In summary, we believe that the Commissioner and Tax Court were correct in refusing to take family discord into account in applying the attribution rules. When a question is raised as to the dividend equivalency of a redemption, under §302(b)(1) the correct approach is to apply the attribution rules first, then to determine whether there has been "a meaningful reduction of the shareholder's proportionate interest," without regard to whether the interest is actually or constructively held. What is "meaningful" then, to borrow a word, is essentially an inquiry into structure, a structure that applies statutorily dictated rules of economic unity. [Metzger Trust v. Commissioner, 693 F.2d at 467-468. Emphasis in original; fn. ref. omitted.]

Both this Court's opinion and the Fifth Circuit's opinion in Metzger Trust clearly demonstrate that family hostility does not prevent application of the attribution rules. At most, as we suggested in Metzger Trust, family hostility comes into play only in determining, after the attribution rules have been applied, whether any reduction in stock ownership is meaningful.31 Nevertheless, petitioner argues that we should abandon the rationale of those opinions, citing Judge Tannenwald's concurring opinion in our Metzger Trust case. Metzger Trust v. Commissioner, 76 T.C. at 80. While he also concluded that the attribution rules were applicable in Metzger Trust, Judge Tannenwald's rationale for that result differed from that of the majority. Reasoning that there was no hostility in any link in the chain of attribution,32 Judge Tannenwald concluded as follows:

Thus, all of the attribution rules relevant to the instant case accord with reality, and so their application herein is consistent with the rationale behind section 318. We need not decide whether we may or should

31 The Fifth Circuit did not, however, embrace our suggestion that family hostility may be a factor in determining whether a reduction in the stockholder's interest in the redeeming corporation is meaningful. In a footnote, that Court stated as follows:

"The Tax Court in its opinion below did suggest that in cases of non-pro-rata distribution family hostility 'can be a relevant fact to be considered in determining whether the reduction in the shareholder's interest is meaningful so as to qualify the distribution as not essentially equivalent to a dividend under section 302(b)(l).' 76 T.C. 42, 62-63 (1981). That notion is inconsistent with our approach. Regardless, such a case was not presented below or here." [Metzger Trust v. Commissioner, 693 F.2d 459, 467 n. 16 (5th Cir. 1982), affg. 76 T.C. 42 (1981), cert. denied 463 U.S. 1207 (1983).]

Similarly, this case does not involve a non-pro-rata distribution. There are only two shareholders, father and son, and under the family attribution rules, the father owns 100 percent of the stock both before and after the redemption.

32 The chain of attribution in Metzger Trust ran from child's trust to child to father to taxpayer-trust. The only hostility present existed between the father and his sisters, to whom the attribution rules did not apply. See Metzger Trust v. Commissioner, supra, 76 T.C. at 83.

ameliorate the application of the section 318 rules if justice would be served thereby, and I believe that a proper respect for the judicial function and its inherent limitations requires that we do not decide these questions before they are properly presented. [Metzger Trust v. Commissioner, 76 T.C. at 83.]

Judge Tannenwald also commented on the majority's suggestion that family hostility may be considered only in determining whether a reduction in stock ownership is meaningful; that is, only after the attribution rules have been applied, the redemption resulted in a reduction in stock ownership, and the only remaining question is whether such reduction is meaningful. He suggested that this order of analysis "paves a road for objectionably arbitrary results." Metzger Trust v. Commissioner, 76 T.C. at 84. To illustrate his point, Judge Tannenwald posited the following hypothetical:

Suppose a father and son jointly own a corporation until they have a bitter dispute, at which time the son is completely redeemed. If, before the redemption, they owned in the aggregate 100 percent of the corporation's outstanding stock, they each will be deemed to own 100 percent of the corporation after the redemption. Thus, the rule which the majority feels compelled to adopt would treat the redemption as essentially equivalent to a dividend under section 302(b)(1). However, if a third party (say, an employee) owned as little as 1 share, the redemption would reduce percentage-wise the son's constructive ownership ever so slightly below that of his previous actual and constructive ownership, and thus he would now be free under the majority's rule to argue that the attribution rules should be overlooked because of the family feud. Yet, it seems clear to me that whether or not a third party owns a minimal amount of stock has nothing whatsoever to do with the issue. * ** [Metzger Trust v. Commissioner, 76 T.C. at 84. Fn. ref. omitted.]

Petitioner points to Judge Tannenwald's example in support of his argument that the attribution rules should not be applied in this case because the result is objectionably arbitrary. With all due respect to our esteemed colleague, we considered but declined to follow those arguments in Metzger Trust. Having respect for the principle of stare decisis, we see no reason to revisit that case. We acknowledged in Metzger Trust v. Commissioner, 76 T.C. at 64, that application of the attribution rules can produce harsh results in certain circumstances. We noted that such was the case in United States v. Davis, 397 U.S.

301 (1970). However, we also observed (76 T.C. at 64) that "the Supreme Court has been unwilling to reconsider the harsh effects of the Davis decision (Albers v. Commissioner, 414 U.S. 982 (1973) (denying certiorari)), thus, we must follow the law." (Fn. ref. omitted.) Moreover, whatever the result in a case involving the facts of Judge Tannenwald's hypothetical, this is not the case. 33 Thus, the hostility between petitioner and his son simply has no effect on the application of the section 318 attribution rules or on our decision in this case.

II. Section 302(b)(1)—Dividend Equivalency Test

Applying the analysis set forth in Metzger Trust v. Commissioner, supra, for determining dividend equivalency under section 302(b)(1) to the facts of this case, we reach the following conclusions: Under the attribution rules of section 318(a)(1)(A)(ii), petitioner owned 100 percent of the corporation's outstanding stock both before and after the redemption. Before the redemption, petitioner directly owned 50 shares. He also constructively owned, under section 318(a)(1)(A)(ii), the 50 shares actually owned by his son. After the corporation redeemed the 50 shares petitioner actually owned, he still constructively owned his son's 50 shares, which then constituted all of the corporation's outstanding stock. Because petitioner is treated as owning 100 percent of the corporation's stock both before and after the redemption, the redemption did not cause any reduction in petitioner's proportionate interest in the corporation. Therefore, the redemption was essentially equivalent to a dividend within the meaning of section 302(b)(1). Metzger Trust v. Commissioner, 76 T.C. at 61. As the Supreme Court stated in United States v. Davis, 397 U.S. at 307:

After application of the stock ownership attribution rules, this case viewed most simply involves a sole stockholder who causes part of his shares to be redeemed by the corporation. We conclude that such a redemption is always "essentially equivalent to a dividend" within the meaning of that phrase in §302(b)(1) * * *

33 To keep his hypothetical simple, Judge Tannenwald did not consider the possible effect of the provisions of sec. 302(c)(2). 76 T.C. at 84 n. 6. Here sec. 302(c)(2)(A) is involved and will be discussed in the text below.

Despite this clear result, petitioner nevertheless argues that even after applying the attribution rules of section 318, we should find that the redemption was not essentially equivalent to a dividend. To support this position, petitioner begins by quoting the following language from section 1.302-2(b), Income Tax Regs: 34

The question whether a distribution in redemption of stock of a shareholder is not essentially equivalent to a dividend under section 302(b)(1) depends upon the facts and circumstances of each case. One of the facts to be considered in making this determination is the constructive stock ownership of such shareholder under section 318(a). [Emphasis added.]

Petitioner also cites the following passages from United States v. Davis, 397 U.S. 301, 311, 313 (1970):

The intended scope of §302(b)(1) as revealed by this legislative history is certainly not free from doubt. However, we agree with the Government that by making the sole inquiry relevant for the future the narrow one whether the redemption could be characterized as a sale, Congress was apparently rejecting past court decisions that had also considered factors indicating the presence or absence of a tax-avoidance motive.

If a corporation distributes property as a simple dividend, the effect is to transfer the property from the company to its shareholders without a change in the relative economic interests or rights of the stockholders. Where a redemption has that same effect, it cannot be said to have

34 Petitioner also points to section 1.302-2(c), Income Tax Regs. It provides as follows:

"In any case in which an amount received in redemption of stock is treated as a distribution of a dividend, proper adjustment of the basis of the remaining stock will be made with respect to the stock redeemed. ***”

Petitioner contends that this provision supports a finding that the redemption was not essentially equivalent to a dividend. His rationale is that under the regulation if a redemption is treated as a dividend distribution, the taxpayer is entitled to adjust the basis of any remaining stock to reflect the basis of the redeemed stock. The corporation redeemed all of the stock petitioner actually owned. Therefore, petitioner contends, he will not be able to reflect such basis in other stock as required by the regulation. Moreover, petitioner complains that he will lose forever his $5,000 basis in the redeemed stock. However, just this type of situation is contemplated by example (2) of sec. 1.302-2(c), Income Tax Regs. It provides as follows: "H and W, husband and wife, each own half of the stock of Corporation X. All of the stock was purchased by H for $100,000 cash. In 1950 H gave one-half of the stock to W, the stock transferred having a value in excess of $50,000. In 1955 all of the stock of H is redeemed for $150,000, and it is determined that the distribution to H in redemption of his shares constitutes the distribution of a dividend. Immediately after the transaction, W holds the remaining stock of Corporation X with a basis of $100,000."

Thus, petitioner's basis in his redeemed stock will not be lost forever. Rather, it will be reflected in an adjustment to the basis of his son's stock in the corporation in accordance with sec. 1.302-2(c), Income Tax Regs.

satisfied the "not essentially equivalent to a dividend" requirement of §302(b)(1). ***

[Emphasis added; fn. ref. omitted.]

Finally, petitioner reminds us of the following statement made in Haft Trust v. Commissioner, 510 F.2d at 48:

The effect of the transaction rather than its motivation is determinative. Section 302(b)(1) requires a "meaningful reduction of the shareholder's proportionate interest in the corporation," id. [United States v. Davis, supra, 397 U.S. at 313.] (emphasis supplied.) This language certainly seems to permit, if it does not mandate, an examination of the facts and circumstances to determine the effect of the transaction transcending a mere mechanical application of the attribution rules.

Petitioner concludes from these passages that even if the attribution rules apply, and he is therefore treated as owning 100 percent of the corporation's stock both before and after the redemption, we must nevertheless analyze the redemption to determine if it was essentially equivalent to a dividend. According to petitioner, the real question is whether the redemption should be characterized as a sale. He further maintains that in analyzing the redemption we must consider the effect it had on petitioner's economic interests or rights in and control over the corporation.

Petitioner observes that before the redemption, he actually owned 50 percent of the corporation's outstanding stock. Thus, petitioner enjoyed all of the benefits of actual ownership of the corporation. He directly benefited from increases in the corporation's value. Petitioner was also an officer and director of the corporation. Before the redemption, petitioner received total salaries and bonuses ranging from $34,956 in 1971 to $42,060 in 1974. Petitioner also played an active role in managing the corporation's busi

ness.

After the redemption, petitioner did not actually own any of the corporation's stock. Thus, he did not receive any of the benefits of actual ownership of the corporation. Increases in the corporation's value no longer inured to his benefit. He resigned from his office and directorship. After the redemption, petitioner's salary as an employee ranged from $14,400 in 1975 to $3,566 in 1979. Petitioner no longer had any voice in management decisions.