You will recall that last year you made also a provision at the time, that you provided that the cancelation and reduction of an indebtedness shall not give rise to taxable income. You also proIvided that the cost basis for the assets of the debtor should be diminished thereby.

I might say, very generally with respect to that, that the Department is at the present time making a study of the general effects of the cancellation and reduction of indebtedness of all taxpayers, not only with respect to railroads. In connection with that we have to determine what the adjustment is that ought to be made. In general, under the general revenue law, a study is being made as to the effect. on the cost or other basis in determining the question of gain or loss of a debtor whose debts have been forgiven. That study has been pursued for some time. And frankly, I am not in a position to determine what its eventual outcome will be. Consequently, if your committee is of the opinion that action should be taken at this time on H. R. 3704, this Department will make no present objection to the general terms of the provision. In any event, however, we would like the opportunity, if at some later time, if we have an objection to give, and to call it to your attention. Therefore, except for the elimination of the term "any security holder" I have no further comment with respect to section 735.

The CHAIRMAN. You do not think we need any further paragraphs to establish any basis in working out this bill, do you?

Mr. TARLEAU. My mind is not made up on that problem, consequently I do not think we should comment on the elimination and the requirement in this conncetion.

Mr. MICHENER. You want the committee to be sure to see that there is no possibility of taxing a man on a loss?

Mr. TARLEAU. Yes. If I understand your question correctly; yes. The CHAIRMAN. The addition of the security holder was simply to give the benefit of the same provision which would apply to the petitioner in the reduction of any of his security values.

Mr. TARLEAU. Yes, but as I take it, he is worse off, isn't he?
The CHAIRMAN. Yes.

Mr. TARLEAU. We are only concerned with where the debtor would be better off by reason of the act. Some of his debts would be cancelled.

The CHAIRMAN. He is worse off to that extent.

Mr. TARLEAU. Consequently, we believe he would be worse off here with no income tax possibly being imposed upon him. And, therefore, we suggest the elimination of the term.

Our general provision in the income-tax laws, our interpretation at least, is where a man's indebtedness has been cancelled or reduced, in general, income is derived thereby because of the fact a certain part of his property is free from debt by reason of the transaction, and he has an economic gain thereby. When the security holder's security is diminished in value I hardly can see that some argument can be made to tax him. It is for that reason we do not think the insertion of security holders is necessary.

The CHAIRMAN. Thank you. Do you have any other point?

Mr. TARLEAU. Yes. The Department is consistently opposed to the remission of the stamp tax on this type of reorganization and I

consequently once more, in accordance with our consistent custom, express our opposition to such remission.

The CHAIRMAN. Of course, that raises the same discussion which we had on the bankruptcy bill which was passed last year.

Mr. TARLEAU. Yes, indeed. I just mention it for the record. Mr. MICHENER. You just want to get all the tax you possibly can? Mr. TARLEAU. Yes. That has been the position of the Department heretofore, and I presume will be. May I suggest that one of my assistants, Mr. Chairman, it may be helpful if we give him the opportunity to submit drafts of the amendments we have proposed for your consideration.

The CHAIRMAN. We are very glad to have them.

In the suggestion that you made there regarding the notification of the Treasury Department, and also the consent of the Secretary of the Treasury, I remember when the original section 77 was written and also when 77 (b) was amended to take care of that situation, I remember the discussions which were had about that.

Judge FLETCHER. Mr. Chairman, off the record, I wonder if I could ask the gentleman to allow me to have a copy of the amendments suggested and perhaps we can agree upon them. I will give you my card. The CHAIRMAN. I am sure he will be very willing to cooperate with

you.

We have Leslie Craven, of New York, and Mr. Oliver.
Mr. Craven?

STATEMENT OF LESLIE CRAVEN, RAILWAY SECURITY OWNERS
ASSOCIATION SAVINGS BANKS AND INSURANCE
PANIES

COM

The CHAIRMAN. I think Mr. Craven and Mr. Oliver are the only ones who have not been heard and wish to be heard. If there are others I would like to know so we can cut the time short so as to complete this hearing this morning. If there are not any others, we will now hear Mr. Leslie Craven. And after we hear Mr. Craven we want to hear from Mr. Oliver. He represents the savings banks. And then I have some letters here on which I want to get some expressions from Judge Fletcher and Colonel Anderson. And I hope some of you members of the subcommittee have some questions.

Mr. CRAVEN. I live in New York, am a practicing attorney there, and a member of the firm of Miller, Owen, Otis, and Bailly, at 15 Broad Street. Mr. Chairman, remarks have been made on behalf of various interests by the representatives who have appeared here. I appear on behalf of the security owners. I am here as the representative of the Railway Security Owners Association, which is an association comprised of the savings banks and insurance companies. Without going into any burden of detail, the membership consists of 31 life-insurance companies who hold in railroad bonds $2,326,538,000, and in railroad stocks $57,125,705. The membership includes 23 fireand casualty-insurance companies who own about $50,000,000 worth of railroad bonds and about $19,000,000 worth of railroad stock. The total ownership of bonds and stocks of these two groups of insurance companies is $2,454,000,000.

The membership also comprises a group of mutual savings banks, whom Major Oliver represents directly. These savings banks are 375 in number. They own railroad bonds in the amount of $838,000,000, stocks in the amount of $5,450,000, an aggregate for savings banks of $843,778,000.

The total holdings of the members of this association are in stocks and bonds, and in the detail of the figures I have just given to you, in the aggregate three billion, two hundred and ninety-eight millionodd dollars. Of the savings banks who are members of this association, the depositors number 11,323,000. The 31 life-insurance companies who are members of the association have approximately 94,117 policies in force as of January 1, 1938.

Some of the larger insurance companies, life-insurance companies, who are members of the association are the Metropolitan Life, the Prudential, the New York Life, the Northwestern Mutual, the Aetna Life, the Connecticut Mutual Life, Travelers Insurance, John Hancock, New England Mutual, Massachusetts Mutual, Penn Mutual, and the Provident Mutual.

I shall not talk to you much about the widows and orphans but I think we ought not forget the human aspect of these things as we go along. I stood beside the desk of a president of a savings bank and there came into the room and stood by the desk a woman, with a shawl over her head, who held a savings bankbook in her hand. I sat and looked at her. Now the average deposit in these mutual savings banks is about $700.

I think the situation should be a little clarified, which has to do with the question which you raise, Mr. Michener, about the effect of this law upon the stockholders. This is not a reorganization act like section 77. It is not an act which provides for a comprehensive revision of the whole capital structure, and the possible elimination of the stockholders. Consequently, what was suggested by your query-which indicated that after all it was the stockholder whose interests were primarily jeoparized by the proceedings under this Act is not quite right. Because it is the creditors, it is the bondholders, whose positions are in greatest danger as a result of this kind of legislation. This act does not provide for the elimination of the stockholders, and as worded, I do not suppose it will ever produce that result.

Mr. MICHENER. I was basing my question on the statement of Mr. Anderson if this bill is enacted and put into effect and applied to the Baltimore & Ohio and works successfully, the stockholder would get a rain check which might or might not be of value at some time in the future. I think if that were the case then possibly the loss that must eventually be taken somewhere would all fall on the equity holder, or the stockholder. And I wonder if that particular individual was represented, and I was glad to hear that Judge Fletcher represented this little stockholder hither and yon throughout the length and breadth of the land.

Mr. CRAVEN. My understanding of that is this, as it was made clear by Colonel Anderson in what he said, perhaps you remember, about the three groups of railroads into which you may segregate all the railroads; there are those who are obviously sound; there are those that are in bankruptcy or in receivership, that are obviously in need of a thorough capital overhauling; and then there is the group

which is not in need of a drastic reorganization, but which needs. assistance in the temporary postponing of maturities of principal and interest. Now, that last group under this law, will be permitted to come forward with a plan, the consents to which will be gotten as the law provides. But it is not in the cards that such plans, initiated by the management on behalf of all stockholders, are going to result in the elimination of the stock. And, therefore, I say that those of us, who represent the creditors, represent those whose interests probably are in greatest jeopardy.

Now, just one further remark before I proceed further into matters of detail. That is this: Of course, this is important legislation. Just look at what is involved. I bespeak your careful consideration of it, which I know you will give it As Judge Fletcher himself pointed out-my recollection of words is faulty-but he said, as I remember him, in discussing the necessity for a special court, "This is pretty strong medicine for the creditors." At another point he used the word, "gravely"; these plans may "gravely" affect the creditor's rights. And, of course, that is true.

Now, we are in favor of this bill, with certain conditions and qualifications, which are not destructive of the bill but which are precautionary and which to us are of the very essence of the bill; because, as we see this law, it is one which may very well be abused, as, of course, any law may be abused. If this law is to be satisfactory there has got to be in it provisions and such provisions are in itwhich insure that these plans that are put through shall respect fully the substantive rights. There is a lot of heresy abroad. There is a lot of wistful thinking among gentlemen who are rather inclined, I believe, to think there is a new dispensation abroad, under which the debtor can become free of the obligations of his debts, and under which, if a debtor can make a dicker with his creditors under which they will release him from a substantial burden, or of part of his obligations, he can go into a bankruptcy proceeding and a bankruptcy law can be so devised as to force that agreement upon a minority of the creditors, even though it is in derogation of those creditors' rights, and violates them in point of priority, and amounts to taking money from the creditors and giving it to the debtor.

Now, what is the nature, and what shall be the limits or definition of these substantive rights? It is, of course, a tremendously important question in legislation of this sort. And that was a matter of important consideration in section 77 as it was amended in 1935. At that time, you may remember, as the result of a bill which was considered by this committee, a provision was passed under which a court could compel acceptance of a reorganization plan even though not accepted by the designated percentages of all the classes of claimants. And in order to insure that such a plan should be absolutely sound in its protection and recognition of fundamental rights, the language of section 77 as it was passed in 1933 was amended, and there were added. certain provisions, the purpose of which was to make absolutely sure that the rights of creditors as declared by the law of the land should be recognized by the court in approving a plan. For the same purpose the same language is used in the bill, which you now have before you for consideration, and which is found on lines 15 to 21 of section 725, on page 7. The language which is in this act under consideration is

the language now in section 77 as amended in 1935, and it reads that the court must be satisfied

That the plan is fair and equitable, is in the public interest, affords due recognition to the rights of each class of creditors and stockholders, and does not discriminate unfairly in favor of any class of creditors or stockholders, and will conform to the requirements of the law of the land regarding the participation of various classes of creditors and stockholders.

Now, that language has been passed upon by the Interstate Commerce Commission in its administration of section 77, and the Commission has declared that under that language plans prepared under section 77 have to conform to the Boyd case, which you are familiar with, and which recognize fully the rights of the creditors in point of seniority and otherwise. That is, it does not permit giving a junior claim something at the expense of a senior claimant without giving some quid pro quo, as a result of which it may be fairly said that the senior claimant is not deprived of those rights which arise out of his priority. The courts as a whole, and there are many decisions which have so held with one exception-there is one decision, I think, to the contrary-at least there was the last time I ran the authorities-that the language in 77 (b), which is similar to the language which I have quoted to you from section 77 and which is in the bill under consideration, required that full protection.

Now, the reason I have raised this point is this: It is only on the understanding that this bill by that language recognizes the law of the land in the manner in which I have described that we, as the security holders or as groups of creditors, feel we can support this bill. Because otherwise this bill would be prejudicial and unconstitutional. 1 mean to say; the Supreme Court in the case of Continental Bank v. Rock Island, decided in 1935, held that, of course, the bankruptcy power is subject to the Fifth Amendment, and if this were a composition bill which has been interpreted as some interests have suggested that section 77 ought to be interpreted-under a theory whereby the stockholder can make a dicker with his creditors which deprive them of their priorities and of their rights, and enforce that bill against a minorityif that were the theory of this act, of course, we could not support it at all. I have thought it well to make this perfectly plain because this is not a point which has been heretofore discussed in these proceedings.

The CHAIRMAN. The precise point which you raise was involved and actually has been decided by the Supreme Court under the law of section 77.

Mr. CRAVEN. Not under section 77. It has been decided by a host of lower courts under 77B. There is no question about it being the law. I would be glad to cite those cases to you. I do not have them here, although I have some.

The CHAIRMAN. I do not think we need them.

Mr. CRAVEN. It was a matter fought out at length before the Interstate Commerce Commission in connection with this same language as used in section 77. They had a field day on it. The views of everyone were represented and the Commission held that that language required recognition of the Boyd case. I think the lawyers generally think that decision is right.

We do not understand that this act is one which may be regarded as, or will be used as, a substitute for section 77. We think it is a very desirable piece of legislation for that type of carriers designated