Stanton Corp. v. Commissioner

THE STANTON CORPORATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Stanton Corp. v. Commissioner

Docket No. 89796.

United States Board of Tax Appeals

44 B.T.A. 56; 1941 BTA LEXIS 1391;

April 4, 1941, Promulgated

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1. Where petitioner did not own substantially all of the stock of any other corporation, and its income consisted exclusively of interest, dividends, and gains from the sale of securities and during the taxable years this income was used principally to purchase additional securities and to make loans to another holding corporation whose stock was owned by a family of three persons who also owned all of the stock of petitioner, held, petitioner was a "mere holding or investment company" as that phrase is used in section 104(b), Revenue Acts of 1928 and 1932.

2. Where on December 31, 1930, petitioner had accumulated gains and profits of $2,132,316.37 and during the taxable years 1931 and 1932 it had further gains and profits of $907,062.49 and $116,086.05, respectively, and distributed only $185,425 and $29,668, respectively, held, petitioner permitted its gains and profits "to accumulate beyond the reasonable needs of the business" as that phrase is used in section 104(b) of the same acts.

3. Upon the basis of all the evidence, held, petitioner was "formed or availed of for the purpose of preventing the imposition of the surtax upon its shareholders through the medium of permitting its gains and profits to accumulate instead of being divided or distributed", as that phrase is used in section 104(a), and the Commissioner is sustained in his determination that petitioner is taxable under the provisions of section 104.

Hugh Satterlee, Esq., and I. Herman Sher, Esq., for the petitioner.

Allen T. Akin, Esq., and E. O. Hanson, Esq., for the respondent.

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BLACK

Deficiencies in income tax were determined by the respondent against petitioner for the calendar years 1931 and 1932 in the amounts of $453,640.77 and $81,968.05, respectively. The respondent in his notice of deficiency, among other things, stated:

After careful consideration of all the evidence submitted by you the Bureau holds that your corporation is subject to taxation under the provisions of section 104 of the Revenue Acts of 1928 and 1932.

The only issue remaining for our determination is whether petitioner was formed or availed of during the years 1931 and 1932 for the purpose of preventing the imposition of the surtax upon its shareholders through the medium of permitting its gains and profits to accumulate instead of being divided or distributed, and thus was made subject to the tax imposed by section 104 of the Revenue Acts of 1928 and 1932. A second issue relating to the respondent's disallowance of an alleged capital loss for the year 1932 was waived by petitioner at the hearing.

FINDINGS OF FACT.

1. The petitioner is a corporation organized under the laws of the State of Delaware, and has offices at 91 Wall Street, New York City.

It filed its income tax returns for the years 1931 and 1932 with the collector of internal revenue for the second New York collection district.

Jacob Aron was born in Ebenezer, Mississippi, in 1871. He was the son of a cotton planter. At the age of 15 he started to work for others in New Orleans. In 1898 he formed a partnership in New Orleans to engage in the business of distributing coffee imported from Brazil and of distributing sugar and rice purchased from Louisiana planters. In 1910 he formed a second partnership in New York, New York, to engage principally in the coffee business. In 1914 the New York partnership was incorporated under the name of J. Aron & Co., Inc. (N.Y.), sometimes referred to as New York. In 1915, the New Orleans partnership was incorporated under the name of J. Aron & Co. (La.), sometimes referred to as Louisiana. In 1922 Aron organized his first holding corporation, the J. & H. Aron Corporation, sometimes referred to as J & H, to which was transferred stock of Louisiana, certain other securities, and real estate. In 1925 Aron organized two more holding corporations, the petitioner herein, and "The Hamptworth Corporation," sometimes referred to as Hamptworth. To the latter was transferred the real estate held by J & H, and to petitioner were transferred the securities held by J & H, after which transfers J & H was dissolved.

2. New York and Louisiana each had an initial authorized capital stock of 3,000 shares of the par value of $100 per share, all of which were issued for the businesses and assets of the respective partnerships. Of the total shares issued, 2,700 or 90 percent of New York and 2,444 or 81.47 percent of Louisiana were issued to Jacob Aron. These corporations in addition to their coffee businesses have bought and sold other commodities, notably raw sugar, cocoa beans, rubber, silver, hides, copper, and miscellaneous exports and imports. New York also traded in securities.

3. In 1916 real estate situated at 95 Wall Street, in New York City, was purchased for the use of New York. In connection therewith the 95 Wall Street Realty Co., Inc., sometimes referred to as 95 Wall, was organized under the laws of New York with an authorized capital stock of 10 shares of the par value of $100 per share, all of which were issued to Aron, who has since held them for New York. The corporation's first purchase of real estate amounted to $45,000, which it borrowed from Aron. Later it acquired adjoining properties needed by New York and borrowed the funds therefor from New York and from petitioner. Since 1929 it has been indebted to petitioner in the amount of $482,841.76. No interest was ever received or demanded by petitioner on this loan prior to December 31, 1932.

4. During the World War (1914 to 1918) the import and export business of New York and Louisiana increased. In order to satisfy their growing need for lighterage, cartage, and warehousing, the Lafayette Warehouse & Lighterage Corporation, sometimes referred to as Lafayette, was organized in 1918 under the laws of Delaware, with an authorized capital stock of 250 shares of the par value of $100 per share, all of which were issued to nominees of New York, which has since owned all of such shares.

5. New York and Louisiana had good years from 1915 to 1919. Their combined sales in 1919 aggregated approximately $76,032,000 as against $16,382,000 for 1915. This required additional capital. Accordingly in 1918 New York's authorized capital stock was increased by 10,000 new shares issued for $1,000,000 in cash or its equivalent; and Louisiana was authorized to issue 3,000 shares of nonvoting preferred stock of the par value of $100 per share, which were issued for $300,000 in cash or its equivalent. Of the 10,000 new shares issued by New York, Aron acquired 8,243, and M. W. Feingold acquired 867 shares or 6.67 percent of the total 13,000 then outstanding. Of the 3,000 new preferred shares issued by Louisiana, Aron acquired 2,740 shares or 91.33 percent.

6. Inflation incident to the World War caused prices in all commodities to advance considerably. Commencing early in 1920 these prices declined precipitously and in one year were reduced about 80 percent. New York and Louisiana, which at the end of 1919 had combined inventories of about $12,080,000 and a combined common stock equity of about $4,365,000, were very much affected, but were able to survive this crash in commodity values. Following the crash in 1920 it required from two to three years to work out inventories and liquidate high price contracts. In 1922 all commodity markets had reached an abnormally low ebb and there was a return of activity.

7. During the year 1920 the officers of Louisiana assumed net taxes of that company in the amount of $26,818.25, and during 1921 New York charged Aron's account with $615,365.07, of which $469,536.96 represented the portion of certain cotton losses of the corporation assumed by him and $145,828.11 represented a portion of the corporation's taxes which he assumed.

8. From the time of its incorporation to January 1, 1922, New York had net earnings of $2,461,274.71, all of which on the latter date was being carried as surplus. During the same period Louisiana had net earnings of $750,418.53 and surplus adjustment credits of $40,315.47, and had paid cash dividends of $400,268.60, thus leaving a surplus on January 1, 1922, of $390,465.40. In December 1922 New York's authorized capital stock was increased to 30,000 shares of the par value of $100 per share and the 17,000 new shares were issued as a stock dividend, and Louisiana's authorized common capital stock was increased to 6,000 shares of the par value of $100 per share and the 3,000 new shares were issued as a stock dividend. During the year 1922 New York had net earnings of $28,574.45 and, after the declaration of the stock dividend of $1,700,000, had a book surplus at the end of that year of $789,849.16. Louisiana had earnings during 1922 of $285,078.19 and surplus adjustment debits of $5,900.48, had paid a cash dividend of $1,680, and, after the declaration of the stock dividend of $300,000, had a book surplus at the end of that year of $367,972.11.

9. In the summer of 1922 Aron arranged for the purchase for $240,000 of 30 acres of land at Great Neck, Long Island. He intended to occupy a part of this property as a residence for himself and family. To take title to the property he caused J & H to be organized under the laws of New York on July 21, 1922. Cash of $50,000 was paid in for its 500 shares of stock and Aron loaned it $190,000 on a noninterest bearing note to make up the purchase price of the property. The 500 shares of stock were issued as follows:

Jacob Aron	250 shares
Hortense Aron	200 shares
Jacob Aron, Trustee for Jack R. Aron	50 shares

10. The charter of J & H provided broad powers to engage in the business of buying, selling, and holding stocks, bonds, and other securities and the manufacturing of and dealing in merchandise, as well as in real and personal property.

11. It had been the fixed policy of Louisiana from the beginning of its organization to distribute currently as dividends a substantial part of its earnings. Aside from the stock dividend in 1922, New York did not declare or distribute any dividends during the period from 1914 to December 1930.

12. Aron, prior to the organization of J & H, had given his wife, Hortense Aron, and his son, Jacob Aron, Jr., sometimes referred to as Jack R. Aron, a number of shares of Louisiana, which were increased by the declaration of the stock dividend in December 1922.

13. On or about December 29, 1922, the authorized capital stock of J & H was increased from 500 to 10,000 shares. At a special meeting of the stockholders of J & H held on December 29, 1922, Aron, among other things, stated:

* * * the purpose prompting the organization of the J. & H. Aron Corporation was so as to provide an organization in the nature of an Aron Foundation whereby said corporation could engage in various business enterprises in conformity with the powers enjoyed by it under its Charter, especially such business enterprises in which the direct members of the family of J. Aron might be or become interested or in which collateral relatives of said family by blood or marriage might be or become interested * * *. Aron then went on to state that accordingly the stockholders of J & H desired to transfer certain securities which they owned to J & H in consideration for 9,500 shares of J & H, provided J & H would consider the transfer as taking place on July 24, 1922, and agree to accept any income, profit, or loss accruing subsequent to that date, and that:

* * * he wished it to be noted on the minutes that the transfer of the shares in other corporations to the J. & H. Aron Corporation was an exchange pure and simple wherein the stockholders in receiving the ninety-five hundred shares of the capital stock of the J. & H. Aron Corporation thereby suffered a change in form without a change in substance - in other words, where prior to the exchange they owned certain shares of the capital stock in other corporations, after the exchange they still owned shares of the capital stock of the J. & H. Aron Corporation without suffering neither profit nor loss in the transaction, nor could there be profit or loss until the shares of the J. & H. Aron Corporation so received in the exchange were converted into cash at some time in the future by the respective owners thereof.

The offer was accepted and the 9,500 new shares were issued as follows:

Shares	Issued to	In consideration for
		2,740 J. Aron & Co. (La.) pfd.
		100 Central Aguirre Sugar Co.
		1,200 Consolidated Gas Co. (N.Y.)
		1,000 International Merc. Marine pfd.
		1,000 Corn Products Refining Co. com.
4,800	Jacob Aron	500 New York Central R.R. Co.
		1,000 Sinclair Consolidated Oil Corp.
		1,000 Southern Pacific Co.
		1,000 Texas Co.
		500 Texas Gulf Sulphur Co.
		720 Union Oil Co. of California.
2,700	Hortense Aron	2,000 J. Aron & Co. (La.) com.
2,000	Jacob Aron as trustee for Jack R. Aron.	1,908 J. Aron & Co. (La.) com.
9,500

The above securities, other than the preferred stock of Louisiana, transferred to J & H by Jacob Aron constituted less than one-half of his holdings and represented investments of dividends from Louisiana.

14. At a meeting of the directors of J & H held on December 29, 1922, Aron acted as chairman and announced, among other things, as follows:

The purpose in organizing the J. & H. Aron Corporation was to provide a perpetual entity to serve the interests of the immediate family of Jacob Aron and relatives, by blood or marriage of said members now living or hereafter acquired, through the ownership of property both real and personal, business enterprizes and otherwise and to maintain and operate the same if so desired; * * *

15. The only income received by J & H in 1922 was from dividends in the amount of $15,696.95 on stock transferred to it, which amount had been received by Aron between July 24 and December 28, 1922, and was paid to J & H by Aron in accordance with the agreement of transfer.

16. During the period from July 21, 1922, to October 16, 1925, the net income of J & H amounted to $560,886.70. This income was derived chiefly from dividends and also from interest, rents, and gain from the sale of securities. The rental income was received from Aron on the residence and yacht which were used by the Aron family.

17. During the years 1923 and 1924, J & H borrowed money from its stockholders, New York and J. Aron & Co., Limatada, so that at the end of each year the indebtedness of J & H to such creditors, including the original mortgage to Aron of $190,000, was as follows:

Creditor	1923	1924
Jacob Aron	$356,938.20	$569,081.63
Hortense Aron	17,744.00	49,355.22
Jack R. Aron		31,458.78
J. Aron & Co. (N.Y.)	25,000.00
J. Aron & Co., Limatada	282,336.72	59,200.00
Total	682,018.92	709,095.63

18. J. Aron & Co., Limatada, was a Brazil corporation in which Aron owned the controlling interest.

19. Aside from the $190,000 mortgage, $77,000 of the money borrowed by J & H was used to purchase furniture and fixtures and a yacht. The balance was borrowed to purchase additional investments. None of it was used to buy additional stock in Louisiana.

20. During the period from July 21, 1922, to October 16, 1925, J & H declared no dividends, but allowed its gains and profits to accumulate and to be used to acquire more securities. Instead of buying securities themselves, the stockholders would loan money to J & H so it could buy and hold the securities.

21. In May 1925 the California branch of New York was incorporated under the laws of California as J. Aron & Co., Inc. (Calif), sometimes referred to as California. The capital stock of this corporation was issued chiefly to New York and the balance to two California associates in the business. In February 1935 the Illinois branch of New York was incorporated under the laws of Illinois as J. Aron & Co., Inc. (Ill.). All of its capital stock was issued to New York.

22. In October 1925, Aron decided to divide the properties of J & H between two new holding companies, the petitioner and Hamptworth. This was accomplished in the manner as set forth in the next four paragraphs.

23. Hamptworth was incorporated under the laws of New York on October 13, 1925, with an authorized capital stock of $100,000 divided into 1,000 shares of the par value of $100 each. One-half of the authorized stock, including the shares subscribed for by the incorporators, was issued on October 16, 1925, for $50,000 in cash to the following:

Jacob Aron	253 shares
Hortense Aron	145 shares
Jacob Aron, as trustee for Jack R. Aron	102 shares

24. On the same day, October 16, 1925, J & H transferred its real estate as improved and all personal property used in connection therewith to Hamptworth for $50,000 in cash and the assumption of a mortgage of $266,691.53 held by Aron.

25. The Stanton Corporation (petitioner herein) was incorporated under the laws of Delaware on October 14, 1925, with an authorized capital stock of $1,000,000 divided into 10,000 shares of the par value of $100 each. One-half of the authorized stock, including the shares subscribed for by the incorporators, was issued on October 16, 1925, to the stockholders of J & H for their 10,000 shares of stock in that corporation, as follows:

Stockholder	Shares of petitioner issued	In consideration for shares of J & H
Jacob Aron	2,525	5,050
Hortense Aron	1,450	2,900
Jacob Aron as trustee for Jack R. Aron	1,025	2,050
Total	5,000	10,000

26. On the same day, October 16, 1925, J & H transferred all of its assets, including the consideration it had just received from Hamptworth for the real estate, to petitioner in consideration of one dollar and the assumption by petitioner of all the liabilities of J & H. Thereafter, on the same day, at a special meeting of the stockholders of J & H it was "FURTHER RESOLVED that the stockholders do hereby consent that this corporation be dissolved."

27. The amount of the surplus of J & H acquired by petitioner on October 16, 1925, was the same as the net income of J & H during the period from July 21, 1922, to October 16, 1925, namely, $560,886.70.

28. The nature of the business, or objects or purposes proposed to be transacted, promoted, or carried on by the petitioner, is stated in paragraph third of its certificate of incorporation. This third paragraph contains 13 clauses. Under these clauses, which are very broad and allinclusive, petitioner was empowered to engage in almost any kind of a business it desired. The last two clauses of paragraph third are as follows:

In general, to carry on any other business in connection with the foregoing, whether manufacturing or otherwise, and to have and exercise all the powers conferred by the laws of Delaware upon corporations formed under the act hereinafter referred to, and to do any or all of the things hereinbefore set forth to the same extent as natural persons might or could do.

The foregoing clauses shall be construed both as objects and powers; and it is hereby expressly provided that the foregoing enumeration of specific powers shall not be held to limit or restrict in any manner the powers of this corporation.

29. After the transfer of the Long Island real estate to Hamptworth the latter began further to improve the property as a country estate for the use of the Aron family. It also purchased a yacht and did some trading in commodities. It borrowed a substantial amount of the funds needed for these purposes from petitioner. No interest was ever paid by Hamptworth on the money borrowed, nor on the mortgage of $266,691.53 held by Aron. After the transfer of the property to Hamptworth, Aron continued the policy originating with J & H of renting the property from the corporation.

30. At the end of 1934 Hamptworth was indebted to petitioner in the amount of $1,222,575.48. In order to liquidate this indebtedness, the stockholders of Hamptworth in 1935 organized the Bristol Associates, Inc., and caused Hamptworth to sell its property to the Bristol Associates, Inc., and then to apply the proceeds from the sale on the indebtedness. Hamptworth was then dissolved on December 27, 1935. In the year 1935 petitioner charged off against its yearly operations bad debts in the amount of $496,933.18, and thereafter it did not carry in its balance sheet any amount as due from Hamptworth.

31. When the stock of Louisiana was given by Aron to his wife and in trust for his son, which stock was subsequently transferred to J & H and then to petitioner, the certificates were not transferred in their names, or in the names of the corporations, but remained in Aron's name as nominee. All the securities which were owned by petitioner were likewise carried in Aron's name as nominee.

32. Aron was the active head of petitioner, and for his services he never received any salary prior to 1933. In conducting petitioner's business Aron kept in touch with the stock market and gave all instructions to buy and sell. Aron likewise determined to whom loans would be made by petitioner and for what purposes petitioner would borrow money. Aron seldom consulted his wife with respect to his actions but did discuss them to a limited extent with his son. In the course of its security trading petitioner bought from and sold securities to its stockholders. In these transactions the stock certificate was not transferred but was taken from one safe deposit box and placed in another - each stockholder and the corporation having a separate box - but the actual certificate remained in Aron's name as nominee.

33. In the conduct of its business petitioner borrowed without interest certain amounts from its stockholders for the purpose of buying securities and making loans to Hampworth.

34. At the time Feingold acquired the 867 shares (6.67 percent) of New York, hereinbefore mentioned, he and Aron entered into a written agreement dated May 11, 1918. By this agreement Aron sold partly on credit to Feingold 6 2/3 percent of the stock of New York for a price equal to the book value thereof as of May 31, 1918. Feingold, who was then employed by Louisiana, agreed to move to New York City and to devote his time and energy to the affairs of New York. Aron guaranteed that Feingold would receive either in dividends or in salary not less than $50,000 per year for the period from June 1, 1918, to December 31, 1923, Feingold being entitled to determine the allocation between dividends and salary, but in any event to receive an annual salary of $15,000. In the event of the withdrawal of Feingold from participation in the affairs of New York, Aron was to purchase, and Feingold was to sell, the stock held by him at its then book value, but not less than the amount paid therefor. Aron agreed that upon request by Feingold he would vote at the meeting of the directors of New York following the close of any fiscal year for:

* * * the declaration and payment of a dividend sufficient to distribute among the stockholders of said corporation the surplus accumulated by said corporation after May 31st, 1918, and available for the payment of dividends, as such surplus and earnings are shown by the inventory, accounts and books of the corporation taken as of the close of such fiscal year. If for any reason such dividends are not declared and paid upon the request of the party of the second part, as herein provided, party of the first part shall, at the request of party of the second part, pay party of the second part such sum as would have been received by the party of the second part had the dividends actually been declared and paid.

35. The agreement of May 11, 1918, was extended for different periods and at different guaranteed amounts in July 1924, April 1926, December 1928, and September 1930. The last extension was to December 31, 1933. None of the subsequent agreements changed the option contained in the May 11, 1918, contract with respect to Feingold's having an election to receive compensation as salary or dividends or Aron's agreement to vote for a dividend upon Feingold's request.

36. During the period from 1918 until the end of 1930 Feingold withdrew amounts in excess of his salary. As no dividends were paid during this period these amounts were charged to Feingold's account. A number of times during that period Feingold advocated the declaration of dividends so that he could liquidate his indebtedness, but until the latter part of 1930 Aron had been able to dissuade him from demanding dividends. About September 1930 Feingold contemplated a trip to South America and was anxious to clean up his account. Feingold insisted on a dividend sufficient to wipe out his debit balance, which was then over $120,000, and matters came to a showdown. As a result of his standing upon his right under the contract to receive dividends, and pursuant to his wish to divide the payment between two years, a dividend at $30 a share, or $900,000, was declared by New York in December 1930, and a further dividend of $900,000 was declared in 1931.

,37. In 1916 Aron had sold 3 of his 2,700 shares in New York. This left him with 2,697 shares, which, added to the 8,243 shares acquired in 1918 and the 1922 stock dividend of 14,306 shares, brought his holdings in this company up to 25,246 shares at the end of 1922. In 1929 he purchased 500 additional shares.

38. During 1930, but prior to the declaration of the $30 per share dividend in December, Aron transferred 25,000 of his 25,746 shares of New York to petitioner in consideration for 2,417 shares of petitioner's capital stock.

39. Upon the declaration of the dividends in 1930 and 1931 New York did not part with any money, except for small amounts to minority stockholders, for the share of Feingold amounting to $60,030 in each year was applied as a credit against his debit balance, and petitioner's share, amounting to $750,000 in each year, was credited to its account. These distributions would not have been made if Feingold had not insisted on them.

40. Feingold's insistence on the dividend distributions of 1930 and 1931 led to other differences of opinion with Aron, which resulted in Feingold severing his connection with the Aron companies in the latter part of 1932. A settlement was made with him pursuant to his contract and his stock in New York was taken over in the name of Jack R. Aron for the price of $378,000, the funds for the purchase being furnished by New York. In 1937 Jack R. Aron transferred the stock to New York at the same price in payment of the loan.

41. Aron was indebted to New York at the end of the years 1929 to 1932, as follows:

1929	$982,491.89
1930	786,740.69
1931	787,837.05
1932	723,475.26

42. Hortense Aron was indebted to petitioner on December 31, 1929 and 1930, in the respective amounts of $22,692.49 and $56,176.07. Petitioner was indebted to its stockholders at the end of the years 1929 to 1932, as follows:

Stockholder	1929	1930	1931	1932
Jacob Aron	$983,172.30	$784,115.36	$801,925.76	$1,087,252.11
Hortense Aron			116,991.77	170,485.38
Jack R. Aron	252,205.55	45,674.67	289,989.77	460,187.05

43. New York was indebted to petitioner on December 31, 1931, in the amount of $534,238.27 after crediting to petitioner in that year a dividend of $750,000. Petitioner was indebted to New York at the end of the years 1925 to 1930 and 1932, as follows:

1925	$1,542.35
1926	70,104.68
1927	375,181.97
1928	709,289.98
1929	$879,394.90
1930	185,719.36
1932	276,790.58

44. New York, Louisiana, and California have borrowed from banks more or less continuously. Aron has personally guaranteed the larger loans since 1915. The amounts of the loans from 1929 to 1934 were approximately as follows:

Year	New York	Louisiana	California	Total
1929	$2,603,348	$717,925	$263,372	$3,584,645
1930	1,049,987	826,576	264,715	2,141,278
1931	963,857	938,725	231,267	2,133,849
1932	623,821	739,161	130,389	1,493,371
1933	2,957,150	938,704	268,200	4,164,054
1934	1,405,753	887,073	298,971	2,591,797

45. Prior to 1933 petitioner had never loaned New York or Louisiana any money or securities, but on the contrary had borrowed from New York. In February 1933 petitioner's board of directors authorized a loan to New York of an amount not in excess of $2,000,000 in cash and $1,500,000 in securities. In December of the same year Louisiana requested a loan of $100,000. Pursuant to the aforementioned authority New York and Louisiana borrowed from petitioner and were indebted to petitioner at the end of the years 1933 to 1937, inclusive, as follows:

	New York
Year	Cash	Securities	Louisiana
1933	$1,221,556.09	$825,000	$100,000.00
1934	1,287,055.89	625,000	103,164.38
1935	1,093,817.76	695,000	150,829.16
1936	747,031.13	695,000	350,000.00
1937	747,000.00	695,000	350,000.00

46. In the conduct of its business New York would deposit cash and securities as margin on its commodity contracts. These deposits at the end of the years 1930 to 1933 were as follows:

Year	Cash	Securities (cost)
1930	$7,000	$428,532.97
1931	7,000	428,532.97
1932	7,000	440,454.84
1933	271,700	254,159.36

47. At the end of the years 1930 to 1933, New York owned securities other than stock in subsidiaries as follows:

Securities	1930	1931	1932	1933
City of New York bonds		$300,000.00
United States bonds and certificates	$974,489.18	1,130,973.56	$440,598.55	$254,159.36
Cook products Corp. (common stock)	500,000.00	500,000.00	500,000.00	500,000.00
Theo. Wille & Co. (stock)		370,842.00	370,842.00	370,842.00
Other securities	621,547.28	242,688.50	146,881.00	88,143.50
Total	2,096,036.46	2,544,504.06	1,458,321.55	1,213,144.86

48. At the end of the years 1930 to 1933, petitioner owned securities other than stock in subsidiaries as follows:

Securities	1930	1931	1932	1933
United States bonds and certificates	$203,218.75	$848,906.26	$2,280,310.33	$1,252,632.20
Other securities	1,606,190.03	896,080.54	1,120,320.60	860,671.66
Total	1,809,408.78	1,744,986.80	3,400,630.93	2,113,303.86

49. Securities owned by Louisiana were $153,301.96 for 1930, $167,229.95 for 1931, $369,454.27 for 1931, and $20,316 for 1933.

50. In June 1933 petitioner was authorized by its directors to make loans of securities to bankers, brokers, and others because it had surplus funds which were not needed in its business. In accordance with the authorization certain stocks, notably United States Steel and American Tel. & Tel. stock, were loaned to brokers because the premiums they commanded were substantial.

51. On December 31, 1932, petitioner declared a stock dividend of 22,251 shares of its stock on the basis of three shares for each share of stock outstanding, and thus reduced its surplus by $2,225,100.

52. The assets and liabilities of petitioner on December 31, 1930, 1931, 1932, and 1933, with an analysis of surplus, were as follows:

	1930	1931	1932	1933
ASSETS
Cash	$16,446.55	$15,831.02	$41,243.99	$13,112.67
Call loans		125,000.00
Accounts receivable:
New York		534,238.27		1,375,000.00
Louisiana				100,000.00
95 Wall	482,841.76	482,841.76	482,841.76	482,841.76
H. Aron	56,176.07
Hamptworth	988,956.29	1,055,064.73	1,247,684.73	1,257,441.85
Others	37,748.71	374,564.65	115,545.08	77,817.06
Securities:
New York	241,700.00	241,700.00	241,700.00	241,700.00
Louisiana	395,593.23	395,593.23	401,000.00	4o1,000.00
Others	1,809,408.78	1,744,986.80	3,400,630.93	2,113,303.86
Exchange membership	2,500.00	2,500.00	3,500.00	2,500.00
Total	4,031,371.39	4,972,320.46	5,934,146.49	6,064,717.20

	1930	1931	1932	1933
LIABILITIES
Accounts payable:
New York	185,719.36		276,790.58	153,443.91
J. Aron	784,115.36	801,925.76	1,087,252.11	1,162,899.15
H. Aron		116,991.77	170,485.38	191,323.02
J. R. Aron	45,674.67	289,989.77	460,187.05	488,516.79
Mrs. Herman Aron	119,150.38	126,369.08	131,493.31	136,779.76
Others	22,695.25	41,390.22	125,866.15	103,773.71
Capital stock	741,700.00	741,700.00	2,966,800.00	2,966,800.00
Surplus	2,132,316.37	2,853,953.86	715,271.91	861,180.86
Total	4,031,371.39	4,972,320.46	5,934,146.49	6,064,717.20
ANALYSIS OF SURPLUS
Opening surplus	1,740,478.57	2,132,316.37	2,853,953.86	715,271.91
Net income	762,687.80	907,062.49	116,086.05	353,584.95
Cash dividends (to be subtracted)	370,850.00	185,425.00	29,668.00	207,676.00
Stock dividends (to be subtracted)			2,225,100.00
Closing surplus	2,132,316.37	2,853,953.86	715,271.91	861,180.86

53. Petitioner's income and expenses (including losses from sales of securities) as shown by its books for the years 1930 to 1933 are as follows:

	1930	1931	1932	1933
Income:
Interest exempt from tax	$1,310.42	$11,392.96	$53,337.10	$66,929.96
Interest taxable	7,371.49	9,644.10	30,278.00	61,400.84
Dividends:
Louisiana	94,900.00	50,320.00	19,920.00	19,920.00
New York	750,000.00	750,000.00		150,000.00
Other companies	146,066.72	97,237.58	51,627.40	49,859.88
Gain from sales of securities		533.90		9,946.73
Liquidating dividends on defunct corporation			1,040.00
All other income				3,053.47
Total gross income	999,648.63	919,128.54	156,202.50	361,110.88
Expenses (including losses):
Interest	6,982.73	7,365.61	5,206.79	5,567.10
Loss from sales of securities	228,035.53		31,637.54
Federal income tax	981.41	219.05
Other taxes	50.00	50.00	2,315.38	567.41
Miscellaneous	911.16	4,431.39	956.74	1,391.42
Total expenses	236,960.83	12,066.05	40,116.45	7,525.93
Net income	762,687.80	907,062.49	116,086.05	354,584.95

54. The amount of gains and profits available for distribution, cash dividends paid, and percent of gains and profits paid as dividends, of J & H and petitioner for the years 1922 to 1933, were as follows:

Corporation	Year	Gains and profits available for distribution	Cash dividends paid	Percent of gains and profits paid as dividends
J & H	1922	$774.65	None	None
J & H	1923	228,767.99	None	None
J & H	1924	299,679.84	None	None
J & H	1925	31,664.22	None	None
Subtotal		560,886.70	None	None
Petitioner	1925	458,878.01	None	None
Petitioner	1926	342,430.78	$100,000	29.203
Petitioner	1927	184,694.30	50,000	27.072
Petitioner	1928	321,888.26	100,000	31.067
Petitioner	1929	246,700.52	125,000	50.669
Petitioner	1930	762,687.80	370,850	48.624
Petitioner	1931	907,062.49	185,425	20.443
Petitioner	1932	116,086.05	29,668	25.557
Petitioner	1933	353,584.95	207,676	58.734
Total		4,254,899.86	1,168,619	27.465

55. The shareholders of petitioner and of J & H, respectively, did not include in their gross income their entire distributive shares of the respective corporation's net income for the years 1922 to 1932, inclusive.

56. The net income, dividends declared (exclusive of the stock dividend of $1,700,000 in 1922), surplus adjustments, and accumulated surplus at the end of the period, of New York were as follows:

Year or period	Net income	Dividends	Surplus adjustments	Accumulated surplus at end of period
1915 to 1918	$1,876,561.48	None	None	$1,876,561.48
1919 to 1922	441,771.73	None	$171,515.95 cr.	2,489,849.16
1923 to 1925	1,213,663.71	None	None	3,703,512.87
1926 to 1930	1,820,804.56	$900,000	27,473.85 dr.	4,596,843.58
1931	125,705.89	900,000	None	3,822,549.47
1932	95,762.05	None	None	3,918,311.52
Total	5,574,269.42	1,800,000	144,042.10 cr.

57. The net income, dividends declared (exclusive of the stock dividend of $300,000 in 1922), surplus adjustments, and accumulated surplus at the end of the period, of Louisiana were as follows:

Year or period	Net income	Dividends	Surplus adjustments	Accumulated surplus at end of period
1915 to 1921	$750,418.53	$400,268.60	$40,315.47 cr.	$390,465.40
1922 to 1925	1,448,302.14	1,076,640.00	83,625.16 dr.	678,502.38
1926 to 1932	646,846.49	944,000.00	8,205.16 cr.	389,554.03
Total	2,845,567.16	2,420,908.60	35,104.53 dr.

58. In December 1928 New York purchased for $500,000 a one-third interest in the common stock of the Cook Products Corporation, which was engaged in retailing coffee and other products to the consumer in the vicinity of Detroit and Cleveland. After 1933 this stock was sold to the stockholders of petitioner for cash at its cost in order to furnish New York with more working capital.

59. In March 1931 New York purchased for $370,842 a 20 percent interest in the stock of Theodore Wille & Co. of Brazil, whose business consisted of buying coffee in Brazil and shipping it to the United States and other countries.

60. About 1932 Louisiana purchased the Himalaya Refinery, an abandoned sugar processing plant, for $25,000, although this plant represented an original investment of about $400,000. Louisiana rebuilt the plant and in 1933 began to operate it. It then looked as if the investment would be larger than originally anticipated, and, rather than imperil the coffee business and risk the impairment of the capital of Louisiana, Aron and the vice president of Louisiana each guaranteed it to the extent of $60,000, or a total of $120,000, against loss in the operation of the refinery.

61. A part of the business of New York and Louisiana and the subsidiaries of the former has always consisted of selling coffee and other merchandise form their inventories. These inventories were hedged on the coffee exchanges and other commodity exchanges. The purchase and sale of contracts for future delivery is a normal and ordinary part of the business in which these companies engages. Each contract for future delivery on the various commodity exchanges requires the deposit of a guaranty fund or original margin, which may be in cash or in Government bonds. So long as that contract is in force the original margin must be maintained and fluctuations in prices from day to day may require the deposit of additional margins in cash. Margin calls must be met immediately. Upon one occasion in 1930 New York was required to deposit approximately $700,000 on cocoa within the day. As trading is done every day, in practice original margins are allowed to remain, because on the average they are needed all the time. If a decision is made to decrease the amount of transactions, some of the margin is drawn down, and if it is planned to deal in more contracts, more margin is deposited. These contracts for future delivery were not not carried in the inventory, but as opne contracts.

62. During 1931 and 1932 New York was the third largest importer of Brazil coffee through New York City, having imported 448,790 and 285,803 bags, respectively, during those years.

63. As of the end of each year from 1929 to 1934 the total inventory of New York, and the coffee, raw sugar, cocoa beans, and other items, respectively, included in such inventory, were as follows:

Year	Total inventory	Coffee	Raw sugar	Cocoa beans	Other items
1929	$3,382,006	$1,799,214	$1,279,389	$303,403	None
1930	2,314,054	906,742	1,289,727	117,585	None
1931	2,596,300	1,921,265	180,794	234,334	$259,907
1932	1,979,080	814,919	188,667	447,198	528,296
1933	5,949,040	1,146,881	936,544	850,815	3,014,800
1934	4,613,538	1,269,626	368,688	937,945	2,037,279

64. As of the end of each year from 1931 to 1934, the liability of New York and Louisiana under letters of credit for coffee purchases not yet received on December 31, such liabililty not appearing in the respective balance sheets, was as follows:

Year	New York	Louisiana
1931	$544,532	$442,655
1932	551,433	356,085
1933	1,146,336	477,572
1934	79,498	347,120

65. For the years 1931 and 1932 petitioner filed its Federal income tax returns on the cash basis with the collector for the second New York collection district, reporting thereon net losses of $1,669 and $3,124.78, respectively. The respondent determined that petitioner was subject to tax under section 104 of the Revenue Acts of 1928 and 1932, and increased the income reported by petitioner for the years 1931 and 1932 as follows:

	1931	1932
Net income (loss) reported on return	($1,669.00)	($3,124.78)
Unallowable deductions and additional income:
Loss on sale of securities		31,522.14
Adjustment of profit on sale of stock of Texas Gulf Sulphur Co		3,685.54
Adjusted net income (loss) subject to tax under sec. 13, Revenue Acts of 1928 and 1932	($1,669.00)	$32,082.80
Add:
Dividend deduction	897,557.58	71,547.40
Interest on U.S. obligations	11,392.96	51,483.11
Income subject to tax under sec. 104(c), Revenue Acts of 1928 and 1932	907,281.54	155,113.31

66. Aron has at all times been the president of petitioner and of the other Aron companies. The salaries paid Aron by New York and Louisiana from 1925 to 1933 were as follows:

Year	New York	Louisiana
1925	$84,000	$40,000.00
1926	84,000	15,000.00
1927	84,000	15,000.00
1928	84,000	15,000.00
1929	84,000	15,000.00
1930	$84,000	$15,000.00
1931	84,000	13,875.00
1932	72,000	10,500.00
1933	60,000	8,093.75

67. The amounts payable or receivable (receivables are shown in parenthesis) by petitioner, New York, Louisiana, and 95 Wall, to or from the Aron family (consisting of Jacob Aron, his wife, Hortense; his son, Jack R.; and his mother, Mrs. Herman Aron), as the case may be, at the end of the years 1925 to 1937 were as follows:

Year	Petitioner	New York	Louisiana
1925	$900,058.71	($1,036,702.34)	($379,535.68)
1926	511,125.43	(890,011.88)	(263,907.84)
1927	582,068.60	(978,928.44)	(157,053.36)
1928	463,589.46	(955,857.08)	(199,050.50)
1929	1,325,015.46	(970,872.98)	(191,963.14)
1930	892,764.34	(774,439.58)	3,243.09
1931	1,335,276.38	(774,929.14)	12,087.21
1932	1,849,417.85	(1,092,894.17)	19,891.71
1933	1,979,518.72	(1,049,314.07)	5,098.71
1934	2,113,394.34	(1,007,527.82)	49,038.10
1935	551,252.11	(610,145.69)	55,821.71
1936	128,636.79	(683,100.90)	40,050.27
1937	111,520.00	(270,072.35)	461.27

68. The amounts receivable or payable (here payables are shown in parenthesis) by petitioner and New York from or to Hamptworth, as the case may be, at the end of the years 1925 to 1934 were as follows:

Year	Petitioner	New York	Net amount
1925	$10,851.21	($11,524.43)	($673.22)
1926	519,361.08	(12,973.62)	506,387.46
1927	671,229.42	29,947.24	701,176.66
1928	823,697.24	34,082.94	857,780.18
1929	892,266.13	38,157.84	930,423.97
1930	988,956.29	15,849.55	1,004,805.84
1931	1,055,064.73	15,851.90	1,070,916.63
1932	1,247,684.73	5,849.51	1,253,534.24
1933	1,257,441.85	5,851.47	1,263,293.32
1934	1,222,575.48		1,222,575.48

69. The surtaxes which would have been paid, on the basis of income tax returns filed, by the shareholders of J & H and petitioner for the years 1922 to 1932 if the gains and profits of J & H and petitioner had been distributed in the form of dividends in the years when earned, instead of being accumulated, are as follows:

Year	Jacob Aron	Hortense Aron	Jack R. Aron	Total
1922	$43.03	$24.71	$6.35	$74.09
1923	36,541.76	11,598.90	6,202.10	54,342.76
1924	49,831.23	23,578.08	14,227.45	87,636.76
1925	48,519.85	28,076.55	19,914.08	96,510.48
1926	23,509.91	11,960.18	8,353,78	43,823.87
1927	12,225.44	5,506.64	4,106.77	21,838.85
1928	18,684.15	8,787.56	5,353.05	32,824.76
1929	9,646.08	3,863.16	2,466.04	15,975.28
1930	52,075.52	15,172.93	7,430.98	74,679.43
1931	96,165.41	22,243.45	14,745.94	133,154.80
1932	25,625.37	1,477.81	2,308.30	29,411.48
Total	372,876.75	132,289.97	85,114.84	190,272.56

70. Petitioner was formed in 1925 for the purpose of preventing the imposition of the surtax upon its shareholders through the medium of permitting its gains and profits to accumulate instead of being divided or distributed.

71. During the taxable years 1931 and 1932 petitioner was a mere holding or investment company.

72. During the taxable years 1931 and 1932 petitioner permitted its gains and profits to accumulate beyond the reasonable needs of the business.

73. During the taxable years 1931 and 1932 petitioner was availed of for the purpose of preventing the imposition of the surtax upon its shareholders through the medium of permitting its gains and profits to accumulate instead of being divided or distributed.

OPINION.

BLACK: The sole issue for us to decide in this proceeding is whether petitioner is subject to taxation under section 104 of the Revenue Acts of 1928 and 1932. The material provisions of both acts are identical and are printed in the margin. ^{*1428 The applicable regulations are articles 541, 542, and 543 of Regulations 74 and 77, respectively, as they were promulgated on February 15, 1929, and February 10, 1933, respectively. These articles in both regulations are identical, with the exception of two instances which are not material here. Articles 541, 542, and 543 of Regulations 74, in so far as is material, are printed in the margin. *1429 The question whether petitioner was formed or availed of for the purpose mentioned in section 104 is one of ultimate fact rather than law. Our function is to draw inferences, to weigh the evidence, and to declare the result. The respondent's determination that section 104 applies is presumed to be correct until the contrary appears from the evidence. Section 104(b) mentions certain facts, which, if any one is present, shall be prima facie evidence of the condemned purpose. The presumption thus arising under subsection (b) is in addition to the presumption of correctness attaching to the respondent's determination. Any of these presumption that may exist are rebuttable, however, and the respondent can not prevail if there is satisfactory proof that petitioner was neither formed nor availed of for the purpose mentioned in the statute. Olin Security Co.,42 B.T.A. 1203">42 B.T.A. 1203, and cases therein cited.}

Although the respondent did not indicate in his deficiency notice the ground upon which his determination was based other than that petitioner was "subject to taxation under the provisions of section 104", he now contends that the evidence shows (1) that during the taxable years in question petitioner was a mere holding or investment company, (2) that during those years petitioner permitted its gains or profits to accumulate beyond the reasonable needs of the business, (3) that petitioner was formed for the disapproved purpose, and (4) that during the taxable years petitioner was availed of for the same purpose. We shall consider these contentions in the order named.

1. The words "mere holding or investment company" are not defined in the statute. Petitioner relies upon the interpretation afforded by artice 542, supra, and contends that petitioner's business, addition to "holding stocks, securities, or other property and collecting the income therefrom or investing therein", must also be regarded as including the business being conducted by New York and Louisiana, and when so viewed it can not be found to be a mere holding or investment company, citing in support thereof Mellbank Corporation,38 B.T.A. 1108">38 B.T.A. 1108, and Industrial Bankers Securities Corporation v. Higgins, 104 Fed.(2d) 177. We do not think, however, that the businesses being conducted by New York and Louisiana may be considered in substance the business of petitioner. Article 542 in this connection provides: "To establish that the business of one corporation can be regarded as including the business of another it is ordinarily essential that the first corporation own substantially all of the stock of the second." Petitioner did not own substantially all of the stock of either New York or Louisiana. The term "substantially all" as construed by the courts has been generally held to include percentages in excess of 90 percent, and there is almost complete uniformity in the decisions to the effect that 85 percent is not substantially all. See sec. 38.94, vol. 4, Paul and Mertens; Burnet v. Bank of Italy, 46 Fed.(2d) 629; certiorari denied, 283 U.S. 846">283 U.S. 846. During the taxable years in question section 141 of the Revenue Acts of 1928 and 1932 required an ownership of at least 95 percent as a prerequisite to file consolidated returns. During these years petitioner owned only 83 1/3 percent of the stock of New York and 50.7 percent of the common stock and 83 percent of the preferred stock of Louisiana. It filed its returns for 1931 and 1932 on a separate basis, and we think that whether it was a mere holding or investment company must be determined upon the basis of its separate business, exclusive of the business of New York and Louisiana. In this manner petitioner was quite different from the taxpayer in Industrial Bankers Securities Corporation v. Higgins, supra.In that case the taxpayer owned 100 percent of the stock of the subsidiaries there involved.

In so holding we have not overlooked the phrase "ordinarily essential" in the quoted sentence from article 542. No doubt the effect that phrase was intended to have was that in some cases the business of one corporation might be regarded as including the business of another, even though the first corporations might own a little less than "substantially all" of the stock of the second. We think, however, that these exceptional cases were intended to be limited to those where, as stated in a previous sentence of article 542, the first corporation "in effect operates the other corporation." In this connection petitioner argues that it was "a management, a financing and, in a broad but very real sense, an insurance company." The record does not show that petitioner exercised any managerial control over either the New York or the Louisiana company, or in effect operated them. These companies had their own officers and boards of directors, who developed their policies and carried on their activities. True, Aron, who was a member of all the boards, was instrumental in developing the policies of all the companies, but this fact does not place petitioner in the business of managing, supervising, and operating those companies, as was the situation in Mellbank Corporation, supra.

In Chicago Stock Yards Co.,41 B.T.A. 590">41 B.T.A. 590, the Board, in referring to the phrase "mere holding or investment company", said:

* * * It was apparently the intention of Congress in using the phrase to differentiate a holding or investment company actively engaged in a trade or business from one which has income only from interest and dividends and profits from the sale of securities, and limits its activities to those incident to an ordinary holding or investment company.

During the taxable years 1931 and 1932, petitioner's income consisted exclusively of interest, dividends, and gains from the sales of securities for its own account. Its expenses consisted of interest, taxes, and a few miscellaneous amounts. The itemized items of income and expenses are in our findings, which show that during these years petitioner's net available gains and profits amounted to $907,062.49 and $116,086.05, respectively. Of these amounts petitioner distributed as dividends $185,425 in 1931 and $29,668 in 1932, and accumulated the balance, which amounted to $808,055.54 for both years.

An examination of the evidence in our opinion shows that petitioner's principal activity in the taxable years and years prior thereto, aside from collecting interest and dividends and making a few sales of securities for its own account, was borrowing money from the Aron family to purchase additional securities and to make loans to Hamptworth, which corporation owned the country estate occupied by the Arons. In our opinion these activities are no more than those incident to an ordinary holding or investment company and, when considered in the light of the fact that all of petitioner's stock as well as the stock of Hamptworth was owned by petitioner, his wife, and by petitioner in trust for his son, and also in the light of the fact that petitioner was organized mainly for the purpose of taking over the securities already held by J & H, undoubtedly a mere holding or investment company, we have no hesitation in finding as a fact that petitioner was a mere holding or investment company. Chicago Stock Yards Co., supra.

2. Did petitioner during the taxable years permit its gains or profits to accumulate beyond the reasonable needs of the business instead of dividing or distributing them? We have found as a fact that it did. Petitioner contends that our finding should be in the negative. It divides its argument on this phase of the case into two parts - first, that petitioner did not permit its gains and profits for the taxable years to accumulate at all, and, second, that the gains and profits were not at any time or in any event permitted to accumulate beyond the reasonable needs of the business.

There is no merit in petitioner's contention that it did not permit its gains and profits for the taxable years to accumulate at all. The evidence clearly shows that during 1931 and 1932 petitioner had gains and profits of $907,062.49 and $116,086.05, respectively, and that during these years it distributed $185,425 and $29,668, respectively. By simple subtraction it thus permitted its gains and profits for these years to accumulate in the respective amounts of $721,637.49 and $86,418.05, instead of being divided or distributed.

Petitioner contends, however, that only a part of the $907,062.49 and $116,086.05 represents gains and profits of the taxable years. It argues that since $800,320 of the $907,062.49 represents dividends from New York and Louisiana, and, since $19,920 of the $116,086.05 represents dividends from Louisiana, these dividends can only be considered as gains and profits of the taxable years to the extent that they represent profits of New York and Louisiana for the taxable years. Petitioner then makes an analysis of the net income and distributions of New York and Louisiana for several years and comes to the conclusion that of the $750,000 dividend received by petitioner during 1931 from New York only $104,754.90 represented 1931 profits of New York and $645,245.10 represented profits accumulated by New York prior to 1929; that of the $50,320 dividend received by petitioner during 1931 from Louisiana only $7,275 represented 1931 profits of Louisiana and $43,045 represented profits accumulated by Louisiana in 1927; and that all of the $19,920 dividend received by petitioner during 1932 from Louisiana represented profits accumulated by Louisiana from 1925 to 1927. On this basis petitioner contends that its total gains and profits for 1931 and 1932 amounted to $314,938.44, computed as follows:

Miscellaneous income for 1931 ($907,062.49 minus $800,320)	$106,742.49
1931 Profits of New York	104,754.90
1931 Profits of Louisiana	7,275.00
Petitioner's 1931 gains and profits	218,772.39
Miscellaneous income for 1932 ($116,086.05 minus $19,920)	96,166.05
Total	314,938.44

Petitioner then contends that there should be added to the distributions of $185,425 in 1931 and $29,668 in 1932, $118,736.03 of the distribution by petitioner in May 26, 1933, in the amount of $207,676, on the ground that $88,939.97 of the 1933 distribution was from 1933 gains and profits and $118,736.03 from 1932 gains and profits. On this basis petitioner says it distributed during 1931 and 1932 a total amount of $333,829.03, which is in excess of the above amount of $314,938.44, thus proving, so petitioner contends, that it did not permit its gains and profits for the taxable years to accumulate at all.

The general rule in tax cases, as in other cases, is that a corporation and its stockholders are to be treated as separate entities. Burnet v. Clark,287 U.S. 410">287 U.S. 410, 415; Burnet v. Commonwealth Improvement Co.,287 U.S. 415">287 U.S. 415, 420; Dalton v. Bowers,287 U.S. 404">287 U.S. 404, 410. Cf. Mead Corporation v. Commissioner, 116 Fed.(2d) 187. Prior to the declaration of the dividends in 1931 and 1932 by New York and Louisiana, petitioner had no proprietary interest in the accumulated gains and profits of those companies. United States v. Phellis,257 U.S. 156">257 U.S. 156. But, when those dividends were declared by New York and Louisiana in 1931 and 1932, they became gains and profits of the petitioner to the extent of petitioner's stock ownership in the declaring companies. Lynch v. Hornby,247 U.S. 339">247 U.S. 339. Cf. Helvering v. Canfield,291 U.S. 163">291 U.S. 163, wherein the Court said:

* * * When a corporation continued in business after March 1, 1913, the dividends it later declared and paid to its stockholders, whether out of current earnings or from profits accumulated prior to that date, constituted income to the stockholders, and not capital, and were taxable as income if the Congress saw fit to impose the tax. Lynch v. Hornby,247 U.S. 339">247 U.S. 339, 38 S. Ct. 543">38 S.Ct. 543, 62 L. Ed. 1149">62 L.Ed. 1149.

It follows that petitioner is in error in its contention that its share of the dividends of New York and Louisiana declared in 1931 and 1932 can only be considered as gains and profits in those years to the extent that they represent profits of New York and Louisiana for the taxable years. We think petitioner is also wrong in adding $118,736.03 distributed by petitioner to its stockholders May 26, 1933, to the distributions made in 1932, when as a matter of fact only $29,668 was actually distributed during that year. There is no basis for adding this $118,736.03 to the amount distributed in 1932.

In an attempt to show that it did not permit its gains and profits for the taxable years to accumulate at all, petitioner has also set out in its brief complicated schedules of income, deductions, and distributions on a so-called consolidated basis, in which petitioner's activities have been combined with the activities of New York, Louisiana, 95 Wall, Lafayette, and California. Suffice it to say that such schedules are not material in this proceeding, if for no other reason than that petitioner did not own substantially all the stock of any of the corporations named. The businesses of these corporations can not be regarded as the businesses of petitioner.

Neither is there any merit in petitioner's contention that its gains and profits were not at any time or in any event permitted to accumulate beyond the reasonable needs of the business. We have found as a fact that petitioner was a mere holding or investment company. Such a company has very little need, if any, for the accumulation of gains or profits. Cf. Williams Investment Co. v. United States,3 Fed.Supp. 225; Keck Investment Co.,29 B.T.A. 143">29 B.T.A. 143; affd., 77 Fed.(2d) 244; certiorari denied, 296 U.S. 633">296 U.S. 633; R. & L. Inc.,33 B.T.A. 857">33 B.T.A. 857; affd., 84 Fed.(2d) 721; certiorari denied, 299 U.S. 588">299 U.S. 588; Nipoch Corporation,36 B.T.A. 662">36 B.T.A. 662; Chicago Stock Yards Co., supra.In the latter case we said:

As a holding company, the petitioner had no need for the accumulation of gains and profits. In the ordinary holding or investment company the excess of income over expenses is either paid out in dividends or invested in additional income-producing assets. That is the use which the petitioner made of its excess income. That use can not be regarded within the reasonable needs of the business.

Up to December 31, 1930, the beginning of the taxable years in question, petitioner had accumulated gains and profits of $2,132,316.37, including $560,886.70 which it took over from J & H at the time petitioner was organized. Cf. Commissioner v. Sansome, 60 Fed.(2d) 931. During the taxable years it further accumulated its gains and profits in the total amount of $808,055.54, thus bringing its total accumulation of gains and profits on December 31, 1932, up to $2,940,371.91 on which date it declared a stock dividend of $2,225,100. Since the interests of petitioner's stockholders in petitioner were not changed by the stock dividend, the declaration of the latter has no bearing on the question now before us. Cf. Koshland v. Helvering,298 U.S. 441">298 U.S. 441.

Petitioner devotes practically all of its argument under this part to the contention that, in considering the needs of the business, we must consider the needs of the businesses of New York and Louisiana. The businesses of these concerns were not petitioner's businesses. It did not operate them. Cf. Olin Security Co., supra.Prior to 1933 petitioner had never loaned these companies any money or securities, but on the contrary had borrowed from New York. Beginning in 1933, petitioner did make substantial loans to New York and Louisiana. But, since Aron and his wife and son owned all of petitioner's stock, these loans could have been made by petitioner's stockholders if petitioner had distributed its gains and profits instead of permitting them to accumulate. Helvering v. National Grocery Co.,304 U.S. 282">304 U.S. 282.

In addition to the cases heretofore cited petitioner, in support of its argument on this phase of the case, relies strongly on Delaware Terminal Corporation,40 B.T.A. 1180">40 B.T.A. 1180, and also cites Charleston Lumber Co. v. United States,20 Fed.Supp. 83; appeal dismissed by Fourth Circuit at 93 Fed.(2d) 1018. The Delaware Terminal case is distinguishable from this proceeding for the same reasons we gave for distinguishing Industrial Bankers Securities Corporation v. Higgins, supra.The Delaware Terminal Corporation owned 100 percent of the stock of the Terminal Barber Shops, Inc., which corporation in turn owned 100 percent of the stock of approximately 14 subsidiaries. Petitioner did not own substantially all the stock of any of the Aron companies. Furthermore, the stock of the Delaware Terminal Corporation was not owned by a closely related family group, but by a group of business associates, the largest stockholder being Schusser, who owned a little less than 50 percent. Here all of the stock of petitioner was owned by a closely related family group - father, mother, and son. The Charleston Lumber Co. case involved an operating corporation and not a mere holding or investment company, such as we have found petitioner to be in the instant proceeding. In R. & L. Inc. v. Commissioner, supra, the court in affirming the Board, among other things, said:

* * * The only active business that the corporation engaged in was that in which it earned the commissions. That required no capital except the salary of the employee Bryan. There was no need of more capital to carry on business which prevented paying out its net profits in dividends. In 1927 and 1928 no reason is suggested for not declaring dividends except that the cash money received as income was put into additional stocks and real estate. This is just the accumulation which the tax is intended to discourage.

3. Was petitioner formed for the disapproved purpose? Petitioner contends that it was not, and relies among other things upon the oral testimony of Aron, in which he categorically denied that he had any such purpose in mind when he formed either J & H or the petitioner. We can not, however, accept this testimony as conclusive in the light of other evidence which in our opinion is inconsistent with those statements. Helvering v. National Grocery Co., supra;Reynard Corporation,37 B.T.A. 552">37 B.T.A. 552, 561. At the time petitioner was formed Aron had decided to divide the properties of J & H between two new holding companies. As set out in our findings, Hamptworth was incorporated on October 13, 1925, and petitioner on the following day. Hamptworth issued one-half of its authorized capital stock to members of the Aron family for $50,000 in cash, which it used to acquire the real estate held by J & H. Petitioner issued one-half of its authorized capital stock to members of the Aron family for all the outstanding capital stock of J & H on the basis of one share for two shares, so that each stockholder of J & H maintained the same proportion of holdings in petitioner which he or she had held in J & H.

Petitioner then took over all the assets of J & H, consisting mainly of stock of Louisiana and other securities, and assumed all of its liabilities, whereupon J & H was dissolved. During its existence J & H had accumulated net gains and profits of $560,886.70, chiefly from dividends, interest, gain from the sale of securities, and rent paid by Aron for use of the real estate as a residence and for use of the yacht. J & H never paid a dividend. The $560,886.70 of accumulated gains and profits were taken over by petitioner and thus became available for distribution by petitioner. Commissioner v. Sansome, supra.Petitioner then proceeded to accumulate more gains and profits exclusively from interest, dividends, the sale of securities, except for $3,600 of miscellaneous income in 1929, until at the beginning of the taxable years in question it had accumulated gains and profits (including those taken over from J & H) of $2,132,316.37 after paying dividends during this period of $745,850, or 25.9 percent of its gains and profits of $2,878,166.37 available for distribution. Aron testified that petitioner was formed:

Principally to coordinate or unify into one company all the companies, first the Louisiana, with the intention of later also acquiring these in New York; putting all the outside securities of all the family in one company as a reservoir and being able to have them all together so that on short notice you could use them for the benefit of the operating companies, and also to buy and sell securities and to use the securities for margin, both in stock as well as moneys. It would be a reservoir to have them all together because I was given assurance against the guarantee that I was giving for the operating companies, and by having the - Stanton became a Delaware Corporation which were very liberal in their charter, and in that way you could save State taxes in New York.

Petitioner's books show, however, that as soon as petitioner was formed it commenced to loan money without interest to Hamptworth and continued to loan money to Hamptworth every year until at the beginning of the taxable years it had loaned Hamptworth a total of $988,956.29, which Hamptworth used to improve the real estate occupied by the Aron family as a country estate and to purchase a yacht and considerable household furnishings. In 1929, at a time when petitioner did not own any of the stock of New York, it loaned without interest $482,841.76 to 95 Wall, a 100 percent owned subsidiary of New York, which loan, without any repayments, was still outstanding on December 31, 1937. In discussing the previous points we have already stated the amounts of gains and profits and dividends paid during the taxable years, during which years petitioner added $808,055.54 more to its accumulation, thus making a total accumulation of gains and profits on December 31, 1932, of $2,940,371.91.

Petitioner continued to make loans to Hamptworth until on December 31, 1934, it had loaned Hamptworth a total of $1,222,575.48. In 1935 a part of this loan was liquidated through the organization by the Arons of the Bristol Associates, Inc., as set out in our findings, and the balance was apparently charged off by petitioner as a bad debt in its 1935 income tax return.

As a result of the accumulation of $2,940,371.91 over a period of years, surtaxes were avoided by the shareholders of J & H and petitioner in the total amount of approximately $590,000.

Considering all the evidence in the case, particularly the circumstances surrounding the formation of petitioner, the sources of its income, the manner in which that income was used, and the surtaxes that were avoided, we are of the opinion that petitioner was formed for the purpose of preventing the imposition of the surtax upon its shareholders through the medium of permitting its gains and profits to accumulate instead of being divided or distributed, and we have so founds as a fact in our findings.

4. Was petitioner availed of in 1931 or 1932 for the disapproved purpose? In Helvering v. National Grocery Co., supra, the Supreme Court said that the function of the Board in a case of this kind was "To draw inferences, to weigh the evidence and to declare the result * * *." We have already found that petitioner was a mere holding or investment company and that it permitted its gains and profits to accumulate beyond the reasonable needs of the business. The statute makes such facts "prima facie evidence of a purpose to escape the surtax." We have also found that petitioner was formed for that purpose and, even without the benefit of the presumptions, we think the evidence shows that petitioner was availed of in 1931 and 1932 for the purpose of enabling its shareholders to escape the surtax.

Beginning in 1916, Louisiana declared a dividend every year up to and including 1937, which is as far as the evidence goes. Prior to the formation of J & H those of the stockholders of Louisiana who became stockholders of J & H were required to pay surtaxes on such cividends. The same was true respecting the stocks of other domestic corporations which Aron purchased with the dividends received from Louisiana. New York had adopted the policy of paying no dividends until the two dividends of $900,000 each in 1930 and 1931, although on December 31, 1929, it had accumulated gains and profits of $5,151,246.32. When J & H was formed in 1922, the Arons transferred to that company 99.7 percent of all the stock held by them in Louisiana, but did not transfer to that company any of the stock of New York. Aron also transferred to J & H at the same time 8,020 shares of stock in ten different domestic corporations. This relieved the Arons of paying any surtax on the dividends being paid on such transferred stock, except to the extent that J & H might in turn declare dividends, which it never did. When petitioner was organized in 1925 it merely took over all the securities then held by J & H.

In 1918 Aron and Feingold entered into a written agreement the details of which are set out in our findings. Feingold had made several demands that New York declare a dividend, but until the latter part of 1930 Aron had been successful in persuading Feingold to silence his demands. In 1930, however, the matter came to a head, and New York in December of that year declared a dividend of $900,000. At the beginning of the year Aron held 25,746 of the 30,000 outstanding shares of New York. Had he held these shares until the dividend was declared he would have had to pay a substantial surtax thereon. But he did not so hold them. In January 1930 Aron transferred to petitioner 25,000 of his 25,746 shares of New York. Thus during the taxable years petitioner held practically all of the New York and Louisiana shares that had at some prior date been owned by the Aron family.

We think it is reasonable to infer and that it is apparent from the foregoing that the principal reason for Aron's transfer of the 25,000 shares to petitioner in 1930 was because he knew then, as a result of Feingold's demands, that eventually a dividend would have to be declared by New York. By having the dividend paid to petitioner instead of himself, Aron availed himself of petitioner for the purpose of escaping surtaxes. We do not think it makes any difference that the dividend-paying stocks were transferred to J & H and to petitioner in years prior to the taxable years before us. Cf. United Business Corporation of America,19 B.T.A. 809">19 B.T.A. 809; affd., 62 Fed.(2d) 754; certiorari denied, 290 U.S. 635">290 U.S. 635; A. & J., Inc.,38 B.T.A. 1248">38 B.T.A. 1248; Williams Investment Co. v. United States, supra. The thing that matters is whether during the taxable years petitioner was availed of for the forbidden purpose.

As a holding or investment company petitioner had very little reason for accumulating any gains or profits. Yet on December 31, 1930, the beginning of the taxable years in question, petitioner had accumulated $2,132,316.37 or 287.49 percent of its outstanding capital stock. During the taxable years it accumulated additional gains and profits of $808,055.54. If this latter amount had been distributed instead of accumulated, petitioner's stockholders would have had to pay for these two years alone additional surtaxes of $162,566.28. These facts are not without significance. Furthermore, the stockholders of petitioner could have completely avoided the application of section 104 if in accordance with subsection (d) of this section they had included (at the time of filing their returns) in their gross income their entire distributive shares of petitioner's net income for the taxable years. This they did not do. They chose rather to avail themselves of petitioner for the purpose of escaping the surtax.

Upon the whole we think the evidence amply sustains the ultimate findings we have made.

In its brief petitioner makes the statement that the taxes asserted by the respondent were incorrectly computed through the inclusion in net income of interest wholly exempt from tax. This was not assigned as an error, and, even if it had been, the evidence does not support the contention.

The respondent's determination is approved.

Reviewed by the Board.

Decision will be entered for the respondent.

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Footnotes

• 1. SEC. 104. ACCUMULATION OF PROFITS OF SURPLUS TO EVADE SURTAXES.

  (a) If any corporation, however created or organized, is formed or availed of for the purpose of preventing th imposition of the surtax upon its shareholders through the medium of permitting its gains and profits to accumulate instead of being divided or distributed, there shall be levied, collected, and paid for each taxable year upon the net income of such corporation a tax equal to 50 per centum of the amount thereof, which shall be in addition to the tax imposed by section 13 and shall be computed, collected, and paid upon the same basis and in the same manner and subject to the same provisions of law, including penalties, as that tax.

  (b) The fact that any corporation is a mere holding or investment company, or that the gains or profits are permitted to accumulate beyond the reasonable needs of the business, shall be prima facie evidence of a purpose to escape the surtax.

  (c) As used in this section the term "net income" means the net income as defined in section 21, increased by the sum of the amount of the dividend dedution allowed under section 23(p) and the amount of the interest on obligations of the United States issued after September 1, 1917, which would be subject to tax in whole or in part in the hands of an individual owner.

  (d) The tax imposed by this section shall not apply if all the shareholders of the corporation include (at the time of filing their returns) in their gross income their entire distributive shares, whether distributed or not, of the net income of the corporation for such year. * * * ↩

• 2. ART. 541. Taxation of corporation utilized for evasion of surtax. - Section 104 is designed to discourage the formation or use of a corporation for the purpose of preventing the imposition of surtaxes upon its shareholders, through the device of permitting its gains and profits to accumulate instead of being distributed. If a domestic or foreign corporation is so formed or availed of, it is subject to a tax at the rate of 50 per cent upon its net income in addition to the tax imposed by section 13. * * *

  ART. 542. Purpose to escape surtax. - Prima facie evidence of a purpose to escape the surtax exists where a corporation is a mere investment company, where a corporation has practically no business except holding stocks, securities, or other property and collecting the income therefrom or investing therein, or where a corporation other than a mere holding or investment company permits its gains and profits to accumulate beyond the reasonable needs of the business. The statutory presumption that a mere holding or investment company is subject to the additional tax imposed by section 104 may be overcome if the corporation can show, either by reason of the fact that it distributed a large portion of its earnings for the year in question, or that its stock was held not by the members of a family or of a small group but by a large number of persons and in comparatively small blocks, or by other evidence, that it was not availed of for the purpose of preventing the imposition of the surtax upon its shareholders.

  The business of a corporation is not merely that which it has previously carried on, but includes in general any line of business which it may legitimately undertake. However, a radical change of business when a considerable surplus has been accumulated may afford evidence of a purpose to escape the surtax. When one corporation owns the stock of another corporation in the same or a related line of business and in effect operates the other corporation, the business of the latter may be considered in substance the business of the first corporation. Gains and profits of the first corporation put into the second through the purchase of stock or otherwise may therefore, if a subsidiary relationship is established, constitute employment of the incoem in its own business. To establish that the business of one corporation can be regarded as including the business of another it is ordinarily essential that the first corporation own substantially all of the stock of the second. Investment by a corporation of its income in stock and securities of another corporation is not without anything further to be regarded as employment of the income in its business.

  ART. 543. Unreasonable accumulation of profits. - An accumulation of gains and profits is unreasonable if it is not required for the purposes of the business, considering all the circumstances of the case. It is not intended, however, to prevent reasonable accumulations of surplus for the needs of the business. No attempt can be made to enumerate all the ways in which gains and profits of a corporation may be accumulated for the reasonable needs of the business. Distributions made by a corporation shortly after the close of its taxable year shall be taken into consideration in determining the reasonableness of the amount of earnings and profits of the corporation retained by it for such year. Undistributed income is properly accumulated if invested in increased inventories or additions to plant reasonably needed by the business. It is properly accumulated if retained for working capital required by the business or in accordance with contract obligations placed to the credit of a sinking fund for the purpose of retiring bonds issued by the corporation. In the case of a banking institution the business of which is to receive and loan money, using capital, surplus, and deposits for that purpose, undistributed income actually represented by loans or reasonably retained for future loans is not accumulated beyond the reasonable needs of the business. The nature of the investment of gains and profits is immaterial if they are not in fact needed in the business. It is an unreasonable accumulation of gains and profits by corporations with the purpose of enabling their shareholders to escape surtaxes on such gains and profits which subjects such corporations to the additional tax imposed by section 104. Among other things, the financial condition of the corporation at the close of the taxable year and the manner in which its funds are invested at that date, determine the reasonableness of the accumulations.

  * * * ↩