## Facts

- Bethel, Alaska sought to control local alcohol-related problems by limiting liquor sales to a single lawful outlet.
- The city incorporated Community Liquor Sales, Inc. (CLS) as a nonprofit corporation and licensed it as the sole lawful seller of alcohol in Bethel.
- CLS’s governing documents barred stock issuance and dividends; CLS was managed by trustees who served at the pleasure of the Bethel City Council.
- From 1967–1971, CLS earned net profits, filed federal income tax returns, and paid federal income tax on those profits.
- CLS generally retained its profits to purchase inventory and did not distribute profits to Bethel during the tax years at issue.
- CLS and Bethel maintained separate books and accounts; CLS’s profits were not recorded on Bethel’s financial statements as an asset or receivable.
- In 1973, after a renewed vote to prohibit alcohol sales, CLS dissolved and transferred its assets to Bethel.
- Bethel and CLS sued for a tax refund, claiming CLS’s profits were exempt under I.R.C. § 115(a) as income accruing to a political subdivision; the district court agreed and ordered a refund.

## Issues

1. Whether CLS’s income from operating Bethel’s sole liquor outlet constituted income “accruing to” a political subdivision within the meaning of I.R.C. § 115(a), making it exempt from federal income tax.

## Decision

- The Ninth Circuit reversed the district court’s refund judgment.
- The court held CLS’s profits did not qualify for exemption under I.R.C. § 115(a) because the income did not accrue to Bethel during 1967–1971.
- The court ruled the income was taxable to CLS despite municipal control and the public purpose behind CLS’s creation.

## Legal Principles

- I.R.C. § 115(a) exempts income derived from a public utility or essential governmental function only if the income is “accruing to” a state or political subdivision.
- “Accruing to” requires a present, actual, or legally enforceable entitlement to the income by the governmental unit during the relevant tax years; an eventual or contingent transfer is insufficient.
- A city-controlled nonprofit may be treated as a separate taxable entity when it maintains separate accounts and retains earnings, defeating a claim that its earnings accrued to the city.
- Transfer of corporate assets to a municipality upon dissolution does not retroactively convert previously earned and retained corporate income into income that accrued to the municipality for earlier tax years.

## Conclusion

The Ninth Circuit held that Bethel’s creation and control of a nonprofit liquor corporation and the later transfer of its assets to the city did not satisfy I.R.C. § 115(a)’s “accruing to” requirement where the profits were retained by the corporation and not reflected as owed to the city during the tax years at issue, so the profits remained taxable to CLS.


City of Bethel, Alaska & Community Liquor Sales, Inc. v. United States, 594 F.2d 1301 (9th Cir. 1979)