Opposition Brief — Baker Commodities, Inc. v. Commissioner

°

in

Statutes—Continued .

Page

Re nh eee 12

ah 12

EEE eo Sa ow Li aciaek we 12

we | TENE aia ag re een tine 2,11, 12,15

Miscellaneous:

Cohen, Gelberg, Surrey, Tarleau, and Warren,

Corporate Liquidations under the Internal

Revenue Code of 1954, 55 Colum. L. Rev. 37

(1955)____- 5 Sate Soa Eee me 10:

H. Conf. Rep. No. 2543, 83d Cong., 2d “ay 10

House Hearings before the Committee on :

Ways and Means on General Revenue Re-

vision, 83d Cong., Ist Sess_.____-.---_-_- 10

H. Rep. No. 1337, 83d Cong., 2d Sess__-_- . 10

S. Rep. No. 1622, 83d Cong., 2d Sess....___- 10

a

~

gn the Supreme Court of the Bnited States

~ Ocroper TERM, 1969

No. 1036

Baker Commopitigs, INc., PETITIONER

v.

COMMISSIONER OF INTERNAL REVENUE

ON PETITION FOR A WRIT OF CERTIORARI TO THE UNITED

STATES COURT OF APPEALS FOR THE NINTH CIRCUIT

BRIEF FOR THE RESPONDENT IN OPPOSITION

OPINIONS BELOW

The opinion of the court of appeals (Pet. App. 1-

16) is reported at 415 F. 2d 519. The opinion of the

Tax Court (Pet. App. 17-81) is reported at 48 T.C.

374.

JURISDICTION

The judgment of the court of appeals was entered

on August 8, 1969 (Pet. App. 1). Petitioner’s petition

for rehearing was denied on October 7, 1969 (415 F.

2d 519). The petition for a writ of certiorari was filed

on January 5, 1970. The jurisdiction of this Court is

invoked under 28 U.S.C. 1254(1).

(1)

pda» Ati Pelle aiscitistnn A Mec ladda AANA a il Wit at BALL ALARA ADEN Iai iri dew

2

QUESTIONS PRESENTED

The ultimate issue here presented is whether the

court of appeals erred in holding that petitioner’s bases

in assets acquired on liquidation of wholly-owned sub-

sidiary corporations, effected immediately after ae-

quisition of each subsidiary’s stock, were the same as

the bases which those assets had in the hands of the -_

liquidated corporations, rather than petitioner’s higher

cost of its stock in the liquidated corporations. Resolu-

tion of that issue presents the following questions:

1. Whether the judicially promulgated Kimbell-

Diamond doctrine * survived the enactment of Section

334(b)(2) of the Internal Revenue Code of 1954.

2. Whether, in the circumstances of this case, the

courts below properly applied the statutory rules of

stock attribution prescribed in Section 318 of the Code

prior to its amendment in 1964.

3. Whether the courts below correctly determined

that the Manchester Medicai Hospital partnership

continued to exist after the sale of its operating assets,

because the partnership had not been dissolved or ter-

minated and was still collecting and distributing the

proceeds-of the installment note it-received-in the-sale.

STATUTES INVOLVED

The pertinent provisions of Sections 318, 334 and

708 of the Internal Revenue Code of 1954 are set forth

in the Appendix to the petition (pp. 82-87). Section —

7701(a)(2) of the Code is set forth in the Appendix,

infra, p. 15.

1 Kimbell-Diamond Milling Co. v. Commissioner, 14 T.C. 74,

affirmed per curiam, 187 F. 2d 719 (C.A. 5), certiorari denied,

342 U.S. 827.

3

STATEMENT

The present controversy concerns the proper bases

to be assigned to assets acquired by petitioner, a Cali-

fornia corporation, on liquidation of three wholly-

owned subsidiary corporations. The stock of two of

the subsidiaries, Baker Commodities, Ine. (herein

called “Old Baker” to distinguish it from petitioner

which bears the same name) and Kerman Tallow

Works (“Kerman’’), was acquired by petitioner on

June 26, 1961, and these subsidiaries were liquidated

on June 30, 1961. The stock of the third subsidiary,

Veronica Compania Naviera, S.A. (“Veronica”) was

acquired on December 20, 1962, and that subsidiary

was liquidated not later than December 31, 1962. (Pet.

App. 5-6, 29, 37-38, 49-51.)

The following facts are relevant to the application of

the “attribution” rules of Section 318 of the Internal

Revenue Code:

1. Petitioner acquired all of Old Baker’s stock and

50 percent of Kerman’s stock from the Jerome Broth-

ers partnership (the “Partnership”’), whose partners

were Frank, Varney and Paul Jerome (the “Jeromes’’),

and the balance of Kerman’s stock from the R. S. .

Wilson Company, which was owned by Robert: S.

Wilson. It acquired all of Veronica’s stock from the

-Jeromes. As of June 26, 1961, and at all relevant

times thereafter, the Jeromes, six key employees of

the Partnership and Jack Keith each owned 10 per-

cent of petitioner’s outstanding stock. (Pet. App.

3-6, 21-23, 28-29, 49-50.)

Apart from the Partnership, the Jeromes were

members of a general partnership called Keith Engi-

4

neering Company (“Keith”). Jack Keith was a 50 per-

cent partner, and the other 50 percent was equally

divided among the Jeromes. The Jeromes also were

general partners in a limited partnership, Manchester

Medical Hospital (‘‘Manchester’’), in which each

owned a one-ninth interest. Five of the six key em-

ployees of the Partnership who were stockholders of

petitioner also were limited partners in Manchester.

(Pet. App. 6-7, 23-24, 43-45.)

2. Manchester was organized on or about January 1,

1958, for the purpose of constructing, owning and

operating a convalescent hospital. A convalescent hos-

pital was in fact built and operated by Manchester ;

however, it ran into severe financial difficulties and

was shut down in July, 1960. On March 1, 1961, the

partnership sold all of its assets to Southwest Com-

munity Hospital Association, a nonprofit corporation,

which was unrelated to any of Manchester’s partners

or to any of the parties or entities involved in this

case. Southwest gave a promissory note for the pur-

chase price which was secured by a chattel mortgage

and deed of trust on the hospital property. Informa-

tion returns were filed by Manchester for its fiscal

years 1961 and 1962. The 1961 return reported the

sale of assets; the 1962 return, for the fiscal year

ended August 31, 1962, reported collections on the in-.

stallment sale of $36,623.97. No other receipts or

income was reported on the 1962 return; however, the

- note from Southwest was shown as an asset with an

amount due of $12,500. No proof of any final liquida-

tion and distribution of the assets of this partnership

was offered at trial. (Pet. App. 6-7, 43-45.)

ty : ve Fi: ; Gy —

3. Following the liquidations 3 oi ie. Kerman

and Veronica, petitioner apportton ed? the gost of

the stock of each corporation to the assets distributed

On audit of petitioner’ s income tax returns \for the

fiscal years ended June 30, 1962 and June 30, 1963,

the Commissioner disallowed the new bases’ for the

assets, which petitioner had taken in reliance on Sec-

tion 334(b) (2) of the Internal Revenue Code. He de-

termined that those assets had the same bases in peti-

by that corporation in liquidation (Pet. me » 5-6).

tioner’s hands—which bases were lower than the cost.

of the stock—that they had had in the hands of the

liquidated corporations. The Commissioner’s deter-

mination was ‘predicated on the ground that petitioner

did not acquire the stock in the liquidated corporations

by “purchase’’ as required by Section 334(b)(2) and

defined in Section 334(b) (3), because (a) its shares in

Old Baker and Kerman were acquired‘in exchanges to

which Section 351 applied and (b) it acquired the stock

of all three corporations from a person or persons—

the Partnership or the Jeromes—whose ownership of

the stock was attributable to petitioner under the rules

of constructive stock ownership prescribed in Section

318(a). The Tax Court sustained the Commissioner’s

determination on both grounds (Pet. App. 64-75, 77-

81). The court of appeals did not pass on the Section

351 issue. It affirmed on the second ground, holding

that there was no “purchase” because, immediately

prior to each acquisition, petitioner was deemed to

own, by reason of the statutory rules of stock attri-

bution, the stock it thereafter acquired (Pet. App. 8

16). E

a SORE Her

6

The court reached this conclusion by the following

. process (Pet. App. 9-10) :

First, 30 percent of petitioner’s stock was attributed

to the Partnership, since each of the Jeromes owned

10 percent of petitioner’s stock, and stock actually

. owned by a partner is deemed to be owned by the

partnership. Section 318(a) (2) (A).

Second, an additiona] five percent of -petitioner’s

' stock was attributed to the Partnership through Keith.

Jack Keith owned 10 percent of petitioner’s stock and

also owned a 50 percent interest in Keith, the other 50

percent being owned by the Jeromes. Since stock

owned by a partner is deemed to be owned by the

partnership, Jack Keith’s 10 percent interest in peti-

tioner is deemed to be owned by Keith. Half of that

10 percent interest is in turn attributable to the

Jeromes because stock constructively owned by a part-

nership is deemed to be owned proportionately by its

partners. Finally, the stock so attributable to the

Jeromes is re-attributable to the Partnership. Sections

318(a)(2)(A) and 318(a) (4),

Third, an additional 1624 percent of petitioner’s

stock was attributed to the Partnership through Man-

_ chester. Five of Manchester’s limited partners owned

a total of 50 percent. of petitioner’s stock, and the

Jeromes had a total 14 interest in Manchester. There-

fore, under the same rules as were applicable to Keith,

the Jeromes were deemed to own 14 of Manchester’s

90 percent interest in petitioner, which was ultimately

attributed to the Partnership. Sections 318(a) (2)

(A) and 318(a) (4).

hat bit saa ee 2 A ’

Fourth, because the Partnership was deemed to own

a total of more than 00 percent of petitioner’s stock

(5198 percent), petitioner was deemed to own the stock

acquired by it from the Partnership and did not,

therefore,’ acquire that stock by “purchase.” Sections

318(a) (2) (C) (ii) and 334(b) (3)(C).

Finally, the court rejected (Pet. App. 11-16) peti-

tioner’s claim that there should be no, attribution of

petitioner’s stock through Manchester because Man-

chester had ceased to exist prior to the time of the

liquidations in 1961 and 1962. It held that although

Manchester’ sold its operating assets in March, 1961,

the partnership was not terminated at the time of the.

liquidations, since it retained assets and had not itself

been dissolved or liquidated by the end of 1962.

ARGUMENT

The decision below, affirming that of the Tax Court,

is correct. There is no conflict or any other ground for

further review by this Court.

1. Petitioner relies most heavily (Pet. 11) on’ the

argument that the court of appeals erred in failing to

invoke the Kimbell-Diamond doctrine* and’ that its

decision conflicts in principle with the rationale fol-

lowed by the Court of Claims in American Potash &:

Chemical Corp. v. United States, 399 F. 2d 194, on

‘rehearing, 402 F. 2d 1000. ae

The Kimbell-Diamond doctrine, which was devel-

‘oped judicially under the 1939 Code, permitted a tax-

* Kimbell-Diamond Milling Co. vy. Commissioner, 14 T.C. 74,

affirmed per curiam, 187 F. 2d 718 (CA. 5), certiorari denied, 342

U.S. 827.

378-227-—-70__2

8

payer that purchased the Stock of a corporation for

the sole purpose of liquidating it and acquiring the

liquidated corporation’s assets, to use, as the basis

for the assets, the taxpayer’s cost of the stock rather

than the basis of the assets in the hands of the liqui-

dated corporation. In enacting the 1954 Code, Con-

gress incorporated the Kimbell-Diamend doctrine in

Section 334(b) (2), Which, on certain express condi-

tions, provides an exception to the general rule of

Section 334( b)(1), that property received by a cor-

poration on liquidation o¢ & subsidiary retains, in the

hands of the transferee, the same basis that it had in

_ the hands of the liquidated corporation, In American

Potash, supra, the Court of Claims held that failure

to comply with one of the conditions prescribed in

Section 334(b) (2)— in ‘that case the requirement of

Section 334(b) (2) (B) that the stock of the subsidiary

be acquired within a 12-month period—does not pre-

clude a corporate taxpayer from acquiring a stepped

up basis on liquidation of a subsidiary, if the taxpayer

meets the requirements of the Kimbell-Diamond

doctrine. :

We submit that there is no conflict with American

Potash. Petitioner did not argue in the Tax Court

that this case was to be decided under the Kimbell-

Diamond doctrine rather than by reference to Section

334(b) (2). Petitioner raised this issue for the first

time in its petition for rehearing in the court of

appeals (Pet. App. 90-93), which was denied without

comment.’ Since the court of appeals usually does not -

consider new theories on petition for rehearing

: 9

(Stephens v. Arrow Lumber Co., 354 F. 2d 732, 734

(C.A. 9); Mitchell Vv. Greenough, 100 F. 24 1006

(C.A. 9)), there is no basis for the assumption that

it gave any consideration to the merits of the argu-

ment based on the Kimbell-Diamond rationale, In

these circunistances, and in the absence of any ex-

pression of views by the court of appeals regarding

Kimbell-Diamond, it cannot be said that a contlict of

any kind exists between the decision below and Amer-

tcan Potash, or that the matter is in a proper posture

for review by this Court.’ (aie ee

The petition does not suggest any reason why it

would have heen improper for the court of appeals to

decline to consider, as untimely made, the argument

that Kimbell-Diamond applies in this case. Refusal to

consider that newly advanced argument on rehearing .

Was particularly appropriate here, since a holding that

the Kimbell-Diamond doctrine is still viable would not

finally dispose of the cave, A new trial would be neces-

sary because the. Tax C5urt, under the issues framed

by petitioner, had no occasion to, and did not, make any

findings of fact regarding petitioner’s intent in acquir-

ing the liquidated corporations.

Moreover, it is clear that the K imbell-Diamoid doc-

trine was supplanted by Section 334(b) (2) in ease;

involving acquisitions of st ck by: corporate taxpayers.

Application of that docirine created coniusion beeruse

*As_ petitioner acknowledges (Pet. 14), American Potash

was remanded for a determination as to Whether K/mbe?/-

Diamond was applicable in the cireumstances of that case. There

is thus no final 1954 Code decision permitting a corporate tax-

OO

4

“10

it required factual findings as to subjective intent.

- This led to uncertainty in an area where certainty is

essential. House Hearings before the Committee on

Ways and Means on General Revenue Revision, 83d

Cong., 1st Sess.. pp. 1819, 1329-1330; Cohen, Gelbere,

Surrey, Tarleau and Warren, Corporate Liquidations

under the Internal Revenue Code of 1954,'55 Colum.

L. Rev. 37, 40-43 (1955). Section 334(b) (2), with its

objective criteria, was designed to provide the required

certainty. H. Rep. No. 1337, 83d Cong., 2d Sess., pp.

38, A100, A109-A110; 8S. Rep. No. 1622, 83d Cong., 2d

Sess., pp. 48, 254, 257; H. Conf. Rep. No. 2543. 834

Cong., 2d Sess., p. 36. To hold that K tmbell-Diamond

applies in the cireumstances of this ease thus would

frustrate the principal purpose of Section 334(b) (2)

and do violence to the manifest intent of the Congress

which enacted that provision. See. S. Rep. No. 1622,

_ supra, p. 257.

2. Petitioner concedes (Pet. 26, n. 14) that> this is

a case of first impression involving “multiple attri-

bution” under Section 318. Petitioner also concedes

(Pet. 26) that the result reached below “is no longer

possible * * * because of the 1964 amendment to

§ 318." * This, without more, We submit, is a suffi-

cient basis for this: Court to deny further review

of the Section 318 issue. But apart from the fact that

the decision below is unique, there can be no doubt

that both courts below correctly held that Section 318

‘Section 318(a)(5)(C), added by the Act of August 31, 1964,

P.L. 88-554, 78 Stat. 761, Sec. 4, provides that stock is not to be —

attributed from partner to partnership and then to other partners.

Had that provision been applicable here, the Partnership would

not have been deemed to own any of the stock attributed to it

through Keith and Manchester.

‘ H

(prior to its amendment in 1964) required multiple

reattribution of the stock of Old. Baker, Kerman and

Veronica. The pertinent statutory language is un-

equivocal, as petitioner acknowledged in the Tax Court

(Pet. App. 80, n. 30), and petitioner cites no author-

ity for its assertion (Pet- 24) that Congress did not

mean precisely what it said.’

3. Similarly without merit is petitioner’s conten-

tion that the courts below erred in holding « that

Manchester was a viable partnership for purposes of

attribution under Section 318. The fact is that even at

the time of the Veronica liquidation in December

1962, Manchester was in existence—none of its part-

ners had withdrawn, its .affairs. had not yet been

wound up and it had not beén dissolved under appli-

cable California law (Pet. App. 6-7,- 11-16, 43-45).

Manchester was, therefore, a partnership at all criti-_

cal times within the meaning of Section 7701(a) (2),

which defines a partnership to include “a syndicate,

group, pool, joint venture, or any other unincorporated

organization, through or by means of: which any

business,. financial operation, or venture is carried

on.”

_ Petitioner’s argument that -Manchester’s existence

\or non-existence should be determined by reference

* Petitioner professes baftlement (Pet. 25) regarding the re-

attribution ofthe Veronica stock, since it acquired that stock

“from the Jeromes, while the stock of Old Baker and Kerman

was acquired from the’ Partnership. It is sufficient to note that

throughout these proceedings the Jeromes and the Partnership

- have been treated interchangeably (Pet. App. 5-6, 9-10, 77-

81), and that at no time—even on rehearing—did petitioner

question this treatment.

12

to Section 708(b), which relates to a termination of

a partnership, rather than under Section 7701, is in-

correct. Section 7701(a) provides that the definitions

therein contained are to be applied “where not other-

wise distinctly expressed or manifestly incompatible

with the intent” of any operative provision of the

Code. The rules of Section 708, on the other hand, are

to be applied only “[ rick purposes of this subchapter”

(Subchapter K relating to partnerships). See Section

708 (a). Since Section 318 is not a part of Subchapter

K, Section 708(b) is not applicable in determining

whether Manchester had been terminated for purposes

of the Section 318 attribution rules. Furthermore, as

the court of appeals held (Pet. App. 13-16), even if

Section 708(b) were applicable, Manchester had not

been terminated within the meaning of that provision.

- Finally, petitioner’s assertion .(Pet. 17) of a conflict

with Barran v. Commissioner, 334 F. 2d 58 (C.A. 5);

Hatch’s Estate v. Commissioner, 198 F. 2a 26 (CA.

9); and Thornley v. Commissioner, 147 F. 2d 416

(C.A. 3), is undereut by its admission (Pet. 20)

that the question of what constitutes a termination

of a partnership under Section 318 is one of first

appellate impression. The cited cases deal only with

the question of termination in connection with the

partnership provisions of the Code, and, in any event,

turn upon factual firidings that the partners intended

to terminate the partnerships there involved. No simi-

lar findings were made here.’

© Hatoh’s Estate v. Commissioner, supra, was decided by a

three-judge panel of the Ninth Circuit and, of course, is not in

conflict with the decision of the Ninth Circuit below.

13

CONCLUSION

The petition for a writ of certiorari should be

denied. -

Respectfully submitted.

ERwIN N. Grisworp,

Solicitor General.

JOHNNIE M. WaAtrERs,

Assistant Attorney General.

WILLIAM Massar,

Davip ENGiisH CARMACK,

Attorneys.

°o

Marcu 1970.

APPENDIX

Internal Revenue Code of 1954:

Sec. 7701. DEFINITIONS.

(a) When used in this title, where not other-

wise distinctly expressed or manifestly incom-

patible with the intent thereof— '

* * * * *

(2) Partnership and partner—The term

“partnership” includes a syndicate, group, pool,

joint venture, or other unincorporated organi-

zation, through or by means of which any busi-

ness, financial operation, or venture is carried

on, and which is not, within the meaning of this

title, a trust or estate or a corporation; and the

term ‘‘nartner” includes a member. in such a

syndicate, group, pool, joint venture, or

organization.

* * * * *

[26 U.S.C. 7701.]

(15)

US. GOVERNMENT PRINTING OFFICE 970