Mr. HERRMANN. That is exactly right, sir. Senator LONG. If certain stockholders own more than 25 percent of the stock in the corporation, then under section 359 that would no longer be a tax-free transaction. Am I correct in assuming that? Mr. HERRMANN. Well, it would qualify for a tax-free transaction if all of the stockholders of the transferor corporation owned 25 percent of the stock of the acquiring corporation before consolidation, which, through the process of mathematics, becomes 20 percent of the stock of the corporation after consolidation. Now, in this particular situation that I am referring to, the tax impact would have been so great because this corporation would not qualify for tax-free consolidation, that the consolidation never would have taken place. The tax liability that situation would have been somewhere around $4 million to $4.5 million, in view of the fact that the transferor corporation, even though it was a large corporation with a surplus and capital of over $7 million, actually was started from a very small business. The major stockholders had a very low base. The capitalization was increased, from time to time, as a result of transferring surplus to capital. Now, even though the surplus of the corporation represented a minor portion of the capitalization, practically the entire amount, or the entire value of the stock received in exchange, represented a capital gain to the majority stockholders, because of their low base. The CHAIRMAN. Thank you very much, indeed. Mr. HERRMANN. I wish to thank you for the privilege of appearing before this committee. The CHAIRMAN. We have been glad to have you here. (The appendix to Mr. Herrmann's statement follows:) APPENDIX The National Association of Shoe Chain Stores is a group of 47 companies operating approximately 6,000 retail shoe stores and departments in 48 States. Their annual volume of business is in excess of $600 million. The association headquarters are at 51 East 42d Street, New York, N. Y. A list of the membership is as follows: A. S. Beck Shoe Corp., New York, N. Y. The Berland Shoe Stores, Inc., St. Louis, Mo. Block's Shoe Stores, Seattle, Wash. Books Shoe Co., Pittsburgh, Pa. Brasley-Cole Shoe Co., Ltd., Los Angeles, Calif. Butler's, Inc., Atlanta, Ga. The Dan Cohen Co., Cincinnati, Ohio Dial Shoe Co., Inc., Philadelphia, Pa. Edison Brothers Stores, Inc., St. Louis, Mo. Endicott Johnson Corp., Endicott, N. Y. Entroth Shoe Co., Toledo, Ohio Epko Shoes, Inc., Toledo, Ohio Eppenberger Shoe Co., St. Louis, Mo. Fashion-Thimble Shoe Co., Inc., St. Louis, Mo. The Krohngold Shoe Co., Cleveland, Ohio The Nobil Shoe Co., Akron, Ohio The Louis Ostrov Shoe Co., Akron, Ohio Sears, Roebuck & Co., Chicago, Ill. Shoe Corporation of America, Columbus, Ohio I. Simon Co., Inc., New York, N. Y. Thrift Shoe Stores, Wilkes-Barre, Pa. Tradehome Shoe Stores, Inc., St. Paul, Minn. The American Retail Federation is a federation of 26 national retail trade associations and 34 State retail associations representing approximately 700,000 retail stores. Headquarters are at 1625 Eye Street NW., Washington, D. C. Members of the American Retail Federation follow: American National Retail Jewelers Association American Retail Coal Association Arizone Federation of Retail Associations Association of Credit Apparel Stores, Inc. Associated Retailers of Indiana Associated Retailers of Iowa, Inc. Associated Retailers of Washington California Retailers Association Colorado Retailers Association Council of Texas Retailers' Associations Delaware Retailers' Council Florida State Retailers Association Georgia Mercantile Association Idaho Council of Retailers Illinois Federation of Retail Associations Institute of Distribution, Inc. Kentucky Merchants Association, Inc. Limited Price Variety Stores Association, Inc. Louisiana Retailers Association Mail Order Association of America Maine Merchants Association, Inc. Maryland Council of Retail Merchants, Inc. Massachusetts Council of Retail Merchants Michigan Retailers Association Minnesota Retail Federation, Inc. Missouri Retailers Association National Appliance and Radio-Tv Dealers Association National Association of Chain Drug Stores National Association of Food Chains National Association of Music Merchants, Inc. National Association of Retail Clothing and Furniture National Association of Retail Grocers National Association of Shoe Chain Stores National Foundation for Consumer Credit, Inc. National Industrial Stores Association National Jewelers Association National Luggage Dealers Association National Retail Dry Goods Association 45994-54-pt. 3- -2 National Retail Farm Equipment Association National Shoe Retailers Association National Sporting Goods Association National Stationery and Office Equipment Association Nevada Retail Merchants Association New York State Council of Retail Merchants Pennsylvania Retailers' Association, Inc. Retail Merchants Association of South Dakota Retail Merchants Association of Tennessee Retail Paint and Wallpaper Distributors of America, Inc. Utah Council of Retailers Virginia Retail Merchants Association, Inc. West Virginia Retailers Association, Inc. Mr. Kable, be seated and identify yourself to the reporter, please. STATEMENT OF CHARLES W. KABLE, JR., CHAIRMAN, TAX COMMITTEE, AMERICAN COTTON MANUFACTURERS INSTITUTE Mr. KABLE. My name is Charles W. Kable, Jr., of 240 Church Street, New York City. I am associated in business with Durring, Millikin & Co. We are commission merchants selling textile products of all types. I am also chairman of the tax committee of the American Cotton Manufacturers Institute, with principal offices in Charlotte, N. C. I appear before your committee on behalf of the institute. The institute also is a voluntary association, a nonprofit group, and includes in its membership about 85 percent of the total manufacturing capacity of the cotton end of the textile industry. This industry employs about 500,000 workers and it is essentially an industry of small enterprises, no one of which constitutes more than 4 percent of the total. Since the average cotton textile manufacturer operates on the basis of a minor fraction of 1 percent of the industry's total business, his resources are necessarily limited. The CHAIRMAN. What is the total business of the industry? Mr. KABLE. I would have to give you a guess on that. The CHAIRMAN. Give me an estimate. Mr. KABLE. It would be $6 billion to $7 billion. When Chairman Reed and the House Ways and Means Committee first undertook the complete revision of the Internal Revenue Code which had, over the years, evolved into a patchwork of unworkable legislation and a myriad of confusing and contradictory regulations, most observers felt that an impossible task had been undertaken. Nevertheless, H. R. 8300, completed within an incredibly short period of time, for the most part represents a vast improvement over the present Internal Revenue Code. The CHAIRMAN. I might say that the House Ways and Means Committee worked on this for over a year. Mr. KABLE. I know, sir. The CHAIRMAN. And their efforts followed questionnaires which were widely spread througout the country, so it isn't a case of "Let's sit down, boys, and write a new revised tax bill, overnight." There was a lot of work put into this bill, whether you like it or not. Mr. KABLE. I understand that. In an undertaking of this magnitude, it is only natural that all considerations could not have been taken into account. Suggestions for improvement of certain sections of subchapter C of chapter 1 of H. R. 8300, relating to corporations, are, therefore, offered for your consideration. The first section of subchapter C to which I shall refer is 309. For the past 10 years, under applicable case law and rulings of the Internal Revenue Service, stockholders were permitted to receive a preferred stock dividend on common tax free, in cases where there was no prior outstanding preferred stock. Subsequently, when such preferred stock was redeemed or sold, litigation ensued as to the question of whether such sale or redemption constituted capital gain or a dividend. That is the reason for the enactment of section 309, undoubtedly. Section 309 now proposes an 85-percent transfer tax on such corporation when and if it redeems such preferred stock within 10 years of issuance, or January 1, 1954, whichever is later, with certain exceptions. There are certain exceptions, as stated in the section. If these provisions of section 309 are permitted to remain in the bill they will paralyze many legitimate business functions. It appears that they will also nullify the intended outcome of many transactions originated prior to January 1, 1954, under the present code, and approved by the Treasury Department. The problems of small business, operating on the basis of limited capital and limited credit, at times. require rapid changes in corporate structure, which are not predictable at the time earlier transactions are made. Our reaction to section 309 is threefold. First, there should be no tax imposed on the corporation. Such a tax is intended to penalize the majority stockholder whose stock is redeemed, and it would also severely punish the minority man who has a few shares, and is really not involved in the transaction. Secondly, from the standpoint of our experience as businessmen, it would appear that a 5-year maximum period of prohibition as to redemption of preferred stock under these conditions would be more than ample. Finally, the arbitrary provision that the period of prohibition start on January 1, 1954, rather than the date of the issuance of the preferred stock dividend itself, should certainly not be accepted by the Senate. Corporations who issued nontaxable preferred stock dividends on common prior to January 1, 1954, and in some cases as much as 30 or ever 40 years ago, should not be trapped in this fashion, particularly if business considerations indicate the desirability of retiring preferred stock within the next few years. I am referring to the possible desirability of retiring stock because of the present easy money, and if there was continuance of it, you could probably borrow at 3 percent when your preferred stock might have a 512 percent rate. Even without tax considerations, that would be good business. In 1951, when section 112 (b) (11) dealing with the spin-off situation was before the Senate, Senator Humphrey of Minnesota discussed the problem of tax avoidance and the possibility that turning ordinary income into capital gain might be done through the disposal of stock or assets. At that time, he proposed a 3-year holding period to protect the Government from tax avoidance. Senator George opposed the 3-year period on the ground that here, again, it might unduly interfere with general business practice. I quote in part from Senator George's statement at that time, in the Congressional Record, volume 97, No. 181, September 27, 1951, pages 12459 through 12462. Mr. George stated: That is true; but why put in a time element, which would make the section unworkable? In these uncertain times, we cannot foresee how long we can carry on a business, or when we may have to sell the stock. I believe that the Senator's amendment is wholly unnecessary. It is a matter of record that Senator George's reasoning prevailed in the Senate at that time. The loophole as represented by the recent Chamberlin case, which section 309 intends to close, still exists. In that case, the stockholder who received a nontaxable preferred stock dividend sold it the next day to an insurance company and was allowed to pay tax at capital gains rates. That is what the court held. The House bill deals only with redemption of preferred stock dividends and not with their sale. A dividend tax should be levied on the gain derived by the recipient of preferred stock, whether he redeems or sells the stock within 5 years from the date of its issue. Thereafter, any gain derived by him should be taxed as a capital gain, and that is the way we view it. And I think that would plug the loophole, Mr. Chairman. We suggest a 5-year period, as being unreasonable-6 months is considered a proper holding period for ordinary capital gains. A transfer tax upon the corporation is unjustified and the retroactive feature with respect to the holding period contained in the present House bill, to our way of thinking, is completely unwarranted. Our next suggestion refers to section 359. In general, it amends section 112 (b) (1) (b) of the present code, which has already been covered by Mr. Herrmann, whereby it has always been possible for a corporation to exchange voting stock for at least 80 percent of the stock or assets of another corporation in tax-free reorganization. This is something that has been in the code for a long time, and has been found to be thoroughly workable. Time didn't permit me personally to make the necessary researches. I don't know when 112 emerged into the code, but I would like to have reviewed the reason-why philosophy that underlay the section 112 grouping, at that time. However, I was in Mr. Gemmill's office a few days ago, and he gave me to understand that the technical advisers of the committee recognize the need for basic changes in this section of the statute and, therefore, I won't discuss them. It is requested, however, that my written statement be made a part of the record. I have something on it here, but I don't think I need burden you with the length of that. The CHAIRMAN. It will appear in the record. Mr. KABLE. Subsection (a) of section 359 contains a definition of a publicly held corporation by defining a closely held corporation |