Rupe Investment Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent, 266 F.2d 624 (5th Cir. 1959)

This appeal focuses on the tax consequences of the sale of the Baker Hotel in Dallas, Texas. In 1949 Rupe Investment Corporation, the taxpayer, was the record owner of 108,010 shares of Baker Hotel common stock at the time when the hotel company paid a dividend of $9 a share. In its 1950 return Rupe Investment claimed a dividend received credit (85%) for the dividends ($972,090) on the Baker Hotel stock, under § 26(b) of the Internal Revenue Code of 1939.¹  In the taxpayer's schedule of sales of inventory securities, the taxpayer claimed an ordinary loss ($927,430.28) upon the sale of the Baker, Inc., stock. The Commissioner of Internal Revenue took the position that beneficial ownership of the stock and dividends was in the Texas National Hotel Company, for whom the taxpayer acted as agent or broker; that the taxpayer held title for convenience only. The Tax Court upheld the Commissioner. The Commissioner assessed a tax deficiency against Rupe Investment for $29,188.09 for the taxable year ending June 30, 1950. 30 T.C. 240. We affirm.

Most of the facts are stipulated. The question on this appeal is whether the Tax Court drew the correct inferences from the undisputed facts.

Rupe Investment Corporation, the taxpayer, is in the business of investment banking. It has been closely identified with banking for the hotel industry. Baker Hotel of Dallas, Inc., owned the Baker Hotel, one of the leading hotels in Dallas, Texas. Dallas Gordon Rupe, president of Rupe Investment Corporation, has been a director of Baker, Inc., since 1936. He owns 250 shares of the common stock of Baker, Inc., acquired some time between 1940 and 1944.

In 1949 and 1950 the issued and outstanding stock of Baker, Inc., consisted of 113,000 shares of no par value common stock and 13,205 shares of $10 preferred stock. Fenton J. Baker, president and general manager of the hotel, and his wife owned slightly more than fifty per cent of the common stock. The National Bank of Commerce held thirty-five per cent of the stock (39,550 shares), as Trustee for a Protective Committee for bondholders of a predecessor corporation.

In the spring of 1949 Rupe learned at a meeting of the board of directors of Baker, Inc., that an offer had been made to purchase the stock interest of the Protective Committee at $25 a share, conditioned on the purchaser gaining control of the corporation. Rupe then talked with Baker with regard to the possibility of Baker selling his fifty per cent stock interest. After several conferences, Baker indicated that he would sell at $35 a share. As a result of these conferences, the Rupe Investment Corporation secured informal commitments from Baker and some of his close associates to sell their stock for $30 to $35 per share. This block represented approximately fifty-six per cent of the stock of Baker, Inc.

At some time during these negotiations Rupe asked W. L. Moody, Jr., of Galveston, Texas, if he or any of his enterprises were interested in acquiring control of Baker, Inc. Moody interests included the Texas National Hotel Company, American National Insurance Company, and W. L. Moody & Company, Bankers, an unincorporated banking firm, to mention the Moody-controlled corporations concerned in this case. Moody, speaking for Texas National, at first said that he would be interested in purchasing the physical properties of Baker, Inc., but not the stock, because the company's financial structure then included an undistributed earned surplus of approximately $1,500,000. He stated, however, that Texas National would purchase the stock if: (1) the earned surplus were reduced, (2) eighty-five per cent of the common stock could be acquired, and (3) the investment in common stock would not exceed $2,500,000. The Baker Hotel was encumbered with a first mortgage loan from the Equitable Life Assurance Society of the United States in the amount of approximately $1,500,000. Moody said that American National Insurance Company would carry the first mortgage loan on the Baker Hotel.

In June 1949 Rupe submitted a proposal in accordance with Moody's terms. This proposal was set forth in two letters (quoted in full in the footnote),²  both dated June 15, 1950, addressed to Moody and signed by Rupe as president of Rupe Investment Corporation. Moody accepted the proposal.

As is evident from this agreement, Rupe was closely restricted as to the ceiling price he could pay for the common stock: $32.50 for the Bakers' stock (50%); $30.00 a share for stock held by Hoblitzelle and Adoue (6%); $25 a share for the trusteed stock (35%); $30 a share for all other stock (9%). Rupe was to pay not more than $10 a share for available preferred stock. In return, Texas National agreed to purchase the common stock at a price of the net cost of such stock to Rupe, plus a dollar a share for each share purchased. Texas National agreed to buy the preferred, "without compensation [to Rupe] for the preferred stock purchased". The Moody Bank was to furnish necessary funds to finance Rupe's purchases. American National would lend funds to the hotel corporation to be used to pay off the Equitable mortgage and to distribute a dividend to the stockholders of approximately $1,000,000 while record title was in Rupe. The dividend would reduce the undistributed earned surplus and reduce Texas National's investment to $2,500,000.

The taxpayer emphasizes the risk involved in his purchasing stock without any certainty of obtaining the necessary 85% interest which Moody required. Before the proposal was made, however, Baker had agreed to sell at a price between $30 and $35 a share; Adoue and Hoblitzelle had agreed to sell at a price agreeable to Baker; one of the voting trustees, controlling 66 2/3 of the outstanding voting trust certificates, had agreed to vote in favor of a sale at $25 a share. Rupe stated in his proposal that he anticipated "no problem in effectuating the purchase of the Baker Hotel stock held by such trust". As he said, he "contemplated that substantially 90%" could be acquired in accordance with his negotiations. Rupe's risk was negligible, if not non-existent. And he had W. L. Moody, Jr. to supply the money to purchase the stock.

June 22, 1949 the taxpayer made a formal offer to the Protective Committee to purchase its 39,550 shares of Baker, Inc. stock. The proposal required the approval of the trustee, the beneficial owners of the stock, and the United States District Court for the Northern District of Texas. The Protective Committee accepted the proposal June 29, and the court issued an order July 5 approving the plan, subject to the approval of the beneficial owners. Beneficial owners of 38,353 shares approved the sale, and on July 18, 1949 the Protective Committee directed the trustee to transfer and deliver 38,353 shares to the taxpayer at $25 a share.

Meanwhile, July 14, 1949, Rupe Investment Corporation purchased from Fenton J. Baker and his associates fifty-six per cent of the stock. During the period from July 14, 1949 to September 26, 1949 the taxpayer acquired 107,705 shares of the common stock of Baker, Inc. This was approximately ninety-six per cent of the outstanding common stock.

All of the purchases were financed by Moody through the Moody Bank. Between July 14, 1949, and September 21, 1949, the taxpayer borrowed funds from the Moody Bank six times, giving in return ninety day notes. The notes were interest free unless paid after maturity. Each loan was equal to the exact cost of acquisition of the particular block of stock that was being purchased.

June 8, 1949, the Board of Directors of Baker, Inc. declared a regular dividend of sixty-five cents payable on July 30, 1949, to common stockholders of record on July 25, 1949. Rupe Investment was record owner of 102,526 shares at that time, and received $66,641.90.

In September the Board of Directors took the final steps to consummate the Rupe-Moody agreement. (1) The Board declared a dividend of nine dollars per share, totalling $1,017,000 on common stock payable to stockholders of record on October 1, 1949. (2) The Board authorized redemption of the 13,205 shares of ten dollar par value preferred stock of Baker, Inc., callable at par. (3) The Board authorized a mortgage loan of $2,500,000 to be placed with American National, and authorized payment of the $1,500,000 first mortgage indebtedness to the Equitable. The proceeds of the loan were applied in payment of the nine dollar dividend, the redemption of the preferred stock, and payment of the old mortgage. Rupe Investment, as record owner on October 1, 1949, received a dividend of nine dollars per share, amounting to $972,090. At this point Baker, Inc., was finally in the financial shape Moody required for his purchase.

October 7, 1949, Rupe Investment deposited a check for $925,106.90 in its account at the Moody Bank. Texas National, the purchaser, issued its check for $2,227,923.10 to Rupe Investment.³  This check was also deposited in Rupe's account at the Moody Bank. The two deposits totalled $3,153,030. A check for this amount was then drawn on the Moody account to pay the six notes given by Rupe Investment. The notes were cancelled and the stock was transferred. The difference to Rupe Investment at one dollar a share was $107,955. This was its commission.

All purchases of the Baker, Inc. stock were recorded on Rupe Investment's books and were carried as inventory securities. Federal and state stock transfer taxes were paid by Rupe Investment. The dividends were carried on Rupe Investment's books as income to it.⁴ 

This Court, is well aware, as was the Tax Court, that a taxpayer "has the legal right to decrease the amount of what otherwise would be his taxes, or altogether avoid them, by means of which the law permits". 30 T.C. 240. But the incidence of taxation depends upon the substance of a transaction. Commissioner of Internal Revenue v. Court Holding Co., 324 U.S. 331, 65 S. Ct. 707, 89 L. Ed. 981.

Rupe's record title will not of itself give rise to the beneficial ownership from which it seeks to glean tax advantages. Title and beneficial ownership often are split. Mayer v. Donnelly, 5 Cir., 1957, 247 F.2d 322. And taxation is not so concerned with nice refinements of title as it is with actual command over property. Griffiths v. C. I. R., 308 U.S. 355, 357, 60 S. Ct. 277, 84 L. Ed. 319. Thus, stock dividend income is taxable to the one who beneficially enjoys the income, regardless of who is the payee or title owner of the stock. Northern Trust Co. v. United States, 7 Cir., 1952, 193 F.2d 127. The Northern Trust Company case makes it clear that a purchaser is the beneficial owner where the dividend is used to reduce the purchase price.⁵  That is the case we have.

Rupe's naked title and risk assumed, such as it was, must be balanced against these indicia of beneficial ownership in another. (1) W. L. Moody & Co. supplied all the funds, in the form of notes interest-free if paid at or before maturity; no interest was paid. (2) Moody dictated the conditions of Rupe's stock purchase. (3) In terms of money in his pocket, Rupe received a dollar a share for each share of common stock, like any broker selling stock over the counter; and, significantly, Rupe received nothing for the preferred stock. (4) Rupe was protected against risk of loss and was not entitled to any enhancement in the value of the stock. (5) Rupe could not sell the stock, except to Texas National, nor could Baker, Inc. sell the hotel or any of its properties. (6) Rupe agreed that the corporation would make a new mortgage with American National Insurance, prepay the Equitable mortgage, and use the excess received from American National to reduce the earned surplus by payment of a dividend to the stockholder. All of this was for the benefit of Moody or his enterprises and it had the effect of reducing the investment to $2,500,000, as Moody required. (7) There was no loss in fact to Rupe, since the payments of dividends to Rupe offset the difference between the price Rupe paid for the stock and the price paid by Texas National. (8) The taxpayer had to account to Texas National for the 65 cents regular dividend declared June 8, 1949, payable to stockholders of record as of July 25, 1949. This was used by the taxpayer to reduce the ultimate cost of the stock to Texas National.

The Tax Court could not escape the conclusion that the taxpayer had no control over the dividends or over the stock; beneficial ownership was in Texas National. This Court cannot reach any other conclusion, either. Rupe was a broker, a middleman, the conduit between the former owners of Baker, Inc. and the new owner. There is no substance to the taxpayer's claim to a credit for the dividends and no substance to the claim that the taxpayer suffered a loss of $927,430.28 on the sale of the stock.

The judgment is

Affirmed.