OPINION.
ARUndell, Judge:
The question for decision is whether the distributions received by the petitioners in 1940 from Carl G. Fisher Corporation constituted taxable dividends. The answer to this question depends upon whether or not the corporation had available earnings or profits at the time of the distribution. This in turn depends upon whether or not the accumulated earnings and profits of the predecessor, Fisher Company, were acquired as such by Fisher Corporation in the section 77B reorganization that was completed in 1935. If they were so acquired, there is a further question as to whether Fisher Corporation sustained a recognizable loss in 1938 when it relinquished stock and bonds of Montauk Beach Development Corporation in exchange for stock of Montauk Beach Company, Inc.
These proceedings involve two reorganizations under section 77B of the Bankruptcy Act, both of which reorganizations were founded upon mortgage bonds issued by Montauk Beach Development Corporation and guaranteed as to payment of principal and interest by The Carl C. Fisher Company. The bonds were defaulted in 1932 and as a consequence of such default various court proceedings were instituted against both corporations by the mortgage trustee and bondholders and other creditors. As to both corporations, the several court proceedings culminated in petitions for reorganization under section 77B of the Bankruptcy Act. The Fisher reorganization proceeding was concluded in 1935 and that of Montauk in 1938.
The Fisher Reorganization.
The Carl Gr. Fisher Company (called Fisher Company) had a large financial interest in Montauk Beach Development Corporation (called Montauk Corporation), consisting of stock acquired at a cost in excess of $1,946,000, bonds in the face amount of $57,000, and notes receivable in the amount of over $1,120,000. In addition, Fisher Company had guaranteed the payment of principal and interest on the bonds of Montauk Corporation, and by reason of such guaranty and the default on the bonds it was obligated as of October 1, 1934, to pay $2,741,000 principal and $472,240 interest. Its reorganization under section 77B ensued. The mechanics of carrying out the plan of reorganization were somewhat complicated, particularly as to the percentage distribution of stock among creditors. The net results were that its assets were transferred to a new corporation (called Fisher Corporation) and the capital stock of Fisher Corporation was issued to or for the benefit of the creditors of Fisher Company. Among such creditors were holders of Montauk bonds. The shareholders of Fisher Company did not receive any of the stock of Fisher Corporation.
The petitioners contend, principally, that (1) the enforcement of Fisher Company’s guaranty of Montauk bonds eliminated accumulated earnings, or (2) that the distribution of Fisher Corporation stock under the plan of reorganization was a taxable transaction so that there was no transfer of accumulated earnings, in either of which events the 1940 distribution was not out of earnings or profits. The respondent’s position is that the 1935 transfer of assets and issuance of stock constituted a tax free reorganization consequent upon which Fisher Corporation acquired the accumulated earnings of Fisher Company and that such earnings were available for dividends in the hands of the new corporation under the rationale of Commissioner v. Sansome, 60 F. 2d 931.
We think the petitioners are correct in their view that the earnings of Fisher Company were not acquired by Fisher Corporation, hence they were not available to the latter for the purpose of paying dividends. The parties have stipulated that as of November 26, 1935 (the date of transfer of assets), Fisher Company had earnings or profits accumulated after February 28, 1913, in an amount not less than $2,188,183.27 or more than $2,395,093.93 before giving effect to its liability on its guaranty of the Montauk Corporation bonds. The liability of Fisher Company under its guaranty of the bonds 'was $2,741,000 as to principal, plus interest. When the bonds were defaulted, the liability which had theretofore been contingent became a present liability. Upon default, various court proceedings were commenced against Fisher Company. One was a suit based on the guaranty wherein a bondholder sought recovery of the face amount of Montauk bonds, plus interest. Actions were brought by the trustee under the Montauk mortgage indenture, one of which was for the recovery of the full amount of the principal of the bonds plus interest, and in another the trustee asked that a receiver be appointed for Fisher Company. Fisher Company had no legal defense to the creditors’ claims under its guaranty, and its inability to pay caused it to seek a section 77B reorganization. The plan of reorganization recognized no equity in the stockholders, and the creditors became entitled to over 80 per cent of the new stock and to that extent became the equity owners of the assets. In such situations, where stockholders are excluded and creditors become equity owners, the beneficial ownership by the creditors does not await the formal transfer of assets and issuance of stock of the successor company but dates back to the time they invoked legal process to enforce their priority rights. This has been the holding by the Supreme Court in several cases beginning with Helvering v. Alabama Asphaltic Limestone Co., 315 U. S. 179, wherein it was held:
We conclude, however, that It is immaterial that the transfer shifted the ownership of the equity in the property from the stockholders to the creditors of the old corporation. Plainly the old continuity of interest was broken. Technically that did not occur in this proceeding until the judicial sale took place. For practical purposes, however, it took place not later than the time when the creditors took steps to enforce their demands against their insolvent debtor. In this ease, that was the date of the institution of bankruptcy proceedings. From that time on they had effective command over the disposition of the property. * * * When the equity owners are excluded and the old creditors become the stockholders of the new corporation, it conforms to realities to date their equity ownership from the time when they invoked the processes of the law to enforce their rights of full priority. At that time they stepped into the shoes of the old stockholders.
In the same case before the Board of Tax Appeals (41 B. T. A. 324), it was said at p. 331) :
When a general creditor is stepped up to the status of ownership of a beneficial interest in the assets of a corporation by reason of its insolvency he has a right therein that is property; he owns something; he has an investment; he has a status with respect to such assets comparable to that of a common stockholder.
Helvering v. Cement Investors, Ino., 316 U. S. 527, had its origin in a section 77B reorganization under which bondholders of the old corporation received stock of the new corporation. In holding that no gain or loss was to be recognized to the former bondholders, the Court said:
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OPINION.
ARUndell, Judge:
The question for decision is whether the distributions received by the petitioners in 1940 from Carl G. Fisher Corporation constituted taxable dividends. The answer to this question depends upon whether or not the corporation had available earnings or profits at the time of the distribution. This in turn depends upon whether or not the accumulated earnings and profits of the predecessor, Fisher Company, were acquired as such by Fisher Corporation in the section 77B reorganization that was completed in 1935. If they were so acquired, there is a further question as to whether Fisher Corporation sustained a recognizable loss in 1938 when it relinquished stock and bonds of Montauk Beach Development Corporation in exchange for stock of Montauk Beach Company, Inc.
These proceedings involve two reorganizations under section 77B of the Bankruptcy Act, both of which reorganizations were founded upon mortgage bonds issued by Montauk Beach Development Corporation and guaranteed as to payment of principal and interest by The Carl C. Fisher Company. The bonds were defaulted in 1932 and as a consequence of such default various court proceedings were instituted against both corporations by the mortgage trustee and bondholders and other creditors. As to both corporations, the several court proceedings culminated in petitions for reorganization under section 77B of the Bankruptcy Act. The Fisher reorganization proceeding was concluded in 1935 and that of Montauk in 1938.
The Fisher Reorganization.
The Carl Gr. Fisher Company (called Fisher Company) had a large financial interest in Montauk Beach Development Corporation (called Montauk Corporation), consisting of stock acquired at a cost in excess of $1,946,000, bonds in the face amount of $57,000, and notes receivable in the amount of over $1,120,000. In addition, Fisher Company had guaranteed the payment of principal and interest on the bonds of Montauk Corporation, and by reason of such guaranty and the default on the bonds it was obligated as of October 1, 1934, to pay $2,741,000 principal and $472,240 interest. Its reorganization under section 77B ensued. The mechanics of carrying out the plan of reorganization were somewhat complicated, particularly as to the percentage distribution of stock among creditors. The net results were that its assets were transferred to a new corporation (called Fisher Corporation) and the capital stock of Fisher Corporation was issued to or for the benefit of the creditors of Fisher Company. Among such creditors were holders of Montauk bonds. The shareholders of Fisher Company did not receive any of the stock of Fisher Corporation.
The petitioners contend, principally, that (1) the enforcement of Fisher Company’s guaranty of Montauk bonds eliminated accumulated earnings, or (2) that the distribution of Fisher Corporation stock under the plan of reorganization was a taxable transaction so that there was no transfer of accumulated earnings, in either of which events the 1940 distribution was not out of earnings or profits. The respondent’s position is that the 1935 transfer of assets and issuance of stock constituted a tax free reorganization consequent upon which Fisher Corporation acquired the accumulated earnings of Fisher Company and that such earnings were available for dividends in the hands of the new corporation under the rationale of Commissioner v. Sansome, 60 F. 2d 931.
We think the petitioners are correct in their view that the earnings of Fisher Company were not acquired by Fisher Corporation, hence they were not available to the latter for the purpose of paying dividends. The parties have stipulated that as of November 26, 1935 (the date of transfer of assets), Fisher Company had earnings or profits accumulated after February 28, 1913, in an amount not less than $2,188,183.27 or more than $2,395,093.93 before giving effect to its liability on its guaranty of the Montauk Corporation bonds. The liability of Fisher Company under its guaranty of the bonds 'was $2,741,000 as to principal, plus interest. When the bonds were defaulted, the liability which had theretofore been contingent became a present liability. Upon default, various court proceedings were commenced against Fisher Company. One was a suit based on the guaranty wherein a bondholder sought recovery of the face amount of Montauk bonds, plus interest. Actions were brought by the trustee under the Montauk mortgage indenture, one of which was for the recovery of the full amount of the principal of the bonds plus interest, and in another the trustee asked that a receiver be appointed for Fisher Company. Fisher Company had no legal defense to the creditors’ claims under its guaranty, and its inability to pay caused it to seek a section 77B reorganization. The plan of reorganization recognized no equity in the stockholders, and the creditors became entitled to over 80 per cent of the new stock and to that extent became the equity owners of the assets. In such situations, where stockholders are excluded and creditors become equity owners, the beneficial ownership by the creditors does not await the formal transfer of assets and issuance of stock of the successor company but dates back to the time they invoked legal process to enforce their priority rights. This has been the holding by the Supreme Court in several cases beginning with Helvering v. Alabama Asphaltic Limestone Co., 315 U. S. 179, wherein it was held:
We conclude, however, that It is immaterial that the transfer shifted the ownership of the equity in the property from the stockholders to the creditors of the old corporation. Plainly the old continuity of interest was broken. Technically that did not occur in this proceeding until the judicial sale took place. For practical purposes, however, it took place not later than the time when the creditors took steps to enforce their demands against their insolvent debtor. In this ease, that was the date of the institution of bankruptcy proceedings. From that time on they had effective command over the disposition of the property. * * * When the equity owners are excluded and the old creditors become the stockholders of the new corporation, it conforms to realities to date their equity ownership from the time when they invoked the processes of the law to enforce their rights of full priority. At that time they stepped into the shoes of the old stockholders.
In the same case before the Board of Tax Appeals (41 B. T. A. 324), it was said at p. 331) :
When a general creditor is stepped up to the status of ownership of a beneficial interest in the assets of a corporation by reason of its insolvency he has a right therein that is property; he owns something; he has an investment; he has a status with respect to such assets comparable to that of a common stockholder.
Helvering v. Cement Investors, Ino., 316 U. S. 527, had its origin in a section 77B reorganization under which bondholders of the old corporation received stock of the new corporation. In holding that no gain or loss was to be recognized to the former bondholders, the Court said:
In case of reorganizations of insolvent corporations the creditors have the right to exclude the stockholders entirely from the reorganization plan. When the stockholders are excluded and the creditors of the old company become the stockholders of the new, “it conforms to realities to date their equity ownership” from the time when the processes of the law were invoked “to enforce their rights of full priority.” Helvering v. Alabama Asphaltic Limestone Co., 315 U. S. 179 * * *. Under that approach the ownership of the equity in these debtor companies effectively passed to these creditors at least when § 77B proceedings were instituted.
Under the rationale of the above cases, the beneficial ownership by Montauk bondholders in Fisher Company’s assets, as creditors under the guaranty, antedated the transfer of the assets to Fisher Corporation. It is immaterial for present purposes whether that ownership vested at the time actions were instituted against Fisher Company, the filing of the plan, or the approval of the plan, as all were prior to the transfer of assets and the issuance of stock of the new corporation. Acquisition of the ownership of assets carries with it ownership of surplus. In Estate of Howard H. McClintic, 47 B. T. A. 188, involving a reorganization, we said (p. 200):
An asset does not ordinarily partake of a character permitting its classification as between capital on the one hand and surplus on the other, and it is not the practice to maintain books of account or balance sheets in such a way that a division of this nature can be made by inspection of the asset or of its accounting treatment. See Canal & Banking Co. v. New Orleans, 99 U. S. 97. For all that will generally appear, and the present proceeding is no exception, the capital assets as a whole will incorporate the combined attributes of stated capital and paid-in or accumulated surplus.
We followed the McClintic case in Stella K. Mandel, 5 T. C. 684, which involved a split-off reorganization and held that the new corporation inherited earned surplus of the old corporation in the same proportion that it acquired assets. In this view, the surplus of Fisher Company, all of which was inherent in and part of its assets, became the property of the creditors who had “stepped into the shoes of the old stockholders” (Helvering v. Alabama Asphaltic Limestone Co., supra) prior to the time of the formal transfer of assets. When the formal transfer was made “it is fair to say * * * that the transfer was made with their [the creditors’] authority and on their behalf.” Helvering v. Cement Investors, Inc., supra.
Whether or not the claim of the Montauk bondholders under the guaranty served to reduce Fisher Company’s accumulated earnings, such earnings were distributed to the creditors when they acquired beneficial ownership of the assets and they were no longer earnings in the hands of Fisher Company. It follows that they could not have been inherited by the successor corporation as earnings and could not have been available to the successor for the payment of dividends. Whether or not the extinguishment of the claims of the creditors resulted in gain or loss to them, the assets that they received constituted capital in their hands. When on their behalf (Helvering v. Cement Investors, Inc.) the assets were transferred to the successor corporation, such transfer was in effect a purchase of stock of the successor which, of course, did not create earnings or profits.
The Sansome case, and those that follow it, have no application to a situation such as we have here. In the Sansome case and others,1 there were voluntary tax free reorganizations or liquidations between corporations, at least one of which had accumulated earnings that were not distributed in the reorganization or liquidation. Under such circumstances, the earnings remained available as such to the successor or surviving corporation. Hone of the cases in the Sansome group, as far as we can find, involved proceedings in bankruptcy courts where creditors ousted stockholders “to enforce their rights of full priority.” Helvering v. Alabama Asphaltic Limestone Co., supra. When the reason for the Sansome rule is considered, it is understandable that it should not be applied to a situation such as we have here. In Samuel L. Slover, 6 T. C. 884, cited with approval in Commissioner v. Phipps, 336 U. S. 410, we said:
The origin and purpose of the Sansome rule has repeatedly been described as based upon the danger that otherwise distributions of accumulated earnings to stockholders would escape tax.
In this case, as we have said above, all accumulated earnings, if any, went over to the creditors and none was left for later distribution to stockholders.
In view of our conclusion that the accumulated earnings of Fisher Company were not acquired by Fisher Corporation in the reorganization, the respondent erred in treating as taxable dividends any amounts in excess of the amounts so reported by the petitioners. This conclusion as to the principal contention of the parties makes it unnecessary to consider alternative points argued by them.
Reviewed by the Court.
Decisions will he entered for the petitioners.
Murdock, Harron, and Raum, JJ., dissent.