89 T.C. 1112">*1112 OPINION

Respondent determined the following deficiencies in petitioner's excise taxes under section 4942(a): ¹

1987 U.S. Tax Ct. LEXIS 168">*169 Respondent also determined that petitioner is liable for a second-tier deficiency in excise taxes in the amount of $ 395,027.44 under section 4942(b); however, the parties have stipulated that, because of distributions made before the end of a statutory correction period, petitioner is not liable for this section 4942(b) amount.

The issues for decision are whether, for the periods ended September 30, 1981, through September 30, 1984, in computing undistributed income on which the tax under section 4942(a) is imposed, the amount thereof should be reduced for long-term capital losses and for short-term capital losses 89 T.C. 1112">*1113 in excess of capital gains, and, if not, whether the section 4942(a) tax violates various provisions of the United States Constitution.

All the facts are stipulated.

Petitioner Stanley O. Miller Charitable Fund is a trust, and its sole trustee is Stanley O. Miller. The principal office of the trustee at the time of the filing of the petition in this case was St. Joseph, Michigan.

Stanley O. Miller established petitioner pursuant to a trust agreement executed on September 30, 1953. Created solely for charitable, educational, scientific, religious, or literary1987 U.S. Tax Ct. LEXIS 168">*170 purposes and for the benefit of the public welfare, petitioner is a private foundation. The record does not show that, during the periods in issue, petitioner was a private operating foundation within the meaning of section 4942(a)(1).

In 1954, the Internal Revenue Service (IRS) granted petitioner exempt status under 1939 Code section 101(6), the predecessor of section 501(c)(3). Petitioner disburses funds to charitable and educational organizations, primarily in the areas of St. Joseph and Benton Harbor, Michigan.

The facts on which the case turns can best be understood in the light of a brief summary of the controlling statutory provisions. Section 4942, on which respondent relies to support the determined deficiency, is part of the complex and detailed provisions of the Tax Reform Act of 1969 "which were designed to combat the abuses which Congress felt existed in the formation and operation of exempt organizations." H. Fort Flowers Foundation, Inc. v. Commissioner, 72 T.C. 399">72 T.C. 399, 72 T.C. 399">404 (1979). Subsection (a) of that section, with certain exceptions which are not here relevant, imposes a first-level excise tax measured by the undistributed income 1987 U.S. Tax Ct. LEXIS 168">*171 of private foundations as follows:

SEC. 4942(a). Initial Tax. -- There is hereby imposed on the undistributed income of a private foundation for any taxable year, which has not been distributed before the first day of the second (or any succeeding) taxable year following such taxable year (if such first day falls within the taxable period), a tax equal to 15 percent of the amount of such income remaining undistributed at the beginning of such second (or succeeding) taxable year. * * *

89 T.C. 1112">*1114 Under this section, the tax is imposed unless income of one year is distributed before the end of the next succeeding year. The "tax is imposed for each year until the private foundation is notified [by the IRS] of its obligation [to make distributions] or until the foundation itself corrects its earlier failure by making the necessary payouts"; if, after notification by the IRS, the required "distributions are not made within the appropriate period, the second level of sanctions is imposed -- a tax of 100% of the amount required to be paid out." H. Rept. 91-413, 1969-3 C.B. 200, 218; S. Rept. 91-552, 1969-3 C.B. 423, 448. ²

1987 U.S. Tax Ct. LEXIS 168">*172 For purposes of section 4942, "undistributed income" is the amount by which the "distributable amount" for the taxable year exceeds the "qualifying distributions" ³1987 U.S. Tax Ct. LEXIS 168">*173 made out of the distributable amount. Sec. 4942(c). The term "distributable amount" means (a) for taxable years beginning before January 1, 1982, an amount equal to the greater of the "minimum investment return" ⁴ or the "adjusted net income," ⁵ reduced by the sum of certain taxes (including the 89 T.C. 1112">*1115 ones imposed under section 4942) that may be imposed on the foundation; and (b) for taxable years beginning after December 31, 1981, an amount equal to the minimum investment return reduced by the sum of taxes listed that may be imposed on the foundation. Sec. 4942(d); sec. 53.4942(a-2(b)(1)(i) and (ii), Excise Tax Regs.

1987 U.S. Tax Ct. LEXIS 168">*174 In general, any qualifying distribution made during the taxable year is treated as made first out of the undistributed income of the immediately preceding taxable year ⁶ (if the private foundation was subject to the initial excise tax imposed by section 4942(a) for such preceding taxable year) to the extent thereof, then out of the undistributed income for the taxable year to the extent thereof, and finally out of corpus. Sec. 4942(h).

The following table shows petitioner's distributable amounts, its qualifying distributions, and the amounts1987 U.S. Tax Ct. LEXIS 168">*175 remaining undistributed for the taxable periods ended September 30, 1980, and September 30, 1981:

89 T.C. 1112">*1116 For the periods ended September 30, 1982, 1983, and 1984, respectively, petitioner made qualifying distributions which exceeded the distributable amounts by $ 78,609.54, $ 149,822.02, and $ 82,417.88. ⁷1987 U.S. Tax Ct. LEXIS 168">*176 Petitioner did not, however, elect under section 4942(h)(2)⁸ to have these excess qualifying distributions carried back and treated as made out of its undistributed income for the periods ended September 30, 1980, and September 30, 1981, and does not here contend that they should be so treated.

Petitioner does not dispute the correctness of the amounts respondent used in computing this excise tax deficiency. Petitioner, however, contends that for the 4-year period covered by the taxable years September 30, 1981, through September 30, 1984, it made charitable contributions in an amount in excess of its net income as follows:

89 T.C. 1112">*1117 Petitioner's computations of its net income for this period reflect a net short-term loss of $ 212,741 and a net long-term capital loss of $ 188,214, both for 1982. Petitioner contends that it had no income from which to make the distributions asserted by respondent to be required by section 4942. The issue thus presented is to what extent should capital losses be taken into account in computing the "undistributed income of a private foundation" on which the excise tax is imposed by section 4942(a).

Before the enactment of section 4942, section 504 governed the charitable distribution requirements for private foundations. Section 504 provided in relevant part that the tax-exempt status of a private foundation would be revoked if its accumulated income was "unreasonable in amount or duration in order to carry out the [foundation's] charitable purpose." Because of the severity of this sanction, section 504 was rarely invoked by the IRS and was, therefore, inadequate to insure that funds contributed to foundations (for which an immediate tax deduction was obtained1987 U.S. Tax Ct. LEXIS 168">*178 by the donors) flowed out of the foundations to charities and to the general public in a timely manner. To rectify this problem, the Tax Reform Act of 1969 repealed section 504 and enacted section 4942. H. Rept. 91-413, 1969-3 C.B. 200, 216-218; S. Rept. 91-552, 1969-3 C.B. 423, 446-447; Leckie Scholarship Fund v. Commissioner, 87 T.C. 251">87 T.C. 251, 87 T.C. 251">255-256 (1986); H. Fort Flowers Foundation, Inc. v. Commissioner, 72 T.C. 399">72 T.C. 399, 72 T.C. 399">404-405 (1979).

Section 4942 established a minimum mandatory payout requirement for all private nonoperating foundations. Specifically, in order to avoid the imposition of the tax under that section, a private nonoperating foundation was required, in general terms, to make qualified distributions (i.e., expenditures or grants for charitable purposes) equal to the greater of (1) the adjusted net income of the foundation, determined with certain income modifications, or (2) the minimum investment return of the foundation (calculated as a percentage of the value of the foundation's noncharitable investment assets) less any acquisition indebtedness incurred1987 U.S. Tax Ct. LEXIS 168">*179 with respect to such assets. See notes 3, 4, 5, and 8, supra, and related text. One of the income modifications applicable in determining adjusted net income, used in 89 T.C. 1112">*1118 computing the determined deficiency, is prescribed by section 4942(f)(2)(B) as follows:

(B) capital gains and losses from the sale or other disposition of property shall be taken into account only in an amount equal to any net short-term capital gain for the taxable year;

See also sec. 53.4942(a)-2(d)(2)(ii), Excise Tax Regs. Thus, the statute permits short-term capital losses to be taken into account only in an amount equal to any net short-term capital gains for the taxable year; it provides no adjustment for long-term capital gains or losses. Sec. 53.4942(a)-2(d)(2)(ii), Excise Tax Regs. Petitioner's net short-term capital loss of $ 212,741 and net long-term capital loss of $ 188,214 for the period ended September 30, 1982, may not therefore be taken into account in computing petitioner's adjusted net income for the purpose of computing its undistributed income within the meaning of section 4942(a).

Petitioner, at least implicitly, recognizes that the literal language of section 4942 compels the1987 U.S. Tax Ct. LEXIS 168">*180 conclusion that petitioner's capital losses for the period ended September 30, 1982, may not be taken into account, except as indicated, in determining the applicability of the tax. Petitioner argues, however, that Congress somehow forgot that some foundations are trusts rather than corporations and, as a result, failed to distinguish between trusts and corporations in defining adjusted net income in section 4942(f). Petitioner urges the Court to correct the failure of Congress to make this distinction.

There is no merit in petitioner's argument. It is true that one purpose of Congress in enacting section 4942 was to require private foundations to distribute their income currently. But Congress was aware that a foundation could easily skirt a requirement that it currently distribute its income by investing in growth stocks or similar investments that appreciate over time but produce little current income. H. Rept. 91-413, 1969-3 C.B. 200, 216-218; S. Rept. 91-552, 1969-3 C.B. 423, 446-447. In such circumstances, donors could enjoy income tax deductions for their contributions to the foundations but nothing would go to charitable1987 U.S. Tax Ct. LEXIS 168">*181 purposes. Accordingly, section 4942(d), in the form effective for taxable periods beginning before December 31, 1981, as 89 T.C. 1112">*1119 noted above, defines "distributable amount" to mean an amount equal to the greater of the minimum investment return or the adjusted net income reduced by certain taxes. The minimum investment return is defined to mean 5 percent of the excess of the fair market value of the foundation's noncharitable assets over the acquisition indebtedness with respect to such assets. Sec. 4942(e).

Section 4942 was thus designed to deal with the perceived abuse of the exempt status of private foundations by imposing a tax on the greater of the adjusted net income actually received by the foundation and what was regarded as a reasonable return on the foundation's assets. Quite clearly, the perceived abuse of a foundation's exempt status could be committed as easily by a trust as by a corporation and the remedy provided by section 4942, considered in the light of petitioner's argument, was as effective and as reasonable for one as the other. ⁹ We think it is quite clear that Congress was fully aware that some foundations were trusts and some were corporations.

1987 U.S. Tax Ct. LEXIS 168">*182 Petitioner makes four arguments that section 4942 is unconstitutional. Petitioner first argues that by enacting section 4942Congress has exceeded its power under section 8, clause 1 of article I of the United States Constitution. That clause authorizes Congress to lay and collect excise taxes, among others, to pay the public debt, and provide for the common defense and general welfare. Petitioner contends that section 4942 does not impose a tax for the purpose specified by section 8, article I of the United States Constitution, but the section imposes a penalty measured by a prescribed rate of return on the value of the foundation's noncharitable property even though the foundation may have no income. Petitioner cites the following statement from S. Rept. 91-552, 1969-3 C.B. 423, 447:

89 T.C. 1112">*1120 The committee has concluded that substantial improvement in the present situation can be achieved by providing sanctions if income is not distributed currently. * * *

The Supreme Court has repeatedly rejected this argument. In United States v. Sanchez, 340 U.S. 42">340 U.S. 42 (1950), involving a tax on marijuana, the Court stated (pp. 44-45):

1987 U.S. Tax Ct. LEXIS 168">*183 It is beyond serious question that a tax does not cease to be valid merely because it regulates, discourages, or even definitely deters the activities taxed. Sonzinsky v. United States, 300 U.S. 506">300 U.S. 506, 300 U.S. 506">513-514 (1937). The principle applies even though the revenue obtained is obviously negligible, 300 U.S. 506">Sonzinsky v. United States, supra, or the revenue purpose of the tax may be secondary, Hampton & Co. v. United States, 276 U.S. 394">276 U.S. 394 (1928). Nor does a tax statute necessarily fall because it touches on activities which Congress might not otherwise regulate. As was pointed out in Magnano Co. v. Hamilton, 292 U.S. 40">292 U.S. 40, 292 U.S. 40">47 (1934):

"From the beginning of our government, the courts have sustained taxes although imposed with the collateral intent of effecting ulterior ends which, considered apart, were beyond the constitutional power of the lawmakers to realize by legislation directly addressed to their accomplishment."

These principles are controlling here. The tax in question is a legitimate exercise of the taxing power despite its collateral regulatory purpose and 1987 U.S. Tax Ct. LEXIS 168">*184 effect.

This reasoning requires rejection of petitioner's argument. ¹⁰

1987 U.S. Tax Ct. LEXIS 168">*185 Next, petitioner argues that "Since the tax imposed by section 4942, taxes either the income from property or even 89 T.C. 1112">*1121 the property itself, in the absence of income equal to the statutory minimum return of 5 percent of the value of the property, it is submitted, that this Section 4942 violates Section 9 of Article 1" in that it is a "direct tax" which is not apportioned among the several States in proportion to population. To support his argument, petitioner cites Pollock v. Farmers' Loan & Trust Co., 157 U.S. 429">157 U.S. 429 (1895), modified 158 U.S. 601">158 U.S. 601 (1895), where the Income Tax Act of 1894 imposed a tax on income from real and personal property. The Court held that the tax was on the property itself, and as such was unconstitutional as a direct tax subject to the apportionment requirement of section 9, clause 4 of article I. As respondent points out, however, the Court in Pollock stated that it was not commenting "on so much of [the income tax law] as bears on gains or profits from business, privileges, or employments, in view of the instances in which taxation on business, privileges, or employments has assumed the1987 U.S. Tax Ct. LEXIS 168">*186 guise of an excise tax and been sustained as such." 158 U.S. 601">158 U.S. at 635. See also Flint v. Stone Tracy Co., 220 U.S. 107">220 U.S. 107 (1911) (corporate excise tax sustained even though part of the income was derived from property). Thus, the Pollock case is inapposite because section 4942 imposes an excise tax with respect to the use of property by an organization which has been granted exemption from income taxes. The tax is designed to prevent the abuse of that exemption. Rockefeller v. United States, 572 F. Supp. 9">572 F. Supp. 9, 572 F. Supp. 9">13 (E.D. Ark. 1982), affd. per curiam 718 F.2d 290">718 F.2d 290 (8th Cir. 1983).

Furthermore, the Supreme Court has consistently held that a tax imposed upon a particular use of property or the exercise of a single power over property incidental to ownership is an excise tax which need not be apportioned. Bromley v. McCaughn, 280 U.S. 124">280 U.S. 124, 280 U.S. 124">136 (1929) (upholding the gift tax). The income from petitioner's property or the value of its property plays a role in determining the imposition and amount of the section 4942 tax; however, the tax is imposed1987 U.S. Tax Ct. LEXIS 168">*187 in specific circumstances and not because of petitioner's ownership of the property. A private foundation can have substantial income and still not be taxed under section 4942 as long as it makes sufficient qualifying distributions. Thus, not being a tax on a private 89 T.C. 1112">*1122 foundation's general ownership of property, the section 4942 tax is not a direct tax.

Petitioner further asserts that section 4942 violates the Fifth Amendment of the Constitution. On brief, petitioner states that "By decreeing that private foundation trusts have income when, in fact, they have losses, which exceed their gross income, the Congress mandated the distribution of trust corpus or principal." Petitioner argues that this distribution of trust corpus or principal is a deprivation or confiscation of property without due process of law. We do not agree.

Petitioner's argument, again, overlooks the fact that petitioner enjoys the privilege of income tax exemption accorded by section 501(c)(3). True, under section 4942, a private foundation may be faced with a choice of paying the excise tax or distributing to charity in a single year a sum equal to 5 percent of its net equity in its noncharitable 1987 U.S. Tax Ct. LEXIS 168">*188 property even though it has no income for that year. By enacting section 4942, however, Congress decided to subject tax-exempt private foundations to that choice in order to deal with what it perceived to be an abuse of the foundation's tax-exemption privilege. While donors to the exempt private foundation could receive substantial current tax benefits from their contributions, charity might receive no current benefits because the foundation invested in growth assets that produce no current income but are expected to increase in value.

In our view, subjecting private foundations to this choice does not constitute the taking of their property without due process of law. Congress quite clearly could have conditioned the continuation of the section 501(c)(3) income tax exemption privilege on a requirement that the foundation annually make distributions equal to 5 percent of the value of its noncharitable assets. Such a condition would not constitute the taking of property without due process of law. Similarly, we see no reason why Congress cannot subject an income-tax-exempt foundation to the choice of paying the section 4942 tax, making the prescribed distribution or, if it chooses, 1987 U.S. Tax Ct. LEXIS 168">*189 forfeiting its income tax exemption because section 4942 applies only to an income-tax-exempt 89 T.C. 1112">*1123 foundation. ¹¹ Cf. Adams v. Commissioner, 70 T.C. 373">70 T.C. 373 (1978), affd. per order (2d Cir., Mar. 18, 1982).

Petitioner's final argument is that "the imposition of a tax at the rate of 5% of a private foundation violates the Sixteenth Amendment of the Constitution." The 16th Amendment grants to Congress the power "to lay and collect taxes on incomes, from whatever sources derived, without apportionment among the several States." Section 4942 tax is not an income tax; it is an excise tax measured by the extent to which a tax-exempt foundation fails to disburse its statutorily defined distributable amount; hence, petitioner's 16th Amendment argument is irrelevant.

We have no alternative but to sustain the 15-percent tax imposed by section 4942(a) for failure to distribute1987 U.S. Tax Ct. LEXIS 168">*190 income as determined by respondent.

To reflect the foregoing,

Decision will be entered under Rule 155.