Document ID: s3://data.kl3m.ai/documents/govinfo/USCOURTS/USCOURTS-ca10-91-09007/USCOURTS-ca10-91-09007-0/pdf.json

Parties Involved:
Commissioner of Internal Revenue
Appellee
Geraldine Munroe
Appellant
Robert A. Munroe
Appellant

Document Text:

FIL~D 

UNITED STATES COURT OF APPEALS 

TENTH CIRCUIT 

United Stati:-s Court of Ap,-mb Ter.th C-,-1i-: 

APR O 9 1992 

ROBERT L. HOECKER 

ROBERT A. MUNROE; GERALDINE MUNROE, Clerk 

Petitioners-Appellants, 

vs. 

COMMISSIONER OF INTERNAL REVENUE, 

Respondent-Appellee. 

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ORDER AND JUDGMENT* 

No. 91-9007 

(T.C. No. 2236-90) 

Before BALDOCK and SETH, Circuit Judges, and BRIMMER, District 

Judge.** 

In August 1980, Petitioner-appellant Robert A. Munroe, 1 an 

attorney, and his son, a consulting geologist, incorporated M&M 

Building, Inc., (M&M) to facilitate the purchase of an office 

building in their home town of Augusta, Kansas. They each 

contributed capital and planned on renovating the building and 

occupying the space on a two-thirds/one-third basis for their 

* This order and judgment has no precedential value and shall 

not be cited, or used by any court within the Tenth Circuit, 

except for purposes of establishing the doctrines of the law of 

the case, res judicata, or collateral estoppel. 10th Cir. R. 

36.3. 

** Honorable Clarence A. Brimmer, Jr., Chief Judge, United 

States District Court for the District of Wyoming, sitting by 

designation. 

1 Petitioner-appellant Geraldine Munroe is involved in this 

case solely by virtue of the joint tax returns for tax years 1982 

and 1983 filed with her former husband, petitioner-appellant 

Robert Munroe. The Munroes divorced in April 1984. 

Appellate Case: 91-9007 Document: 010110240410 Date Filed: 04/09/1992 Page: 1
respective law and geology practices. After the purchase, M&M 

obtained financing for the proposed renovation, executing five 

separate notes from 1981 to 1986. Most of the notes simply 

refinanced earlier notes and added whatever additional financing 

was necessary for the continuing renovation. The interest 

payments on these notes present the primary issue on appeal. 

Petitioner failed timely to file returns for tax years 1982 to 

1985, but, in his delinquent returns filed in January 1987, he 

claimed deductions for the interest payments made during the 

earlier four year period. See I.R.C. § 163. The Commissioner 

disallowed the deductions, contending that they were M&M corporate 

expenses. Also, the Commissioner assessed I.R.C. § 6651(a)(l) 

additions to tax for failure to file returns, and§ 6653(a)(l) 

additions to tax for negligent underpayment. The resulting 

deficiencies and additions to tax totalled $17,404.33. 

Petitioners challenged the deficiencies and the§ 6651(a)(l) 

addition in tax court, which entered a decision on February 11, 

1991, sustaining the deficiencies and additions to tax as 

determined by the Commissioner. Petitioners appeal, arguing that 

the interest deductions could only be personal because Petitioner 

Mr. Munroe actually made the payments and because M&M was not a 

corporation under the Internal Revenue Code or, alternatively, 

because M&M transferred the office building to Petitioner Mr. 

Munroe before the tax years at issue. Also, Petitioners challenge 

the§ 6651(a)(l) additions to tax, arguing reasonable cause for 

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failure to file the returns. 2 Our jurisdiction arises under 

I . R.C. § 7482, and we affirm. 

I. The Interest Expense Deductions. 

I . R.C. § 163(a) provides for a deduction for "all interest 

paid or accrued within the taxable year on indebtedness." 

However, it is the burden of the taxpayer to establish the facts 

necessary to support the deduction; and the deduction applies only 

to interest payments on indebtedness incurred by the taxpayer, not 

to voluntary payments on indebtedness incurred by another. See 

Crouch v . United States, 692 F . 2d 97, 99 (10th Cir. 1982). In 

this case, the Commissioner maintains, and the tax court held, 

that the indebtedness at issue was incurred by M&M. 3 Therefore, 

the court held that Petitioners' claimed deductions were properly 

disallowed as voluntary payments on behalf of another. 

Petitioners concede that the notes were executed in the name of 

M&M, but they argue that the substance of the transactions reveals 

2 Petitioners also challenge the § 6653(a)(l) additions for 

negligent underpayment; but we decline to consider the argument 

because it was not raised below. See Neu v. Grant, 548 F.2d 281, 

286-87 (10th Cir. 1977) . 

3 M&M executed the following notes at local financial 

institutions: 

$33,000.00, January 26, 1981, due July 25, 1981; 

$33,000 . 00, July 25 , 1981, due January 21, 1982; 

$51,250.00, February 16, 1982, due February 20, 1983; 

$50,032.32, May 4, 1983, due April 25, 1990; 

$40,000.00, June 10, 1986, due June 10, 1996. 

IR. doc. 6, at 2-3 (stipulation of facts referencing attached 

exhibits). 

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that the indebtedness was incurred by Mr. Munroe, not by M&M. As 

support they first point to factors which indicate that M&M was a 

mere "dummy" corporation, never owning the building or having the 

resources to service the debt. Second, and in the alternative, 

they contend that M&M, even if it was a corporation, transferred 

title to the building to Mr. Munroe in 1981, before the tax years 

in issue . This, they argue, indicates that M&M did not actually 

incur the debt even though the notes were executed in M&M's name 

after the purported title transfer. 

Petitioners make much of the concept of "substance over 

form . " See Appellants' Brief at 9-10. Indeed, the true substance 

of a transaction should govern its tax effects, but the cases that 

turn on "substance over form" most often involve an effort by the 

government to look through a taxpayer fiction to determine the 

legitimate tax effects of a transaction . See,~, Higgins v. 

Smith, 308 U.S. 473, 477 (1940) (The government may "sustain or 

disregard the effect of the fiction as best serves the purposes of 

the tax statute."). The situation differs when it is the 

taxpayer, who voluntarily chooses the form of the transaction, 

attempting to reap the benefits of the chosen form but avoid the 

tax consequences. See Strick Corp. v. United States, 714 F.2d 

1194, 1206-07 (3d Cir. 1983), cert. denied, 466 U.S. 971 (1984); 

Commissioner v. Danielson, 378 F.2d 771, 774-75 (3d Cir. ), cert. 

denied, 389 U.S. 858 (1967); Hamlin's Trust v. Commissioner, 209 

F.2d 761, 765 (10th Cir. 1954). A taxpayer may not enjoy the 

benefits from corporate organization and then expect the court to 

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recast the transaction so that he also may enjoy the tax benefits 

of interest payments made on behalf of the corporation. See 

Crouch, 692 F.2d at 99-100. On the contrary, although a taxpayer 

is free to choose any desirable form, he "must accept the tax 

consequences of his choice, whether contemplated or not, and may 

not enjoy the benefit of some other route he might have chosen to 

follow but did not." Commissioner v. National Alfalfa Dehydrating 

& Milling Co., 417 U.S. 134, 149 (1974). See also Crouch, 692 

F . 2d at 99-100 (citing National Alfalfa). The dispositive issue, 

therefore, is whether Petitioners enjoyed the benefits of 

corporate organization in the purchase and renovation of the 

building. We review the tax court's finding on this point for 

clear error, as it is factual. See Commissioner v. Duberstein, 

363 U.S. 278, 291 (1960). 

In Moline Properties, Inc. v. Commissioner, 319 U.S. 436 

(1943), the Supreme Court clearly refused to disregard a corporate 

form in determining the tax consequences of a purportedly personal 

transaction: 

The doctrine of corporate entity fills a useful purpose 

in business life. Whether the purpose be to gain an 

advantage under the law of the state of incorporation or 

to avoid or to comply with the demands of creditors or 

to serve the creator's personal or undisclosed 

convenience, so long as that purpose is the equivalent 

of business activity or is followed by the carrying on 

of business by the corporation, the corporation remains 

a separate taxable entity. New Colonial Co. v . 

Helvering, 292 U.S. 435, 442; Deputy v. du Pont, 308 

U. S . 488, 494. In Burnett v . Commonwealth Improvement 

Co., 287 U.S. 415, this Court appraised the relation 

between a corporation and its sole stockholder and held 

taxable to the corporation a profit on a sale to its 

stockholder. This was because the taxpayer had adopted 

the corporate form for purposes of his own. The choice 

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of the advantages of incorporation to do business, it 

was held, required the acceptance of the tax 

disadvantages. 

319 U.S. at 438-39. Quoting this exact language, and citing 

numerous cases, we have noted that Moline Properties "preclude(s] 

ignoring the corporate form when adoption of that form has served 

a business purpose." Crouch, 692 F.2d at 99 (citations omitted). 

In Crouch the taxpayer formed a corporation in order to finance a 

real estate venture but avoid the limitations of interest rates to 

individuals under state usury statutes. He made interest payments 

on behalf of the corporation and attempted to deduct the same 

under I.R.C. S 163(a) on his personal tax return. Like 

Petitioners here, he argued that the corporation did not serve a 

legitimate business purpose. We rejected this argument, holding 

that the avoidance of state usury restrictions was a valid 

business purpose under the Moline Properties test. Id. at 100. 

Thus, we refused to disregard the corporate form. 

Our holding in Crouch indicates that the threshold for the 

Moline Properties business purpose test is low. Indeed, the 

language of Moline Properties suggests a low threshold: a business 

purpose behind a corporation may involve an effort to "serve the 

creator's personal or undisclosed convenience ... II 319 U.S. 

at 439. As the Commissioner argues, our holding in Crouch follows 

from this language and squares with numerous other holdings. See, 

~, Ogiony v. Commissioner, 617 F.2d 14, 16 (2d Cir.) 

(circumvention of state usury statutes valid business purpose), 

cert. denied, 449 U.S. 900 (1980); Evans v. Commissioner, 557 F.2d 

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1095, 1099 (5th Cir. 1977) (same); Strong v. Commissioner, 66 T.C. 

12 (1976) (same), aff'd 553 F.2d 94 (2d Cir. 1977). Cf. Britt v. 

United States, 431 F.2d 227, 237 (5th Cir. 1970) (facilitation of 

transfer of partnership interests to children valid business 

purpose); Tomilson v. Miles, 316 F.2d 710, 711 (5th Cir.) 

(facilitation of conveyance of property valid business purpose), 

cert. denied, 375 U.S. 828 (1963); Commissioner v. State-Adams 

Corp., 283 F.2d 395 (2d Cir. 1960) (avoidance of potential 

difficulties from death of beneficial owner valid business 

purpose), cert. denied, 365 U.S. 844 (1961); Vaughn v. United 

States, 3 Cl. Ct. 316 (1983) (avoidance of personal liability 

valid business purpose), aff'd, 740 F.2d 941 (Fed. Cir. 1984). 

In this case, the tax court found that Petitioner Mr. Munroe 

incorporated M&M for three valid reasons regarding the purchase of 

the building: (1) to facilitate proportional ownership between him 

and his son; (2) to avoid potential liability given the necessity 

of an extensive renovation; and (3) to avoid potential 

transactional difficulties resulting from his wife's history of 

mental illness, which, at one time, required institutional 

commitment. Munroe v. Commissioner, 61 T.C.M. (CCH) 1797 (1991). 

Clearly, these three reasons meet the low threshold of Moline 

Properties as articulated in Crouch, and given the record we 

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4 cannot say that the court's findings are clearly erroneous. Even 

assuming the contrary, holding the Petitioners to the chosen form 

of the transaction is consistent with the Commissioner's 

well-established authority to "sustain or disregard the effect of 

the fiction as best serves the purposes of the tax statute." 

Higgins v. Smith, 308 U.S. 473, 477; Strick Corp., 714 F.2d at 

1206-07; Danielson, 378 F.2d at 774-75; Hamlin's Trust, 209 F.2d 

at 765. 

Petitioners' final argument, that M&M transferred ownership 

of the building to Mr. Munroe in 1981, is equally unavailing. The 

tax court declined to attribute any significance to the purported 

title transfer, noting that Petitioner had testified that he 

purposefully did not record the now missing deed because he had 

reservations about his wife's continuing mental illness. Munroe, 

61 T.C.M. (CCH) 1797. Considering that it is Petitioners' burden 

to establish the necessary factual basis for a§ 163(a) interest 

deduction, see T.C. R. 142(a); Crouch, 692 F.2d at 99, we cannot 

4 Petitioners contend that the tax court's findings regarding 

the three business purposes are clearly erroneous. Regarding the 

first finding, they argue that the reason for facilitating 

proportional ownership disappeared in November 1981, when Mr. 

Munroe acquired his son's M&M shares after the son moved away. 

The building was purchased and two of the notes were executed, 

however, prior to this occurrence . The corporation therefore 

served its intended purpose, if even for a short time. Regarding 

the second finding, Petitioners contend that the reason for a 

shield from liability disappeared when the I-beam heavy 

construction phase of the project was completed. Again we note 

that this purpose was served at the beginning of the project. In 

any event, Petitioners have failed in their burden of proving when 

and if such protection was no longer needed. Petitioners concede 

that the final business purpose, avoiding difficulties resulting 

from Mrs. Munroe's mental illness, existed throughout the entire 

time period at issue. 

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say that the tax court's finding is clearly erroneous. 

Petitioners failed to produce sufficient evidence of a title 

transfer, whether by actual or constructive delivery. 

II. The I.R.C . § 6651(a)(l) Additions to Tax. 

Petitioners contest the imposition of§ 6651(a)(l) additions 

to tax for failure to file timely returns for tax years 1982 

through 1985, arguing that Mr. Munroe's personal problems 

constituted "reasonable cause " for failing to file. In order to 

avoid these additions to tax, a taxpayer must establish that his 

failure was "due to reasonable cause" and did not result from 

"willful neglect." United States v . Boyle, 469 U.S. 241, 245 

(1985); Jackson v. Commissioner, 864 F.2d 1521, 1527 (10th Cir. 

1989). In essence, the taxpayer must establish that he exercised 

"'ordinary business care and prudence in providing for payment of 

his tax liability' necessary to constitute 'reasonable cause.'" 

Jackson, 864 F.2d at 1527 (quoting Treas. Reg. 

§ 301.6651-l(c)(l)). The tax court's finding that the elements 

necessary to establish reasonable cause were not present in this 

case is subject to a clearly erroneous standard of review. 

Jackson, 864 F.2d at 1527. 5 

From 1982 to 1985, Mr. Munroe apparently suffered from a 

5 The legal issue regarding which factors may constitute 

reasonable cause is not at issue in this case. See Boyle, 469 

U.S. at 245; Jackson, 864 F.2d at 1527. The parties agree that 

personal problems may amount to reasonable cause under the 

relevant legal standard. See~, Harris v. Commissioner, 28 

T.C.M. (CCH) 272 (1969). 

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variety problems, including three heart attacks, impaired mental 

abilities due to prescription drugs, bouts with alcoholism, 

various financial difficulties, the 1984 divorce and the 

continuous mental problems of Mrs. Munroe. We do not doubt the 

severity of these problems; however, we cannot find the tax 

court's determination clearly erroneous given its uncontested 

findings that Mr. Munroe had access to a public accountant, that 

he maintained a law practice and that he oversaw the renovation of 

the office building during the same period. Given these findings, 

we agree with the tax court that Mr. Munroe could have filed 

timely returns had he exercised ordinary business care and 

prudence. 

AFFIRMED. 

Entered for the Court 

Bobby R. Baldock 

Circuit Judge 

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