*2237 Under all the facts in this case, held that the dividend declared and paid by the corporation was a cash and not a stock dividend, and was taxable as such to the stockholder.
*1305 These proceedings are for a redetermination of deficiencies in income tax for the year 1920 as follows:
| Margaret B. Payne, Docket No. 21487 | $2,550.00 |
| E. J. Payne, Docket No. 21488 | 1,421.79 |
The two cases, by proper order, were consolidated for hearing and decision. The assignments of error are fully explained in our findings of fact.
FINDINGS OF FACT.
Petitioners are husband and wife and reside in Huntington, W. Va.
At the beginning of the year 1920 E. J. Payne owned and held 250 shares (par value $100) of the capital stock of the Lake & Export Coal Corporation, of West Virginia, which constituted one-fourth of the authorized capital stock of that corporation. By resolution of the stockholders, on February 28, 1920, the capital stock was increased to 3,000 shares, par value $100 each, and authority for such increase was granted by certificate*2238 of the secretary of state, dated March 26, 1920.
*1306 On April 1, 1920, there were issued to E. J. Payne 500 shares of stock, thereby enlarging his holdings to 750 shares. On the same date he gave to his wife, and transferred to her, 350 shares of that stock. They deemed the issue of 2,000 shares of additional stock as a taxable dividend, and being deemed taxable income, in making return for that year it was reported as income and the tax thereon was paid. However, the amount of 350 shares was returned as income by Mrs. Payne and 150 shares by Mr. Payne.
After the decision by the Supreme Court in the case of , wherein it was held that a stock dividend did not constitute taxable income, the Commissioner refunded to each of the parties here involved the amount of tax paid in respect to that item, to wit, to Mrs. Payne, $2,550, and to E. J. Payne $1,421.79, on the theory that it was a stock dividend.
On September 29, 1926, after a reaudit of those returns, the Commissioner determined that the income claimed as a stock dividend in 1920 was not a stock dividend, but was in fact a cash dividend and, therefore, taxable, *2239 and that the refund heretofore mentioned was made in error, and determined a deficiency against the parties in the amount refunded to each, respectively, and mailed notices of such deficiencies. Those notices of deficiencies are the bases of the proceedings here involved.
By amended petitions offered and received at the hearing, setting out in detail the above described state of facts, it was agreed that Mrs. Payne became the owner of her 350 shares of stock as a gift from her husband in 1920, and that she owed no tax; and, further, that the respondent asked for an enlargement of the amount of deficiency asserted against E. J. Payne, and that he, the respondent, would be relieved of the burden of proof on that issue, counsel for the petitioners conceding that in the event it be held, under the proof, that the receipt of the 500 shares of stock was a cash and not a stock dividend, then and in that event, E. J. Payne owed all the tax and his deficiency may be increased to equal the amount of both combined. Therefore, the case resolves itself into the one issue - Was the receipt of the 500 shares of stock on April 1, 1920, a stock dividend, or was it a cash dividend in fact and effect?
*2240 The Lake & Export Coal Corporation was practically a close corporation, with only nine stockholders, all of whom were active in the operation of the business. In the beginning of the year 1920 the authorized capital stock was 1,000 shares, par value $100, all outstanding, of which E. J. Payne and S. J. Hyman each owned 250 shares. Payne was the president of the company, and he and Hyman were the dominating spirits of its business policies and activities, and were very efficient executives.
*1307 The business had been very profitable in past years and had accumulated a large surplus. In 1919 the company had done a business in excess of sixteen million dollars in volume. However, in the early months of 1920 the coal business throughout the country was in an unsettled condition and demanded great care and business acumen in handling it to prevent losses. It was the judgment of the directing heads of the company that, in order to give the company greater prestige, its capitalization should be enlarged.
On October 15, 1919, at a stockholders' meeting at which all stockholders participated it was stipulated, in a resolution duly considered and adopted, that, if certain*2241 of the officers would surrender rights then held by them under former action of the board of directors, 80 per cent of the gross earnings of the company (after deducting certain operating expenses) would be set aside as a compensation fund, to be paid to the officers and executives and distributed to said executives and officers as directed by the board of directors as compensation for their services. It was provided, however, that said 80 per cent compensation fund should be subject to a net fund for distribution as a dividend of 30 per cent on all outstanding stock.
As hereinbefore recited, the capital stock of the company was enlarged from $100,000 to $300,000.
On April 1, 1920, the following resolution was duly considered and adopted by the board of directors. This resolution was offered in evidence by the respondent and was objected to by the petitioner as irrelevant and immaterial, which objection was overruled and exception allowed:
SPECIAL MEETING OF THE BOARD OF DIRECTORS
April 1, 1920
A special meeting of the Board of Directors of Lake & Export Coal Corporation was held at the office of the company, Day & Night Bank Building, Huntington, W. Va., at four o'clock*2242 P.M. on April 1, 1920, pursuant to the following waiver of notice of the holding thereof:
The undersigned members of the Board of Directors of Lake & Export Coal Corporation waive notice thereof and consent and agree that a meeting of said Board of Directors may be held at the office of the company, Day & Night Bank Building, Huntington, W. Va., at four o'clock P.M. on April 1, 1920, for the purpose of transacting all business properly presented to said meeting.
GIVEN UNDER OUR HANDS this 1st day of April 1920:
S. J. HYMAN E. J. PAYNE C. A. FRENCH T. O. DEITZ H. E. MORAN*1308 The meeting was called to order by Mr. Payne, who presided, and Mr. Hyman recorded. All of the members were present.
Thereupon J. R. Marcum presented to the Board the certificate issued by the Secretary of State of West Virginia, authorizing the increase of the capital stock of this company to Three Hundred Thousand Dollars. On motion of Mr. Deitz, the certificate was accepted and approved and was directed to be recorded, as provided by law.
Thereupon Mr. Hyman, as treasurer, reported to the Board concerning the present financial status of the company. from the facts stated by*2243 Mr. Hyman, it was apparent to the Board that the company's gross earnings for the first nine months of the fiscal year have been large enough to enable the declaration and payment of the thirty percent dividend reserved by the stockholders' resolution of October 15, 1919, and in addition thereto, to pay the current operating expenses and taxes, as also reserved by said stockholders' resolution of October 15, 1919, and in addition thereto, to provide a fund of more than Two Hundred Thousand ($200,000.00) Dollars available to be distributed to the officers and executives of this company, as also provided by the said resolution. The Board then discussed the general financial condition and financial needs of the company, particularly with reference to the present expediency of making a disbursement at this time of the money so available in said compensation fund. After mature deliberation, on motion of Mr. Deitz, duly seconded and carried, the following resolution was unanimously passed and adopted:
RESOLVED that the Board of Directors does now declare, from information conveyed to the Board by the treasurer, that the company has earned to this date a sufficient fund to enable the*2244 declaration and payment of an annual cash dividend of thirty percent on the issued and outstanding stock of the company, in addition to a sufficient reserve for current expenses and for taxes, and that it has earned in addition thereto a sufficient fund to enable at this time a disbursement from the said compensation fund, as provided by the stockholders' resolution of October 15, 1919, of Two Hundred Thousand ($200,000.00) Dollars.
RESOLVED, second, that the Board of Directors authorize, empower and direct the proper officers of this company to make immediate disbursement to the persons entitled thereto, under and by virtue of the stockholders' resolution of October 15, 1919, and of the directors' resolutions of October 15, 1919, and of January 15, 1920, of the sum of Two Hundred Thousand ($200,000.00) Dollars, which said fund and the disbursement thereof shall be charged to the compensation fund so provided by the said stockholders' resolution.
RESOLVED, third, that the proper officers of this company be authorized, empowered and directed to ascertain the relative sums of money due to the several officers and executives of this company, under said directors' resolutions, by*2245 proper calculations, and to notify the persons entitled thereto that such respective sums are available to them.
RESOLVED, fourth, that the said respective sums, when ascertained as aforesaid, shall be paid in cash to the persons entitled thereto, or be left with and loaned to the company at six percent interest, or applied to the purchase of stock of the company at par, as the officers and executives may severally elect.
*1309 No further business appearing to require the attention and action of the Board, the meeting was adjourned.
S. J. HYMAN, Secretary.
E. J. PAYNE, President.
Examined, verified and approved as and for a true and accurate minute of the meeting of the Board of Directors held April 1, 1920:
S. J. HYMAN E. J. PAYNE C. A. FRENCH T. A. DEITZ H. E. MORANOn April 1, 1920, 500 shares of the new stock were issued to E. J. Payne. Also there were issued to S. J. Hyman 500 shares of said stock, and to the other stockholders proportional amounts, that is, two shares of new stock for each one share of old stock held by him.
As a bookkeeping procedure, checks were issued to each stockholder equal in amount to the par value of the stock*2246 issued to him, but those checks were not delivered to such stockholder, but were held until a convenient time, when each stockholder endorsed his check and received the stock. Those checks were what are known as "counter checks," and not the regular voucher checks. They were, however, carried through the bank, where appropriate debit and credit entries were made. The checks were dated March 12, 1920. On that date the cash balance in the bank to the credit of the corporation was $143,850.62. On March 31, 1920, the cash balance was $203,800.32. The checks were carried through the books of the corporation as shown by the books as follows:
On March 31, 1920, the cash journal shows charges to private ledger, and credits to the bank of certain checks marked "returned," S. J. Hyman, $50,000; E. J. Payne, $50,000; H. E. Moran, $36,000; B. F. Spellman, $22,500; T. A. Deitz, $20,000; L. W. Sydnor, $10,000; W. L. Walton, $6,000; A. D. Williams, $5,000; C. A. French, $4,000.
On the same page of the cash journal there is shown a charge to the bank and a credit to the private ledger of $203,500. The bank statement indicates that the checks passed through the bank in August, 1920.
*2247 There was never any resolution or other formal order made by the board of directors declaring a stock dividend, but there was a mutual understanding among the stockholders that each would take his proportional share of the new stock.
On November 15, 1920, a meeting of the board of directors was held, and the following proceedings were had:
A MEETING OF THE BOARD OF DIRECTORS OF LAKE & EXPORT COAL CORPORATION.
* * *
Thereupon the president reported to the board that, subject to the approval of the board, he had employed Mr. G. J. Weale as comptroller for the company *1310 at the salary of One Thousand Dollars ($1000.00) per month, effective November 1, 1920. On motion duly made, seconded and carried, the employment of Mr. Weale, as reported, was approved and confirmed.
The President stated that Mr. Weale had recently discussed with the authorities in Washington the matter of compensation for the officers of this company, as outlined in the minutes of meeting held October 15, 1919, and reported that the authorities stated they would not look favorably on such methods as were at that time proposed.
Mr. Weale further advised that the action of the board on October 15, 1919, appeared*2248 to conflict with the intent of the meetings held on July 16, 1919, and April 1st, 1920, and felt that under all the circumstances insofar as reference had been made to drawing accounts rather than to fixed and determinate sums representing reasonable compensation to officers and employees for services actually rendered, it was proper for the members of this board to definitely determine what compensation should be paid to each officer and employee for the fiscal year and what compensation should be established for the current year, and that it was imperative that this be done without delay as the company's income and Excess Tax return was due for filing with the collector of internal revenue and could not be finally prepared until the question of actual compensation properly deductible as an item of operation expense had been determined and recorded on the books of the corporation.
Thereupon discussion ensued, each interested officer or employee absenting himself as the question of his compensation was discussed and acted upon.
In due and proper form it was finally agreed after each discussion by motion duly made, seconded and unanimously carried, that compensation for the fiscal*2249 year ending June 30, 1920, should be as follows:
| E. J. Payne, president | $80,000 |
| S. J. Hyman, secretary-treasurer | 80,000 |
| T. A. Deitz, vice president | 20,000 |
| H. E. Moran, New York manager | 60,000 |
| B. F. Spellman, legal advisor | 30,000 |
| C. A. French, auditor | 3,600 |
| L. W. Sydnor, purchasing agent | 12,000 |
| W. L. Walton, Chicago representative | 5,000 |
| A. D. Williams, salesman | 5,000 |
The question of commissions standing to the credit of Messrs. Shenlin, Shifflette and Pugh was then discussed and it was unanimously agreed that in view of the able and attentive manner in which these gentlemen had served the company, the board felt that they were fully entitled to this additional remuneration, regardless of what transpired and ordered that the amounts credited so stand, but directed the Assistant Treasurer to record them as "Bonuses to Employees" and not as "Commissions," as follows:
| B. W. Shenlin | $15,483.71 |
| H. F. Shifflette | 5,161.24 |
| N. J. Pugh | 5,161.24 |
Mr. C. A. French at this time absented himself from the meeting and Mr. Hyman took occasion to draw to the attention of the board the fact that Mr. C. A. French had been working a great amount of*2250 overtime during the first year of the company's operations and had most cheerfully given up his spare time including all Sundays and holidays in order to establish an accounting record which would expeditiously furnish the executives with much needed information. Mr. Hyman stated that the members of this board alone could *1311 appreciate how vitally necessary it became for information of an almost momentary nature during the developments of the company's status in the coal business, and in full appreciation of the valuable services rendered to the company, he moved that a bonus of one hundred percent (100%) of his annual salary be granted to Mr. French and that the Assistant Treasurer be, and he is hereby authorized to place the sum of $3600.00 to the credit of Mr. French; that the same be charged as an operating expense chargeable to "Bonuses to Employees" account. The motion was duly seconded and there being no dissenting record it was ordered carried.
Mr. S. J. Hyman then brought up the question of compensation for the current year, and upon motion duly made, seconded and accepted unanimously, it was thereupon
RESOLVED, That the salaries of the officers and employees*2251 for the fiscal year beginning June 30, 1920, be fixed as follows:
| E. J. Payne, president | $25,000 per year. |
| S. J. Hyman, secretary-treasurer | $25,000 per year. |
| H. E. Moran, manager, New York office | $18,000 per year. |
| B. F. Spellman, N.Y. attorney | $650 per month. |
| C. A. French, auditor | $250 per month. |
| L. W. Sydnor, assistant to president | $500 per month. |
| W. L. Walton, manager, Chicago office | $600 per month. |
| A. D. Williams, salesman, Chicago office | $250 per month. |
RESOLVED that should the services rendered by any officer or employee, during the current year, be curtailed in any material degree, a revision downward shall be effected as and when the value of such service may diminish.
RESOLVED SECOND: That any additional compensation for the current year should be based upon the values of the services shown to have been rendered in the year by each and be paid in the form of bonuses or commissions.
RESOLVED THIRD: That it is the sense of the entire membership of this board that the question of bonuses not only to the officers but to all employees of this corporation should receive early consideration and that the president be, and he is hereby authorized*2252 to form such committee or committees as he may deem necessary or proper to determine upon what basis bonuses shall be paid for the current and subsequent years.
No further business appearing, the board of directors meeting was adjourned.
S. J. HYMAN Secretary. E. J. PAYNE President.Examined, verified and approved.
E. J. PAYNE S. J. HYMAN C. A. FRENCHOPINION.
LOVE: The only question at issue in this case is whether the acquisition of the 500 shares of stock by E. J. Payne on April 1, 1920, was a stock dividend, and hence not taxable, or was the result of a purchase by him of that stock with the proceeds of a cash dividend, declared and paid by the corporation.
It is the contention of petitioner that, notwithstanding the purport of the resolutions adopted by the stockholders and by the board of *1312 directors of the corporation, it was mutually understood and agreed by and among the stockholders that it was a stock dividend of 200 per cent and that each and all of the stockholders did take the full amount to which he was entitled.
There seems to be no room for doubt that the whole procedure, as finally consummated, brought about in the end the*2253 same ultimate result as though a formal stock dividend had been declared. Each of the stockholders took two shares of the new stock for each old share held by him, and when all had so taken stock, the entire issue was absorbed and each stockholder owned and held exactly the same proportional interest in the corporation which he held prior to that stock issue. Petitioner held before and after that stock issue a one-fourth interest.
However, from a legal point of view the resolutions of the stockholders are what determined the legal rights of the parties, as well as the legal result of the operations. That a cash dividend of $200,000 was authorized by the resolutions dated April 1, 1920, is patent on the face of the instrument. In carrying out the provisions and instructions contained in those resolutions, checks were issued to each stockholder. While it may be true that a mutual understanding and agreement existed among the stockholders that each would take additional stock to the amount of his check, he was not legally bound to do so and could have demanded the cash. The procedure carried out was to all intents and purposes a purchase of stock, and payment therefor was by*2254 an endorsed check. It was as much a purchase of that stock as though he had cashed his check and paid the money for the stock.
Such was not the situation in the case of . In that case the board of directors, by resolution, authorized a stock dividend. No checks were issued and no payment in cash, or its equivalent, was made. No stockholder could have demanded anything other than his proportionate amount of stock. The Supreme Court in that case said:
An actual cash dividend, with a real option to the stockholder either to keep the money for his own or to reinvest it in new shares, would be as far removed as possible from a true stock dividend.
See also ; ; .
The case of Eisner v. Macomber was decided by the Supreme Court on March 8, 1920, prior to the issuance of the stock in question, and a year prior to the making of the return for 1920. Petitioner is presumed to have known of that decision and there is no evidence in the record to indicate that he did not have actual knowledge*2255 of it at that time, and yet he and his wife reported the transaction here involved *1313 as taxable income. The idea that it was not taxable evidently was an afterthought.
In view of all the evidence in the case, and in view of the stipulations at the hearing, we decide that the dividend in question was a cash dividend and taxable as such, and, further, that there is no deficiency as against Margaret B. Payne, Docket No. 21487, and that on motion of respondent, the deficiency against E. J. Payne is enlarged as requested by counsel for respondent.
It may be well to note here that the issue as to whether the $50,000 paid to E. J. Payne on April 1, 1920, was compensation for services, and taxable as such, was not raised by the pleadings. The deficiency notice stamps it as a cash dividend and not a stock dividend, and the sole issue urged was whether it was a stock dividend or a cash dividend.
Judgment will be entered under Rule 50.