Republic of the Philippines stockholders of the Central Motor Supply Co., Inc.
,
SUPREME COURT
Manila
EN BANC
G.R. No. L-49102 May 30, 1949
W. C. OGAN AND BOHOL LAND
TRANSPORTATION CO., plaintiffs-appellants,
vs.
BIBIANO L. MEER, Collector of Internal
Revenue, defendant-appellee.
Alvear & Agrava and Delfin L. Gonzales for
appellants.
First Assistant Solicitor General Jose B. L. Reyes
and Solicitor Vicente A. Arguelles for appellee.
PERFECTO, J.:
On May 5, 1936, W. C. Organ and the Bohol Land
Transportation Company owned, respectively, 100
and 200 shares of stock of the Central Motor Supply
Company, Inc., which had a capital stock of
P300,000 divided into 3,000 shares with par value
of P100 each, and had no other assets except the
shares of stock it acquired from the Motor Service
Company, Inc., another corporation capitalized at
P300,00 divided into 3,000 shares at P100 each.
On December 31, 1935, the Central Motor Supply
Co., Inc., owned 1,763 shares of stock of the Motor
Service Co., Inc., valued at P304,600, and in
February, 1936, purchased 232 shares for P58,000.
On May 5, 1936, the Motor Service Co., Inc.,
declared a stock dividend of 550 per cent in favor of
its stockholders, of which 1,000 shares were
issuedto the Central Motor Supply Co., Inc., so that
on said date this corporationowned 2,995 shares of
stock of the other.
The five directors of the Central Motor Supply Co.,
Inc., owned one share ofthe five remaining shares of
the Motor Service Co., Inc., of which they were at
the same time directors.
On May 5, 1936, it was resolved at the stockholders'
meeting of the Central Motor Supply Co., Inc., that
the 2,995 shares of stock which it acquired from the
Motor Service Co., Inc., should be transferred to the
in exchange for an equipment number of shares of
the stock of his corporation, while the remaining
five shares of the Central Motor Company, Inc.,
would be retained and held by its directors.
Pursuant to this resolution, the 2,995 shares of stock
of the Central Motor Supply., Inc., were withdrawn
from its stockholders, were converted into stock and
were correspondingly replaced share for shares with
the stock of the Motor Service Co., Inc., and
stockholders of the Central Motor Supply Co., Inc.,
were then registered as the stockholders of the
Motor Service Co., Inc., for an equal number of
shares which they previously owned in the Central
Motor Supply Co., Inc., As a result of the
transaction, W. C. Organ and the Bohol Land
Transportation Company acquired, respectively,
100 and 200 shares of stock of the Motor Service
Company.
The par value of each share of the Central Motor
Supply Co., Inc., was P100 while the market value
of each share of Motor Service Co., Inc., on May 5,
1936, was P166.66. The stockholders of the Central
Motor Co., Inc., invested the sum of P100 for each
share of this corporation and, as the market value of
each share of the Motor Supply Co., Inc., on May 5,
1936 was P166.66, the difference of P66.66 in the
value of each share in the two corporations was
reckoned by the defendants as the profit realized per
share out of the transaction and collected upon it the
corresponding income tax, now the subject of this
litigation.
The above recital of facts is based on the findings
made by the court in itsdecision rendered on July
31, 1941.
Plaintiffs-appellant made the following assignment
of error:
I
The lower Court erred in not holding that
appellant did not realize any income by
virtue of the transaction of May 5, 1936.
II
The lower Court erred in not holding that the
transaction of May 5, 1936, was not an
 "Exchange of one piece of property for
another" within the meaning of section 2(c),
paragraph (3), of Act No. 2833, as amended.
III
The lower Court erred in not holding that the
transaction of May 5, 1936, was merely a
simplification of intercorporate relations
between a parent corporation and a
subsidiary company which could not entail
the realization of either loss or gain to the
stockholders.
Interpretation and application of the provisions of
section 2 (c), paragraph 3 of Act No. 2833 as
amended by Act No. 2926, referring to taxable
income in relation with section 2 (a) of said Act are
involved in the litigation. Said pertinent provisions
of law read as follows:
SEC. 2 (c) The gain or loss sustained from
the sale or other disposition of property, real
or personal or mixed, shall be determined in
accordance with the following schedule:
xxx xxx xxx
(3) In the case of the exchange of one piece
of property for another, the property
received in exchange shall be considered as
equivalent of money in a sum equal to its
market value on the date of which the
exchange was made.
SEC. 2 (a). Subject only to such exemptions
and deductions as are hereinafter allowed,
the taxable net income of a person shall
include gains, profits, and income derived
from salaries and wages, or compensation
for personal service of whatever kind and in
whatever from paid, or from professions,
vocations, business, trade, commerce, sales
or dealings in property, whether real or
personal, growing out of the ownership or
use of or interest, rent, dividends, securities,
or the transaction of any business carried on
for gain or profits, or gains, profits and
income derived from any source whatever.
The controversy centers on whether plaintiffs
realized taxable income as stockholders of the
Central Motor Supply Co., upon their acquisition of
the shares of stock of the Motor Service Co., Inc.,
exchanges share for share with the stock of the
central Motor Supply Co., Inc., on March 5, 1936.
Defendants' contention is to the effect that as the
stockholders of the Central Motor Supply Co., Inc.,
acquired their shares at a cost of P100 per share, the
difference between the market value of P166.66 per
share of the Motor Service Co., Inc., and the cost
per share of the Central Motor Supply Co., Inc., is
taxable income for which the plaintiffs-appellants
should pay the sum of P599.94 and P799.92,
respectively, in accordance with section 2(c),
paragraph 3 of Act No. 2833 as amended by Act
No. 2926.
Appellant contend in their brief that they did not
realize any income by virtue of the transaction of
May 5, 1946, alleging that on that day, the value of
their holding in the Central Motor Supply Co., Inc.,
the alleged parent corporation, was P166.66 a share.
They argue that on May 5, 1936, the Motor Service
Co., Inc., the subsidiary company, was worth
P499,980 net. Inasmuch as this company had 3,000
shares outstanding, it was, therefore, worth the
quantity of P499,980 divided by 3,000 or P166.66
each share. The parent corporation possessed on
May 5, 1946, no assets other than the 3,000 shares
of stock of the subsidiary company and,
consequently, the assets of the parent corporation
were also worth P499,980 net on that date. Since
the parent corporation had 3,000 shares outstanding,
each of these must have been worth on May 5,
1936, the amount of P499,980 divided by 3,000, or
P166.60 each share, and, therefore, appellants could
not have possibly realized any income from a
transaction where their shares of stock in the parent
corporation worth P166.66 per share were
exchanged for an equal number in the subsidiary
company, valued likewise at P166.66 per share on
the date of the exchange.
The whole structure of appellants' argument is
premised on the assumption that on May 5, 1936,
the value of their holding in the Central Motor
Supply Co., Inc., the parent corporation, was
P166.66 a share, when, as a matter of fact, it
appears that the shares of the Central Motor Supply
Co., Inc., cost its stockholders only P100 a share.
According to the findings made by the trial court,
the Central Motor Supply Co., Inc., had a capital
stock of 300,000 shares with par value of P100
each.
Vicente O. Jose, examiner of the Bureau of Internal
Revenue, testified that he examined the books of the
Central Motor Co., Inc., and of the Motor Service
Co., Inc., in February, 1938, and he found out that
on May 5, 1936, the value of each share of stock of
the Motor Service Co., Inc., for the Central Motor
Supply Co., Inc., was P100 each, and this testimony
was fully accepted and agreed upon by appellant.
R. Segun este report, el valor de la accion de
la Motor Service Company para la Central
Motor Supply Company es P100 cada
accion.
P. Sobre que hechos ha basado usted para
sentar esa conclusion?
Sr. Agrava:
Nosotros aceptamos como cierta la
alegasion en la ultima contestacion del
testigo y, por tanto, el compañero no puede
repreguntar al mismo sobre el particular.
Juzgado:
Hagase constar. (11)
R. EL Valor de cada accion de la Motor
Service Company a la Central Motor Supply
Company, es P100.
P. Diga usted que ha basado usted para
sentar esa opinion?
Sr. Agrava:
Adminitimos que es cierto, por lo que puede
valer, el testimonio del testigo en relacion a
la ultima pregunta. "Juzgado: Hagase
constar. (12)
On the other hand, the parties entered into the
following agreement at the trial:
CONVENIO
Las partes convienen en que precio en el
mercado de las acciones de la Motor Service
Company, en 5 de Mayo de 1936, era a
P166.66. (10)
There can be no question, therefore, that with the
exchange of shares made on May 5, 1936, plaintiffs
earned as profits the difference of P66.66 per share
— the difference between the market value per
share of the Motor Service Supply Company, Inc.,
to its stockholders. The exchange falls within the
purview of the above quoted provision of section
2(c), paragraph 3, of Act No. 2833 as amended by
Act No. 2926, because plaintiffs exchanged their
property (share of stock of the Central Motor
Supply Company, Inc., valued at P100 per share)
for another property (the shares of stock of the
Motor Service Co., Inc.,) which property thus
received should be "considered as equivalent of
money in a sum equal to its fair market value on the
date of which the exchange the was made," that is,
at the rate of P166.66 per share.
Appellant contend that the transaction of May 5,
1936, was not an exchange of one piece of property
for another, because the Motor Service Co., Inc., is
owned 100 per cent by the Central Motor Co., and
the stockholder of the latter are the beneficial and
real owner of the share of stock and of the property
of both entities, and that the two concern should be
viewed as forming a single unit, the transaction of
May 5, 1936 being merely a simplification of
corporate relations between a parent corporation
and a subsidiary company. They contend that a
singleness in business proposition exist and the
separate identities of the two corporations should de
disregarded, and that we should look through the
forms to see the realities and consider as if the
subsidiary company did not exist, and that the
fiction of corporate entity may be disregarded
where one corporation is organized and controlled
and it affairs are so conducted that it is, in fact, a
mere instrumentality or adjunct of another
corporation. They also alleged that the identities of
both parent corporation and subsidiary company
should be looked upon as if merged into one
company. It is further contended that the
replacement of shares of stock of the former with
shares of stock of the former with shares of stock of
the latter did not involve a taxable exchange and
that what was accomplished really in the transaction
of May 5, 1936, was a formal, not a substantial,
exchange of what were merely the evidence of the
same property, because the share of stock of the
parent corporation represent exactly the same
physical assets represent by the shares of stock of
the subsidiary company and, after the exchange, a
stockholder of the Central Motor Co., Inc., owned
exactly the same thing that he already owned before
his aliquot part of the physical assets of the Motor
Service Co., Inc., became his, and, therefore, no
exchange of the two distinct pieces of property took
place; in other words, there was an exchanges of
certificates but not of interest.

Appellants' arguments are all based on subtleties

that cannot stand the realities involved in this case.
Aside from the fact stated in the appealed decision
to the effect that there is no allegation or evidence
on record to show that the Motor Service Co., Inc.,
was and is a subsidiary of the Central Motor Supply
Co., Inc., — a fact that, for the purposes of the
controversy, has no importance — there is no
dispute that the two corporations are different from
each other, each having distinct legal personalities,
and one cannot be identified with the other, both
having different rights and responsibilities under the
law, and the stockholders in the Central Motor Co.,
Inc., (the so-called parent company), by the mere
fact of being stockholders thereof, do not became
stockholders of the Motor Service Co., Inc., (the so-
called subsidiary company), nor enjoy the rights and
privilege of the same. When the stockholders of one
corporation became the stockholders of the other, as
a result of a transaction of exchange, they earn
positive benefit and advantages, such as the right to
vote their stocks at the stockholders' meeting of the
second corporation, and, in the present case, they
profited by the difference of share values at the rate
of P66.66 per share. There cannot be any question
that there was in the transaction of May 5, 19336,
an exchange of one property with another.

Plaintiffs have no cause of action for the recovery

of the sum they paid under protest as a income tax
for the year 1936 in connection with those transfer,
and the trial court did not err in dismissing the
complaint. The appealed decision is affirmed with
cost against appellants.
 Republic of the Philippines
SUPREME COURT
Manila
FIRST DIVISION
G.R. Nos. L-33665-68 February 27, 1987
COMMISSIONER OF INTERNAL REVENUE,
petitioner,
vs.
VICENTE A. RUFINO and REMEDIOS S.
RUFINO, ERNESTO D. RUFINO and ELVIRA
B. RUFINO, RAFAEL R. RUFINO and
JULIETA A. RUFINO, MANUEL S. GALVEZ
and ESTER R. GALVEZ, and COURT OF TAX
APPEALS, respondents.
Leonardo Abola for respondents.
CRUZ, J.:
Petition for review on certiorari of the decision of
the Court of Tax Appeals absolving the private
respondents from liability for capital gains tax on
the stocks received by them from the Eastern
Theatrical Inc. These were originally four cages
involving appeals from the decision of the
Commissioner of Internal Revenue dated July 11,
1966, holding the said respondents, Vicente A.
Rufino and Remedies S. Rufino, Ernesto D. Rufino
and Elvira B. Rufino, Rafael R. Rufino and Julieta
A. Rufino, and Manuel S. Galvez and Ester R.
Galvez, liable for deficiency income tax, surcharge
and interest in the sums of P44,294.88, P27,229.44,
P58,082.60 and P58,074.24, respectively, for the
year 1959.
The facts, as narrated by the Court of Tax Appeals,
are as follows:
The private respondents were the majority
stockholders of the defunct Eastern Theatrical Co.,
Inc., a corporation organized in 1934, for a period
of twenty-five years terminating on January 25,
1959. It had an original capital stock of
P500,000.00, which was increased in 1949 to
P2,000,000.00, divided into 200,000 shares at
P10.00 per share, and was organized to engage in
the business of operating theaters, opera houses,
places of amusement and other related business
enterprises, more particularly the Lyric and Capitol
Theaters in Manila. The President of this
corporation (hereinafter referred to as the Old
Corporation) during the year in question was
Ernesto D. Rufino.
The private respondents are also the majority and
controlling stockholders of another corporation, the
Eastern Theatrical Co Inc., which was organized on
December 8, 1958, for a term of 50 years, with an
authorized capital stock of P200,000.00, each share
having a par value of P10.00. This corporation is
engaged in the same kind of business as the Old
Corporation. The General-Manager of this
corporation (hereinafter referred to as the New
Corporation) at the time was Vicente A. Rufino.
In a special meeting of stockholders of the Old
Corporation on December 17, 1958, to provide for
the continuation of its business after the end of its
corporate life, and upon the recommendation of its
board of directors, a resolution was passed
authorizing the Old Corporation to merge with the
New Corporation by transferring its business,
assets, goodwill, and liabilities to the latter, which
in exchange would issue and distribute to the
shareholders of the Old Corporation one share for
each share held by them in the said Corporation.
It was expressly declared that the merger of the Old
Corporation with the New Corporation was
necessary to continue the exhibition of moving
pictures at the Lyric and Capitol Theaters even after
the expiration of the corporate existence of the
former, in view of its pending booking contracts,
not to mention its collective bargaining agreements
with its employees.
Pursuant to the said resolution, the Old Corporation,
represented by Ernesto D. Rufino as President, and
the New Corporation, represented by Vicente A.
Rufino as General Manager, signed on January 9,
1959, a Deed of Assignment providing for the
conveyance and transfer of all the business,
property, assets and goodwill of the Old
Corporation to the New Corporation in exchange
for the latter's shares of stock to be distributed
among the shareholders on the basis of one stock
for each stock held in the Old Corporation except
that no new and unissued shares would be issued to
the shareholders of the Old Corporation; the
delivery by the New Corporation to the Old
Corporation of 125,005-3/4 shares to be distributed
to the shareholders of the Old Corporation as their
corresponding shares of stock in the New
Corporation; the assumption by the New
Corporation of all obligations and liabilities of the
Old Corporation under its bargaining agreement
with the Cinema Stage & Radio Entertainment Free
Workers (FFW) which included the retention of all
personnel in the latter's employ; and the increase of
the capitalization of the New Corporation in
compliance with their agreement. This agreement
was made retroactive to January 1, 1959.
The aforesaid transfer was eventually made by the
Old Corporation to the New Corporation, which
continued the operation of the Lyric and Capitol
Theaters and assumed all the obligations and
liabilities of the Old Corporation beginning January
1, 1959.
The resolution of the Old Corporation of December
17, 1958, and the Deed of Assignment of January 9,
1959, were approved in a resolution by the
stockholders of the New Corporation in their special
meeting on January 12, 1959. In the same meeting,
the increased capitalization of the New Corporation
to P2,000,000.00 was also divided into 200,000
shares at P10.00 par value each share, and the said
increase was registered on March 5, 1959, with the
Securities and Exchange Commission, which
approved the same on August 20,1959.
As agreed, and in exchange for the properties, and
other assets of the Old Corporation, the New
Corporation issued to the stockholders of the former
stocks in the New Corporation equal to the stocks
each one held in the Old Corporation, as follows:
Mr. & Mrs. Vicente A.
Rufino............... 17,083 shares
Mr. & Mrs. Rafael R. Rufino
................. 16,881 shares
Mr. & Mrs. Ernesto D. Rufino
.............. 18,347 shares
Mr. & Mrs. Manuel S. Galvez
............... 16,882 shares
It was this above-narrated series of transactions that
the Bureau of Internal Revenue examined later,
resulting in the petitioner declaring that the merger
of the aforesaid corporations was not undertaken for
a bona fide business purpose but merely to avoid
liability for the capital gains tax on the exchange of
the old for the new shares of stock. Accordingly, he
imposed the deficiency assessments against the
private respondents for the amounts already
mentioned. The private respondents' request for
reconsideration having been denied, they elevated
the matter to the Court of Tax Appeals, which
reversed the petitioner.
We have given due course to the instant petition
questioning the decision of the said court holding
that there was a valid merger between the Old
Corporation and the New Corporation and declaring
that:
It is well established that where
stocks for stocks were exchanged,
and distributed to the stockholders of
the corporations, parties to the
merger or consolidation, pursuant to
a plan of reorganization, such
exchange is exempt from capital
gains tax . . .
In view of the foregoing, we are of
the opinion and so hold that no
taxable gain was derived by
petitioners from the exchange of
their old stocks solely for stocks of
the New Corporation pursuant to
Section 35(c) (2), in relation to (c)
(5), of the National Internal Revenue
Code, as amended by Republic Act
1921. 1
The above-cited Section 35 of the Tax Code, on the
proper interpretation and application of which the
resolution of this case depends, provides in material
part as follows:
Sec. 35. Determination of gain or
loss from the sale or other
disposition of property. — The gain
derived or loss sustained from the
sale or other disposition of property,
real, personal or mixed, shall be
determined in accordance with the xxx xxx xxx
following schedule:
(5) Definitions.-(a) x
xxx xxx xxx x x (b) The term
"merger" or
(c) Exchange of property- "consolidation," when
used in this section,
(1) General Rule. — shall be understood to
Except as herein mean: (1) The
provided upon the ordinary merger or
sale or exchange of consolidation, or (2)
property, the entire the acquisition by one
amount of the gain or corporation of all or
loss, as the case may substantially all the
be, shall be properties of another
recognized. corporation solely for
stock; Provided, That
(2) Exceptions. — No for a transaction to be
gain or loss shall be regarded as a merger
recognized if in or consolidation
pursuance of a plan of within the purview of
merger or this section, it must be
consolidation (a) a undertaken for a bona
corporation which is a fide business purpose
party to a merger or and not solely for the
consolidation, purpose of escaping
exchanges property the burden of
solely for stock in a taxation; Provided
corporation which is a further, That in
party to the merger or determining whether a
consolidation, (b) a bona fide business
shareholder purpose exists, each
exchanges stock in a and every step of the
corporation which is a transaction shall be
party to the merger or considered and the
consolidation solely whole transaction or
for the stock of series of transactions
another corporation, shall be treated as a
also a party to the single unit: ...
merger or
consolidation, or (c) a In support of its position that the Deed of
security holder of a Assignment was concluded by the private
corporation which is a respondents merely to evade the burden of taxation,
party to the merger or the petitioner points to the fact that the New
consolidation Corporation did not actually issue stocks in
exchanges his exchange for the properties of the Old Corporation
securities in such at the time of the supposed merger on January 9,
corporation solely for 1959. The exchange, he says, was only on paper.
stock or securities in The increase in capitalization of the New
another corporation, a Corporation was registered with the Securities and
party to the merger or Exchange Commission only on March 5, 1959, or
consolidation. 37 days after the Old Corporation expired on
January 25, 1959. Prior to such registration, it was
not possible for the New Corporation to effect the
exchange provided for in the said agreement
because it was capitalized only at P200,000.00 as
against the capitalization of the Old Corporation at
P2,000,000.00. Consequently, as there was no
merger, the automatic dissolution of the Old
Corporation on its expiry date resulted in its
liquidation, for which the respondents are now
liable in taxes on their capital gains.
For their part, the private respondents insist that
there was a genuine merger between the Old
Corporation and the New Corporation pursuant to a
plan aimed at enabling the latter to continue the
business of the former in the operation of places of
amusement, specifically the Capitol and Lyric
Theaters. The plan was evolved through the series
of transactions above narrated, all of which could be
treated as a single unit in accordance with the
requirements of Section 35. Obviously, all these
steps did not have to be completed at the time of the
merger, as there were some of them, such as the
increase and distribution of the stock of the New
Corporation, which necessarily had to come
afterwards. Moreover, the Old Corporation was
dissolved on January 1, 1959, pursuant to the Deed
of Assignment, and not on January 25, 1959, its
original expiry date. As the properties of the Old
Corporation were transferred to the New
Corporation before that expiry date, there could not
have been any distribution of liquidating dividends
by the Old Corporation for which the private
respondents should be held liable in taxes.
We sustain the Court of Tax Appeals. We hold that
it did not err in finding that no taxable gain was
derived by the private respondents from the
questioned transaction.
Contrary to the claim of the petitioner, there was a
valid merger although the actual transfer of the
properties subject of the Deed of Assignment was
not made on the date of the merger. In the nature of
things, this was not possible. Obviously, it was
necessary for the Old Corporation to surrender its
net assets first to the New Corporation before the
latter could issue its own stock to the shareholders
of the Old Corporation because the New
Corporation had to increase its capitalization for
this purpose. This required the adoption of the
resolution to this effect at the special stockholders
meeting of the New Corporation on January 12,
1959, the registration of such issuance with the SEC
on March 5, 1959, and its approval by that body on
August 20, 1959. All these took place after the date
of the merger but they were deemed part and parcel
of, and indispensable to the validity and
enforceability of, the Deed of Assignment.
The Court finds no impediment to the exchange of
property for stock between the two corporations
being considered to have been effected on the date
of the merger. That, in fact, was the intention, and
the reason why the Deed of Assignment was made
retroactive to January 1, 1959. Such retroaction
provided in effect that all transactions set forth in
the merger agreement shall be deemed to be taking
place simultaneously on January 1, 1959, when the
Deed of Assignment became operative.
The certificates of stock subsequently delivered by
the New Corporation to the private respondents
were only evidence of the ownership of such stocks.
Although these certificates could be issued to them
only after the approval by the SEC of the increase in
capitalization of the New Corporation, the title
thereto, legally speaking, was transferred to them on
the date the merger took effect, in accordance with
the Deed of Assignment.
The basic consideration, of course, is the purpose of
the merger, as this would determine whether the
exchange of properties involved therein shall be
subject or not to the capital gains tax. The criterion
laid down by the law is that the merger" must be
undertaken for a bona fide business purpose and not
solely for the purpose of escaping the burden of
taxation." We must therefore seek and ascertain the
intention of the parties in the light of their conduct
contemporaneously with, and especially after, the
questioned merger pursuant to the Deed of
Assignment of January 9, 1959.
It has been suggested that one certain indication of a
scheme to evade the capital gains tax is the
subsequent dissolution of the new corporation after
the transfer to it of the properties of the old
corporation and the liquidation of the former soon
thereafter. This highly suspect development is likely
to be a mere subterfuge aimed at circumventing the
requirements of Section 35 of the Tax Code while
seeming to be a valid corporate combination.
Speaking of such a device, Justice Sutherland
declared for the United States Supreme Court in
Helvering v. Gregory:
When subdivision (b) speaks of a
transfer of assets by one corporation
to another, it means a transfer made
'in pursuance of a plan of
reorganization' (Section 112[g]) of
corporate business; and not a transfer
of assets by one corporation to
another in pursuance of a plan
having no relation to the business of
either, as plainly is the case here.
Putting aside, then, the question of
motive in respect of taxation
altogether, and fixing the character
of proceeding by what actually
occurred, what do we find? Simply
an operation having no business or
corporate purpose — a mere devise
which put on the form of a corporate
reorganization as a disguise for
concealing its real character, and the
sole object and accomplishment of
which was the consummation of a
preconceived plan, not to reorganize
a business or any part of a business,
but to transfer a parcel of corporate
shares to the petitioner. No doubt, a
new and valid corporation was
created. But that corporation was
nothing more than a contrivance to
the end last described. It was brought
into existence for no other purpose; it
performed, as it was intended from
the beginning it should perform, no
other function. When that limited
function had been exercised, it
immediately was put to death.
In these circumstances, the facts
speak for themselves and are
susceptible of but one interpretation.
The whole undertaking, though
conducted according to the terms of
subdivision (b), was in fact an
elaborate and devious form of
conveyance masquerading as a
corporate reorganization and nothing
else. The rule which excludes from
consideration the motive of tax
avoidance is not pertinent to the
situation, because the transaction
upon its face lies outside the plain
intent of the statute. To hold
otherwise would be to exalt artifice
above reality and to deprive the
statutory provision in question of all
serious purpose. 2
We see no such furtive intention in the instant case.
It is clear, in fact, that the purpose of the merger
was to continue the business of the Old
Corporation, whose corporate life was about to
expire, through the New Corporation to which all
the assets and obligations of the former had been
transferred. What argues strongly, indeed, for the
New Corporation is that it was not dissolved after
the merger agreement in 1959. On the contrary, it
continued to operate the places of amusement
originally owned by the Old Corporation and
transfered to the New Corporation, particularly the
Capitol and Lyric Theaters, in accordance with the
Deed of Assignment. The New Corporation, in fact,
continues to do so today after taking over the
business of the Old Corporation twenty-seven years
ago.
It may be recalled at this point that under the
original provisions of the old Corporation Law,
which was in effect when the merger agreement was
concluded in 1959, it was not possible for a
corporation, by mere amendment of its charter, to
extend its life beyond the time fixed in the original
articles; in fact, this was specifically prohibited by
Section 18, which provided that "any corporation
may amend its articles of incorporation by a
majority vote of its board of directors or trustees
and the vote or written assent of two-thirds of its
members, if it be a non-stock corporation, or if it be
a stock corporation, by the vote or written assent of
the stockholders representing at least two-thirds of
the subscribed capital stock of the corporation ... :
Provided, however, That the life of said corporation
shall not be extended by said amendment beyond
the fixed in the original articles ... "
This prohibition, which incidentally has since been
deleted, made it necessary for the Old and New
Corporations to enter into the questioned merger, to
enable the former to continue its unfinished
business through the latter.
The procedure for such merger was prescribed in
Section 28 1/2 of the old Corporation Law which,
although not expressly authorizing a merger by
name (as the new Corporation Code now does in its
Section 77), provided that "a corporation may, by
action taken at any meeting of its board of directors,
sell, lease, exchange, or otherwise dispose of all or
substantially all of its property and assets, including
its goodwill, upon such terms and conditions and
for such considerations, which may be money,
stocks, bond, or other instruments for the payment
of money or other property or other considerations,
as its board of directors deem expedient." The
transaction contemplated in the old law covered the
second type of merger defined by Section 35 of the
Tax Code as "the acquisition by one corporation of
all or substantially all of the properties of another
corporation solely for stock," which is precisely
what happened in the present case.
What is also worth noting is that, as in the case of
the Old Corporation when it was dissolved on
December 31, 1958, there has been no distribution
of the assets of the New Corporation since then and
up to now, as far as the record discloses. To date,
the private respondents have not derived any benefit
from the merger of the Old Corporation and the
New Corporation almost three decades earlier that
will make them subject to the capital gains tax
under Section 35. They are no more liable now than
they were when the merger took effect in 1959, as
the merger, being genuine, exempted them under
the law from such tax.
By this decision, the government is, of course, not
left entirely without recourse, at least in the future.
The fact is that the merger had merely deferred the
claim for taxes, which may be asserted by the
government later, when gains are realized and
benefits are distributed among the stockholders as a
result of the merger. In other words, the
corresponding taxes are not forever foreclosed or
forfeited but may at the proper time and without
prejudice to the government still be imposed upon
the private respondents, in accordance with Section
35(c) (4) of the Tax Code. Then, in assessing the
tax, "the basis of the property transferred in the
hands of the transferee shall be the same as it would
be in the hands of the transferor, increased by the
amount of gain recognized to the transferor on the
transfer." The only inhibition now is that time has
not yet come.
The reason for this conclusion is traceable to the
purpose of the legislature in adopting the provision
of law in question. The basic Idea was to correct the
Tax Code which, by imposing taxes on corporate
combinations and expansions, discouraged the same
to the detriment of economic progress, particularly
the promotion of local industry. Speaking of this
problem, HB No. 7233, which was subsequently
enacted into R.A. No. 1921 embodying Section 35
as now worded, declared in the Explanatory Note:
The exemption from the tax of the
gain derived from exchanges of
stock solely for stock of another
corporation resulting from corporate
mergers or consolidations under the
above provisions, as amended, was
intended to encourage corporations
in pooling, combining or expanding
their resources conducive to the
economic development of the
country. 3
Our ruling then is that the merger in question
involved a pooling of resources aimed at the
continuation and expansion of business and so came
under the letter and intendment of the National
Internal Revenue Code, as amended by the
abovecited law, exempting from the capital gains
tax exchanges of property effected under lawful
corporate combinations.
WHEREFORE, the decision of the Court of Tax
Appeals is affirmed in full, without any
pronouncement as to costs.
SO ORDERED.