People Ex Rel. Studebaker Corp. of America v. Gilchrist , 244 N.Y. 114 ( 1926 )

"The Studebaker Corporation of America" is a New Jersey corporation. It sells automobiles and automobile accessories in New York and elsewhere. Its entire capital stock is owned by "The Studebaker Corporation," which manufactures the automobiles and the accessories in Indiana and Michigan, and sells them to subsidiaries. Of these subsidiaries the Studebaker Corporation of America is only one. Other subsidiaries (e.g., Studebaker Sales Corporation of Ohio, Studebaker Bros. of Utah, Studebaker Bros. of California) do business in other districts.

By agreement made August 25, 1920, the parent corporation (the manufacturer) agreed to sell its motor vehicles and parts and accessories to this subsidiary (The Studebaker Corporation of America), the distributor, at the retail list price (to be fixed by the manufacturer), less 25% discount on cars and 33 1/3% discount on parts. The discount was too small to enable the subsidiary to do business at a profit. Its loss during the year 1920 was $449,133.14. There was a loss during the same year to all the other subsidiaries, except the Studebaker Sales Corporation of Ohio. On the other hand, the parent corporation made in the same year a net profit of $11,434,954.41 from the operations of its business everywhere, which included, of course, the process of manufacture as well as the act of sale. The loss sustained by the subsidiary now before us, The Studebaker Corporation of America, was taken over by the parent at the close of the year. Apparently this had been done in previous years also. At all events, the subsidiary was indebted to the parent on December 31, 1920, for upwards of nine million dollars.

The year 1921 makes a continued showing of loss. The subsidiary before us, operating under the same agreement, sustained a loss of $2,168,178.63, which again was taken over by the parent. Losses were sustained by the other subsidiaries except the Studebaker Sales Company of Ohio. The net profits of the parent were $13,684,952.73. These profits, like those of the preceding year, were the result of the transaction of its business everywhere.

Article 9-A of the Tax Law (Cons. Laws, ch. 60; § 209) is to the effect that every domestic corporation shall pay for the privilege of exercising its franchise in this State, and every foreign corporation for the privilege of doing business, an annual franchise tax to be computed by the Tax Commission upon the basis of its entire net income for the year next preceding. The exceptions established by section 210 are unimportant for the case before us. The appellant, The Studebaker Corporation of America, made a report in 1922 for its income for the year ending December 31, 1920, and in 1923 for the year ending December 31, 1921. These reports showed that there had been no net income for either of these years, but on the contrary losses of $449,133.14 and $2,168,178.63, respectively. On the basis of these reports, the only tax payable would be the minimum tax prescribed by the final paragraph of Tax Law, section 214, $12.14 for 1921, and $15.91 for 1922. The Tax Commission imposed a tax upon the basis of the consolidated income of subsidiary and parent, gaining the requisite information from reports under the Federal law. As thus computed the tax was $9,671.27 in one year and $15,580.71 in the other. Upon applications for revision under Tax Law, section 218, slight errors of computation were corrected, and the taxes as thus reduced confirmed. There was a correction of other errors of computation at the Appellate Division with confirmation as modified, one member of the court dissenting. The taxes, as corrected, stand at $9,398.66 and $11,936.24, respectively.

The case involves the construction of subdivision 9 of section211 of the Tax Law as it read on July 1, 1922 (Tax Law, as amended by L. 1922, ch. 507). We are not concerned at this time with later amendments which became effective in 1925 (L. 1925, ch. 322). Subdivision 9 of section 211, as it stood before the amendment of 1925, contained the following provisions:

"Any corporation owning or controlling, either directly or indirectly, substantially all of the capital stock of another corporation, or of other corporations, liable to report under this article, may be required to make a consolidated report showing the combined net income, such assets of the corporations as are required for the purposes of this article, and such other information as the tax commission may require, but excluding intercorporate stockholdings and intercorporate accounts.

"The tax commission may permit or require the filing of a combined report where substantially all the capital stock of two or more corporations liable to taxation under this article is owned by the same interests. The tax commission may impose the tax provided by this article as though the combined entire net income and segregated assets were those of one corporation, or may, in such other manner as it shall determine, equitably adjust the tax.

"Where any corporation liable to taxation under this article conducts the business whether under agreement or otherwise in such manner as either directly or indirectly to benefit the members or stockholders of the corporation, or any of them, or any person or persons, directly or indirectly interested in such business by selling its products or the goods or commodities in which it deals at less than a fair price which might be obtained therefor, or where such a corporation, a substantial portion of whose capital stock is owned either directly or indirectly by another corporation, acquires and disposes of the products of the corporation so owning the substantial portion of its capital stock in such a manner as to create a loss or improper net income, the tax commission may require such facts as it deems necessary for the proper computation provided by this article, and may for the purpose of the act determine the amount which shall be deemed to be the entire net income of the business of such corporation for the calendar or fiscal year, and in determining such entire net income the tax commission shall have regard to the fair profits which, but for any agreement, arrangement or understanding, might be or could have been obtained from dealing in such products, goods or commodities."

The first paragraph of the subdivision quoted has no application to the situation now before us. It deals with a case where the parent corporation as well as the subsidiary is subject to the taxing power of this State, and is required by appropriate direction to make report on the basis of the consolidated income. No such direction has been made. The parent corporation in the Studebaker system is organized under foreign laws and manufactures its products in States far distant from our own. We do not now inquire whether the State of New York might disregard the subsidiary as a mere cover or pretense and lay a tax upon the parent as upon a corporation doing business here through the instrumentality of an agent (Procter Gamble Co. v. Newton, 289 Fed. Rep. 1013; Chicago, M. St. P. Ry. Co. v. Minn.Civic Assn., 247 U.S. 490; So. Pac. Co. v. Lowe,247 U.S. 330, 337; U.S. v. Reading Co., 253 U.S. 26, 61, 63; Cannon Mfg. Co. v. CudahyCo., 267 U.S. 333, 337; Gramophone Typewriter, Ltd., v.Stanley, 1908, 2 K.B. 89; cf. Ballantine, Separate Entity of Parent Subsidiary Corporations, 14 Calif. Law Rev. 12, 18, 20). If this or something not unlike might have been done, the Commission has not sought to do it. The parent has not been taxed, nor has any requirement been addressed to it to make return as to its business. The only tax imposed has been a tax on the subsidiary, to be measured by the value of its franchise, not the franchise of another. The subsidiary in these transactions, if it had any genuine autonomy (Procter GambleCo. v. Newton, supra), was either a buyer or an agent. If in truth and in good faith it was a buyer of the parent's products, its operations were its own. By the very terms of the hypothesis, they are not to be identified with the operations of the seller. On the other hand, if the sale is to be disregarded as nothing but a cover for an agency, the value of the privilege of doing business in a corporate form as agent for another is not to be confused with the value to the principal of acting through the agent. The position of the subsidiary may be no better than if its certificate of incorporation had stated that the purpose of its business was to act as factor or intermediary for the products of the parent. The position may be no better, but it can also be no worse. The statute makes provision for a return on the basis of consolidated income by the corporation that is owner where the owner does business in this State so as to be subject to our laws. It makes no such provision, or made none till the act of 1925 corrected the omission, for a return by the corporation that is owned.

The meaning of the final paragraph of section 211 (subdivision 9) is still to be considered. It is this paragraph, and not the first, that supplied a basis for the assessment in the judgment of the court below. We think the inference is permissible that loss would have been avoided if a contract fair and reasonable in its terms, such as would naturally have existed between independent corporations, had been made between the subsidiary as the agent and the parent as the principal. Whatever the form of the transaction, the business of the subsidiary was in fact a selling agency, or so a trier of the facts might find (Lehigh Valley R.R. Co. v. Delachesa, 145 Fed. Rep. 617; The William Van Driel, Sr., 252 Fed. Rep. 35). If the parties had been dealing upon a normal business footing, the discount would have been large enough to allow the selling agent a fair or customary commission upon the sales effected by the agency. There would have been little difficulty, one would suppose, in placing evidence in the record from which a conclusion could be drawn as to the extent of such commissions and the fair profits that would have been earned if such commissions had been paid and a reasonable return allowed on capital invested. Nothing of the kind was proved. Instead, the tax has been laid upon the theory that the profit to the agent in order to be fair and reasonable must absorb the entire profit to the principal from the business of the agency. In the view of the Appellate Division, "the amount to be deemed the net income of relator under a fair agreement with its parent corporation should be exactly the same figure at which the parent's net income from New York business would have been fixed had it itself transacted the New York business" (217 App. Div. 130, 135). The privilege for which the appellant has been taxed is the privilege of selling in New York the products of its principal. The business transacted by the principal included the process of manufacture carried on in Michigan and Indiana, a process which was anterior of necessity to any service by the agent. We find no basis for a holding that a fair agreement between the parent which manufactured and the subsidiary which sold would have given the whole profit to the subsidiary and nothing to the parent.

We assume once again that the taxing officers of the State may disregard a subsidiary altogether as a bookkeeping device when there is evidence to justify the finding that it is that device and nothing more. In that event, there is power to tax the parent corporation, the owner of the stock, on the basis of the consolidated income apportioned to New York. Stock ownership is not enough without more to bring the parent owner within the State if the subsidiary "has its own set of officials who actually conduct its business" (Procter Gamble Co. v.Newton, supra), and this though their tenure may be precarious in that the parent can oust them as soon as their terms expire by the choice of new directors. At least there is no decision yet announced that has attempted to go farther (cf. Cannon Mfg. Co. v. Cudahy Co., supra). Before "the corporation persona" may be ignored, the evidence must show that "the subsidiary is not left with any autonomy," (LEARNED HAND, J., in Procter GambleCo. v. Newton, supra), and that the parent though in form speaking and acting through another, is operating the business directly for itself. The taxing officers made a choice which relieves us of the duty of determining whether the sparse evidence in this record upholds a finding of dominion so absolute and abdication so complete. Instead of passing over the subsidiary as the mere shadow of a name, they chose to view it as an entity, a separate and independent center of energy and action. So viewing it, they have said that we are to substitute for the contract made the one that would be fair and reasonable if the two corporations were acting at arms length. A fair and reasonable contract between corporations so related would have assured to the subsidiary the customary return upon the business of an agency. The argument for the State would lead to the conclusion that such a contract might exist, and the State even then be entitled to something more. The statute in this paragraph postulates the existence of separate corporations, each of them conducting a business of its own. The meaning is that the contract between parent and subsidiary shall be as liberal and just as it would be if the subsidiary were a stranger. Activities equal to those of a factor or other agent are to be rewarded at a rate appropriate to the true relation. Activities less than these, or so slight as to be nominal, are to be rewarded at a rate no higher. Nothing in this record gives support to a conclusion that the distributor was lacking in the corporate organization essential for the mechanical operations of sale and distribution. It was more than a figment, however much its policy may have been directed from without. We have no need to consider how the case would stand if it had not exercised in any form the privilege of doing business for which the tax is to be paid. Where the subsidiary has done nothing, there might be difficulty in showing why its fair share of the profits should be anything at all.

If the first and third paragraphs do not sustain the tax, there can be little basis for an argument that the second paragraph applies. That paragraph assumes the existence of two corporations both owned by like interests and both subject to taxation. It assumes that the two shall join in a single or combined report, and the tax then laid upon the two, or divided between them according to some equitable adjustment. There is thus a two-fold difficulty in applying this paragraph to the situation now before us. One is that the two corporations have not joined in any report, and that their equities as between themselves have been neither adjusted nor considered. A second is that if both were before us, there would be no basis for an adjustment that would place upon the subsidiary the undivided burden. The only theory on which both parent and subsidiary may be taxed in this State for the exercise of a corporate privilege is that one is the principal and the other the agent. In that view of their relation, an equitable adjustment would require that the agent bear the tax upon its profits as an agent, and the principal the tax upon its profits as a principal. If some other method of adjustment is to be followed, its basis must be found, not in the will of the assessors, but in a pronouncement of the statute.

Public policy may indeed require that a foreign corporation manufacturing its products elsewhere shall not be at liberty to market them here by subsidiary corporations subject to its complete control without exposing the subsidiary to the same taxation as the parent. Convenience may demand that a corporation supplying a disguise shall be taxed as if it were one with the stock-holder by whom the disguise has been assumed. The difficulty is that in the absence of prescribed conditions no such public policy had been declared, when these taxes were imposed, by the only agency of government competent to declare it. Section 214, subdivision 7, was intended to apply to cases where a consolidated report had been filed by the parent corporation for itself and its subsidiary in accordance with section 211, subdivision 9, and was not extended till 1925 to cases where a report had been filed by a subsidiary alone. The parent, if required to make return to the Commission on a consolidated basis, would have had notice of the existence of a claim that it was doing business in the State. The opportunity would then have been at hand to prove that the subsidiary had an independent organization and an autonomous existence. In the absence of such notice there was no warning at any stage either to parent or to subsidiary that there was any denial by the State of the immunity of the one or the autonomy of the other. Even now, we search in vain through the briefs of the Attorney-General for argument or suggestion that the parent is here so as to be subject to our laws. There is thus substance, and not mere formality, in the requirement of notice, or of preliminary conditions that would be equivalent to notice. The taxing officers of the State are mere administrative agents. They may not devise new forms and methods of taxation, however convenient or useful. They have no more inherent power to tax a corporation upon the income of its stockholder where the stockholder is another corporation than they have where the stockholder is a natural person. They do not help themselves by saying that the stockholder in the long run may be expected to pay the bill, so that little harm will be done, whatever the method of assessment. Assessment, however handy, must find its warrant in the statute. A statute levying a tax will not be extended by implication beyond the clear import of its terms (Gould v. Gould, 245 U.S. 151, 153). If one method of assessment or collection is pointed out, the courts will not permit the application of another on the theory that the Legislature might just as well have chosen it, since in the final devolution of the burden the result will be the same, or, at worst, not widely different (U.S. v. Field, 255 U.S. 257;Stebbins v. Kay, 123 N.Y. 31; People ex rel. Mutual TrustCo. v. Miller, 177 N.Y. 51). We take the statute as we find it. One who serves as a conduit for a payment to some one else may not be taxed upon that payment as if he had kept it for himself.

We have no thought in anything here said to curtail the limits of the taxing power under statutes differently contrived. A corporation masquerading in the disguise of a subsidiary may be compelled, when the disguise is pierced, to contribute to the fisc as its true activities require. We would not be understood to hold that by appropriate enactment a burden as heavy may not be laid upon the corporate body supplying the disguise and thus promoting the deception. Problems such as these must be postponed until there is brought before us a statute which gives occasion for an answer. Such is not the scheme of the statute now before us. The business of the parent corporation, the principal, is to be reached under the statute by assessment directed to the principal and proportioned to the value of the privilege of acting as a principal. The business of the subsidiary, the agent or the conduit, is to be reached under the same statute by assessment directed to the subsidiary and proportioned to the value of the privilege of acting as a conduit or an agent. When the burden is so restricted, these taxes may not stand (People ex rel. Kohlman Co. v. Law, 239 N.Y. 346, 352).

The order of the Appellate Division should be reversed, with costs in the Appellate Division and in this court, the determination of the State Tax Commission annulled, and the proceeding remitted to the Commission for the revision of the taxes in accordance with this opinion.