *
The rule is well established that title to property passes at the place of sale where the final act of the seller making effective the sale takes place. . In ; affd., , the Board said: "the place of sale is where the final act of the seller, causing title to pass, was done."
The petitioner contends that it sold 46,858 shares of A stock and 42,058 shares of B stock of the Nevada corporation to the Bank of Montreal, which in turn sold the shares to the bankers in San Francisco. The respondent strenuously contends that this was not a bona fide sale and that the transfer of the shares to the bank of Montreal was for accommodation only. In its brief the petitioner argues that it is immaterial whether the Bank of Montreal be considered as principal or as agent in effecting the sale to the bankers; that in any event the sale to the bankers was made in Canada on June 27. From a consideration of the entire record, we are of the *924 opinion that the Bank of Montreal*675 should be regarded only as agent of the petitioner in effecting the sale to the bankers, although the evidence shows the payment of transfer taxes in Canada upon the transfer of the shares from the petitioner to the Bank of Montreal.
Up to the time of the sale by the petitioner of 46,858 shares of A stock and 42,058 shares of B stock of the Nevada corporation the petitioner was clearly the owner of those shares. Certificates for all of the holdings of the petitioner in the Nevada corporation were on deposit with the Bank of Montreal, Montreal, Canada. The petitioner through R. A. Young, its attorney, negotiated the sale of these shares to bankers in San Francisco. He made it very clear to them, however, that the sale must take place in Canada and not in the United States. The bankers made the Royal Trust Co. of Montreal, Canada, their agent for the purchase of them. They authorized the Royal Trust Co. as their agent to purchase the shares for them. They sent to the Ottawa branch of the Royal Trust Co. funds with which to acquire the shares. The Royal Trust Co. paid the money to the Bank of Montreal at Ottawa for the purchase of the shares and the Bank of Montreal turned over*676 to the Royal Trust Co. at Ottawa certificates for the shares. The Royal Trust Co. had been given authority by the Nevada corporation to write the word "cancelled" across the face of each of the certificates and to advise the proper parties in San Francisco as soon as it had made the purchase. It advised the proper parties in San Francisco of the purchase of the shares and of its action in canceling the certificates and immediately thereafter the Nevada corporation caused new certificates to be issued to take the place of those purchased by the Royal Trust Co. and canceled pursuant to the authority given.
The respondent contends that by reason of the fact that the bankers were to receive the reissued certificates in San Francisco the actual sale was made within the United States.
We think it is clear from the evidence that it was the intention of all parties concerned that the petitioner should part with all of its right, title and interest in and to the shares of the Nevada corporation in question by the delivery of the certificates for the shares to the Royal Trust Co. The rule is well established that in the case of a sale of corporate stock title passes with the delivery*677 of certificates for the shares to the purchaser, where that is the intention of the contracting parties. ; . In ; , it is stated:
It is common knowledge that, as between the parties to the transaction, the property in shares of stock customarily passes in the ordinary and regular course of trade by delivery of the certificates indorsed in blank by the person to whom the certificate purports on its face to have been issued. * * *
*925 To the same effect is .
The subsequent reissuance of certificates for the shares by the Nevada corporation in San Francisco was solely for the purpose of enabling the bankers to get immediate possession of certificates for the shares, and had nothing to do with effecting the sale. Neither was it material that the Bank of Montreal made it a condition of its acting as intermediary that the purchase price of the securities should not be released to the petitioner until it had been*678 advised by the bankers that they had received the reissued certificates.
Since the evidence clearly establishes that the petitioner sold its shares of stock in the Nevada corporation in Canada, and not in the United States, the profit realized from the sale is not subject to Federal income tax.
In the drafting of the bill which later became the Revenue Act of 1932, Congress realized that a very "serious loophole for avoidance of taxes" existed under the Revenue Act of 1928. This is clearly apparent from the report of the Ways and Means Committee to the House of Representatives accompanying the bill which later became the Revenue Act of 1932. In this report (Rept. No. 798, 77th Cong., 1st sess., p. 20) it is stated:
Property may be transferred to foreign corporations without recognition of gain under the exchange and reorganization sections of the existing law. This constitutes a serious loophole for avoidance of taxes. Taxpayers having large unrealized profits in securities may transfer such securities to corporations organized in countries imposing no tax upon the sale of capital assets. Then, by subsequent sale of these assets in the foreign country, the entire tax*679 upon the capital gain is avoided. For example, A, an American citizen, owns 100,000 shares of stock in corporation X, a domestic corporation, which originally cost him $1,000,000 but now has a market value of $10,000,000. Instead of selling the stock outright A organizes a corporation under the laws of Canada to which he transfers the 100,000 shares of stock in exchange for the entire capital stock of the Canadian company. This transaction is a nontaxable exchange.The Canadian corporation sells the stock of corporation X for $10,000,000 in cash. The latter transaction is exempt from tax under the Canadian law and is not taxable as United States income under the present law. The Canadian corporation organizes corporation Y under the laws of the United States and transfers the $1,000,000 cash received from the sale of corporation X's stock in exchange for the entire capital stock of Y. The Canadian corporation then distributes the stock of Y to A in connection with a reorganization. By this series of transactions, A has had the stock of X converted into cash and now has it in complete control. [Italics supplied.]
Subsection (k) of section 112 of the Revenue Act of 1932*680 was designed to cure the defect in the earlier statute. It reads as follows:
SEC. 112. RECOGNITION OF GAIN OR LOSS.
* * *
(k) FOREIGN CORPORATIONS. - In determining the extent to which gain shall be recognized in the case of any of the exchanges or distributions (made after the *926 date of the enactment of this Act) described in subsection (b)(3), (4), (4), or (5), or described in so much of subsection (c) as refers to subsection (b)(3) or (5), or described in subsection (d) or (g), a foreign corporation shall not be considered as a corporation unless, prior to such exchange or distribution, it has been established to the satisfaction of the Commissioner that such exchange or distribution is not in pursuance of a plan having as one of its principal purposes the avoidance of Federal income taxes.
It will be noted that the amendment made by the Revenue Act of 1932 was effective from the date of the enactment of that act. It was never designed to be applied retroactively.
A case bearing some resemblance to the proceeding at bar is *681 . There a Canadian corporation had been formed for the purpose of effecting a sale of securities of domestic corporations. The respondent held both the Canadian corporation and a domestic corporation taxable upon the profit realized upon the sale. Upon the evidence before it the Board held that the Canadian corporation was a mere agency or instrumentality of the real owner of the stock, and that the domestic corporation, and not the Canadian corporation, was taxable upon the profit realized from the sale. The Panama corporation, the petitioner in the proceeding at bar, was not a mere agency of the Delaware corporation and its stockholders.
We do not have before us in this proceeding either the Delaware corporation or its stockholders. Whether or not they might be liable to income tax upon profits realized from the sale by the petitioner to the bankers in San Francisco of the shares of stock of the Nevada corporation is a question likewise not before us. Since the respondent has not determined deficiencies against either the Delaware corporation or its stockholders, who might be considered the parties in interest, the opinion*682 of the Board in , is not controlling here.
Reviewed by the Board.
Judgment will be entered under Rule 50.
VAN FOSSAN dissents.
HILL, dissenting: I can not agree with the finding and conclusion of the majority of the Board that petitioner sold the stock of United Filters, Inc. (the Nevada corporation) in Canada and that the profits thereon are nontaxable by the Government of the United States. I believe that the facts show that the sale was made in the United States and that a tax liability was incurred.
The whole purpose of the complicated scheme employed by the officers and stockholders of the Delaware corporation (the United Filters Corporation) to effect a sale of the assets and business of that corporation or of its capital stock to the Oliver Continuous Filter *927 Co. (the California corporation) or to its stockholders was concededly to avoid the payment of taxes in the United States by the Delaware corporation or its stockholders on the profits of such sale.
The terms of the sale and the purchase price to be paid were in all essential respects agreed upon directly between the Delaware*683 corporation and the California corporation before any plan was initiated by the seller to effectuate a tax-free transaction. Had the sale been consummated, as it was initiated, directly from the Delaware corporation to the California corporation, the Delaware corporation or its stockholders would have incurred large tax liabilities. The California corporation would not have incurred any tax liability through such purchase and its accession to the arrangement proposed by the seller was solely in the interest and for the accommodation of the latter. The officers and stockholders of the Delaware corporation organized the Nevada corporation and the petitioner. The Bank of Montreal and the Royal Trust Co. of Canada were selected by the petitioner as agencies to carry out its plan to give to the sale of the Nevada corporation stock the appearance of having been consummated in Canada. These institutions acted under the direction of petitioner and were its agents in effectuating this purpose.
The petitioner first designated the Bank of Montreal at Montreal to be the channel through which to transfer the Nevada corporation stock to the California purchaser and then, because of certain*684 provincial taxes, changed the designation to the Bank of Montreal at Ottawa. It is apparent from the record that it was never the intention of the petitioner or the Bank of Montreal that the latter should be other than the channel through which petitioner should transfer title to the stock in question to the purchaser in California. The stock was registered in the name of two nominees of the Bank of Montreal as custodians thereof for petitioner. The stock was never registered in the name of the Bank of Montreal or its nominees as owner. The petitioner told the bankers of San Francisco, representing the California purchaser, to deal through the Royal Trust Co. of Montreal, Canada, in purchasing the stock. The Royal Trust Co. was an agency of the petitioner, not of the purchaser, and was part of the channel provided by petitioner through which to convey the stock to the California purchaser. There is nothing in the record to indicate that the Royal Trust Co. received any compensation from the purchaser for its services in connection with the transaction. The bankers of San Francisco did not select the Royal Trust Co. to act for them. They dealt with petitioner through it because*685 petitioner told them to do so. Immediately upon receipt of the Nevada corporation stock from the Bank of Montreal, the Royal Trust Co. canceled it by authority of the Nevada corporation and advised the vice president of that corporation in San Francisco *928 thereof by telegraph. Thereupon the vice president reissued the stock and delivered it to the bankers of San Francisco. When the Royal Trust Co. canceled the certificates received from petitioner through the nominees of the Bank of Montreal, petitioner's custodian thereof, it acted as agent of the Nevada corporation, which was under the complete domination of petitioner. The Royal Trust Co. was the agent of petitioner, and its possession of the certificates of stock was the possession of petitioner and not of the bankers of San Francisco or of the California corporation.
The deal for the sale of the stock was not consummated and title thereto did not pass from petitioner until the reissued certificates of stock were delivered "in acceptable form" to the bankers of San Francisco. The petitioner agreed that the purchase money for the stock should not be released to it until the reissued stock certificates were so delivered*686 and, in fact, the purchase money was not so released until the delivery of the stock was made (in acceptable form) in San Francisco, California. Not until the stock was so delivered and the purchase money released to petitioner was the sale consummated, for it could not be determined whether the stock was "in acceptable form" until the certificates were presented to the bankers of San Francisco. This was done in San Francisco. The Nevada corporation, through its vice president, delivered the stock in California and it was there that title thereto passed from petitioner to the purchaser.
The money that was paid to the petitioner for the stock was the money transmitted to Canada by the bankers of San Francisco for that purpose. This money remained the property of the bankers until it was released to the petitioner. The Royal Trust Co. never had title to that money. It was not for its protection, but for the protection of the bankers of San Francisco, that the money was not released to the petitioner until the reissued stock was delivered. The Royal Trust Co. was not recognized by petitioner as having any interest in the release of the money or the delivery of the stock. It*687 is obvious from the record that neither the petitioner, the Bank of Montreal, the Royal Trust Co., nor the bankers of San Francisco intended that the Bank of Montreal or the Royal Trust Co. should become the owner of the stock, but that the sole purpose of all the parties connected with the transaction was to transfer title to the stock from petitioner to the bankers of San Francisco and that the Bank of Montreal and the Royal Trust Co. were brought into the deal only to give to the transaction the appearance of a sale by petitioner in Canada to avoid a tax liability in the United States. There was no substance in that arrangement.
The petitioner had placed in escrow with the Bank of Montreal of San Francisco 7,777 shares of class A stock and 117,777 shares of *929 class B stock of the Nevada corporation, to be issued and delivered to the Oliver Continuous Filter Co. as soon as the bankers had paid for and secured title to the shares of stock being purchased from petitioner. The California corporation also placed with the Bank of Montreal (San Francisco) a bill of sale and deeds to all its properties to be delivered to the Nevada corporation as soon as the bankers had acquired*688 the shares of the Nevada corporation from the petitioner.
Delivery was not made under this escrow agreement until after the reissued stock had been delivered to the bankers of San Francisco and the money therefor released to petitioner. Thus both the petitioner itself and the purchaser of the stock construed the deal for the stock as having been closed only when the reissued stock was delivered in San Francisco and the purchase money therefor released to petitioner.
I respectfully submit that the finding and conclusion should be that petitioner sold the stock in the United States and incurred a tax liability by reason of a gain realized thereon, represented by the difference between $1,966,000, the sale price, and $747,944.52, the statutory cost basis of the stock.
MELLOTT and ARNOLD agree with this dissent.
Footnotes
1. SEC. 112. RECOGNITION OF GAIN OR LOSS.
* * *
(b) Exchanges solely in kind. -
* * *
(3) STOCK FOR STOCK ON REORGATION. - No gain or loss shall be recognized if stock or securities in a corporation a party to a reorganization are, in pursuance of the plan of reorganization, exchanged solely for stock or securities in such corporation or in another corporation a party to the reorganization.
* * *
(c) Gain from exchanges not solely in kind. -
(1) If an exchange would be within the provisions of subsection (b)(1), (2), (3), or (5) of this section if it were not for the fact that the property received in exchange consists not only of property permitted by such paragraph to be received without the recognition of gain, but also of other property or money, then the gain, if any, to the recipient shall be recognized, but in an amount not in excess of the sum of such money and the fair market value of such other property.
(2) If a distribution made in pursuance of a plan of reorganization is within the provisions of paragraph (1) of this subsection but has the effect of the distribution of a taxable dividend, then there shall be taxed as a dividend to each distribution of a amount of the gain recognized under paragraph (1) as is not in excess of his ratable share of the undistributed earnings and profits of the corporation accumulated after February 28, 1913. The remainder, if any, of the gain recognized under paragraph (1) shall be taxed as a gain from the exchange of property. ↩