U.S. Supreme Court Eisner v. Macomber, 252
U.S. 189 (1920) Eisner v. Macomber No. 318 Argued April 16, 1919 Restored to docket for reargument
May 19, 1919 Reargued October 17, 20,
1919 Decided March 8, 1920 252
U.S. 189 ERROR TO THE DISTRICT COURT OF THE
UNITED STATES FOR THE SOUTHERN DISTRICT OF NEW
YORK Syllabus Congress was not empowered by the Sixteenth Amendment to tax, as
income of the stockholder, without apportionment, a stock dividend
made lawfully and in good faith against profits accumulated by the
corporation since March 1, 1913. P. 252 U. S. 201 . Towne v. Eisner, 245 U. S. 418 .

															The Revenue Act of September 8, 1916, c. 463, 39 Stat. 756,
plainly evinces the purpose of Congress to impose such taxes, and
is to that extent in conflict with Art. I, § 2, cl. 3, and Art. I,
§ 9, cl. 4, of the Constitution. Pp. 252 U. S. 199 , 252 U. S.
217 .

															These provisions of the Constitution necessarily limit the
extension, by construction, of the Sixteenth Amendment. P. 252 U. S.
205 .

															What is or is not "income" within the meaning of the Amendment
must be determined in each case according to truth and substance,
without regard to form. P. 252 U. S. 206 .

															Income may be defined as the gain derived from capital, from
labor, or from both combined, including profit gained through sale
or conversion of capital. P. 252 U. S.
207 .

															Mere growth or increment of value in a capital investment is not
income; income is essentially a gain or profit, in itself, of
exchangeable value, proceeding from capital, severed from it, and
derived or received by the taxpayer for his separate use, benefit,
and disposal. Id. A stock dividend, evincing merely a transfer of an accumulated
surplus to the capital account of the corporation, takes nothing
from the property of the corporation and adds nothing to that of
the shareholder; a tax on such dividends is a tax an capital
increase, and not on income, and, to be valid under the
Constitution, such taxes must be apportioned according to
population in the several states. P. 252 U. S.
208 .

															Affirmed. Page 252 U. S. 190 The case is stated in the opinion. Page 252 U. S. 199 MR. JUSTICE PITNEY delivered the opinion of the Court.

															This case presents the question whether, by virtue of the
Sixteenth Amendment, Congress has the power to tax, as income of
the stockholder and without apportionment, a stock dividend made
lawfully and in good faith against profits accumulated by the
corporation since March 1, 1913.

															It arises under the Revenue Act of September 8, 1916, 39 Stat.
756 et seq., which, in our opinion (notwithstanding a
contention of the government that will be Page 252 U. S. 200 noticed), plainly evinces the purpose of Congress to tax stock
dividends as income. * The facts, in outline, are as follows:

															On January 1, 1916, the Standard Oil Company of California, a
corporation of that state, out of an authorized capital stock of
$100,000,000, had shares of stock outstanding, par value $100 each,
amounting in round figures to $50,000,000. In addition, it had
surplus and undivided profits invested in plant, property, and
business and required for the purposes of the corporation,
amounting to about $45,000,000, of which about $20,000,000 had been
earned prior to March 1, 1913, the balance thereafter. In January,
1916, in order to readjust the capitalization, the board of
directors decided to issue additional shares sufficient to
constitute a stock dividend of 50 percent of the outstanding stock,
and to transfer from surplus account to capital stock account an
amount equivalent to such issue. Appropriate resolutions were
adopted, an amount equivalent to the par value of the proposed new
stock was transferred accordingly, and the new stock duly issued
against it and divided among the stockholders.

															Defendant in error, being the owner of 2,200 shares of the old
stock, received certificates for 1, 100 additional Page 252 U. S. 201 shares, of which 18.07 percent, or 198.77 shares, par value
$19,877, were treated as representing surplus earned between March
1, 1913, and January 1, 1916. She was called upon to pay, and did
pay under protest, a tax imposed under the Revenue Act of 1916,
based upon a supposed income of $19,877 because of the new shares,
and, an appeal to the Commissioner of Internal Revenue having been
disallowed, she brought action against the Collector to recover the
tax. In her complaint, she alleged the above facts and contended
that, in imposing such a tax the Revenue Act of 1916 violated
article 1, § 2, cl. 3, and Article I, § 9, cl. 4, of the
Constitution of the United States, requiring direct taxes to be
apportioned according to population, and that the stock dividend
was not income within the meaning of the Sixteenth Amendment. A
general demurrer to the complaint was overruled upon the authority
of Towne v. Eisner, 245 U. S. 418 ,
and, defendant having failed to plead further, final judgment went
against him. To review it, the present writ of error is
prosecuted.

															The case was argued at the last term, and reargued at the
present term, both orally and by additional briefs.

															We are constrained to hold that the judgment of the district
court must be affirmed, first, because the question at issue is
controlled by Towne v. Eisner, supra; secondly, because a
reexamination of the question with the additional light thrown upon
it by elaborate arguments has confirmed the view that the
underlying ground of that decision is sound, that it disposes of
the question here presented, and that other fundamental
considerations lead to the same result.

															In Towne v. Eisner, the question was whether a stock
dividend made in 1914 against surplus earned prior to January 1,
1913, was taxable against the stockholder under the Act of October
3, 1913, c. 16, 38 Stat. 114, 166, which provided (§ B, p. 167)
that net income should include "dividends," and also "gains or
profits and income derived Page 252 U. S. 202 from any source whatever." Suit having been brought by a
stockholder to recover the tax assessed against him by reason of
the dividend, the district court sustained a demurrer to the
complaint. 242 F. 702. The court treated the construction of the
act as inseparable from the interpretation of the Sixteenth
Amendment; and, having referred to Pollock v. Farmers' Loan
& Trust Co., 158 U. S. 601 , and
quoted the Amendment, proceeded very properly to say (p. 704):

															"It is manifest that the stock dividend in question cannot be
reached by the Income Tax Act and could not, even though Congress
expressly declared it to be taxable as income, unless it is in fact
income."

															It declined, however, to accede to the contention that, in Gibbons v. Mahon, 136 U. S. 549 ,
"stock dividends" had received a definition sufficiently clear to
be controlling, treated the language of this Court in that case as obiter dictum in respect of the matter then before it (p.
706), and examined the question as res nova, with the
result stated. When the case came here, after overruling a motion
to dismiss made by the government upon the ground that the only
question involved was the construction of the statute, and not its
constitutionality, we dealt upon the merits with the question of
construction only, but disposed of it upon consideration of the
essential nature of a stock dividend disregarding the fact that the
one in question was based upon surplus earnings that accrued before
the Sixteenth Amendment took effect. Not only so, but we rejected
the reasoning of the district court, saying (245 U.S. 245 U. S.
426 ):

															"Notwithstanding the thoughtful discussion that the case
received below we cannot doubt that the dividend was capital as
well for the purposes of the Income Tax Law as for distribution
between tenant for life and remainderman. What was said by this
Court upon the latter question is equally true for the former."

															"A stock dividend really takes nothing from the property of the
corporation, and adds nothing to the Page 252 U. S. 203 interests of the shareholders. Its property is not diminished,
and their interests are not increased. . . . The proportional
interest of each shareholder remains the same. The only change is
in the evidence which represents that interest, the new shares and
the original shares together representing the same proportional
interest that the original shares represented before the issue of
the new ones."

															" Gibbons v. Mahon, 136 U. S. 549 , 136 U. S.
559 -560. In short, the corporation is no poorer and the
stockholder is no richer than they were before. Logan County v.
United States, 169 U. S. 255 , 169 U. S.
261 . If the plaintiff gained any small advantage by the
change, it certainly was not an advantage of $417,450, the sum upon
which he was taxed. . . . What has happened is that the plaintiff's
old certificates have been split up in effect and have diminished
in value to the extent of the value of the new."

															This language aptly answered not only the reasoning of the
district court, but the argument of the Solicitor General in this
Court, which discussed the essential nature of a stock dividend.
And if, for the reasons thus expressed, such a dividend is not to
be regarded as "income" or "dividends" within the meaning of the
Act of 1913, we are unable to see how it can be brought within the
meaning of "incomes" in the Sixteenth Amendment, it being very
clear that Congress intended in that act to exert its power to the
extent permitted by the amendment. In Towne v. Eisner, it
was not contended that any construction of the statute could make
it narrower than the constitutional grant; rather the contrary.

															The fact that the dividend was charged against profits earned
before the Act of 1913 took effect, even before the amendment was
adopted, was neither relied upon nor alluded to in our
consideration of the merits in that case. Not only so, but had we
considered that a stock dividend constituted income in any true
sense, it would have been held taxable under the Act of 1913
notwithstanding it was Page 252 U. S. 204 based upon profits earned before the amendment. We ruled at the
same term, in Lynch v. Hornby, 247 U.
S. 339 , that a cash dividend extraordinary in amount,
and in Peabody v. Eisner, 247 U.
S. 347 , that a dividend paid in stock of another
company, were taxable as income although based upon earnings that
accrued before adoption of the amendment. In the former case,
concerning "corporate profits that accumulated before the act took
effect," we declared (pp. 247 U. S.
343 -344):

															"Just as we deem the legislative intent manifest to tax the
stockholder with respect to such accumulations only if and when,
and to the extent that, his interest in them comes to fruition as
income, that is, in dividends declared, so we can perceive no
constitutional obstacle that stands in the way of carrying out this
intent when dividends are declared out of a preexisting surplus. .
. . Congress was at liberty under the amendment to tax as income,
without apportionment, everything that became income, in the
ordinary sense of the word, after the adoption of the amendment,
including dividends received in the ordinary course by a
stockholder from a corporation, even though they were extraordinary
in amount and might appear upon analysis to be a mere realization
in possession of an inchoate and contingent interest that the
stockholder had in a surplus of corporate assets previously
existing."

															In Peabody v. Eisner, 247 U. S. 349 , 247 U. S. 350 , we
observed that the decision of the district court in Towne v.
Eisner had been reversed

															"only upon the ground that it related to a stock dividend which
in fact took nothing from the property of the corporation and added
nothing to the interest of the shareholder, but merely changed the
evidence which represented that interest,"

															and we distinguished the Peabody case from the Towne case upon the ground that "the dividend of Baltimore
& Ohio shares was not a stock dividend but a distribution in
specie of a portion of the assets of the Union Pacific."

															Therefore, Towne v. Eisner cannot be regarded as
turning Page 252 U. S. 205 upon the point that the surplus accrued to the company before
the act took effect and before adoption of the amendment. And what
we have quoted from the opinion in that case cannot be regarded as obiter dictum, it having furnished the entire basis for
the conclusion reached. We adhere to the view then expressed, and
might rest the present case there not because that case in terms
decided the constitutional question, for it did not, but because
the conclusion there reached as to the essential nature of a stock
dividend necessarily prevents its being regarded as income in any
true sense.

															Nevertheless, in view of the importance of the matter, and the
fact that Congress in the Revenue Act of 1916 declared (39 Stat.
757) that a "stock dividend shall be considered income, to the
amount of its cash value," we will deal at length with the
constitutional question, incidentally testing the soundness of our
previous conclusion.

															The Sixteenth Amendment must be construed in connection with the
taxing clauses of the original Constitution and the effect
attributed to them before the amendment was adopted. In Pollock
v. Farmers' Loan & Trust Co., 158 U.
S. 601 , under the Act of August 27, 1894, c. 349, § 27,
28 Stat. 509, 553, it was held that taxes upon rents and profits of
real estate and upon returns from investments of personal property
were in effect direct taxes upon the property from which such
income arose, imposed by reason of ownership, and that Congress
could not impose such taxes without apportioning them among the
states according to population, as required by Article I, § 2, cl.
3, and § 9, cl. 4, of the original Constitution.

															Afterwards, and evidently in recognition of the limitation upon
the taxing power of Congress thus determined, the Sixteenth
Amendment was adopted, in words lucidly expressing the object to be
accomplished:

															"The Congress shall have power to lay and collect taxes on
incomes, from whatever source derived, without apportionment
among Page 252 U. S. 206 the several states and without regard to any census or
enumeration."

															As repeatedly held, this did not extend the taxing power to new
subjects, but merely removed the necessity which otherwise might
exist for an apportionment among the states of taxes laid on
income. Brushaber v. Union Pacific R. Co., 240 U. S.
1 , 240 U. S. 17 -19; Stanton v. Baltic Mining Co., 240 U. S.
1 03, 240 U. S. 112 et seq.; Peck & Co. v. Lowe, 247 U.
S. 165 , 247 U. S.
172 -173.

															A proper regard for its genesis, as well as its very clear
language, requires also that this amendment shall not be extended
by loose construction, so as to repeal or modify, except as applied
to income, those provisions of the Constitution that require an
apportionment according to population for direct taxes upon
property, real and personal. This limitation still has an
appropriate and important function, and is not to be overridden by
Congress or disregarded by the courts.

															In order, therefore, that the clauses cited from Article I of
the Constitution may have proper force and effect, save only as
modified by the amendment, and that the latter also may have proper
effect, it becomes essential to distinguish between what is and
what is not "income," as the term is there used, and to apply the
distinction, as cases arise, according to truth and substance,
without regard to form. Congress cannot by any definition it may
adopt conclude the matter, since it cannot by legislation alter the
Constitution, from which alone it derives its power to legislate,
and within whose limitations alone that power can be lawfully
exercised.

															The fundamental relation of "capital" to "income" has been much
discussed by economists, the former being likened to the tree or
the land, the latter to the fruit or the crop; the former depicted
as a reservoir supplied from springs, the latter as the outlet
stream, to be measured by its flow during a period of time. For the
present purpose, we require only a clear definition of the term
"income," Page 252 U. S. 207 as used in common speech, in order to determine its meaning in
the amendment, and, having formed also a correct judgment as to the
nature of a stock dividend, we shall find it easy to decide the
matter at issue.

															After examining dictionaries in common use (Bouv. L.D.; Standard
Dict.; Webster's Internat. Dict.; Century Dict.), we find little to
add to the succinct definition adopted in two cases arising under
the Corporation Tax Act of 1909 ( Stratton's Independence v.
Howbert, 231 U. S. 399 , 231 U. S. 415 ; Doyle v. Mitchell Bros. Co., 247 U.
S. 179 , 247 U. S.
185 ), "Income may be defined as the gain derived from
capital, from labor, or from both combined," provided it be
understood to include profit gained through a sale or conversion of
capital assets, to which it was applied in the Doyle case,
pp. 247 U. S.
183 -185.

															Brief as it is, it indicates the characteristic and
distinguishing attribute of income essential for a correct solution
of the present controversy. The government, although basing its
argument upon the definition as quoted, placed chief emphasis upon
the word "gain," which was extended to include a variety of
meanings; while the significance of the next three words was either
overlooked or misconceived. " Derived from capital; " "the gain derived from capital, " etc. Here, we have the
essential matter: not a gain accruing to capital;
not a growth or increment of value in the investment; but a gain, a profit, something of exchangeable
value, proceeding from the property, severed from the capital, however invested or employed, and coming in, being " derived " -- that is, received or drawn
by the recipient (the taxpayer) for his separate use,
benefit and disposal -- that is income derived from
property. Nothing else answers the description.

															The same fundamental conception is clearly set forth in the
Sixteenth Amendment -- "incomes, from whatever source
derived " -- the essential thought being expressed Page 252 U. S. 208 with a conciseness and lucidity entirely in harmony with the
form and style of the Constitution.

															Can a stock dividend, considering its essential character, be
brought within the definition? To answer this, regard must be had
to the nature of a corporation and the stockholder's relation to
it. We refer, of course, to a corporation such as the one in the
case at bar, organized for profit, and having a capital stock
divided into shares to which a nominal or par value is
attributed.

															Certainly the interest of the stockholder is a capital interest,
and his certificates of stock are but the evidence of it. They
state the number of shares to which he is entitled and indicate
their par value and how the stock may be transferred. They show
that he or his assignors, immediate or remote, have contributed
capital to the enterprise, that he is entitled to a corresponding
interest proportionate to the whole, entitled to have the property
and business of the company devoted during the corporate existence
to attainment of the common objects, entitled to vote at
stockholders' meetings, to receive dividends out of the
corporation's profits if and when declared, and, in the event of
liquidation, to receive a proportionate share of the net assets, if
any, remaining after paying creditors. Short of liquidation, or
until dividend declared, he has no right to withdraw any part of
either capital or profits from the common enterprise; on the
contrary, his interest pertains not to any part, divisible or
indivisible, but to the entire assets, business, and affairs of the
company. Nor is it the interest of an owner in the assets
themselves, since the corporation has full title, legal and
equitable, to the whole. The stockholder has the right to have the
assets employed in the enterprise, with the incidental rights
mentioned; but, as stockholder, he has no right to withdraw, only
the right to persist, subject to the risks of the enterprise, and
looking only to dividends for his return. If he desires to
dissociate himself Page 252 U. S. 209 from the company, he can do so only by disposing of his
stock.

															For bookkeeping purposes, the company acknowledges a liability
in form to the stockholders equivalent to the aggregate par value
of their stock, evidenced by a "capital stock account." If profits
have been made and not divided, they create additional bookkeeping
liabilities under the head of "profit and loss," "undivided
profits," "surplus account," or the like. None of these, however,
gives to the stockholders as a body, much less to any one of them,
either a claim against the going concern for any particular sum of
money or a right to any particular portion of the assets or any
share in them unless or until the directors conclude that dividends
shall be made and a part of the company's assets segregated from
the common fund for the purpose. The dividend normally is payable
in money, under exceptional circumstances in some other divisible
property, and when so paid, then only (excluding, of course, a
possible advantageous sale of his stock or winding-up of the
company) does the stockholder realize a profit or gain which
becomes his separate property, and thus derive income from the
capital that he or his predecessor has invested.

															In the present case, the corporation had surplus and undivided
profits invested in plant, property, and business, and required for
the purposes of the corporation, amounting to about $45,000,000, in
addition to outstanding capital stock of $50,000,000. In this, the
case is not extraordinary. The profits of a corporation, as they
appear upon the balance sheet at the end of the year, need not be
in the form of money on hand in excess of what is required to meet
current liabilities and finance current operations of the company.
Often, especially in a growing business, only a part, sometimes a
small part, of the year's profits is in property capable of
division, the remainder having been absorbed in the acquisition of
increased plant, Page 252 U. S. 210 equipment, stock in trade, or accounts receivable, or in
decrease of outstanding liabilities. When only a part is available
for dividends, the balance of the year's profits is carried to the
credit of undivided profits, or surplus, or some other account
having like significance. If thereafter the company finds itself in
funds beyond current needs, it may declare dividends out of such
surplus or undivided profits; otherwise it may go on for years
conducting a successful business, but requiring more and more
working capital because of the extension of its operations, and
therefore unable to declare dividends approximating the amount of
its profits. Thus, the surplus may increase until it equals or even
exceeds the par value of the outstanding capital stock. This may be
adjusted upon the books in the mode adopted in the case at bar --
by declaring a "stock dividend." This, however, is no more than a
book adjustment, in essence -- not a dividend, but rather the
opposite; no part of the assets of the company is separated from
the common fund, nothing distributed except paper certificates that
evidence an antecedent increase in the value of the stockholder's
capital interest resulting from an accumulation of profits by the
company, but profits so far absorbed in the business as to render
it impracticable to separate them for withdrawal and distribution.
In order to make the adjustment, a charge is made against surplus
account with corresponding credit to capital stock account, equal
to the proposed "dividend;" the new stock is issued against this
and the certificates delivered to the existing stockholders in
proportion to their previous holdings. This, however, is merely
bookkeeping that does not affect the aggregate assets of the
corporation or its outstanding liabilities; it affects only the
form, not the essence, of the "liability" acknowledged by the
corporation to its own shareholders, and this through a
readjustment of accounts on one side of the balance sheet only,
increasing "capital stock" at the expense of Page 252 U. S. 211 "surplus"; it does not alter the preexisting proportionate
interest of any stockholder or increase the intrinsic value of his
holding or of the aggregate holdings of the other stockholders as
they stood before. The new certificates simply increase the number
of the shares, with consequent dilution of the value of each
share.

															A "stock dividend" shows that the company's accumulated profits
have been capitalized, instead of distributed to the stockholders
or retained as surplus available for distribution in money or in
kind should opportunity offer. Far from being a realization of
profits of the stockholder, it tends rather to postpone such
realization, in that the fund represented by the new stock has been
transferred from surplus to capital, and no longer is available for
actual distribution.

															The essential and controlling fact is that the stockholder has
received nothing out of the company's assets for his separate use
and benefit; on the contrary, every dollar of his original
investment, together with whatever accretions and accumulations
have resulted from employment of his money and that of the other
stockholders in the business of the company, still remains the
property of the company, and subject to business risks which may
result in wiping out the entire investment. Having regard to the
very truth of the matter, to substance and not to form, he has
received nothing that answers the definition of income within the
meaning of the Sixteenth Amendment.

															Being concerned only with the true character and effect of such
a dividend when lawfully made, we lay aside the question whether,
in a particular case, a stock dividend may be authorized by the
local law governing the corporation, or whether the capitalization
of profits may be the result of correct judgment and proper
business policy on the part of its management, and a due regard for
the interests of the stockholders. And we are considering the
taxability of bona fide stock dividends only. Page 252 U. S. 212 We are clear that not only does a stock dividend really take
nothing from the property of the corporation and add nothing to
that of the shareholder, but that the antecedent accumulation of
profits evidenced thereby, while indicating that the shareholder is
the richer because of an increase of his capital, at the same time
shows he has not realized or received any income in the
transaction.

															It is said that a stockholder may sell the new shares acquired
in the stock dividend, and so he may, if he can find a buyer. It is
equally true that, if he does sell, and in doing so realizes a
profit, such profit, like any other, is income, and, so far as it
may have arisen since the Sixteenth Amendment, is taxable by
Congress without apportionment. The same would be true were he to
sell some of his original shares at a profit. But if a shareholder
sells dividend stock, he necessarily disposes of a part of his
capital interest, just as if he should sell a part of his old
stock, either before or after the dividend. What he retains no
longer entitles him to the same proportion of future dividends as
before the sale. His part in the control of the company likewise is
diminished. Thus, if one holding $60,000 out of a total $100,000 of
the capital stock of a corporation should receive in common with
other stockholders a 50 percent stock dividend, and should sell his
part, he thereby would be reduced from a majority to a minority
stockholder, having six-fifteenths instead of six-tenths of the
total stock outstanding. A corresponding and proportionate decrease
in capital interest and in voting power would befall a minority
holder should he sell dividend stock, it being in the nature of
things impossible for one to dispose of any part of such an issue
without a proportionate disturbance of the distribution of the
entire capital stock and a like diminution of the seller's
comparative voting power -- that "right preservative of rights" in
the control of a corporation. Page 252 U. S. 213 Yet, without selling, the shareholder, unless possessed of other
resources, has not the wherewithal to pay an income tax upon the
dividend stock. Nothing could more clearly show that to tax a stock
dividend is to tax a capital increase, and not income, than this
demonstration that, in the nature of things, it requires conversion
of capital in order to pay the tax.

															Throughout the argument of the government, in a variety of
forms, runs the fundamental error already mentioned -- a failure to
appraise correctly the force of the term "income" as used in the
Sixteenth Amendment, or at least to give practical effect to it.
Thus, the government contends that the tax "is levied on income
derived from corporate earnings," when in truth the stockholder has
"derived" nothing except paper certificates, which, so far as they
have any effect, deny him present participation in such earnings.
It contends that the tax may be laid when earnings "are received by
the stockholder," whereas he has received none; that the profits
are "distributed by means of a stock dividend," although a stock
dividend distributes no profits; that, under the Act of 1916, "the
tax is on the stockholder's share in corporate earnings," when in
truth a stockholder has no such share, and receives none in a stock
dividend; that "the profits are segregated from his former capital,
and he has a separate certificate representing his invested profits
or gains," whereas there has been no segregation of profits, nor
has he any separate certificate representing a personal gain, since
the certificates, new and old, are alike in what they represent --
a capital interest in the entire concerns of the corporation.

															We have no doubt of the power or duty of a court to look through
the form of the corporation and determine the question of the
stockholder's right in order to ascertain whether he has received
income taxable by Congress without apportionment. But, looking
through the form, Page 252 U. S. 214 we cannot disregard the essential truth disclosed, ignore the
substantial difference between corporation and stockholder, treat
the entire organization as unreal, look upon stockholders as
partners when they are not such, treat them as having in equity a
right to a partition of the corporate assets when they have none,
and indulge the fiction that they have received and realized a
share of the profits of the company which in truth they have
neither received nor realized. We must treat the corporation as a
substantial entity separate from the stockholder not only because
such is the practical fact, but because it is only by recognizing
such separateness that any dividend -- even one paid in money or
property -- can be regarded as income of the stockholder. Did we
regard corporation and stockholders as altogether identical, there
would be no income except as the corporation acquired it, and while
this would be taxable against the corporation as income under
appropriate provisions of law, the individual stockholders could
not be separately and additionally taxed with respect to their
several shares even when divided, since, if there were entire
identity between them and the company, they could not be regarded
as receiving anything from it, any more than if one's money were to
be removed from one pocket to another.

															Conceding that the mere issue of a stock dividend makes the
recipient no richer than before, the government nevertheless
contends that the new certificates measure the extent to which the
gains accumulated by the corporation have made him the richer.
There are two insuperable difficulties with this. In the first
place, it would depend upon how long he had held the stock whether
the stock dividend indicated the extent to which he had been
enriched by the operations of the company; unless he had held it
throughout such operations, the measure would not hold true.
Secondly, and more important for present purposes, enrichment
through increase in value Page 252 U. S. 215 of capital investment is not income in any proper meaning of the
term.

															The complaint contains averments respecting the market prices of
stock such as plaintiff held, based upon sales before and after the
stock dividend, tending to show that the receipt of the additional
shares did not substantially change the market value of her entire
holdings. This tends to show that, in this instance, market
quotations reflected intrinsic values -- a thing they do not always
do. But we regard the market prices of the securities as an unsafe
criterion in an inquiry such as the present, when the question must
be not what will the thing sell for, but what is it in truth and in
essence.

															It is said there is no difference in principle between a simple
stock dividend and a case where stockholders use money received as
cash dividends to purchase additional stock contemporaneously
issued by the corporation. But an actual cash dividend, with a real
option to the stockholder either to keep the money for his own or
to reinvest it in new shares, would be as far removed as possible
from a true stock dividend, such as the one we have under
consideration, where nothing of value is taken from the company's
assets and transferred to the individual ownership of the several
stockholders and thereby subjected to their disposal.

															The government's reliance upon the supposed analogy between a
dividend of the corporation's own shares and one made by
distributing shares owned by it in the stock of another company
calls for no comment beyond the statement that the latter
distributes assets of the company among the shareholders, while the
former does not, and for no citation of authority except Peabody v. Eisner, 247 U. S. 347 , 247 U. S.
349 -350.

															Two recent decisions, proceeding from courts of high
jurisdiction, are cited in support of the position of the
government. Page 252 U. S. 216 Swan Brewery Co., Ltd. v. Rex, [1914] A.C. 231, arose
under the Dividend Duties Act of Western Australia, which provided
that "dividend" should include "every dividend, profit, advantage,
or gain intended to be paid or credited to or distributed among any
members or directors of any company," except, etc. There was a
stock dividend, the new shares being allotted among the
shareholders pro rata, and the question was whether this
was a distribution of a dividend within the meaning of the act. The
Judicial Committee of the Privy Council sustained the dividend duty
upon the ground that, although "in ordinary language the new shares
would not be called a dividend, nor would the allotment of them be
a distribution of a dividend," yet, within the meaning of the act,
such new shares were an "advantage" to the recipients. There being
no constitutional restriction upon the action of the lawmaking
body, the case presented merely a question of statutory
construction, and manifestly the decision is not a precedent for
the guidance of this Court when acting under a duty to test an act
of Congress by the limitations of a written Constitution having
superior force.

															In Tax Commissioner v. Putnam, (1917) 227 Mass. 522, it
was held that the Forty-Fourth amendment to the Constitution of
Massachusetts, which conferred upon the legislature full power to
tax incomes, "must be interpreted as including every item which by
any reasonable understanding can fairly be regarded as income" (pp.
526, 531), and that under it, a stock dividend was taxable as
income, the court saying (p. 535):

															"In essence, the thing which has been done is to distribute a
symbol representing an accumulation of profits, which, instead of
being paid out in cash, is invested in the business, thus
augmenting its durable assets. In this aspect of the case, the
substance of the transaction is no different from what it would be
if a cash dividend had been declared with the privilege of
subscription to an equivalent amount of new shares. " Page 252 U. S. 217 We cannot accept this reasoning. Evidently, in order to give a
sufficiently broad sweep to the new taxing provision, it was deemed
necessary to take the symbol for the substance, accumulation for
distribution, capital accretion for its opposite, while a case
where money is paid into the hand of the stockholder with an option
to buy new shares with it, followed by acceptance of the option,
was regarded as identical in substance with a case where the
stockholder receives no money and has no option. The Massachusetts
court was not under an obligation, like the one which binds us, of
applying a constitutional amendment in the light of other
constitutional provisions that stand in the way of extending it by
construction.

															Upon the second argument, the government, recognizing the force
of the decision in Towne v. Eisner, supra, and virtually
abandoning the contention that a stock dividend increases the
interest of the stockholder or otherwise enriches him, insisted as
an alternative that, by the true construction of the Act of 1916,
the tax is imposed not upon the stock dividend, but rather upon the
stockholder's share of the undivided profits previously accumulated
by the corporation, the tax being levied as a matter of convenience
at the time such profits become manifest through the stock
dividend. If so construed, would the act be constitutional?

															That Congress has power to tax shareholders upon their property
interests in the stock of corporations is beyond question, and that
such interests might be valued in view of the condition of the
company, including its accumulated and undivided profits, is
equally clear. But that this would be taxation of property because
of ownership, and hence would require apportionment under the
provisions of the Constitution, is settled beyond peradventure by
previous decisions of this Court.

															The government relies upon Collector v.
Hubbard , (1870) Page 252 U. S. 218 12 Wall. 1, which arose under § 117 of the Act of June 30, 1864,
c. 173, 13 Stat. 223, 282, providing that

															"The gains and profits of all companies, whether incorporated or
partnership, other than the companies specified in that section,
shall be included in estimating the annual gains, profits, or
income of any person, entitled to the same, whether divided or
otherwise."

															The court held an individual taxable upon his proportion of the
earnings of a corporation although not declared as dividends and
although invested in assets not in their nature divisible.
Conceding that the stockholder for certain purposes had no title
prior to dividend declared, the court nevertheless said (p. 79 U. S. 18 ):

															"Grant all that, still it is true that the owner of a share of
stock in a corporation holds the share with all its incidents, and
that among those incidents is the right to receive all future
dividends -- that is, his proportional share of all profits not
then divided. Profits are incident to the share to which the owner
at once becomes entitled provided he remains a member of the
corporation until a dividend is made. Regarded as an incident to
the shares, undivided profits are property of the shareholder, and
as such are the proper subject of sale, gift, or devise. Undivided
profits invested in real estate, machinery, or raw material for the
purpose of being manufactured are investments in which the
stockholders are interested, and when such profits are actually
appropriated to the payment of the debts of the corporation, they
serve to increase the market value of the shares, whether held by
the original subscribers or by assignees."

															Insofar as this seems to uphold the right of Congress to tax
without apportionment a stockholder's interest in accumulated
earnings prior to dividend declared, it must be regarded as
overruled by Pollock v. Farmers' Loan & Trust Co., 158 U. S. 601 , 158 U. S.
627 -628, 158 U. S. 637 .
Conceding Collector v. Hubbard was inconsistent with the
doctrine of that case, because it sustained a direct tax upon
property not apportioned Page 252 U. S. 219 among the states, the government nevertheless insists that the
sixteenth Amendment removed this obstacle, so that now the Hubbard case is authority for the power of Congress to
levy a tax on the stockholder's share in the accumulated profits of
the corporation even before division by the declaration of a
dividend of any kind. Manifestly this argument must be rejected,
since the amendment applies to income only, and what is called the
stockholder's share in the accumulated profits of the company is
capital, not income. As we have pointed out, a stockholder has no
individual share in accumulated profits, nor in any particular part
of the assets of the corporation, prior to dividend declared.

															Thus, from every point of view, we are brought irresistibly to
the conclusion that neither under the Sixteenth Amendment nor
otherwise has Congress power to tax without apportionment a true
stock dividend made lawfully and in good faith, or the accumulated
profits behind it, as income of the stockholder. The Revenue Act of
1916, insofar as it imposes a tax upon the stockholder because of
such dividend, contravenes the provisions of Article I, § 2, cl. 3,
and Article I, § 9, cl. 4, of the Constitution, and to this extent
is invalid notwithstanding the Sixteenth Amendment. Judgment affirmed. *

															" Title I. -- Income Tax" " Part I. -- On Individuals" "Sec. 2. (a) That, subject only to such exemptions and
deductions as are hereinafter allowed, the net income of a taxable
person shall include gains, profits, and income derived, . . . also
from interest, rent, dividends, securities, or the transaction of
any business carried on for gain or profit, or gains or profits and
income derived from any source whatever: Provided, that
the term 'dividends' as used in this title shall be held to mean
any distribution made or ordered to be made by a corporation, . . .
out of its earnings or profits accrued since March first, nineteen
hundred and thirteen, and payable to its shareholders, whether, in
cash or in stock of the corporation, . . . which stock dividend
shall be considered income, to the amount of its cash value."

															MR. JUSTICE HOLMES, dissenting.

															I think that Towne v. Eisner, 245 U.
S. 418 , was right in its reasoning and result, and that,
on sound principles, the stock dividend was not income. But it was
clearly intimated in that case that the construction of the statute
then before the Court might be different from that of the
Constitution. 245 U.S. 245 U. S. 425 .
I think that the word "incomes" in the Sixteenth Amendment should
be read in Page 252 U. S. 220 "a sense most obvious to the common understanding at the time of
its adoption." Bishop v. State, 149 Ind. 223, 230; State v. Butler, 70 Fla. 102, 133. For it was for public
adoption that it was proposed. McCulloch v.
Maryland , 4 Wheat. 316, 17 U. S. 407 .
The known purpose of this Amendment was to get rid of nice
questions as to what might be direct taxes, and I cannot doubt that
most people not lawyers would suppose when they voted for it that
they put a question like the present to rest. I am of opinion that
the Amendment justifies the tax. See Tax Commissioner v.
Putnam, 227 Mass. 522, 532, 533.

															MR. JUSTICE DAY concurs in this opinion.

															MR. JUSTICE BRANDEIS delivered the following opinion, in which
MR. JUSTICE CLARKE concurred.

															Financiers, with the aid of lawyers, devised long ago two
different methods by which a corporation can, without increasing
its indebtedness, keep for corporate purposes accumulated profits,
and yet, in effect, distribute these profits among its
stockholders. One method is a simple one. The capital stock is
increased; the new stock is paid up with the accumulated profits,
and the new shares of paid-up stock are then distributed among the
stockholders pro rata as a dividend. If the stockholder
prefers ready money to increasing his holding of the stock in the
company, he sells the new stock received as a dividend. The other
method is slightly more complicated. .arrangements are made for an
increase of stock to be offered to stockholders pro rata at par, and at the same time for the payment of a cash dividend
equal to the amount which the stockholder will be required to pay
to Page 252 U. S. 221 the company, if he avails himself of the right to subscribe for
his pro rata of the new stock. If the stockholder takes
the new stock, as is expected, he may endorse the dividend check
received to the corporation, and thus pay for the new stock. In
order to ensure that all the new stock so offered will be taken,
the price at which it is offered is fixed far below what it is
believed will be its market value. If the stockholder prefers ready
money to an increase of his holdings of stock, he may sell his
right to take new stock pro rata, which is evidenced by an
assignable instrument. In that event the purchaser of the rights
repays to the corporation, as the subscription price of the new
stock, an amount equal to that which it had paid as a cash dividend
to the stockholder.

															Both of these methods of retaining accumulated profits while in
effect distributing them as a dividend had been in common use in
the United States for many years prior to the adoption of the
Sixteenth Amendment. They were recognized equivalents. Whether a
particular corporation employed one or the other method was
determined sometimes by requirements of the law under which the
corporation was organized; sometimes it was determined by
preferences of the individual officials of the corporation, and
sometimes by stock market conditions. Whichever method was
employed, the resultant distribution of the new stock was commonly
referred to as a stock dividend. How these two methods have been
employed may be illustrated by the action in this respect (as
reported in Moody's Manual, 1918 Industrial, and the Commercial and
Financial Chronicle) of some of the Standard Oil companies since
the disintegration pursuant to the decision of this Court in 1911. Standard Oil Co. v. United States, 221 U. S.
1 .

															(a) Standard Oil Co. (of Indiana), an Indiana corporation. It
had on December 31, 1911, $1,000,000 capital stock (all common),
and a large surplus. On May 15, Page 252 U. S. 222 1912, it increased its capital stock to $30,000,000, and paid a
simple stock dividend of 2,900 percent in stock. [ Footnote 1 ]

															(b) Standard Oil Co. (of Nebraska), a Nebraska corporation. It
had on December 31, 1911, $600,000 capital stock (all common), and
a substantial surplus. On April 15, 1912, it paid a simple stock
dividend of 33 1/3 percent, increasing the outstanding capital to
$800,000. During the calendar year 1912, it paid cash dividends
aggregating 20 percent, but it earned considerably more, and had at
the close of the year again a substantial surplus. On June 20,
1913, it declared a further stock dividend of 25 percent, thus
increasing the capital to $1,000,000. [ Footnote 2 ]

															(c) The Standard Oil Co. (of Kentucky), a Kentucky corporation.
It had on December 31, 1913, $1,000,000 capital stock (all common)
and $3,701,710 surplus. Of this surplus, $902,457 had been earned
during the calendar year 1913, the net profits of that year having
been $1,002,457 and the dividends paid only $100,000 (10 percent).
On December 22, 1913, a cash dividend of $200 per share was
declared payable on February 14, 1914, to stockholders of record
January 31, 1914, and these stockholders were offered the right to
subscribe for an equal amount of new stock at par and to apply the
cash dividend in payment therefor. The outstanding stock was thus
increased to $3,000,000. During the calendar years 1914, 1915, and
1916, quarterly dividends were paid on this stock at an annual rate
of between 15 percent and 20 percent, but the company's surplus
increased by $2,347,614, so that, on December 31, 1916, it had a
large surplus over its $3,000,000 capital stock. On December 15,
1916, the company issued a circular to the stockholders,
saying:

															"The company's business for this year has shown a Page 252 U. S. 223 very good increase in volume and a proportionate increase in
profits, and it is estimated that, by January 1, 1917, the company
will have a surplus of over $4,000,000. The board feels justified
in stating that, if the proposition to increase the capital stock
is acted on favorably, it will be proper in the near future to
declare a cash dividend of 100 percent and to allow the
stockholders the privilege pro rata according to their
holdings, to purchase the new stock at par, the plan being to allow
the stockholders, if they desire, to use their cash dividend to pay
for the new stock."

															The increase of stock was voted. The company then paid a cash
dividend of 100 percent, payable May 1, 1917, again offering to
such stockholders the right to subscribe for an equal amount of new
stock at par and to apply the cash dividend in payment
therefor.

															Moody's Manual, describing the transaction with exactness, says
first that the stock was increased from $3,000,000 to $6,000,000,
"a cash dividend of 100 percent, payable May 1, 1917, being
exchanged for one share of new stock, the equivalent of a 100
percent stock dividend." But later in the report giving, as
customary in the Manual, the dividend record of the company, the
Manual says: "A stock dividend of 200 percent was paid February 14,
1914, and one of 100 percent on May 1, 1197." And, in reporting
specifically the income account of the company for a series of
years ending December 31, covering net profits, dividends paid, and
surplus for the year, it gives, as the aggregate of dividends for
the year 1917, $660,000 (which was the aggregate paid on the
quarterly cash dividend -- 5 percent January and April; 6 percent
July and October), and adds in a note: "In addition, a stock
dividend of 100 percent was paid during the year." [ Footnote 3 ] The Wall Street Journal of Page 252 U. S. 224 May 2, 1917, p. 2, quotes the 1917 "high" price for Standard Oil
of Kentucky as "375 ex stock dividend."

															It thus appears that, among financiers and investors, the
distribution of the stock, by whichever method effected, is called
a stock dividend; that the two methods by which accumulated profits
are legally retained for corporate purposes and at the same time
distributed as dividends are recognized by them to be equivalents,
and that the financial results to the corporation and to the
stockholders of the two methods are substantially the same, unless
a difference results from the application of the federal income tax
law.

															Mrs. Macomber, a citizen and resident of New York, was, in the
year 1916, a stockholder in the Standard Oil Company (of
California), a corporation organized under the laws of California
and having its principal place of business in that state. During
that year, she received from the company a stock dividend
representing profits earned since March 1, 1913. The dividend was
paid by direct issue of the stock to her according to the simple
method described above, pursued also by the Indiana and Nebraska
companies. In 1917, she was taxed under the federal law on the
stock dividend so received at its par value of $100 a share, as
income received during the year 1916. Such a stock dividend is
income, as distinguished from capital, both under the law of New
York and under the law of California, because in both states every
dividend representing profits is deemed to be income, whether paid
in cash or in stock. It had been so held in New York, where the
question arose as between life tenant and remainderman, Lowry
v. Farmers' Loan & Trust Co., 172 N.Y. 137; Matter of
Osborne, 209 N.Y. 450, and also, where the question arose in
matters of taxation, People v. Glynn, Page 252 U. S. 225 130 App.Div. 332, 198 N.Y. 605. It has been so held in
California, where the question appears to have arisen only in
controversies between life tenant and remainderman. Estate of
Duffill, 58 Cal.Dec. 97, 180 Cal. 748.

															It is conceded that, if the stock dividend paid to Mrs. Macomber
had been made by the more complicated method pursued by the
Standard Oil Company of Kentucky -- that is, issuing rights to take
new stock pro rata and paying to each stockholder
simultaneously a dividend in cash sufficient in amount to enable
him to pay for this pro rata of new stock to be purchased
-- the dividend so paid to him would have been taxable as income,
whether he retained the cash or whether he returned it to the
corporation in payment for his pro rata of new stock. But
it is contended that, because the simple method was adopted of
having the new stock issued direct to the stockholders as paid-up
stock, the new stock is not to be deemed income, whether she
retained it or converted it into cash by sale. If such a different
result can flow merely from the difference in the method pursued,
it must be because Congress is without power to tax as income of
the stockholder either the stock received under the latter method
or the proceeds of its sale, for Congress has, by the provisions in
the Revenue Act of 1916, expressly declared its purpose to make
stock dividends, by whichever method paid, taxable as income.

															The Sixteenth Amendment, proclaimed February 25, 1913,
declares:

															"The Congress shall have power to lay and collect taxes on
incomes, from whatever source derived, without apportionment among
the several states, and without regard to any census or
enumeration."

															The Revenue Act of September 8, 1916, c. 463, § 2a, 39 Stat.
756, 757, provided:

															"That the term 'dividends' as used in this title shall Page 252 U. S. 226 be held to mean any distribution made or ordered to be made by a
corporation, . . . out of its earnings or profits accrued since
March first, nineteen hundred and thirteen, and payable to its
shareholders, whether in cash or in stock of the corporation, . . .
which stock dividend shall be considered income, to the amount of
its cash value."

															Hitherto, powers conferred upon Congress by the Constitution
have been liberally construed, and have been held to extend to
every means appropriate to attain the end sought. In determining
the scope of the power, the substance of the transaction, not its
form, has been regarded. Martin v.
Hunter , 1 Wheat. 304, 14 U. S. 326 ; McCulloch v.
Maryland , 4 Wheat. 316, 17 U. S. 407 , 17 U. S. 415 ; Brown v.
Maryland , 12 Wheat. 419, 25 U. S. 446 ; Craig v.
Missouri , 4 Pet. 410, 29 U. S. 433 ; Jarrolt v. Moberly, 103 U. S. 580 , 103 U. S.
585 -587; Legal Tender Case, 110 U.
S. 421 , 110 U. S. 444 ; Lithograph Co. v. Sarony, 111 U. S.
53 , 111 U. S. 58 ; United States v. Realty Co., 163 U.
S. 427 , 163 U. S.
440 -442; South Carolina v. United States, 199 U. S. 437 , 199 U. S.
448 -449. Is there anything in the phraseology of the
Sixteenth Amendment or in the nature of corporate dividends which
should lead to a departure from these rules of construction and
compel this Court to hold that Congress is powerless to prevent a
result so extraordinary as that here contended for by the
stockholder? First. The term "income," when applied to the
investment of the stockholder in a corporation, had, before the
adoption of the Sixteenth Amendment, been commonly understood to
mean the returns from time to time received by the stockholder from
gains or earnings of the corporation. A dividend received by a
stockholder from a corporation may be either in distribution of
capital assets or in distribution of profits. Whether it is the one
or the other is in no way affected by the medium in which it is
paid, nor by the method or means through which the particular thing
distributed as a dividend was procured. If the Page 252 U. S. 227 dividend is declared payable in cash, the money with which to
pay it is ordinarily taken from surplus cash in the treasury. But
(if there are profits legally available for distribution and the
law under which the company was incorporated so permits) the
company may raise the money by discounting negotiable paper, or by
selling bonds, scrip or stock of another corporation then in the
treasury, or by selling its own bonds, scrip or stock then in the
treasury, or by selling its own bonds, scrip or stock issued
expressly for that purpose. How the money shall be raised is wholly
a matter of financial management. The manner in which it is raised
in no way affects the question whether the dividend received by the
stockholder is income or capital, nor can it conceivably affect the
question whether it is taxable as income.

															Likewise whether a dividend declared payable from profits shall
be paid in cash or in some other medium is also wholly a matter of
financial management. If some other medium is decided upon, it is
also wholly a question of financial management whether the
distribution shall be, for instance, in bonds, scrip or stock of
another corporation or in issues of its own. And if the dividend is
paid in its own issues, why should there be a difference in result
dependent upon whether the distribution was made from such
securities then in the treasury or from others to be created and
issued by the company expressly for that purpose? So far as the
distribution may be made from its own issues of bonds, or preferred
stock created expressly for the purpose, it clearly would make no
difference, in the decision of the question whether the dividend
was a distribution of profits, that the securities had to be
created expressly for the purpose of distribution. If a dividend
paid in securities of that nature represents a distribution of
profits, Congress may, of course, tax it as income of the
stockholder. Is the result different where the security distributed
is common stock? Page 252 U. S. 228 Suppose that a corporation having power to buy and sell its own
stock purchases, in the interval between its regular dividend
dates, with moneys derived from current profits, some of its own
common stock as a temporary investment, intending at the time of
purchase to sell it before the next dividend date and to use the
proceeds in paying dividends, but later, deeming it inadvisable
either to sell this stock or to raise by borrowing the money
necessary to pay the regular dividend in cash, declares a dividend
payable in this stock; can anyone doubt that, in such a case, the
dividend in common stock would be income of the stockholder and
constitutionally taxable as such? See Green v. Bissell, 79
Conn. 547; Leland v. Hayden, 102 Mass. 542. And would it
not likewise be income of the stockholder subject to taxation if
the purpose of the company in buying the stock so distributed had
been from the beginning to take it off the market and distribute it
among the stockholders as a dividend, and the company actually did
so? And, proceeding a short step further, suppose that a
corporation decided to capitalize some of its accumulated profits
by creating additional common stock and selling the same to raise
working capital, but after the stock has been issued and
certificates therefor are delivered to the bankers for sale,
general financial conditions make it undesirable to market the
stock, and the company concludes that it is wiser to husband, for
working capital, the cash which it had intended to use in paying
stockholders a dividend, and, instead, to pay the dividend in the
common stock which it had planned to sell; would not the stock so
distributed be a distribution of profits, and hence, when received,
be income of the stockholder and taxable as such? If this be
conceded, why should it not be equally income of the stockholder,
and taxable as such, if the common stock created by capitalizing
profits had been originally created for the express purpose of
being distributed Page 252 U. S. 229 as a dividend to the stockholder who afterwards received it? Second. It has been said that a dividend payable in
bonds or preferred stock created for the purpose of distributing
profits may be income and taxable as such, but that the case is
different where the distribution is in common stock created for
that purpose. Various reasons are assigned for making this
distinction. One is that the proportion of the stockholder's
ownership to the aggregate number of the shares of the company is
not changed by the distribution. But that is equally true where the
dividend is paid in its bonds or in its preferred stock.
Furthermore, neither maintenance nor change in the proportionate
ownership of a stockholder in a corporation has any bearing upon
the question here involved. Another reason assigned is that the
value of the old stock held is reduced approximately by the value
of the new stock received, so that the stockholder, after receipt
of the stock dividend, has no more than he had before it was paid.
That is equally true whether the dividend be paid in cash or in
other property -- for instance, bonds, scrip, or preferred stock of
the company. The payment from profits of a large cash dividend, and
even a small one, customarily lowers the then market value of stock
because the undivided property represented by each share has been
correspondingly reduced. The argument which appears to be most
strongly urged for the stockholders is that, when a stock dividend
is made, no portion of the assets of the company is thereby
segregated for the stockholder. But does the issue of new bonds or
of preferred stock created for use as a dividend result in any
segregation of assets for the stockholder? In each case, he
receives a piece of paper which entitles him to certain rights in
the undivided property. Clearly, segregation of assets in a
physical sense is not an essential of income. The year's gains of a
partner is taxable as income although there likewise no Page 252 U. S. 230 segregation of his share in the gains from that of his partners
is had.

															The objection that there has been no segregation is presented
also in another form. It is argued that, until there is a
segregation, the stockholder cannot know whether he has really
received gains, since the gains may be invested in plant or
merchandise or other property, and perhaps be later lost. But is
not this equally true of the share of a partner in the year's
profits of the firm or, indeed, of the profits of the individual
who is engaged in business alone? And is it not true also when
dividends are paid in cash? The gains of a business, whether
conducted by an individual, by a firm, or by a corporation are
ordinarily reinvested in large part. Many a cash dividend honestly
declared as a distribution of profits proves later to have been
paid out of capital because errors in forecast prevent correct
ascertainment of values. Until a business adventure has been
completely liquidated, it can never be determined with certainty
whether there have been profits unless the returns at least
exceeded the capital originally invested. Businessmen, dealing with
the problem practically, fix necessarily periods and rules for
determining whether there have been net profits -- that is, income
or gains. They protect themselves from being seriously misled by
adopting a system of depreciation charges and reserves. Then they
act upon their own determination whether profits have been made.
Congress, in legislating, has wisely adopted their practices as its
own rules of action. Third. The government urges that it would have been
within the power of Congress to have taxed as income of the
stockholder his pro rata share of undistributed profits
earned even if no stock dividend representing it had been paid.
Strong reasons may be assigned for such a view. See Collector v.
Hubbard , 12 Wall. 1. The undivided share of a
partner in the year's undistributed profits of his firm Page 252 U. S. 231 is taxable as income of the partner although the share in the
gain is not evidenced by any action taken by the firm. Why may not
the stockholder's interest in the gains of the company? The law
finds no difficulty in disregarding the corporate fiction whenever
that is deemed necessary to attain a just result. Linn Timber
Co. v. United States, 236 U. S. 574 . See Morawetz on Corporations, 2d ed., §§ 227-231; Cook on
Corporations, 7th ed., §§ 663, 664. The stockholder's interest in
the property of the corporation differs not fundamentally, but in
form only, from the interest of a partner in the property of the
firm. There is much authority for the proposition that, under our
law, a partnership or joint stock company is just as distinct and
palpable an entity in the idea of the law, as distinguished from
the individuals composing it, as is a corporations. [ Footnote 4 ] No reason appears, why Congress,
in legislating under a grant of power so comprehensive as that
authorizing the levy of an income tax, should be limited by the
particular view of the relation of the stockholder to the
corporation and its property which may, in the absence of
legislation, have been taken by this Court. But we have no occasion
to decide the question whether Congress might have taxed to the
stockholder his undivided share of the corporation's earnings. For
Congress has in this act limited the income tax to that share of
the stockholder in the earnings which is, in effect, distributed by
means of the stock dividend paid. In other words, to render the
stockholder taxable, there must be both earnings made and a
dividend paid. Neither earnings without dividend nor a dividend
without earnings subjects the Page 252 U. S. 232 stockholder to taxation under the Revenue Act of 1916. Fourth. The equivalency of all dividends representing
profits, whether paid of all dividends in stock, is so complete
that serious question of the taxability of stock dividends would
probably never have been made if Congress had undertaken to tax
only those dividends which represented profits earned during the
year in which the dividend was paid or in the year preceding. But
this Court, construing liberally not only the constitutional grant
of power but also the revenue Act of 1913, held that Congress might
tax, and had taxed, to the stockholder dividends received during
the year, although earned by the company long before, and even
prior to the adoption of the Sixteenth Amendment. Lynch v.
Hornby, 247 U. S. 339 .
[ Footnote 5 ] That rule, if
indiscriminatingly applied to all stock dividends representing
profits earned, might, in view of corporate practice, have worked
considerable hardship and have raised serious questions. Many
corporations, without legally capitalizing any part of their
profits, had assigned definitely some part or all of the annual
balances remaining after paying the usual cash dividends to the
uses to which permanent capital is ordinarily applied. Some of the
corporations doing this transferred such balances on their books to
"surplus" account -- distinguishing between such permanent
"surplus" and the "undivided profits" account. Other corporations,
without this formality, had assumed that the annual accumulating
balances carried as undistributed profits were to be treated as
capital permanently invested in the business. And still others,
without definite assumption of any kind, had Page 252 U. S. 233 so used undivided profits for capital purposes. To have made the
revenue law apply retroactively so as to reach such accumulated
profits, if and whenever it should be deemed desirable to
capitalize them legally by the issue of additional stock
distributed as a dividend to stockholders, would have worked great
injustice. Congress endeavored in the Revenue Act of 1916 to guard
against any serious hardship which might otherwise have arisen from
making taxable stock dividends representing accumulated profits. It
did not limit the taxability to stock dividends representing
profits earned within the tax year or in the year preceding, but it
did limit taxability to such dividends representing profits earned
since March 1, 1913. Thereby stockholders were given notice that
their share also in undistributed profits accumulating thereafter
was at some time to be taxed as income. And Congress sought by § 3
to discourage the postponement of distribution for the illegitimate
purpose of evading liability to surtaxes. Fifth. The decision of this Court that earnings made
before the adoption of the Sixteenth Amendment, but paid out in
cash dividend after its adoption, were taxable as income of the
stockholder involved a very liberal construction of the amendment.
To hold now that earnings both made and paid out after the adoption
of the Sixteenth Amendment cannot be taxed as income of the
stockholder, if paid in the form of a stock dividend, involves an
exceedingly narrow construction of it. As said by Mr. Chief Justice
Marshall in Brown v.
Maryland , 12 Wheat. 419, 25 U. S.
446 :

															"To construe the power so as to impair its efficacy would tend
to defeat an object in the attainment of which the American public
took, and justly took, that strong interest which arose from a full
conviction of its necessity."

															No decision heretofore rendered by this Court requires us to
hold that Congress, in providing for the taxation of Page 252 U. S. 234 stock dividends, exceeded the power conferred upon it by the
Sixteenth Amendment. The two cases mainly relied upon to show that
this was beyond the power of Congress are Towne v. Eisner, 245 U. S. 418 ,
which involved a question not of constitutional power, but of
statutory construction, and Gibbons v. Mahon, 136 U.
S. 549 , which involved a question arising between life
tenant and remainderman. So far as concerns Towne v.
Eisner, we have only to bear in mind what was there said (p. 245 U. S.
425 ): "But it is not necessarily true that income means
the same thing in the Constitution and the [an] act." [ Footnote 6 ] Gibbons v. Mahon is even less an authority for a narrow construction of the power to
tax incomes conferred by the Sixteenth Amendment. In that case, the
court was required to determine how, in the administration of an
estate in the District of Columbia, a stock dividend, representing
profits, received after the decedent's death, should be disposed of
as between life tenant and remainderman. The question was, in
essence, what shall the intention of the testator be presumed to
have been? On this question, there was great diversity of opinion
and practice in the courts of English-speaking countries. Three
well defined rules were then competing for acceptance. Two of these
involves an arbitrary rule of distribution, the third equitable
apportionment. See Cook on Corporations, 7th ed., §§
552-558.

															1. The so-called English rule, declared in 1799 by Brander
v. Brander, 4 Ves. Jr. 800, that a dividend representing Page 252 U. S. 235 profits, whether in cash, stock or other property, belongs to
the life tenant if it was a regular or ordinary dividend, and
belongs to the remainderman if it was an extraordinary
dividend.

															2. The so-called Massachusetts rule, declared in 1868 by Minot v. Paine, 99 Mass. 101, that a dividend representing
profits, whether regular, ordinary, or extraordinary, if in cash
belongs to the life tenant, and if in stock belongs to the
remainderman.

															3. The so-called Pennsylvania rule, declared in 1857 by Earp's Appeal, 28 Pa. 368, that, where a stock dividend is
paid, the court shall inquire into the circumstances under which
the fund had been earned and accumulated out of which the dividend,
whether a regular, an ordinary, or an extraordinary one, was paid.
If it finds that the stock dividend was paid out of profits earned
since the decedent's death, the stock dividend belongs to the life
tenant; if the court finds that the stock dividend was paid from
capital or from profits earned before the decedent's death, the
stock dividend belongs to the remainderman.

															This Court adopted in Gibbons v. Mahon as the rule of
administration for the District of Columbia the so-called
Massachusetts rule, the opinion being delivered in 1890 by Mr.
Justice Gray. Since then, the same question has come up for
decision in many of the states. The so-called Massachusetts rule,
although approved by this Court, has found favor in only a few
states. The so-called Pennsylvania rule, on the other hand, has
been adopted since by so many of the states (including New York and
California) that it has come to be known as the "American rule."
Whether, in view of these facts and the practical results of the
operation of the two rules as shown by the experience of the 30
years which have elapsed since the decision in Gibbons v.
Mahon, it might be desirable for this Court to reconsider the
question there decided, as Page 252 U. S. 236 some other courts have done ( see 29 Harvard Law Review
551), we have no occasion to consider in this case. For, as this
Court there pointed out (p. 136 U. S.
560 ), the question involved was one "between the owners
of successive interests in particular shares," and not, as in Bailey v. Railroad
Co. , 22 Wall. 604, a question

															"between the corporation and the government, and [which]
depended upon the terms of a statute carefully framed to prevent
corporations from evading payment of the tax upon their
earnings."

															We have, however, not merely argument; we have examples which
should convince us that "there is no inherent, necessary and
immutable reason why stock dividends should always be treated as
capital." Tax Commissioner v. Putnam, 227 Mass. 522, 533.
The Supreme Judicial Court of Massachusetts has steadfastly
adhered, despite ever-renewed protest, to the rule that every stock
dividend is, as between life tenant and remainderman, capital, and
not income. But, in construing the Massachusetts Income Tax
Amendment, which is substantially identical with the federal
amendment, that court held that the legislature was thereby
empowered to levy an income tax upon stock dividends representing
profits. The courts of England have, with some relaxation, adhered
to their rule that every extraordinary dividend is, as between life
tenant and remainderman, to be deemed capital. But, in 1913, the
Judicial Committee of the Privy Council held that a stock dividend
representing accumulated profits was taxable like an ordinary cash
dividend, Swan Brewery Co., Ltd. v. Rex, [1914] A.C. 231.
In dismissing the appeal, these words of the Chief Justice of the
Supreme Court of Western Australia were quoted (p. 236), which show
that the facts involved were identical with those in the case at
bar:

															"Had the company distributed the �101,450 among the
shareholders, and had the shareholders repaid such sums to the
company as the price of the 81, 160 new shares, the duty on the
�101,450 Page 252 U. S. 237 would clearly have been payable. Is not this virtually the
effect of what was actually done? I think it is." Sixth. If stock dividends representing profits are held
exempt from taxation under the Sixteenth Amendment, the owners of
the most successful businesses in America will, as the facts in
this case illustrate, be able to escape taxation on a large part of
what is actually their income. So far as their profits are
represented by stock received as dividends, they will pay these
taxes not upon their income, but only upon the income of their
income. That such a result was intended by the people of the United
States when adopting the Sixteenth Amendment is inconceivable. Our
sole duty is to ascertain their intent as therein expressed.
[ Footnote 7 ] In terse,
comprehensive language befitting the Constitution, they empowered
Congress "to lay and collect taxes on incomes from whatever source
derived." They intended to include thereby everything which by
reasonable understanding can fairly be regarded as income. That
stock dividends representing profits are so regarded not only by
the plain people, but by investors and financiers and by most of
the courts of the country, is shown beyond peradventure by their
acts and by their utterances. It seems to me clear, therefore, that
Congress possesses the power which it exercised to make dividends
representing profits taxable as income whether the medium in which
the dividend is paid be cash or stock, and that it may define, as
it has done, what dividends representing Page 252 U. S. 238 profits shall be deemed income. It surely is not clear that the
enactment exceeds the power granted by the Sixteenth Amendment.
And, as this Court has so often said, the high prerogative of
declaring an act of Congress invalid should never be exercised
except in a clear case. [ Footnote
8 ]

															"It is but a decent respect due to the wisdom, the integrity,
and the patriotism of the legislative body by which any law is
passed to presume in favor of its validity until its violation of
the Constitution is proved beyond all reasonable doubt." Ogden v.
Saunders , 12 Wheat. 213, 25 U. S.
269 .

															MR. JUSTICE CLARKE concurs in this opinion.

															[ Footnote 1 ]

															Moody's p. 1544; Commercial and Financial Chronicle, Vol. 94, p.
831; Vol. 98, pp. 1005, 1076.

															[ Footnote 2 ]

															Moody's, p. 1548; Commercial and Financial Chronicle, Vol. 94,
p. 771; Vol. 96, p. 1428; Vol. 97, p. 1434; Vol. 98, p. 1541.

															[ Footnote 3 ]

															Moody's, p. 1547; Commercial and Financial Chronicle, Vol. 97,
pp. 1589, 1827, 1903; Vol. 98, pp. 76, 457; Vol. 103, p. 2348.
Poor's Manual of Industrials (1918), p. 2240, in giving the
"comparative income account" of the company, describes the 1914
dividend as "stock dividend paid (200 percent) -- $2,000,000," and
describes the 1917 dividend as "$3,000,000 special cash
dividend."

															[ Footnote 4 ] See Some Judicial Myths, by Francis M. Burdick, 22
Harvard Law Review, 393, 394-396; The Firm as a Legal Person, by
William Hamilton Cowles, 57 Cent.L.J. 343, 348; The Separate
Estates of Non-Bankrupt Partners, by J. D. Brannan, 20 Harvard Law
Review, 589-592. Compare Harvard Law Review, Vol. 7, p.
426; Vol. 14, p. 222; Vol. 17, p. 194.

															[ Footnote 5 ]

															The hardship supposed to have resulted from such a decision has
been removed in the Revenue Act of 1916 as amended, by providing in
§ 31b that such cash dividends shall thereafter be exempt from
taxation if, before they are made, all earnings made since February
28, 1913, shall have been distributed. Act Oct. 3, 1917, c. 63, §
1211, 40 Stat. 338, Act Feb. 24, 1919, c. 18, § 201(b), 40 Stat.
1059.

															[ Footnote 6 ] Compare Rugg, C.J., in Tax Commissioner v.
Putnam, 227 Mass. 522, 533:

															"However strong such an argument might be when urged as to the
interpretation of a statute, it is not of prevailing force as to
the broad considerations involved in the interpretation of an
amendment to the Constitution adopted under the conditions
preceding and attendant upon the ratification of the forty-fourth
amendment."

															[ Footnote 7 ] Compare Rugg, C.J., Tax Commissioner v.
Putnam, 227 Mass. 522, 524:

															"It is a grant from the sovereign people, and not the exercise
of a delegated power. It is a statement of general principles, and
not a specification of details. Amendments to such a charter of
government ought to be construed in the same spirit and according
to the same rules as the original. It is to be interpreted as the
Constitution of a state, and not as a statute or an ordinary piece
of legislation. Its words must be given a construction adapted to
carry into effect its purpose."

															[ Footnote 8 ]

															"It is our duty, when required in the regular course of judicial
proceedings, to declare an act of Congress void if not within the
legislative power of the United States; but this declaration should
never be made except in a clear case. Every possible presumption is
in favor of the validity of a statute, and this continues until the
contrary is shown beyond a rational doubt. One branch of the
government cannot encroach on the domain of another without danger.
The safety of our institutions depends in no small degree on a
strict observance of this salutary rule." The Sinking Fund Cases, 99 U. S.
700 , 99 U. S. 718 (1878). See also Legal Tender
Cases , 12 Wall. 457, 79 U. S. 531 (1870); Trade-Mark Cases, 100 U. S.
82 , 100 U. S. 96 (1879). See American Doctrine of Constitutional Law by
James B. Thayer, 7 Harvard Law Review 129, 142.

															"With the exception of the extraordinary decree rendered in the Dred Scott case, . . . all of the acts or the portions of
the acts of Congress invalidated by the courts before 1868 related
to the organization of courts. Denying the power of Congress to
make notes legal tender seems to be the first departure from this
rule."

															Haines, American Doctrine of Judicial Supremacy, p. 288. The
first legal tender decision was overruled in part two years later
(1870), Legal Tender
Cases , 12 Wall. 457, and again in 1883, Legal
Tender Case, 110 U. S. 421 .

Summary: In Eisner v. Macomber, the U.S. Supreme Court ruled that Congress cannot tax stock dividends as income without apportionment, even with the 16th Amendment. The Court defined income as gains from capital or labor and distinguished it from mere growth in value. This decision interpreted the 16th Amendment narrowly, prioritizing original constitutional principles.


U.S. Supreme Court Lucas v. Earl, 281
U.S. 111 (1930) Lucas v. Earl No. 99 Argued March 3, 1930 Decided March 17,
1930 281
U.S. 111 CERTIORARI TO THE CIRCUIT COURT OF
APPEALS FOR THE NINTH
CIRCUIT Syllabus Under the Revenue Act of 1918, which taxes the income of every
individual, including "income derived from salaries, wages, or
compensation for personal service . . . of whatever kind and in
whatever form paid," the income of a husband by way of salary and
attorney's fees is taxable to him notwithstanding that, by a
contract between him and his wife, assumed to be valid in
California where they reside, all their several earnings, including
salaries and fees, are to be received, held, and owned by both as
joint tenants. P. 281 U. S.
113 .

															30 F.2d 898 reversed.

															Certiorari, 280 U.S. 538, to review a judgment of the circuit
court of appeals which reversed a decision of the Board of Tax
Appeals upholding a tax upon the respondent's income. Page 281 U. S. 113 MR. JUSTICE HOLMES delivered the opinion of the Court.

															This case presents the question whether the respondent, Earl,
could be taxed for the whole of the salary and attorney's fees
earned by him in the years 1920 and 1921, or should be taxed for
only a half of them in view of a contract with his wife which we
shall mention. The Commissioner of Internal Revenue and the Board
of Tax Appeals imposed a tax upon the whole, but their decision was
reversed by the circuit court of appeals, 30 F.2d 898. A writ of
certiorari was granted by this Court.

															By the contract, made in 1901, Earl and his wife agreed

															"that any property either of us now has or may hereafter Page 281 U. S. 114 acquire . . . in any way, either by earnings (including
salaries, fees, etc.), or any rights by contract or otherwise,
during the existence of our marriage, or which we or either of us
may receive by gift, bequest, devise, or inheritance, and all the
proceeds, issues, and profits of any and all such property shall be
treated and considered, and hereby is declared to be received,
held, taken, and owned by us as joint tenants, and not otherwise,
with the right of survivorship."

															The validity of the contract is not questioned, and we assume it
to be unquestionable under the law of the California, in which the
parties lived. Nevertheless we are of opinion that the Commissioner
and Board of Tax Appeals were right.

															The Revenue Act of 1918 approved February 24, 1919, c. 18, §§
210, 211, 212(a), 213(a), 40 Stat. 1057, 1062, 1064, 1065, imposes
a tax upon the net income of every individual including "income
derived from salaries, wages, or compensation for personal service
. . . of whatever kind and in whatever form paid," § 213(a). The
provisions of the Revenue Act of 1921, c. 136, 42 Stat. 227, 233,
237, 238, in sections bearing the same numbers are similar to those
of the above. A very forcible argument is presented to the effect
that the statute seeks to tax only income beneficially received,
and that, taking the question more technically, the salary and fees
became the joint property of Earl and his wife on the very first
instant on which they were received. We well might hesitate upon
the latter proposition, because, however the matter might stand
between husband and wife, he was the only party to the contracts by
which the salary and fees were earned, and it is somewhat hard to
say that the last step in the performance of those contracts could
be taken by anyone but himself alone. But this case is not to be
decided by attenuated subtleties. It turns on the import and
reasonable construction of the taxing act. There is no doubt that
the statute could tax salaries to those who earned them, and Page 281 U. S. 115 provide that the tax could not be escaped by anticipatory
arrangements and contracts, however skillfully devised, to prevent
the salary when paid from vesting even for a second in the man who
earned it. That seems to us the import of the statute before us,
and we think that no distinction can be taken according to the
motives leading to the arrangement by which the fruits are
attributed to a different tree from that on which they grew.

															Judgment reversed.

															THE CHIEF JUSTICE took no part in this case.

Summary: The Supreme Court ruled that a husband's income from salary and attorney's fees is taxable to him, despite a contract with his wife treating their earnings as joint property. The Revenue Act of 1918 taxes the income of individuals, including salaries and compensation for personal services, and the Court interpreted the Act to tax income to those who earned it, regardless of subsequent arrangements.