United States v. Midland-Ross Corporation

PETITIONER:United States
RESPONDENT:Midland-Ross Corporation
LOCATION:Point of picking up hitchhiker

DECIDED BY: Warren Court (1962-1965)
LOWER COURT: United States Court of Appeals for the Sixth Circuit

CITATION: 381 US 54 (1965)
ARGUED: Mar 31, 1965
DECIDED: May 03, 1965

Facts of the case


Audio Transcription for Oral Argument – March 31, 1965 in United States v. Midland-Ross Corporation

Earl Warren:

Number 628, United States versus Midland-Ross Inc.

Mr. Goodman.

Frank I. Goodman:

Mr. Chief Justice may it please the Court.

This case presents essentially the same issue as the last case.

The respondent here is an Industrial Corporation which in 1952, 1953, and 1954 advanced large sums of money to financial institutions such as the Commercial Credit Company and CIT in exchange for notes of those Institutions.

The notes, 13 in number were all payable in less than a year.

While they did not in terms provide for the payment of interest, all were issued at a discount, usually, between 2.0% and 2.5%, on an annual basis, the notes were typically in face amounts of $1 million or $2 million.

In each instance, the respondents sold the note to a bank a few days prior to its maturity, realizing a total gain of about $280,000, all of which was attributable to the discount at which they were originally issued.

Taxpayer reported this gain on its tax returns as capital gain.

Commission had determined however, that the excess of the face amount of the notes over the amount at which they were issued represented interest, and since the notes were also within the taxable year, he treated the entire gain realized on the sale of the notes as ordinary income.

Now, I should note parenthetically here that Midland-Ross, like Dixon and the lot like the Dixon, petitioners in the last case, were on the accrual basis and therefore, logically, they should have been required to accrue the interest as it was earned prior to the sales, but since — and irrespective of whether the notes were sold or not.

But since in this case, the notes were all in fact sold within the tax year, the result is exactly the same whether you treat them as having accrued the interest as it was earned or simply as having realized the interest upon the sale of the notes.

The respondent paid the resulting deficiencies and brought suit for refund.

The District Court held that the gain was all capital gain and the Sixth Circuit affirmed per curiam, citing its earlier decision on the Caulkins case.

Here as in Dixon, the taxpayer does not seriously dispute the fact that discount and stated interested are in substance identical.

The taxpayer argues though that Congress intended that it nonetheless to be treated differently.

The argument I think goes something like this.

Prior to 1954, it was the practice of the Internal Revenue Service to treat original issued discount differently from interest and to treat it as a capital item upon the sale of the notes.

That this practice was confirmed by a 1927 decision of the Board of Tax Appeal, and was impliedly ratified by Congress through its failure to enact a general statute authorizing equality of treatment or the same treatment for interest and discount and we think that this presents a holy misleading picture of the pre-1954 law.

But before getting to that, I’d like to point out preliminarily, within view of the admittedly irrational results for which the respondent contends, it would require nothing less than the clearest statutory or judicial authority to justify that result.

Prior to 1954, apart from the Caulkins case which I’ve already discussed, there was no decision by this Court, by any Court of Appeals or even by any Federal District Court which even dealt with the treatment of original issue discount on the lender’s side and as I’ve suggested, all of the cases on the borrower’s side treated it as interest, most of them.

There are to be sure a number of administrative rulings and decisions for the Board of Tax Appeal on the treatment of discount on the lender’s side, but these are aligned on both sides of the question, some of them treating discount as interest, others treating it differently.

The fact to the matter is, that prior to 1954 when Congress provided a solution for the matter, there simply was no general rule, no general administrative practice as to the treatment of original issue discount.

At most, there were a number of special rules and special practices dealing with particular types of taxpayers, particular types of securities and particular aspects of the tax treatment.

One commentator writing in 1940 in the North Carolina Law Review, summarized the situation as it existed then in the following terms.

“Present federal practices involve on the surface at least a welter of theoretical inconsistencies.

Both administrators and judges have contributed to the State of Affairs and neither the Administrators nor the Board of Tax Appeals, nor the Federal Courts have ever undertaken a complete analysis of all these inconsistent practices in an attempt to show if or how they can be justified in relation to each other.”

So I don’t think it accurate to say that it was the Commissioner’s position prior to 1954 that original issue discount was a capital item to be differentiated from interest.

Now, a detailed analysis of this rather complicated history doesn’t lend itself very well to oral argument and we discuss it I think fully in our brief.

I would like to summarize those, some of the principle strands on the tapestry.

Frank I. Goodman:

First of all as I’ve indicated, the cases almost from the beginning held that original issue discount was deductible as interest by the borrower, the issuer.

Secondly, in the case of tax exempt state and municipal securities, it was recognized again almost from the very beginning that discount at which these exempt securities were issued would tantamount to interest and therefore, it too was made tax exempt.

This was not the result of statute I might underscore as it sometimes suggested, there was no federal statute dealing with the treatment of original issue discount on state and municipal securities.

The same solution was adopted by statute, however, with respect to Federal Treasury notes as early as 1929, the statute providing that the discount at which these non-interest bearing notes were issued should be considered as interest.

Even after that statutory exemption was removed, moreover, the Administrator continued to apply the principle that discounts was the same as interest with respect to these securities, because they issued a ruling requiring that this discount now be treated as taxable interest and amortized as such by the lending.

Thirdly, the rule with respect to bond discount was that discount was equivalent to interest and was to be treated as such.

That is, when a bond — when a bank – excuse me, I said bond discount, I meant bank discount.

When a bank lends money by purchasing the short-term of non-interest bearing note of a borrower, say he purchases for a $100, a $106 note from the borrower, that $6 increment has always been treated by the Commissioner as equivalent of interest and the bank has been required to accrue it as an interest if it was on the accrual basis.

Now I think this is significant because the kind of short-term non-interest bearing notes which was the subject of the rulings on bank discount are very, very similar in character to the short-term non-interest bearing notes involved in this case.

Potter Stewart:

Now in the example you just gave, the bank, what — what’s the rule if the bank is not on the accrual basis?

Frank I. Goodman:

If the bank is not on the accrual basis then, as any other cash basis taxpayers, it’s not required to account for the interest as it is earned over the life of the security, but (Voice Overlap) —

Potter Stewart:

In the — any year of the material note —

Frank I. Goodman:

Only on the year of sale.

Now in the case of a bank, the increment will of course would be treated as ordinary income because the bank is in business buying and selling —

Potter Stewart:


Frank I. Goodman:

— these items.

Potter Stewart:


Frank I. Goodman:

There would be no question about that in any event, but that wasn’t the reason for the rulings.

It’s quite clear if you read it, the 1925 ruling which is referred to and I think quoted in our brief, is simply that is an economic matter, interest and discount would be the same (Voice Overlap) — nothing is said about the bank’s paying in business.

Potter Stewart:

That reason is clear I suppose but nonetheless as you say it, it’s like a person — the real estate dealer, he doesn’t get the ordinary event because it’s a capital gains available of a case and also as a real estate.

Frank I. Goodman:

That’s right, but the ruling didn’t pertain to the treatment of the sale of a notes, whether it would be capital gain or ordinary income.

It pertains to whether or not it has to be amortized.

And on that question the Court said, this is the interest and like interest, it should be accrued.

Now there is authority that the Commissioner took a different view, there is some evidence that the Commissioner took a different view as to bond discount.

A 1920 ruling cited by Midland-Ross and also a 1927 decision of the Board of Tax Appeal held that bond discount was not required to be accrued by the lender even though it was accruable by the issuer.

It’s not entirely clear from those holdings whether the Commissioner or whether the Board of Tax Appeals had in mind original issue discount or only market discount, which of course would be the most prevalent form of discount on corporate bonds.

It’s also I would note, neither of these authorities says anything about question of capital gain or ordinary income upon the sale or redemption of the bond.

So, that there was a differentiation in treatment apparently between the discount on corporate bonds and the discount on short-term non-interest-bearing notes.

I don’t think it’s fair to say that the rule with respect to corporate bonds was the general rule, while all of the other strands of treatment that I’ve discussed represented some sort of out of the way exceptions.

There simply was no general rule and if anything, the type of securities involved in the present case are much closer to the short-term notes involving the bank holding and the bank rulings than they are to corporate bonds.

Frank I. Goodman:

There is I think an explanation for the differentiation of treatment between bonds and other forms of securities, or at least between interest-bearing and short — and the non-interest-bearing securities.

Corporate bonds are typically interest-bearing in character, the discount or premium element usually is very, very small.

It’s not intended as a substitute for the whole of the interest as it was in this case.

Usually, it represents a last-minute adjustment to conditions on the market place on the date of issue.

A second feature of bonds is the fact that they are relevantly long-term in character or long-term and therefore, change hands frequently on the marketplace before their redemption.

Now, a number of implications flow from these distinctions between bonds and short-term non-interest-bearing securities such as, have been held to give rise to interest, the discount element has been held equal to interest.

In the first place, since the discount is very small usually in the case of corporate bond, it may have been thought that it just wasn’t worth bothering about, it wasn’t worth requiring the burdens and computations in order to account for it as interest.

It may also have been thought, that because the banks — because the bonds change hands frequently during their life, it was unduly burdensome to require each successive holder to ascertain what the original discounts have been and to account for it.

These problems didn’t arise in the case of short-term notes which bore no interest.

Also, I think it quite probable that the equivalence, the economic equivalence of interest and discount was much more obvious in the case of non-interest-bearing notes than it was in the case of interest-bearing bonds which did carry a stated rate of interest and where you had to say that wasn’t the real interest.

What they said was the interest, wasn’t the real interest because of the discounted premium element.

I think that this goes far towards explaining also the differentiation of treatment between premium and discount.

Premium is invariably associated with interest-bearing securities and the fact that the Court has been reluctant to say that the nominal interest rate wasn’t the real interest rate, doesn’t necessarily mean that it would have been — but it would have said where you had a completely non-interest-bearing security, this security has no interest at all.

Potter Stewart:

Do you really think that these differentiations are explainable just in terms of the inability to get beyond the forced rate of interest because this is certainly, it doesn’t take much sophistication?

I don’t know but (Voice Overlap) —

Frank I. Goodman:

I agree —

Potter Stewart:

— rate of interest.

Frank I. Goodman:

I’m afraid I can’t thing of any rational explanation to the differentiation treatment, and this is a pragmatic explanation which I think makes some sense in terms of a practical —

Potter Stewart:

Of somebody in the second grade, it makes some sense?

Frank I. Goodman:

Well, the inability to recognize bond discount for what it was namely an additional interest paid to the lender does reflect I think considerable degree of naive test, but giving way to the pragmatic considerations to which I referred, the difficulty of making the computation from the case where a discount was small in relation to the stated interest and the difficulty of requiring subsequent holders of the bonds to make these computations, I think might well have the — it might justify (Voice Overlap) the differentiation, it might well have explained.

Potter Stewart:

Unwillingness to impose this so much burden of computation on something at this — probably —

Frank I. Goodman:


Potter Stewart:

— the matters in many cases.

Frank I. Goodman:

Well I think that is the most satisfactory explanation, but what I do suggest is that no one could ever have thought that corporate bonds issued without interest, 4% or 5% corporate bonds issued without stated interest but at a discount could yield the lender a capital gain treatment because if that were true, no other kind of bonds would ever have been issued.

A bond with a stated rate of interest which gave rise to ordinary income upon its sale or redemption, simply couldn’t have competed in the marketplace with funds issued at a discount which conferred this tax bonanza upon the lender.

If I might, I’d like to reserve the balance of my time —

Potter Stewart:

Can I ask you just a question now?

What business was this respondent in?

Frank I. Goodman:

In our case?

Potter Stewart:

Yes, that’s right, in this case.

Frank I. Goodman:

It was an industrial corporation, I frankly — I forgotten —

Potter Stewart:

It wasn’t in the business of buying and selling.

Frank I. Goodman:

No, it was not and as far as the record shows this is the only time that has happened.

Potter Stewart:

I see.

Byron R. White:

[Inaudible] it’s the same settle I think.

Frank I. Goodman:


We make no differentiation based upon accrual basis or cash basis or anything like that.

Earl Warren:

Mr. Colborn.

Theodore R. Colborn:

May it please the Court.

Mr. Goodman has very reasonably stated the facts of the Midland-Ross case quite fully.

In response to the last question I would like to point out that the excelled taxpayer here was Industrial Rayon Corporation which subsequently was merged into Midland-Ross.

It had accumulated very large funds for the purpose of building a new synthetic plant if it could figure out how to design something better than DuPont.

And during the period of 1952, 1953 and 1954, they was investing these dollar funds in whatever fairly liquid and assured investments would yield at the largest return for its stockholders.

And the notes in question, whereas Mr. Goodman said, mostly $1 million and $2 million notes issued by General Motors Acceptance Corporation and CIT for specific numbers of days which were picked out as a matter of negotiation between the treasurer of Industrial Rayon and the treasurer of these borrowing companies to best suit their convenience as to just when the money should first go from Industrial to GMAC and then come back.

The maturities were 67 days, 209 days, 267 days up to a maximum of 325 days.

And the price for the notes was negotiated having in mind what the going interest rate would be eligible.

The money had been loaned on a interest rate instead of being used to purchase these discount notes, but then was negotiated into an exact dollar and cents price which Industrial paid to GMAC or CIT for the million-dollar note.

Judge Kalbfleisch in the District Court wrote a very long and very careful opinion in this case including that despite the fact that this type of profit is similar to interest, it was not what Congress intended to be treated as interest, but rather was what Congress intended to be treated as capital gain.

In fact, it was stipulated in the record in the case that the taxpayer here had sold capital assets resulting in a gain and this is quite exactly what Section 117 and Section 111 of the 1939 Internal Revenue Code which applies said should be capital gain.

The government as we’re now hearing as taking the view now that although the treatment of this type of discount prior to 1954 has not been clear in the rulings, it should now be considered that this discount was interest as Mr. Goodman just said for the first time in all of his proceeding very clearly, that Industrial Rayon Corporation should have accrued the discount on these notes on a daily basis.

This has never been suggested in the earlier consideration in these matters.

The proposition was that when the bonds were sold that that gain, was not entitled to capital gains treatment, but if the interest is being accrued as you go along if there had been interest on it, there wouldn’t be any gain because if the view is that that this discount must be accrued as income day-by-day and month-by-month since it isn’t received in cash, it must be added to the basis of the property although there’s nothing in the statute that says you can add it to the basis of property and if you do add it to the basis of the property, by the time Industrial Rayon sold these notes, its cost to which would be added this theoretical interest which had never got but equal to what it gotten and would have had no gain.

Potter Stewart:

If the whole transaction were within one taxable year, there wouldn’t be any practical difference from the government’s point, if the government is right, would there be?

Theodore R. Colborn:

In most cases, Mr. Justice Stewart not, but in certain unusual situations, the difference whether something comes in as interest income on an accrual basis or instead comes in from the gain of sale of a property which is not a capital asset does make a difference and to me, it’s extremely important in revealing that when Congress did legislate about this, that it had – as we all know many, many opportunities to legislate prior to 1954 and when it did, it did not say that this discount should be treated as interest.

It did not say that the discount should be accrued.

It said exactly the contrary.

It said that when there is a gain from the sale of a discount obligation, a part of that gain equal to this calculated original issue discount shall be treated as gain from the sale of property which is not a capital asset, which bears very little similarity in its reasoning, no similarity on its reasoning to what the government is now arguing.

Actually, Mr. Goodman has very fairly in general recognized that there were rulings in many different fields here.

He has failed to mention that the most direct rulings, which though not published were widely known by businessmen and tax practitioners, the private rulings such as the two that are cited at the very end of our brief which did deal with bankers’ acceptances and bills of almost exactly the nature that are here and in which the Internal Revenue Service made it very clear in 1952 that they did not consider that the discount was the same as interest and in fact, recognized that upon the sale of such bills, there would be gain which would be created, presumably as capital gain.

Now —

Byron R. White:

How do you distinguish between — or do you between the discount and premium?

Theodore R. Colborn:

Certainly in the proper treatment of it, I can see no reason for distinguishing the — this Court in the —

Byron R. White:

Well the service in these two rulings — when were they issued, that you said you mentioned at the end of your brief, when were they issued?

Theodore R. Colborn:

1952, Sir.

Byron R. White:

So, they were treating discount as a capital item whereas premium in at least many circumstances that that were being treated under the 42 statute as an income item.

How about your — they must —

Theodore R. Colborn:

Forgive me Mr. Justice White.

I don’t consider that the fact that the taxpayer has expressly given the right to write off by way of amortization of the premium in any normal sense, it would cause it to be referred to as an income item.

It remains a capital item.

The normal — the most usual capital item perhaps is when a businessman pays a million dollars for a manufacturing plant and then he is permitted to write that off by way of depreciation over the life of the plant and this is to me exactly the theory in which in 1942, Congress for the first time said that this premium paid by an investor for a bond, which had previously been considered for all purposes as the capital item could be written off over its life not converting it into an income item but permitting it to have a proper effect upon its overall income.

Byron R. White:

Now, what about the lender, the buyer who pays the premium?

Theodore R. Colborn:

Well, the buyer of the bond or the lender of money who takes a note and receives a premium is making an investment, which he — has denied by this Court in the earlier years, the right to apply in reduction of its interest income, Congress came along and said that you should be if the proper election is made, permitted to write it off over its life.

If he doesn’t write it off over its life, or if we were talking about a period before Congress did act in 1942, when he sold it, it would have a capital loss.

Byron R. White:

Well you say if — what you’re — you’re saying then that there really was no difference in treating the discounted premium say in 1952 when these rulings were issued?

Theodore R. Colborn:

This is substantially right in 1952 and —

Byron R. White:

Well do they accept the law was changed on discount in the 1954 Act of – that they are now treated differently?

Theodore R. Colborn:

Well, there is a difference for example in the case of a non-registered bond without coupons as to which for a brief period there was no amortization of the premium allowed.

That has since been changed, so that in most circumstances at the present time, there has developed a general consistency of treatment.

I think it maybe worthwhile only very briefly to refer to the situation in 1929 when in the sense this matter of discount came — first came firstly to Congress’ attention and I think Congress made very clear that they did intend discount of this sort to be treated as a capital item.

The Treasury Department in the Spring of 1929 indicated very strongly to Congress that it wanted the authority to issue discount bills of this sort very much like we are here talking about in this case except they were to be issued by the United States government instead of by General Motors Acceptance Corporation.

They — Ogden Mills, the Undersecretary of the Treasury emphasized that from a financial market standpoint, this would be a different sort of thing which would permit the government to handle its financing in some ways more efficiently and therefore, better than to the ordinary interest-bearing certificates.

And, the Treasury Department proposed that as a statutory matter, since the statute already provided that interest on interest-bearing certificate should be exempt from tax, it should put in further language that the gain from the sale or other disposition of the discount obligations should also be exempt from tax.

And advise the Senate Finance Committee, as Senator Cousins and other senators said in the debate that this is because the — when the gain was realized, this would be treated as gain under the existing practice gained from the sale and that some special language needed to cover the — our brief said, I’m afraid much — too much of trying to analyze the details that debate — our appendix to our brief has 20 pages of it and all I think worth adding is that I think any careful reading either of the statements specifically by Senator Smoot and Senator Cousins and Senator Reid separately, or a continuous reading of all of it inevitably indicates that the senators did consider that although the effect of this discount was very much the same as interest, it would not be treated the same under established tax practices and the general provisions of the Revenue Acts.

So, they put in the explicit provision that discount on this Treasury bills shall be considered interest, which as Mr. Goodman said is a foundation for the many government rulings, Internal Revenue Service rulings as the treatment — as a treatment of Treasury bills.

Perhaps even more dramatically demonstrating what — that Congress recognized that under the general provisions, discount on corporate notes would be capitaliting — it is their special provision for treating such discount differently in certain special cases.

Each of the briefs discusses of the treatment that Congress provided under the 1939 Code for insurance companies and this special treatment explicitly said that in the case of certain specified types of insurance companies, premium on bonds and discount should both be amortized by the insurance company and the Treasury Department’s regulations under these sections expressly recognized that this was a different treatment from taxpayers generally.

Now this meant — this provision was continued into the 1954 Code and this meant that as to these particular taxpayers, these insurance companies, Section 1232, which treated generally whether original issue discount had no application because as I have indicated before, if you are accruing the discount as you go along, you never get to Section 1232.

Just last year, Congress indicated again the same understanding of these principles when it decided that as to certain of the insurance companies, they should change the treatment and make — and have their handling of discount bonds the same as corporations generally.

So, they said expressly.

In Revised Code Section 820 (d), that this provision requiring the amortization into income of the discount should not apply to bonds issued after 1962 and said in the Committee report, “This provision has the effect of postponing until disposition of the bond, any recognition of income attributable to bond discount”, at which time, the provisions of Section of 1232 maybe applicable.

Theodore R. Colborn:

Thus, Congress is recognizing that where Section 1232 is applicable, the idea of accruing the discount as though where interest is not appropriate.

The same treatment was clearly recognized as to Congress’ point of view or thought it — of what it thought it had provided when in 1938, the sub-committee in its brief report that’s set forth at page 11 of our appendix, indicated that the capital gains tax generally should not be removed because among other difficulties, this would permit some sort of avoidance by taxpayers who would, instead of taking interest-bearing obligations, on which they would pay an ordinary tax, would take discount obligations on which they would pay no tax because the discount was a gain item and the sub-committee said, “We shouldn’t do that.”

Now, the sub-committee clearly thought that there was an advantage in leaving the capital gain tax on the discount obligations to avoid an incentive to taxpayers, to avoid tax by converting their debt into that type of instrument, but they indicated very clearly that they were not concerned that taxpayers might perhaps setup their obligations, their loans in that fashion in order to get a capital gain treatment instead of an ordinary income treatment.

Congress recognized in 1938 that there would be the capital gain treatment from this and we’re not concerned about it.

When — in 1954, they did become concerned let us say, that this type of income which was similar to interest was being taxed as capital gain instead of ordinary income, they went to great length and details in Section 1232 in providing just under what circumstances the discount should be treated otherwise in this capital gain.

This was limited as has been noted to situations where the issuer was a corporation or a governmental body rather than an individual.

My — our only guess really as to the reason for that is the historical one that way back before the income tax was adopted there had been an issue tax on certain types of corporate obligations and that some of these statutes in 1942, the provision for permitting amortizing of bond premium and then again in 1954, they have followed the pattern of that — of the type of obligations that were originally subject to that tax and they broadened it somewhat, but have not extended it to individuals and I suppose where the general feeling that there are relatively few such individual obligations.

It’s further limited to such obligations held only six months, it’s specifically recognizes the situation that was discussed earlier that the discount may not be big enough to bother with and Congress certainly has the right to say that despite the logic of it, we’ll give one treatment if the discount is only a quarter of a percent per year and another if it’s more than that.

But I do not believe that in construing the 1939 Code, where there was not any statutory provision, it would be sensible for the Internal Revenue Service to say, we’ll treat a big discount as ordinary income and required to be accrued but we won’t require our little discount to be accrued because it isn’t worth bothering with, that sort of decision is Congress’.

We pointed out the method that Congress adopted was entirely different from the government’s present proposal.

Mr. Justice Stewart specifically asked about a case where there was a change in the discount rate so that someone having a — let us say, a $103 note that they’d paid a hundred dollars for, just before it was ready to accrue could only sell it for, say a $102 and Mr. Goodman answered that in that situation, there would be ordinary income of $2.97 and a capital loss.

Now, Section 1232 doesn’t say that, it says very clearly that to the extent there was a gains to what — $2, that much gain will be taxable if it is not more than the computed original issue discount.

So the computed original issue discount might be $2.95, but the gain is only $2, only that is taxable and there is no capital loss in such a situation.

When Congress got around to taking care of what can well be considered a logical problem, they studied it and they did it in detail and they did it by methods which it’s not practical for the Internal Revenue Service to try and work out for transactions that took place many years ago.

Now, a number of questions both yesterday and today have been directed at whether we were talking about discount or yield, they — this Court in the earlier cases has talked about the effective rate of interest or the effective rate of return which was as this Court said in accounting term, which had the same significance as yield.

But each time it has come up, this Court has held that that is not what the tax law is following, that in construing the tax law, it must follow the usual meaning of the words as the Court pointed out in the Old Colony Railroad case which discussed bond premium.

Mr. Goodman has referred to the Old Colony case in which this Court held that premium that was paid does not affect the real interest to be taken into account for tax purposes although it does affect the yield or the effective rate of return, Mr. Goodman considered that a criticized case.

Actually it’s been cited a number of times including many citations by the government in some of the litigation.

This matter, it’s been criticized by economist let us say, who say that it may not be making theoretical economic sense to talk about an interest rate without also carrying in mind the arithmetic of the premium of the discount and accountants who have to certify the financial statements for accounting purposes wanted, adjusted and treated differently.

But, this is not at all to say that this Court was wrong that in saying when Congress used the words interest, that Congress talked about what the cost of a bond that had been purchased that the premium was, Congress was using those words in their ordinary sense and not in the theoretical accounting sense.

It was after this Court had held that premium should not be adjusted for as though it were part of the interest that Congress for the first time in 1942 provided by amending the 1939 Code as we have said, that if the investor and corporate bond as that he purchased at a premium, wish to, he could write that off affecting his net income although not directly affecting his interest income and when they did it, they did it by very express language and led a number of conditions put on.

But it was not until 1954 that Congress determined to apply that same principle or a similar principle to discount by enacting as it did in Section 1232.

Now, the bond premium amortization sections have come before this Court twice since Congress put them in, and in each case as I read them, the Rail case in 339 U.S. and the Hanover Bank case in 369 U.S., they’re cited in all of our briefs, this Court simply tried to find out what Congress meant when it referred to bond premium when it referred to the premium at which the taxpayer had purchased a bond rather than at an economic analysis to find out what an economist would say, the effective rate of interest was.

In the Carell case, it was very clear that the premium which the taxpayer was allowed to amortize under this section had almost nothing to do with interest.

It was largely attributable that the right to convert the bond in the common stock of American Telephone and Telegraph Company and this Court said that since Congress said a premium paid for a bond can be written off, then it could be written off and it wasn’t up to the Internal Revenue Service to say that, “Well, this didn’t effect to rate of interest and therefore it shouldn’t be written off.”

Similarly in the Hanover Bank case, Congress had said that the premium that was paid could be written off over the period from the time the bond was purchased until the earliest date at which it might be called and this resulted on the peculiar facts of that case because they were utility bonds that were callable but nobody expected them to be called.

If you wrote the premium off over the period in which theoretically they might be called, if you ended up with I think a negative interest.

You ended up with a investor taking in certain interest in the income, but taking a ride off which is considerably more than that.

Certainly not reflecting the real yield or the effective rate of interest, but this Court said that this is what Congress provided and it should be a vow.

Actually, what Mr. Chief Justice Warren said in that Hanover Bank case in the very conclusion, I think is very appropriate to this case as to what the decision of this Court should be when the government is now urging that in construing the old 1939 Code, we now apply these economic theories rather than what Congress said should be done.

Theodore R. Colborn:

The Court said in that case, “Nevertheless, the government urges this Court to do what the legislative branch of the government failed to do or elected not to do.”

This of course is not within our province.

I thank Your Honors.