Commissioner v. Universal Leaf Tobacco Co.

            UNITED STATES COURT OF APPEALS FOURTH CIRCUIT

'The only issue is whether petitioner is entitled, in computing its taxable income for the calendar year 1959, to deduct, under section 164, ² income taxes paid to the Commonwealth of Virginia with respect to income from liquidating dividend received by petitioner upon liquidation of its wholly owned subsidiary when gain on such liquidating dividend is not recognized for Federal income tax purposes pursuant to section 332(a).' ³

On this appeal of the Commissioner of Internal Revenue, we agree that he deduction was allowable, and we sustain the redetermination of the Tax Court cancelling the deficiency.

Sec. 164, as here pertinent, provides that '* * * there shall be allowed as a deduction taxes paid or accrued within the taxable year', and sec. 332, on the present point, reads: '(a) General rule. -- No gain or loss shall be recognized on the receipt by a corporation of property distributed in complete liquidation of another corporation.'

Unquestioned, these are the facts. In 1958 Universal completely liquidated its wholly owned subsidiary in strict compliance with Section 332. As a consequence, no gain or loss was recognized to Universal upon distribution to it of the subsidiary's property. However, in 1959 Virginia taxed this distribution as a liquidating dividend. The Virginia taxes were then taken by Universal, in its 1959 Federal return, as a deduction from its income remaining after exclusion of the dividend.

The deduction was disallowed by the Commissioner on the ground that the State tax was 'an expense allocable to tax-exempt income, and, therefore, not an allowable deduction' by virtue of this provision of Section 265:

     'No deduction shall be allowed for -- (1) Expenses. -- Any

For this contention the Commissioner equates non-recognized gain with 'wholly exempt' income. This we think he does not justify. To begin with, the two categories have been referred to in the Tax Code with obvious distinguishment. Presumably, the Congress in Section 332 advisedly used the description of not 'recognized' instead of 'exempt'. Whenever intending to grant an exemption, the Congress has had no difficulty in doing so and quite unequivocally. E.g., 892, 26 U.S.C. Section 892 (income of foreign governments); Section 894, 26 U.S.C. Section 894 (income exempt under treaty); Section 912, 26 U.S.C. Section 912 (exemption for certain allowances). Here it refrained from classifying the instant dividend as 'exempt'. On the contrary it explicitly and positively declared the gain not 'recognized', thus withdrawing the distribution from the purview of Section 265.

Tax statutes are drawn to speak with precision. They are highly technical, and we have no clear warrant presently to say that one term in the tax law is the equivalent of another. Here, incidentally, 'exempt' seemingly would not describe an item not 'recognized' under Section 332, for this section treats of loss as well as gain, and loss is not ordinarily spoken of as 'exempt'.

One reason for the difference in terms, it seems to us, is found in the predominant aim of Section 332. The intendment is not to tax a gain or observe a loss when either is not economically realized. ⁴ This is the result when a corporation is dealing with its own subsidiary. This Congressional purpose was achievable by merely declaring the distribution not recognizable at this stage as income or loss, without the necessity of going further and declaring it exempt. At a later stage the gain or loss might well become 'recognized' as income or loss, and thus enter into the computation of taxes. The Congress may have thought that if the dividend were declared 'exempt' at the first stage, the designation might have an unforeseeable and unintended effect in subsequent tax accountings.

At all events we think Section 332 is to be construed with Section 265 in the same manner as Section 337 has been authoritatively read with Section 265. Sections 332 and 337 have a common object. ⁵

The latter's apposite terms are these:

     '(a) General rule. -- If --

     'There is a valid distinction between 'wholly exempt' income and

Affirmed.

² 26 U.S.C. Section 164.

³ 26 U.S.C. Section 332(a).

⁴ H.Rep. No. 1337, 83d Cong.2d Sess. (1954) in 1954 U.S.Code Cong. & Ad. News at p. 4063.

⁵ For the legislative history of these sections see 1954 U.S.Code Cong. & Ad. News pp. 4063, 4238-48, 4678-81, 4892-93, 4896-97.