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Oyster Shell Products Corp. v. Commissioner of Internal Revenue

decided: February 13, 1963.

OYSTER SHELL PRODUCTS CORPORATION, INC., PETITIONER-APPELLANT,
v.
COMMISSIONER OF INTERNAL REVENUE, RESPONDENT-APPELLEE. ARTHUR ACKERMAN AND EVELYN ACKERMAN, PETITIONERS-APPELLANTS, V. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT-APPELLEE. GUSTAF A. E. ACKERMAN AND GRACE L. ACKERMAN, PETITIONERS-APPELLANTS, V. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT-APPELLEE.



Author: Moore

Before WATERMAN, MOORE and SMITH, Circuit Judges.

LEONARD P. MOORE, Circuit Judge.

These are petitions for review of three decisions of the Tax Court of the United States, finding deficiencies in income tax due from the petitioners for the calendar year 1950. The three cases were tried together before the Tax Court and are so treated here. Oyster Shell Products Corporation, Inc. (Oyster Shell) petitions for review of the decision sustaining a deficiency assessment of $48,607.30 which was based on the imposition of a surtax under Section 102 of the Internal Revenue Code of 1939*fn1 on the finding that Oyster Shell was availed of during the calendar year 1950 for the purpose of preventing the imposition of a surtax upon its shareholders by permitting its earnings to accumulate beyond the reasonable needs of its business. The sole stockholders of Oyster Shell, Arthur Ackerman (Arthur) and Gustaf A. E. Ackerman (Gustaf) and their wives, also petition for review of the decisions sustaining deficiency assessments of $28,154.24 and $20,985.10, respectively, which were based on the findings that withdrawals made in 1950 from Oyster Shell by the stockholders, purportedly as loans, were in reality disguised distributions of earnings and, therefore, includible in their gross income as dividends under Section 115(a) of the Internal Revenue Code of 1939.*fn2 The petitions of the Ackerman involve factors cumulative to the petition of Oyster Shell and will be considered first.

The Ackermans

Oyster Shell was*fn3 a Louisiana corporation organized on July 12, 1920, with its home office at New Rochelle, New York. At all times since the organization of Oyster Shell, Arthur has held the offices of president and treasurer and Gustaf the offices of vice-president and secretary. Together they constituted the only stockholders, Arthur owning 3,995 shares and Gustaf owning one share.

Oyster Shell has never paid a dividend since its formation. Throughout the existence of the corporation, running accounts in favor of Arthur and Gustaf were maintained, allowing them to make substantial withdrawals from the corporation.A similar account was maintained in the name of Augus Co., a partnership composed of Arthur and Gustaf. In 1950, the year in question, Arthur withdrew $30,047.69 through his account and $18,599.36 through the Argus Co. account; Gustaf withdrew $24,178.40 through his account and $14,216.73 through the Argus Co. account. The balance of the withdrawals made over the years including 1950 came to some $472,000. No interest was charged to Arthur or Gustaf by Oyster Shell, no notes were executed with respect to these withdrawals, and no date or other provisions were made with respect to repayment. Part of the proceeds was used by them to purchase stocks, bonds, and futures in their individual names. All gains, losses, dividends and interest resulting from these transactions were reflected on their personal income tax returns. The Commissioner asserted deficiencies claiming that the 1950 withdrawals were actually dividends. The Ackermans contend that the withdrawals were used to purchase securities to be held by them as nominees for the corporation for the sake of more convenient trading or, somewhat inconsistently, that the amounts were actually loans. The Tax Court agreed with the Commissioner and sustained the deficiencies assessed. We affirm.

To state the facts is to decide the case here. It would be difficult to find a better example of the classic situation of siphoning off the income of a closely held corporation, claiming the payments to be loans but never making repayment or paying interest. See Spheeris v. Commissioner, 284 F.2d 928 (7th Cir., 1960); Regensburg v. Commissioner, 144 F.2d 41 (2d Cir., 1944), cert. denied, 323 U.S. 783, 65 S. Ct. 272, 89 L. Ed. 625; Lengsfield v. Commissioner, 241 F.2d 508 (5th Cir., 1947). The stock purchase explanation, apart from its inherent implausibility, does not account for all of the withdrawals and does not comport with the Ackermans' treatment of the gains and losses from the transactions as theirs on their personal income tax returns.*fn4 Further, the past history of these accounts indicates quite forcefully that petitioners had no intention of making repayment at the time of the transaction. See Ben R. Meyer, 45 B.T.A. 228 (1941).

Oyster Shell

Oyster Shell was engaged in the business of converting reef oyster shell into various finished products at two plants located on opposite banks of the Atchafalaya River at Berwick and Morgan City, Louisiana. In this general vicinity, the United States Army Corps of Engineers were constructing a flood control project as an integral part of the control system for managing floods on the Mississippi River.*fn5 The planning of this project was in process in 1920 and continued until by August 1950 Oyster Shell knew that floodwalls would be constructed behind (landward) both Oyster Shell plants and that the United States would pay it only for flowage easements resulting from the landward placement of the levees. Oyster Shell refused to settle on these terms and the Government instituted condemnation proceedings. The corporation counter-claimed, seeking the full value of the enterprise as compensation on the ground that building the levees landward of the plants, and thus abandoning them to the flood waters whenever diversion from the Mississippi was necessary, constituted a complete taking. After termination of the action in the Government's favor, Arthur renewed negotiations with the Army Engineers and a settlement for flowage easements over the Oyster Shell properties was effected.

At the end of 1950, the current assets of Oyster Shell included cash of $332,793.38, receivables of $121,094.02, and marketable securities of $60,657; total liabilities were $246,251.18. Earned surplus increased in 1950 by over $300,000 bringing total earned surplus to over $1,000,000.

On March 5, 1956, the Commissioner notified Oyster Shell that he proposed to issue a notice of deficiency relating to a surtax based on its undistributed earnings for the year 1950. Oyster Shell submitted to the Commissioner a statement setting forth the facts upon which it relied to establish that none of its earnings had been permitted to accumulate beyond the reasonable needs of the business. The Commissioner, on September 25, 1956, issued a notice of deficiency which the Tax Court sustained. We affirm.

The ultimate issue in any proceeding under Section 102 of the In

The ultimate issue in any prothe corporation has been formed or availed of for the proscribed purpose, that is, for "the purpose of preventing the imposition of the surtax upon its shareholders or the shareholders of any other corporation, through the medium of permitting earnings or profits to accumulate instead of being divided or distributed." Resolution of this basically subjective inquiry is aided by the evidentiary corollary of Section 102(c)*fn6 which provides that when the earnings are found to have been accumulated beyond the reasonable needs of the business a rebuttable presumption arises that the corporation was availed of for the proscribed purpose. If a taxpayer loses on the "reasonable needs" issue, he is not foreclosed from contesting the ultimate issue of "proscribed purpose" but here he needs a preponderance of the evidence to prevail. See R. Gsell & Co., Inc. v. Commissioner, 294 F.2d 321 (2d Cir., 1961). Thus, in most cases, "the real controversy * * * concerns the presence or absence of a valid business reason for accumulating earnings." American Metal Prods. Corp. v. Commissioner, 287 F.2d 860, 863 (8th Cir., 1961).

The Tax Court assumed, as do we, that the statement submitted to the Commissioner by Oyster Shell was adequate to invoke the operation of Section 534(c) of the Internal Revenue Code of 1954 and to switch the burden of proof to the Commissioner, "with respect to the grounds set forth in such statement," on the issue of the reasonableness of the challenged accumulations in the light of taxpayer's business needs.R. Gsell & Co., Inc. v. Commissioner, supra. The Tax Court, nonetheless, found that the ...


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