O'Sullivan Rubber Co. v. Commissioner

O'SULLIVAN RUBBER CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

O'Sullivan Rubber Co. v. Commissioner

Docket Nos. 14583, 20660.

United States Board of Tax Appeals

19 B.T.A. 92; 1930 BTA LEXIS 2474;

February 27, 1930, Promulgated

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Walter S. Orr, Esq., and Henry Mannix, Esq., for the petitioner.

Orris Bennett, Esq., and Hartford Allen, Esq., for the respondent.

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PHILLIPS

These are proceedings under Docket No. 20660, covering the years 1918 and 1919, and Docket No. 14583, covering the years 1920 and 1921, for the redetermination of deficiencies in income and excess-profits taxes as follows:

1918	$7,992.69
1919	29,535.37
1920	64,013.84
1921	56,579.97

No error was assigned in respect of the deficiency determined for 1919. The error assigned with regard to each of the other years is identical, i.e., that the respondent has erroneously computed the petitioner's invested capital in that he has allowed an insufficient sum on account of capital paid in for stock.

The issues are closely related and both proceedings will be disposed of in one opinion. The facts were stipulated by the parties.

FINDINGS OF FACT.

The O'Sullivan Rubber Co. was organized under the laws of Maine on August 28, 1899, with a total authorized capital stock of $50,000 par value, consisting of 500 shares of the par value of $100 per share, all of which stock was issued in consideration of the receipt by the corporation of moulds having an actual cash value of $8,200 and of certain patents.

On December 16, 1910, the O'Sullivan Rubber Co. was organized under the laws of Delaware and issued $1,000,000 par value of common stock and $575,000 par value of preferred stock in consideration of the receipt of all the issued capital stock of O'Sullivan Rubber Co., the Maine corporation, consisting of $50,000 par value. No other consideration was received by the Delaware corporation for the issuance of its stock and no other stock was ever issued by the Delaware corporation.

At the time the stock of the Maine corporation was acquired by the Delaware corporation the assets and liabilities of the maine corporation consisted of tangible and intangible assets, a large part of which consisted of good will. According to the books of the Maine corporation its assets were as follows:

Assets		Liabilities
Patent rights	$ 41,800.00	Notes payable	$ 100,000.00
Moulds	7,712.94	Accounts payable	17,468.66
Furniture and fixtures	854.45	Reserve for freight	5,072.35
		and discounts
Cash	316,231.54	Reserve for taxes	2,000.00
Notes recelvable	13.35	Reserve for interest	216.66
Accounts receivable	84,044.72	Capital stock	50,000.00
Inventory merchandise	53,887.60	Surplus	329,786.93
	504,544.60		504,544.60

The value of the Maine corporation's stock when acquired by the Delaware corporation was $700,000, and the net worth of the assets of said Maine corporation at such time was $700,000.

Thereafter, but prior to January 1, 1917, the Delaware corporation redeemed out of its earnings the preferred stock above referred to amounting to $575,000 par value.

The issued and outstanding stock of the Delaware corporation on March 3, 1917, consisted of $1,000,000 par value common stock.

On April 30, 1917, the petitioner was organized as a corporation under the laws of New York and issued its entire authorized capital stock, consisting of $4,000,000 par value, for all the outstanding stock of the Delaware corporation, consisting of $1,000,000 par value common stock.

Prior to January 1, 1918, all of the assets of the maine and Delaware corporations had been taken over by and were carried on the books of O'Sullivan Rubber Co., a New York corporation, the petitioner herein, although said corporations had not then been formally dissolved.

The net earned surplus as of January 1, 1918, without adjustment for the income and excess-profits tax for the year 1917, as prorated, amounting to $44,012.73 and without adjustment on account of good will limitation as contended for by the respondent and shown in the detailed computations hereinafter set forth, is $1,023,264.34.

The net earned surplus as of January 1, 1920, without adjustment for the income and excess-profits tax for the year 1919, as prorated, amounting to $85,001.83, and without adjustment on account of good will limitation as contended for by the respondent and shown in respondent's detailed computation hereinafter set forth, is $1,137,048.44.

The net earned surplus as of January 1, 1921, without adjustment for the income and excess-profits tax for the year 1920, as prorated, amounting to $72,127.61, and without adjustment on account of good will limitation as contended for by the respondent and shown in respondent's detailed computation hereinafter set forth, is $1,096,422.72.

The sole question involved in these proceedings is the correct amount of invested capital to which the petitioner is entitled for the years 1918, 1920, and 1921.

An interest and/or control of over 50 per cent of the trade or business of the Delaware corporation remained in the same persons after the reorganization on April 30, 1917.

Good will was carried on the books of the New York corporation as of January 1 of each of the years 1918, 1920, and 1921, in the amount of $4,000,000. Good will amounting to $575,000 had previously been written off and charged against surplus by the predecessor (Delaware) corporation. The New York corporation continued the same set of books as was used by the Delaware corporation. The intercompany duplications arising by reason of the Delaware corporation's ownership of the stock of the Maine corporation have been adjusted in the surplus account shown in the computations with regard to 1918 hereinafter set forth.

The computation of invested capital for the year 1918 as contended for by the respondent is as follows:

O'Sullivan Rubber Co. of New York, parent.

O'Sullivan Rubber Co. of Delaware, subsidiary and subparent.

O'Sullivan Rubber Co. of Maine, subsidiary.

			Calendar year
			1918
Capital stock			$4,000,000.00
Surplus and surplus reserves
(including restoration of
$ 575,000)			1,023,264.34
Total net worth before good will
adjustment (per books)			5,023,264.34
Deduction: Proration of 1917 taxes			44,012.73
Invested capital before good will
adjustment (per books)			4,979,251.61
Good will adjustment: Good will on
books of New York corporation
Jan. 1, 1918		$4,000,000.00
Addition: Restoration of amount
charged against surplus by
predecessor (Delaware)
corporation. (The New York
corporation continued to use
the same set of books.)		575.000.00
Total book value of good will,
Jan. 1, 1918		4,575,000.00
Limitation of good will allowable
under sec. 326(a)(5) of revenue
act of 1918: 25 per cent of par
value of capital stock out-
standing ($4,000,000) at Jan.
1, 1918	$1,000,000.00
(Not necessary to determine cash
value at this point as further
reduction must be made by
reason of the limitations of
sec. 331 of the revenue act of
1918.)
Under sec. 331 the amount of the
good will allowable to the New
York corporation is limited to
the amount allowable to the
Delaware corporation computed
as follows:
Good will on books of Delaware
corporation Apr. 30, 1917	1,000,000.00
Restoration of amount charged
against surplus	575,000.00
Total	1,575,000.00
Good will allowable: 25 per cent
of par value of capital stock
outstanding (1,000,000) as at
Mar. 3, 1917. (Sec. 326(a)(4)
of revenue act of 1918.)		250,000.00
Good will not allowable as shown
in letter dated Oct. 9, 1924			4,325,000.00
Adjusted invested capital as
reflected in def. letter dated
Aug. 21, 1926			654.251.61

The computation of invested capital which the petitioner contends is correct for the year 1918 is as follows:

		Invested capital
		1918
(a) Capital stock of petitioner	$4,000,000
Capital stock of Delaware corporation	1,000,000
Stock of Delaware corporation issued for stock
of Maine corporation worth $700,000; invested
capital allowable on account of stock issued		$700,000.00
(b) Surplus and surplus reserves		1,023,264.34
Total		1,723,264.34
Adjustment for 1917 tax proration		44,012.73
Total invested capital		1,679,251.61

If it be determined as a matter of law that the stock of the Maine corporation, in consideration of the receipt of which the stock of the Delaware corporation was issued, should not be regarded as tangible property for invested capital purposes, then the petitioner contends invested capital should be computed for the year 1918 as follows:

			Invested capital
			1918
(a) Capital stock of petitioner	$4,000,000
Capital stock of Delaware corporation		$1,000,000
Stock of Delaware Corporation issued
for stock of Maine corporation
worth $700,000; invested capital
on account of this stock issue
limited to 25 per cent of capital
stock of $1,000,000 outstanding
Mar. 3, 1917			$250,000.00
(b) Surplus and surplus reserves			1,023,264.34
Total			1,273,264.34
Adjustment for 1917 tax proration			44,012.73
Total invested capital			1,229,251.61

The computation of invested capital for the years 1920 and 1921 as contended for by the respondent is as follows:

O'Sullivan Rubber Company of New York, parent.

O'Sullivan Rubber Company of Delaware, subsidiary and subparent.

O'Sullivan Rubber Company of Maine, subsidiary.

		Calendar Year
		1920	1921
Capital stock		$4,000,000.00	$4,000.000.00
Surplus		935,190.62	920,037.11
Surplus reserves		201,857.82	176,385.62
Total net worth before good will
adjusted (per books)		5,137,048.44	5,096,422.73
Deduction: Respective proration
of 1919 and 1920 taxes		85.001.83	72,127.61
		5,052.046.61	5,024,295.12
Good will adjustment: Good will on
books of New York corporation,
Jan. 1, 1920, and Jan. 1, 1921	$4,000,000.00
Addition: Restoration of amount
charged against surplus by
predecessor (Delaware)
corporation (the New York
corporation continued the use
of the same set of books)	575,000.00
Total book value of good will	4,575,000.00
Deduction: Adjustment for Delaware
corporation's acquisition of
stock of Maine corporation
(elimination of intercompany
duplications arising from sub-
consolidation)	95,275.94
Good will account as adjusted
Jan. 1, 1920, and Jan. 1, 1921	4,479,724.06
Limitation of good will allowable
under sec. 326(a)(5) of revenue
acts of 1918 and 1921: 25 per
cent of par value of capital
stock outstanding ($4,000,000.00)
at Jan. 1, 1920, and Jan. 1, 1921	1,000,000.00
(Not necessary to determine cash
value at this point as further
reduction must be made by reason
of the limitations of sec. 331
of the revenue acts of 1918 and
1921.)

Under sec. 331 the amount of the
good will allowable to the New
York corporation is limited to
the amount allowable to the
Delaware corporation computed as
follows:
Good will on books of Delaware
corporation Apr. 30, 1917	$1,000,000.00
Restoration of amount charged
against surplus	575,000.00
Total	1,575,000.00
Deduction: Adjustment for
acquisition of Maine
corporation's stock	95,275.94
Good will account as adjusted
Apr. 30, 1917	1,479,724.06
Good will allowable:
Good will acquired for cash	104,724.06
Good will acquired for stock, 25
per cent of par value of capital
stock outstanding ($1,000,000)
as at Mar. 3, 1917 (sec.
326(a)(4) of revenue acts of
1918 and 1921	250,000.00
Total allowable	354,724.06
Good will not allowable as shown in
def. notice dated Feb. 12, 1926		$4,125,000.00	$4,125,000.00
Adjusted invested capital as shown
in def. letter		927,046.61	899,295.12

The computation of invested capital which the petitioner contends is correct for the years 1920 and 1921 is as follows:

			Invested capital
	1920	1921	1920	1921
(a) Capital stock of
petitioner ---
$4,000,000.00
Capital stock of
Delaware corporation
--- 1,000,000.00
Stock of Delaware
corporation issued
for stock of Maine
corporation worth
$700,000; invested
capital allowable on
account of stock issued			$700,000.00	$700,000.00
(b) Surplus	$935,190.62	$920,037.11
Surplus reserves	201,857.82	176,385.62
	1,137,048.44	1,096,422.73
Adjustment for pre-
ceding year's tax
prorated	85,001.83	72.127.61
	1,052,046.61	1,024,295.12
Invested capital
allowable on account
of surplus			1,052,046.61	1,024,295.12
Total invested capital			1,752,046.61	1,724,295.12

Under respondent's theory of sub-consolidation eliminations, there were intercompany duplications arising by reason of the Delaware corporation's ownership of the stock of the Maine corporation, amounting to $95,275.94.

If it be determined as a matter of law that the stock of the Maine corporation, in consideration of the receipt of which the stock of the Delaware corporation was issued, should not be regarded as tangible property for invested capital purposes, then the petitioner contends invested capital should be computed for the years 1920 and 1921 as follows:

			Invested capital
	1920	1921	1920	1921
(a) Capital stock of
petitioner ---
$4,000,000.00
Capital stock of
Delaware corporation ---
$1,000,000.00
Stock of Delaware
corporation issued
for stock of Maine
corporation worth
$700,000; invested
capital on account
of this stock issue
limited to 25 per
cent of capital stock
outstanding Mar. 3,
1917			$250,000.00	$250,000.00
(b) Surplus	$935,190.62	$920,037.11
Surplus reserves	201,857.82	176,385.62
	1,137,048.44	1,096,422.73
Adjustment for
preceding year's
tax prorated	85,001.83	72,127.61
	1,052,046.61	1,024,295.12
Invested capital
allowable on account
of surplus			1,052,046.61	1,024,295.12
Total invested capital			1,302,046.61	1,274,295.12

The petitioner filed its income-tax returns for the calendar years 1918, 1920, and 1921 with the collector of internal revenue at New York, N.Y.

OPINION.

PHILLIPS: These proceedings have been submitted upon stipulated facts. They were first submitted upon the theory that the Board was called upon to determine the consolidated invested capital of a group of three corporations of which the petitioner was one. Subsequently a further stipulation was filed to the effect that prior to January 1, 1917, all of the assets of the Maine and Delaware corporations had been taken over and were carried on the books of the petitioner, although such corporations had not been formally dissolved.

The stipulated facts are still insufficient to permit us to determine fully the proper invested capital which might be allowed. They are sufficient, however, to establish that the amount allowable is not less than that contended for by petitioner in its alternative computations, viz, $1,229,251.61 for 1918, $1,302,046.61 for 1919 and $1,274,295.12 for 1920, subject to such adjustments for the tax liability of preceding years as may be caused by this decision. They are insufficient to establish any greater amount.

Reviewed by the Board.

Decisions will be entered under Rule 50.