*1749 In entering into a plan for the combination of several corporations, petitioner transferred all of its property to one of the companies, which immediately transferred back to petitioner all of its accounts and bills receivable. Such receivables amounted to about 32 per cent of all of petitioner's assets. Held that there was no actual transfer of the receivables; that the transfer of the remaining 68 per cent did not constitute "substantially all of its properties," and the transaction is accordingly not a nontaxable reorganization under section 203(h)(1) of the Revenue Act of 1926.
*1223 Proceeding for the redetermination of a deficiency of $60,796.27 in income tax for the fiscal year ended August 31, 1927. The issue is whether a certain transaction involving the transfer of petitioner's assets was a reorganization resulting in no taxable gain.
FINDINGS OF FACT.
The petitioner was during the taxable year on Ohio corporation with its principal office at Canton. Prior to the date of the transaction here involved*1750 it was engaged in the business of manufacturing and selling refrigerating and ice-making machinery and supplies.
The York Ice Machinery Corporation, hereinafter called the Ice Corporation, was incorporated under the laws of Delaware on March *1224 22, 1927, for the purpose of acquiring the business and assets of the York manufacturing Company, hereinafter called the York Company, and its affiliated and allied companies, the Shipley Patent Corporation and one additional company, as set forth in a letter dated April 19, 1927, to its stockholders. A paragraph of the letter reads as follows:
(d) It is agreed that if the new company [York Ice Machinery Corporation] concludes that it will be to the advantage of the reorganization to include in it one company other than the above defined participating companies and the Shipley Patent Corporation, it may do so and may exchange its securities for all the capital stock and/or assets of such other company. Such exchange if made, will be made upon the same basis and conditions as herein provided for the participating companies, provided only that the new company may substitute in payment for the stock or assets of such other company*1751 so great a face amount of the new company's bonds for a like amount of the new company's preferred stock as the new company may determine.
The letter detailed at considerable length the financial structure of the Ice Corporation and the basis on which its securities were to be issued. The details are immaterial here. Petitioner is not mentioned by name in the letter.
At a special meeting of the directors of the Ice Corporation held on May 20, 1927, the plan detailed in the letter of April 19, 1927, was declared operative as to the York Company and its allied companies. As to the petitioner, the following action was taken by the board of directors:
After a discussion of the advisability of the purchase of all the property of the Arctic Ice Machine Company for the price of $2,650,000 and the method of financing such purchase, it was, on motion, duly seconded and unanimously carried,
RESOLVED: That York Manufacturing Company be and is hereby requested to purchase for the account of this corporation all the property of the Arctic Ice Machine Company of Canton, Ohio, and to enter into a contract with the Arctic Ice Machine Company for that purpose in the form submitted at this*1752 meeting.
FURTHER RESOLVED: That the officers of this corporation be and they are hereby authorized and directed to execute a contract with the York Manufacturing Company in the form submitted at this meeting whereby this corporation agrees to indemnify the York Manufacturing Company against all loss by reason of entering into such contract with the Arctic Ice Machine Company, and to reimburse it for all expenditures made in the performance of such contract, and further agrees that the execution of such contract and its subsequent performance shall not be deemed to be a violation of the plan of reorganization nor affect in any way the amount of securities to be received by the stockholders of the York Manufacturing Company under the plan of reorganization.
By contract of May 23, 1927, petitioner agreed to sell all its property of every kind to the York Company. In this transaction the *1225 York Company was acting as agent for the Ice Corporation which at that time had not reached the state of active operation. In this contract the sale price of petitioner's assets was fixed at $2,650,000, conditioned upon a net worth of petitioner of $2,700,000 at date of settlement, *1753 which was to be not later than July 7, 1927. Of the agreed purchase price, petitioner was to receive $1,800,000 cash on date of settlement, subject, however, to the right of the York Company "to transfer back" to the petitioner accounts and bills receivable received from the petitioner "in the face amount of $1,050,000 in full relief of this cash payment" of a like amount. Provision was made for adjustment of any shortage in the receivables. The balance of $850,000 was to be paid in 7 per cent cumulative preferred stock of the Ice Corporation, or at the option of the purchaser, in cash. The contract also contained provisions for adjustment of any later discovered liabilities of petitioner which are not material here.
By bill of sale dated July 7, 1927, petitioner transferred all of its property to the York Company. On that date petitioner received in cash $875,535.30 of the sales price agreed upon. On the same date, July 7, 1927, the York Company assigned back to petitioner accounts and bills receivable in the face amount of $849,464.70 and as a part of the same instrument petitioner gave its receipt therefor. The amount of cash paid over and the fact amount of receivables*1754 thus assigned back aggregated $1,725,000, for which sum petitioner gave its receipt, and in the same instrument authorized the York Company to pay the balance of $925,000 in stock or cash to a designated bank. On the same date petitioner appointed the York Company, with power of substitution by the latter, its agent to collect the receivables above mentioned. The York Company accepted the agency and agreed to undertake collection without compensation and to remit the proceeds to petitioner. The York Company was not to be responsible for collection of the receivables at par, and petitioner was to bear all collection costs other than bookkeeping expenses.
Thereafter, when and as the accounts and bills receivable were collected and the cash paid to petitioner, the sums so realized were distributed to petitioner's stockholders.
Of the cash received on July 7, 1927, petitioner immediately paid out $231,725 to redeem outstanding preferred stock of $230,000 and accrued dividends thereon to July 8, 1927, amounting to $1,725, and $643,802.63 was distributed to common stockholders on July 8, 1927, leaving a balance of $7.67.
*1226 On July 7, 1927, the York Company made the*1755 following entires in its books to record the acquisition of petitioner's business:
| Debits | Credits | ||
| Cash | $393,099.30 | Accounts payable | $56,275.89 |
| Notes and accounts receivable | 849,464.70 | Estimated cost to complete contracts | 22,621.45 |
| Engineers' additions | 585.26 | Accrued Federal income taxes | 78,374.51 |
| Accrued interest receivable | 66.00 | Accrued State and local taxes | 8,952.47 |
| Inventories | 494,523.88 | Reserve for depreciation | 514,771.00 |
| Investments | 6,250.00 | Initial surplus | 201,200.43 |
| Property | 1,773,179.71 | The Arctic Ice Mach. Co. (of Ohio) | 2,650,000.00 |
| Prepaid insurance | 6,299.09 | ||
| Catalogs, circulars, electros, and cuts | 8,727.81 |
On the same date petitioner made entries in its books closing out all asset and liability accounts by transfer to the York Company, and also made appropriate entries for the accounts and notes receivable retransferred to it. At the same time it opened up a new set of books, known as a liquidating set of books, showing the same entries for the accounts and notes receivable.
In accordance with its agreement with the Ice Corporation, petitioner conducted no business after July 7, 1927. A certificate of petitioner's*1756 dissolution was executed on June 14, 1928.
OPINION.
ARUNDELL: There is no dispute in this case as to the amount of gain realized by petitioner on the exchange detailed in the findings of fact. The question is whether or not the transaction is of such kind that the gain is not recognized for tax purposes under section 203 of the Revenue Act of 1926. The material parts of this section are set out in footnote. 1
*1757 *1227 That income may be realized from an exchange of property for property, or a "conversion" as it is termed in , is well settled. See , affirming . Section 203(a) definitely provides that upon the exchange of property "the entire amount of the gain * * * shall be recognized" save in those cases specifically excepted. "It is the exceptional case alone in which gain or loss is not to be recognized * * *." . Also see footnote. 2 In , we held that "recognized" gain was the equivalent of "taxable" gain. Accordingly, if the gain realized by petitioner on the exchange is to escape tax, petitioner must bring itself clearly within the exceptions specified in section 203. .
*1758 Stated broadly, under the parts of the act applicable here, the gains that are excepted from recognition are those arising out of reorganizations where pursuant to the plan of reorganization the property or money received is distributed to the stockholders. Subsection (h)(1) defines a "reorganization" as meaning "(A) a merger or consolidation (including the acquisition by one corporation of substantially all the properties of another corporation) * * *." Petitioner contends that it more than meets the test of subsection (h)(1) in that it transferred all of its properties by the bill of sale of July 7, 1927. It is true that that instrument does purport to effect a transfer of all the properties, and if it marked the end of the transaction we might be able to agree with petitioner's contention on this phase of the case. Following the transaction on through, we find the bill of sale followed by another document immediately transferring back to petitioner the receivables amounting to $849,464.70. The result of this latter document was that the York Company held title to the receivables only momentarily. When the passing of documents back and forth was completed the petitioner *1228 *1759 was in exactly the same position as it was before with respect to the receivables, which represented about 32 per cent of the net book value of petitioner's assets. In other words, by the transactions of July 7, 1927, petitioner actually divested itself of only 68 per cent of its assets. This in our opinion was not "substantially all" of petitioner's properties within the meaning of the statute. We have repeatedly held, under the affiliation provisions of the Revenue Acts of 1918 and 1921, that 68 per cent stock ownership or control did not constitute "substantially all." ; ; affd., .
If a transaction of the sort here involved can be said to be within the provisions of the statute, then there is no limit to the proportion of assets that may be retained by a corporation by the device of passing bills of sale back and forth, and still escape tax on the gain realized on the exchange. Having regard for the practical result and the substance of the transaction rather than its mere form (*1760 ; ; ), we conclude that the petitioner did not dispose of substantially all of its properties.
The cases of , and , cited by petitioner, are readily distinguishable. In the Tulsa Oxygen case the purchasing corporation acquired all of the taxpayer's property except "the bare franchise right to be a corporation." In the National Pipe case the taxpayer conveyed all its property except a group of doubtful accounts having a face value of less than 5 per cent of the net book value of the assets transferred.
While this case was presented and argued largely on the method of handling the receivables, it is to be noted that subsections (b)(3) and (e)(1) of section 203 - which are the only provisions of the statute at all approached by the situation here - provide for non-recognition of gain only where the money or property received is distributed "in pursuance of the plan or reorganization." Petitioner*1761 has failed to show what, if any, plan of reorganization it had, or that the distribution to its stockholders was made pursuant to any plan. The fact that the Ice Corporation had a plan for the acquisition of part of petitioner's properties does not establish that petitioner and any plan of reorganization.
Decision will be entered for the respondent.
Footnotes
1. SEC. 203(a) Upon the sale or exchange of property the entire amount of the gain or loss, determined under section 202, shall be recognized, except as hereinafter provided in this section.
* * *
(b) (3) No gain or loss shall be recognized if a corporation a party to a reorganization exchanges property, in pursuance of the plan of reorganization, solely for stock or securities in another corporation a party to the reorganization.
* * *
(e) If an exchange would be within the provisions of paragraph (3) of subdivision (b) if it were not for the fact that the property received in exchange consists not only of stock or securities permitted by such paragraph to be received without the recognition of gain, but also of other property or money, then -
(1) If the corporation receiving such other property or money distributes it in pursuance of the plan of reorganization, no gain to the corporation shall be recognized from the exchange, but
(2) If the corporation receiving such other property or money does not distribute it in pursuance of the plan of reorganization, the gain, if any, to the corporation 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 so received, which is not distributed.
* * *
(h) As used in this section and sections 201 and 204 -
(1) The term "reorganization" means (A) a merger or consolidation (including the acquisition by one corporation of * * * substantially all the properties of another corporation) * * *. ↩
2. The purpose of section 203 was stated by Mr. A. W. Gregg, then special assistant to the Secretary of the Treasury, in a statement prepared for the use of the House Ways and Means Committee in connection with drafting the Revenue Bill of 1924, as follows:
The existing law provides in section 202(c), that no gain or loss is recognized from an exchange of property unless the property received in exchange has a readily realizable market value. Great difficulty has been experienced in administering this provision.
The question of whether, in a given case, the property received in exchange has a readily realizable market value is a most difficult one, and the rulings on this question in given cases have been far from satisfactory. Furthermore, the construction placed upon the term by the Department has restricted it to such an extent that the limitation contained therein has been applied in comparatively few cases.
The provision cannot be applied with accuracy, nor with consistency. It appears best to provide generally that gain or loss is recognized from all exchanges, and then except specifically and in definite terms those cases of exchanges in which it is not desired to tax the gain or allow the loss.↩ This results in definiteness and accuracy, and enables a taxpayer to determine prior to the consummation of a given transaction the tax liability that will result therefrom.