## Facts

- Randall Elliott was the sole shareholder of Centrifix Corporation and held its cumulative preferred stock.
- Centrifix operated an engineering business involving liquid and gas purification.
- In 1946, Centrifix purchased a house, used about half in its business, and rented the remainder to third parties until 1950.
- The rental activity was minor relative to Centrifix’s overall operations; rental income was about 8% of the property’s cost and only a small part of Centrifix’s total income, and Centrifix did not separately track net rental results on its books.
- In 1950, Centrifix sold the house, acquired a larger building, and organized a wholly owned subsidiary, Centrifix Management Corporation (Management).
- The new building was transferred to Management in a tax-free exchange; Management thereafter rented space to Centrifix and to third-party tenants.
- In 1954, Centrifix transferred all Management common stock to Elliott; in exchange, Elliott surrendered his Centrifix preferred stock and claims to dividend arrearages, and a debt Elliott owed to Centrifix was canceled.
- At the time of the 1954 transaction, Centrifix had no accumulated earnings and profits.
- Elliott reported the receipt of Management stock as a tax-free corporate split-off under Internal Revenue Code § 355; the Commissioner determined § 355 did not apply and treated the transaction as taxable long-term capital gain.

## Issues

1. Whether the 1954 distribution of Management stock to Elliott qualified for nonrecognition under I.R.C. § 355, including whether both Centrifix and Management satisfied the five-year “active trade or business” requirement.
2. If § 355 did not apply, whether Elliott’s receipt of Management stock in exchange for preferred stock, dividend claims, and debt cancellation resulted in taxable long-term capital gain.

## Decision

- The Tax Court held the distribution did not qualify under § 355.
- The court found Centrifix’s pre-1950 rental of excess space was incidental to its engineering business and did not constitute a separate active trade or business for § 355 purposes.
- The court sustained the Commissioner’s determination that Elliott realized taxable long-term capital gain on the 1954 transaction.

## Legal Principles

- Section 355 nonrecognition requires, among other conditions, that both the distributing corporation and the controlled corporation be engaged in an active trade or business that has been actively conducted for the five-year period ending on the distribution date.
- Renting surplus space in corporate premises, when economically minor and not separately conducted as a distinct enterprise, does not constitute a qualifying “active trade or business” under § 355.
- When § 355 does not apply, a shareholder’s receipt of controlled-corporation stock in exchange for stock and related claims can be treated as a taxable exchange, with gain recognized to the extent fair market value exceeds basis.

## Conclusion

The Tax Court concluded that § 355’s active-business requirements were not met because the corporation’s earlier rental activity was merely incidental, so the 1954 distribution of the real-estate subsidiary’s stock to the shareholder was taxable and produced long-term capital gain.


Elliott v. Comm'r of Internal Revenue, 32 T.C. 283 (1959)