Court Opinion

ID: 4478778
Source: CourtListenerOpinion
Date Created: 2020-01-16 21:13:17.316654+00
Date Added: 2024-06-11T14:52:43.152651
License: Public Domain

Pierce, J., dissenting: I believe that the Court should have decided this case on the ground that petitioner did not sustain the burden of proof imposed upon him by section 112 (k) of the 1939 Code, i.e.: The burden of proving “by the clear preponderance of the evidence” that his principal purpose in entering into the transactions here involved, was not “to avoid Federal income tax,” and was “a bona fide business purpose.” 1  I believe also, that it is extremely doubtful whether, as a matter of law, the Court was warranted in “splitting” into two portions, the gain which petitioner realized from the single transfer of an apartment property in exchange for shares of corporate stock; and in then holding, that as to one of such portions no gain shall be recognized under sections 112(b) (5) and 112 (k), but that as to the other portion gain will be recognized and taxed. In my view, such treatment defeats the intent of section 112 (k), that its benefits shall be available if the taxpayer can sustain the statutory burden of proof imposed upon him (and here the Court has concluded that such burden was sustained). Also, such holding appears to me to be a “stretching” of the statute to attain an equitable result — which I think is not a judicial function. For both these reasons, I respectfully dissent. 1. The legislative history of section 112(k)2 indicates that Congress, in enacting this new subsection, had two objectives. First, as is shown in the committee reports, it was dealing with “bona fide business reorganizations,” and also with the long-established policy in our income tax law to give due consideration to “the exigencies of business” in connection with such reorganizations by postponing, in certain specifically described instances, the recognition of gain realized “in such transactions.” It was concerned that the decision of the Supreme Court in United States v. Hendler, 303 U.S. 564, might frustrate such established policy and largely nullify the provisions of existing law, in situations where “a taxpayer’s liabilities are assumed by another party in what is otherwise a tax-free reorganization.” The remedying of such situation was the primary purpose of the new enactment. Secondly, as said reports further show, Congress was concerned that its attempt to prevent hardship to taxpayers in “bona fide business reorganizations,” might open the door to tax avoidance in other situations where there was not “a bona fide business purpose.” Thus, it provided an exception, in subsection (k), to the effect that— if, taking into consideration the nature of the liability and the circumstances in the light of which the arrangement for the [transferee’s] assumption or acquisition [of tlie taxpayer’s liability] was made, it appears that the principal purpose of the taxpayer with respect to the assumption or acquisition was a purpose to avoid Federal income tax on the exchange, or, if not such purpose, was not a bona fide business purpose, * * * then, in such circumstance, the benefits of subsection (k) would not be available. It further provided specifically, that the taxpayer’s burden of proving that tax avoidance was not his principal purpose, or of proving the existence of a bona fide business purpose, “shall not be considered as sustained unless the taxpayer sustains such burden by the clear preponderance of the evidence.” 3  2. It seems evident from the foregoing history of section 112 (k), that the “business purpose” which is required to be established as a condition precedent to the application of said subsection, was intended to be a purpose germane to the continued conduct of the particular business involved in the tax-free reorganization of such business — as distinguished from other business plans of the taxpayer, or plans pertaining to his personal investment program, his family, or his estate. This conclusion finds further support in the history of the “business purpose” concept. Such concept appears to have had its origin in the opinions of the Court of Appeals for the Second Circuit, and of the Supreme Court, in Helvering v. Gregory, 69 F. 2d 809, affd. 293 U.S. 465. This case involved an attempt by a taxpayer to obtain the benefits of a tax-free “reorganization” under section 112 of the Revenue Act of 1928 — which section is cognate to section 112 of the 1939 Code with which we are here concerned. Judge Learned Hand, in speaking for the Second Circuit in such case, said: But tbe underlying presupposition [of the statute] is plain that the readjustment shall be undertaken for reasons germane to the conduct of the venture at hand, not as an ephemeral incident, egregious to its prosecution. To dodge the shareholders’ taxes is not one of the transactions contemplated as corporate “reorganizations.” ******* All these steps [taken by the taxpayer therein] were real, and their only defect was that they were not what the statute means by a “reorganization,” because the transactions were no part of the conduct of the business of either or both companies, * * * [Emphasis supplied.] Similarly, the Supreme Court in its opinion in the Gregory case, said: When subdivision (B) speaks of a transfer of assets by one corporation to another, it means a transfer made “in pursuance of a plan of reorganization” (section 112(g)) of corporate business; and not a transfer of assets by one corporation to another in pursuance of a plan having no relation to the business of either, as plainly is the case here. Putting aside, then, the question of motive in respect of taxation altogether, and fixing the character of the proceeding by what actually occurred, what do we find? Simply an operation having no business or corporate purpose — a mere device which put on the form of a corporate reorganization as a disguise for concealing its real character, and the sole object and accomplishment of which was the consummation of a preconceived plan, [which was] not to reorganize a business or any part of a business , * * * [Emphasis supplied.] 3. Turning now to the facts of the instant case, and giving particular attention to the two factors which section 112(k) provides shall be taken into consideration (i.e.: The nature of the liability; and the circumstances in the light of the arrangement for the new corporation to take over the encumbered property subject to such liability), it appears clear that neither petitioner’s creation of the $250,000 mortgage liability, nor his arrangement for the transfer of the encumbered apartment property to his new wholly owned corporation subject to said liability, was motivated by any bona fide purpose germane to the business of continuing the operation of the apartment. What happened here, according to the Court’s Findings of Fact, was this. At the beginning of the year 1952, the petitioner individually owned and operated an apartment building. He had acquired this property in the preceding year, through liquidation of a prior corporation of which he was beneficial owner of all its stock; and, in effecting such liquidation, he had “sought and received tax advice on how to proceed so as to incur the least amount of tax liability.” On March 25, 1952, petitioner encumbered this apartment house property with a $200,000 mortgage; and, a few months later, on June 19, 1952, he increased the amount of the mortgage on said property to the amount of $250,000. In taking such action, he again received advice. His purported reason for creating this large liability was to facilitate sale of the property; but he refused opportunities to dispose of the same for other than cash. He was aware that the property had appreciated in value (its fair market value was then about $320,000). And, since he had recently acquired the property through liquidation of the prior corporation and he had received tax advice in connection therewith, it is reasonable to assume in the absence of contrary evidence, that he also knew that his basis for such property was only about $87,000; and that any cash sale thereof would give rise to a very substantial amount of income tax. On the other hand, the placing of the mortgage would permit him to obtain tax- free and in cash, approximately five-sixths of the appreciated value of the property; although he would still be personally liable for repayment. Upon receiving the $250,000 proceeds from the mortgage, petitioner invested the same in United States Government 90-day bills and at the time of the trial herein, he still personally maintained such investments. Notwithstanding his above-mentioned statutory burden of proof, he presented no evidence that any portion of such mortgage proceeds was applied toward improvement of the apartment property; or that his purpose in creating this large indebtedness was in any way related to the business of operating such property. Thereafter, in October of the same year 1952, he organized a new corporation; and, in exchange for all its shares of capital stock, he transferred the apartment property to such corporation, subject to the large mortgage debt for which he was personally liable. The effects of the aforesaid transactions, considered entirely apart from his motives or purposes, were as follows: (1) He, as before stated, obtained tax free and in cash, about five-sixths of the appreciated value of the apartment property, although he was still personally liable for repayment — and the proceeds approximated the amount after income taxes, which he could have realized from a cash sale of the property; (2) he also obtained all of the stock of the new corporation — which represented, in substance, his net equity in the property transferred; (8) any earnings and profits derived by the new corporation could thereafter be applied by it toward removing the mortgage encumbrance on its property — thereby eliminating the necessity for it to issue taxable dividends to petitioner; (4) if the corporation did apply its earnings toward clearing the mortgage, petitioner’s shares of stock therein would be likely to appreciate in value; and (5) if petitioner sold his shares of stock, his basis for computing gain on such sale would not (as is shown in the Court’s Opinion herein) reflect a basis decrease equal to the full amount of the mortgage — so that part of his actual realized gain would never (unless the Court’s method of splitting the gain is valid) be subjected to income tax. I think that this is the precise type of situation which Congress intended to eliminate, by expressly imposing the heavy burden of proof on the taxpayer, in respect of absence of a principal purpose “to avoid Federal income tax,” and the presence of “a bona fide business purpose.” 4. This Court, in the majority Opinion herein, has made reference to five purposes of the petitioner for entry into the transactions here involved; and the Court has concluded that such purposes are sufficient to sustain “by the clear preponderance of the evidence” the burden of proof imposed upon petitioner by section 112(k). I think, however, that such purposes (whether considered singularly or collectively) are not sufficient to establish, either the absence of a tax-avoidance purpose, or the presence of a bona fide business purpose; and that each of such purposes is wholly unrelated to the continued business of operating the apartment property. These purposes mentioned by the Court, are: (1) Petitioner’s desire, in creating the large mortgage indebtedness, and in neither paying off the same prior to the transfer of the property to the new corporation nor transferring the proceeds to such corporation, was to personally achieve and “remain in an extremely liquid financial position” — so that he would be able to take advantage of quick investment opportunities in the event “of what he thought was an imminent break in the general price structure of investments.” (2) He desired the limited liability afforded by the corporate shield. This of course affected him only in his personal capacity as a stockholder of the new corporation. (3) He thought that transfer of the property to the new corporation would make it easier for him, as an officer or employee, to turn the management over to some outside party, “if he should decide to live elsewhere.” (This was not only a personal reason, but also if involved an indefinite possibility concerning the affairs of him and his family, which in fact did not occur.) (4) He was experiencing marital difficulties, and he wished to “exempt it [the apartment property] from potential marital claims.” (5) He wished “to have the property in corporate form in order to facilitate its division among his heirs-to-be.” In my view, said purposes not only fail to establish “by the clear preponderance of the evidence,” the absence of a purpose “to avoid Federal income tax” and the existence of “a bona fide business purpose”; but they actually establish the contrary. I would have decided this case on the basis that the petitioner did not sustain the burden of proof imposed upon him by section 112 (k). AteiNS and MulroNey, //., agree with this dissent.   The mere fact that the Court’s contrary conclusion is included in its Findings of Fact, is not sufficient to immunize such conclusion from expressions of dissent or from appellate review. Such conclusion is neither a finding of primary fact nor a finding as to veracity ; rather it is a conclusion of law which involves determinations regarding the intent of the statute, the meaning of the term “business purpose,” and the legal effect and sufficiency of the purposes upon which petitioner relies to sustain his statutory burden of proof.    See H. Kept. No. 855, 76th Cong., 1st Sess., pp. 4-5 and 18-19; and S. Rept. No. 648, 76th Cong., 1st Sess., pp. 2-3.    Other statutory provisions in which Congress has provided for the denial of income tax benefits in connection with transactions that are motivated by purposes of tax avoidance, include section 129 of the 1939 Code and section 269 of the 1954 Code (pertaining to acquisition made to evade or avoid income tax), and section 15(c) of the 1939 Code and section 1551 of the 1954 Code (pertaining to disallowance of surtax exemption and accumulated earnings credit).