The opinion of the court was delivered by: MCGLYNN
This is an action for the refund of Federal Income Taxes in the amount of $9,971.00 paid for the fiscal year ended December 31, 1966. In its amended answer, the defendant sets forth an offset defense.
It is the conclusion of this court that the defendant's offset defense is invalid and, therefore, the plaintiffs are entitled to judgment for the amount of the refund.
For the purpose of resolving this dispute, the parties have stipulated to the following facts. In 1965, Numar S.A. (hereinafter "Numar"), a corporation organized under the law of Costa Rica, adopted a plan of complete liquidation and, within twelve months thereafter, sold all of its assets to United Fruit Company (hereinafter "United") and distributed the proceeds less assets retained to meet claims to its shareholders in complete liquidation. The final liquidation distributions were received by the United States shareholders of Numar, which shareholders included plaintiffs, in 1966, the taxable year in question.
It is the defendant's position that in computing the earnings and profits of a foreign corporation pursuant to Section 1248 of the Internal Revenue Code of 1954 (hereinafter referred to as the "Code")
Code Section 1245 requires the inclusion of that gain realized upon the sale of the foreign corporation's assets which would have been recognized under Code Section 1245 had the corporation been a domestic corporation.
If Numar had been a domestic corporation, the tax consequences of the liquidation to Numar would have been governed by Section 337(a) of the Code, and no gain or loss would have been recognized to Numar under this Section on the sale of its assets to United. However, $210,586.00 (recaptured depreciation) of the net gain in the amount of $4,371,720.00 realized by Numar on the sale of its assets would have been subject to the provisions of Section 1245(a) of the Code and taxable as ordinary income to the corporation.
In general, Section 1248 provides that when a United States person receives a liquidating distribution from a controlled foreign corporation, which distribution is considered to be made in exchange for stock under Section 331 of the Code, then the gain recognized by the shareholder (subject to certain limitations) shall be taxed as a dividend to the extent of the earnings and profits of the foreign corporation accumulated after December 31, 1962.
Section 1248(c) of the Code provides that for purposes of Section 1248 corporate "earnings and profits . . . shall be determined according to the rules substantially similar to those applicable to domestic corporations. . . . ." Section 1248(d) provides ". . . the following amounts shall be excluded . . . from the earnings and profits of a foreign corporation . . . (2) . . . earnings and profits of the foreign corporation attributable . . . to any net gain from the sale or exchange of property."
On the basis of this latter section of the Code, the plaintiffs and other shareholders of Numar excluded from Numar's accumulated earnings and profits the entire gain realized from the sale of Numar's assets to United.
The issue then is to reconcile Code Section 1248(d)(2) applying only to a twelve month liquidation of foreign corporations with Section 1245(a), which is applicable "notwithstanding any other provision of this subtitle."
One court, in construing these two provisions of the Code against the same factual background, concluded that Section 1245 "overrides" Section 1248(d)(2) and held that the excess depreciation is taxable as ordinary income to the shareholder of Numar. Pielemeier et al. v. United States of America, 74-2 U.S. Tax Cas. (CCH) P9599, 34 A.F.T.R.2d (P-H) 5556, Nos. 72-3082 and 73-2013 (C.D. Cal. 1974).
The rationale of that decision is that Section 1245 does not make a distinction between domestic corporations and foreign corporations and, therefore, it is applicable to both. I do not agree. Section 1245(a) requires recognition to the corporation of recaptured depreciation. Thus this Section deals solely with the person who disposes of depreciable property. Since a foreign corporation is not taxable, Section 1245(a) can have no bearing on the manner in which the foreign corporation treats gain on the sale of depreciable assets.
But the Government argues, since Section 1248(d)(2) refers to Section 337(a) relating to a twelve month liquidation of a domestic corporation and since Section 1245(a) is admittedly a limitation on the benefits conferred by Section 337(a), it follows that Section 1245(a) also limits the benefits conferred by Section 1248(d)(2). Here again, both Sections 337(a) and 1245(a) deals with the recognition of gain to the corporation and not with the computation of the earnings and profits taxable to a shareholder upon liquidation.
The language of Section 1248(c)(1) providing that the earnings and profits of a foreign corporation ". . . shall be determined according to rules substantially similar to those applicable to domestic corporations . . ." does not strengthen the defendants' position because the unambiguous language of the following - Section 1248(d) -- clearly allows exceptions to the general rule by ...