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Kingsley v. Hawthorne Fabrics Inc.

Decided: February 17, 1964.

WILLIAM KINGSLEY, DIRECTOR OF THE DIVISION OF TAXATION IN THE DEPARTMENT OF THE TREASURY OF THE STATE OF NEW JERSEY, APPELLANT,
v.
HAWTHORNE FABRICS, INC., ET AL., RESPONDENTS



For affirmance -- Chief Justice Weintraub, and Justices Jacobs, Francis, Proctor, Hall, Schettino and Haneman. For reversal -- None. The opinion of the court was delivered by Proctor, J.

Proctor

Hawthorne Fabrics, Inc. (Hawthorne), a New Jersey corporation, is engaged in the business of processing, as well as jobbing, synthetic fabrics. Isaac Brawer and Matilda Brawer, his wife, are the holders of all the capital stock of Hawthorne. Brawer Bros. Silk Co. (Brawer), also a New Jersey corporation, is a jobber and dealer in synthetic yarns. Irving and Louis Brawer, brothers of Isaac Brawer, are the sole stockholders of Brawer. Neither Isaac nor Matilda Brawer has ever owned any Brawer stock, nor has Irving or Louis Brawer ever owned any stock of Hawthorne. Neither Irving nor Louis Brawer resides with Isaac and Matilda Brawer.

Hawthorne is one of over 300 customers of Brawer and buys yarn on open account in the ordinary course of business from it under normal trade terms of 120 days. Payment is made on the bills issued for such purchases as they mature. On December 31, 1957 there was an unpaid indebtedness due from Hawthorne to Brawer in the amount of $228,403 for goods sold and delivered in the ordinary course of business.

Upon an audit of the 1958 Corporation Franchise Tax Return filed by Hawthorne in accordance with the requirements of the Corporation Business Tax Act (1945), N.J.S.A. 54:10A-1 et seq., the Director of the Division of Taxation adjusted the net worth reported by Hawthorne by adding thereto the debt of $228,403 owed by Hawthorne to Brawer. A deficiency of $336.20 based on the adjusted net worth was assessed by the Director and was paid by Hawthorne, which subsequently appealed the assessment to the Division of Tax Appeals.

On that appeal Hawthorne contended that the Director had improperly interpreted the statutory provisions regarding the inclusion in net worth of an "indebtedness owing directly or indirectly" to a 10% stockholder or to "members of his immediate family." The pertinent statute is N.J.S.A. 54:10A-4(d), (e), which provides:

"(d) 'Net worth' shall mean the aggregate of the values disclosed by the books of the corporation for (1) issued and outstanding capital stock, (2) paid-in or capital surplus, (3) earned surplus and undivided profits, (4) surplus reserves which can reasonably be expected to accrue to holders or owners of equitable shares, not including reasonable valuation reserves, such as reserves for depreciation or obsolescence or depletion, and (5) the amount of all indebtedness owing directly or indirectly to holders of 10% or more of the aggregate outstanding shares of the taxpayer's capital stock of all classes, as of the close of a calendar or fiscal year. * * *

(e) 'Indebtedness owing directly or indirectly' shall include, without limitation thereto, all indebtedness owing to any stockholder or shareholder and to members of his immediate family where a stockholder and member of his immediate family together or in the aggregate own 10% or more of the aggregate outstanding shares of the taxpayer's capital stock of all classes."

The Division of Tax Appeals concluded that Hawthorne's indebtedness to Brawer was not an "indebtedness owing directly or indirectly to holders of 10% or more of the aggregate outstanding shares" of Hawthorne, for the reason that Irving and Louis Brawer, although brothers of Isaac, were not members of his "immediate family" since they did not reside in his household. Accordingly, judgment was entered

ordering the return to Hawthorne of the additional tax paid by it as a result of the inclusion in net worth of the debt due Brawer. Thereafter, the Director moved to reopen, reconsider, modify or vacate the judgment on the grounds that the Division of Taxation had consistently interpreted the provision to apply to indebtedness owed to brothers of a 10% stockholder and that, in fact, deficit financing was being used by Hawthorne. The motion was denied by the Division of Tax Appeals.

The Director of the Division of Taxation appealed to the Appellate Division, and while the matter was pending there we certified the cause on our own motion. R.R. 1:10-1(a).

The question presented on this appeal is whether a brother of a 10% (or more) stockholder of a taxpayer corporation, who does not reside in the same household with the stockholder, is a member of his "immediate ...


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