The U.S. Supreme Court case Smietanka v. Indiana Steel Company in 1921 revolved around the issue of tax liability for a corporation that had dissolved and distributed its assets to shareholders, but still held funds for contingent liabilities. The Collector of Internal Revenue argued that these remaining funds constituted income and were therefore taxable under federal law. However, the Indiana Steel Company contended that this money was not income as it was merely set aside to cover potential future expenses related to winding up corporate affairs. In its decision, the Supreme Court sided with the steel company, ruling that such retained funds did not constitute taxable income because they were not profits or gains derived from capital or labor – which are necessary conditions for something to be considered 'income' according to existing tax laws at the time. Instead, these monies represented part of the company's capital being held back until all obligations had been settled following dissolution.

In the dissenting opinion for Smietanka v. Indiana Steel Company, Justice McReynolds disagreed with the majority's interpretation of the Revenue Act of 1918. He argued that Congress intended to tax only actual income and not paper profits or losses from stock dividends, which he considered as mere bookkeeping entries without real economic impact. According to him, a company issuing more shares does not generate new wealth but merely divides existing assets among a larger number of shareholders; therefore it should not be subject to taxation under income tax laws. He also contended that such an interpretation would lead to absurd results where companies could manipulate their taxable incomes by simply adjusting their dividend policies or share structures. In his view, this was contrary to both common sense and legislative intent.