Eisner vs. Macomber

A stock dividend that merely capitalizes accumulated surplus by transferring it to the capital account, without severing any gain from the corporation's property or adding separate property to the shareholder's estate, does not constitute "income" within the meaning of the Sixteenth Amendment and cannot be taxed without constitutional apportionment.

Following the ratification of the Sixteenth Amendment in 1913, which authorized Congress to tax income from whatever source derived without apportionment, Congress enacted the Revenue Act of 1916 imposing taxes on various forms of income including stock dividends. This case arose during the judicial interpretation of the constitutional scope of the income taxing power, specifically addressing whether the Sixteenth Amendment permitted the taxation of stock dividends as income or whether such taxation remained subject to the constitutional requirement of apportionment applicable to direct taxes.

• Myrtle H. Macomber owned shares in the Standard Oil Company of California and received a stock dividend representing accumulated surplus profits earned by the corporation since March 1, 1913.
• The stock dividend was made lawfully and in good faith against profits accumulated by the corporation, resulting in a proportional increase in Macomber's shareholding without any distribution of cash or other property.
• The Collector of Internal Revenue assessed and demanded payment of federal income tax on the stock dividend under the provisions of the Revenue Act of September 8, 1916.
• Macomber paid the assessed tax under protest and subsequently filed suit to recover the amount, asserting that the stock dividend did not constitute taxable income within the meaning of the Sixteenth Amendment to the Constitution.
• The stock dividend operated merely as a transfer of accumulated surplus to the capital account of the corporation, taking nothing from the property of the corporation and adding nothing to the separate property of the shareholder.

• The Collector of Internal Revenue argued that Congress possessed the constitutional power under the Sixteenth Amendment to tax stock dividends as income without apportionment among the states according to population.
• The petitioner contended that stock dividends represented an increase in the shareholder's wealth and capital, constituting a gain or profit derived from capital that fell within the statutory definition of income enacted by Congress in the Revenue Act of 1916.
• The argument asserted that the Sixteenth Amendment removed all constitutional limitations regarding apportionment for taxes on income, thereby granting Congress broad authority to define and tax any form of economic gain or benefit derived from capital as income.
• The petitioner maintained that the substance of the transaction indicated an increase in the taxpayer's economic interest and wealth, rendering it subject to taxation regardless of the form in which the gain was realized.

• Myrtle H. Macomber argued that a stock dividend merely representing a transfer of accumulated surplus to the capital account does not constitute income within the constitutional meaning of the Sixteenth Amendment.
• The respondent contended that income must be something severed from capital and received by the taxpayer for their separate use, benefit, and disposal, whereas a stock dividend merely changed the form of the capital investment without realizing any actual gain severed from the capital.
• The argument asserted that the stock dividend added nothing to the shareholder's property and took nothing from the corporation, representing merely a bookkeeping transfer that increased the capital account while decreasing the surplus account by an equal amount, leaving the shareholder's proportional interest unchanged.
• The respondent maintained that taxing stock dividends as income without apportionment violated Article I, Sections 2 and 9 of the Constitution, as such dividends constituted an increase in capital rather than income, and therefore required apportionment among the states to be constitutionally valid.

• Procedural Issues: N/A
• Substantive Issues: Whether a stock dividend representing merely a transfer of accumulated surplus to the capital account of a corporation constitutes "income" within the meaning of the Sixteenth Amendment to the Constitution, and whether Congress has the constitutional power to tax such dividends without apportionment among the states according to population.

• Procedural: N/A
• Substantive: The Supreme Court held that a stock dividend merely transferring accumulated surplus to the capital account does not constitute income within the meaning of the Sixteenth Amendment. The Court defined income as the gain derived from capital, from labor, or from both combined, essentially representing a gain or profit of exchangeable value proceeding from capital, severed from it, and derived or received by the taxpayer for their separate use, benefit, and disposal. The Court ruled that mere growth or increment of value in a capital investment is not income, and since the stock dividend took nothing from the corporation's property and added nothing to the shareholder's separate property, it represented merely a capital increase rather than income. Consequently, the Revenue Act of 1916, to the extent it imposed taxes on such dividends, was in conflict with Article I, Section 2, Clause 3 and Article I, Section 9, Clause 4 of the Constitution requiring apportionment of direct taxes, and the Sixteenth Amendment could not be extended by construction to authorize such taxation without apportionment.

• Definition of Income — Income is defined as the gain derived from capital, from labor, or from both combined, including profit gained through sale or conversion of capital. 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 their separate use, benefit, and disposal. The Court applied this doctrine to hold that stock dividends merely capitalizing surplus do not sever any gain from capital and therefore do not constitute income.
• Capital vs. Income Distinction — Mere growth or increment of value in a capital investment is not income. The Court distinguished between an increase in the value of capital and income properly so called, holding that until a gain is severed from capital and realized by the taxpayer for their separate use, it remains capital and not income subject to taxation under the Sixteenth Amendment.
• Constitutional Limitations on Taxing Power — The Sixteenth Amendment does not extend the taxing power of Congress beyond its previous limitations except to remove the requirement of apportionment for taxes on income. The Court held that the provisions of Article I, Sections 2 and 9 necessarily limit the extension of the Sixteenth Amendment by construction, meaning that only true income can be taxed without apportionment, and taxes on capital increases remain subject to the constitutional requirement of apportionment.

• "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."
• "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."
• "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."
• "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."

• Towne v. Eisner, 245 U.S. 418 — Cited as controlling precedent where the Court previously held that a stock dividend made against profits accumulated since March 1, 1913, was not income within the meaning of the Revenue Act of 1913, and reaffirmed in this decision regarding the constitutional definition of income.

• Sixteenth Amendment to the United States Constitution — Cited as the constitutional provision granting Congress the power to lay and collect taxes on income from whatever source derived without apportionment among the states; the Court interpreted the scope of "income" under this amendment to exclude stock dividends that merely capitalize surplus.
• Article I, Section 2, Clause 3 of the United States Constitution — Cited as requiring direct taxes to be apportioned among the several states according to their respective numbers; the Court held that taxes on stock dividends, being taxes on capital increases rather than income, must comply with this apportionment requirement.
• Article I, Section 9, Clause 4 of the United States Constitution — Cited as prohibiting the laying of direct taxes unless in proportion to the census or enumeration; the Court held that the Revenue Act of 1916 conflicted with this provision to the extent it taxed stock dividends as income without apportionment.
• Revenue Act of September 8, 1916, c. 463, 39 Stat. 756 — Cited as the statutory provision attempting to tax stock dividends as income; the Court held this act unconstitutional to the extent it imposed such taxes without apportionment.