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January 7, 1981

The UNITED STATES of America, Defendant

The opinion of the court was delivered by: LASKER

Master Eagle Associates, Inc. ("Master Eagle") sues to recover a tax refund of $ 21,605.06 plus interest allegedly overpaid by its predecessor corporation, Edison Photo Engraving Co., Inc. ("Edison"), to the Internal Revenue Service.


Edison was a closely held corporation engaged in the business of photoengraving. Prior to November 1965, it was owned by four individual shareholders who each held 25 shares of the 100 shares of outstanding authorized capital stock. *fn1" For varying reasons each of the stockholders decided either that he wished to discontinue his association with Edison or to carry on its business in a new form, preferably by merging with another company. Two of the shareholders, Joseph Tashjian and Martin Tashjian, wished to continue in the business, but recognized that Edison's equipment and plant had become outmoded and that they had insufficient capital to purchase the needed additional equipment and to move to larger premises (T. 14-18). *fn2" One partner, Paul Chaputian, wanted to leave the photoengraving business and then devote himself full time to his restaurant business (T. 21-23, 67, 69). The fourth partner, Dickran Hazrijian, wanted to exchange his night shift for day work, an arrangement Edison was unable to accommodate because of the need to have a supervisor present at night (T. 24-25, 69).

 Beginning in 1960, Edison's shareholders sought a company with a more modern plant and equipment which was willing to merge with Edison. Those efforts were unsuccessful (T. 18-21). In September 1965, negotiations began with Master Eagle's principals which culminated in the transaction in question on November 20, 1965.

 These negotiations were initiated by Paul Chaputian who conducted the first discussions with Mario Gambacini and Andrew Shahinian, two principals of Master Eagle (T. 42). Shahinian also had discussions with Joseph Tashjian and Martin Tashjian separately concerning what employment arrangement they and Dickran Hazrijian wanted with Master Eagle (T. 42, 61, 68, 70). A final meeting (before the November 20th meeting) was held between the four Edison shareholders and the four principals of Master Eagle (T. 52).

 During those negotiations, the subject of how to structure the transaction was not discussed, though Edison's shareholders were active in determining the price of the sale and the terms of their individual employment arrangements with Master Eagle (T. 43, 47-48, 52-53, 67-70).

 On November 20, 1965, Edison's fixed assets and 100 shares of its stock were sold to Master Eagle and the four Edison shareholders sold their interests in Edison (according to the plan described below) and received a total of $ 140,000. The transaction was effected in several steps. First, one hundred shares of Edison's treasury stock was sold to Master Eagle for $ 40,000. (Minutes of a Special Meeting of the Stockholders and Directors of Edison Photo Engraving Co., Inc. PX 14, p. 2 November 20, 1965). Second, Edison's plant and equipment and the $ 40,000. just paid by Master Eagle were distributed to the four shareholders in exchange for their 100 shares of outstanding Edison stock (Stock Redemption Agreement, PX 1). Finally, the former shareholders of Edison sold the plant and equipment to Master Eagle for $ 100,000. (Bills of Sale, PX 2, 3). Thus, at the conclusion of this series of transactions, the four shareholders had transferred their stock in Edison, and received $ 140,000. Master Eagle acquired the stock, plant and equipment of Edison and paid $ 140,000. (see Testimony of Dr. George H. Sorter, government's economics expert, T. 143-46).

 Master Eagle contends that the stock redemption by Edison is a distribution of assets to shareholders non-taxable under 26 U.S.C. ยง 311(a). That section provides that "no gain or loss shall be recognized to a corporation on the distribution, with respect to its stock, of ... property." The United States contends that the transaction was in substance a taxable sale of assets by Edison, and not by the shareholders, to Master Eagle; and that the intervening stock redemption and sale of assets by the shareholders were shams with no other purpose than to avoid tax liability.


 Two Supreme Court decisions have articulated the factors which determine whether a sale of assets is to be regarded for tax purposes as having been made by the shareholders, and consequently not taxable to the corporation, or by the corporation, and therefore taxable to it. In Commissioner v. Court Holding Co., 324 U.S. 331, 65 S. Ct. 707, 89 L. Ed. 981 (1945), the stock of a corporation whose sole asset was an apartment house was exclusively owned by Minnie Miller and her husband. The corporation negotiated with the building's lessees for its sale, culminating in an oral agreement. The corporation deeded the building to the Millers in return for all their stock (which was all of the outstanding stock), and the property was then sold by the Millers.

 The Tax Court held that the sale was by the corporation and that the corporation was therefore taxable on the gain realized. The Supreme Court agreed.

"The Tax Court concluded from these facts that, despite the declaration of the "liquidating dividend' followed by the transfers of legal title, the corporation had not abandoned the sales negotiations; that these were mere formalities designed "to make the transaction appear to be other than it was' in order to avoid tax liability....
"There was evidence to support the findings of the Tax Court, and its findings must therefore be accepted by the courts.... On the basis of these findings, the Tax Court was justified in attributing the gain from the sale to respondent corporation. The incidence of taxation depends upon the substance of a transaction. The tax consequences which arise from gains from a sale of property are not finally to be determined solely by the means employed to transfer legal title. Rather, the transaction must be viewed as a whole, and each step, from the commencement of negotiations to the consummation of the sale, is relevant. A sale by one person cannot be transformed for tax purposes into a sale by another by using the latter as a conduit through which to pass title. To permit ...

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