(b) It is determined that the amount of $ 4,893.94 claimed as a short-term capital loss on your income tax return for the taxable year ended June 30, 1956 is not an allowable deduction because you are not the same taxpayer within the meaning of section 117(e) of the Internal Revenue Code of 1939 and section 1212 of the Internal Revenue Code of 1954 for the purpose of carrying over capital losses sustained in the taxable years ended June 30, 1952 and June 30, 1953 prior to the date you acquired the assets and business of Basca Manufacturing Company, Inc.

OPINION.

I.

The first issue for decision is this: Can the petitioner corporation carry over and deduct from its "postreorganization" income for the years 1956 and 1957, which it derived from the operation of a metal-fabricating business, certain net operating losses which 1962 U.S. Tax Ct. LEXIS 86">*100 it had sustained during its "prereorganization" years of 1951, 1952, and 1953, while it was engaged in a former business of manufacturing candy and operating a chain of restaurants?

38 T.C. 773">*780 1. Statutory provisions for the carrying forward and carrying back of net operating losses have, since the Revenue Act of 1918, been part of our Federal income tax system. The basic policy of such provisions has been to make available a method for "evening out" the peaks and troughs of the profit curve of a business having fluctuating gains and losses, under our system of annual accounting for income tax purposes. But over the years, the Congress, the courts, and the Internal Revenue Service have raised barriers to the use of such method, in various situations where its use was thought to be inconsistent with the policy underlying the loss carryback and carryover deductions. ¹

Earlier cases in the net operating loss carryover area appeared to place particular emphasis on what is sometimes referred to as the "entity concept." One of these earlier cases was New Colonial Co. v. Helvering, 292 U.S. 435">292 U.S. 435 (1935). 1962 U.S. Tax Ct. LEXIS 86">*101 There, a taxpayer corporation had purchased and continued to operate the business of another corporation which had theretofore sustained a net operating loss. The Supreme Court there decided that the purchasing taxpayer could not carry over and deduct said net operating loss of its predecessor, on the grounds that the two corporations were distinct and separate entities, and that the Court could find nothing in the statute which would indicate an intention that the losses of one corporate entity should be deductible by a successor corporate entity. This case thus appeared to place primary reliance on the entity concept, and to hold that where there was a combination of two corporations, there could be no carrying over of losses of a prior corporate entity whose existence had terminated.

Subsequently, this entity concept was applied with increased emphasis by this Court, in the case of Alprosa Watch Corporation, 11 T.C. 240">11 T.C. 240 (1947), wherein there had been a radical change both in the character and in the ownership of the business. There, a partnership, engaged in the business of importing watches, purchased the stock of a corporation which had been engaged in manufacturing gloves, and 1962 U.S. Tax Ct. LEXIS 86">*102 which had a net operating loss carry forward from the prior year. Shortly after such purchase, the new owners took over the corporate entity of the glove business, disposed of all the glove-manufacturing machinery, changed the name and location of the business, and thereafter caused the corporation to engage solely in the business of selling watches and other jewelry. This Court held that, since the corporate entity had not changed, the radical changes in the ownership and nature of the corporation's business would not prevent the continuing entity from carrying over and deducting against the profits from its 38 T.C. 773">*781 new jewelry business, the losses which had theretofore been sustained in the former glove-manufacturing business.

The above-mentioned "entity concept" appeared to remain inviolate until the decision of the Second Circuit in Stanton Brewery, Inc. v. Commissioner, 176 F.2d 573 (1949). There the Court of Appeals (relying in part upon the Supreme Court's decision in Helvering v. Metropolitan Edison Co., 306 U.S. 522">306 U.S. 522 (1939), wherein it was decided that a corporation surviving a merger could deduct the unamortized discount on bonds issued by a preexisting subsidiary) held that a 1962 U.S. Tax Ct. LEXIS 86">*103 parent holding company which survived a statutory merger with its wholly owned subsidiary, should be regarded to be the same "taxpayer" as the corporate subsidiary which had disappeared. The Court of Appeals appeared to justify such decision on the policy ground of ameliorating an otherwise harsh tax consequence; but it also appeared to distinguish New Colonial, on the ground that in said case the transfer of assets was voluntary, whereas in the Stanton case the combination of corporations was consummated in accordance with a State merger statute under which the rights of the disappearing corporation were taken over by the surviving corporation through operation of law.

The result of these earlier cases was to create uncertainty in the application of the statutory provisions relating to net operating loss carryovers, so that neither the Government nor taxpayers could accurately predict the consequences of corporate changes. Survival of tax attributes appeared to depend primarily on the form of the transactions, and on the technical skill with which they were effected. Thus the "entity concept" theory tended to penalize taxpayers who were either poorly advised or who, for nontax reasons, 1962 U.S. Tax Ct. LEXIS 86">*104 found it necessary to extinguish the loss entity.

During this same period when the above cases were being litigated, Congress took note of the "trafficking" which was being carried on with respect to loss corporations, i.e.: The practice under which loss corporations were in many instances being bought up, primarily for the purpose of obtaining the benefit of their loss history for income and excess profits tax purposes. Accordingly, Congress in 1943 added a new section to the 1939 Code, section 129, which in substance prohibited the allowance of deductions to a successor corporation, in situations where control of another corporation had been acquired for the primary purpose of obtaining that corporation's losses for tax purposes. This legislative attempt to meet the situation did not, however, prove to be effectual. See S. Rept. No. 1622, 83d Cong., 2d Sess., p. 53.

It was against the background of the foregoing decisions and legislative actions that the Supreme Court in 1957 reentered the area with 38 T.C. 773">*782 its decision in the Libson Shops case which is hereinafter considered.

2. Libson Shops, Inc. v. Koehler, 353 U.S. 382">353 U.S. 382, was a net operating loss carryover case which involved a merger 1962 U.S. Tax Ct. LEXIS 86">*105 of 17 corporations, and in which the facts were different from those in the instant case. Despite these differences, the importance of the case for present purposes is that the Supreme Court there gave renewed emphasis to the basic policy underlying the net operating loss carryover provision of the statute; considered it unnecessary to discuss the earlier cases based on the "entity concept," including those which we have above mentioned; and decided that an alternative position there presented by the Government was dispositive of the case, i.e.: That the carryover privilege is not available unless there is a "continuity of business enterprise"; and that a prior year's loss can be offset against the current year's income only to the extent that such income is derived from the operation of substantially the same "business" which produced the loss. The Court, in the course of its opinion, said:

The requirement of a continuity of business enterprise as applied to this case is in accord with the legislative history of the carry-over and carry-back provisions. Those provisions were enacted to ameliorate the unduly drastic consequences of taxing income strictly on an annual basis. They 1962 U.S. Tax Ct. LEXIS 86">*106 were designed to permit a taxpayer to set off its lean years against its lush years, and to strike something like an average taxable income computed over a period longer than one year. * * * What [legislative] history there is suggests that Congress primarily was concerned with the fluctuating income of a single business.

* * * *

* * * The availability of this privilege [of deducting carryover losses] depends on the proper interpretation to be given to the carry-over provisions. * * * We conclude that petitioner is not entitled to a carry-over since the income against which the offset is claimed was not produced by substantially the same businesses which incurred the losses. [Footnotes omitted.]

It is true that in the Libson Shops case, the Court appended a footnote, No. 9, in which it stated that it did not pass on situations like those presented in 11 T.C. 240">Alprosa Watch Corporation, supra, and certain other mentioned cases wherein a single corporate taxpayer was involved. But such situation has since been dealt with in several cases decided subsequent to Libson Shops, including J. G. Dudley, Inc., 36 T.C. 1122">36 T.C. 1122, affd. 298 F.2d 754 (C.A. 4); Commissioner v. Virginia Metal Products, Inc., 290 F.2d 6751962 U.S. Tax Ct. LEXIS 86">*107 (C.A. 3); Mill Ridge Coal Co. v. Patterson, 264 F.2d 713 (C.A. 5), certiorari denied 361 U.S. 816">361 U.S. 816; and Willingham v. United States, 289 F.2d 283 (C.A. 5).

In the Dudley case, the stock of a dormant corporation with a history of sizable operating losses sustained in a business of operating a hosiery mill, was acquired by the proprietor of a heating, plumbing, and electrical contracting business. The purchaser transferred the assets of his contracting business to the corporation which he had 38 T.C. 773">*783 acquired; and thereafter this corporation sought to carry over and deduct from the income of its new contracting business, net operating losses which had theretofore been sustained in the prior hosiery business. We held that such deduction was not allowable, relying in part on the controlling effect of the principle of the Libson Shops case. In the course of our opinion, we said:

True it is that the factual situation in Libson differs from the one before us in that there was no continuing corporate charter in Libson, while here there was, and no merger here, while there was in Libson. Further, the Court in footnote 9 to Libson in commenting on cases which are similar to this one on their facts 1962 U.S. Tax Ct. LEXIS 86">*108 and on which petitioner relies, said [quoting the language of said footnote]:

* * * *

Nevertheless, we think the Supreme Court in Libson was looking beyond legal niceties and was persuaded by the substance of the transaction before it.

* * * *

If we apply the reasoning of the Supreme Court in Libson, we have here the kind of situation in which the losses of an abandoned business should not be allowed as a carryover to offset current profits of petitioner's new business. There has not been met here the "requirement of a continuity of business enterprise" such as would justify allowing petitioner to utilize its claimed loss carryover * * *

The Court of Appeals for the Fourth Circuit, in affirming our above decision in the Dudley case, made the following statement which is here particularly apposite:

It is fantastic to suppose that Congress, in carrying out its purpose to lighten the burdens of the taxpayer incident to the annual accounting system by offsetting losses of bad years against profits of good years, should have intended to permit a corporate taxpayer under new ownership to offset the losses of an earlier unsuccessful enterprise against the gains of a totally different enterprise 1962 U.S. Tax Ct. LEXIS 86">*109 subsequently undertaken. * * *

In the Virginia Metal Products case, which is another case decided subsequent to Libson Shops, the Court of Appeals for the Third Circuit took a similar position. It said in part:

we think Libson Shops, Inc. v. Koehler, 353 U.S. 382">353 U.S. 382 (1957), is unmistakably decisive of this case. * * *

The basis of the Court's decision is directly applicable to this case and we think leaves no doubt of what it meant. Mr. Justice Burton, for the Court, pointed out that the government was contending "that the carry-over privilege is not available unless there is a continuity of business enterprise." * * * Then the opinion goes on to say that this requirement of continuity of business enterprise accords "with the legislative history of the carry-over and carry-back provisions." The Court cites the legislative history pointing out that the provisions were enacted to "ameliorate the unduly drastic consequences of taxing income strictly on an annual basis. They were designed to permit a taxpayer to set off its lean years against its lush years and to strike something like an average taxable income computed over a period longer than one year." * * * That case is a stronger 1962 U.S. Tax Ct. LEXIS 86">*110 case for the taxpayer than the one before us. The shareholders remained the same 38 T.C. 773">*784 in these various Libson corporations. The same business was carried on after the merger as before. * * *

Since the Supreme Court said that was insufficient for the application of Section 122, this is an a fortiori case. Here there was no continuity of business and there was no continuity of ownership. The taxpayer's hopeful reliance upon footnote 9 on page 390 of the report of Libson is misplaced. The Supreme Court was simply confining its decision to the facts before it. But the thrust of that decision easily includes such a case as this. This result accords with what other circuits have been saying in applying the Libson decision. * * * [Citing cases.]

The decisions of the Fifth Circuit in Mill Ridge Coal Co. and Willingham are to the same effect as the above-mentioned decisions in Dudley and Virginia Metal Products. The decision in the Willingham case appears to be particularly significant in that there, as in the instant case, the corporation involved went through a chapter X bankruptcy reorganization.

3. As regards the present case, we think that the decision in Libson Shops, and the several 1962 U.S. Tax Ct. LEXIS 86">*111 other above-cited cases which have followed and applied that decision, require a decision for the respondent on the issue before us. Here, in the interval between the years when the net operating losses were sustained and the years when petitioner has sought to deduct such losses, there were radical changes in the ownership of the business, in the capital structure of the business, in the location of the business operations, in the management of the business, and in the type of the business and its products. We are convinced that, in such circumstances, there was no "continuity of business enterprise" within the meaning of said above-cited cases. Accordingly, deductions of the claimed net operating loss carryovers are not here allowable.

The petitioner has suggested that the "special limitations" of section 382(a) of the 1954 Code are here controlling; but we are satisfied that said section has no applicability here. That section, as expressly stated in the related section 394(b), applies its "special limitations" only to changes in ownership and changes in business occurring on or after June 22, 1954; whereas in the instant case, the pertinent changes in ownership and character 1962 U.S. Tax Ct. LEXIS 86">*112 of business occurred in 1952 and 1953, and thereby extinguished the usability of the loss carryover by the new "business," even prior to the time when said "special limitations" were enacted and became operative. ²

We decide the first issue in favor of the respondent.

38 T.C. 773">*785 II.

The second issue for decision is whether the petitioner corporation is entitled to carry over and deduct from its postreorganization income of the year 1956, a capital loss which it had sustained in its prereorganization period, in selling the stock of a candy factory that it had then been operating.

The petitioner did not, on brief, separately develop this point; and the respondent, on brief, took the position that the decision of the first issue (relating to the carryover of net operating 1962 U.S. Tax Ct. LEXIS 86">*113 losses) would be dispositive of this second issue (relating to the carryover of a capital loss). We agree with this position of the respondent. It is our opinion that the rationale of the Libson Shops case, and also that of the Dudley, Mill Ridge, Virginia Metal Products, and Willingham cases, preclude the deductibility of the claimed capital loss carryover here involved.

Moreover, in Patten Fine Papers, Inc. v. Commissioner, 249 F.2d 776, affirming on this point 27 T.C. 772">27 T.C. 772, the Court of Appeals for the Seventh Circuit applied the "continuity of business enterprise" principle of the Libson Shops case in disallowing deduction of a claimed capital loss carryover.

We decide this second issue also in favor of the respondent.

Decision will be entered under Rule 50.