UNITED STATES v. DONRUSS CO.
Term:
- 1960-1969
Facts of the Case
None
Question
None
Argument
United States v. Donruss Co. - Oral ArgumentUnited States v. Donruss Co. - Oral Argument, Part 1United States v. Donruss Co. - Oral Argument, Part 2 Conclusion
Decision: 6 votes for United States, 3 vote(s) against
Legal provision: Internal Revenue Code
Legal provision: Internal Revenue Code
None
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Transcript:
Argument of Richard L. Braunstein
Chief Justice Earl Warren: Number 17, United States petitioner versus the Donruss Company.
Mr. Braunstein.
Mr. Richard L. Braunstein: May it please the Court.
I believe the impression was left yesterday that a taxpayer in this case accumulated a substantial amount of funds and the sole purpose was the avoidance of tax but that was not the decision of the court below.
The first inquiry is whether the accumulation exceeds the reasonable needs of taxpayer's business.
But this phrase has come to me in the fixed, definite, and certain needs of the business or written obligation of the taxpayer.
It's a test which the Government has tried to restrict as closely as possible.
Justice Abe Fortas: But we know, do we have that before us or don't, isn't the matter issue before us the Government's request for an instruction the denial of that instruction then the action of the Court of Appeals in reversing for further procedures pursuant to the standard that it laid down?
Mr. Richard L. Braunstein: I think you're correct.
Justice Abe Fortas: And all of these being with respect to the question of purpose or intent.
Mr. Richard L. Braunstein: That's correct.
This issue is not before the Court but I think it's pertinent in terms of the effect of what the Government proposes to ask this Court to set the test because in circumstances like this, the jury found that the taxpayer did not have fixed and definite purposes but they held that he did not have a tax avoidance purpose.
The taxpayer stated that he had plans for expansion, he intended to buy stock in a distributor and the theory we can infer believe that this was the purpose motivating his conduct.
So, while it was not fixed, definite, and certain, nevertheless, it was a permissible purpose and the facts were that the taxpayer did purchase $380,000.00 worth of the distributor's stock that the taxpayer did expand and it was because of this expansion and purchase that the taxpayers continue to be successful but the critical point is that it's the Government's position that in adopting the A purpose test, you would then ask the taxpayer only two questions.
Number one, if the distribution was made to you would it be taxable?
Number two, were you aware that if a distribution was made to you it would be taxable?
And if both of those answers were yes, then it's my understanding that regardless of the fact that taxpayer's purpose is dominant purpose the whole purpose of the accumulation was for expansion to preserve and expand the business that nevertheless the penalty would apply.
Justice Abe Fortas: Well, the Government would not agree with that characterization, would it?
Mr. Richard L. Braunstein: I haven't heard them deny that characterization.
Justice Abe Fortas: Because it's not whether the effect of the distribution would be to subject the stockholder to tax but whether that was one of the motives and --
Mr. Richard L. Braunstein: That's not --
Justice Abe Fortas: -- withholding the distribution.
Mr. Richard L. Braunstein: I don't regard that that is what the Government is asking this Court to rule on.
I think they say very clearly that if the avoidance of tax is one of 100 purposes regardless of its significance then the tax applies and how do you determine what do you mean by avoidance of tax?
Well, avoidance of tax is knowledge that a distribution results in taxable income and the whole thrust of the Government's argument and our argument here is such a test really rights out the purpose test because this --
Justice Abe Fortas: I guess it gets pretty abstruse but and maybe those difference between and what we're struggling with is a shading between the words “purpose, effect and motive.”
Mr. Richard L. Braunstein: I think that is correct and it's basically our position that the Sixth Circuit correctly characterized the test in terms of the dominant and impelling motive.
It's -- I think one of the difficult things is the burden of proof that the taxpayer has and if you enunciate a test other than the dominant or impelling test whether it has any meaning because once the Court finds that an accumulation is beyond the objectively reasonable needs of the business we're face or the taxpayer is face with a determinative presumption.
He has to go forward and prove in very heavy burden that this was not the purpose.
He obviously cannot say, “Well, that was not my purpose.
I don't think that carries the burden.”
I think he's compelled to give specific and definite reasons as it relates to his motivation.
Now, as a practical matter, these cases are tried four or five years after the year in issue and he cannot fabricate.
I -- I think there is -- the Government is concerned about that these are subjective matters that there is no objective way to determine or test the testimony of the taxpayer.
But this is not true.
He's talking about a situation of his intentions of his plans and we're viewing these four or five years after and he -- when he says must be susceptible to objective verification or reason.
And it's out position that it's only through utilization of the dominant or impelling test that there is any meaning in the phrase avoidance of the purpose that any other test just puts an impossible burden on the taxpayer and I think this is why we believe the Government's position and I think it's very clear when I say, “One out of 100.”
That's enough to carry today.
That is their position.
Justice Byron R. White: But it's only their position against the background of a finding that the accumulation was and serves that frame of reference and by objective standards and unreasonable accumulation.
Mr. Richard L. Braunstein: I don't gather that from the record.
I think the Government's position in A purpose that if avoidance of the taxes A purpose.
Justice Byron R. White: You mean in -- you mean the jury wouldn't have to find that there was an unreasonable accumulation?
Mr. Richard L. Braunstein: I think the jury would have to find additional --
Justice Byron R. White: Well, that's what I mean.
Mr. Richard L. Braunstein: Yes.
Justice Byron R. White: Before you -- before the taxpayer goes out the window in the Government's position it has to be bound of the accumulation were unreasonable.
Mr. Richard L. Braunstein: Unreasonable and our point is that --
Justice Byron R. White: And once it's found that the reasonable objectively there is a no reason in terms of the needs of the business or to the extent that it's unreasonable?
Mr. Richard L. Braunstein: No, I don't think that's true.
When you talk about the unreasonable means of the business, that phrase has been determined as requiring fixed, definite, and certain needs, something that is susceptible to a knowledge that this is going to require a liability.
Now, if the Court if we had a more liberal view of the unreasonable --
Justice Byron R. White: But you do concede that if it's necessary to find that the accumulation was unreasonable?
Mr. Richard L. Braunstein: That's correct.
Justice Byron R. White: Then what the taxpayer is claiming as justification for this accumulation has been turned to be unreasonable and he is giving an unreasonable reason for the accumulation.
Mr. Richard L. Braunstein: I think it's --
Justice Byron R. White: And it maybe that that is a matter of subjective and then he thought that he needed this much money for that purpose and you say that that's subjective attitude should be some room for that.
Is there room for you to prove that it in the case?
Mr. Richard L. Braunstein: I would think so because one of the things that concerns me or disturbs me is that in testing what is unreasonable.
That's not a very broad test.
It's rather limited and I think the whole thrust of our argument in terms of the unreasonable test --
Justice Byron R. White: Well, what if weren't though?
Mr. Richard L. Braunstein: I think if it were not I think you'd have fewer cases going on the purpose test.
I think what you really getting here is expansion problem.
The taxpayer that intends to expand desires to diversify but under the unreasonable test cannot satisfy it because he does not his plans have not matured to the state required by the statute.
And our position is in view of the fact that this is what the unreasonable test is to then adopt in -- purpose test precludes a taxpayer from expanding.
Justice Byron R. White: But if the court, if a judge or jury found the accumulation of the unreasonable by whatever applicable standards there were you're suggestion is that nevertheless a taxpayer should be allowed not to be taxed on the unreasonable accumulation because he had a good faith view that this was -- that his business needed these accumulation?
Mr. Richard L. Braunstein: Correct.
I think what we're saying that whatever his motivation is he's not looking to avoid tax but he honestly believes that --
Justice Abe Fortas: Mr. Braunstein, consideration that bothers me in this case following the quote by Mr. Justice White, is it's arguable that the standard adopted by the Court of Appeals in what you're contending here is contrary really to what the Congress expressly provided and that in a way it undermines the specific language of Section 533 (a).
And 533 (a) really makes the test of that intent to avoid stockholder tax a very minor consequence as I read it, it says that once you find that the earnings of the corporation are permitted or accumulate beyond the reasonable needs of the business that that “shall be determinative of the purpose to avoid the income tax with respect to shareholders unless the corporation by the preponderance of the evidence shall prove to the contrary.”
Now, those are very rugged standards but they're Congress' standards whether one makes a good, bad, or indifferent they are in the law.
Mr. Richard L. Braunstein: Well, I agree with you and I think they are very difficult standards and what we're saying is that in the Government's view to adopt an A purpose test really writes out any opportunity of the taxpayer to attempt to meet that standard.
Justice Abe Fortas: Well, even if you assume that if you go the other way and adopt a dominant purpose test as the Court of Appeals did below and as you're agreeing would seem to go to the opposite extreme and to undermine what seems to be the fairly obvious intention of the Congress?
Mr. Richard L. Braunstein: I view that really as a burden of proof aspect that Congress created making it most difficult for the taxpayer once a determination has been made that the accumulation exceeds the “reasonable needs” of the business that a very difficult burden is placed on the taxpayer.
And in terms, the taxpayer then has -- is given one last opportunity as I view it to show that his conduct was not motivated by what Congress -- the avoidance of tax that it was motivated by something else and that if we adopt the A purpose test, I --
Justice Abe Fortas: There's something else being a reasonable needs of the business but as my brother White was pointing out that if you can show that this accumulation was needed for the reasonable needs of the business you never get to the question of --
Mr. Richard L. Braunstein: You never get to that but on the other hand, the reasonable needs of the business have been construed by the regulation and the courts and then the instruction to be fixed definite.
And there are many taxpayers if they do want to go on an expansion program at the end of any particular year.
It's maybe completely fortuitous that they have advanced to this stay.
And what we're saying is that if you accept the Government's interpretation in effect you're just preventing a taxpayer whose legitimate purpose is the expansion and diversification of his business from pursuing that point of view.
Justice Abe Fortas: And the problem that I'm putting to you is raised simply whether your argument is properly addressed to this Court or to the Congress?
Mr. Richard L. Braunstein: Well, I --
Justice Abe Fortas: (Voice Overlap) Let's down the matter of unraveling what the Congress really intended what the spiritual thrust of the legislation is?
Mr. Richard L. Braunstein: Well, I think the spiritual thrust of the regulation in going back historically was to get at corporations that the primary purpose was the formation for matters not germane to the corporate function but to tax avoidance.
I think that really is the thrust.
And what we're saying here is that this interpretation is not inconsistent with that thrust.
What it does is permit the closely held corporation to compete with the public corporation.
And in no way do I view the test enunciated by the Sixth Circuit as inconsistent with his basic purpose.
I think the Second Circuit recognize the fact that this statute should not be construed in consistent with the antitrust laws that it recognize that the philosophy of Congress, I think rather than being hindered by the interpretation of the Sixth Circuit has actually helped.
Because I think it is consistent with permitting competition and permitting that closely held corporation to compete.
We are not arguing for a standard which permits tax avoidance.
We're arguing for a standard which permits the closely held corporation to compete with the public company to diversify and expand and to that extent, I submit it is completely consistent with the congressional purpose of the statute.
Justice Potter Stewart: Are you referring to the Government's position as the A purpose position?
I want to be sure I understand what you're talking.
Mr. Richard L. Braunstein: That's correct.
Their position is that as I understand that that a statute applies if A purpose was the avoidance of tax and the way to test A purpose is that if an individual knows the distribution will result in taxable income.
Justice Potter Stewart: It's a, it's not any purpose?
Mr. Richard L. Braunstein: It's A purpose.
Justice Potter Stewart: I thought it was a reference to subsection A of the statute (Voice Overlap).
Mr. Richard L. Braunstein: No, I'm sorry.
Justice Potter Stewart: Yes.
Mr. Richard L. Braunstein: And our position is that you're really writing out the statute.
You might as well under then interpretation just have a statute which says that if there is an accumulation beyond the reasonable needs of the business the tax applies period because if you accept that interpretation, the rest is just surplusage.
I can't see any meaning for it all.
Justice Hugo L. Black: If you were the judge, the trial judge on the charge to the jury, how would you define that duty to find whether it was reasonable or unreasonable?
Mr. Richard L. Braunstein: Under the statute?
Justice Hugo L. Black: Yes, of course.
Justice Potter Stewart: I think under the statute that the judge would have to state that to find that it is reasonable you would have to find that the taxpayer had fixed and definite commitments.
He had contracts which require the expenditure of these funds.
The fact that taxpayer intended whether you believe he intended or not to expand and diversify or was attempting to diversify does not qualify under the reasonable accumulation test.
Justice Hugo L. Black: How much would motive have to do with your charge if you were charging about reasonable and how much would you do it on the basis?
Mr. Richard L. Braunstein: I think motive --
Justice Hugo L. Black: What they have to determine whether it's reasonable without regard the motive?
Mr. Richard L. Braunstein: That's correct.
The motive with only be important on the avoidance of the purpose test and it's our position that the proper instruction is that the motive resulting in a substantial penalty should be the motive controlling the actions of the taxpayer.
Justice Hugo L. Black: What then Congress intend that to hit straight and letting a tax authority or somebody determine whether they have accumulated more than what's reasonable of these and its purposes?
Mr. Richard L. Braunstein: I don't think -- I think ultimately it's a jury or a court question.
I think it first blush the revenuation does come in and make the determination as to whether the accumulation was reasonable or unreasonable in terms of the defying standard.
Justice Hugo L. Black: Well, then it put difficult general with tax cases to jury (Voice Overlap) --
Mr. Richard L. Braunstein: I think it is.
Justice Hugo L. Black: -- to prove the mind and find out how many of the dominant purposes was one thing and how many was another?
Mr. Richard L. Braunstein: I think -- I'm not suggesting that it's an easy test but the Court has done it in the Allen v. Trust Company of Georgia case involving transfers and contemplation of death.
This Court did it in Duberstein in terms of what is a gift when it searched.
I think in Duberstein, the Court refused to come up with an easy test but said, “You've got to search for dominant, controlling, and impelling motive.”
And we're asking the Court or this test presents no more of a difficulty then this Court does addressed itself to in Duberstein and Trust Company of Georgia where it did accept the dominant and impelling test.
Justice Hugo L. Black: Well, suppose the company was a $2,000.00 corporation and it sold $2 million worth of product, goods whatever it was?
It made a million and a half profit.
Would the motive of the men who say that a million and a half didn't pay everything out have anything to do with what the jury should find?
Mr. Richard L. Braunstein: I think it's required under the statute.
Justice Hugo L. Black: You do?
Mr. Richard L. Braunstein: Yes, I do sir.
Justice Byron R. White: What the -- I think the jury is structured to (Inaudible) -- I think it's a matter of actual (Inaudible) the jury is saying, “Well, it's not unreasonable accumulation here” but nevertheless the taxpayer still wins because he had a -- he just made a mistake.
Do you think it's a -- how is your experience with the jury if the judge going to be against that finding?
Mr. Richard L. Braunstein: I think our experience quite frankly would be and most tax practitioners have focused everything in trying to convince the trier of the fact.
Justice Byron R. White: That it is an unreasonable?
Mr. Richard L. Braunstein: That it is an unreasonable but you then get into a very difficult question if the courts restrict what is reasonable and what is not that you only have one last refuge.
And what really concerns us --
Justice Byron R. White: But how is that -- how offer you're going to -- I'm just wondering how significant this whole argument is, what's that last refuge worth once the finding about reasonableness --
Mr. Richard L. Braunstein: Well, we think it's more substantial in terms of the possibility of the closely held company --
Justice Byron R. White: And I gather the government would think so to or it would be (Voice Overlap).
Mr. Richard L. Braunstein: It would not -- it would not --That's correct.
Justice Byron R. White: I guess what it means is that there probably would be more trials, more efforts to -- the necessity of making more settlements?
Mr. Richard L. Braunstein: We say it's a small price to pay for a competitive society.
Thank you.
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Transcript:
Argument of Mitchell Rogovin
Chief Justice Earl Warren: Number 17, the United States, petitioner versus the Donruss Company.
Mr. Rogovin.
Mr. Mitchell Rogovin: Mr. Chief Justice and may it please the Court.
This is an income tax case dealing with the construction or portion of the accumulated earnings tax.
The purpose of this tax, the accumulated earnings tax, which has been a part of our tax fabrics since 1913, is to deter shareholders of a corporation from avoiding individual income tax by having the corporation accumulate earnings beyond the reasonable needs of the corporation.
The Government's petition for a writ of certiorari to review the judgment of the Sixth Circuit in this case takes place because the Sixth Circuit's decision was in conflict with four other circuits, circuits that are in support of the United States in its construction.
The surplus earnings tax deals with Sections 531 through 537 of the Internal Revenue Code and they have three essential features.
Section 532 (a) of the Code has the critical operative provision in the context of the accumulated earnings tax.
This is the provision that imposes the special tax on “every corporation formed or availed of for the purpose of avoiding the income tax with respect to its shareholders by permitting earnings and profits to accumulate instead of being divided or distributed.”
This feature requires a particular showing of conduct and a particular showing of a state of mind.
Questions of intent and state of mind however are difficult and since 1913, the statute has carried with it a rebuttable presumption regarding the prohibited purpose.
Section 533 (a) of the Code carries the prohibited -- carries this presumption.
It provides that the fact that earnings and profits are permitted to accumulate beyond the reasonable needs of the business shall be determinative of the purpose to avoid the income tax with respect to shareholders unless the corporation by the preponderance of the evidence shall prove to the contrary.
Finally, since 1954, there has been a credit provision within the accumulated earnings tax and this is found at 535 (c), the most significant of the two credits, the 535 (c) (1) credit which in essence permits a credit notwithstanding the presence of this proscribed purpose.
As to that portion of the accumulated earnings that if determined by the trier of fact to be reasonable, although the ultimate issue is whether or not there's a proscribed purpose, whether or not it exists, even if it's found to exist, the credit under 535 (c) (1) would wash out the tax at least as to that portion of the accumulation --
Justice Byron R. White: Is this true Mr. Rogovin even though you're not relying on the presumption?
Let's assume there's some expressed approval of what the purpose was.
Mr. Mitchell Rogovin: Yes, sir.
Justice Byron R. White: And that is was to avoid income taxes.
Mr. Mitchell Rogovin: Yes, sir.
Justice Byron R. White: Then as long as the accumulation is reasonable, there's no penalty imposed.
Mr. Mitchell Rogovin: Yes, Mr. Justice White, what had happened prior to 1954 was that if there are any portion of the total accumulation were determined to be unreasonable, then the tax would apply to the totality of the accumulation.
The credit in 1954 allowed the taxpayer to at least take out of the ambit of a tax that portion which was determined to be reasonable at all times assuming that the avoidance purpose existed.
Justice Byron R. White: So this in effect that this law unreasonable (Inaudible)?
Mr. Mitchell Rogovin: Pardon me sir.
Justice Byron R. White: This is just denounced to a law against unreasonable purpose in accumulation?
Mr. Mitchell Rogovin: With the requisite of intent.
The intent is built into the statute, the central feature.
Justice Byron R. White: Suppose the intent still maintain -- still accumulate (Inaudible)?
Mr. Mitchell Rogovin: As the net result of the '54 credit.
To summarize, the special tax will imposed if the purpose of avoiding the shareholder tax is found to exists either because of the presumption in 533 (a) or if it's found independently of it but subject to the credit for so much of the retained earnings as reasonably needed for the business.
Now, the present case takes the form of a suit for refund.
At the trial, the jury heard that evidence that for the years 1960 and 1961, the respondent, a bubblegum manufacturer had increased the accumulated earnings in those years in suit from approximately 1,638,000 to 1,679,000.
There was no record of any dividends ever being paid in the years in suit or any indication of dividends having been paid since the inception of a corporation on 1947.
The sole stockholder testified that the reasons for the accumulations were to purchase the stock of respondent's major distributor.
There was also a testimony that the accumulations were because of a fear of depression, possible fear of war and also a desire on the part of the respondent to follow by expansion the footsteps of the Wrigley Company.
Now, in response to interrogatories, the jury found: one, that during the years in suit, the respondent had accumulated its earnings beyond the reasonable or reasonably anticipated needs of a business but that it had not retained its earnings for the purpose of avoiding the income on its sole shareholder.
The Government's appeal was based on the District Court's refusal to define the phrase “the purpose” as it relates to the reason for the retention of the earnings.
The Court of Appeals reversed and remanded the case for a new trial holding that the jury might well have been led to believe that tax avoidance must be the sole purpose behind an accumulation.
Now, this position, the tax avoidance must be the sole purpose and not been asserted by either of the parties.
The Sixth Circuit in reaching this decision rejected the Government's position, the Government's request for a jury instruction that tax avoidance need only be one of the purposes for the company's accumulation policy and the Sixth Circuit went on to hold that the jury should be instructed that the accumulated earnings tax applies only if tax avoidance was the dominant, controlling or impelling motive.
The Government seeks to review in this Court because we believe that this dominant purpose standard is erroneous.
We believe that the proper view was the view that was requested of the District Court, that tax avoidance need only be one of the purposes of an accumulation for the special tax to come into play.
The basic purpose of Sections 531 through 537 is to discourage the use of a corporation as a repository for accumulations.
Accumulations which if distributed would have been taxed at the progressive rates upon the individual shareholders since corporations have a legal existence apart from that of the individual taxpayers and shareholders, the corporation can be interposed between the source of income and the receipt by the individual owner, thus allowing the beneficial owner to avoid the personal income tax, the tax of graduated rates.
This avoidance device has been recognized by Congress since the inception of the modern income tax in 1913 and Sections 531 through 537 are an effort, a statutory effort to overcome the fact that we do not have integration between the income tax and the corporate tax.
The purpose of the accumulated earnings tax is as this Court had concluded in Helvering v. Stock Yards, 318 U.S. 693 at page 979, “to compel the company to distribute any profits not needed for the conduct of its business so that when so distributed, individual shareholders will become liable.”
Underlying this -- underlying the statute is a legislative assumption that it becomes a misuse of a corporation if its profits are retained for the purpose of avoiding the stockholder's individual income tax.
Judge Learned Hand in United Business Corp. 62 F.2d 754 at 756 said as to the accumulated earnings tax, “Companies may accumulate what profits they please so long as they do not defeat the fiscal policies of the United States.
Their business does not include the manipulation of dividends to avoid taxes by definition that has nothing to do with the normal management of their affairs.”
Now, the critical language in this provision is the language in 532 availed of for the purpose of avoiding the income tax.
And in no way does this language import any qualification such as formulated by the Sixth Circuit that this tax avoidance must be the dominant purpose among many purposes.
Availed of simply means used to the extent tax avoidance induces or aids in inducing in the retention of accumulated earnings.
The corporation has been used or in the statutory language “availed of” for this prohibited purpose.
Now, the Government's position is derived from the plain statutory language that implies no further qualification and also from this Court's interpretation of that statutory language in the Stock Yards case.
We thought as did four circuits that this issue had been made to rest.
And the Stock Yards case, the First Circuit, the taxpayer argued that the accumulation policy of the corporation was intended to satisfy the debts of a New Jersey subsidiary upon its contemplated liquidation in 1940.
Now, this plan had been inaugurated prior to the adoption of the Sixteenth Amendment and consistently followed by the corporation thereafter, so that argued the taxpayer, the corporation could not have been availed of for the proscribed purpose that out in the law.
And this was their position as a matter of law.
Now, although the First Circuit reversed the Board of Tax Appeals which had upheld the assertion of the accumulated tax.
The First Circuit rejected the taxpayer's argument.
The First Circuit in Chicago Stock Yards at 129 F.2d.937 at page 948 said, “It is clear that Section 104 would apply if in the totality of reason which induced the continuing of the accumulation, the forbidden motive of surtax avoidance played a substantial part.”
The First Circuit thus rejected the concept of a dominant purpose theory.
It was in this context that the case came to this Court and this Court stated at page 699, “A corporate practice adopted for the mere convenience above or for other reasons and without tax significance when adopted may have been continued with the additional motive of avoiding surtax on the sharehold -- stockholders.
The Board's conclusion, that is the conclusion of the Board of Tax Appeals that the accumulated earnings tax was to impose, may justifiably have been reached in the view that whatever the motive when the practice of accumulation was adopted, the purpose of avoiding surtax induced or aided in inducing, the continuance of the practice.”
Justice Hugo L. Black: What case was that?
Mr. Mitchell Rogovin: This is in the Stock Yards case Mr. Justice Black, 318 U.S. at page 699.
Justice Abe Fortas: Mr. Rogovin, I suppose it's true that most companies now in for many years have most very large companies paid out only a small fraction of their earnings, isn't that true as dividends?
Mr. Mitchell Rogovin: I believe that's correct sir.
Justice Abe Fortas: Now, is it -- does the bureau proceed on the assumption that some of the largest companies are totally without the purpose of tax avoidance for the stockholders and that process of accumulation take anyone of them you like as an illustration, any of the largest companies.
Take anyone of them that you like and can the bureau and does the bureau assume that the rule you advocate would or would not compel you to go after them.
Mr. Mitchell Rogovin: Well, it's two-part test.
The objective part of the test has not been considered in your hypothetical and that is -- are the accumulations unreasonable or the funds retained for the purpose of avoiding the surtax on individuals?
Justice Abe Fortas: I understand that part of it.
I understand that problem I think.
But some of them might be big, aren't they?
Mr. Mitchell Rogovin: I believe the track record of the revenue service in this regard tends to indicate that they are looking at a small, closely held corporation.
Justice Abe Fortas: That one -- that's exactly.
That what bothers me and is -- as I understand it the statutory provision has been used almost exclusively with respect to the small closely held corporations and what my question to you is whether the standard for you to contend would have an impact upon that or whether it would -- whether it's the bureau's view that the standard is correct and you have a problem presented by the large corporations.
Mr. Mitchell Rogovin: The concern of the Congress in passing the accumulated earnings tax was a concern that the stockholders could so manipulate the corporation and thereby require or cause the corporation to retain earnings, earnings that would not be passed on to the stockholders.
Justice Abe Fortas: I don't think you're contending that that should be the -- a condition precedent to the bureau's bulletin to invoke this section, are you?
Mr. Mitchell Rogovin: Well, that's a presumption that the Congress indulged in, in assuming that there's close relation between stockholders and corporation could cause this result and that there would be no objective evidence to demonstrate tax avoidance and so the presumption was built into the statute.
Justice Abe Fortas: Are you telling this Court that the bureau construes this statute, these sections on unreasonable accumulations as applicable only to the small closely held corporation?
Mr. Mitchell Rogovin: No theoretically, it could be applicable to a large listed corporation, if the listed corporation Mr. Justice Fortas at the liquid assets and the accumulated cash in an unreasonable posture for the states --
Justice Abe Fortas: Was it ever been applied to any company other than a small closely held company?
Mr. Mitchell Rogovin: I believe that it had been applied in one case.
Justice Potter Stewart: Trico.
Mr. Mitchell Rogovin: Trico to a 1500 stockholders.
Justice Abe Fortas: That's the largest.
Mr. Mitchell Rogovin: That's about the largest, yes sir.
Justice Abe Fortas: I know the -- I believe the origin of these provisions way back under Section 102 I think were the Christiana Corporation and those closely held companies but certainly the wording of the statute is much broader and certainly the rule for which you are now contending would literally and in any event open up the question of the large corporations that are held generally, isn't that right?
Mr. Mitchell Rogovin: Technically it would open it up to -- technically we have construed -- we were construing it as it has always been construed.
To respond to your question, however, I feel the question of the nature of the accumulation would differ substantially than the large corporation.
Justice Abe Fortas: Well, what you're saying isn't that a large corporation might or it might not be able to show some intended or prospective need for the accumulation great enough and immanent enough to justify their holding onto without the accumulation being characterized as unreasonable.
Mr. Mitchell Rogovin: I believe the pressures of large listed corporations, the stockholder pressures are such that large amounts of liquid assets not being applied for the purposes of the corporation would generate better management if not dividends.
Justice Abe Fortas: Well, that's debatable.
Chief Justice Earl Warren: I wonder why if Congress intended this to apply mainly to small closely held corporations, it wouldn't have said so in the Act.
Certainly, this must have been a matter of general concern to large companies as well as small companies when Congress was using the general language that it used.
Why wouldn't it make the distinction in the statute rather than to have you make it in the administration of the statute?
Mr. Mitchell Rogovin: I have no answer to that question Mr. Chief Justice.
I believe that clearly, the --
Chief Justice Earl Warren: Well, let's put it this way, put it this way.
If Congress wrote the statute generally, what authority is there in the Internal Revenue Bureau to interpret it in this manner just as against these small corporations that are closely held and not against the -- not against the big corporations?
Justice Abe Fortas: Because the concern of the Congress was in the retention for the benefit of shareholders and in the large corporations, listed corporations with hundreds of thousands of shareholders, that potential just doesn't exist as any degree of frequency.
Mr. Mitchell Rogovin: It does exist and that's what Congress was concerned about in the main and has been expressed this concern throughout the reenactments of the statutes since 1913 but there has been no indication that the statute would not apply to a large corporation if the factual pattern so existed.
I don't think the revenue service is binding itself that it would not go order a large corporation and raise this issue if it existed.
But the facts just don't support it in the large corporations.
Justice Byron R. White: Your ability to make it stick would be able to -- would depend on your ability to prove that the accumulation was unreasonable, would it not?
Mr. Mitchell Rogovin: Yes sir, that's correct.
Justice Byron R. White: And I assume that the service would move against any corporation that it had what it thought objectively was an unreasonable accumulation.
Mr. Mitchell Rogovin: Right.
Justice Abe Fortas: But why in this particular case for example isn't the suggestion that the accumulated on list because they were thinking about going out in the market and buying the stock of a company that owned what was a substantial block if they were going out the market and buy some of the stock of a related company?
Mr. Mitchell Rogovin: The distributor, yes.
Justice Abe Fortas: They have never done it.
Well, as I remember the facts of this case.
But nevertheless they said that they were fixed and we're thinking about getting bigger stock acquisition.
Why didn't that put them in the category of a big company rather than a small company for purposes of the application so to speak of this statute?
Mr. Mitchell Rogovin: This was a solely owned corporation, wholly owned by one individual.
The testimony was given as to why the accumulations were being retained and the jury evidently didn't feel satisfied because they found for the Government, they found that they were unreasonable accumulations.
We're talking about accumulations that come about because of loans to relatives, accumulations that come about because of large portfolios of stock that have no relationship to the corporation.
These are not normally the situation that you find with a large listed corporation and --
Justice Hugo L. Black: When was this law passed?
Mr. Mitchell Rogovin: 1913.
Justice Byron R. White: Excuse me.
Just to help me a little bit.
Is the issue here really whether the Government was proved the purpose or only one of several purposes?
Is that the real issue here?
Mr. Mitchell Rogovin: That's -- those are the words but it's the taxpayers' burden.
Justice Byron R. White: The taxpayer but it seems to me if the taxpayer could prove that there was a reasonable purpose, he is off -- he certainly doesn't pay any tax, does he?
Mr. Mitchell Rogovin: That the structure of the tax would reach that result.
Justice Byron R. White: So that -- so that even if there was also the purpose of avoiding taxes, he would still win?
Mr. Mitchell Rogovin: As long as the accumulation were reasonable, he would still win, that's correct.
Justice Byron R. White: So, he doesn't have to prove that it's the -- all he has to prove -- he does avoid additional tax such by approving one other purpose besides avoiding.
Mr. Mitchell Rogovin: Well, as to those accumulations, he may have a million dollar accumulation and the taxpayer may have 15 or 20 purposes ascribed to the accumulation and then the trier of fact would determine whether for example monies that were set aside for a fear of a depression, a reserve that was set up of that nature was a reasonable type of reserve, the Court may say no, that's unreasonable.
Justice Byron R. White: They decide it's unreasonable that they really decided that there is no other purpose other than to avoid tax.
Mr. Mitchell Rogovin: Well, the Court could find that both that the accumulation were reasonable if and that concurrently throughout all of this, there was a tax avoidance motive.
Justice Byron R. White: And the taxpayer would win?
Mr. Mitchell Rogovin: And the credit would allow that portion which is determined to be reasonable.
But as to those portions that are not determined to be reasonable, those plans --
Justice Byron R. White: And there isn't any other reason for it.
Mr. Mitchell Rogovin: Well, it's simply that the trier of fact determine that that wasn't a reasonable.
Justice William J. Brennan: Let's see if I get you Mr. Rogovin.
They showed $200,000.00 accumulation.
The reasonable need to the business is concluded are $100,000.00.
To that extent is the credit, is that what you just said?
Mr. Mitchell Rogovin: There would be a $100,000.00.
Justice William J. Brennan: Yes and the tax would be assessed on against the other $100,000.00 is that it?
Mr. Mitchell Rogovin: That is correct.
Justice William J. Brennan: Now suppose you had a case where in fact the accumulation is again $100,000.00, but you know that the only purpose of the accumulation was, well, not the only purpose but the primary purpose was tax avoidance.
Yet they also introduced evidence that no they had a business need and a $100,000.00 is reasonable, again, the $100,000.00 be credited, wouldn't it?
Mr. Mitchell Rogovin: That's correct.
Justice William J. Brennan: And there will be no tax in that situation.
Mr. Mitchell Rogovin: That's correct and what the lower court -- what the Sixth Circuit has done in this case is to set up an unintended element in the case, in the statute.
They are saying that if a corporation with an admitted tax avoidance purpose that this corporation could avoid the penalty, if the trier of fact was persuaded that at least equal weight was to be given to the non-tax reasons ascribed by the corporation.
Now, we believe this is an erroneous statement of the statute.
If a corporation has a variety of motives for the accumulation, it doesn't matter which motive predominates.
Congress provided for the elimination of the tax through the credit to the extent that they're demonstrable business needs to justify the accumulation and what the Sixth Circuit is doing is putting into the statute an extremely heavy burden.
Justice William J. Brennan: Well, I don't understand as to how that comes down to anything except as the hypothetical as I suggested to you.
Except that if it's established that in so far as the accumulation is related to the reasonable needs of the business, there's no tax, any excess there's a tax, is that right?
Mr. Mitchell Rogovin: No, there has to be the finding under 532 finding that the purpose of the accumulation was to avoid the tax at the shareholder level.
Now, there is a presumption --
Justice William J. Brennan: I know but the presumption is not rebutted in the situation that you choose.
If all you establish is that in so far as “X” dollars are concerned, that's related to the reasonable needs of the business period then you pay a tax on the excess of that.
Justice Hugo L. Black: May I ask you, if a single stockholder of the corporation made any effort to prove that in the manufacture of bubblegum he needed more than a $1,700,000.00 profit in one year in order to carry on his business?
Mr. Mitchell Rogovin: There was no evidence of that nature that the $1,678,000.00 was the accumulation over years.
Justice Hugo L. Black: Did he indicate that he wanted to enlarge the bubblegum business for that additional fund?
Mr. Mitchell Rogovin: Well there were some indication if they wanted to follow on the footsteps of the Wrigley Company but there were definite plans as to what he was going to do with these funds.
I might add that this --
Justice Hugo L. Black: As I recall it, the Roosevelt Administration at one time thought that this law was not enough to prevent tax evasion and attempted to get laws through which would coerce payments to the stockholders in order to make them liable for the tax, isn't that right?
Justice Byron R. White: It not only attempted but it enacted many, many laws, the personal holding company law.
It attempted and succeeded.
Justice Hugo L. Black: That is a great trouble in the court to go the good resentment against such a law.
Mr. Mitchell Rogovin: Well, the Congress has uniformly reenacted the statute and the statute has the effect.
The policy is to put a pressure on the corporation to divulge, to distribute dividends where they have no other use for the accumulated earnings to the extent that there is another purpose, a business purpose.
Justice Hugo L. Black: And that was strengthened during the Roosevelt Administration at one time, wasn't it?
Mr. Mitchell Rogovin: Yes, it was.
Justice Hugo L. Black: By the tax law which went further.
Mr. Mitchell Rogovin: In 1938, the Senate Finance Committee had an opportunity to strengthen the presumption in the statute and the Finance Committee described the changes that took place as quote, this is in the page 17 of the brief, “requiring the taxpayer by a clear preponderance of the evidence to prove the absence of any purpose to avoid surtaxes upon shareholders after it has been determined that the earnings and profits had been unreasonably accumulated.
We believe that the decision of the Sixth Circuit is erroneous that this decision of this Court in the Stock Yards case is controlling.
Justice Potter Stewart: Now, Mr. Rogovin, the Stock Yards case was a case in which the Board of Tax Appeals has found first of all that the corporation when they say was Prince in corporate clothes that involved a man by the name of Mr. Prince and then the Board of Tax Appeals further found that the sole purpose, the sole purpose of the retention of earnings was to avoid taxes.
That have been the finding by the BTA in that case, hadn't it?
And the issue in this case once it finally got here was whether or not a corporation originally formed for another purpose could later be availed of, the retention of earnings for the prohibited purpose, that was the basic issue here then finally there was a question of accepting the fact finding of the BTA.
Mr. Mitchell Rogovin: As to the language of this Court with respect to induces or aids and inducing, the purpose in question, this was the language that the Court inserted.
The First Circuit had spoken of substantial, they referred to avoidance playing a substantial part and this Court ignored that language.
Justice Potter Stewart: The administrative body, the fact finding body had found that it was the sole purpose of Mr. Prince, of Mr. Prince's corporation, had it not?
Mr. Mitchell Rogovin: It had.
Yes sir.
Thank you.
Chief Justice Earl Warren: Mr. Braunstein.
Argument of Richard L. Braunstein
Mr. Richard L. Braunstein: May it please the Court.
The issue before this Court is the construction of the statute that's been on the books for many, many years since 1913.
The statute as enacted at that time provided that a corporation formed or fraudulently availed of for the purpose of preventing tax on the shareholders would trigger a penalty tax on the shareholder at that time.
There was a rebuttable presumption then as there is now that if earnings were permitted to accumulate beyond the reasonable needs of the business that this was prima facie evidence for the purpose to escape the tax.
The statute has been amended throughout the years, the word fraudulently was excised.
The tax is now imposed on the corporation rather than the shareholders and instead of a prima facie evidence or rebuttable presumption, we have a virtual determinative assumption and once a corporation accumulates its earnings beyond its reasonable needs that unless the taxpayer can come forward and determinatively show otherwise that the penalty applies.
Justice Hugo L. Black: May I ask if you know why the Senate or Congress show why they struck out the word fraudulently?
Mr. Richard L. Braunstein: I think there was the question that under common law, it was very difficult to establish fraud and that was the reason that was struck out.
The reason that the tax was then imposed on the shareholder, it was first imposed on the shareholders then it was thought perhaps that it was first imposed on the corporate shareholder and then on a corporation, that was a constitutional question involved.
But I think the purpose going into the statute that reading the early cases is that there are a lot of holding company cases involved here.
At the time the statute was enacted, there was no corporate tax, taxpayers were permitted to deal with their corporation in situations which would lead to tax avoidance and what happened many taxpayers were able to, who had stocks and securities in receiving income on that were able to put it in a corporate shell and really isolate themselves, and insulate themselves from any taxes.
In addition, the taxpayer was permitted to sell stock which he had purchased to his corporation and if you realize the laws on that, he could take it and I think if this came up, this case came up in 1913, we can make a very strong argument that the purpose required was the sole purpose and that the Court used the word formed fraudulently because it was talking about a situation where a corporation was used in a fraudulent manner, in a manner inconsistent as what we deemed to be the normal use of a corporation.
And I think have this case come up, we could say that the case, the statute would only apply if there was absolutely no reason, no valid reason that the sole purpose for the shareholder of forming this corporation had to be tax avoidance.
Justice Byron R. White: Is that a valid reason?
Mr. Richard L. Braunstein: The sole valid -- well, that the sole purpose for the corporation, there was no business reason that before the penalty was to apply, the Court would have to find that the sole and only purpose of forming the corporation was --
Justice Byron R. White: But to succeed don't you have to say that even -- that the taxpayer may succeed even though the reason he has isn't a very good reason and even though, even though he can't prove that the accumulation is reasonable in terms of business need.
Mr. Richard L. Braunstein: I think basically coming down to our test and what the Sixth Circuit has really assigned is that once it shown that the accumulation is beyond the objective reasonable needs of the business and that phrase has tremendous significance, that's been determined as fixed, definite, certain plans.
Almost balance sheet liabilities and written commitments.
Now, once the taxpayer has accumulated beyond that, and the fact that he says, “Well, my purpose is really I'd like to expand.
I'd like to acquire but I just can't go out and buy a newspaper or a radio station or a cement plant.
It's just impossible.
I'm looking.”
The position of the Government today is that you have -- you're out of the ball game and the reason they say that is they say what is the A purpose test?
How do we determine that?
Well, it's very simple, they say if the shareholder is subject to taxable income, he's in a tax bracket, he has no operating law as carryovers and he has been advised that a distribution would result in taxable income.
Well, that's all you have to show because then it follows that accumulating results in an avoidance of the tax which is true.
Justice Byron R. White: And if that avoidance is the purpose.
Mr. Richard L. Braunstein: And the avoidance is the purpose.
There's -- even though he might --
Justice Byron R. White: But this really isn't a case about whether you need one or several purposes?
Mr. Richard L. Braunstein: It isn't.
I think the Government concedes, he might have 100 purposes and that you might be talking about tax avoidance or the tax purpose might be incident, remote, he would not really care about it but the tax applies, that's the Government's position.
They say, if it's one out of 100 reasons, the tax applies.
Basically, if you take that approach --
Justice Potter Stewart: The Government -- the Government says that its position is that it's up to the taxpayer to prove in complete absence of any tax avoidance purpose and your point is that that's impossible to do.
Mr. Richard L. Braunstein: It's impossible, you can't do it.
The only two situations that I could think of is that if you have a net operating loss carryover, we can show the distribution --
Justice Potter Stewart: Would not result in any (Voice Overlap)?
Mr. Richard L. Braunstein: -- will not result in any income.
Or in the other situation where someone has just completely and honestly ignorant and had not been advised but these are -- it just doesn't happen.
And I think the whole point of the Government's position is really not asking for a construction of the statute.
I mean you can forget about availed of for purpose.
What the Government's position in effect of saying is that if you accumulate beyond fixed definite and reasonable needs; forget about it if you are a closely held corporation.
And we think that at least that a small businessman should have the opportunity to try to rebut this presumption.
Now, the Sixth Circuit isn't giving anything here.
I mean, when you talk about it, the burden, that's the determinative burden which this taxpayer has to show that the tax avoidance was not the dominant or impelling motive.
Well, he just can't sit up there and say, “Well, that wasn't my motive.”
He's got to be fairly specific and concrete in what he's saying and I think that the thing that really disturbs us about this case is you're really preventing expansion of the smaller corporation.
I just can't see how he could expand under the Government's interpretation.
Justice Hugo L. Black: Suppose he hadn't incorporated, could he expand?
Mr. Richard L. Braunstein: I think he could sir, yes.
But he'd be at a tremendous disadvantage on the publicly held companies.
I think you've got a reverse twist Justice.
I think perhaps 1913, when this statute was enacted, the business was held and closely held family groups and they represented the substantial and economic power in this country.
I think things have changed where the substantial economic powers in the publicly held corporations with a statute which was aimed at the power, the economic power is now being applied against the little men and the persons that it was intended to cover initially are just not being covered at this particular time.
And I think basically, our position here is that simple that what the Government asked is not a construction of the statute.
There is no construction, there is no statute and we think the only real tenable and reasonable view is the position of the Sixth Circuit.
Chief Justice Earl Warren: We'll recess now, Mr. --
Print this transcript
Transcript:
Argument of Richard L. Braunstein
Chief Justice Earl Warren: Number 17, United States petitioner versus the Donruss Company.
Mr. Braunstein.
Mr. Richard L. Braunstein: May it please the Court.
I believe the impression was left yesterday that a taxpayer in this case accumulated a substantial amount of funds and the sole purpose was the avoidance of tax but that was not the decision of the court below.
The first inquiry is whether the accumulation exceeds the reasonable needs of taxpayer's business.
But this phrase has come to me in the fixed, definite, and certain needs of the business or written obligation of the taxpayer.
It's a test which the Government has tried to restrict as closely as possible.
Justice Abe Fortas: But we know, do we have that before us or don't, isn't the matter issue before us the Government's request for an instruction the denial of that instruction then the action of the Court of Appeals in reversing for further procedures pursuant to the standard that it laid down?
Mr. Richard L. Braunstein: I think you're correct.
Justice Abe Fortas: And all of these being with respect to the question of purpose or intent.
Mr. Richard L. Braunstein: That's correct.
This issue is not before the Court but I think it's pertinent in terms of the effect of what the Government proposes to ask this Court to set the test because in circumstances like this, the jury found that the taxpayer did not have fixed and definite purposes but they held that he did not have a tax avoidance purpose.
The taxpayer stated that he had plans for expansion, he intended to buy stock in a distributor and the theory we can infer believe that this was the purpose motivating his conduct.
So, while it was not fixed, definite, and certain, nevertheless, it was a permissible purpose and the facts were that the taxpayer did purchase $380,000.00 worth of the distributor's stock that the taxpayer did expand and it was because of this expansion and purchase that the taxpayers continue to be successful but the critical point is that it's the Government's position that in adopting the A purpose test, you would then ask the taxpayer only two questions.
Number one, if the distribution was made to you would it be taxable?
Number two, were you aware that if a distribution was made to you it would be taxable?
And if both of those answers were yes, then it's my understanding that regardless of the fact that taxpayer's purpose is dominant purpose the whole purpose of the accumulation was for expansion to preserve and expand the business that nevertheless the penalty would apply.
Justice Abe Fortas: Well, the Government would not agree with that characterization, would it?
Mr. Richard L. Braunstein: I haven't heard them deny that characterization.
Justice Abe Fortas: Because it's not whether the effect of the distribution would be to subject the stockholder to tax but whether that was one of the motives and --
Mr. Richard L. Braunstein: That's not --
Justice Abe Fortas: -- withholding the distribution.
Mr. Richard L. Braunstein: I don't regard that that is what the Government is asking this Court to rule on.
I think they say very clearly that if the avoidance of tax is one of 100 purposes regardless of its significance then the tax applies and how do you determine what do you mean by avoidance of tax?
Well, avoidance of tax is knowledge that a distribution results in taxable income and the whole thrust of the Government's argument and our argument here is such a test really rights out the purpose test because this --
Justice Abe Fortas: I guess it gets pretty abstruse but and maybe those difference between and what we're struggling with is a shading between the words “purpose, effect and motive.”
Mr. Richard L. Braunstein: I think that is correct and it's basically our position that the Sixth Circuit correctly characterized the test in terms of the dominant and impelling motive.
It's -- I think one of the difficult things is the burden of proof that the taxpayer has and if you enunciate a test other than the dominant or impelling test whether it has any meaning because once the Court finds that an accumulation is beyond the objectively reasonable needs of the business we're face or the taxpayer is face with a determinative presumption.
He has to go forward and prove in very heavy burden that this was not the purpose.
He obviously cannot say, “Well, that was not my purpose.
I don't think that carries the burden.”
I think he's compelled to give specific and definite reasons as it relates to his motivation.
Now, as a practical matter, these cases are tried four or five years after the year in issue and he cannot fabricate.
I -- I think there is -- the Government is concerned about that these are subjective matters that there is no objective way to determine or test the testimony of the taxpayer.
But this is not true.
He's talking about a situation of his intentions of his plans and we're viewing these four or five years after and he -- when he says must be susceptible to objective verification or reason.
And it's out position that it's only through utilization of the dominant or impelling test that there is any meaning in the phrase avoidance of the purpose that any other test just puts an impossible burden on the taxpayer and I think this is why we believe the Government's position and I think it's very clear when I say, “One out of 100.”
That's enough to carry today.
That is their position.
Justice Byron R. White: But it's only their position against the background of a finding that the accumulation was and serves that frame of reference and by objective standards and unreasonable accumulation.
Mr. Richard L. Braunstein: I don't gather that from the record.
I think the Government's position in A purpose that if avoidance of the taxes A purpose.
Justice Byron R. White: You mean in -- you mean the jury wouldn't have to find that there was an unreasonable accumulation?
Mr. Richard L. Braunstein: I think the jury would have to find additional --
Justice Byron R. White: Well, that's what I mean.
Mr. Richard L. Braunstein: Yes.
Justice Byron R. White: Before you -- before the taxpayer goes out the window in the Government's position it has to be bound of the accumulation were unreasonable.
Mr. Richard L. Braunstein: Unreasonable and our point is that --
Justice Byron R. White: And once it's found that the reasonable objectively there is a no reason in terms of the needs of the business or to the extent that it's unreasonable?
Mr. Richard L. Braunstein: No, I don't think that's true.
When you talk about the unreasonable means of the business, that phrase has been determined as requiring fixed, definite, and certain needs, something that is susceptible to a knowledge that this is going to require a liability.
Now, if the Court if we had a more liberal view of the unreasonable --
Justice Byron R. White: But you do concede that if it's necessary to find that the accumulation was unreasonable?
Mr. Richard L. Braunstein: That's correct.
Justice Byron R. White: Then what the taxpayer is claiming as justification for this accumulation has been turned to be unreasonable and he is giving an unreasonable reason for the accumulation.
Mr. Richard L. Braunstein: I think it's --
Justice Byron R. White: And it maybe that that is a matter of subjective and then he thought that he needed this much money for that purpose and you say that that's subjective attitude should be some room for that.
Is there room for you to prove that it in the case?
Mr. Richard L. Braunstein: I would think so because one of the things that concerns me or disturbs me is that in testing what is unreasonable.
That's not a very broad test.
It's rather limited and I think the whole thrust of our argument in terms of the unreasonable test --
Justice Byron R. White: Well, what if weren't though?
Mr. Richard L. Braunstein: I think if it were not I think you'd have fewer cases going on the purpose test.
I think what you really getting here is expansion problem.
The taxpayer that intends to expand desires to diversify but under the unreasonable test cannot satisfy it because he does not his plans have not matured to the state required by the statute.
And our position is in view of the fact that this is what the unreasonable test is to then adopt in -- purpose test precludes a taxpayer from expanding.
Justice Byron R. White: But if the court, if a judge or jury found the accumulation of the unreasonable by whatever applicable standards there were you're suggestion is that nevertheless a taxpayer should be allowed not to be taxed on the unreasonable accumulation because he had a good faith view that this was -- that his business needed these accumulation?
Mr. Richard L. Braunstein: Correct.
I think what we're saying that whatever his motivation is he's not looking to avoid tax but he honestly believes that --
Justice Abe Fortas: Mr. Braunstein, consideration that bothers me in this case following the quote by Mr. Justice White, is it's arguable that the standard adopted by the Court of Appeals in what you're contending here is contrary really to what the Congress expressly provided and that in a way it undermines the specific language of Section 533 (a).
And 533 (a) really makes the test of that intent to avoid stockholder tax a very minor consequence as I read it, it says that once you find that the earnings of the corporation are permitted or accumulate beyond the reasonable needs of the business that that “shall be determinative of the purpose to avoid the income tax with respect to shareholders unless the corporation by the preponderance of the evidence shall prove to the contrary.”
Now, those are very rugged standards but they're Congress' standards whether one makes a good, bad, or indifferent they are in the law.
Mr. Richard L. Braunstein: Well, I agree with you and I think they are very difficult standards and what we're saying is that in the Government's view to adopt an A purpose test really writes out any opportunity of the taxpayer to attempt to meet that standard.
Justice Abe Fortas: Well, even if you assume that if you go the other way and adopt a dominant purpose test as the Court of Appeals did below and as you're agreeing would seem to go to the opposite extreme and to undermine what seems to be the fairly obvious intention of the Congress?
Mr. Richard L. Braunstein: I view that really as a burden of proof aspect that Congress created making it most difficult for the taxpayer once a determination has been made that the accumulation exceeds the “reasonable needs” of the business that a very difficult burden is placed on the taxpayer.
And in terms, the taxpayer then has -- is given one last opportunity as I view it to show that his conduct was not motivated by what Congress -- the avoidance of tax that it was motivated by something else and that if we adopt the A purpose test, I --
Justice Abe Fortas: There's something else being a reasonable needs of the business but as my brother White was pointing out that if you can show that this accumulation was needed for the reasonable needs of the business you never get to the question of --
Mr. Richard L. Braunstein: You never get to that but on the other hand, the reasonable needs of the business have been construed by the regulation and the courts and then the instruction to be fixed definite.
And there are many taxpayers if they do want to go on an expansion program at the end of any particular year.
It's maybe completely fortuitous that they have advanced to this stay.
And what we're saying is that if you accept the Government's interpretation in effect you're just preventing a taxpayer whose legitimate purpose is the expansion and diversification of his business from pursuing that point of view.
Justice Abe Fortas: And the problem that I'm putting to you is raised simply whether your argument is properly addressed to this Court or to the Congress?
Mr. Richard L. Braunstein: Well, I --
Justice Abe Fortas: (Voice Overlap) Let's down the matter of unraveling what the Congress really intended what the spiritual thrust of the legislation is?
Mr. Richard L. Braunstein: Well, I think the spiritual thrust of the regulation in going back historically was to get at corporations that the primary purpose was the formation for matters not germane to the corporate function but to tax avoidance.
I think that really is the thrust.
And what we're saying here is that this interpretation is not inconsistent with that thrust.
What it does is permit the closely held corporation to compete with the public corporation.
And in no way do I view the test enunciated by the Sixth Circuit as inconsistent with his basic purpose.
I think the Second Circuit recognize the fact that this statute should not be construed in consistent with the antitrust laws that it recognize that the philosophy of Congress, I think rather than being hindered by the interpretation of the Sixth Circuit has actually helped.
Because I think it is consistent with permitting competition and permitting that closely held corporation to compete.
We are not arguing for a standard which permits tax avoidance.
We're arguing for a standard which permits the closely held corporation to compete with the public company to diversify and expand and to that extent, I submit it is completely consistent with the congressional purpose of the statute.
Justice Potter Stewart: Are you referring to the Government's position as the A purpose position?
I want to be sure I understand what you're talking.
Mr. Richard L. Braunstein: That's correct.
Their position is that as I understand that that a statute applies if A purpose was the avoidance of tax and the way to test A purpose is that if an individual knows the distribution will result in taxable income.
Justice Potter Stewart: It's a, it's not any purpose?
Mr. Richard L. Braunstein: It's A purpose.
Justice Potter Stewart: I thought it was a reference to subsection A of the statute (Voice Overlap).
Mr. Richard L. Braunstein: No, I'm sorry.
Justice Potter Stewart: Yes.
Mr. Richard L. Braunstein: And our position is that you're really writing out the statute.
You might as well under then interpretation just have a statute which says that if there is an accumulation beyond the reasonable needs of the business the tax applies period because if you accept that interpretation, the rest is just surplusage.
I can't see any meaning for it all.
Justice Hugo L. Black: If you were the judge, the trial judge on the charge to the jury, how would you define that duty to find whether it was reasonable or unreasonable?
Mr. Richard L. Braunstein: Under the statute?
Justice Hugo L. Black: Yes, of course.
Justice Potter Stewart: I think under the statute that the judge would have to state that to find that it is reasonable you would have to find that the taxpayer had fixed and definite commitments.
He had contracts which require the expenditure of these funds.
The fact that taxpayer intended whether you believe he intended or not to expand and diversify or was attempting to diversify does not qualify under the reasonable accumulation test.
Justice Hugo L. Black: How much would motive have to do with your charge if you were charging about reasonable and how much would you do it on the basis?
Mr. Richard L. Braunstein: I think motive --
Justice Hugo L. Black: What they have to determine whether it's reasonable without regard the motive?
Mr. Richard L. Braunstein: That's correct.
The motive with only be important on the avoidance of the purpose test and it's our position that the proper instruction is that the motive resulting in a substantial penalty should be the motive controlling the actions of the taxpayer.
Justice Hugo L. Black: What then Congress intend that to hit straight and letting a tax authority or somebody determine whether they have accumulated more than what's reasonable of these and its purposes?
Mr. Richard L. Braunstein: I don't think -- I think ultimately it's a jury or a court question.
I think it first blush the revenuation does come in and make the determination as to whether the accumulation was reasonable or unreasonable in terms of the defying standard.
Justice Hugo L. Black: Well, then it put difficult general with tax cases to jury (Voice Overlap) --
Mr. Richard L. Braunstein: I think it is.
Justice Hugo L. Black: -- to prove the mind and find out how many of the dominant purposes was one thing and how many was another?
Mr. Richard L. Braunstein: I think -- I'm not suggesting that it's an easy test but the Court has done it in the Allen v. Trust Company of Georgia case involving transfers and contemplation of death.
This Court did it in Duberstein in terms of what is a gift when it searched.
I think in Duberstein, the Court refused to come up with an easy test but said, “You've got to search for dominant, controlling, and impelling motive.”
And we're asking the Court or this test presents no more of a difficulty then this Court does addressed itself to in Duberstein and Trust Company of Georgia where it did accept the dominant and impelling test.
Justice Hugo L. Black: Well, suppose the company was a $2,000.00 corporation and it sold $2 million worth of product, goods whatever it was?
It made a million and a half profit.
Would the motive of the men who say that a million and a half didn't pay everything out have anything to do with what the jury should find?
Mr. Richard L. Braunstein: I think it's required under the statute.
Justice Hugo L. Black: You do?
Mr. Richard L. Braunstein: Yes, I do sir.
Justice Byron R. White: What the -- I think the jury is structured to (Inaudible) -- I think it's a matter of actual (Inaudible) the jury is saying, “Well, it's not unreasonable accumulation here” but nevertheless the taxpayer still wins because he had a -- he just made a mistake.
Do you think it's a -- how is your experience with the jury if the judge going to be against that finding?
Mr. Richard L. Braunstein: I think our experience quite frankly would be and most tax practitioners have focused everything in trying to convince the trier of the fact.
Justice Byron R. White: That it is an unreasonable?
Mr. Richard L. Braunstein: That it is an unreasonable but you then get into a very difficult question if the courts restrict what is reasonable and what is not that you only have one last refuge.
And what really concerns us --
Justice Byron R. White: But how is that -- how offer you're going to -- I'm just wondering how significant this whole argument is, what's that last refuge worth once the finding about reasonableness --
Mr. Richard L. Braunstein: Well, we think it's more substantial in terms of the possibility of the closely held company --
Justice Byron R. White: And I gather the government would think so to or it would be (Voice Overlap).
Mr. Richard L. Braunstein: It would not -- it would not --That's correct.
Justice Byron R. White: I guess what it means is that there probably would be more trials, more efforts to -- the necessity of making more settlements?
Mr. Richard L. Braunstein: We say it's a small price to pay for a competitive society.
Thank you.
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UNITED STATES v. DONRUSS CO.. The Oyez Project at IIT Chicago-Kent College of Law. 26 April 2013. <http://www.oyez.org/cases/1960-1969/1968/1968_17>.
UNITED STATES v. DONRUSS CO., The Oyez Project at IIT Chicago-Kent College of Law, http://www.oyez.org/cases/1960-1969/1968/1968_17 (last visited April 26, 2013).
"UNITED STATES v. DONRUSS CO.," The Oyez Project at IIT Chicago-Kent College of Law, accessed April 26, 2013, http://www.oyez.org/cases/1960-1969/1968/1968_17.