The procedure as outlined above is prescribed even in cases where special types of securities are issued in lieu of the capital stock of the lessor corporation. The ruling follows:

REGULATION.

Stock trust certificates or leased line certificates, as the case may be, issued by the lessee for the purpose of securing or holding control of the stock of the lessor are held to be issued in lieu of the certificates of capital stock, and for the purpose of this tax will be treated as capital stock and the amounts received by the holders of these certificates are dividends to the holders, to be treated as rentals by both lessee and lessor and constitute an allowable deduction in the one case and an item of income in the other, accordingly as they are paid and received. (Reg. 33, 1918, Art. 104.)

These regulations have a perceptible effect upon the amount of the tax collected by the Treasury when, as under the 1917 law, there is a difference between the rate applied to corporations and the normal tax applied to individuals.1

Expenditures by tenants for taxes.-Many leases between landlords and tenants stipulate that the latter shall pay taxes or make necessary repairs. Expenditures of this character are considered a part of the rent and must be reported by the landlord.2

'The decision upon which these regulations are based is in the case of Rensselaer & Saratoga Railroad Company v. Irwin, Collector (District Court, N. D., New York), March 5, 1917, 239 Fed. 739, Act of October 3, 1913; affirmed 249 Fed. 726.

The 1918 law also has different 1919 normal rates for corporations and individuals but in case of dividends this makes no real difference as the receiving corporation (lessor) now pays no tax on dividends received.

[Former Procedure] Under the law as it stood prior to October 3, 1917, it was incumbent upon tenants in certain circumstances to withhold the normal tax upon rentals paid. In such cases questions sometimes arose concerning the interpretation of agreements binding tenants to pay taxes in addition to a stipulated cash rental, the landlords insisting that income taxes so withheld should be assumed by the tenant, and the tenants contending that they should be deducted from the stipulated cash rental agreed upon.

On September 21, 1916, in the case of Suter et al. v. Jordan Marsh Co. (Supreme Judicial Court of Massachusetts, 113 N. E. 580), the court decided that the tenant could not deduct from its rental the normal federal income tax, having agreed to pay "all taxes and assessments . . . . upon or in respect of the rent payable hereunder by the lessee, howsoever and to whomsoever assessed." The court stated that a change in the law as to taxation during the term of the lease is of no consequence. "The covenant is to pay all taxes except betterments." The court held: "The de

REGULATION.

....

Taxes paid by a tenant to or for a landlord for business property are additional rent and constitute a deductible item to the tenant and taxable income to the landlord, the amount of the tax being deductible by the latter. .. (Art. 109.)

As the net income of the owner is the same whether or not the taxes paid are included as income, many owners do not report as called for by the regulation because they have no personal knowledge of the amount of taxes paid.

Rent received other than in cash.-An owner of property must return for taxation all income there from whether received in cash or in the equivalent of cash. Many farms are leased under agreements which provide that the lessor shall receive as rental a certain portion of the crops. The lessor must return for taxation the fair value, less all expenses incurred, of the commodities received if consumed or disposed of by gift and must return the net proceeds if sold for cash.

Houses, etc., occupied by rent-free tenants.-It may be that neither cash nor produce is collected from the occupants of houses, farms, etc., but the equivalent thereof is realized by the owner in a different form. A taxpayer may own a garage large enough to accommodate the family of a chauffeur. The wages paid to the chauffeur in such cases will usually be less than if he were obliged to live elsewhere and pay rent. As the saving in wages is a direct reduction of personal or living expenses, there should be returned for tax

fendant seeks to deduct from the rent reserved that which it contends it already has paid as a tax, being obligated to pay all taxes assessed on account of that rent. That it cannot do."

In another case, Little Schuylkill Navigation Co. v. Phila. & Reading Ry. Co. (44 Penn. County Court Reports 197), a lessor attempted to hold the lessee liable for the normal tax under a clause in a lease obligating the lessee to pay taxes, but here the provisions as to the kind of taxes the lessee should pay were held by the court to be not inclusive enough to subject it to the federal income tax. The lessee agreed to pay "all taxes, charges, and assessments assessed or imposed under any existing or future law on the demised premises . . . or on the business there carried on or on the receipts derived therefrom or upon the capital stock, dividends or . . . . functions of the (lessor)."

See page 283.

ation by the chauffeur an amount equal to the saving. The same rule applies to tenants' houses on farms and country places. The test of tax liability will be found by asking the question: "Is there any gain, profit or income arising out of the property occupied?"

As heretofore stated, the rental value of a taxpayer's residence, when occupied by himself, is not taxable, but it cannot be assumed that such exemption extends to other residences which are occupied by employees whose services are not of a gainful nature. Should not the decrease in the expenses of the employer be deemed to be constructive income?

INCOME FROM DIVIDENDS

Divi

The taxation of dividends presents certain difficulties which do not exist in the taxation of other income. dends are paid from the surplus earnings of corporations and as corporations have been continuously taxed on net earnings since the incidence of the federal income tax on March 1, 1913, taxation of the same earnings when distributed to stockholders would result in double taxation if provision were not made for a proper adjustment. Again, earnings distributed since March 1, 1913, out of the surplus accumulated prior to that date are sometimes held to be capital and sometimes taxable income. As surtaxes are not imposed upon corporations Congress has attempted to devise various methods of compelling corporations to declare dividends, or to penalize the corporations which do not make adequate distributions of profits.2 Other complications exist which will be discussed hereinafter. The successive federal income tax laws and the decisions of

1

Dividends are taxable.

the Supreme Court of the United States are gradually clearing up disputed points.3

LAW. Section 213. the term "gross income❞—

That for the purposes of this title. .

(a) Includes gains, profits, and income derived from . dividends ..

Dividends are relieved from normal tax.-All federal income tax laws have provided that dividends received by in

'But are only held to be taxable when paid prior to January 1, 1916. See page 452.

See Chapter XXXII, "Tax on Undistributed Profits."

'In view of many unsettled cases relating to returns going back to 1913 it is deemed necessary to include in this chapter copious references to past regulations and decisions. For full details, however, the reader is referred to Income Tax Procedure, 1918 and 1919 editions.

dividuals are not subject to the normal tax. In the case of state income taxes the foregoing provision does not necessarily apply because corporations may not pay a state income tax as such. In New York state, corporations pay a 41⁄2 per cent tax on net incomes, but it is imposed as a franchise tax. Consequently an individual taxpayer must pay state income tax on the full amount of dividends received with no allowance or credit for the 42 per cent already collected on the same net income.

The 1918 law relieves corporations from a tax on dividends received from other corporations which are themselves taxable under the federal income tax law."

LAW. Section 216. [Individuals] That for the purpose of the normal tax only there shall be allowed the following credits:

(a) The amount received as dividends from a corporation which is taxable under this title upon its net income, and amounts received as dividends from a personal service corporation out of earnings or profits upon which income tax has been imposed by Act of Congress;

Section 234.

(a) That in computing the net income of a corporation . . . . there shall be allowed as deductions:

(6) Amounts received as dividends from a corporation which is taxable under this title upon its net income, and amounts received as dividends from a personal service corporation out of earnings or profits upon which income tax has been imposed by Act of Congress;

Dividends on stock of federal reserve banks exempt from both normal and surtaxes.

REGULATION. As section 7 of the Federal Reserve Act of December 23, 1913, provides that federal reserve banks, including the capital stock and surplus therein and the income derived therefrom, shall be exempt from taxation, except taxes upon real estate, such

'Dividends from corporations taxed upon their net income in Porto Rico and the Philippine Islands are not allowed as credits, free of tax, in an individual return and are not allowed as a deduction_in_arriving at net income in a corporation return. (1918 law, section 261.)

[Former Procedure] Under the 1909 excise tax law corporations were not subject to tax upon dividends. Under the 1913 and 1916 laws they were taxed. Under the 1917 law they were taxed 2 per cent when out of 1916 or 1917 earnings and I per cent when out of 1913, 1914 or 1915 earnings, and exempt as to the 4 per cent war income

tax.

Corporation tax rates were as follows: 1913, 1914, 1915, I per cent; 1916, 2 per cent; 1917, 2 per cent and 4 per cent war income tax.