
    393 F. 2d 983
    CLARA D. BLASCHKA v. THE UNITED STATES
    [No. 121-64.
    Decided May 10, 1968]
    
      
      N. Barr Miller, attorney of record for plaintiff. /. Marvin Haynes, Joseph H. Sheppard, Walter D. Haynes, Jerome D. Meeker, Haynes and Miller, and Ralph F. Anthony, of counsel.
    
      Michael I. Saltzman, with, whom was Assistant Attorney General Mitchell Rogovin, for defendant. Philip R. Miller, of feounsel.
    Before CoweN, Chief Judge, Laramore, Durfee, Davis, ColliNS, SkeltoN, and Nichols, Judges.
    
   Per Curiam:

This case was referred to Trial Commissioner Roald A. Hogenson with directions to make findings of fact and recommendation for conclusions of law under the order of reference and Rule 57(a). The commissioner has done so. in an opinion and report filed on April 19,1967. The commissioner’s findings of fact were accepted by the parties but plaintiff excepted to the commissioner’s conclusions of law. The case has been submitted to the court on the briefs of the parties and oral argument of counsel.

With respect to § 346(a) (2), the court puts its decision, not only on the basis stated by the trial commissioner, but also on the ground that the distribution here was “essentially equivalent to a dividend” in that there was no contraction of C & C’s business. See Bittker and Eustice, Federal Income Taxation of Corporations and Shareholders (1966), Sec. 7.62, pp. 309-312.

Since the court agrees with the commissioner’s opinion with deletions, his findings, and his recommended conclusion of law, as hereinafter set forth, it hereby adopts the same, as modified, and as supplemented by the preceding paragraph, as the basis for its judgment in this case. Therefore, plaintiff is not entitled to recover and the petition is dismissed.

Commissioner Hogenson’s opinion, as modified by the court, is as follows:

Plaintiff has brought suit to recover income tax and deficiency interest for the year 1959 in the total amount of $74,344.38 plus interest. The sole question is whether a distribution of $115,000 to plaintiff by C. & C. Blaschka, Inc., was a dividend taxable as ordinary income or was a distribution in partial liquidation with the gain realized taxable as long-term capital gain.

The basic facts are not in dispute. Plaintiff and her husband, Carl J. Blaschka, are and were the sole stockholders in C. & C. Blaschka, Inc. (hereinafter referred to as C & C), plaintiff owning approximately 92.3 percent of the stock and her husband 7.7 percent. The Blaschkas are the executive officers of C & C and, together with their accountant, comprise the board of directors. From 1955 until 1959, both plaintiff and her husband devoted full time to the business activities of C & C.

Until July 1,1959, C & C was engaged in the wholesaling of popularly priced gloves throughout the United States. This business requires the ability to select popular glove styles, a talent demanding ingenuity and years of experience as well as a great deal of time and travel. Plaintiff and her brother-in-law did the selecting for C & C. In addition, C & C has a wholly owned Canadian subsidiary, Max Mayer & Co., Ltd. (hereinafter called Max Mayer, Ltd.), which is engaged in the wholesale glove business in Canada. C & C keeps tight control over this Canadian corporation and makes every decision of any importance for it. In return for these services, Max Mayer, Ltd. has paid C & C since 1935 an annual “administrative fee” of 3 percent of the net sales of Max Mayer, Ltd.

In 1958, after the loss of two key employees through illness and death, C & C decided to dispose of its United States glove business. By a contract effective July 1, 1959, C & C sold this business to unrelated third parties for $646,442.31, payable in notes and preferred stock. The sale included the name Max Mayer which became the name of the new corporation to which C & C transferred all the assets.

As a result of the sale, C & C had more funds than it needed. After a number of conferences involving the Blaschkas, their accountant and their attorney, it was decided that C & C would enter the real estate rental field. To that end, C & C purchased all the outstanding stock of the Clairette Manufacturing Company, Inc. (hereinafter referred to as Clair-ette) from its sole stockholder, Mrs. Blaschka, plaintiff herein. Since 1955, Clairette’s sole business had been the renting of a building it owned to C & C for warehouse purposes. After the sale, Clairette continued to rent the building to the purchasers of C & C’s United States glove business. The transaction was consummated on September 28, 1959, with the transfer by plaintiff of the entire Clairette stock in return for $115,000. It is the tax treatment of this purchase by C & C that is in dispute.

Since plaintiff owned more than 50 percent of the outstanding stock of C & C and Clairette, this sale falls within § 304 of the Internal Revenue Code of 1954. (References to the Internal Revenue Code of 1954 will hereinafter be made by section number only.) In essence § 304(a) (1) provides that if a person is in control of each of two corporations, and, in return for property, one of the corporations acquires stock in the other corporation from that person, the property is treated as a distribution in redemption of the stock of the acquiring corporation. This provision was enacted in response to a series of unfavorable judicial decisions in which the Treasury attempted unsuccessfully to tax these transactions as distributions essentially equivalent to a dividend and therefore taxable as ordinary income under what is now §§ 301 and 302. Trustees Common Stock John Wanamaker, 11 T.C. 365 (1948), aff'd per curiam, 178 F. 2d 10 (3d Cir. 1949); Commissioner v. Pope, 239 F. 2d 881 (1st Cir. 1957); Mertens, Law of Federal Income Taxation, § 9.106 at 247-50 (Rev. 1962).

The function of § 304, then, is to complement § 302. To that end, § 304(b) (1) provides that such a sale is defined as a redemption of the stock of the acquiring corporation, and that for purposes of § 302 (b), whether such stock acquisition is to be treated as a distribution in exchange for the stock is determined by reference to the stock of the issuing corporation. See also Beg. 1.304-2 (a) ; Ralph L. Humphrey, 39 T.C. 199, 205 (1962). The essential question is whether the distribution has affected the stockholder’s proportionate interest and control in the issuing corporation, and for that reason the special rule of § 304(b) (1) points to the issuing corporation to apply § 304(a) to § 302. S. Rep. No. 1622, 83d Cong., 2d Sess. 240 (1954); H.B. Rep. No. 1337, 83d Cong., 2d Sess. A79 (1954); 3 U.S.C. Cong. & Admn. News 4217, 4877 (1954). The stockholder’s sale of his stock in one corporation to a related corporation could substantially change his interest in the issuing corporation, or on the other hand, be a change of form only, with no effect on the stockholder’s actual control. Lefevre, Purchases of Stock by Related Corporations — Acquisitions or Redemptions?, 14th Ann. Tul. Tax Inst. 441,449 (1965). Although § 304(b) (2) provides that the determination of the amount, paid in the stock redemption as defined in § 304(a) (1), which is a dividend shall be made solely with reference to the earnings and profits of the acquiring corporation, no mention is made of § 302(b) in that paragraph, nor is there any provision in § 304 or elsewhere in the 1954 Code, as to which corporation is to be tested to determine whether there has been a partial liquidation in a stock redemption through use of related corporations. It is significant, however, that subsection (e) of § 302, by statutory cross reference, points to § 331, and this together with the considerations underlying the tax treatment of partial liquidations require that a § 304 stock redemption, involving the question of a partial liquidation under §§ 331 (a) (2) and 346, be tested on the level of the acquiring corporation. S. 'Rep. No. 1622, supra, at 49; U.S. Cong. & Admn. News, supra, at 4680. The very nature of a partial liquidation, at least as purportedly involved in this case, is a curtailment or contraction of the activities of the acquiring corporation, and the distribution to a stockholder of unneeded funds in exchange for stock in a related corporation. It is concluded that the purported partial liquidation is not to be measured by § 302, but that the general rule of § 304(a) — that the stock sale is to be treated as a redemption by the acquiring corporation — applies, subject, however, to the statutory definition as to what constitutes a partial liquidation under §§ 331 and 346 of the 1954 Code, applied to the acquiring corporation.

Thus, whether the payment of $115,000 by C & C for the stock of Clairette is a partial liquidation under §§ 331(a) (2) and 346 must be determined with respect to the activities of C & C. Section 346 provides three tests to determine whether a distribution is to be treated as a payment in partial liquidation. The first, dealing with a series of distributions culminating in the complete liquidation of the corporation, is not applicable here since C & C has not and has no intention of completely liquidating. The second, § 346(a) (2), provides that a distribution will be considered as a payment in partial liquidation if it is not essentially equivalent to a dividend and is made pursuant to a plan, the payments being made within 2 years of the adoption of the plan. The requirement that the payment be made pursuant to a plan is crucial here, since it is apparent that C & C never adopted a formal plan of partial liquidation. The third test concerns the provisions of § 346(b), hereinafter discussed.

That a formal plan of liquidation is not required to qualify under § 346 is clear. Fowler Hosiery Co. v. Commissioner, 36 T.C. 201, 218 (1961), aff'd, 301 F. 2d 394, 397 (7th Cir. 1962). However, there must be clear evidence of an intention to liquidate if an informal plan is to be established. Obern-dorfer, Partial Liquidations, N.Y.U. 13th Ann. Inst, on Fed. Tax. 637, 643 (1955). For instance, in the Fowler case, supra, taxpayer corporation had six wholly owned United States subsidiaries and one wholly owned Canadian one. Taxpayer entered into a contract which in effect sold its business and that of its United States subsidiaries to a third party. The Canadian subsidiary also entered into a like contract with the same party. At a special stockholders meeting, taxpayer’s stockholders ratified this first contract and adopted a resolution to dissolve. A similar meeting was held for the Canadian corporation. However, only the contract was ratified at this meeting. Because the Canadian corporation paid the money it received from the sale to taxpayer, the latter argued that it had received a dividend subject to the foreign tax credit. The court held that the payments were made in partial liquidation pursuant to an informal plan of liquidation. In addition to the above facts and the clear tax avoidance scheme, the court noted that the Canadian corporation had filed documents with the Canadian authorities, stating that it was in the process of liquidation.

Another instance where an informal plan of liquidation was found is Holmby Corporation v. Commissioner, 28 B.T.A. 1092 (1933), aff'd 83 F. 2d 548 (9th Cir. 1936). In that case taxpayer corporation was a holding company whose sole stockholder had died. The corporation’s directors then sold all its assets. At a special directors meeting on November 10th, a dividend of $50 a share was declared. On November 17, another special meeting was held, and another dividend was declared. On November 22, the corporation was liquidated and the remainder of the funds paid out. Taxpayer claimed that the first two distributions were dividends because a formal plan of liquidation had not been adopted until November 22. The court found otherwise on the grounds that the distributions of November 10 and November 17 were made pursuant to an informal plan of liquidation.

In the instant case, C & C had adopted no plan of partial liquidation, either formal or informal, when it paid $115,000 for the Clairette stock. The official minutes of C & C show that there were two special meetings of the stockholders and four special meetings of the board of directors in 1959, and no meetings of either the stockholders or the directors in I960. Nowhere in these minutes is there any discussion or mention of a plan of partial liquidation of C & C. The corporate resolution dated September 10, 1959, which accepted Mrs. Blaschka’s offer of the Clairette stock, likewise makes no mention of any partial liquidation.

Plaintiff contends, however, that the purchase of the Clair-ette stock was part of a plan of partial liquidation discussed and informally adopted by the directors of C & C, and that the plan was not recorded in the corporate minutes because C & C’s accountant and attorney did not think it necessary. But the facts indicate otherwise. Mr. Blaschka admitted that the purchase of Clairette’s stock was made only after considering the tax aspects of the transaction. To assert that legal counsel advised a partial liquidation but did not make any written record of the plan is incredulous.

This is all the more so when one considers plaintiff’s Notice of Protest of the tax deficiency in controversy in this suit, a nine-page memorandum filed under oath with the Internal Revenue Service. No mention is made in that document of any partial liquidation being carried out by C & C. Furthermore, C & C stated in a memorandum sent to the Internal Revenue Service in 1961 concerning accumulated earnings tax that after its sale of the United States glove business, C & C decided to enter the industrial real estate business rather than liquidate. This is substantiated by Mr. Blaschka’s testimony that the purchase of Clairette, whose sole business was the renting of a warehouse, was chosen as C & C’s initial entry into this new field because the warehouse was known to be a good rentable building. In view of all this evidence, it is clear that the purchase of the Clairette stock was not pursuant to a plan of partial liquidation and the transaction can- ' not qualify under § 346(a) (2).

Nor does it come under the so-called “safe harbor” of § 346 (b). Under that subsection, if a corporation has been conducting two or more separate and active businesses for at least 5 years and then ceases one of the businesses, the distribution of the assets of this ceased business or the proceeds from their sale shall be treated as a payment in partial liquidation so long as after the distribution the corporation continues to conduct actively at least one of the preexisting businesses. Just what constitutes “actively engaged in the conduct of a trade or business” for purposes of § 346 is defined in § 1.346-1 (c) of the Regulations, by incorporation of § 1.355-1 (c) :

* * * a trade or business consists of a specific existing group of activities being carried on for the purpose of earning income or profit from only such group of activities, and the activities included in such group must include every operation which forms a part of, or a step in, the process of earning income' or profit from such group. Such group of activities ordinarily must include the collection of income and the payment of expenses. [Treas. Reg. § 1.355-1 (c)]

Plaintiff contends that C & C’s management of its wholly owned subsidiary, Max Mayer, Ltd., is a separate trade or business apart from its United States glove business, thereby qualifying the distribution of the proceeds from the sale of the United States business through the purchase of the Clairette stock as a partial liquidation.

Aside from the general definition found in the Regulation, only a few cases have considered the question of what constitutes two separate trades or businesses. What few guidelines exist are found mainly in the 16 examples contained in Reg. 1.355-1 (d) and in the more than 25 rulings published by the Treasury. See McDonald, Tax Considerations in Corporate Divisions: Contraction and Liquidation, 39 Taxes (The Tax Magazine of C.C.H.) 994,1000-1001, n. 60-63 for a complete listing of these rulings through 1961. As a result, the law has developed slowly on an ad hoc basis, with general principles not readily discernible from these factual patterns. However, common threads that run through many of these cases indicate that C & C was not engaged in the active conduct of two separate businesses in 1959.

One factor that reappears in several of the rulings is whether each business produces a substantial part of the combined income. In Rev. Rul. 57-333, 1957-2 Cum. Bull. 239, a corporation engaged in the food brokerage business also owned an adjacent vacant lot which it leased to a used car dealer. The rental received for the land for each of the last 5 years was less than 2 percent of the total gross income of the entire business. It was ruled that the rental of the lot did not constitute a separate business for purposes of § 346(b), with specific mention being made that the rental income received was only a nominal portion of the total gross income. In Bev. Bul. 56-266, 1956-1 Cum. Bull. 184, a corporation operated a retail grocery chain, manufactured and distributed bakery products, and produced and distributed creamery products, as well as owned real estate which it. leased to its grocery stores for a rental based on a percentage of gross sales. The real estate activities were ruled not to be a business separate and apart from the grocery business.

Again, in Bev. Bui. 57-464, 1957-2 Cum. Bull. 244, a corporation manufactured heating equipment and owned a modern factory building, an old factory building which it used for storage purposes, and three rental properties. The real estate activities did not constitute a separate business, ruled the Treasury. Once more it was pointed out that the net income received from these properties was “negligible.”

Also, in three judicial decisions all holding that two separate businesses did not exist, in which the question was whether the businesses were being actively conducted or not, the courts in each instance made reference to the small amount of income produced and lack of adequate record-keeping usually performed in a business. Isabel A. Elliott, 32 T.C. 283, 290-291 (1959); Theodore F. Appleby, 35 T.C. 755, 761 (1961), aff'd per curiam 296 F. 2d 925 (3d Cir. 1962), cert. denied, 370 U.S. 910 (1962); Bonsall v. Commissioner, 317 F. 2d 61, 64 (2d Cir. 1963). Cf. Example (16) in Reg. 1.355-1 (d) involving a corporation that manufactured and sold automobiles and maintained an executive dining room for profit.

That the underlying consideration running throughout these rulings was the sufficiency or insufficiency of income produced rather than some other factor can be seen in those rulings in which two separate businesses were found. Most striking is Rev. Rul. 58-164, 1958-1 Cum. Bull. 184. There, a corporation sold textile products as a commission merchant and owned a valuable building which it leased to outsiders for a substantial net rental. It was ruled that two separate businesses existed. Also, in Rev. Rul. 57-334, 1957-2 Cum. Bull. 240, a corporation rented to others three separate parcels of real estate. It was ruled that rental of one of the three buildings involved constituted a separate business since the remaining real estate accounted for only half the corporation’s income. And in Rev. Rul. 56-557,1956-2 Cum. Bull. 199, the ruling again points to the importance of the fact that the income from the challenged business was substantial, in a determination that there were two separate businesses.

Turning to the income figures in the instant case, they reflect clearly that the services performed for Max Mayer, Ltd., by C & C produced so little income as not to be a business separate and distinct from the United States glove business. In return for these services, Max Mayer, Ltd., paid C & C an “administrative fee” of 3 percent of Max Mayer, Ltd.’s net sales, a figure set in 1935 by plaintiff’s uncle. From 1952 through 1958, this gross administrative fee was only 1 percent of C & C’s net sales of $13,893,677.95 for that period. Furthermore, from 1935 to 1962, C & C did not even allocate on its books the expenses attributable to the work performed for Max Mayer, Ltd. — hardly the practice of a corporation in the business of managerial and financial services. Cf. Isabel A. Elliott, supra; Theodore F. Affleby, supra; Bonsall v. Commissioner, supra. Since 1962, the Canadian authorities have required C & C to submit a detailed statement of the specific charges for its services to Max Mayer, Ltd. In 1962, out of a total administrative fee of $24,784.05, C & C earned a profit of only $751.96, or a return of approximately 3 percent. Projecting this profit margin back over the period from 1952 through 1958, C & C’s total profits from administrative fees were approximately $4,261, or 1.5 percent of C & C’s total net profits before taxes of $283,622 for that period. Such negligible amounts hardly meet the requirement included in Begulation § 1.346-1 (c) that the activities be carried on “for the purpose of earning income or profit.” Treas. Reg. § 1.355-1 (c), supra.

The Begulations and Treasury Bulings, also, seem to require some form of separation of control and supervision to find separate businesses. In Bev. Bui. 58-54, 1958-1 Cum. Bull. 181, a corporation operated a soft drink bottling and distributing business. All the bottling was done at the main plant although it was distributed through facilities located in four different localities. The Treasury ruled that the distributing facilities did not constitute a separate business or businesses “despite some geographical differences in warehouse locations. They all formed part of one integrated business wherein the product was manufactured in one place, although distributed through several warehouse points.” 1958-1 Cum. Bull. 181 at 182.

Rev. Rul. 56-451, 1956-2 Cum. Bull. 208 involved a corporation which published four trade magazines. The metal working magazine had its own editorial staff and advertising space salesmen, who devoted their entire time to this magazine. This publication had separate offices in the same building as the others and kept separate books. The only employees it shared with the others were the general officers of the corporation and certain clerical and production employees. The three other magazines served the electrical industry. The Treasury ruled that the metal working magazine was a separate business.

The Regulations provide still another example. Taxpayer corporation owns and operates two men’s retail clothing stores, one in the city and one in the suburbs. The manager of each store directs its operations and makes the necessary purchases. No common warehouse is maintained. Under these circumstances the Regulations state that the activities of each store constitute a trade or business, evidently on the grounds of separate control and operation. (Example (10).)

In short, Max Mayer, Ltd., is a separate and distinct business from C & C in corporate form, but otherwise only in a geographical sense. There is some indication in the Regulations that geographical separation is enough. In Example (8), a corporation which manufactures ice cream at plants in two states is said to operate a trade or business in each state. To the same effect are Examples (13), (14), and (15). Just how these Examples relate to Example (10) supra, where geographical separation existed but where other factors were specifically mentioned, is not clear. Moreover, there is Eev. Eul. 57-190,1957-1 Cum. Bull. 121. The facts there involved a corporation which sold and serviced cars, carrying on its operations in two buildings located some distance apart in the same city. The Treasury ruled that the separate locations were not sufficient to create separate businesses.

Thus, geographical separation by itself is of questionable significance. Also, all of the above-mentioned Examples (where apparently geographical separation was sufficient) are distinguishable from the instant case. Each Example involved a manufacturing business, manufacturing its products at several locations. Each plant was a viable entity, capable of producing the product from beginning to end. In spite of its separate corporate entity, Max Mayer, Ltd., was in no way viable by itself. Eather did it depend upon the decisions of C & C for what it sold and how it sold. Before the Clairette stock sale, plaintiff owned 100 percent of the Clairette stock and 92.3 percent of the C & C stock, and C & C owned 100 percent of Max Mayer, Ltd. This control of all three corporations becomes absolute when the husband’s 7.7 percent share of C & C is added. The circumstances strongly infer that in reality the “stock redemption” was equivalent to the declaration of a dividend, especially in view of the large accumulation of earned surplus by the redeeming corporation. When this factor is considered with the negligible amount of income and profits realized, the conclusion is that the management services provided by C & C to Max Mayer, Ltd., were not an “active trade or business” separate and apart from its own operations.

Therefore, the purchase of the Clairette stock by C & C was not a distribution in partial liquidation. The sum of $115,000 is deemed to be paid out of C & C’s earnings and profits and taxable at ordinary income rates as a dividend pursuant to §§ 302 and 301(c) (1). Plaintiff’s petition for a refund should be dismissed.

FINDINGS on Fact

1. Plaintiff, Clara D. Blaschka, is and at all times material was a United States citizen residing at 384 Stewart Avenue, Garden City, New York. Plaintiff maintains her books and records and files her federal income tax returns for calendar years on the cash basis of accounting.

2. Since 1949, plaintiff and her husband, Carl J. Blaschka, have owned all of the 3,000 outstanding shares of stock of a corporation known as C. & C. Blaschka, Inc. (hereinafter referred to as C & C). Plaintiff owns 2,770 shares or 92.3 percent of the C & C stock and her husband owns 230 shares or 7.7 percent of the C & C stock.

3. C &C was organized and incorporated on December 24, 1935, pursuant to the laws of the State of New York. Prior to July 1,1959, it was known as Max Mayer & Co., Inc. Its present office is at 300 Madison Avenue, New York, New York. Plaintiff and her husband were and are the chief executive officers of C & C. Plaintiff, her husband, and Henry J. Hauser, a certified public accountant, were the officers and directors of C & C at all times here relevant.

4. Prior to July 1959, Carl J. Blaschka devoted full time to the business activities of C & C. Until 1955, plaintiff devoted only part time to the business activities of C & C, but from 1955 through July 1959, she devoted full time thereto.

5. From at least 1949 until July 1, 1959, C & C was engaged in the purchase of men’s and ladies’ gloves which it in turn sold to chain stores, department stores, and wholesalers throughout the United States. C & C sold medium or popularly priced gloves. “Styling,” the ability to select popular styles, was very important in this business and required ingenuity as well as years of experience. Plaintiff and her brother-in-law did the styling of merchandise for C & C, the latter doing the actual purchasing of the merchandise. C & C purchased its gloves mainly from Hong Kong and Japan as well as from Germany, Italy, and the United States.

6. In its business of selling and distributing men’s and ladies’ gloves in the United States, C & C employed approximately 52 persons, including approximately 14 office employees, 18 warehouse employees, and 16 salesmen located throughout the United States. Its office prior to July 1,1959 was at 244 Madison Avenue, New York, Neiw York. During this period C & C’s federal income tax returns listed its principal business activity as “Wholesale Kid and Fabric Gloves.”

7. From at least 1949, C & G has also owned, either directly or beneficially, all the outstanding shares of stock of Max Mayer & Co., Ltd. (hereinafter referred to as Max Mayer, Ltd.), a Canadian corporation engaged in the wholesale glove business in Canada. In its purchases and sales of men’s and ladies’ gloves throughout Canada, Max Mayer, Ltd., employs 22 persons, including 12 salesmen located throughout the populated areas of Canada, 4 warehouse employees, and a resident Canadian manager. For the year ended December 31, 1959, the net sales of Max Meyer, Ltd., were $805,723.58 and the net profit before taxes was $68,018.69 (both figures expressed in Canadian dollars). Max Mayer, Ltd., has never paid a dividend because of its need for operating capital.

8. C & C performed the following services for Max Mayer, Ltd.:

(a) Determination of financial and sales policies and operating expenses. C & C determines how much is to be spent on inventory for each of the two seasons each year. C & C also controls all expenditures of the business such as salaries and wages as well as any larger special outlays such as the construction of a building to house the Canadian company.

(b) Determination of the style and size of the inventory and the purchases to be made. C & C, primarily through plaintiff, determines the styles and sizes of inventory for Max Mayer, Ltd., each season. Generally, different styles and price lines of gloves were sold by Max Mayer, Ltd., in Canada than were sold by C & C in the United States. Also, some of the gloves purchased by Max Mayer, Ltd., were purchased from different sources than the gloves purchased by C & C. The Canadian company purchases its inventory from manufacturers in Japan, Hong Kong, Germany, Italy, Czechoslovakia and England.

In making these purchases and selecting samples, plaintiff and her husband or Gorden E. Coles, the president of Max Mayer, Ltd., travel abroad to Europe and the Orient, alternating yearly. Plaintiff and her husband also meet with representatives of foreign manufacturers, many of whom have been known to plaintiff for years in New York. When samples have been collected from these manufacturers as well as from magazine and newspaper advertisements and artists’ sketches, plaintiff, her husband and Mr. Coles meet in the C & C offices in New York or in the offices of Max Mayer, Ltd., in Toronto and make the final selection of styles and quantities of merchandise for each season. The ultimate responsibility for the styling and buying for the Canadian company has always rested with plaintiff.

(c) Arranging for lines of credit and financing needed in the business. C & C attempts to accumulate sufficient capital in Max Mayer, Ltd., to provide the funds needed for inventory purchases for each season. In view of the large amounts of inventory required before the selling season starts, an amount between $700,000 and $800,000 for the mam season, Max Mayer, Ltd., sometimes must obtain bank loans of $250,000 to $800,000 for this purpose. The need for such loans is discussed with the Canadian manager, Mr. Coles, and C & C arranges for such loans. C & C makes the ultimate decision to what extent loans are to be made.

(d) Checking of credit ratings of customers of Max Mayer, Ltd. Originally, C & C checked the credit of every Canadian customer. However, the great distance and the growing number of accounts soon made this impractical and so C&C now investigates and checks the credit of only the larger Canadian accounts.

(e) Approval of all bills and invoices of Max Mayer Ltd., prior to payment and payment of principal expenses. Max Mayer, Ltd., maintains two bank accounts. The principal account is maintained in the Canadian Bank of Commerce into which all collections from sales of merchandise are deposited. This account is controlled exclusively by C & C from New York. All payments for merchandise, salesmen’s commissions and bills of substantial amount are made from this account. A second account, referred to as a petty cash account, is maintained in the Bank of Canada. The funds for this account are supplied by C & C from the principal bank account. The manager of the Canadian company is authorized to draw checks on this account from which small bills and operating expenses, such as rent, stationery, and utility bills, are paid.

(f) Supervision of sales. C & C exercises ultimate overall control of all operations, makes the final decisions and determines future policies of the Canadian company.

(g) Calculation of amount of and payment of commissions to salesmen. C & C determines the rate of salesmen’s commission’s based upon the price range of the gloves. Commissions are calculated monthly by Max Mayer, Ltd., and then are sent to C & C in New York where they are verified by being checked against sales invoices previously sent by the Canadian company.

9. In providing these services for Max Mayer, Ltd., C & C is supplied daily, monthly, and annually with a variety of data and information. The Canadian company forwards to C & C daily all sales invoices of shipments made for the day, copies of all correspondence, sales sheets, inventories, bank statements and bank deposit slips. Letters of instructions and comment are sent by C & C to Mr. Coles approximately three times a week. In addition, the president of C & C, plaintiff’s husband, frequently consults with Mr. Coles by telephone. At the end of each month the Canadian auditor prepares a complete financial statement which is forwarded to C & C, together with an explanatory letter from Mr. Coles. The officers of C & C make at least three trips a year to Canada to consult and advise with Mr. Coles, and he in turn makes several trips to New York. At the end of the year the Canadian company prepares a complete statement of its operations for the year and that statement is then taken by Mr. Coles to New York where it is discussed thoroughly with the officers of C & C.

10. Prior to July 1, 1959, the managerial, executive and financial services provided to Max Mayer, Ltd., were performed by Mr. and Mrs. Blaschka and two office employees of C & C at C & C’s office. All of these individuals also performed the same services or worked on similar matters forC&C.

11. For these above-mentioned services, Max Mayer, Ltd., has paid C & C from 1935 to 1962 an annual administrative fee of 3 percent of the net sales of Max Mayer, Ltd., a fee originally set by plaintiff’s uncle, Max Mayer, in 1935. Prior to 1962 no allocation was made on the books of C & C for the expenses attributable to the services performed for Max Mayer, Ltd. As required by Canadian authorities, C & C submitted the following statement for the calendar year 1962:

Officers’ salaries-$12,000.00
Other salaries_ 3, 900. 00
Rent_ 1,200. 00
Accounting_ 2, 300.00
Telephone_ 485. 51
General expense_ 3,207. 61
Payroll taxes_ 774. 53
New York Oity taxes. 164.44
$24,032.09
Profit 751.96
Total administrative fee charged_$24,784.05

Net sales by Max Mayer, Ltd., in 1962 were $816,882.01.

12. Set forth below are C & C’s annual net sales, gross administrative fee figure, net profits before federal income taxes, net profits after federal income taxes, and earned surplus for the years 1952-1962:

From 1952 through. 1959, C & C paid Mr. Blaschka a salary of $24,000 per annum, $6,000 in 1960, nothing in 1961, and $10,000 in 1962. C & C paid Mrs. Blaschka a salary of $10,000 in 1952, $12,000 in each of 1953 and 1954, $16,500 in 1956, $18,000 per annum in 1956 through 1959, $3,000 in 1960, nothing in 1961, and $5,000 in 1962. The only other officer’s salary paid by C & C during those years was $18,600 in 1956 and $25,147 in 1957 to Erich Schedler.

13o As can be seen from the above table the gross administrative fees paid by Max Mayer, Ltd., from 1952 through 1958 averaged only 1 percent of C & C’s net sales during that period. (Based on total net sales of $13,893,677.95 and total gross administrative fees of $142,058.26 during this period). In 1962, the only year in which C & C kept a record of the expenses allocable to the services it performed for Max Mayer, Ltd., there was a profit margin of approximately 3 percent for this fee. (Finding 11, supra). If this figure is used as a guideline, C & C’s total profits on administration fees from 1952 through 1958, were approximately $4,261, or 1.5 percent of C & C’s total net profits of $283,622 during that period.

During the period in which it carried on its United States glove business, C & C did not pay any dividends or make any other distribution to its stockholders because of the large amounts of capital required for purchasing inventory.

14. By contract dated July 7, 1959, C & C sold to unrelated third parties its United States glove business including the name Max Mayer which became the name of a new corporation to which C & C transferred all the assets pertaining to its United States glove business, including office equipment, furniture and fixtures, machinery, inventory and supplies. Such sale was effective as of July 1, 1959. The purchase price was $646,442.31, payable as follows: (a) Three negotiable promissory notes each in the amomit of $182,147.44 payable August 31, September 30 and October 31, 1959; and (b) $100,000 of 5 percent cumulative preferred stock to be issued by the buyer. The foregoing notes were paid on their due date except that the last note was paid on November 30, 1959. The preferred stock was redeemed at face value in 1960 and 1961 pursuant to the agreement.

The balance sheets of C & C as of December 31,1958, and August 1,1959, were as follows:

15. Clairette Manufacturing Company, Inc. (hereinafter referred to as Clairette) is a New York corporation organized on June 80, 1945. The company was originally in the business of manufacturing men’s and ladies’ gloves which it sold to C & C. As a result of severe competition from the Japanese market, however, Clairette discontinued its manufacturing in 1955. Thereafter it continued the ownership of a building which it rented to C & C for warehouse purposes until the C & C United States glove business was sold in 1959. Thereafter it rented the building to the purchasers of the C & C’s United States glove business.

All of the issued and outstanding stock of Clairette was owned by plaintiff. Her cost basis in this stock was $10,000. As of June 30,1959, Clairette bad an earned surplus of $90,-425.31. Clairette bas never paid a dividend.

16. Following the sale of its United States glove business, the Blaschkas, their accountant, Henry J. Hauser who was also a director of C & C, and their attorney held several conferences in which it was decided that C & C would purchase all of plaintiff’s stock in Clairette. The minutes of a special meeting of the Board of Directors of C & C dated September 10, 1959, reflect this decision and state that the offer to sell Clairette’s stock by Mrs. Blaschka was accepted. On September 28,1959, the plaintiff transferred all of her Clair-ette stock to C & C in return for the sum of $115,000. The price of $115,000 was based on an independent appraisal of the property of Clairette. Thus, C & C replaced plaintiff as the sole stockholder of Clairette.

Under section 304(a) of the Internal Revenue Code of 1954, the basis of the Clairette stock to C & C was the same as plaintiff’s basis, i.e., $10,000. From an accounting standpoint, C & C’s total assets would be reduced by the Clairette stock purchase by $105,000, its capital stock increased by $10,000, its earned surplus reduced by $115,000, and its total liabilities and capital reduced by $105,000.

17. The official minutes of C & C show that there were two special meetings of the stockholders and four special meetings of the board of directors in 1959, and no meetings of either the stockholders or the board of directors in 1960. In none of the foregoing minutes is there any discussion or mention of a plan of liquidation or partial liquidation of C & C. Plaintiff’s Notice of Protest of the tax deficiency in controversy in this suit, a document filed under oath with the Internal Revenue Service on or about April 18,1962, contains no mention of a plan of liquidation or partial liquidation for C & C. In a memorandum sent to the Internal Revenue Service in 1961 concerning accumulated earnings tax, C & C stated that it had rejected any plans of liquidation. There was one meeting of the board of directors of Clairette in 1959. The minutes of this meeting contain no discussion or mention of a plan of liquidation or partial liquidation of Clairette.

18. Since the sale of its United States glove business, C & C has continued to provide the same services for Max Mayer, Ltd. C & C maintains an office in the offices of its accountants at 300 Madison Avenue, New York, the purchasers of the United States glove business having taken over the former office. Since the sale, C & C has had no employees other than plaintiff and her husband. Auditing, accounting, and secretarial services are furnished by employees of the accounting firm and are paid for on a contract basis. Plaintiff or her husband, or both of them, are in the office approximately 3 days a week. Besides its purchase of the Clairette stock, C & C has also invested amounts of its capital in rental investment real estate and has realized rental income. C & C has reported the following items of income and expense on its federal income tax returns for the years 1960,1961 and 1962:

On these returns, C & 0 reported that its principal business activity was “Beal Estate Operators” and that its principal product or service was “Benting of Beal Estate.”

19. On her timely filed federal income tax return for 1959, plaintiff reported long-term capital gain as follows:

Received from Sale of Olairette Stock $115,000
Less: 'Basis 10,000
Cain $105,000

20. In a notice of deficiency dated December 18, 1962, the Commissioner of Internal Bevenue determined a deficiency of $63,337.53 in the taxpayer’s tax liability for 1959 on the following grounds as stated in such notice :

(a) It is held that the amount of $115,000.00 received by you from C. & C. Blaschka, Inc., in exchange for all of the outstanding capital stock of Clairette Manufacturing Company, Inc., constituted a redemption under section 304 of the Internal Bevenue Code of 1954 j that the redemption is essentially equivalent to a dividend; and that the entire amount is taxable as a dividend pursuant to the provisions of sections 301, 302 and 304 of the Internal Bevenue Code of 1954.

21. On March 7, 1963, plaintiff paid such additional tax of $63,337.53, together with a deficiency interest in the amount of $11,006.85.

22. On September 30, 1963, plaintiff timely filed a claim for refund of the amounts paid as set forth in finding 21 above, and on February 13,1964, timely amended such claim for the sole purpose of making it clear that plaintiff claimed a refund of both tax and deficiency interest in the total amount of $74,344.38.

23. By certified letter dated January 13, 1964, plaintiff’s claim was rejected by the District Director of Internal Bevenue.

24. Plaintiff is the sole owner of the aforesaid claim for refund and has made no assignment of such claim or any part thereof or interest therein. No action on such claim has been had before either House of Congress or in the Executive Departments, except as herein stated. On May 1, 1964, plaintiff filed a petition in this court seeking recovery on such claim. The grounds here relied on are the same as those asserted in the claim.

Conclusión oe Law

Upon the foregoing findings of fact and opinion, which are adopted by the court and made a part of the judgment herein, the court concludes as a matter of law that plaintiff is not entitled to rehover and the petition is dismissed. 
      
       § 304. Redemption through use of related corporations.
      (a) Treatment ot certain stock purchases.
      (1) Acquisition by related corporation (other than subsidiary).
      For purposes of sections 302 and 303, if—
      (A) one or more persons are in control of each of two corporations, and
      (B) in return for property, one of the corporations acquires stock in the other corporation from the person (or persons) so in control, then (unless paragraph (2) applies) such property shall be treated as a distribution in redemption of the stock of the corporation acquiring such stock. In any such case, the stock so acquired shall be treated as having been transferred by the person from whom acquired, and as having been received by the corporation acquiring it, as a contribution to the capital of such corporation.
      (2) Acquisition by subsidiary.
      (b) Special rules for application of subsection (a).
      (1) Rule for determinations under section 302(b).
      In the case of any acquisition of stock to which subsection (a) of this section applies, determinations as to whether the acquisition is, by reason of section 302(b), to be treated as a distribution in part or full payment in exchange for the stock shall be made by reference to the stock of the issuing corporation. In applying section 318(a) (relating to constructive ownership of stock) with respect to section 302(b) for purposes of this paragraph, section 318(a) (2) (C) shall be applied without regard to the 50 percent limitation contained therein.
      (2) Amount constituting dividend.
      (A) Where subsection (a) (1) applies.
      In the case of any acquisition of stock to which paragraph (1) (andi not paragraph (2)) of subsection (a) of this section applies, the determination of the a mount which is a dividend shall be made solely by reference to the earnings and profits of the acquiring corporation.
      (c) Control.
      (1) In general.
      For purposes of this section, control means the ownership of stock possessing at least 50 percent of the total combined voting power of all classes of stock entitled to vote, or at least 50 percent of the total value of shares of all classes of stock. If a person (or persons) is in control (within the meaning of the preceding sentence) of a corporation which in turn owns at least 50 percent of the total combined voting power of all stock entitled to vote of another corporation, or owns at least 50 percent of the total value of the shares of all classes of stock of another corporation, then such person (or persons) shall be treated as in control of such other corporation.
      (2) Constructive ownership.
      .Section 318(a) (relating to the constructive ownership of stock) shall apply for purposes of determining control under paragraph (1). For purposes of the preceding sentence, section 318(a) (2)(C) shall be applied without regard to the 50 percent limitation contained therein.
     
      
       For an excellent analysis of the complexities and uncertainties of § 804, with special attention to recent cases, and with recommendations for legislative and administrative clarifications, see Marans, Section S01f: The Shadowy World of Redemptions through Related, Corporations, 22 N.Y.U. Tax Law Rev. 161 (1967).
     
      
       § 331. Gain or loss to shareholders in corporate liquidations.
      (a) General rule.
      * * * * *
      (2) Partial liquidations.
      Amounts distributed in partial liquidation of a corporation (as defined in section 346) shall be treated as in part or full payment in exchange for the stock.
      (b) Nonapplication of section 301.
      Section 301 (relating to effects on shareholder of distributions of property) shall not apply to any distribution of property in partial or complete liquidation.
      *****
      § 346. Partial liquidation defined.
      (a) In general.
      JTor purposes of this subchapter, a distribution shall be treated as in partial liquidation of a corporation if—
      (1) the distribution is one of a series of distributions in redemption of all of the stock of the corporation pursuant to a plan ; or
      (2) the distribution is not essentially equivalent to a dividend, is in redemption of a part of the stock of the corporation pursuant to a plan, and occurs within the taxable year in which the plan is adopted or within the succeeding taxable year, including (but not limited to) a distribution which meets the requirements of subsection (b). * * *
      * * * * *
      (b) Termination of a business.
      A distribution shall be treated as a distribution described in subsection (a) (2) if the requirements of paragraphs (1) and (2) of this subsection are met.
      (1) The distribution is attributable to the corporation’s ceasing to conduct, or consists of the assets of, a trade or business which has been actively conducted throughout the 5-year period immediately before the distribution, which trade or business was not acquired by the corporation within such period in a transaction in which gain or loss was recognized in whole or in part.
      (2) Immediately after the distribution the liquidating corporation is actively engaged in the conduct of a trade or business, which trade or business was actively conducted throughout the 5-year period ending on the date of the distribution and was not acquired by the corporation within such period in a transaction in which gain or loss was recognized in whole or in part.
      Whether or not a distribution meets the requirements of paragraphs (1) and (2) of this subsection shall be determined without regard, to whether or not the distribution is pro rata with respect to all of the shareholders of the corporation.
      (c) Treatment of certain redemptions.
      The fact that, with respect to a shareholder, a distribution qualifies under section 302 (a) (relating to redemptions treated as distributions in part or full payment in exchange for stock) by reason of section 302(b) shall not be taken into account in determining whether the distribution, with respect to such shareholder, is also a distribution in partial liquidation of the corporation.
     
      
      
         Each “Example” cited will be from Reg. 1.355-1 (d).
     