13 T.C. 486">*487 The Commissioner determined deficiencies in excess profits tax of the petitioner for 1940 and 1941 in the amounts of $ 8,608.30 and $ 22,023.64. The sole issue, broadly described, is whether the use of the petitioner's excess profits credit based upon invested capital results in a lesser1949 U.S. Tax Ct. LEXIS 73">*76 tax for each of these years than would the use of the credit based upon income. This might depend upon whether there was in 1937 an exchange described in section 750 (a) so that, as the Commissioner contends, section 751 applies. If section 751 does not apply, then there is a question of the amount of equity invested capital under section 718 (a) (2) and whether section 718 (a) (5) applies.

FINDINGS OF FACT.

The petitioner, a Delaware corporation, was organized on August 31, 1937. It owns and operates a short line railroad running between Chattanooga, Tennessee, and Gadsden, Alabama. It keeps its books and files its returns upon a calendar year accrual basis. Its returns for the taxable years were filed with the collector of internal revenue for the district of Tennessee.

C. E. James successfully bid $ 130,000 for a railroad property at a receivership sale in April 1922. He organized the Tennessee, Alabama & Georgia Railway, a Georgia corporation (hereinafter referred to as Georgia), and assigned his bid for the railroad property to it in consideration of the issuance to him of all its capital stock, 2,000 shares having a par value of $ 100 per share, and its assumption of his1949 U.S. Tax Ct. LEXIS 73">*77 liability to pay the bid price. The Interstate Commerce Commission approved that arrangement and permitted Georgia to enter the railroad property on its books at $ 330,000.

13 T.C. 486">*488 James made loans to Georgia from time to time on open account, with interest at 6 per cent per annum. The amount of this indebtedness was $ 669,644.69 in March 1929, consisting of $ 556,250.95 of principal and accrued interest of $ 113,393.74.

W. H. Coverdale purchased the entire capital stock and the open account indebtedness of Georgia in March 1929 for $ 400,000 from persons who had acquired them from the James interests. He thereupon formed the Tennessee, Alabama & Georgia Railway Syndicate (hereinafter referred to as the syndicate) with total cash participations of $ 1,027,000 paid in. The syndicate purchased the capital stock and open account indebtedness of Georgia from Coverdale for $ 400,000.

The railroad property of Georgia was in run down condition and in need of rehabilitation in 1929. The syndicate made open account loans from time to time to Georgia for the purpose of rehabilitating the railroad property. The open account indebtedness of Georgia to the syndicate was $ 1,832,026.52 1949 U.S. Tax Ct. LEXIS 73">*78 on November 8, 1937, consisting of principal of $ 1,163,429.71 and accrued and unpaid interest of $ 668,596.81. Georgia had a capital deficit of about $ 400,000 at that time.

The syndicate managers notified the members of the syndicate by letters dated July 16 and September 14, 1937, that various reorganization plans were being considered. The petitioner was organized on August 31, 1937, with authorized capital stock of 150,000 shares having a par value of $ 5 per share. The syndicate managers promulgated a plan on September 28, 1937, providing in general as follows: (1) The syndicate would transfer all of its assets to the petitioner; (2) the petitioner would in exchange (a) issue to the syndicate $ 1,027,000 principal amount of first (collateral) lien twenty-year 4 per cent sinking fund bonds, (b) issue to the syndicate 102,700 shares of capital stock of the par value of $ 5 per share, (c) issue to the syndicate rights to subscribe, within 30 days from the date of their issuance, for 15,405 additional shares of the same type stock at $ 5 per share in cash, and (d) assume all expenses of the organization of the petitioner and of formulating and consummating the plan; (3) the syndicate, 1949 U.S. Tax Ct. LEXIS 73">*79 as sole stockholder of Georgia, would either (a) gratuitously cancel the open account indebtedness of Georgia as a contribution to the capital of Georgia, or (b) transfer the indebtedness to the petitioner; (4) the petitioner would pledge under a trust indenture as collateral for its bonds either (a) the capital stock of Georgia, if the indebtedness had been canceled, or (b) the indebtedness, if it had been transferred to the petitioner; and (5) the syndicate managers would exchange the bonds, stock, and stock subscription rights of the petitioner with the syndicate members for the surrender of their participation certificates, whereupon those certificates would be canceled and the syndicate terminated.

13 T.C. 486">*489 The plan was accepted by the petitioner on September 28, 1937. The petitioner thereupon applied to the Interstate Commerce Commission for permission to issue its securities in accordance with the plan. Permission was granted by order of the Commission dated November 4, 1937.

The syndicate gratuitously forgave the entire open account indebtedness of Georgia in the amount of $ 1,832,026.52 as a contribution to the capital of Georgia on November 8, 1937, pursuant to the plan. 1949 U.S. Tax Ct. LEXIS 73">*80 Georgia accordingly adjusted its accounts on the following day to reflect the transaction, with the approval of the Interstate Commerce Commission.

The syndicate transferred all of its assets to the petitioner on November 9, 1937, in exchange for the bonds, stock, and stock subscription rights of the petitioner. The assets of the syndicate consisted of (a) $ 3,472.18 in free cash, (b) $ 15,072.13 in cash under an escrow agreement requiring the petitioner to use so much thereof as necessary for the payment in 1938 of the 1937 capital stock and income taxes payable by the syndicate on the theory, as then claimed by the Bureau of Internal Revenue, that it was an association taxable as a corporation, (c) claims for refund of corporation income tax and capital stock tax paid or to be paid by or on behalf of the syndicate, and (d) the 2,000 shares of stock of Georgia. The bonds, stock, and stock subscription rights of the petitioner were thereafter distributed pro rata among the members of the syndicate. That was the only capital distribution ever made by the syndicate. It was terminated, dissolved, and liquidated on November 24, 1937.

The members of the syndicate exercised the rights1949 U.S. Tax Ct. LEXIS 73">*81 to subscribe for the stock of the petitioner to the extent of 15,220 shares (of a total of 15,405 offered), and paid therefor $ 76,100 in cash.

The principal reasons advanced by the syndicate managers and the petitioner in support of the plan were as follows: (1) Georgia was prohibited by the laws of Georgia from declaring any dividends because of its capital deficit, (2) as a result it was subjected to the undistributed profits tax imposed by the Revenue Act of 1936, (3) the Bureau of Internal Revenue had determined that the syndicate was an association taxable as a corporation, (4) the earnings of Georgia had become sufficiently stabilized to justify funding a portion of the debt due the syndicate, (5) the reduction of that debt would improve the balance sheet position of Georgia, (6) and would reduce its fixed interest charges against earnings, (7) the members of the syndicate would convert their interests into more marketable securities, and (8) a reasonable opportunity for a profitable merger or sale of Georgia would be facilitated.

The petitioner promulgated a plan of liquidation of Georgia on November 15, 1937, which was approved and adopted by Georgia the 13 T.C. 486">*490 following1949 U.S. Tax Ct. LEXIS 73">*82 day. The plan provided in general that (1) Georgia would transfer its railroad property unencumbered to the petitioner on December 31, 1937, (2) transfer to the petitioner its other properties subject to the payment of its liabilities, (3) dissolve, (4) the petitioner would surrender all of the stock of Georgia for complete cancellation, (5) assume the liabilities of Georgia in excess of the assets subject to the liabilities, and (6) substitute the railroad property as security for the bonds of the petitioner and change the name of the bonds to first mortgage twenty-year 4 per cent sinking fund bonds. The plan was approved and authorized by the Interstate Commerce Commission by an order dated December 18, 1937, and was carried out on December 31, 1937. The aggregate of the liabilities of Georgia assumed by the petitioner in connection with the transaction and of the liabilities (not assumed by the petitioner) to which the property of Georgia was subject was $ 82,206.49.

The reasons and purposes stated by the petitioner for the liquidation of Georgia were as follows: (1) A provision of the laws of Georgia, requiring that a majority of the members of the board of directors of a Georgia1949 U.S. Tax Ct. LEXIS 73">*83 corporation be citizens and residents of the state of Georgia, rendered it impossible for the persons who were the beneficial owners of the railroad to constitute a majority of the members of the board of directors of Georgia, (2) the elimination of a holding company would reduce overhead and other expenses and the burden of taxation upon the enterprise, (3) a more direct security would be furnished for the bonds of the petitioner, and (4) the railroad would have a sound capitalization consisting of a bonded indebtedness of $ 1,027,000 and capital stock of an aggregate par value of between $ 513,500 and $ 590,525, thus affording an opportunity for the issuance of stock or notes, if necessary, to finance additions and betterments.

The petitioner had accumulated earnings and profits from operations from November 9, 1937, in the amounts of $ 70,179.22 and $ 118,721.52 (with adjustments for the deficiencies involved herein), as of the beginnings of its taxable years 1940 and 1941.

The petitioner's average borrowed capital was $ 1,022,150.27 for 1940 and $ 1,014,890.41 for 1941.

The petitioner and others instituted actions in the United States District Court for the Southern District of1949 U.S. Tax Ct. LEXIS 73">*84 New York against the collector of internal revenue to recover capital stock taxes and corporation income taxes paid by or on behalf of the syndicate pursuant to the contention of the Commissioner that it was an association taxable as a corporation. The District Court held in June 1941 that the syndicate was not an association taxable as a corporation. Tennessee, Alabama & Georgia Railway Co. v. Hoey, not officially reported. The 13 T.C. 486">*491 petitioner received tax refunds in the amount of $ 25,514.68, plus interest, in 1942 as a result of that decision and a settlement pending appeal to the Circuit Court of Appeals for the Second Circuit.

The petitioner claimed an excess profits credit based on invested capital in the amount of $ 153,007.90 in computing its excess profits tax on its returns for 1940 and 1941. The Commissioner determined the petitioner's excess profits tax liability for those years by using an excess profits credit based on income in the amount of $ 59,894.93 for 1940 and $ 71,431.42 for 1941.

The stipulation of facts is incorporated herein by this reference.

OPINION.

Section 713 provides for an excess profits credit based upon income and section 714 provides1949 U.S. Tax Ct. LEXIS 73">*85 for one based upon invested capital, whereas section 712 (a) provides that the one resulting in the lesser tax for the year in question shall be used. The Commissioner determined the deficiencies by using the credit based upon income. The petitioner contends that one based upon invested capital will result in a lesser tax. The Commissioner denies that it will and a computation must be made to settle the point.

Equity invested capital includes property paid in for stock. Sec. 718 (a). Borrowed invested capital is the equivalent of 50 per cent of borrowed capital as defined in section 719 (a). Sec. 719 (b). The amount of property paid in for stock and of borrowed capital in connection with certain exchanges described in section 750 (a) is determined with reference to sectiton 751. The parties agree upon the amounts to be included in the petitioner's equity invested capital representing money paid in for stock under section 718 (a) (1), accumulated earnings and profits at the beginning of the year under section 718 (a) (4), and the amounts to be included in the petitioner's borrowed invested capital under section 719, if that section is applicable.

Several questions arise relating1949 U.S. Tax Ct. LEXIS 73">*86 to the computation of the petitioner's equity invested capital and borrowed invested capital which go to make up the credit based upon invested capital under section 714. The Commissioner contends that the petitioner's equity invested capital based upon property paid in for stock and its borrowed capital must be determined with reference to section 751, and the petitioner disagrees, arguing that sections 718 (a) and 719 control.

This difference between the parties starts with the Commissioner's insistence that the transactions in the latter part of 1937 were all parts of a single integrated plan to transfer the railroad property to the petitioner and terminate the syndicate and Georgia. He then claims that section 751 applies. The petitioner disagrees and contends that 13 T.C. 486">*492 the transfer of the Georgia stock and some other assets to the petitioner by the syndicate for the stock of the petitioner was one exchange (which came within section 112 (b) (5), but not within section 750 (a) because the syndicate was not a corporation) and the transfer of the railroad property to the petitioner and the liquidation of Georgia was a separate transfer within section 112 (b) (6), but not1949 U.S. Tax Ct. LEXIS 73">*87 within either section 112 (b) (4) or (5) or so much of section 112 (c), (d), or (e) as refers thereto. Section 751 applies only if there was an exchange within section 750 (a).

The exchanges covered by section 750 (a) do not go beyond those to which section 112 (b) (4) or (5) or so much of section 112 (c), (d), or (e) as refers thereto applies. ¹ The Commissioner, in his brief, indicates that he relies upon section 112 (b) (3) and (4) and so much of section 112 (c) and (d) as refers to those sections. Reliance upon section 112 (b) (3), or so much of section 112 (c) as refers to it, will do the Commissioner no good, because section 750 (a) does not mention section 112 (b) (3). He does not indicate anywhere in his brief that he relies upon section 112 (b) (5) or so much of section 112 (c) as refers thereto. He does not quote (5) as a statutory provision involved or make any argument based upon it. The Commissioner mentions section 112 (d) for the reason, apparently, that the petitioner assumed liabilities of Georgia or took property of Georgia subject to liabilities. But section 112 (k) provides that liabilities assumed or property taken subject to liabilities shall not be considered1949 U.S. Tax Ct. LEXIS 73">*88 "other property or money" within section 112 (d). Neither party suggests that the rights to subscribe for additional stock of the petitioner might constitute "other property or money." Thus, further discussion of this point may be limited properly to the possible application of section 112 (b) (4).

The argument of the Commissioner based upon section 112 (b) (4) and 112 ((d) is "that the exchange and liquidation were related steps in a single comprehensive plan of corporate reorganization whereby the railroad property was transferred from Georgia to the petitioner in exchange for the latter's entire capital stock and securities (issued in assumption of Georgia's liability on the open accounts), and current liabilities of Georgia outstanding on December 31, 1937."

Section 112 (b) (4) covers a situation where two corporations are parties1949 U.S. Tax Ct. LEXIS 73">*89 to a reorganization and provides that the corporation which receives only stock or securities of another in exchange for its property in the reorganization shall not have its gain or loss from the disposition of the property recognized. The railroad property of 13 T.C. 486">*493 Georgia was transferred to the petitioner, which had previously issued its stock and securities to the syndicate participants who were at that time the real owners of the Georgia stock. The Commissioner apparently contends that those transactions, taken as a whole, were, in effect, an exchange by Georgia of its railroad property for the stock and securities of the petitioner, which were constructively received by Georgia, although actually issued directly to the real owners of the Georgia stock.

This reasoning ignores certain facts and realities, if the transaction is to be looked at as a whole. Georgia, at the beginning of these transactions, was not in a position to transfer anything of value. Its liabilities exceeded its assets by more than the amount of its capital stock. It was insolvent. Only the syndicate had something of value to transfer. It owned the Georgia stock, but the principal thing of value1949 U.S. Tax Ct. LEXIS 73">*90 owned by the syndicate was the indebtedness owed to it by Georgia. The syndicate started off owning that indebtedness and a few other assets and wound up owning the stock and securities of the petitioner. The petitioner started off with its own stock and bonds and at the end owned the railroad property, free of the indebtedness theretofore owed by Georgia to the syndicate, and the other assets of the syndicate. It is obvious that, if such was the transaction, Georgia did not transfer property to the petitioner in exchange for its stock or securities, but, on the contrary, the syndicate alone transferred valuable property to the petitioner in exchange for its stock and securities. Cf. Seiberling Rubber Co. v. Commissioner, 169 Fed. (2d) 595; Miller & Paine, 42 B. T. A. 586; petition for review dismissed, 133 Fed. (2d) 204; Alexander E. Duncan, 9 T.C. 468. The syndicate may not be treated as a corporation for tax purposes, Tennessee, Alabama & Georgia Railway Co. v. Hoey, referred to in the stipulation, and the Commissioner does not argue that it may. 1949 U.S. Tax Ct. LEXIS 73">*91 Not being a corporation, it could not be "a party to a reorganization" within section 112 (g) (2). Also, section 750 (a) deals with transfers by one corporation to another. Thus, sections 112 (b) (4) and 750 (a) would not apply even though all of the transactions were to be regarded as parts of a single plan. Furthermore, even supposing that the stock and securities of the petitioner were issued for property coming partly from Georgia and partly from the syndicate, nevertheless, section 112 (b) (4) would not apply. That section was intended to apply only to transfers from one corporation to another where both were parties to a reorganization. The definitions of reorganization contained in section 112 (g) (1) are specific and indicate that transfers by noncorporate taxpayers are not being considered. Section 112 (b) (5) was intended to deal with transfers where the transferors were not parties to a reorganization. Since there was no 13 T.C. 486">*494 transfer within section 750(a), the Commissioner has no justification for applying section 751(a) and (b) in computing the excess profits credit.

The petitioner's equity invested capital should be computed under section 718(a) and its 1949 U.S. Tax Ct. LEXIS 73">*92 borrowed invested capital should be computed under section 719. Since the parties are agreed upon the amount to be included in borrowed invested capital if section 719 applies, only section 718(a) is left for further consideration. The parties disagree as to the amount of property paid in for stock, section 718(a) (2). The petitioner contends that the syndicate paid in for the stock and bonds of the petitioner some miscellaneous items and all of the stock of Georgia; the cost to the syndicate of the stock and miscellaneous items was $ 1,027,000; the basis of those items was the same amount; it is only necessary to determine what part of the total was paid in for the stock; the total should be allocated between the stock and bonds in proportion to the fair market value of each; the total value of stock and bonds was $ 1,181,050; the total value of the stock issued for the property was $ 513,500; and, therefore, 513,500/1,181,050 of the total basis of $ 1,027,000, or $ 446,527 is to be included in equity invested capital as property previously paid in for stock under section 718(a) (2). The petitioner offered evidence to show the relative values of the shares and of the bonds, whereas1949 U.S. Tax Ct. LEXIS 73">*93 the Commissioner offered none. He, apparently, does not contest the figure of approximately $ 1,027,000 as a starting point or suggest any other. The allocation of 513,500/1,181,050 of that amount to the stock is justified by the record.

The petitioner next contends that an additional amount should be included in equity invested capital under section 718(a) (5). That paragraph is entitled "Increase on Account of Gain on Tax-Free Liquidation." It covers a situation where a corporation has received property in complete liquidation of another under section 112(b) (6), and it provides, in effect, for the increase in equity invested capital by the difference, if any, between the adjusted basis at the time of receipt of the property distributed in liquidation and the adjusted basis of the stock surrendered in connection with the liquidation. The petitioner contends for equity invested capital under that provision in the amount of about $ 440,000.

Georgia distributed its assets to the petitioner in liquidation, and if that transaction were to be considered separately, perhaps section 718(a) (5) would apply. However, the Commissioner has contended that all of the various transactions1949 U.S. Tax Ct. LEXIS 73">*94 which took place in the latter part of 1937 were related steps and but parts of a single plan. The plan was that the petitioner would have the railroad properties, the syndicate members would surrender their Georgia stock and Georgia indebtedness 13 T.C. 486">*495 and take the stock and bonds of the petitioner, and the syndicate and Georgia would cease to exist.

The evidence shows the chronology and details of the steps which were taken, but those facts do not prove that the various steps were not all a part of one plan. There is no other evidence to show that they were not all a part of one plan. Furthermore, the reasons and purposes advanced for the various steps rather indicate that all were a part of a single plan. The desirability of and the purposes stated for liquidating Georgia were all known before the first step was taken and some of the purposes stated for the first transfer, that is, the transfer of the Georgia stock by the syndicate to the petitioner, were also well served by the complete elimination of Georgia. Transactions should be looked at as a whole and consideration given to substance rather than to form when the possible application of any of the nonrecognition provisions1949 U.S. Tax Ct. LEXIS 73">*95 of section 112 (b) is in question. George Whittell & Co., 34 B. T. A. 1070; Frank Kell, 31 B. T. A. 212; Warner Co., 26 B. T. A. 1225; Prairie Oil & Gas Co. v. Motter, 66 Fed. (2d) 309; Diescher v. Commissioner, 110 Fed. (2d) 90, affirming 36 B. T. A. 732; certiorari denied, 310 U.S. 650">310 U.S. 650; United Light & Power Co., 38 B. T. A. 477; affd., 105 Fed. (2d) 866; certiorari denied, 308 U.S. 574">308 U.S. 574. The liquidation should not be looked upon, for present purposes, as a separate transaction, but must be considered as a part of the whole. The over-all transaction does not come within section 112(b) (6), and the petitioner has shown no justification for the application of section 718(a) (5) and is not entitled to include anything in its invested capital for the taxable years under that provision.

Decision will be entered under Rule 50.