## Facts

- A Massachusetts real estate trust formed in 1922 owned and operated two Boston hotels (Braemore and Kenmore) and by 1947 had an operating deficit of about $327,000.
- In 1947, the trust’s four shareholders reorganized the business so the hotels would be owned and operated by two newly formed corporations, treated as a tax-free reorganization.
- Hotel Braemore Corp. received the Braemore property from the trust in exchange for essentially all of its stock.
- Hotel Kenmore Corp. issued essentially all of its stock to the trust’s four shareholders in exchange for their trust shares.
- The trust was liquidated, and the shareholders (including Abraham Snider) held corresponding equity interests in the successor corporations.
- In 1950, Hotel Kenmore Corp. declared and paid a $36,000 cash distribution; Snider received $9,000.
- Hotel Kenmore had approximately $20,000 of current earnings and profits in 1950; about $5,100 of Snider’s distribution was attributable to current earnings and profits, with the remainder taxable as a dividend only if supported by accumulated earnings and profits.
- Snider reported the full $9,000 as dividend income, then sought a refund, arguing part of the payment was a non-taxable return of capital because the trust’s 1947 deficit should reduce Hotel Kenmore’s accumulated earnings and profits.
- The district court entered judgment for the taxpayers, treating part of the $9,000 as a return of capital; the United States appealed.

## Issues

1. In a tax-free reorganization from a Massachusetts real estate trust to a newly formed corporation, must the trust’s deficit carry over to reduce the corporation’s accumulated earnings and profits for purposes of characterizing later shareholder distributions?
2. If the predecessor deficit does not carry over, is the 1950 distribution taxable as a dividend to the extent of the corporation’s earnings and profits?

## Decision

- The First Circuit reversed the district court’s judgment for the taxpayers.
- The court held that the predecessor trust’s deficit did not reduce Hotel Kenmore Corp.’s accumulated earnings and profits.
- The 1950 distribution to Snider was properly treated as a taxable dividend to the extent of Hotel Kenmore’s earnings and profits as determined by the Commissioner.
- The taxpayers were not entitled to the refund awarded by the district court.

## Legal Principles

- A corporate distribution is a dividend to the extent paid out of current or accumulated “earnings and profits”; amounts not paid from earnings and profits are generally treated as return of capital (and then gain after basis is exhausted).
- In a tax-free reorganization, carryover of tax attributes is not automatic; whether an attribute affects a successor’s earnings-and-profits computation depends on specific statutory treatment.
- A predecessor entity’s deficit does not, without express statutory direction, transfer to a successor corporation as a reduction of the successor’s earnings and profits for dividend-characterization purposes.
- The fact that earnings and profits may be preserved through certain reorganizations does not imply that deficits similarly carry over to offset a successor’s earnings and profits.

## Conclusion

The court held that the 1947 deficit of the predecessor real estate trust did not carry over to reduce the successor corporation’s earnings and profits, so the 1950 distribution was taxable as a dividend to the extent of the corporation’s earnings and profits, and the refund judgment for the taxpayers was reversed.


United States v. Snider, 224 F.2d 165 (1st Cir. 1955)