## Facts

- A corporation used a bonus plan awarding employees “Class B” bonuses in the form of common stock of another corporation for services rendered in the preceding year.
- In 1936, the corporation distributed 150 shares as employee bonuses.
- The corporation’s basis in the shares was $16,153.36, and the shares’ fair market value at distribution was $24,858.75.
- Employees included the shares’ fair market value in their income.
- The corporation deducted $24,858.75 as compensation expense on its 1936 return.
- The Commissioner initially allowed a deduction only equal to the corporation’s cost basis; in later proceedings, the Commissioner argued alternatively that if the fair-market-value deduction was allowed, the corporation must recognize gain on the appreciation.
- The Tax Court allowed the fair-market-value compensation deduction and held the corporation realized taxable gain equal to the excess of fair market value over basis.
- The corporation sought review only of the gain-recognition ruling.

## Issues

1. Whether a corporation’s transfer of appreciated stock to employees to satisfy a compensation obligation is a taxable “sale or other disposition of property” that triggers gain equal to fair market value minus basis.
2. Whether it is permissible to allow both (a) a compensation deduction measured by the stock’s fair market value and (b) gain recognition on the stock’s appreciation upon transfer.

## Decision

- The court affirmed the Tax Court.
- The corporation’s transfer of appreciated stock to discharge an obligation to pay employee bonuses was a taxable “disposition” of property.
- The corporation realized taxable gain equal to the fair market value of the shares transferred minus the corporation’s adjusted basis in those shares.
- Allowing a compensation deduction at fair market value was not inconsistent with recognizing gain on the appreciation embedded in the transferred property.

## Legal Principles

- Compensation paid in property is measured, for deduction purposes, by the property’s fair market value at the time of transfer (subject to general limits on deductibility of compensation).
- A transfer of appreciated property to satisfy an enforceable obligation (including compensation liabilities) is a realization event for the transferor.
- For gain computation, the “amount realized” is measured by the value of what the transferor receives in exchange, including the value of the obligation discharged, typically reflected by the fair market value of the property transferred.
- The tax consequences of (1) deducting compensation expense and (2) recognizing gain on appreciated property used to pay that expense are analyzed separately and may both apply to the same transaction.

## Conclusion

A corporation that compensates employees by transferring appreciated stock may deduct the stock’s fair market value as compensation, but it must also recognize taxable gain on the appreciation because using the stock to satisfy the compensation obligation is a taxable disposition of property.


International Freighting Corp. v. Commissioner, 135 F.2d 310 (2d Cir. 1943)