*2543 1. Where a corporation was dissolved in 1920 and its entire assets were taken over in kind by its stockholders, who thereafter conducted the business as a partnership, the transaction is controlled by section 201(c) of the Revenue Act of 1918, and any gain realized was taxable to the distributees.
2. Inventories may be reduced for obsolete merchandise carried therein.
*1023 Petitioner seeks redetermination of a deficiency in income tax of $4,326.49 for the year 1920, and alleges that the respondent erred in including as income to her the sum of $27,518.79, an alleged liquidating dividend from the P.B.M. Company, a Texes corporation. The alleged liquidating dividend was a distribution of the corporate assets upon the dissolution of the corporation. Respondent determined the alleged deficiency by including in gross income the difference between cost of shares of stock in the corporation and the estimated net value of assets distributed. Petitioner alleges that the estimated net value of assets distributed was too high. At*2544 the hearing petitioner amended her petition and alleged in substance that the closing inventory of the P.B.M. Company on December 31, 1920, was erroneous and excessive in that proper effect had not been given in taking the inventory to shop-worn, out-of-style, and unsalable merchandise, and that to give proper effect to such items the closing inventory should be reduced by approximately $50,000.
FINDINGS OF FACT.
Petitioner is the wife of C. J. Barnard, and they both reside at Wichita Falls, Wichita County, Tex. The property and income involved was the community property and income of petitioner and her husband, C. J. Barnard.
In 1914 the P.B.M. Company was organized under the laws of Texas as a business corporation for the purpose of conducting a department store. The capital stock was $75,000 par value, all of which was subscribed, paid for, and outstanding during the taxable year. Petitioner's husband became the owner of $58,000 par value for which he paid $57,500. The business was conducted as a corporation until May 22, 1920, when it was dissolved by the written consent of the stockholders for the purpose of avoiding high rates of taxation. A certificate of dissolution*2545 of the corporation was filed with the Secretary of State at Austin, Tex., on May 22, 1920. The stock of the corporation was closely held and there were only five stockholders, and after the formal dissolution the business was continued as a partnership. The former stockholders in the corporation had the same proportionate interest in the successor partnership as they had in the corporation. No new books were opened, there was no formal transfer of the assets of the corporation to the partnership, and no written contract of partnership was entered into. Returns for income taxation for the period from January 1, 1920, to May 22, 1920, were made by the P.B.M. Company as a corporation and for the remainder of the year 1920 and subsequent years as a partnership. *1024 There was no inventory taken as of May 22, 1920, for a closing inventory of the corporation or as an opening inventory of the partnership.
Upon an examination several years later of the returns and affairs of the P.B.M. Company, as a corporation and as the successor partnership, the respondent determined that the dissolution of the corporation and the continuance of the business as a partnership with the assets*2546 of the corporation constituted a liquidation of the corporation and that each stockholder received his proportionate share of the assets as a liquidating dividend.
Respondent further ruled that this constituted a taxable transaction and in order to arrive at the gain or profit, if any, estimated the value of the inventory of merchandise as of May 22, 1920, at $306,161.23. No actual inventory of merchandise was taken as of that date, but the estimate was based on the inventory of the P.B.M. Company of January 1, 1920, and adding thereto goods purchased and received in the house up to May 22, 1920, and subtracting therefrom gross sales less 18.2 per cent, estimated gross profit.
By the use of this estimate for inventory, and taking book values for other assets, the assets and liabilities of the P.B.M. Company, on May 22, 1920, were found by respondent to be as follows:
| Assets | Amount | Liabilities | Amount |
| Inventory | $306,161.13 | Accounts payable | $66,884.25 |
| Furniture and fixtures | 29,246.25 | Bills payable | 155,929.85 |
| Accounts receivable | 56,547.67 | Income tax due | 41,336.58 |
| Thrift stamps | 85.25 | Capital | 75,000.00 |
| Stocks | 1,750.00 | Reserve for depreciation | 4,406.04 |
| Liberty bonds | 5,350.00 | Surplus | 71,169.30 |
| Real estate | 15,585.72 | ||
| Total | 414,726.02 | Total | 414,726.02 |
*2547 With these figures as the basis, respondent found that a profit resulted from the liquidation of the corporation and included $27,518.79 thereof in petitioner's gross income. This amount was onehalf of the profit of her husband who was entitled to fifty-eight seventy-fifths of any profit resulting, same being community property of husband and wife.
In addition to the above assets and liabilities on May 22, 1920, the corporation had ordered previous to that date merchandise of the amount of $197,975.73, but which was not to be delivered until thereafter or paid for until delivered. No part of it was delivered until thereafter and no entry was made on the books either as an asset or liability until delivered. This was the uniform practice of the P.B.M. Company and in making his valuation of May 22, 1920, respondent excluded this from both assets and liabilities. *1025 This $197,975.73 on order at the time of the dissolution of the corporation was received during the remainder of the year by the partnership and put in stock and paid for and handled in the regular way.
The fair market values of the assets of the P.B.M. Company on May 22, 1920, at the time they became*2548 the property of the partnership were as follows:
| Inventory, merchandise | $260,236.96 |
| Furniture and fixtures | 25,000.00 |
| Accounts receivable | 50,892.91 |
| Thrift stamps | 85.25 |
| Stocks | 1,750.00 |
| Liberty bonds | 5,350.00 |
| Real estate | 15,585.72 |
| Total | 358,900.84 |
The liabilities of the corporation, and which the partnership assumed, amounted to $268,556.64 on May 22, 1920. The closing inventory of the partnership on December 31, 1920, was as follows:
| Men's clothing, etc | $18,974.58 |
| Men's shoes | 34,330.68 |
| Corsets, etc | 8,666.65 |
| Staples | 29,200.40 |
| Notions | 12,085.78 |
| Silks | 19,190.24 |
| Boys department | 7,442.74 |
| Ladies' hose | 9,102.01 |
| Ladies' shoes | 34,111.17 |
| Ready to wear | 14,388.72 |
| Millinery | 538.50 |
| Blankets, etc | 5,918.45 |
| Art goods | 4,397.62 |
| Men's furnishings | 22,906.64 |
| Musical instruments | |
| 250.00 | |
| Patterns | 320.00 |
| Total | 221,824.18 |
The actual cost of the merchandise included in the above inventory was $294,730.22, which was reduced 24.7 per cent by the inventory. The reason for this reduction was because there had been a radical decline in the prices of most merchandise and the inventory was taken on the basis of market value rather than*2549 cost price. A great part of the merchandise on hand December 31, 1920, had been purchased when prices were high in 1919 and 1920. The stock was overloaded, large and badly balanced. Styles in many lines of goods had been radically changed. Women's clothing and shoes had changed to such an extent that many former styles could not be sold at all and had become obsolete.
The situation was similar with regard to men's shoes, shirts, and collars and many were unsalable because of change of style. Other lines of goods were likewise affected.
During 1920 the company had put on many special reduction sales and the stock had been frequently handled and some of it had become shopworn. At the close of 1920 prices had fallen sharply, and business was in an unstable condition resulting from readjustments following the war. The P.B.M. Company was largely indebted to banks and for merchandise accounts. The inventory of December 31, 1920, was excessive and if proper account *1026 had been taken of obsolete and shopworn merchandise undoubtedly then on hand, the inventory of merchandise on that date would have been $188,550.56 instead of $221,824.18. The inventory of merchandise, *2550 December 31, 1920, should be $188,550.56. No testimony was introduced by either party to show any charge in any other asset or liability of P.B.M. Company partnership as of December 31, 1920, from that which has been used by respondent in computing petitioner's income for 1920. We therefore find they remain the same.
OPINION.
BLACK: Petitioner contends in the first place that the dissolution of the corporation did not constitute a liquidation of its assets, nor a taxable transaction, for the reason that the stockholders of the corporation did not acquire title to the assets. The laws of Texas provide that on the dissolution of a corporation, unless a receiver is appointed, the president and directors shall be trustees of the creditors and stockholders with power to settle the affairs, collect the outstanding debts, and divide the moneys and other property among the stockholders after paying its debts. Counsel argues from this that, because the debts had not been paid and because the president and directors of the corporation had not executed a formal conveyance or contract transferring the assets of the corporation to themselves as stockholders, title did not pass. We can*2551 not agree to this construction of the law. The Texas law referred to (Article 1388, Vernon's Annotated Texas Statutes) was enacted for the purpose of regulating the relative rights of creditors and stockholders upon the dissolution of a corporation and a winding up of its affairs and business, where there are conflicting interests.
It is inapplicable here because the president and directors were the trustees, stockholders and transferees themselves and took charge of the assets to their individual use without any formalities. No rights of creditors intervened and, so far as the record shows, all debts of the corporation then existing have been paid. The corporate organization was merely discontinued because the stockholders regarded the rates of taxation applying to corporations as being too high and the business was continued as theretofore in partnership form, and we have held that such cases create a taxable transaction under section 201(c) of the Revenue Act of 1918 if any gain results therefrom.
In , a Texas case, a corporation surrendered its charter and its assets were turned over to its stockholders, who continued the business*2552 as a partnership, and we held that this constituted a taxable transaction and that the gain should *1027 be computed by the difference between cost of stock and the net value of assets received by each stockholder.
A similar case was , where we said:
The petitioners insist that they did not realize profits in 1920 because they, as individuals, purchased the assets of the corporation of which they were stockholders. The only support for such a contention is the resolution set out in the findings of fact. It is clear, however, that the recitals of the resolution are at variance with the facts, and that what actually occurred was that each petitioner turned in his shares in the corporation and received a proportionate part of the net assets of the corporation. Under such circumstances the decisions of this Board in ; ; , and the decision of the court in , affirmed in *2553 , apply and the petitioners are taxable upon gains measured by the difference between the net value of the assets received and the basis of each petitioner for the stock. The basis is not in controversy and we have left for decision only the net value of the assets received.
In order to determine whether or not there was any gain in the dissolution and distribution it is necessary to fix the net value of the assets as of May 22, 1920. In determining whether there was gain or loss, manifestly the former stockholders of the P.B.M. Company should be charged with no greater sum than the actual fair market value of the assets which they took over, less the liabilities of the corporation which they assumed. Respondent computed the net value of these assets to be the sum as set out in our findings of fact and found there was a taxable gain to the respective partners of the P.B.M. Company and that petitioner's share of such gain was one-half of $55,037.58, amounting to $27,518.79.
This was error because the evidence shows that said assets did not have as high a market value as that given to them by the Commissioner, but had the fair market value which we*2554 have found and set out in our findings of fact. From this we hold that the profit resulting to petitioner from such transaction, and taxable under section 201(c) of the Revenue Act of 1918, was one-half of $12,366.17, which would be $6,183.08.
Respondent contents that if, in arriving at the fair market value of the assets to determine whether there was gain or loss, the estimated closing inventory of May 22, 1920, of the corporation is decreased, the opening inventory of the partnership as of that date should be decreased in a like amount and that petitioner would be liable for her portion of the gain resulting from that inventory and the closing inventory of the partnership. In answer to this petitioner contends that the closing inventory was excessive and should be reduced, and when so reduced no gain would result.
*1028 We agree with the contention of respondent that the reduced inventory of the corporation which results from our giving effect to the fair market value of such assets at the time of the liquidation of the corporation becomes the opening inventory of the partnership. We also agree with petitioner's contention that the closing inventory of merchandise*2555 owned by the partnership, December 31, 1920, should be reduced by taking into account obsolete and unsalable merchandise then on hand and the amount of such reduction has already been stated in our findings of fact.
In arriving at our conclusion as to the net value of assets on May 22, 1920, we did not include the $197,975.73 worth of merchandise ordered but not delivered at the time of the dissolution of the corporation. So much thereof as was delivered to the partnership was absorbed in its inventory from time to time and undoubtedly is correctly reflected in the closing inventory of December 31, 1920.
Judgment will be entered under Rule 50.