*2242 1. INCOME - DIVIDENDS - DISTRIBUTION IN LIQUIDATION. - Amounts received by petitioners in 1921 and 1922 from a corporation of which they were stockholders, and representing distributions of earnings accumulated by the corporation subsequent to February 28, 1913, held to be income to them exempt from normal tax and subject to surtax under the Revenue Act of 1921, whether normal dividends or distributions in liquidation.
2. Id. - Upon the proof, held that similar distributions made by the corporation to these petitioners in 1919 and 1920 were not made in liquidation of the corporation within the meaning of section 201(c) of the Revenue Act of 1918 and were under the provisions of that act income to petitioners, exempt from normal tax and subject to surtax.
*1187 These proceedings, consolidated for hearing and decision, are appeals from deficiencies in income taxes determined by respondent in respect to the several petitioners for years and in amounts as follows:
| Docket No. | Years | Amounts |
| 6020 | 1919, 1920, 1921, 1922 | $34,459.70 |
| 8120 | 1919, 1920, 1921, 1922 | 2,972.32 |
| 18117 | 1919, 1920, 1921, 1922 | 7,727.24 |
| 18130 | 1919, 1920, 1921, 1922 | 2,534.24 |
| 18134 | 1919, 1920, 1921, 1922 | 2,040.10 |
| 18171 | 1919, 1922 | 5,664.45 |
| 19661 | 1920, 1921 | 8,201.72 |
| 18172 | 1920, 1921, 1922 | 15.50 |
| 18173 | 1919, 1920, 1921, 1922 | 100,073.10 |
| 18174 | 1920, 1921, 1922 | 135.89 |
| 18175 | 1920, 1921, 1922 | $68.14 |
| 18176 | 1919, 1920, 1921, 1922 | 10,884.31 |
| 18177 | 1919, 1920, 1921, 1922 | 83,010.67 |
| 18178 | 1919, 1920, 1921, 1922 | 935.24 |
| 18179 | 1919, 1920, 1921, 1922 | 993.25 |
| 18180 | 1920, 1921, 1922 | 29,817.79 |
| 27021 | 1919 | 9,456.49 |
| 18182 | 1919, 1920, 1921, 1922 | 7,716.31 |
| 18227 | 1919, 1920, 1921, 1922 | 7,137.96 |
*2243 *1188 These deficiencies all arise from similar action taken by respondent in respect to each petitioner by including in taxable income for these years, for purposes of surtax, the several amounts received by each in those years as dividends from a corporation of which they were stockholders. This action is the only error assigned in each proceeding, the petitioners contending that all of these payments constituted liquidating dividends and should be treated under the Revenue Acts of 1918 and 1921, as made in exchange for stock, and the total being in each case less than the March 1, 1913, value or cost of the respective stockholdings, no portion represented taxable income.
FINDINGS OF FACT.
The petitioners were, during the taxable years involved in the several proceedings, stockholders in the Finkbine Lumber Co., an Iowa corporation owning large tracts of timberlands in Mississippi and having lumber mills and offices at Wiggins and D'Lo, Miss. This corporation was organized in 1901 by E. C. Finkbine, W. O. Finkbine, W. E. Guild, and K. E. Jewett, who were close business and personal friends and who had, for many years, been associated together in the timber business*2244 in the west, as owners of the Green Bay Lumber Co. Early in 1901 these parties obtained an option upon a tract of timberland of between 50,000 and 60,000 acres at Wiggins, Miss., on the east side of the Gulf & Ship Island Railroad, containing between 200,000,000 and 300,000,000 feet of timber, and an option upon a much larger tract on the same railroad about 100 miles distant at D'Lo, Miss., containing approximately 573,000,000 feet of timber. Thereupon, they organized the said Finkbine Lumber Co., hereinafter referred to as "the corporation," with an authorized and issued capital stock of $400,000 par value, associating with themselves as stockholders certain individuals who had been connected with the Green Bay Lumber Co. as stockholders and certain other parties who were old employees of that company and whose services they wished to retain for the rew company. Upon organization the corporation acquired these two tracts under the options. The tract at Wiggins had on it a small mill. The D'Lo tract was undeveloped.
The tract acquired at D'lo the corporation had purchased as a speculation, its plans not contemplating the cutting of the timber, but the resale of the tract at*2245 a profit which would be used in furthering its operations at Wiggins. With this idea in view it placed this tract in the hands of brokers for sale.
In 1904 the corporation acquired another large tract of land at Wiggins on the west side of the Gulf & Ship Island Railroad, known as the "Moore Tract" and containing approximately 200,000,000 feet of timber.
*1189 Between 1902 and 1913 the corporation in its operations completely exhausted the timber on the tract first acquired at Wiggins. In these operations the corporation had met numerous reverses which had been quite expensive. In logging this tract it had been necessary to build and equip a railroad 28 miles long. In order to obtain a return of at least some of this expense and with the view of obtaining permanent railroad facilities for this section and make it possible to dispose of the cut-over land for farming purposes, it negotiated contracts with one Jones, then owner and president of the Gulf & Ship Island Railroad, under which the latter agreed to purchase the railroad built by the corporation for $250,000, payable in installments, and to take possession of and operate this road as a part of the Gulf & Ship*2246 Island Railroad at the conclusion of the use of it by the corporation. In order to effect this arrangement with Jones, the corporation constructed this road in a manner more permanent and at more expense than it otherwise would have done, with grades, bridges, and steel of specifications usual in a permanent branch line railroad but not called for where operation would only be temporary for purposes of logging operations. The cost of this railroad to the corporation was between $365,000 and $375,000. In this arrangement with Jones it was further contemplated that this railroad would be extended by the Gulf & Ship Island Railroad to connect with the Mobile, Jackson & Kansas City Railroad, and this extension would be made through a large body of hardwood timber of some one billion feet lying just beyond the corporation's then present holdings, and plans were entertained by the corporation of acquiring and logging this tract if that were done.
On June 24, 1914, Jones notified the corporation that he would not take over its railroad as agreed, but it might retain the road and the payments already made by him and which then amounted to $150,000. The corporation brought suit for specific*2247 performance and for damages and was unsuccessful in this litigation and finally was forced to salvage the road, obtaining about $60,000 from this salvage.
The refusal of Jones to carry out his contracts resulted in a great deal of damage to the corporation aside from the item of agreed consideration not received. This was due to its having, in anticipation of a permanent, operating railroad, organized a corporation known as the Mississippi Farms Co., all the stock of which was owned by the corporation and through which it was engaged in developing its cut-over lands into farming land and disposing of them. In doing this it advanced considerable sums to this company which established and operated a large experimental farm, and *1190 offices in several cities for colonizing the lands. These lands, about 60,000 acres, were transferred to the Mississippi Farms Co. The corporation had also organized the American Pickle & Canning Co., which constructed a modern plant at Wiggins to provide a market for the farm products of the tract. The success of these two subsidiary companies and of the whole development of the cut-over lands depended upon the obtaining of railroad transportation, *2248 and, as a result of the breach of his contracts by Jones, these two companies were liquidated with a large loss and the corporation was confronted with, and finally had to compromise, a number of suits brought by individuals who had purchased farms in the tract on assurance of an operating railroad and then had been forced to abandon them on failure of the railroad project to materialize.
The corporation had also during this period suffered loss from other causes, a tropical hurricane in 1906 having blown down approximately 100,000,000 feet of timber, causing it a loss estimated to be about $500,000, and many vexing and expensive actions had been brought against it by the State of Mississippi. Certain of its lands consisted of "school sections," the title to which was in the State and held under 99-year leases by the parties conveying to the corporation. Such leases had been sold and traded in for many years and were understood to entitle the leaseholder to cut the timber. However, the State now took the position that these leases only permitted the removal of the timber to clear the land, and not for sale, and this position was upheld by its Supreme Court and the corporation*2249 was thereby required to again purchase and pay the State for the timber. The State also prosecuted the corporation and various of its employees for alleged violations of its so-called "blue laws," among these prosecutions being ones for working on Sunday in keeping fires under the boilers of its engines and in clearing away railroad wrecks. It also brought a proceeding against the corporation seeking to forfeit its property under an old statute which forbade the owning of more than $1,000,000 of property in the State by a foreign corporation. This action was successfully defended by the corporation.
The corporation made numerous efforts prior to 1915 to dispose of the D'Lo tract. At one time it effected an arrangement with the Goodyear Lumber Co. for sale to it of the property, and that company deposited $25,000 as a guarantee, but just as the matter was being closed the failure of a bank which was the financial backer of the Goodyear Co. made it impossible for the latter to complete the deal, and it forfeited the deposit. Subsequently, the corporation negotiated a deal for sale of this tract to another large company and *1191 within a few days of its being finally closed*2250 the proceeding by the State to forfeit the property of the corporation was filed and the prospective purchaser in consequence refused to take the property.
During these years of operation the market for the greater part of the corporation's product was Germany and Belgium. In 1914, following the assassination at Sarajevo of the Archduke of Austria, the buying by these markets suddenly ceased. Then in August of that year the European War opened and the corporation's foreign markets were entirely cut off. Large amounts of timber, cut in special size for this market, had accumulated, for which the corporation was forced to construct storage facilities, and a domestic market for this was finally secured at a sacrifice of a portion of its normal value.
By 1915 the officers of the corporation were discouraged and sceptical as to what the future might hold. Certain of the smaller stockholders who had been employees of the old Green Bay Co. and who had borrowed the money with which they had purchased their stock in the corporation, and were paying interest on these loans, were alarmed and were finding it difficult to carry their investments, as the corporation in 1914 had made no*2251 profit but had sustained a net loss of $14,510.16. Certain of these small stockholders who were employees of the company were further embarrassed financially in having to accept 20 per cent reductions in salary from the corporation, a general reduction in this percentage having been voluntarily agreed upon by all officers and employees of the corporation because of the condition of the market and the great decrease in company business.
This was the situation confronting the corporation when it held its annual stockholders' meeting in January, 1915. At this meeting a report was read and filed by the general manager of the corporation, detailing the difficulties which the corporation was meeting, its trouble in marketing its lumber and in securing the necessary funds for operation and development. He urged that steps be taken to find a purchaser without delay for the D'Lo tract so as to realize the capital there tied up and use this in the operation of the plant and development of the property at Wiggins. At this time the original Wiggins tract on the east side of the Gulf & Ship Island Railroad had been completely cut over and logging operations had been begun on the Moore tract*2252 on the west side of that railroad. The timber on this tract, it was estimated, would take from 10 to 12 years to cut. At this time there had been no development at all of the D'Lo tract. As of March 1, 1913, the timber on the Moore tract was 197,871,600 feet and on the D'Lo tract 565,759,700 feet.
*1192 After hearing the report of the general manager there was a general discussion among the stockholders, all of them being present either in person or by proxy, at this and all other times during the life of the corporation, the stockholders being few in number and consisting of the original stockholders, or members of their families who had received original stockholdings by gift, inheritance, or purchase. After a discussion lasting the better part of two days, a resolution was presented, agreed upon, and passed by the stockholders, that the corporation from that time forward should not acquire additional timber holdings but should occupy itself with the logging, manufacture, and disposal of the timber then owned by it, and to liquidate and close up the affairs of the corporation as soon as it could be done economically, and charging the directors elected at this meeting*2253 with the carrying out of this program. This resolution was not entered upon the minutes of the meeting. In authorizing and directing this program to be carried out it was understood that the D'Lo tract, which up to that time had been held for resale, would be developed and the timber logged and manufactured and that to do this would require large additional financing and the construction of a large plant at D'Lo. Immediately following this meeting of the stockholders the directors held a meeting to perfect plans to carry out the program directed and it was agreed that the individual property and credit of E. C. Finkbine, K. E. Jewett, W. E. Guild and the Green Bay Lumber Co. should be pledged as security for loans necessary to be obtained to finance the new operation agreed upon. This was done, and with this guarantee a line of credit of $400,000 was obtained from the Continental and Commercial Bank of Chicago and additional amounts borrowed by the corporation from other banks upon its notes endorsed by these individuals.
Steps were thereupon taken to develop the D'Lo tract and certain of the officers traveled over the country inspecting the large mills and their construction, *2254 equipment and methods of operation and with the aid of the information thus gathered a plant was erected at D'Lo, consisting of a large concrete and steel mill equipped with the most modern type of machinery, an ice plant, electric plant, sheds, homes for the workmen and their families, etc. The amount expended on construction of this plant during the year 1916 was in excess of $1,000,000.
During 1916 the lumber market strengthened and the corporation's financial condition began to improve. Early in 1917 this Government entered the World War and the demand became very great for lumber. The Government was building camps and cantonments *1193 and the corporation had no trouble in disposing of its product and its earnings increased in consequence and it carried forward continuously its operations at both the Wiggins and D'Lo plants. The net earnings of the corporation for each year from March 1, 1913, through the taxable years here involved were as follows:
| 1913 (income after Mar. 1, 1913) | $108,268.74 |
| 1914 (net loss) | - 14,510.16 |
| 1915 | 43,008.38 |
| 1916 | 156,701.36 |
| 1917 | 197,296.76 |
| 1918 | 347,612.78 |
| 1919 | 605,952.68 |
| 1920 | 804,474.69 |
| 1921 | 205,405.24 |
| 1922 | 570,120.77 |
| Total net income | 3,024,331.24 |
*2255 The corporation's earnings during 1915, 1916, and 1917 were used to pay off its indebtedness, and not until 1918 did it find itself with cash available for distribution to its stockholders. On July 19, 1918, the directors passed the following resolution:
Thereupon, a motion was made by H. F. Graefe, seconded by W. O. Finkbine, and unanimously carried, instructing W. E. Guild, as Treasurer, to declare and pay monthly cash dividends in liquidation at such times and amounts as the cash proceeds will permit, and directing him, when such distributions are made, to charge same against the surplus account on a basis of valuing timber at Six Dollars ($6.00) per M.B.M., and One Dollar for naval stores, and March 1, 1913, as the basic date; also directing him when such distribution was made to notify the stockholders that the dividend is paid in accordance with their instructions to liquidate the assets of the corporation, and that upon advice of counsel the distribution is free from tax until further advised.
Beginning in 1918 the corporation made the following distributions to its stockholders:
| 1918 | $80,000 |
| 1919 | 480,000 |
| 1920 | 480,000 |
| 1921 | 460,000 |
| 1922 | 480,000 |
| Total | 1,980,000 |
*2256 The net earnings of the corporation from March 1, 1913, through the calendar years here in question were in excess of the distributions made to its stockholders during that period. The total of the distributions made to each of these petitioners during the calendar years 1918 to 1922, inclusive, were less than the total of the March 1, 1913, value of his or her respective stockholdings acquired prior to that date and the cost of such stockholdings as were acquired subsequent thereto.
The following is a summary of the corporation's surplus accumulations and distributions made therefrom from March 1, 1913, to December 31, 1922.
*1194
| Surplus on Mar. 1, 1913 | $718,312.41 | ||
| Undivided profits earned subsequent to | |||
| Mar. 1, 1913, over and above the | |||
| current realizations of values as of | |||
| 3/1/13: | |||
| Additional profits earned in 1913 | $107,629.64 | ||
| Less charge termed "premium on stock | |||
| purchased" | 18,119.37 | ||
| Remainder Dec. 31, 1913 | 89,510.27 | ||
| Deduct deficit of 1914 | $15,791.82 | ||
| Deduct dividend of 1914 | 24,000.00 | ||
| 39,791.82 | |||
| Remainder Dec. 31, 1914 | 49,718.45 | ||
| Additional profits earned in 1915 | 42,585.06 | ||
| Additional profits earned in 1916 | 155,485.71 | ||
| Additional profits earned in 1917 | 193,369.61 | ||
| Total Dec. 31, 1917 | 441,158.83 | ||
| Additional profits earned in 1918 | 316,959.13 | ||
| Subtotal | 758,117.96 | ||
| Deduct dividend of 1918 | 80,000.00 | ||
| Remainder Dec. 31, 1918 | 678,117.96 | ||
| Additional profits earned in 1919 | 467,496.98 | ||
| Subtotal | 1,145,614.94 | ||
| Deduct dividends of 1919 | 480,000.00 | ||
| Remainder Dec. 31, 1919 | 665,614.94 | ||
| Addittonal profits earned in 1920 | 654,243.01 | ||
| Subtotal | 1,319,857.95 | ||
| Deduct dividends of 1920 | 480,000.00 | ||
| Remainder Dec. 31, 1920 | 839,857.95 | ||
| Deduct deficit of 1921 | $39,048.47 | ||
| Deduct dividends of 1921 | 460,000.00 | ||
| 499,048.47 | |||
| Remainder Dec. 31, 1921 | 340,809.48 | ||
| Additional profits of 1922 | 513,143.48 | ||
| Subtotal | 853,952.96 | ||
| Deduct dividends of 1922 | 480,000.00 | ||
| Remainder Dec. 31, 1922 | 373,952.96 | ||
| 373,952.96 | |||
| Credit to surplus in 1918 termed | |||
| "premium on capital stock" | 22,575.00 | ||
| Total surplus and undivided profits as | |||
| of Dec. 28, 1922 | 1,114,840.37 |
*2257 The following are condensed balance sheets of the corporation as of December 31, 1914, a date just prior to the stockholders' meeting of January, 1915, and December 31, 1922, the close of the last taxable year involved in these proceedings:
*1195
| Dec. 31, 1914 | Dec. 31, 1922 | |
| Assets | ||
| Current assets | $392,353.19 | $1,263,164.47 |
| Mill plant and miscellaneous assets (at cost) | 1,056,645.89 | 2,212,804.4 |
| Land and timber (at cost) | 1,761,970.94 | 3,058,071.82 |
| Land and timber (appreciation, Mar. 1, 1913) | 3,278,431.18 | 1,705,168.79 |
| Total | 6,489,401.20 | 8,239,209.48 |
| Liabilities, reserves, and capital | ||
| Current liabilities | 1,190,042.23 | 818,803.20 |
| Reserve for depreciation of plant and equipment | 309,303.51 | 1,083,311.99 |
| Reserve for depletion on cost of land and timber | 442,091.73 | 1,437,321.05 |
| Reserve for depletion on appreciation of land and | ||
| timber | 106,501.69 | 1,679,764.08 |
| Surplus from operations | 768,030.86 | 1,114,840.37 |
| Surplus from appreciation | 3,278,431.18 | 1,705,168.79 |
| Capital stock | 395,000.00 | 400,000.00 |
| Total | 6,489,401.20 | 8,239,209.48 |
The corporation carried on its active operations from 1915 through the taxable years here*2258 involved and subsequent to that period and completed the development, logging, manufacture, and sale of timber upon the Wiggins and D'Lo tracts. During the years 1915 to 1922, inclusive, it made the following additions to the plants at D'Lo and Wiggins:
| Year | Additions to D'Lo | Additions to |
| plant | Wiggins plant | |
| 1915 | $20,755.16 | |
| 1916 | 1 $1,012,413,69 | 9,246.76 |
| 1917 | 129,825.22 | 13,843.29 |
| 1918 | 54,051.53 | 12,245.17 |
| 1919 | $18,660.04 | $22,943.82 |
| 1920 | 71,339.17 | 19,525.82 |
| 1921 | 18,091.32 | 5,210.15 |
| 1922 | 80,487.04 | 9,835.21 |
In January, 1923, one unit of the Wiggins plant was destroyed by fire. Insurance of $140,000 was collected and the unit was rebuilt at a cost of $200,000. At that time there was much timber yet to be cut on the Moore tract at Wiggins and it was more economical to rebuild the plant at this cost than to ship the logs by rail to the D'Lo plant for manufacture.
Subsequent to March 1, 1913, the following acquisitions of timberlands were made by the corporation:
| Additions to Moore tract | Additions to D'Lo tract | |||
| Year | Feet | Cost | Feet | Cost |
| 1913 (10 months) | 107,662 | $309.32 | 470,000 | $520.00 |
| 1914 | 812,114 | 3,321.35 | 410,000 | 875.00 |
| 1915 | 727,602 | 2,611.92 | 6,725,000 | 26,542.50 |
| 1916 | 1,130,351 | 4,628.49 | 7,405,671 | 23,416.12 |
| 1917 | 3,292,306 | 16,303.51 | 49,863,149 | 193,173.06 |
| 1918 | 38,605,000 | 278,675.00 | 1,572,000 | 2,703.00 |
| 1919 | 480,000 | 2,580.00 | 2,319,298 | 7,180.87 |
| 1920 | 8,945,000 | 303,765.64 | 990,000 | 5,502.62 |
| 1921 | 685.000 | 2,067.40 | ||
| 1922 | 54,525,000 | 469,187.00 | 1,567,000 | 4,285.00 |
*2259 *1196 All of the lands above shown, acquired subsequent to the stockholders' meeting of January, 1915, were lands necessary to be acquired to economically log the areas already owned by the corporation on that date. In some cases the tracts acquired cut into the holdings of the corporation, making it more expensive to work around them than to acquire them. In other cases the lands blocked the corporation from reaching portions of its owned tract. In other cases the lands acquired, although not blocking the operations of the corporation by their location, were owned by the same interests which owned lands which did block those operations, and these interests required the corporation to take these lands as a condition of its agreement to sell the other lands, which the corporation was forced by necessity to acquire.
In 1918 the corporation acquired a tract of 45,663 acres of cut-over pine lands. This tract was the original Wiggins tract on the east side of the Gulf & Ship Island Railroad which the corporation had conveyed to the Mississippi Farms Co., and which was reconveyed to the corporation after the collapse of that company, the stated consideration being $143,953.25, *2260 which represented the indebtedness of the defunct company to the corporation.
On September 25, 1921, the charter of the corporation expired by limitation and the stockholders took the necessary action and secured a renewal of it for an additional period of 20 years.
The minutes of the corporation show the following action taken by the directors on January 19, 1925:
DIRECTORS' MEETING, FINKBINE LUMBER CO.,
Des Moines, Iowa, January 19, 1925.
Meeting called to order by the President, the following directors being present:
E. C. Finkbine W. O. Finkbine W. E. Guild C. E. KlumbJacob Klumb
H. M. Finkbine R. G. Berry* * *
On motion of W. O. Finkbine, seconded by R. G. Berry, the following Resolution was unanimously adopted:
WHEREAS, "Jacob Klumb and Associates" are equipped for drilling and have for several months last past been drilling a tract of land acquired by it, north of D'Lo, Simpson County, Mississippi, for the purpose of determining whether or not there is oil in that locality, and are now down more than thirty-five hundred feet and have expended for machinery, supplies, labor. etc., approximately eighty thousand dollars and have now practically*2261 exhausted all of their funds, and
WHEREAS it may be of great benefit to the Finkbine Lumber Company, as the owner of a large tract of land in that locality, that said drilling be continued, to the end that the territory may be more fully exploited for the purpose of determining whether there is oil in that locality, and said exploitation can be more cheaply accomplished by the said Jacob Klumb and Associates, with their machinery, equipment and employees now assembled,
*1197 NOW, THEREFORE, BE IT RESOLVED that the Treasurer of the Finkbine Lumber Company be and he is hereby authorized, empowered and directed to advance to the said Jacob Klumb and Associates, as it may be needed, a sum not to exceed forty thousand (40,000) dollars, in installments as needed, to continue the drilling upon the lands held by said Jacob Klumb and Associates.
In event oil in paying quantities is discovered by Jacob Klumb and Associates, the said money shall be repaid by said Jacob Klumb and Associates to the Finkbine Lumber Company, with interest at six per cent annum from date of advancement, out of the first proceeds received by Jacob Klumb and Associates, from oil found.
In event no oil*2262 is found by said Jacob Klumb and Associates, or not in sufficient paying quantities, said Jacob Klumb and Associates shall not be bound to return any of the said money so advanced by the Finkbine Lumber Company, but the same shall be charged by the Finkbine Lumber Company to "expense account" as money paid out for exploitation and discovery as if upon its own lands.
PROVIDED HOWEVER, that the Finkbine Lumber Company shall not be or be made liable or in any manner obligated for any of the obligations or undertakings of said Jacob Klumb and Associates.
There being no further business to be transacted, a motion to adjourn was sustained.
/S/ E. C. FINKBINE,
President.
ATTESTED:
/S/ C. E. KLUMB,
Assistant Secretary.
About the year 1925 some of the parties most largely interested in the corporation organized a Delaware corporation, the Finkbine-Guild Lumber Co., with a capital of $2,000,000. About the same time the corporation had caused to be organized a corporation known as the Finkbine-Guild Transportation Co., all of whose stock it owned. The first-named company arranged with the corporation to acquire and take over its D'lo plant for a stated consideration. *2263 The Finkbine-Guild Transportation Co. acquired five steamships from the United States Shipping Board, the deferred payments on the purchase price of which amounted to $500,000, payable in ten annual installments of $50,000 each, the last one falling due in 1935. The corporation endorsed and guaranteed the payments for the Finkbine-Guild Transportation Co. It was also agreed that the Finkbine-Guild Lumber Co. should acquire the D'Lo plant of the corporation for a stated consideration which was arranged to be liquidated by that company shipping logs from a tract it owned and was operating in California, on vessels of the Finkbine-Guild Transportation Co. through the Panama Canal, for delivery to the corporation at D'Lo and for the corporation to manufacture these logs into lumber and market same, the cost of such manufacture to be charged against the proceeds and the Finkbine-Guild Lumber Co. to assume all risk of shrinkage or loss in operation of the plant and to pay 5 per cent interest on any deferred payments of the purchase price of same. *1198 Under this arrangement logs were shipped to and manufactured by the corporation subsequent to 1925. At the same time the corporation*2264 was also engaged in completing the logging of its pine timber on the D'Lo tract. On September 14, 1926, the directors of the corporation adopted a resolution approving a guarantee by the corporation of a line of credit of $500,000 to the Finkbine-Guild Lumber Co. by a Chicago bank.
Following the date of the annual stockholders' meeting in 1915, the corporation carried on active operations continuously to a date several years subsequent to the last taxable year here involved. During all of this period it continued to hold its regular annual stockholders' meetings and elect its directors. In each of these years corporate officers were regularly elected and, together with the directors, managed and directed the operations of the company, which were during this time the active logging of its timber holdings, the manufacture of lumber in its mills and the marketing of this lumber through its sales organization.
On January 17, 1928, the stockholders met and passed the following resolution:
WHEREAS, At the annual meeting held January 18, 1915, it was the unanimous opinion and consent of the stockholders assembled, the requisite number being present in person or by proxy to lawfully*2265 transact any business in accordance with the laws of Iowa and our Articles of Incorporation, that the assets of the Finkbine Lumber Company be placed in liquid form, liabilities quieted, and the excess be distributed to the stockholders under such plan as may be determined upon by the Directors, and to terminate the corporate existence; and
WHEREAS, The same stockholders, directors and officers are present here today, excepting Messrs. K. E. Jewett and H. F. Graefe, who have departed this life, now, therefore
BE IT RESOLVED, That a record now be made ratifying, confirming and acknowledging the action taken by the stockholders in meeting assembled January 18th, 1915, at Des Moines, which meeting unanimously agreed to liquidate the company assets, satisfy all liabilities existing or incurred in liquidating, to distribute the excess to the stockholders, and dissolve the corporate existence; and
BE IT FURTHER RESOLVED, That in accordance with the foregoing resolution and the action of the stockholders in meeting assembled January 18, 1915, the time is now arrived when it is deemed prudent to terminate the corporate existence and the directors are authorized and empowered to prepare*2266 the necessary instruments, or to procure counsel or obtain other means, whereby the corporate life of this corporation may be dissolved and extinguished in accordance with the statutes of Iowa and its Articles of Incorporation; and
RESOLVED FURTHER, That the dissolution herein be made as of this date and the President and Assistant Secretary of this company be and they are hereby authorized, empowered and directed to sign, acknowledge, record, publish, and do any and all things which are by law required, to execute, complete and carry into effect the above and foregoing resolutions. (R. 369-70.)
*1199 The amounts in question distributed to the several petitioners in each year, the amount of stock of the corporation held by each in the several years, the March 1, 1913, value of such of this stock as was acquired prior to that time and the cost of such of the stock as was acquired subsequent thereto, are not in dispute, the parties hereto having filed a formal stipulation in each case setting out these facts.
OPINION.
TRUSSELL: The only issue here presented is the character of certain distributions made to these petitioners during the taxable years in question, as stockholders*2267 of the Finkbine Lumber Co., petitioners contending that such distributions were made by the corporation in the course of liquidation, and under the Revenue Acts of 1918 and 1921 must be considered as a return of capital, and the total in each case being less than the March 1, 1913, value or the cost of the stock, no portion represented taxable gain. Respondent contends that the Finkbine Lumber Co. was not in liquidation during these years, or the payments were not made in liquidating that corporation, and that they represented normal corporate dividends and were income to petitioners subject to surtax.
In so far as the distributions here in question made in the calendar years 1921 and 1922 are concerned, little discussion is necessary, as the liability of such distributions to surtax is covered by the provisions of the Revenue Act of 1921, which includes "dividends" in income subject to such tax, and provides:
SEC. 201. (a) That the term "dividend" when used in this title (except in paragraph (10) of subdivision (a) of section 234 and paragraph (4) of subdivision (a) of section 245) means any distribution made by a corporation to its shareholders or members, whether in cash or*2268 in other property, out of its earnings or profits accumulated since February 28, 1913, except a distribution made by a personal service corporation out of earnings or profits accumulated since December 31, 1917, and prior to January 1, 1922.
(b) For the purposes of this Act every distribution is made out of earnings or profits, and from the most recently accumulated earnings or profits, to the extent of such earnings or profits accumulated since February 28, 1913; but any earnings or profits accumulated or increase in value of property accrued prior to March 1, 1913, may be distributed exempt from the tax, after the earnings and profits accumulated since February 28, 1913, have been distributed. * * *
In Frank D. Darrow,8 B.T.A. 276">8 B.T.A. 276, we held that dividends as defined in section 201 above quoted, include distributions in liquidation to the extent of earnings or profits accumulated since February 28, 1913, such earnings when distributed in liquidation being subject to the surtax and exempt from normal tax. See also *2269 Philetus W. Gates,9 B.T.A. 1133">9 B.T.A. 1133, and Eric A. Pearson et al.,16 B.T.A. 1405">16 B.T.A. 1405.
*1200 In the present case it is shown that the distributions made from March 1, 1913, through the taxable years here involved were in each case less than the earnings on hand accumulated since that date, and on authority of the decisions cited, those made in 1921 and 1922 represent income to the distributees subject to surtax even if the petitioners are correct in their contention that they were made in liquidation of the corporation.
As to the distributions made to these petitioners in 1919 and 1920, a different situation exists. The taxability of these distributions is to be determined under the Revenue Act of 1918, the provisions of which, in respect to taxable income represented by corporate distributions differ from those of the later act above quoted by including in section 201(c) the provision that:
Amounts distributed in the liquidation of a corporation shall be treated as payments in exchange for stock or shares, and any gain or profit realized thereby shall be taxed to the distributee as other gains or profits.
It follows that the distributions*2270 in question made to these petitioners in 1919 and 1920, if in fact made in effecting the liquidation of the corporation, in the sense in which that term is used in the section quoted, they must be considered as a return of capital to the extent of the undistributed March 1, 1913, value of the stock, or cost thereof if acquired subsequent to that date. There is no dispute as to the March 1, 1913, value of the stock or the cost of those shares subsequently acquired and, it being shown that the total distributions in the case of each petitioner are less than these cost bases, and no part of the several amounts distributed represents taxable income, if the petitioners are correct in their contention as to the character of the distributions.
Petitioners contend that the corporation was in process of liquidation at all times and continuously from January, 1915; that the stockholders by proper resolution at that time voted for liquidation and dissolution and authorized the directors then elected to carry out this direction, and that following this all of the activities of the corporation had as their primary object the turning of the corporate assets into money, the payments of corporate*2271 debts and the distribution of any remaining balance among the stockholders and the dissolution of the corporation. In support of their contention petitioners point out that following this resolution by the stockholders the corporation acquired no more timber properties except such as were necessary to economically develop and carry on the logging, manufacture and disposal of the timber owned by it on that date. They insist that under existing conditions liquidation of the assets of the corporation to the best advantage could only be accomplished by operation, as there was a market for the manufactured product, but a sale could have been *1201 effected of the timber holdings, if at all, only at a sacrifice of a large part of their real value. They insist that no act is shown on the part of the corporation which is inconsistent with a program of liquidation in process of being carried out.
It is respondent's contention that whether or not the stockholders of the corporation resolved on liquidation and intended that the corporation be liquidated, the fact as to whether or not it actually went into liquidation immediately following that resolution and occupied such status*2272 during the taxable years in question here, and whether the distributions in question were actually made in effecting such liquidation, is to be determined from its activities subsequent to the adopting of the resolution, considered in the light of conditions existing during the period of such activities, and considering the circumstances under which the distributions in question were made and what they, in fact, represented. In support of his contention that the corporation was not in liquidation during the period in which these distributions were made, respondent points out that following the adoption of this resolution, and as a result of it, the activities of the corporation in the purposes for which organized, instead of showing a decrease indicating a winding up or cessation of business, were enormously increased; timber which the corporation had up to that time not intended to manufacture but to sell en bloc was added to its logging area, more than one million dollars was borrowed and expended for increased facilities for operation and a program was definitely entered upon which meant necessarily more than ten years of future operation of larger volume and more intensive*2273 character than the corporation had ever before been engaged in during the time when it was admittedly a going concern not engaged in winding up its business. Respondent insists that the corporation was not from that time forward, and during the years here in question, engaged in liquidating the business, as the contrary must be presumed from the fact that it was operating actively and prosperously in doing all those things for which it was created and was doing nothing which indicated liquidation, but on the other hand many of its activities were inconsistent with those of a corporation in process of being wound up and dissolved, among these being its organization in 1925 of a subsidiary corporation engaged in transportation and endorsing the latter's obligations falling due in the future as late as 1935, the renewal of its charter by the stockholders upon its expiration in 1921, its guarantee of a line of credit of $500,000 extended by a Chicago bank to another corporation organized by certain of its stockholders, and its advance of $40,000 to one of its directors to use in exploration for oil upon adjacent property not belonging to it, with the understanding that it be repaid only*2274 in the event that oil in paying quantities was found.
*1202 Petitioners' counsel in their brief contend that, this being an Iowa corporation, the decisions of the Supreme Court of that State are binding upon us in determining whether the corporation was in liquidation during the taxable years 1919 to 1922, inclusive, in the sense in which that term is used in section 201(c) of the Revenue Act of 1918. With this we do not agree. The decision of that question involves the construing of no statute of that State, it being shown that not until long after the period here in question did the directors proceed for the dissolution of the corporation in accordance with the Iowa statute and initiate the process of winding up of the corporation provided for thereby.
Section 721, Revised Statutes provides:
The laws of the several States, except where the Constitution, treaties, or statutes of the United States otherwise require or provide, shall be regarded as rules of decision in trials at common law, in the courts of the United States, in cases where they apply.
The word "laws" as used in this section, to quote the language of the court in *2275 Swift v. Tyson,16 Pet. 1, refers to:
* * * The positive statutes of the state and the construction thereof adopted by the local tribunals, and to rights and titles to things having a permanent locality, such as the rights and titles to real estate, and other matters immovable and intra-territorial in their nature and character.
This rule has been recognized and applied repeately. Kuhn v. Fairmont Coal Co;,215 U.S. 349">215 U.S. 349; Black & White Taxicab Co. v. Brown & Yellow Taxicab Co.,276 U.S. 518">276 U.S. 518.
In the present case, however, the question to be determined is not the construction of a state statute, but is in fact a question of the meaning to attach to the words "amounts distributed in liquidation of a corporation" as used in a Federal statute. We are not to ascertain what the courts of Iowa have determined as a status of liquidation, but what that status was as Congress viewed it in using that term in the taxing act. In resolving this question we are not bound by either state laws or the construction placed thereon by state courts, as is illustrated in *2276 Burk-Waggoner Oil Association v. Hopkins,269 U.S. 110">269 U.S. 110, where it was held that a business organization might be a partnership under a state law and yet be considered for purposes of taxation as an association under the Revenue Acts of the United States. Compare also Weiss v. Wiener,279 U.S. 333">279 U.S. 333.
The word "liquidation" when applied to a partnership or company has a general meaning, well recognized by textwriters and courts, as the operation of winding up of its affairs by realizing its assets, paying its debts and appropriating the amount of profit or loss. 37 Corpus Juris 1265; Assets Realization Co. v. Howard,127 N.Y.S. 798">127 N.Y.S. 798; Gibson v. American Rwy. Express Co.,195 Iowa 1126">195 Iowa 1126; 193 N.W. 274">193 N.W. 274; Rohr v. Stanton Trust & Savings Bank,76 Mont. 248">76 Mont. 248; 245 Pac. 947; *1203 Gilna v. Barker,78 Mont. 357">78 Mont. 357; 254 Pac. 174; Lafayette Trust Co. v. Beggs,213 N.Y. 280">213 N.Y. 280; *2277 107 N.E. 644">107 N.E. 644; In Re Union Bank of Brooklyn,161 N.Y.S. 29">161 N.Y.S. 29.
We have been able to find no case in which the question submitted for decision by the court was the status of a corporation during a period of years following a resolution by its stockholders authorizing liquidation, and during which it was actively engaged in normal operation, doing those things for which it was created, deriving a profit and making distributions only of such profits to its stockholders. The cases cited by counsel in which the courts have held corporations to be in liquidation are ones in which there have been definite and affirmative acts consistent only with liquidation and in themselves necessarily effecting a winding up and cessation of the corporate business, such as actual cessation of corporate activities, a sale of all corporate assets and business, or legal dissolution. These decisions are not in point.
Although the particular question here involved does not appear to have been passed upon, the courts have recognized that a status of liquidation exists only where the activities of the corporation are for the purpose of winding up the affairs of the company. In*2278 Assets Realization Co. v. Howard, supra, cited by petitioners, the court said:
"The very meaning of the word 'liquidation' implies the winding up of the affairs of the company," and the status of liquidation appears by the decisions to be recognized as the opposite of or at least as distinguished from that of a "going concern." So in Hellmich v. Hellman,276 U.S. 233">276 U.S. 233, in discussing section 201(a) and (c) of the Revenue Act of 1918, here involved, the court held that Treasury Regulations 45 (articles 1541 and 1548) "correctly interpreted the Act as making section 201(a) applicable to a distribution made by a going corporation to its stockholders in the ordinary course of business and section 201(c) applicable to a distribution made to stockholders in liquidation." The court, in discussing Regulations 45, uses the following language:
Treasury Regulations 45, which were promulgated under the Act, stated on the one hand, in Art. 1541, that for the purpose of the statute "dividends" comprise distributions made by a corporation to its stockholders "in the ordinary course of business, even though extraordinary in amount;" and, on the other*2279 hand, in Art. 1548, that: "So-called liquidation or dissolution dividends are not dividends within the meaning of the statute, and amounts so distributed, whether or not including any surplus earned since February 28, 1913, are to be regarded as payments for the stock of the dissolved corporation. Any excess so received over the cost of his stock to the stockholder, or over its fair market value as of March 1, 1913, if acquired prior thereto, is a taxable profit. A distribution in liquidation of the assets and business of a corporation, which is a return to the stockholder of the value of his stock upon a surrender of his interest in the corporation, is distinguishable from a dividend paid by a*1204 going corporation out of current earnings or accumulated surplus when declared by the directors in their discretion, which is in the nature of a recurrent return upon the stock." These Regulations, with a change made in 1921 as to the second sentence of Art. 1548, are still in effect so far as distributions in liquidation under the Act are concerned.
It appears to us that the question here presented is whether the corporation, following the resolution of January, *2280 1915, continued its business through the taxable years in question as a going concern and the distributions in question were made from current earnings or accumulated surplus from such operations or whether upon the passage of that resolution it ceased to be a going concern and its activities had as their object not the purposes for which the corporation was organized but merely the object of winding up its business by converting its assets, paying its debts and distributing any remaining balance to its stockholders. This question we must determine from a consideration of the acts of the corporation throughout the years in question.
Questions of taxation must be determined by viewing what was actually done, rather than the declared purpose of the participants; and when applying the provisions of the Sixteenth Amendment and income laws enacted thereunder we must regard matters of substance and not mere form.Weiss v. Stearn,265 U.S. 242">265 U.S. 242, 254.
We can not presume liquidation to be in process merely because a resolution of the stockholders authorized the directors to take such action. Liquidation is not a technical status which can be assumed*2281 or discarded at will by a corporation by the adoption of a resolution by its stockholders, but an existing condition brought about by affirmative action, the normal and necessary result of which is the winding up of the corporate business.
The resolution of the stockholders of January, 1915, authorized the directors elected at that meeting to liquidate the corporation "as soon as it could be done economically" and we must judge by what was subsequently done whether such action was taken prior to the taxable years here involved and, if so, whether the distributions in question were incidents of such action.
On this question the record shows that in passing this resolution the stockholders knew and had agreed upon a program of active future operation. Prior to that time the operations in progress were the logging and manufacture of the timber from a tract of less than 197,000,000 feet at Wiggins, which operation with the facilities then owned would occupy some 10 years. In addition to this the corporation owned at D'Lo, Miss., 100 miles away, a large undeveloped tract of approximately 573,000,000 feet of timber which its plans of operation did not contemplate that the corporation*2282 would ever log and manufacture. This tract had been purchased as a speculation, it *1205 being intended to sell it at a profit. The program of operation agreed upon for the corporation by the stockholders, at the meeting of January, 1915, changed the plans of the corporation in respect to this D'Lo tract, it being agreed to add it to the area which the corporation would log and manufacture, thus increasing from approximately 197,000,000 to nearly 800,000,000 feet the timber contemplated to be logged, manufactured and disposed of by active and diligent operation. In authorizing this action it was clearly understood that the corporate activities would be greatly expanded and would necessarily be carried on actively in increased volume for more than 10 years, and that large sums would have to be borrowed to secure facilities for the increased operation, and additional tracts of timber would have to be purchased to consolidate present holdings. The record further shows that these things contemplated in January, 1915, to be done in respect to expansion of activities, were done; that the corporation borrowed and expended in the year 1916 more than a million dollars for a modern*2283 plant at D'Lo, and entered upon the most active period of operations in its entire history. These operations were profitable and were continued to a time subsequent to the taxable years here in question. During this period the corporation purchased additional tracts of timber, in consolidating its two large tracts for operation, amounting in all to 178,832,377 feet and for which it paid $1,342,622.19, the logging and manufacture of which was done as a part of the active operations which followed the resolution of January, 1915.
In respect to petitioners' contention that it was necessary to manufacture its timber in order to realize its value and the realization of such value was a necessary incident of liquidation and therefore such operation can not be considered as inconsistent with a status of liquidation, it may be said that such operation is also consistent with a going concern, the generally accepted definition of which is "some enterprise which is being carried on as a whole, and with some particular object in view." Oliver v. Lansing,59 Nebr. 219; *2284 80 N.W. 829">80 N.W. 829. When we consider merely the fact that these operations, carried on in the usual and normal way, in addition to realizing the value of the corporate assets, returned large profits for each year, the piture presented is wholly consistent with the attaining of the object for which the corporation was created, even though it might be said to be not inconsistent with a program of liquidation. But when we consider further that the individuals elected as directors in 1915 did not take over and administer the assets of the corporation in the usual and customary manner of a liquidating committee, but the corporation continued to function following that time as in the past, with its stockholders participating in its general scheme of management, *1206 holding their regular annual meetings and electing each year a new board of directors, which elected officers and actively carried on and directed the corporate activities, the picture presented is, in our opinion, one of a going concern.
Considering these things alone it would be difficult to conclude that during this period the corporation was engaged in liquidation - in winding up its affars, even though its*2285 stockholders might have agreed upon a program which contemplated liquidation and dissolution. When, however, we consider that the directors during this period not only took no steps toward dissolution, although under section 8392 of the Iowa Code the corporation in that event would have been continued with authority to do all things necessary to wind up its business, but on the other hand actually renewed the corporate charter for an additional period of 20 years; that the corporation's plans of operation necessarily included the acquisition of additional properties which it actually, during that period, purchased at a cost of approximately $1,343,000; that during this time, of more than 10 years of active, prosperous operation, its capital was not only never impaired by distributions to its stockholders, but was consistently kept intact by the maintenance of the necessary reserves for that purpose, we can not avoid the conclusion that the corporation was not in liquidation and the distributions in question were not distributions in liquidation in the sense in which that term is used in section 201(c) of the Revenue Act of 1918. The distributions as made, considering the*2286 circumstances of the corporation, assuredly did not effect or tend to effect a winding up of the business. They were distributions which left the capital of the corporation unimpaired. They were made during a period of active operation from the net earnings of that period and there is nothing to indicate that they would not have been made even had there been no determination on the part of the stockholders or directors to liquidate the corporation. We can not hold them to be distributions in liquidation merely because they were so characterized in the resolution of the directors authorizing their payment. Weiss v. Stearn, supra.The fact that they represented the profits accruing from a liquidation of assets of the corporation does not stamp them as liquidating distributions. Nearly all profits of a manufacturing corporation are of such character, and especially corporations such as this, whose normal operations entail the depleting and exhausting of their timber, or in other words, the liquidating of such assets.
In *2287 E. G. Perry,9 B.T.A. 796">9 B.T.A. 796, we had for consideration a situation in some respects similar to the one here presented, it being there contended that accumulated profits distributed by a corporation to its stockholders after a determination to dissolve and liquidate, but which were distributed before such dissolution, were distributions *1207 in liquidation under section 201(c) of the Revenue Act of 1918. In this case, although the earnings in question were not accumulated subsequent to the determination to dissolve, and although the dissolution and actual winding up of the corporate business was effected immediately following the distribution in question and immediately following the date liquidation was determined upon, we held the distributions not to have been made in liquidation in contemplation of that section. In that case we said:
At the time the dividends were declared the corporation was not in dissolution and there was no retirement of the capital stock in whole or in part, nor was there any impairment of the capital of the corporation.The dividends were declared wholly from surplus and earnings. Even if it be conceded, as the respondent apparently*2288 contends, that the declaration of the dividend was in anticipation of the dissolution of the corporation and a step taken preliminary thereto, it is our opinion that the dividend would not fall within section 201(c) as made "in liquidation of a corporation."
A dividend in liquidation of a corporation implies that there has been either an impairment of its capital by a distribution thereof to its stockholders or a retirement of the capital stock in whole or in part. It will be noted that section 201(c) provides that liquidating dividends "shall be treated as payments in exchange for stock of shares." While by no means conclusive, the language is indicative of an intention to confine the use of the term to those distributions which affect the stock or shares of the corporation. The dividend here in question distributed profits only without in any way affecting the capital of the corporation. The corporation might or might not liquidate later, but in either event the dividend would remain as an indebtedness to the stockholders. We are of the opinion that whether or not there was an intention on June 30, 1919, to later dissolve the corporation, no liquidation took place on that day*2289 and that the character of the dividend then declared would not be changed by subsequently carrying out any intention to dissolve which might then have existed.
We can see in the resolution of January, 1915, no more than the adoption by the stockholders, for the corporation, of a general program of operation, with authority to the directors to wind up the affairs of the corporation and liquidate at such times as, in their judgment, that action could be taken economically, and we can see in the actions of the stockholders and directors and the activities of the corporation after 1915 and through the years here involved nothing more than the carrying out of that program of operation to the end that the affairs of the corporation might be so arranged that the liquidation authorized, if and when entered upon, could be economically effected.
We do not hold that any one of the individual and enumerated acts of the corporation, or conditions existing in the taxable years here in question, if considered alone, would be impossible to reconcile with a status of liquidation. Our conclusion is that, considering all of those acts of the corporation in the light of existing conditions as shown*2290 by the record of this proceeding, it can not be considered that *1208 it was then engaged in liquidation, or that the distributions of earnings during those years were in liquidation in the sense in which that term is used in section 201(c) of the Revenue Act of 1918.
Reviewed by the Board.
Judgment will be entered for the respondent.
Footnotes
1. Original expenditure. ↩