On Petition to Review Decision of the Tax Court of the United States.
Before BIGGS, MARIS, and JONES, Circuit Judges.
This is a petition to review a decision of the Tax Court. The facts were stipulated and the stipulated facts were adopted by the Tax Court as its findings of fact. 1943, 1 T.C. 937.
John Wanamaker Philadelphia, the taxpayer, is a Pennsylvania corporation which owns and operates a department store in Philadelphia. Prior to December 14, 1920, its outstanding capital stock consisted of 75,000 shares of common stock of the par value of $7,500,000. Of these shares 73,995 were held by John Wanamaker, 1,000 by his son, rodman Wanamaker, and 5 by his associate, William L. Nevin. The same three men also comprised the taxpayer's board of directors. On the date mentioned the taxpayer was indebted to John Wanamaker in an amount in excess of $1,000,000 upon an open account.
On December 14, 1920, the taxpayer's board of directors passed a resolution increasing the taxpayer's authorized capital stock from $7,500,000 to $8,500,000, the increase of $1,000,000 to be represented by 10,000 shares of preferred stock. The taxpayer's stockholders approved the increase. On the same day the stockholders accepted an offer of John Wanamaker to take in payment of $1,000,000 due him by the taxpayer 10,000 shares of preferred stock of the par value of $1,000,000 and authorized the issuance of a certificate for that number of shares of preferred capital stock to his nominee, Fidelity Trust Company (now Fidelity-Philadelphia Trust Company), as trustee. On December 15, 1920, John Wanamaker delivered the certificate to Fidelity Trust company as trustee, together with a letter of instructions as to the terms of the trust. On the same day John Wanamaker made a gift of his 73,995 shares of common stock to Rodman Wanamaker. John Wanamaker died December 12, 1922.
The resolutions of the board of directors and stockholders increasing the taxpayer's capital stock and the certificate for the 10,000 shares of preferred stock issued to Fidelity Trust Company as trustee each contained the following provisions:
"(a) Said Preferred Capital Stock shall receive annual dividends of six (6) per cent and not more to be declared by the Board of Directors, at the times and under the conditions referred to under Section (d), but shall participate in no dividens in excess of six (6) per cent per annum. Said preferred capital stock shall not particiapte in the good-will of the business of John Wanamaker Philadelphia.
"(b) Said preferred capital stock shall have no voting power, nor shall the recipient of the interest to be derived therefrom have any interest direct, or indirect, in the business of John Wanamaker Philadelphia, or any Corporations connected therewith, beyond the enjoyment of the amount of dividends declared on said preferred capital stock by the directors of John Wanamaker Philadelphia.
"(c) The holders of said preferred capital stock shall have no right of an accounting, inspection, or other privilege against the said corporation, or any corporations connected therewith, at any time or any direction, control or suggestion, in the management of the business of said corporation, or of any corporations connected therewith.
"(d) After six months from demise of John Wanamaker the within stock shall begin to bear interest, and, after one year from date thereof, the first dividend shall be declared thereon. On one year's written notice, after date of the first dividend, the Corporation shall purchase at one hundred and ten ($10) Dollars a share, all, or such part of said preferred capital stock, not less than Fifty Thousand ($50,000) Dollars per annum, as it shall elect at the end of each fiscal year of the business of John Wanamaker Philadelphia, under said terms and conditions, until the entire issue of ten thousand (10,000) shares shall have been bought, at which time said preferred capital stock shall be delivered to John Wanamaker Philadelphia.
"(e) Upon dissolution, voluntary liquidation, or sale of all the property, and assets of John Wanamaker Philadelphia the payment of the preferred capital stock shall be deferred to the payment of the common capital stock; after the common capital stock has been paid, in full, at par, the preferred capital stock shall be paid, in full, at par; after both the common capital stock and the preferred capital stock shall have been paid in full at par, any remaining assets, either in cash, or in property, shall be distributed pro rata among the holders of the common capital stock according to their respective holdings."
After the death of John Wanamaker and in accordance with paragraph (d) of the preferred stock certificate, the preferred stock began to bear dividends at the rate of 6% per annum commencing June 12, 1923. The first dividend was paid December 12, 1923, and the taxpayer made payments semiannually thereafter until December 12, 1932. No dividends were declared or paid during the period from December 12, 1932, to December 12, 1935. Litigation in the Pennsylvania courts as to the right of the owners of the preferred stock to dividend payments for this period resulted in a judgment against the taxpayer which was affirmed in Warburton v. John Wanamaker Philadelphia, 1938, 329 Pa. 5, 196 A. 506.
The taxpayer accrued on its books preferred stock dividends in the amount of $49,500 for its fiscal year 1937. The amount thus accrued was paid during that fiscal year. For the fiscal year 1938 it accrued on its books preferred stock dividends of $45,000 for the current year and $164,677.06 for the three back years ended December 12, 1935. The current accrual of $45,000 was paid in that fiscal year and the back accrual of $164,677.06 shortly thereafter. The taxpayer deducted from gross income in its income tax returns for 1938 as interest accrued on indebtedness the total amount, ...