Court Opinion

ID: 9458045
Source: CourtListenerOpinion
Date Created: 2023-08-04 20:41:28.852684+00
Date Added: 2024-06-11T17:35:37.069213
License: Public Domain

WEBSTER, District Judge
(dissenting).
I must respectfully dissent. I would follow Feldman v. Wood, 335 F.2d 264 *604(9th Cir. 1964) rather than Landerman v. C. I. R., 454 F.2d 338 (7th Cir. 1971) upon which the majority opinion relies.
I
As noted in Landerman, the applicable regulations as initially proposed under the 1954 Code, § 1.165(1) (b) Proposed Income Tax Regulations, were silent as to demolition losses within the context of a lease. New regulations proposed in 1959 provided that upon a demolition “pursuant to the terms of a lease” no loss deduction would be allowed but the adjusted basis of the demolished building could be amortized over the term of the lease. See § 1.165(3) (d) Proposed Income Tax Regulations, 24 Federal Register 8177, 8180 (1959). As noted in Landerman, the phrase “pursuant to the terms of a lease” became “pursuant to the requirements of a lease or the requirements of an agreement which resulted in a lease” in the regulation finally promulgated.
For me, the word “requirements” means nothing less than that which mandates a specific act or forbearance. I do not find in the dictionary definition cited in Landerman and in the majority opinion any words which connote “taken into consideration” or “contemplated” or “anticipated”. I do not construe the option available exclusively to the lessee without modification of any of its rights or undertakings elsewhere contained in the lease to be a “requirement” as that word is used in the regulation. To speculate upon what the parties anticipated would occur by reference to earlier negotiations seems to me to be akin to the admission of parole evidence to alter or vary the terms of an unambiguous written instrument. The history of the regulation itself supports this conclusion. If the authors had intended to exclude from the provisions of § 165 all demolitions which were contemplated (and necessarily permitted) under the provisions of a lease, the originally proposed language “pursuant to the terms of a lease” would have been adequate for such purpose. Therefore, I would hold, under the lease agreement in this case, that the demolition of the building did not take place “pursuant to the requirements of a lease or the requirements of an agreement which resulted in a lease”.
Treasury regulations must be sustained unless unreasonable and plainly inconsistent with the revenue statutes. Commissioner of Internal Revenue v. South Texas Lumber Co. (1948), 333 U.S. 496, 501, 68 S.Ct. 695, 92 L.Ed. 831.
No less of an authority than Mertens has had no difficulty in reaching a similar interpretation of the plain meaning of the regulation:
“The Regulations under the 1954 Code hold that the owner of leased premises on which the lessee had a right to demolish buildings in order to construct other improvements may deduct as a loss his basis for the buildings demolished by the lessee. Where the demolition is ‘pursuant to the requirements of a lease’ no loss is allowable.” (Emphasis added.)
Vol. 4 Mertens Law of Federal Income Taxation § 23.89, and again at § 28.22 Supp.:
“A different rule applies if demolition is permitted, not required, under the term of the lease. No loss is allowable when the demolition is ‘pursuant to the requirements of a lease or the requirements of an agreement which resulted in a lease’. However, if the lessee has a right to demolish buildings in order to construct new improvements, the owner may deduct as a loss his basis in the buildings demolished by the lessee.”
The majority opinion suggests (see footnote 3) that the Feldman approach was rejected at least by implication in Holder v. United States, 444 F.2d 1297 (5th Cir. 1971). I must respectfully disagree. In Holder, the lessee had an obligation to replace the demolished buildings with certain new facilities according to a prescribed footage and quality and having a value of not less than 1% times the value of the improvements on *605the premises as of the beginning of the term, reduced by any change in the value of the dollar. The value of such initial improvements was set forth by stipulation in the lease. In this case, however, we have no such quid pro quo. The bank had no obligation to construct any improvements, nor could the lessee exercise any control whatever over the size, quality or cost of such improvements. She reserved only the right to such improvements at the termination of the lease. The office building which the bank demolished was in good condition and was good business rental property at the time of the lease, substantial repairs having recently been made by the taxpayer which included redecorating and the installation of furniture and fixtures. The replacement improvements consisted of a parking lot and two drive-in teller windows. The teller windows would have value only to a bank. This was certainly no quid pro quo, and the subsequent improvements were not bargained for as the price of the right to demolish. Moreover, I find in Holder substantial support for my conclusion in this case. As the court said in Holder (page 1298):
“The sole issue for review is whether taxayers incurred a deductible loss' in the amount of unrecovered costs, under § 165 of the Internal Revenue Code and the applicable regulations, when their lessee pursuant to the permissive terms of the lease, demolished a building on the leased premises.
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The district court allowed the deduction under § 165(a), relying primarily on Treasury Regulation § 1.-165-3(b) (1) and (2), * * *
These regulations were applicable once the taxpayers satisfied the requirements of § 165: that taxpayers establish a loss ‘not compensated for by insurance or otherwise.’ ” (Emphasis supplied.)
While in Holder, the court found that no loss had been sustained because of the presence of a contractual quid pro quo in the lease agreement, it recognized that the regulations would have been applicable had a loss been established. This is more consistent with Feldman than Landerman, which tortures the plain meaning of the regulation in order to avoid its natural consequences.
In Landerman, the lessee erected a $2% million multi-story parking garage and branch bank. The tax court found that the demolition of the existing building was at all times considered by the parties an underlying condition of the lease in reaching their agreement, thus in effect holding that the demolition occurred “pursuant to the * * * requirements of an agreement which resulted in a lease, * * * ” Treasury Regulations 1.165(1) (b) (2). While the majority opinion in this case speculates that the taxpayer, Mrs. Foltz, was persuaded to accept the demolition clause by an enhancement of the rental rate, nothing in the record refutes Judge Williams’ finding that “neither party * * * intended or contemplated that the office building would necessarily be demolished during the term of the lease”. Foltz v. United States, 322 F.Supp. 414 at 416.
The record discloses that the bank as lessee made a unilateral decision to demolish the building after determining that it would not be feasible to connect the existing bank building on an adjacent lot to the building in question by tunnel. Unquestionably, the demolition occurred “as a result of a plan formed subsequent to the acquisition of the buildings demolished * * * ” Tr. Reg. 1.165-3(b) (1). Subparagraph (1) thus clearly purports to allow a deduction under § 165(a) under such circumstances, except as provided in subpar-agraph (2). Subparagraph (2), which is the “pursuant to the requirements of a lease” exception, denies the full deduction in one year but permits it to be amortized over the life of the lease. It is significant that the regulation is not couched in terms which would deny deductions for lease demolitions except under certain circumstances, but instead affirmatively states that the deduction *606will be allowed unless the building was demolished “pursuant to the requirements of a lease”.
Hightower v. U. S., 27 Am.Fed.Tex R.2d 71-900 (M.D.Fla.1971) is a recent case quite similar on its facts to the case before us. The lease clause gave the lessee the right to demolish buildings having a useful life of approximately twenty-five years, without obligation to replace or pay any other consideration in the event of such demolition. In a well reasoned analysis, the trial court reviewed Feldman, Holder, the trial court opinion in Foltz and the tax court decision in Landerman, 54 T.C. 1042 (1970), and concluded, as I do in this case that Feld-man should be followed. In Hightower, the building was demolished within two months after lessee took possession. The new building was more valuable than the old. The court rejected the argument that no economic loss had been sustained.
II
It is contended that notwithstanding the language of the regulation, the taxpayer did not sustain during the taxable year a loss uncompensated for by insurance or otherwise as required by § 165 of the Internal Revenue Code. The taxpayer must, of course, bring herself within the provisions of the statute in order to deduct the unrealized depreciation in the year of demolition. See United States v. Olympic Radio & Television, 349 U.S. 232, 75 S.Ct. 733, 99 L.Ed. 1024 (1955); New Colonial Ice Co., Inc. v. Helvering, 292 U.S. 435, 54 S.Ct. 788, 78 L.Ed. 1348 (1934).
In Landerman, the court found a number of possible valuable benefits flowing from a demolition, including the lessor’s right to large rental payments, his acquisition of a lump sum payment from the lessee, the substitution of a more valuable building by a lessee, or the lessee’s payment of demolition costs otherwise payable by the lessor. This approach, in my judgment, attempts to substitute an evaluation of incidental benefits which may or may not inure to the lessor, together with a court determination that such benefits offset the destruction of a depreciable asset. In my view, the destruction of the building must be separately analyzed and not lumped with benefits which were not mandated by the lease as result of such demolition.
Under the lease, defendant retained title to the building, and it would have been hers upon the expiration of the term or lessee’s earlier forfeiture of the lease. When it was destroyed, she lost the right to possess and enjoy it at the expiration of the term. Until such time, if ever, as the lessee exercised its option to destroy the building, the taxpayer retained the right to claim annual depreciation for tax purposes. Lessee had no obligation to replace the building or to pay lessor in cash or in kind for its destruction. Any improvements to the premises erected by lessee will not become the property of the lessor until the expiration of the lease.
Ill
I conclude then that a loss was sustained in the year in which the building was destroyed, causing lessor to lose her right to repossess it at the termination of the lease. Treasury Regulation 1.165-3(b), rationally applied, produces a result consistent with the statute. Where the lessor bargains with and has the right to require the demolition of the building by the lessee, the loss will be presumed to be otherwise offset in the agreed rental amount. Where, however, there is no such requirement, the loss should be properly recognized in the year in which the demolition occurred. I would, therefore, on the facts in this case, affirm the district court judgment in favor of the taxpayer.
I feel further obliged to note that Feldman was decided by the Ninth Circuit in 1964. Since that time, the Commissioner of Internal Revenue has made no effort to clarify the language of the regulation, notwithstanding his non-acquiescence in Feldman and the division in the Circuits which now obtains. Regulations which are relied upon by taxpayers and the attorneys and accountants *607who advise them in the preparation of income tax returns should illuminate, not obfuscate the statutes to which they are applicable. The destruction of deprecia-ble leased property by one other than the owner is prima facie a loss to the owner under § 165. As in the case of contracts authored by one party, I would construe the limiting language of the regulation most strongly against the author, provided such construction is, as I believe it to be, consistent with the statute itself.