prior to February 26, 1965-an asset essential to the operation of the business. In addition to laying out the remodeling expenditures, Enterprises had acquired several other miscellaneous assets, including printed matter, licenses for the business other than the liquor license, and deposits on the utilities for the business. It had also incurred and paid expenses such as legal fees, the rent on Waller's automobile, and fees for the transfer and renewal of the liquor license. These items amounted to $2,631.68. All of these transactions-the borrowing of the $20,000 and the resulting liability for interest on the loan, the lease and the payment of rent thereon, the payment of fees, the leasing of Waller's automobile, and other items-involved tax consequences which were required to be taken into account in computing the taxable income or loss of Enterprises for its first taxable year ended November 30, 1965. Petitioners' accountant admitted that they were reflected in the tax return for that period. We think it clear that they are the kind of events which begin the running of the period within which a new corporation must make the subchapter S election. corpora Significantly, also, Enterprises functioned as any other corporation prior to February 26, 1965, in other respects. As noted, the tion held its first annual meeting of its organizers and adopted bylaws on January 4, 1965. In addition to maintaining bank accounts from which the disbursements of about $10,000 were made, it kept its accounting journals and records separate from those of petitioners. It also made the improvements to the leased premises, arranged financing, and, generally, directed its efforts toward the development of a profit-making capability. Thos. E. Bone, 52 T.C. 913, 919 (1969). We are compelled to conclude that Enterprises acquired assets more than 1 month before the subchapter S election was made. It did not make the election within the time prescribed by section 1372 (c) (1) or the implementing regulations. See Joseph W. Feldman, 47 T.C. 329, 333 (1966); William Pestcoe, 40 T.C. 195, 198 (1963); Simons v. United States, 208 F. Supp. 744, 746 (D.Conn. 1962). Accordingly, Enterprises was not an "electing" small business corporation during its taxable year ended November 30, 1965, and petitioners are not entitled to deduct the corporation's net operating loss in that year. Decision will be entered for the respondent. WILLIAM A. SAWELSON AND SHARON SAWELSON, PETITIONERS V. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT MELVIN G. SAWELSON AND EILEEN SAWELSON, PETITIONERS V. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT Docket Nos. 212-70, 213-70. Filed October 29, 1973. During their fiscal year ended Jan. 31, 1965, petitioners, who are 1. Partial redemption of petitioners' stock by Acme did not mean- 3. Business purpose is irrelevant in determining dividend equiva- Bruce I. Hochman, for the petitioners. Richard W. Janes and Richard H. Gannon, for the respondent. DAWSON, Judge: *In these consolidated cases respondent determined deficiencies in petitioners' Federal income taxes for their taxable year ended January 31, 1965, as follows: Petitioners William A. Sawelson and Sharon Sawelson... Docket No. Deficiency $2,101. 67 4, 266. 14 Several adjustments have been conceded. The only issue presented for decision is whether the cash distributed to petitioners on partial redemption of their stock was essentially equivalent to a dividend and therefore taxable as ordinary income rather than capital gain as reported. FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. The stipulation of facts and exhibits attached thereto are incorporated herein by this reference. Melvin G. Sawelson and Eileen Sawelson were husband and wife who resided in Los Angeles, Calif., during their taxable year ended January 31, 1965, and at the time the petition was filed herein. Their Pursuant to a notice of reassignment sent to counsel for the parties, and to which no objections were filed, these cases were reassigned on Oct. 10, 1973, from Judge Austin Hoyt to Judge Howard A. Dawson, Jr., for disposition. joint Federal income tax return for that fiscal year was timely filed with the district director of internal revenue at Los Angeles, Calif. William A. Sawelson and Sharon Sawelson were husband and wife who resided in Los Angeles, Calif., for the fiscal year ended January 31, 1965, and at the time the petition was filed herein. Their joint Federal income tax return for that fiscal year was timely filed with the district director of internal revenue at Los Angeles. Acme Film Laboratories, Inc. (Acme), is a California corporation which at all times material herein had only one class of common stock and no other class of stock outstanding. As of April 21, 1964, the outstanding common stock was held as follows: Other minority shareholders (20, all unrelated to the peti Sam and Anna Sawelson are the parents of Melvin G. and William A. Sawelson. During the taxable year in question the petitioners Melvin G. and William A. Sawelson each had a beneficial interest in the Sam and Anna Sawelson Trust.1 For several years prior to April 7, 1964, Charles J. Ver Halen (Ver Halen), a minority stockholder, had been making various threats about suing Acme, and had been for some years a direct competitor of Acme. He had also on a number of occasions employed Acme employees to Acme's detriment. Robert G. Taylor (Taylor), counsel for Acme, recommended that Acme reacquire the stock of Ver Halen to eliminate him as a source of frustration and to end his potential access to confidential information. In fairness to the minority shareholders, Taylor recommended that an offer be made to the other minority shareholders to redeem their stock on precisely the same terms as were offered to Ver Halen. Taylor was not concerned about fairness with respect to Ver Halen since the latter was represented by his own counsel. The record is not clear as to the petitioners' respective interests in the trust. Since all the briefs are based on the assumption that each son had a 50-percent interest therein and since the Commissioner did not question the division of the trust income on that basis, as reported on petitioners' returns, we have assumed that each brother had a 50-percent interest in the trust. On being advised that the corporation might soon be acquired by another company, Taylor further recommended that the offer of redemption be extended to the Sawelsons as a group in order to avoid the charge, upon subsequent sale, of an unfair aggrandizement of the majority stock by virtue of not having participated in the prior redemption. The objective was to have the Sawelsons participate in the redemption so that they would have the same approximate proportionate ownership in Acme after the redemption as they had before. On April 7, 1964, Acme's board of directors adopted, and its shareholders approved, a resolution authorizing the company's officers to offer to purchase up to 40,000 shares of Acme stock at a price of $1.95 per share. The offer was extended to all shareholders, with a 13,629share limitation on the number of shares to be purchased from those shares owned or controlled by Acme's directors. On April 7, 1964, Acme's directors were Samuel Sawelson, Melvin G. Sawelson, William A. Sawelson, and David L. Christopher. This offer to purchase Acme's shares was extended to Acme's shareholders by letter dated April 21, 1964. Two reasons were given in the offer for the limitations on the total number of shares to be redeemed and the number to be redeemed from the directors-"so that the total repurchase obligation [would] not impair the ability of the corporation to satisfy its obligations as they fall due" and to preserve capital which "could be used to great advantage in the business to enhance its earning power." Shortly after April 24, 1964, Acme redeemed 29,271 shares of its stock pursuant to its offer of redemption at $1.95 per share. The shares of Melvin G. Sawelson and William Sawelson were purchased by Acme on May 1, 1964. Immediately after the redemption, the outstanding stock of Acme was 130,009 shares. Of this number, 8,600 shares were held by the minority shareholders other than Ver Halen, whose stock interest had been fully redeemed. The impact of the redemption on the three groups of shareholders (i.e., the Sawelsons, Ver Halen, and the other minority shareholders) was as follows: As a result of this redemption, the proportionate interest of the Sawelson family increased from 83.4 percent to 93.4 percent of outstanding shares. The petitioners herein treated the amounts received in redemption as distributions in exchange for their stock and reported the difference between the amounts received and their bases in the shares redeemed as long-term capital gains. In his statutory notices of deficiencies dated December 4, 1969,2 relating to petitioners' fiscal year ended January 31, 1965, respondent determined the following deficiencies in their income taxes resulting from, among other items not at issue herein, the treatment of the amount received from Acme as a taxable dividend under sections 301 and 316 of the Internal Revenue Code of 1954, rather than as a redemption of stock to be treated as an exchange: William A. and Sharon Sawelson_. Melvin G. and Eileen Sawelson__ Amount received from Acme on redemption of stock $8, 775 13, 650 Deficiency determined by respondent $2, 101. 67 4, 266. 14 1 This figure includes other adjustments, not at issue here, in addition to the alleged dividend. ULTIMATE FINDING The partial redemption of petitioners' stock by Acme did not meaningfully reduce their proportionate interests in the corporation; therefore, the cash distributions from Acme to petitioners were essentially equivalent to a dividend, taxable as ordinary income. OPINION As a general rule, distribution of property by a corporation to its shareholders is treated, pursuant to sections 301 and 316, as a dividend out of earnings and profits to the extent of such earnings. One exception to this general rule is for certain distributions in redemption of a corporation's stock. Section 302 (a) treats such distributions as "payment in exchange for stock," taxable as capital gain, if the requirements of one of the four paragraphs of subsection 302 (b) are met. Petitioners have not contended that the redemption fits within any of the "safe harbors" provided by section 302 (b) other than section 302(b)(1), nor is there anything in the record which would support such an argument. Thus the only issue here is whether the distribu 2 While petitioners raised a statute of limitations issue in their petitions, respondent alleged in his answer that a series of Forms 872 had been timely and validly executed which extended the statutory period to Dec. 31, 1969. Petitioners did not raise this issue at trial nor on brief. We therefore conclude that the petitioners no longer contest this issue and decide that the statutory notices were timely issued. 8 Unless otherwise indicated all section references are to the Internal Revenue Code of 1954, as amended. |