Corporate Earnings: When Taxable

Corporate Earnings: When Taxable.—On at least two occasions the Court has rejected as untenable the contention that a tax on undistributed corporate profits is essentially a penalty rather than a tax or that it is a direct tax on capital and hence is not exempt from the requirement of apportionment. Inasmuch as the exaction was permissible as a tax, its validity was held not to be impaired by its penal objective, namely, ''to force corporations to distribute earnings in order to create a basis for taxation against the stockholders.'' As to the added contention that, because liabilty was assessed upon a mere purpose to evade imposition of surtaxes against stockholders, the tax was a direct tax on a state of mind, the Court replied that while ''the existence of the defined purpose was a condition precedent to the imposition of the tax liability, . . . [did] not prevent it from being a true income tax within the meaning of the Sixteenth Amendment.''25 Subsequently, in Helvering v. Northwest Steel Mills,26 this appraisal of the constitutionality of the undistributed profits tax was buttressed by the following observation: ''It is true that the surtax is imposed upon the annual income only if it is not distributed, but this does not serve to make it anything other than a true tax on income within the meaning of the Sixteenth Amendment. Nor is it true . . . that because there might be an impairment of the capital stock, the tax on the current annual profit would be the equivalent of a tax upon capital. Whether there was an impairment of the capital stock or not, the tax . . . was imposed on profits earned during . . .—a tax year—and therefore on profits constituting income within the meaning of the Sixteenth Amendment.''27

Likening a cooperative to a corporation, federal courts have also declared to be taxable income the net earnings of a farmers' cooperative, a portion of which was used to pay dividends on capital stock without reference to patronage. The argument that such earnings were in reality accumulated savings of its patrons which the cooperative held as their bailee was rejected as unsound for the reason that ''while those who might be entitled to patronage dividends have . . . an interest in such earnings, such interest never ripens into an individual ownership . . . until and if a patronage dividend be declared.'' Had such net earnings been apportioned to all of the patrons during the year, ''there might be . . . a more serious question as to whether such earnings constituted 'income' [of the cooperative] within the Amendment.''28 Similarly, the power of Congress to tax the income of an unincorporated joint stock association has been held to be unaffected by the fact that under state law the association is not a legal entity and cannot hold title to property, or by the fact that the shareholders are liable for its debts as partners.29

24 Helvering v. Gowran, 302 U.S. 238 (1937).

25 Helvering v. National Grocery Co., 304 U.S. 282, 288-89 (1938). In Helvering v. Mitchell, 303 U.S. 391 (1938), the defendant contended the collection of fifty per cent of any deficiency in addition to the deficiency alleged to have resulted from a fraudulent intent to evade the income tax amounted to the imposition of a criminal penalty. The Court, however, described the additional sum as a civil and not a criminal sanction, and one whch could be constitutionally employed to safeguard the Government against loss of revenue. In contrast, the exaction upheld in Helvering v. National Grocery Co., though conceded to possess the attributes of a civil sanction, was declared to be sustainable as a tax.

26 311 U.S. 46 (1940). See also Crane-Johnson Co. v. Helvering, 311 U.S. 54 (1940).

27 311 U.S. at 53.

28 Farmers Union Co-op v. Commissioner, 90 F.2d 488, 491, 492 (8th Cir. 1937).

29 Burk-Waggoner Ass'n v. Hopkins, 269 U.S. 110 (1925).

Whether subsidies paid to corporations in money or in the form of grants of land or other physical property constitute taxable income has also concerned the Court. In Edwards v. Cuba Railroad,30 it ruled that subsidies of lands, equipment, and money paid by Cuba for the construction of a railroad were not taxable income but were to be viewed as having been received by the railroad as a reimbursement for capital expenditures in completing such project. On the other hand, sums paid out by the Federal Government to fulfill its guarantee of minimum operating revenue to railroads during the six months following relinquishment of their control by that government were found to be taxable income. Such payments were distinguished from those excluded from computation of income in the preceding case in that the former were neither bonuses, nor gifts, nor subsidies, ''that is, contributions to capital.''31 Other corporate receipts deemed to be taxable as income include the following: (1) ''insiders profits'' realized by a director and stockholder of a corporation from transaction in its stock, which, as required by the Securities and Exchange Act,32 are paid over to the corporation;33 (2) money received as exemplary damages for fraud or as the punitive two-thirds portion of a treble damage antitrust recovery;34 and (3) compensation awarded for the fair rental value of trucking facilities operated by the taxpayer under control and possession of the Government during World War II, for in the last instance the Government never acquired title to the property and had not damaged it beyond ordinary wear.35

30 268 U.S. 628 (1925).

31 Texas & Pacific Ry. Co. v. United States, 286 U.S. 285, 289 (1932); Continental Tie & L. Co. v. United States, 286 U.S. 290 (1932).

32 15 U.S.C. § 78p.

33 General American Investors Co. v. Commissioner, 348 U.S. 434 (1955).

34 Commissioner v. Glenshaw Glass Co., 348 U.S. 426 (1955).

35 Commissioner v. Gillette Motor Co., 364 U.S. 130 (1960).

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