1. Under the Revenue Act of 1924, § 206, a loss not
"attributable to the operation of a trade or business regularly
carried on by the taxpayer" is not deductible in computing his net
income for the year following that in which the loss occurred. P.
287 U. S.
2. As a general rule, for tax purposes, a corporation is an
entity distinct from its stockholders. P. 287 U. S. 410
Page 287 U. S. 405
3. A taxpayer organized a corporation for the purpose of
manufacturing and marketing his patented articles. He purchased all
of the capital stock, expecting to sell the shares at a profit. He
took active charge of the affairs of the corporation, but his
individual time was devoted in large part to matters of invention.
The corporation's business was unprofitable from the start, and the
taxpayer withdrew no money from it. From time to time, he made
loans to the corporation to pay its debts and carry on its
business, these loans appeared on its books, unpaid; credits were
placed to his salary account; the corporation and he filed separate
income tax returns; in his personal return he had claimed a
reduction on account of bad debts due from it. The business failed,
and the corporation was dissolved. In his return for 1925, the
taxpayer claimed as a loss deductible for that year the amount paid
for the capital stock.
The loss was not "attributable to the operation of a trade or
business regularly carried on by the taxpayer," within the meaning
of § 206 of the Revenue Act of 1924, and, having been sustained in
1924, could not be offset against a gain in 1925. Pp. 287 U. S.
56 F.2d 16 affirmed.
Certiorari, 286 U.S. 541, to review a judgment which reversed a
judgment of the district court in favor of the petitioners here in
an action to recover money paid as income taxes.
MR. JUSTICE McREYNOLDS delivered the opinion of the Court.
For twenty-five years, petitioner Dalton has busied himself with
physical research and invention; he has devised and patented
hundreds of articles. A large income from sundry sources has
enabled him to lay out considerable sums in connection with his
inventions; the inventions
Page 287 U. S. 406
brought in no net profit after 1914. During the five years
following 1912, he caused the organization of six separate
corporations and transferred to each certain patents for
exploitation. The last of these -- the Dalton Manufacturing
Corporation -- was incorporated under the laws of New York in 1917;
he paid for all the capital stock -- $395,000; became a director,
president, treasurer, and controlled its affairs. No other person
was financially interested. He testified that his primary purpose
in this venture was to perfect his sundry models and patented
articles and sell the corporate shares profitably; he thought it
would be better to market such articles through the corporation, to
have the business in corporate form; he considered the corporation
as a branch or part of his own business as an inventor and dealer
in patents, etc. -- as a means to an end, an instrumentality of his
purpose. Also that he believed it essential thus to have his
inventions manufactured and brought before the public; the
corporations were used in order to develop and improve his
The manufacturing corporation promptly took over certain Dalton
patents, manufactured the articles, and sought to sell them. The
petitioner endeavored to sell the corporate shares and thereby to
obtain gain. From time to time, he advanced large sums to pay debts
and carry on the corporate business. These loans appeared on the
books, but were not repaid. For six years, credits were placed to
his salary account; he withdrew nothing. In 1924, the corporation
became hopelessly insolvent, and during 1925 passed out of
existence. The evidence indicates losses during several preceding
years. All creditors were paid by petitioner.
The corporation and Dalton made separate returns for federal
income taxes. In 1923 and 1924, he claimed large deductions --
$157,035.50 and $162,309.24 -- on account of bad debts due from
Page 287 U. S. 407
In their joint income return for 1925, Dalton and his wife
claimed a deduction of $395,000 -- the full amount paid for the
then worthless shares of the manufacturing corporation. The
Commissioner ruled that this loss occurred in 1924. Adjustments for
that year showed $374,000 net loss by the Daltons. The Commissioner
refused to apply this upon their 1925 return because not
attributable to the operation of a trade or business regularly
carried on by the taxpayer. If so applied, there would have been no
taxable income for that year. Payment of $56,841.32 was demanded
and made under protest. This suit to recover followed.
Petitioners maintain that the $395,000 loss, adjudged by the
collector to have occurred in 1924, was sustained in a trade or
business regularly carried on by Mr. Dalton; consequently, the net
loss for that year -- $374,078.98 -- should have been deducted from
the 1925 income under terms of the Revenue Act of 1924, § 206(a)
and (b), and Treasury Regulations 65, Article 1621. The District
Court accepted their view; the Circuit Court of Appeals held
otherwise. 56 F.2d 16.
The latter court said (p. 18):
"There is no justification for saying that the business of the
corporation was that of the appellee. During the period, the
appellee dealt with the corporation as an entity. When he paid the
debts of the corporation, he drew on his personal account in favor
of the corporation's account, and this made the corporation his
debtor. Separate tax returns were filed by the corporation and by
the appellee. He purchased the capital stock with the intention of
disposing of it to the public. His individual time was spent in
large part in matters of invention. . . . The loss now sought to be
deducted was an investment which he made in the corporation, and
did not occur in the operation of the trade or business regularly
carried on by the appellee. . . . "
Page 287 U. S. 408
"By the statute, allowing the deductions and carrying over the
loss for two years, Congress intended to give relief to persons
engaged in an established business for losses incurred during a
year of depression in order to equalize taxation in the two
succeeding and more profitable years. It was not intended to apply
to occasional or isolated losses. . . ."
"This taxpayer did not regard the business losses of the Dalton
Manufacturing Company as his loss. The loss sustained by the
appellee which he seeks to charge off is a capital investment loss.
The rule is well settled that the corporation will be looked upon
as a legal entity. . . ."
56 F.2d 16, 18.
We agree with the conclusion of the Circuit Court of Appeals,
and its judgment must be affirmed.
The Revenue Act of 1924, c. 234, 43 Stat. 253 (260 U.S.C. Title
26, § 937), provides:
"Sec. 206: (a) As used in this section, the term 'net loss'
means the excess of the deductions allowed by section 214 or 234
over the gross income, with the following exceptions and
"(1) Deductions otherwise allowed by law not attributable to the
operation of a trade or business regularly carried on by the
taxpayer shall be allowed only to the extent of the amount of the
gross income not derived from such trade or business;"
"(2) In the case of a taxpayer other than a corporation,
deductions for capital losses otherwise allowed by law shall be
allowed only to the extent of the capital gains. . . ."
"(b) If, for any taxable year, it appears upon the production of
evidence satisfactory to the Commissioner that any taxpayer has
sustained a net loss, the amount thereof shall be allowed as a
deduction in computing the net income of the taxpayer for the
succeeding taxable year (hereinafter in this section called 'second
year') and if such net loss is in excess of such net income
Page 287 U. S. 409
without such deduction), the amount of such excess shall be
allowed as a deduction in computing the net income for the next
succeeding taxable year (hereinafter in this section called 'third
year'); the deduction in all cases to be made under regulations
prescribed by the commissioner with the approval of the
In the courts below, the petitioners unsuccessfully insisted
that the loss upon sale of the corporate shares occurred in 1925,
and should be offset against gains received during that year. Here,
that insistence is not renewed.
The claim of right to offset the net loss of 1924 against 1925
gains cannot prevail unless the requirements of the quoted section,
Revenue Act of 1924, are met -- the loss must have been
"attributable to the operation of a trade or business regularly
carried on by the taxpayer."
In support of their position, petitioners say:
The losses of the manufacturing corporation were not the losses
of the taxpayers. They do not seek to disregard the corporate
entity, but respect it. Taken as a whole, this entity constituted a
part of the individual trade or business of Hubert Dalton. His
trade or business was not merely that of inventing; it included
exploiting of his inventions, putting them on a paying basis by
developing, manufacturing, improving, and selling them through
corporations organized for that special purpose. All of these
things formed a complete, comprehensive enterprise of which the
corporation was part. It was an instrumentality of the taxpayer's
business. Consequently, the investment in the corporate shares was
part of business regularly carried on.
Whether theoretically valid or not, this argument rests upon
assumptions out of harmony with the facts disclosed by the record.
Dalton was not regularly engaged in the business of buying and
selling corporate stocks. He organized the manufacturing
corporation, and took over
Page 287 U. S. 410
all its shares with the intention of selling them at a profit.
He treated it as something apart from his ordinary affairs,
accepted credits for salaries as an officer, claimed loss to
himself because of loans to it which had become worthless, and
caused it to make returns for taxation distinct from his own.
Nothing indicates that he regarded the corporation as his agent
with authority to contract or act in his behalf. Ownership of all
the stock is not enough to show that creation and management of the
corporation was a part of his ordinary business. Certainly, under
the general rule for tax purposes, a corporation is an entity
distinct from its stockholders, and the circumstances here are not
so unusual as to create an exception.