## Facts

- Al J. Schneider was the principal shareholder of American National Corporation (ANC), a holding company that owned all stock of Schneider Transport, Inc. (Transport).
- Schneider’s ANC shares were subject to a buy-sell agreement granting ANC a right of first refusal on third-party sales.
- Transport maintained an employee stock plan under which employees could elect to receive part of their bonuses in ANC stock; certificates issued under the plan carried vesting and transfer restrictions but no right-of-first-refusal provision.
- The plan permitted ANC’s board to satisfy employee stock elections either by issuing new shares or by having employees acquire shares from existing shareholders.
- For 1974–1976, the board used the “purchase from existing shareholder” method, and Schneider transferred shares to satisfy employee elections; ANC waived its right of first refusal for these transfers.
- Employees received separate “stock portion” bonus checks made payable to Schneider; employees endorsed and returned the checks to Transport, which remitted the funds to Schneider.
- ANC issued shares directly to participating employees, with plan restrictions stamped on the certificates.
- Schneider reported the amounts he received as proceeds from stock sales producing capital gains.
- The IRS determined the transactions were, in substance, dividend-equivalent corporate redemptions taxable as ordinary income and issued deficiency notices; the Tax Court sustained deficiencies for 1975 and 1976.
- Schneider died in 1983, and his estate pursued the appeal from the Tax Court’s decision.

## Issues

1. Whether amounts paid to Schneider in connection with employee stock awards should be treated as capital-gain proceeds from sales of stock to employees or as dividend-equivalent constructive redemptions by ANC taxable as ordinary income.
2. Whether the Tax Court clearly erred in its factual characterization of the multi-step transactions as corporate redemptions.

## Decision

- The Seventh Circuit affirmed the Tax Court’s judgment for the Commissioner.
- The court held the transactions were properly treated as constructive redemptions essentially equivalent to dividends, not bona fide shareholder-to-employee stock sales.
- The court upheld the resulting income tax deficiencies for 1975 and 1976.

## Legal Principles

- Federal tax consequences turn on the economic substance of a transaction rather than its formal steps.
- A corporation’s acquisition (actual or constructive) of a shareholder’s stock is taxed as a dividend to the extent it is essentially equivalent to a dividend, including where the shareholder’s proportionate ownership and control are not meaningfully reduced.
- Appellate review gives substantial deference to the Tax Court’s factual findings and its reconstruction of complex, multi-step arrangements; reversal requires clear error.

## Conclusion

The Seventh Circuit sustained ordinary-income dividend treatment because, viewed in substance, the plan-driven flow of cash and stock functioned as a corporate redemption that did not meaningfully reduce Schneider’s ownership interest, making capital-gain sale treatment unavailable.


Estate of Schneider v. Commissioner, 855 F.2d 435 (7th Cir. 1988)