National Carbide Corp. v. Commissioner

Background

Three wholly owned subsidiary companies and their parent, a large industrial corporation, had contracts under which each subsidiary ran plants, sold products, and turned over virtually all profits above a small fixed return to the parent. The subsidiaries held title to assets while showing large payables to the parent. The Commissioner assessed income and excess-profits tax deficiencies against the subsidiaries for 1938. A Tax Court found the income belonged to the parent; the Court of Appeals reversed, and the Supreme Court reviewed the legal issue.

Reasoning

The core question was whether those subsidiaries were really agents of the parent so that the parent, not the subsidiaries, should be taxed on the subsidiaries’ earnings. The Court said long-ago cases that treated a subsidiary and parent as identical rested on peculiar facts and have been limited by later decisions. The Court explained that ownership and tight control alone do not turn a business corporation into a tax-free agent of its owner. Contracts requiring transfer of profits, book accounts showing loans, and nominal stock do not change who actually earned the income. The Court therefore held the subsidiaries were separate taxable entities that earned their own income.

Real world impact

The decision means companies cannot escape tax liability simply by forming subsidiaries, running their businesses through them, and drafting contracts to funnel profits to the parent. Subsidiaries that operate, employ workers, own assets, and earn profits will generally be taxed on those earnings. The ruling preserves the rule that true agency must meet specific tests; mere ownership and control are not enough to treat a corporation as the principal’s agent.