*2017 Petitioner's transferror sold a tugboat in 1918 under a contract providing for a $50,000 down payment with a balance of $250,000 to be paid in 1919 and 1920, with interest on the unpaid balance and for immediate possession to be given vendee, title to be retained by vendor until purchase price was paid: Held, That the profit realized on said sale is taxable in 1918.
*1084 This proceeding is for the redetermination of a liability of $20,650.98, which has been asserted against the petitioner as transferee of the assets of Shipowners & Merchants Tugboat Company for income and profits taxes of the latter company for 1919.
The petition alleges that the determination is erroneous because respondent erred:
(1) In holding that Shipowners & Merchants Tugboat Company derived a taxable profit during 1919 of $104,252.67 from the sale of the tugboat Hercules;
(2) In holding that Shipowners & Merchants Tugboat Company was liable to an additional income and profits tax for 1919 amounting to $20,650.98; and
(3) In holding that petitioner was liable*2018 as a transferee of the assets of Shipowners & Merchants Tugboat Company for the deficiency in tax of the latter company for 1919.
FINDINGS OF FACT.
In the year 1918 and prior thereto, Shipowners & Merchants Tugboat Company (hereinafter referred to as the old company), was a *1085 corporation engaged in the business of owning and operating a fleet of tugboats in and around the Bay of San Francisco.
During the early part of the year 1918, about March or April, one of the directors of the old company approached one Tynan, representing the Bethlehem Shipbuilding Company, with the view of selling the fleet of sixteen tugboats then owned by the company. Tynan then made up a syndicate, or group of individuals, including Thomas Crowley and his associates (said group being hereinafter referred to as the buyers), to purchase the tugboats, and the negotiations for such purchase were continued. The old company offered to sell the sixteen tugboats to the buyers for an aggregate of $1,020,000, made up of a certain price for each tugboat, together with some equipment for a further sum of $21,000. The tugboat Hercules was included in said offer at $300,000.
The parties first*2019 decided to sell the tugs directly, but this plan was later changed to an arrangement for the purchase of the stock of the old company instead.
At the time of said negotiations the old company had outstanding 4,285 shares of stock. The stockholders were numerous and scattered. The majority of the stock was owned by persons residing in or near San Francisco, but some was owned by persons in the eastern part of the United States and in England.
On May 15, 1918, a written agreement was entered into between W. J. Gray, J. D. and A. B. Spreckels Securities Company, F. S. Samuels, Arthur Page, W. H. Marston, C. Randall, John W. Curry, stockholders of the old company, and all other stockholders of the old company who may execute the agreement, as first parties, Shipowners & Merchants Tugboat Company (the old company), second party, and Robert J. McGahie, third party, representing the buyers. The agreement was prepared with many counterparts which were sent for execution to the various stockholders of the old company whose signatures were not affixed to the original copy. The agreement provided in its essential respects as follows:
(1) That the old company should form a California*2020 corporation (hereinafter referred to as the Securities Company) which would (a) take over all of the assets of the old company except the sixteen tugboats above mentioned, its office furniture, fixtures, telephone and office equipment, and all its rights to its office building and in or to the occupancy or use of the dock then used for its office and vessels, (b) assume all the liabilities of the old company arising prior to May 1, 1918, subject to certain limitations and exceptions not material to this case, and (c) issue to the old company in exchange for said assets such amount of the capital stock of the Securities Company as might be agreed upon between the two companies.
(2) That the old company should then distribute to its stockholders the said stock of the Securities Company.
(3) That the stockholders of the old company who were the first parties to the agreement should sell to the third party, representing the buyers, the stock *1086 of the old company at the price of $899,850 for the entire 4,285 shares outstanding, or at the rate of $210 per share, said price to be paid as follows: (a) as to each stockholder who shall sign the agreement and deposit his stock*2021 in escrow, as provided therein, prior to July 1, 1918, the sum of $116 on the deposit of the stock in escrow, less such sum as the stockholder might have received out of the initial payment of $100,000 to the escrow holder, or $94 per share, on or prior to July 1, 1918, and (b) as to each stockholder who signed the agreement and deposited his stock in escrow subsequent to July 1, 1918, but within the time limited in the agreement, the full amount of $210 per share upon such deposit of the stock.
(4) That the stockholders of the old company, who are parties to the agreement, should deposit their certificates of stock in that company, endorsed in blank, with the Bank of California National Association as escrow holder, and the buyers should pay to said bank the purchase price, which should then be paid over by the bank to the stockholder entitled thereto; but that no stock was to be deposited prior to the formation of the Securities Company and the distribution of its stock to the stockholders of the old company.
(5) That the buyers should make an initial payment to the escrow holder of $100,000 on account of the purchase price of the stock, immediately upon execution of the agreement*2022 by stockholders of the old company holding of record at least 2,857 shares of its stock, said $100,000 to be paid by the escrow holder to the stockholders depositing said stock in proportion to their respective interests.
(6) That none of the stock of the old company was to be delivered to the buyers before July 1, 1918.
(7) That all earnings from the said tugboats between May 1, 1918, and July 1, 1918, should be used solely for the payment of expenses of their operation on and after May 1, 1918, and were not to be distributed as dividends prior to July 1, 1918, but all dividends declared and paid after July 1, 1918, out of earnings derived from said tugboats on and after May 1, 1918, should belong to the buyers.
(8) That any stockholder of the old company might execute the agreement within three months from its due date and become a party thereto.
Pursuant to said agreement the Securities Company was organized and the assets of the old company, other than the tugboats and furniture and fixtures, were transferred to the Securities Company in exchange for its stock, which was then distributed pro rata to the stockholders of the old company
From time to time thereafter*2023 stock of the old company was deposited with the escrow holder, but there was delay in getting the agreement executed by some of the stockholders and the stock was not all deposited with the escrow holder until at least the latter part of the year 1918, but prior to January 10, 1919.
From the beginning of the negotiations for the purchase of the tugboats of the old company it was contemplated that a new corporation would be formed to take over and operate said tugboats, and at the time the agreement of May 15, 1918, was entered into it was agreed among the members of the syndicate who composed the buyers that, as soon as the stock of the old company was acquired, the boats and property of said company would immediately be turned *1087 over to a new company to be thereafter organized by said syndicate and to be known as The Shipowners & Mrchants Tugboat Company.
On or about July 1, 1918, the directors of the old company resigned and a new board was elected, consisting of certain members of the syndicate of buyers to each of whom had been transferred from the stockholders of the old company 10 shares of its stock as qualifying shares; Thomas Crowley, one of the buyers, was*2024 chosen as its general manager and took charge of the operation of the tugboats. No other transfers of stock of the old company were made to the buyers or their representative until January 10, 1919, as hereinafter stated.
On July 20, 1918, the buyers organized The Shipowners & Merchants Tugboat Company, the petitioner in this appeal, under the laws of the State of California, with an authorized capital stock of the par value of $1,500,000, consisting of 15,000 shares of a par value of $100 each.
On January 10, 1919, after all of the outstanding stock of the old company had been deposited with the escrow holder, the certificates, endorsed in blank, representing 4,195 shares of that stock (the remaining 90 shares having been transferred to the new board of directors as qualifying shares), were turned over to Robert J. McGahie as the representative of the buyers. On the same day McGahie surrendered said certificates to the old company and there was issued to him as the representative of the buyers one new certificate, No. 516, for 4,195 shares of stock of said company. There was attached to said certificate a bill of sale, signed by McGahie, purporting to assign, transfer and*2025 set over to the buyers the said shares of stock. The same day said certificate No. 516, to which said bill of sale was attached, was canceled. New certificates of stock of the old company were written out in the names of the buyers according to their respective interests and executed, but were never detached from the stubs in the stock certificate book. These certificates were then endorsed by rubber stamp as follows:
On the 10th day of January, 1919, substantially all of the capital assets of this company were distributed to its stockholders, pursuant to authority and permission granted by the Commissioner of Corporations, and the value of the shares represented by this certificate was reduced accordingly.
On the same day, January 10, 1919, the old company transferred, as of September 30, 1918, all of its assets, including its tugboats and its profits earned after May 15, 1918, to the petitioner, The Shipowners & Merchants Tugboat Company. On the same day, January 10, 1919, the petitioner, in exchange for said assets, issued to the old company 10,000 shares of the stock of the petitioner, of a par value of $1,000,000, less the qualifying shares that had previously been issued*2026 to its directors. Said stock was then distributed to the buyers.
*1088 Only a small percentage, less than 50 per centum, of the stock of the petitioner was issued to persons who were stockholders of the old company during the negotiations for the purchase of the tugboats and at the time the agreement of May 15, 1918, was entered into.
The delay in completing the transaction, after the incorporation of the petitioner on July 20, 1918, was due to the time consumed in getting the stock of the old company in escrow, and in obtaining permission from the Capital Stock Issues Committee in Washington and the Commissioner of Corporations of the State of California to issue petitioner's stock.
In addition to the $899,850 paid by the buyers for the stock of the old company, there were certain additional obligations and expenses of the old company assumed by them, in the amount of $100,150, making a total of $1,000,000 so invested by them.
The property received by the petitioner in exchange for its stock on January 10, 1919, was worth $1,000,000.
Under date of November 19, 1918, the old company, Shipowners & Merchants Tugboat Company, entered into a written agreement with*2027 James Rolph, of San Francisco, for the sale by the former to the latter of the tugboat Hercules for the sum of $300,000. This agreement superseded a preliminary memorandum of agreement dated June 7, 1918, between the old company and Rolph Navigation & Coal Company, James Rolph's corporation, for the sale of the Hercules for the sum of $310,000.
Said agreement of November 19, 1918, provided for the immediate delivery of the possession of the tugboat to the purchaser, and for the payment by him to the old company, on account of the purchase price of the tugboat, of $50,000 upon execution of the agreement, $60,000 on January 15, 1919, $50,000 on July 1, 1919, and $140,000 on January 15, 1920, together with interest on all deferred payments at the rate of 6 per cent per annum until paid. Title to the tugboat was to remain in the vendor until all payments were made, when a bill of sale thereto was to be given to the vendee.
Throughout the year 1918 and in the early part of 1919 the tugboat Hercules had a value of not less than $300,000. In the offer for the sale of its tugboats by the old company during the early part of the year 1918, which was tentatively agreed upon, *2028 as above stated, the Hercules was included at the price of $300,000, and the purchase price of the stock of the old company, after its assets, other than the tugboats and furniture and fixtures were eliminated, reflected a like value for the Hercules.
The tugboat Hercules was carried on the books of the old company at $197,946.74. When the petitioner opened its books of account, as of September 30, 1918, it included the Hercules at the same *1089 figure, namely, $197,946.74, at which it had been carried on the books of the old company.
The income tax return for the period January 1 to September 30, 1918, inclusive, was filed by the old company on June 1, 1919, and thereafter the old company made no further return for any taxable period. Subsequently to September 30, 1918, the old company kept no books under its own name, and thereafter all returns were filed by the new company, the return for the period October 1, 1918, to December 31, 1918, inclusive, being filed on or about June 15, 1919. On this return the new company computed a profit of $103,130.99 as the profit on the sale of the Hercules and reported one-sixth thereof as income for the period, *2029 or $17,188.50, since it had received $50,000 of the purchase price.
In making out its Federal income and profits tax return for the year 1919, the petitioner reported a taxable gain for that year from the sale of the Hercules of $37,814.70, arising from the receipt of the payment of $110,000 under the said sales agreement of November 19, 1918. The amount thus reported as taxable gain was arrived at by treating the transaction as an installment sale on the basis of a cost of the tugboat to the petitioner of $197,946.74, less depreciation of $1,077.73, or a net amount of $196,869.01.
On its return for 1920 petitioner reported a gain from this sale of $48,127.79.
Respondent determined that as a result of the sale of the tugboat Hercules the old company realized a profit in 1919 of $104,252.67. This profit was computed on the basis of a selling price of $300,000 and a depreciated cost on or about January 10, 1919, of $195,747.33. In arriving at depreciated cost the book value of the Hercules as of September 30, 1918, was depreciated at 4 per cent for three and one-third months, thereby giving the depreciated cost on or about January 10, 1919, as above set forth. *2030 On this profit respondent computed a deficiency against the old company of $20,650.98, and asserts that petitioner is liable for this deficiency as transferee of the assets of the old company under section 280 of the Revenue Act of 1926.
OPINION.
MORRIS: The petitioner contends that the profit, if any, from the sale of the tugboat Hercules was derived in 1918 and not in 1919; that the proceeding is barred by the statute of limitations; that it is not liable as a transferee within the meaning of section 280 of the Revenue Act of 1926; and that section 280 of the said Act is unconstitutional. We have previously considered whether the petitioner derived any gain in 1920 from the sale of the tugboat Hercules in . In that opinion we held that when the petitioner acquired the vessel or an interest in it, it paid its value and was charged with the knowledge of its sale and the incidental rights affected; that the cost to the petitioner was on the basis of a value for the whole vessel of $300,000; and that it made no profit when in 1920 it received no more than this. We did not consider how*2031 that view may affect the treatment of the old corporation in respect of the sale. It is this question limited by the determination of the respondent that the gain from the sale was derived by the old company in 1919 that we are called upon to consider in this proceeding. If the gain was not derived by the old company in 1919, the liability asserted by the respondent against this petitioner must fall.
The respondent's theory of the case is that the old company transferred its assets to the petitioner on January 10, 1919, said assets having a market value of not less than $1,000,000, receiving in exchange therefor its capital stock having an equal par and market value, included among which assets were the rights of the old company under the agreement of November 19, 1918, to receive the balance of the purchase price, together with the $50,000 already received on account, and, therefore, he contends, since the petitioner here paid the old company for its said rights with stock having a market value of $300,000, income was derived by the old company to the extent of the excess over and above the depreciated cost of the Hercules.
It would seem that a simple statement*2032 of the respondent's position in the matter would immediately disclose its fallacies.
The respondent has computed the additional tax liability, not upon the sale of the old company's contractual rights in the Hercules, but upon the profit alleged to have been derived by said old company from the sale of the boat itself, computed as follows:
| Sale price | $300,000 | |
| Cost | $197,946.74 | |
| Less: | ||
| Depreciation | 2,199.41 | |
| Depreciated cost | 195,747.33 | |
| Taxable profit shown in deficiency notice | 104,252.67 |
In other words, he has used as a basis the depreciated cost of one asset in determining the gain derived from the sale of a different asset. Upon his theory of the case a contractual right was transferred to the new company on January 10, 1919. Examining the facts, we find that right was acquired by the old company in exchange for the tugboat Hercules, which had a value at the date of *1091 the exchange of $300,000. It received therefor capital stock of the petitioner of equal value. The ultimate effect of the transfer was an even exchange of the contractual rights of the old company in the Hercules transaction for $300,000 par value of*2033 capital stock of the new company. Obviously, under this theory there can be no profit or loss upon the transaction.
The issue being whether the old company realized a profit in 1919 from the sale of the Hercules, the determination of the fallaciousness of the respondent's theory is not dispositive of the question. The contract executed by the old company and Rolph for the sale of the Hercules provided for the immediate delivery of possession of the tugboat to the purchaser and for the payment by him of $50,000 upon the execution of the agreement and the balance on or before January 15, 1920, with interest thereon. The dominion, control, burdens, and benefits of the property passed to the purchaser in 1918. Although the legal title was retained by the vendor until the balance of the purchase price was paid, we are of the opinion that under the contract the profit realized on the sale of the boat is taxable in 1918 and not 1919. , citing .
Construing the reporting by the new company of the profit from the sale of the Hercules on the installment*2034 basis as an election by the old company to report the transaction on that basis, it is clear that no profit would accrue to the old company on January 10, 1919, on the exchange of Rolph's installment obligations for the capital stock of the new company, as it was an intercompany transaction from which no gain or loss could arise. ; affd., .
In view of our decision on the first issue it is unnecessary to discuss the other issues raised by the pleadings.
Judgment will be entered for the petitioner.