
    FRANK P. BLAIR v. THE UNITED STATES
    
    [No. E-426.
    Decided February 14, 1927]
    
      On the Proofs
    
    
      Income taw; dividend; pn-ofits in tawaMe year sufficient to pay dividend; net loss during corporate existence. — -Where there were earnings or profits available in the taxable year 1918 sufficient at the time to pay a dividend declared and distributed by a corporation in said year the distribution is income for that year in the hands of the stockholders, notwithstanding the corporation has had a loss in excess of its gains for the period of its corporate existence as well as for the period from March 1, 1913, to the end of the said taxable year.
    
      The Reporter's statement of the case:
    
      Messrs. James B. Westeott and W. Warfield Ross for the plaintiff. Good, Childs, Bobb <& Westeott were on the briefs.
    
      Mr. Fred K. Dyar, with whom was Mr. Assistant Attorney General Herman J. Galloway, for the defendant.
    The court made special findings of fact, as follows:
    I. The Shoal Creek Coal Company, hereinafter referred to as the “ corporation,” was incorporated under the laws of the State of Maine on March 20, 1905, with an authorized capital of $1,000,000, represented by 10,000 shares of common stock at the par value of $100 per share; said stock was paid in by a transfer to the corporation of all the assets of a corporation known as the Illinois & Eastern Coal Company, of which latter corporation the plaintiff was one of the stockholders. The principal office of the Shoal Creek Coal Company was, from and after the date of its incorporation and until after December 31, 1918, in Chicago, Ill.
    
      II. Frank P. Blair, the plaintiff in this cause, was the president of the Shoal Creek Coal Company, and a large stockholder therein, owning at all times, during the year 1918, 9,550 shares of stock of said corporation.
    III. On April 1, 1905, the corporation authorized an issue of first mortgage bonds 'in the sum of $1,000,000, said bonds bearing date April 1, 1905, and bearing interest at the rate of 5 per cent per annum. Said bonds were secured by a trust deed to the American Trust & Savings Bank of Chicago, Illinois, as trustee. There was issued $710,000 par value of said bonds, which were sold at a discount of $247,000, as shown by the report of the revenue agent who examined the books and records of the corporation, and which report is dated October 11, 1922, there being paid into the treasury of the company from the sale of said bonds the sum of $463,000.
    IY. During the early years of the existence of the corporation it was under a heavy expense in the development of its mine. In order to aid the corporation, its stockholders, who were also its sole bondholders, surrendered prior to December 31, 1912, said first mortgage bonds and the accrued interest thereon to the corporation in the total sum, including principal and interest, of $546,460.51, which amount was credited to the surplus account of the corporation. No consideration was paid by the corporation to the holders for the bonds so surrendered, and said bonds and interest coupons thereon were canceled.
    V. During the period from the organization of the corporation to February 28, 1913, the corporation incurred operating losses amounting to $440,000; during the same period the bondholders of the corporation (who were also its sole stockholders) surrendered for cancellation without consideration bonds and interest coupons amounting to $546,460.51. The losses above stated were charged against the surplus account of the corporation on the corporate books, and the bonds and interest coupons so surrendered were credited to the surplus account of the corporation on the corporate books.
    VI. The net earnings of the corporation from March 1, 1913, to December 31, 1918, were as follows:
    
      For a period of 10 months (Mar. 1, 1913, to
    Dec. 31, 1913) (loss)_$37,091.66
    Year ending Dec. 31, 1914 (loss)_ 74,126.20
    Year ending Dec. 31, 1915 (loss)_ 46,630.33
    Year ending Dec. 31, 1916 (gain)_ $7,087.37
    Year ending Dec. 31, 1917 (gain)_ 44,698.03
    Year ending Dec. 31, 1918 (gain)_ 84,868.39
    157,848.19 136,653.79
    VII. On December 17, 1918, the following resolution was. passed by the board of directors of the corporation:
    
      “Resolved, that a dividend be and the same is hereby declared, payable to the stockholders of record as of this-date, December 17, 1918, in the sum of 8% per share; upon, common stock of this corporation payable 6% immediately,, and 2% when in the opinion of the treasurer funds are-available for that purpose.”
    VIII. Pursuant to the above resolution, the plaintiff, owning 9,550 shares of the stock of said corporation, received on December 20, 1918, the sum of $75,000, and on December 31, 1918, $1,400, or a total of $76,400.
    IX. The plaintiff, Frank P. Blair, filed his income-tax return for the year 1918, on March 13, 1919; in said return the said plaintiff reported the amount of $76,400 received by him from the corporation as a taxable dividend, paying an income tax for the year 1918, amounting to $21,833.42, as follows:
    Mar. 13, 1919 $5,528. 63
    June 13, 1919 5, 387.04
    Sept. 13, 1919 5,458.36
    Dec. 12, 1919 5,458.36
    Feb. 24, 1920 1.03
    Total- 21,833.42
    X. On review and final audit the Commissioner of Internal Bevenue computed the earnings available for dividends, as follows:
    Surplus, Mar. 1, 1913_$106,460. 51
    Earnings (losses) Mar. 1 to Dec. 31, 1913_$37, 091.66
    Earnings (losses) 1914_ 74,126.20
    Earnings (losses) 1915_ 46, 630.33
    157, 848.19
    
      Deficit Dec. 31, 1915- §51,387.68
    Earnings 1916-$7, 087.37
    Earnings 1917-14,698. 03
    Earnings 1918 - 84, 868. 39
    - 136,653.79
    Earnings accumulated subsequent to Feb. 28, 1913- 85, 266.11
    December, 1918, dividend paid- 80, 000.00
    Balance of earnings accumulated subsequent to Feb. 28,
    1913_ 5, 266.11
    XI. If said amount of $76,400 were excluded from the plaintiff’s taxable income for the year 1918, the amount of plaintiff’s income-tax liability for said year would have been $2,044.74. The difference between this sum and the amount of tax paid by plaintiff is $19,788.68.
    XII. On April 12, 1921, the plaintiff filed with the Commissioner of Internal Eevenue his claim for refund for said sum of $19,788.68, wherein plaintiff made the following statement :
    “ On December 31, 1918, the Shoal Creek Coal Company, Chicago, Illinois, made a distribution, of which I received $76,400.00, which amount was erroneously reported on my return as a dividend and tax paid accordingly. This distribution was in fact a distribution of capital assets, and therefore not taxable, inasmuch as such amount was less than cost on March 1, 1913, value of stock held.
    “Balance sheet of the Shoal Creek Coal Company as at December 31, 1917, is submitted herewith, showing deficit as at that date of $548,379.92. Inasmuch as earnings for the year 1918, $84,868.39, did not equal deficit as at December 31, 1917, but only slightly reduced such deficit, there was no surplus from which to pay a dividend, and it necessarily follows that distribution was made from capital assets and not from surplus. No dividend has ever been paid nor distribution made prior to December 31, 1918, by the Shoal Creek Coal Company. Correct tax liability is as follows:
    J — Total net income on which normal tax is to he calculated at 1918 rate-$16, 603. 92
    L — Total net income subject to surtax- 16, 603.92
    25 — $16, 603.92.
    26— 1,000.00
    15, 603.92
    4,000.92 @ 6%- 240.00
    
      28 — $11,603.92 @ 12%_ $1, 392.47
    Surtax_ 452.27
    2, 084. 74
    Less tax paid at source_ 40. 00
    Total tax_ 2, 044.74
    Tax paid on returns_ 21, 833.42
    Tax overpaid_ 19,788.68”
    XIII. On January 16, 1924, the Commissioner of Internal Revenue denied plaintiff’s claim for refund, holding that the distribution was taxable dividend, and on August 4, 1925, said Commissioner of Internal Revenue affirmed his former decision and denied said claim for refund.
    XIY. This claim arises under the revenue act of 1918, and the regulations adopted by the Treasury Department of the United States relative thereto.
    XY. The report of the internal revenue agent who examined the books and records of the Shoal Creek Coal Company, which report is dated October 11, 1922, treated the surrender and cancellation of the bonds and interest coupons as “ paid-in surplus ” for the purpose of computing invested capital of the corporation for excess-profits tax purposes and the balance sheet of the corporation as prepared by the internal revenue agent set up the surplus items as of February 28, 1913, as follows:
    Surplus (loss)_$450,968.64
    Paid-in surplus_ 546, 460. 51
    XYI. The Commissioner of Internal Revenue in computing the excess-profits tax due from the Shoal Creek Coal Company also treated and considered the surrender and cancellation of the said bonds and interest coupons as “ paid-in surplus.”
    The court decided that plaintiff was not entitled to recover.
    
      
       Writ of certiorari denied.
    
   Campbell, Chief Justice,

delivered the opinion of the court:

The plaintiff sues to recover income taxes paid which the Commissioner of Internal Revenue refused, upon plaintiff’s application therefor, to refund to him. The facts are stipulated and it appears from them that plaintiff was the principal stockholder in a coal company incorporated in 1905 with an authorized capital of $1,000,000, divided into 10,000 shares of common stock of the par value of $100 each, of which stock plaintiff owned 9,550 shares. The stock was paid for by the transfer to the corporation of the assets of another corporation. The corporation issued its bonds to the amount of $710,000, upon which it realized $463,000, which went into its treasury. During the early years of its existence the corporation incurred heavy expenses in development, and its stockholders, who were also its sole bondholders, surrendered prior to December 31, 1912, bonds and accrued interest to the amount of $540,460.51, which was credited to its surplus account. During the period from its organization to February 28, 1913, the corporation’s operating losses amounted to $440,000, which were charged against the surplus account on its books. For the balance of the year 1913, and the years 1914 and 1915, the operations showed a net loss of approximately $157,000, and during the years 1916, 1917, and 1918 there were gains of approximately $136,000.

On December 17, 1918, the directors declared a dividend of 8 per cent on the common stock, 6 per cent payable at once and 2 per cent when, in the opinion of the treasurer, funds were available for the purpose. Plaintiff accordingly received on his 9,550 shares 8 per cent, amounting to $75,000, received December 20, and $1,400 received December 31, 1918, a total of $76,400. Plaintiff in his income-tax return reported this amount as received by him during 1918 from the corporation as a taxable dividend paying an income tax for the year 1918 in the sum of $21,833.42. If the $76,400 be not taxable his tax for that year would be $19,788.68 less than he paid. In April, 1921, plaintiff applied to the commissioner for' a refund of this last-named amount, claiming that in his return he had erroneously reported as a dividend, and paid tax upon the amount received from the corporation during 1918, $76,400.

The question for decision as stated by plaintiff’s counsel is: “ Where a corporation has a loss in excess of its gains for the period of its corporate existence, as well as for the period from March 1, 1913, to December 31, 1918, is a distribution of corporate funds to the stockholders in 1918 a taxable dividend within the meaning of the revenue act of 1918, or is such distribution a return of capital and therefore not taxable?” More directly, however, the question is whether the amount received by the plaintiff in 1918 from the corporation was a part of his income for that year. The corporation had gains in three years, 1916, 1917, and 1918. It had gains in 1918 of $84,000. It declared an 8 per cent dividend to its stockholders in December, 1918. It was paid to and received by them, the plaintiff receiving his proportion and keeping it. That it increased his income by1 that much there can be no question. It was a dividend within the meaning of section 201 of the revenue act of 1918, subdivision (a) and (e), 40 Stat. 1059. It was a distribution out of its earnings or profits in 1918. If it be concluded that the corporation had the right to withhold distribution and apply the earnings to make up its losses during prior years it did not exercise that right, and the plaintiff is in no position to complain of its action. He was properly taxable on the dividend as part of his income. See Edwards v. Douglas, 269 U. S. 204; Adams case, 60 C. Cls. 319. The petition should be dismissed. And it is so ordered.

Moss, Judge; Graham, Judge; Hat, Judge; and Booth, Judge, concur.  