Appeal From the United States District Court for the District of New Jersey. D.C. Civil Action No. 590-72.
Clark,*fn* Associate Justice, and Gibbons and Hunter, Circuit Judges.
This appeal, brought under 28 U.S.C. § 1291, tests the validity of a refund of federal income taxes ordered by the District Court covering legal expenses incurred by the Newark Morning Ledger Company (Ledger) in protracted litigation with the Republican Company (Republican), in which Ledger, as a stockholder, complained of malfeasance by Republican's management. The facts were stipulated, cross motions for summary judgment were filed, and the court ordered the refund to be paid. The Government raises two points here: (1) the expenses incurred by Ledger were for the benefit of Republican, and thus were not deductible by Ledger; and (2) the expenses were capital, arising from the acquisition of its interest in Republican, and therefore, they are not deductible as ordinary expenses incurred in carrying on its trade and business.*fn1 We affirm the judgment.
The facts are stipulated and can be stated concisely.*fn2 In June, 1960, prior to the purchase by Ledger, the stock of Republican was held as follows: 23 shares by trustees of Republican's employee pension funds (Funds), 80 shares by the immediate family of Sherman Bowles, the deceased publisher of Republican (Family), and 74 shares by certain cousins of Bowles (Cousins). There was also outstanding a 15-year voting trust agreement, initiated in 1952 between the Funds and the Family, vesting control of Republican and its subsidiaries in the trustees of the Funds.
On June 6, 1960, Ledger purchased the 74 shares of the Cousins for $1,850,000. On June 17, 1960, Ledger entered into an escrow agreement to purchase the 80 shares of the Family upon the termination of the 1952 voting trust; under the terms of the agreement, the purchase price of $1,650,000 for the Family's shares was deposited in a Boston bank. Soon after this purchase of 87% of the beneficial ownership of the stock of Republican, Samuel I. Newhouse, the president of Ledger,*fn3 telephoned Sidney Cook, an officer of Republican, and advised him of the purchase, and they agreed to meet the next day in New Haven, Connecticut, to discuss the same. After this meeting, Newhouse requested Cook to run a news story on the purchase, and this was done on the next day in one of the Republican newspapers. On the next Sunday, a critical editorial appeared on the first page of the Republican's Sunday newspaper, decrying its purchase by "outside interests." On the following day, Newhouse contacted Cook and indicated that he was coming to Springfield to talk over the matter, but Cook thought this unwise and it was agreed that they meet in New York City the next day. At this meeting, Cook suggested that Ledger sell its newly acquired stock, but Newhouse indicated that it was not for sale and again requested an opportunity to inspect the plant of Republican at an early date. However, Cook delayed the request, and no inspection was ever held. Ledger then sought a financial statement of Republican which was refused, and later a request for examination of its books and records suffered the same treatment.
This conduct by Republican's management, officers appointed by the trustees of the Funds, triggered the filing of six lawsuits, two in the federal court (one of which was dismissed on jurisdictional grounds) and four in the Superior Court of Massachusetts. Two of the cases were specifically denominated shareholder derivative suits. In substance, the litigation asserted mismanagement of Republican, alleged breaches of fiduciary duty and diversion of corporate assets into the employees pension funds, sought indemnification for Republican, and demanded the removal of the Funds' trustees and the appointment of substitutes. The state cases were consolidated on February 23, 1961 and referred to a master-auditor. Hearings were held for 117 trial days, and on April 22, 1964, the master filed his report with the Superior Court, which later approved the report and its findings with some modification. The hearing on a Final Decree was held in the Superior Court, but on March 26, 1966, a final decree judgment embodying a judgment of dismissal was entered as a result of a settlement agreement. The settlement decree required the trustees of the Funds to surrender all of the Funds' shares of stock to Republican and forego past and future obligations of Republican for contributions to the Funds, except when approved by Republican's Board of Directors. The second federal suit had been held in abeyance awaiting the state cases. However, a Master had been appointed in 1964, and he had held 75 days of hearings. The state suit settlement carried with it an agreement to dismiss the federal suit. The terms of the settlement did not provide for Ledger's costs and attorneys' fees incurred in the litigation.
The Ledger's fees and expenses in the litigation were $478,472.52 covering the years 1963-1967, and it claimed tax deductions in each of those years in which the expenses were incurred. The Internal Revenue Service, however, assessed tax deficiencies against Ledger for these deductions. The deficiencies totaled $295,421.40, plus interest. Ledger paid the assessed deficiencies and filed timely suit for refund. The district court rendered judgment against the Government for the amount of the deficiencies levied and paid, with interest and costs, but exclusive of attorneys' fees for the refund suit.
2. The Points on Appeal :
(a) As we have noted, the Government alleges first that the expenses claimed here were incurred by Ledger for the benefit of Republican, rather than Ledger, and as a matter of law were thus non-deductible under I.R.C. Section 162, 26 U.S.C. § 162. In response to Ledger's contention that this issue is being raised for the first time on appeal, the Government points to a trial memorandum as supporting its claim that the point was raised in the trial court. Examination of the reference*fn4 reveals clearly, however, that the argument was made to support the theory that the expenditure was a capital one, and not the theory that it was made for the benefit of Republican. We generally refuse to consider issues that are raised for the first time on appeal. Sachanko v. Gill, 388 F.2d 859, 861 (3d Cir. 1968); Tromza v. Tecumseh Products Co., 378 F.2d 601, 604 (3d Cir. 1967); Mirkowicz v. Reading Co., 84 F.2d 537, 538 (3d Cir. 1936). We are familiar with the position of the Supreme Court that in horrendous cases where a gross miscarriage of justice would occur, the practice should be relaxed. Hormel v. Helvering, 312 U.S. 552, 85 L. Ed. 1037, 61 S. Ct. 719 (1940). But this is not such a case. Not only did the Government, in pursuing its summary judgment, fail to raise the new theory it now proposes, but it also failed to raise it in defense of the taxpayer's motion for summary judgment. Although the general rule is that cross-motions for summary judgment do not constitute an agreement that if one is rejected the other is warranted, Rains v. Cascade Industries, Inc., 402 F.2d 241, 245 (3d Cir. 1968), the filing of a motion for summary judgment does not relieve a party of his responsibility to uphold his burden in opposition to the other party's motion. Had the new theory been raised below, Ledger would have put into issue facts that it asserts would show that the litigation was in fact filed to aid Ledger in the protection of its investment, and not brought for Republican's benefit. Such facts might have precluded summary judgment, but since the questions were not raised in the district court, they cannot be presented or considered on appeal. See Shafer v. Reo Motors, Inc., 205 F.2d 685 (3d Cir. 1953).
Moreover, one of the factors considered in Hormel was the certainty of the taxpayer's liability had the correct theory been argued by the Government in the district court. This case plainly presents the opposite situation, for there is no certainty of establishing Ledger's liability by the theory now advanced by the Government. There is no per se rule that the expenses of a shareholder's derivative suit are never deductible. Indeed, the Government admits that the corporation itself could deduct these expenses, Appellant's Reply Brief pp. 5-6 at note 3, and the general rule is that expenses of shareholders in successful derivative suits are chargeable to the corporation itself. 13 W. Fletcher, Cyclopedia of Law of Private Corporations § 6044 (rev. ed. 1970). The Government was required to make its case below. Had it met that obligation, Ledger and the district court could have addressed the new theory and created a more complete record on appeal. We see no injustice in holding the Government to the arguments it made below and consider the greater equities to be with Ledger.
But even if our decision on this point is not sustainable, it does not follow that the Government must prevail. The Tax Court has suggested that a shareholder can deduct the fees and expenses of a derivative suit from gross income. Shoe Corporation of America v. Commissioner, 29 T.C. 297, 307 (1957). In addition, the Government urged the same theory raised here in at least one other case, Brown v. United States, 526 F.2d 135 (6th Cir. 1975), but there the court sidestepped the question. In the face of the record here and only in the event we are wrong in refusing to decide the question, we hold that Ledger may deduct its expenses and costs incurred in preventing the looting of the corporation because the litigation ...