Savings Feature of Relief Dep't v. Commissioner

*296 The Commissioner determined deficiencies and penalties for failure to file returns as shown in the following table:

*968 The proceedings were consolidated. The question presented to the Board for decision is whether or not the petitioner is exempt from taxation, either because it is a mutual savings bank, or because it is a domestic building and loan association. Most of the evidence came into the record by agreement of the parties and, except for the respondent's objection to the history of the predecessors of the petitioner as irrelevant, there is no dispute between them as to the evidentiary facts.

FINDINGS OF FACT.

The Baltimore & Ohio Railroad Co. (hereinafter called the Railroad) began about 1844 to devise some means for relieving its employees and their families in case of disability or death. There was in 1889 a corporation of the State of Maryland, known as the Baltimore & Ohio Employees Relief Association, which was operating, not only for relief purposes, but also as a savings depositary and a lender making building loans. A department of the Railroad was created in 1889 to take over the work of the corporation. The latter then transferred its assets to the Railroad and surrendered its charter on April 1, 1889. The new department of the Railroad was called the Relief Department*969 and was divided into "Relief Feature" and "Savings Feature." It was under the active management of a superintendent. The Railroad agreed to keep the assets which it had thus received and any additions thereto distinct and separate from the property which it held for railroad purposes, avd to hold and apply the assets of the Relief Feature for the payment to and for the benefit of the members thereof, and to hold and apply the assets of the savings fund and building loan feature of the prior corporation for the payment of liabilities connected with that business and for the benefit of the depositors. The assets and operations of the relief feature and of the savings fund and building feature of the prior corporation were taken over respectively by the Relief *297 Feature and the Savings Feature of the Relief Department of the Railroad. Regulations for the operation of the Relief Department were adopted. The department has operated the Relief Feature and the Savings Feature since April 1, 1889, as separate and distinct units and in substantially the same manner as these features were conducted by the prior corporation. The funds of the two features have been handled separately. *970 The Savings Feature of the Relief Department of the Baltimore & Ohio Railroad Co. is the petitioner in the present proceedings.

The operations of the Savings Feature during the years 1919 to 1930, inclusive were under the control of a savings committee appointed by the president of the Railroad and consisting of a vice president, the chief accounting officer, and the general counsel of the Railroad. The active management of this feature was in charge of the superintendent, above mentioned. The regulations for the operation of the Savings Feature during the years 1919 to 1930, inclusive, defined the class of persons from whom deposits would be accepted. Generally speaking, depositors were limited to employees and former employees of the Railroad, their wives, and minor children. Not less than $1 nor more than $100 could be deposited in any one day. Persons desiring to become depositors were required to file an application with the superintendent. If an application was accepted, a passbook was issued to the depositor and appropriate entries were made in it as deposits were made. The Railroad designated certain of its officers and employees as "depositaries" to receive deposits. *971 They were usually ticket agents, station agents, freight agents, and other bonded employees of the Railroad located at points on the Railroad's lines where the need for a depositary was shown by applications to open deposit accounts. The services of these depositaries were rendered without cost to the Savings Feature. There were at all times material hereto an average of about 250 depositaries. Deposits were also made by agreed deductions from wages due to depositors.

The regulations permitted a depositor to withdraw one fourth or less of his total deposits without notice. The regulations further provided that the committee could require notice of 30 days for larger withdrawals "though under ordinary circumstances this requirement will not be enforced." A depositor desiring to make a withdrawal signed an order upon the superintendent directing him to pay the amount to be withdrawn to a designated payee and to charge the same to the depositor's account. A check was then delivered to the depositor upon presentation of his passbook for appropriate entry of the withdrawal.

Any adult employee of the Railroad, who was a member of the Relief Feature and who had been continuously*972 employed by the Railroad *298 for at least one year, could borrow money from the Savings Feature during the years here in controversy to acquire or improve a homestead or to free his homestead from debt. The homestead had to be situated within a mile of the Railroad's lines or within a city on its lines. Such loans were made only upon the security of improved real estate in amounts of not less than $100 and not in excess of three fourths of the market value of the property offered as security. These loans bore interest at the rate of 6 percent. An employee desiring a loan was required to submit an application therefor to the superintendent, who submitted it to the savings committee for approval, together with a report on the value of the property offered as security and the qualification of the employee under the regulations to become a borrower. If a loan was granted by the savings committee, the applicant was required to furnish, at his own expense, an abstract of title, and, upon approval thereof by the general counsel of the Railroad, the borrower was required to execute a mortgage on the property offered, as security. Thereupon the money was made available, but was*973 never paid to the borrower. Instead it was applied directly by the superintendent to the purpose for which the loan was made. The borrower was required to protect the loan by taking out life insurance in the Relief Feature or some regular life insurance company, to insure the improvements against fire, and to pay all taxes, assessments, and other charges against the property. The Real Estate & Improvement Co., a Maryland corporation, with capital stock of $2,500, wholly owned by the Railroad, was the mortgagee in all cases. This corporation was used by the Savings Feature for this purpose at no cost to the Savings Feature and the corporation received no income whatever for this service. Borrowers were required to return the money loaned and interest thereon at 6 percent by monthly payments of from $1 to $1.50 for every hundred borrowed. They were required also to give to the Railroad an irrevocable order authorizing it to apply monthly, from the first wages earned by the borrower in each calendar month, the amount of the monthly payments to the credit of his account with the Savings Feature.

The savings committee passed upon all applications for loans and supervised the investment*974 of all funds of the Savings Feature. A large part of the money received from depositors was used in making loans of the kind above described. Some cash was kept on hand to meet withdrawals and the excess funds were invested in securities, including Government, public utility, and other bonds, preferred and common stocks, and several mortgages on business properties. All of such securities were purchased in the name of the Railroad "in trust for the Savings Feature" in accordance with the requirements *299 of the regulations. The treasurer of the Railroad had custody of these securities and placed them in separate safe-deposit boxes in the name of the Savings Feature. The treasurer of the Railroad also held all uninvested moneys. The Railroad paid to the savings Feature interest on such uninvested moneys at the rate of 4 percent per annum. The income of the Savings Feature included interest and dividends received on securities, interest from the Railroad on uninvested money, interest collected on mortgage loans to employees, premiums charged upon prepayment of loans, rent from property acquired by foreclosure, trustees' commissions for making sales of property on foreclosure*975 and insurance commissions received by the superintendent of the Relief Department and turned over by him to the Savings Feature. The Savings Feature also operated a printing plant up to October 1, 1926, in which it did its own printing and also printed certain notices, pamphlets, and circulars for the Railroad. The Railroad paid the Savings Feature for such printing the following amounts:

The printing plant was taken over by the Railroad on October 1, 1926. Prior thereto the income from printing was about equal to two thirds of the operating expenses of the Savings Feature and was placed with the earnings of the Savings Feature for the benefit of the depositors. The Railroad, at all times material hereto, furnished office space, equipment, and other operating necessities for the Savings Feature. Before the Railroad took over the printing plant the only expenses borne by the Savings Feature consisted of salaries paid to certain officers and employees directly employed in the operation of the Savings Feature. The*976 Railroad placed such officers and employees on its own pay rolls as its own employees on October 1, 1926, and thereafter the Savings Feature paid no expenses of its own.

The regulations provided that interest would be computed semiannually and credited to the account as principal in all accounts amounting to $5 or more in which a deposit had been made within the preceding 10 years. There was paid or credited from the net earnings of the Savings Feature, during the period in controversy, interest at the rate of 4 percent per annum on deposits and, in addition thereto, dividends determined by the Savings Committee of 1 percent per annum on deposits for the years 1919 to 1923, inclusive, and 1 1/2 percent per annum for the years 1924 to 1930, inclusive. The excess of receipts over expenses, interest, and dividends was retained in the Savings Feature accounts as undistributed surplus. *300 The repayment of all deposits and interest thereon was guaranteed by the Railroad. Neither the Railroad nor any other corporation or individual, except the depositors, had any right, title, or interest in the assets or earnings of the Savings Feature.

The number of depositors, the amounts*977 of the net income, the interest and dividends paid to depositors, the balance transferred to surplus account, and the amount of the surplus at the end of each year were as follows:

The Savings Feature operated in the*978 various states along the lines of the Railroad extending from New York westward to St. Louis and Chicago. It advertised itself as a savings feature of the Railroad. It never called itself a bank. It was not chartered or organized under any state or Federal law. It was not under the supervision of any state of Federal banking official. It never attempted to qualify as a mutual bank or as a building and loan association under the laws of any state. It has never had any capital stock represented by shares nor has it had any other capital except the amounts deposited by the depositors and the undistributed surplus shown above. No profits or income of the Savings Feature has ever inured to the benefit of any corporation, association, or individual except the depositors, and no loans were made to any person other than employees of the Railroad who were members of the Relief Department.

No Federal income tax returns were ever filed for the Savings Feature for the years 1919 to 1930, inclusive. The superintendent of the Relief Department in March 1923 filed with the Commissioner of Internal Revenue a supplemental questionnaire relating to building and loan associations, showing*979 the total amount of loans outstanding at the close of 1921 and stating that the borrowers did not subscribe to shares. He attached a copy of the regulations of the Savings Feature.

The Commissioner has held that the petitioner is an association not exempt from taxation and has determined the deficiencies set forth above and the penalties for failure to file returns. The parties *301 have stipulated that if the petitioner is not exempt from taxation under the applicable revenue acts, the amounts of the deficiencies and penalties, as determined by the Commissioner, are correct.

The petitioner during the period 1919 to 1930, inclusive, was a mutual savings bank not having a capital stock represented by shares.

OPINION.

MURDOCK: The petitioner makes but one contention before the Board. That contention is that it is exempt from tax. No other issue or question will be decided. The Commissioner has determined that the petitioner is an association within the meaning of that term as used in the statutory definition of the word "corporation." See section 1 of the 1918 Act, section 2(a)(2) of the 1924 and 1926 Acts, and section 701(a)(2) of the 1928 Act. He cites in this*980 connection A-C Investment Association,24 B.T.A. 582 (reversed by the Court of Appeals of the District of Columbia, 68 Fed.(2d) 386, on the exemption question), and Sears, Roebuck & Co. Employees' Savings & Profit Sharing Pension Fund v. Commissioner, 45 Fed.(2d) 506 (reversing 17 B.T.A. 22). "The petitioner concedes that under recent decisions of the Board of Tax Appeals and the courts, the association is probably the technical equivalent of a corporation for tax purposes"; it nowhere argues that it is not an association within the meaning of the applicable statutes; and, consequently, the Board expresses no view upon this point. Neither party makes any contention that the petitioner is not properly before the Board. The petitioner once suggested, but did not plead or argue, that it might be exempt as a labor organization. Its pleadings raise the issue of whether or not it is exempt as a cooperative bank without capital stock organized and operated for mutual purposes and without profit, but this point was not argued. The parties have stipulated that if the petitioner is not exempt from tax, then the Commissioner*981 has correctly determined the deficiencies and penalties. It is quite clear from the record and the briefs that the only question submitted for discussion and decision is the question of whether or not the petitioner is exempt from tax, either because it is a mutual savings bank not having a capital stock represented by shares, or because it is a domestic building and loan association substantially all of the business of which is confined to making loans to members. ¹ If it appears *302 that the petitioner is exempt under one of the provisions mentioned, of course, discussion of the other becomes unnecessary.

*982 The Commissioner made a brief oral argument at the hearing in lieu of filing a brief. In support of his holding that the petitioner is not exempt as a mutual savings bank, he first said that there were consistent rulings of the Bureau contrary to the contention of this petitioner which were controlling in view of the reenactments of Congress. He next relied rather strongly upon the decision of the Board in A-C Investment Association,24 B.T.A. 582, and also quoted section 40, article 11 of the Maryland Code as having some application. Thereafter, the decision of the Board in the A-C Investment Association case was reversed by the Court of Appeals for the District of Columbia, A-C Investment Association v. Helvering, 68 Fed.(2d) 386. The court in that case reviewed the departmental rulings. It showed that the early construction had been to exempt the petitioner in that case, but later a contrary ruling was made. It then held that, since there was this inconsistency in the departmental rulings, the decision must turn upon some other point. Immediately after that decision the departmental rulings were again reversed and the decision of*983 the court in the A-C Investment Association case was followed. See G.C.M. 13602, Internal Revenue Bulletin No. 46, vol. XIII, p. 2, which revoked prior rulings of the Bureau (discussed by the court in its opinion) "in so far as they hold that mutual savings banks (which otherwise meet the requirements of the Federal exemption statute) should be denied exemption because they are not organized under a State law and/or do not operate subject to State supervision, notwithstanding the State of their domicile imposes no such restrictions on mutual savings banks" and held that "mutual savings banks not organized or operated under State laws and supervision in a State which recognizes the right of individuals to carry on a banking business and makes no provisions for supervising such organizations are exempt from Federal income tax." See also Regulations 86, art. 101(2)-1.

After the decision of the Board in the A-C Investment Association case had been reversed, the Commissioner filed a short brief in which he unsuccessfully attempted to point out that the court's decision would not apply to the present case because the laws of Maryland differed from the laws of Texas, under which*984 the A-C Investment Association operated. The facts in the present case differ somewhat from the facts in the A-C Investment Association case and from the facts discussed in G.C.M. 13602. But the differences strengthen this petitioner's case and do not make the reasoning in those two decisions inapplicable here. Attention is called in that brief to additional sections of the Maryland Code to show, apparently, that the petitioner *303 is not a savings bank within the meaning of the Maryland statutes quoted, sections 31, 36, 38-41, article 11, Bagby's Annotated Code of 1924. The petitioner does not confine its operations to the State of Maryland. It operates in all of the territory along the lines of the Railroad from New York to Chicago and St. Louis. Maryland is but a relatively small part of that area. However, since the respondent relies entirely upon the laws of Maryland, we have examined the statutes of that state to which he has called our attention. Those statutes provide methods for forming mutual savings banks and contain a number of provisions for state supervision of savings institutions. The provisions for state supervision refer principally*985 to corporations. The petitioner was not incorporated. It was not organized under any of the provisions of the statutes to which the respondent refers. Most of those provisions have no application whatever to the petitioner. Section 40, already referred to, provides that certain associations, not authorized to conduct a business of a savings bank, shall not advertise or put forth a sign as a savings bank or savings institution. We need not decide whether this provision applies to the petitioner, for, in any event, the petitioner did not advertise or put forth a sign as a savings bank or savings institution. It was able to carry on its activities without such sign or advertisement. The petitioner does not rely upon any of the provisions quoted for authority to conduct its business. Those statutes seem to recognize that there may be unincorporated savings banks which are subject to no state supervision. Cf. Weer v. Page,155 Md. 86; 141 Atl. 518. The petitioner has operated for many years without being called to account for violation of any of the laws of the State of Maryland or of any other state in which it operated so far as this record shows. *986 None of the provisions referred to seems to interfere in any way with the conduct of the petitioner's business or require it to submit to state supervision. The right to engage in the banking business was open to all under the common law. State v. Scougal,3 S.D. 55; 51 N.W. 858. There is, in the statutes referred to, no justification for denying the petitioner the exemption which it claims.

Thus the principal arguments advanced by the respondent in support of his determination have failed him. Furthermore, the facts show that the petitioner actually carried on a very extensive business of the kind which Congress must have intended to exempt from tax under the provisions of subdivision 2 of section 231 of earlier acts and of subdivision 2 of section 103 of the Act of 1928. A-C Investment Association v. Helvering, supra. Thousands of persons scattered all along the lines of the Railroad were depositors. Their separate deposits were relatively small in amount. These depositors were thus assisted in saving. The deposits were generally subject *304 to withdrawal upon demand. They bore interest. Passbooks were used*987 in which deposits, interest, and dividends were credited and withdrawals debited. None but the depositors benefited from the earnings of the petitioner. They alone were entitled to the current earnings and surplus assets accumulated. The organization did not lack mutuality. The deposits and accumulated surplus were invested by those in charge of the petitioner much in the same way that any savings bank would invest its funds. A large part was invested in well secured mortgage loans, another part was invested in bonds, and a part was in the form of a cash deposit with the Railroad. Some investments were made in stock of corporations. If such an investment was not a proper one for a savings institution, no point has been made of that circumstance. The court in A-C Investment Association v. Helvering, supra, has discussed the history and purpose of the provisions exempting mutual savings banks from tax and has reviewed a number of authorities. Nothing would be accomplished by further discussion or review here. The court has held, and we think rightly so, that it is immaterial in the decision of such cases that only certain classes could become depositors. *988 The Commissioner has followed this interpretation by the court in promulgating regulations under the Revenue Act of 1934. See Regulations 86, art. 101(2)-1. Thus the petitioner was in fact a mutual savings bank not having a capital stock represented by shares within the meaning and intent of the applicable statute and is, therefore, entitled to the exemption.

The respondent in his brief sets forth figures representing the income which the petitioner derived from the printing plant during each of the years 1919 to 1926, inclusive, and, in a parallel column, figures which he said represented the petitioner's entire net income for each of those years. He then argued from a comparison of the two columns that the chief source of income earned by the petitioner during that period was not from the operation of a savings bank business but rather from the operation of a printing plant, and Congress did not intend to exempt such income from tax. However, the respondent is mistaken as to the facts. The figures for total net income upon which he bases this argument are entirely incorrect. They represent not net income, but the balance which the petitioner carried to surplus in each of*989 the years after paying interest and dividends to its depositors. The amounts were but a small part of the net income of the petitioner for each of the years. Although it is true that the conduct of a printing plant is not a usual or incidental function of an ordinary savings bank, nevertheless, the petitioner need not lose its exempt character during the years 1919 to 1926, inclusive, merely because it operated this printing plant. Cf. Trinidad *305 v. SagradaOrden de Predicadores,263 U.S. 578. The Railroad was the petitioner's only customer for printing and obviously adopted this plan as an indirect means of reimbursing the petitioner for its expenses. The earnings from the printing plant never equaled the petitioner's expenses of operation. In 1926 this indirect plan was abandoned and thereafter the Railroad paid directly all of the expenses of operation which the petitioner otherwise would have had to pay itself. The fact that the Railroad thus voluntarily aided and encouraged the petitioner in no way interferes with the petitioner's right to receive the exemption by which Congress also intended to encourage its activities.

*990 The respondent further contends that exemption must be denied the petitioner because it failed to comply with the provisions of his regulations entitled "Proof of exemption." ² The contention of the respondent suggests a number of questions, including what the effect is of the provisions of his regulations entitled "Proof of exemption"; whether the provisions are merely directory, or are mandatory, so that the filing of proof of exemption with the Commissioner is thus made a condition precedent to the right of exemption; the extent, if any, to which the petitioner has complied with the regulations; and what the effect is of what it has done. Although some subdivisions of the revenue acts specifically authorize the Commissioner to make regulations on the subject therein dealt with, yet there is no specific authorization for regulations relating to exemption of mutual savings banks. Cf. William W. Vaughan,31 B.T.A. 548. Authority for the provisions of the regulations relating to "Proof of exemption" must be found in the general authority granted in each revenue act to the Commissioner to make all needful rules and regulations for the enforcement of the provisions*991 of the *306 act. The revenue acts did not confine the exemption to those banks which might file proof of exemption with the Commissioner. The exemption was intended to encourage savings banks. A-C Investment Association v. Helvering, supra.The words of article 511, to one having these things in mind, do not seem to make the filing of "proof of exemption" a condition precedent to the right of exemption. The provisions of this article are directory rather than mandatory in this respect. They require those claiming exemption from tax to supply the Commissioner with information showing their exempt character so that he may be satisfied that they are actually exempt. The article indicates in a general way the kind of proof which should be submitted, but no certain form is specified. No time for filing it is mentioned. No special emphasis is placed upon any particular annual period. There is recognition that changes in the character of such organizations will not be frequent. The Commissioner, in effect, says in these articles, that each organization claiming exemption, if it wants him to agree that it is exempt, must file proof of its exemption with*992 him. The penalty for failure to comply seems to be that the Commissioner, if he has doubts of the exempt character of any organization, may assess the tax and put that organization to the trouble of proving elsewhere its right to exemption. That is what has happened in the case of the present petitioner, but the latter has now proved its right to exemption. The question of whether the Commissioner had the right to make the filing of proof of exemption a condition precedent to the right of exemption, need not be decided in this case. Even if the words of article 511 are to be interpreted as making the filing of proof of exemption a condition precedent to the right of exemption, still decision in this case must be for the petitioner. The petitioner, in March 1923 gave the Commissioner certain proof of its exempt character which complied at least in part with the regulations. Thereafter, more than eight years elapsed before the Commissioner made any move to assess a tax against the petitioner. Under such circumstances, a holding that the petitioner had forever forfeited its right to exemption would not be justified. Thus, whatever the correct interpretation of article 511 may*993 be, the provisions of that article and its later counterparts afford no proper basis for denying exemption to the present petitioner.

*994 Reviewed by the Board.

Decision will be entered for the petitioner.