"Cost" may be interpreted to be the par value of the stock given in exchange for the old interests. Hence, inflation of values or even the expression of proper appraised values on the books accompanied by a change in identity and outstanding capital stock doubtless has been regarded by the management of more than one corporation as sufficient justification for a boost in provisions for depreciation, however unethical the procedure may seem to be.

Corporate reorganizations. In order that a corporate reorganization may be effected without resulting taxable profit, the exchange of securities must take place at the same time. Failure to surrender the old stock may give a status of a property dividend to the new, as in U. S. v. Phellis (257 U. S. 156). Practically all types of reorganizations are exempt, providing the stockholder receives securities of any kind in exchange for securities of any kind.

The Treasury Department, immediately after the passage of the 1921 act, ruled that no cash might pass to the stockholder if the reorganization were to remain non-taxable. But this was contrary to Section 202 (e) which originally provided for the crediting of any cash or property other than securities to the cost of the old holdings and apparently has not been held to by the Department itself.1 Congress has seen fit (in the act of March 4, 1923) to uphold the rule of the Department, for in reorganizations after January 1, 1923, the law now regards the receipt of cash or other property in addition to securities as destroying their tax-free status. Should cash, for example, pass to the stockholder in addition to stock, the fair value of the latter would be added to the former, the result being the selling price; but the taxable income would be held, according to the statute, not to exceed the cash received.

This

Not only in reorganizations are the individual stockholders exempt, but under certain conditions corporations themselves realize no taxable profit from the disposal of their assets. would be true where one corporation purchased substantially all of the assets of another with securities, despite the fact that the par or market value of the securities might exceed the book value of the assets turned over, or where one corporation took over or secured control of the assets of another following a purchase of a majority of the voting and a majority of all other classes of stock of the other from the corporation direct or from its stockholders, the purchase price being paid, of course, in securities. Recapitalizations, and changes in identity, form, or place of 1 See, for example, I. T. 1861.

(c) In 1920 the directors declare 10% of $130,000;

and pay a liquidating cash
dividend of 10%.

organization, are included in the popular significance of a reorganization and have been incorporated by Congress into the law (Sec. 202 (c) (3)).

It follows, therefore, that most reorganizations are free from tax as regards the business itself and the owners thereof. Most taxable reorganizations are confined to what really should be designated as sales rather than mere security exchanges. This general conclusion should not excuse the careful consideration of the relative advantages of the various reorganization possibilities. Present advantages may bring on future disadvantages and the postponement of taxable income is not the only desideratum in business transactions, least of all in the average reorganization.

Illustration: On pages 86 and 87 a series of reorganizations relating to the interest of a security owner, A, illustrates the application of certain of the above principles.

VIII

INTEREST-RENTALS FOREIGN EXCHANGE

Liberty bond interest. Other interest. Rentals and leaseholds. Foreign exchange.

FIVE "Liberty Loan" bond authorization acts were passed by Congress commencing soon after the war in 1917 and continuing until 1919. In order that the bonds might be attractive investments to the public they were made entirely exempt from normal taxes and partially exempt from surtaxes. Each act carried with it a different exemption of its own and prior issues. The various issues may be summarized as follows:

On the fifteenth day of month indicated.

Before January 1, 1921, the exemptions in force were:

(a) $5,000-applicable to all taxable issues throughout their life.

(b) $5,000-applicable only to 5% War Finance Corporation bonds. These first two exemptions will continue through the life of the issues.

(c) $30,000-applicable only to (7).