G.R. No. L-28398 - Commissioner of Internal Revenue vs. Manning

Manila Trading and Supply Co. (MANTRASCO) had an authorized capital stock of P2,500,000 divided into 25,000 common shares in 1952.
Julius S. Reese owned 24,700 shares; respondents John L. Manning, W.D. McDonald and E.E. Simmons each owned 100 shares.
On February 29, 1952, Reese (OWNER), MANTRASCO (COMPANY), the law firm Ross, Selph, Carrascoso & Janda (TRUSTEES), and the three respondents (MANAGERS) executed a trust agreement:

OWNER and MANAGERS were to deposit their shares with TRUSTEES, including future stock dividends or replacement shares.
TRUSTEES held the deposited shares, voted them, received dividends, and controlled declaration of dividends and election of directors.
Upon OWNER’s death, TRUSTEES would oversee the sale of OWNER’S SHARES back to the COMPANIES at book value, with dividends credited against purchase price, and adjust the unpaid balance to ensure fair value.
MANAGERS were restricted from selling or encumbering shares until delivery.

Reese died on October 19, 1954. Initial payment for his shares was delayed for lack of funds.
On February 2, 1955, MANTRASCO made a partial payment; the 24,700-share certificate in Reese’s name was cancelled, reissued to MANTRASCO, then endorsed to TRUSTEES.
From 1956 to 1961 MANTRASCO paid Reese’s estate various amounts on account of the purchase price of his shares (total payments decreasing annual liabilities).

On December 22, 1958, MANTRASCO stockholders adopted a resolution treating the 24,700 shares held in “Treasury” as a stock dividend, distributing them among all shareholders of record, including the three respondents.
The respondents received one-third of the 24,700 shares each, valuing their allocation at P7,973,660, which they did not declare as income for 1958.
A 1962 BIR examination concluded the distribution was equivalent to a cash distribution of corporate earnings and recommended taxation of P7,973,660 as income for each respondent.
On April 14, 1965, Commissioner issued deficiency income tax assessments for 1958 against each respondent, including surcharge and interest.
Respondents appealed to the Court of Tax Appeals (CTA), which in October 1967 absolved them, finding their proportional interest unchanged by the stock dividend.

Whether the 24,700 shares declared as a “treasury stock dividend” were in fact treasury shares and whether their distribution to the respondents constituted a taxable dividend.
Whether the use of MANTRASCO’s earnings to fund the purchase of Reese’s shares and the form of a stock dividend on those shares could be treated as a distribution of earnings taxable to the respondents.
Whether the Commissioner properly assessed the respondents on the full book value of P7,973,660 in one lump sum, including surcharge and interest.