Marwais Steel Company, Petitioner, v. Commissioner of Internal Revenue, Respondent, 354 F.2d 997 (9th Cir. 1965)

Wilmington Metal Manufacturing Company, wholly owned by Marwais Steel Company, lived at the whim of the latter.

Marwais organized Wilmington in 1951 to do a special wheel manufacturing job. The latter company was dissolved at the will of Marwais in August, 1956. Wilmington was never successful in business and existed on loans from Marwais which amounted to $57,857.35 on the eve of dissolution. Just before dissolution of Wilmington, Marwais, by a board of directors resolution, forgave the whole amount. At dissolution, Wilmington surrendered its cash assets of $110.02 to Marwais.

Marwais claimed as a deduction on its tax return for its taxable year ending January 31, 1957, $23,967.52.¹  Then it carried over to the following year ending January 31, 1958, as a deduction, $35,807.35. These represented accumulated net operating losses of Wilmington of $59,774.87, approximately the amount of the forgiven debt from Wilmington to Marwais: $57,857.35.

Except for the special circumstances here, the commissioner would not question Marwais' right to take advantage of its subsidiary's losses in the manner it did. The special circumstances are that Marwais had already for its taxable year ending January 31, 1953, put into its bad debt reserve the figure of $22,000.00 because of the unadjudicated bad insolvency of Wilmington. For its tax year ending January 31, 1957, Marwais added to its bad debt reserve $35,122.35, approximately the balance of Wilmington's debt to Marwais.²  The two amounts were used as deductions for business bad debts on Marwais' returns. The commissioner says that Marwais cannot again get the advantage of the bad debt in the amount of $57,122.35 so far as it is represented in the operating loss carry-over acquired by Marwais out of the liquidation of Wilmington. Disallowance of the deduction results in an income tax deficiency for the two years in question of about $22,500.00. The tax court ruled in favor of commissioner and we affirm. We shall not reiterate here the rather long and complete statement of the case found in Marwais Steel Co. v. Commissioner, 38 T.C. 633.

Marwais demonstrates pretty well that from beginning to end each step in the family relations of the two corporations was dominated by a business purpose. For example, the indebtedness was forgiven Wilmington to avoid an otherwise bad cloud in credit reports on Marwais. Had it not been done, Marwais would have been branded with having managed its business offspring into an insolvent end.

Marwais bases its case for deduction of the Wilmington loss carry-over on its interpretation of Sections 332 and 381 of the Internal Revenue Code of 1954.³  It is evident that if the debt had not been forgiven, under Section 332 the position of Marwais would have no logical validity. On its face, the argument of Marwais is very difficult to answer. It seems near perfect in logic. But in human experience, most logic can be carried only so far. For example, by the literal terms of the Fifth Amendment, one should not have to file income tax returns because he might incriminate himself. But they must be filed.

We conclude, as the tax court did, plausible as the position of Marwais is, there is a message in Ilfeld Co. v. Hernandez, Collector, 292 U.S. 62, 54 S. Ct. 596, 78 L. Ed. 1127, another double tax deduction disallowed. We follow taxpayer's argument that part of what was there said was dicta. And, of course, the sequence of facts there is reversed from what we have here. If what it said there was dicta, we believe that it is dicta the court will follow in cases having any similarity at all on double deductions for a single economic loss.⁴ 

The decision is affirmed.