Court Opinion

ID: 4480204
Source: CourtListenerOpinion
Date Created: 2020-01-16 21:14:08.279924+00
Date Added: 2024-06-11T14:53:04.097596
License: Public Domain

Fay, J., dissenting: It is clear that a taxpayer has a legal right to decrease the amount of what would otherwise be his taxes or altogether avoid them. Bridges v. Commissioner, 325 F. 2d 180 (C.A. 4, 1963), affirming 39 T.C. 1064 (1963). The test in such a case as the one at bar is not whether the motive or intent in entering into the transaction was, solely or partially, to decrease or avoid taxes, but is “whether what was done, apart from the tax motive, was the thing which the statute intended.” Bridges v. Commissioner, supra at 184. Unlike other deduction provisions, section 163 does not require that the expenditure be ordinary, necessary, reasonable, or in connection with a transaction entered into for profit. It is clear that what was intended by section 163(a) was to create a deduction for all interest paid or accrued on indebtedness. Bridges v. Commissioner, supra. I disagree with the majority’s conclusion that there was no genuine indebtedness established between Tillie and either the Jersey City bank or the Royal bank. Upon careful scrutiny of the record, I am convinced that the transaction in question was not merely an exercise in financial mummery.1 Whatever her ultimate purposes, I do not doubt that Tillie contracted an actual indebtedness in the usual sense of the term. In its Findings of Fact and in the body of its Opinion, the majority points out certain aspects of the loan transaction upon which it concludes that no genuine indebtedness was created. However, the record clearly indicates that the loan transaction was in every respect regular and, moreover, indistinguishable from any other legitimate loan transaction contracted for the purchase of Government securities. To hold that the indebtedness in issue is not genuine because it fails to meet certain theoretical judicial standards which have no counterpart in commercial practice places an unwarranted construction on the terminology employed in section 163. Although the interest deduction is purely a creature of tax law, indebtedness and payment of interest thereon is a common transaction in the nontax field. Since the terms “interest” and “indebtedness” are used in the Code without limiting definition and without legislative history indicating a contrary result, their common and ordi/nary meaning in the commercial field should at least be persuasive of their meaning as used in the Internal Revenue Code. Compare Commissioner v. Brown, 380 U.S. 563 (1965). Regardless of how the transactions in issue are viewed, I have no doubt that the loan and note, the purchase and pledge of collateral, and the sale and satisfaction of the loan were in every respect genuine financial and commercial transactions upon which tax consequences should be based. In sum effect, I believe Tillie actually paid, as interest, with respect to the aforesaid borrowings, some $80,000. Hence, I find no substance to the majority’s determination that there was no debtor-creditor relationship. The majority opinion is not confined to presenting the factual conclusion that no true indebtedness existed. It suggests that even if the loan transaction met the literal requirements of the provisions authorizing interest deductions, it lies outside the “intent” of the statute and is, in that respect, a “sham.” This amounts to saying that the transaction was a sham because entered into for the “wrong” motives — that is, for tax-reduction motives. The majority opinion indicates that the transactions involved constituted merely a sophisticated tax-avoidance scheme destined to produce nothing in the way of an economic reward except a substantial reduction in taxes.2 But this describes neither a sham transaction, nor one unmarked by events or risks beyond the control of the taxpayer, nor one different in substance and effect from what it appeared to be on its face. Fabreeka Products Co. v. Commissioner, 294 F. 2d 876 (C.A. 1, 1961), remanding 34 T.C. 290 (1960). Although the existence of a tax motive creates the necessity for a searching inquiry into the substance of a transaction, it is my opinion that a transaction which in substance creates a real indebtedness (upon which interest is due and paid) need not be entered into with the affirmative motive of “investment” in order to come under section 163. Fabreeka Products Co. v. Commissioner, supra. That is to say, I do not believe that motives of tax avoidance can so contaminate an otherwise legitimate transaction as to rob it of all reality. Commissioner v. Brown, supra. 1 believe that the case at bar is controlled by this Court’s holding in L. Lee Stanton, 34 T.C. 1 (1960). The transactions in issue involved just as real and bona fide borrowings by Tillie as the loan which Stanton obtained; and, hence, the instant case cannot be distinguished on its facts from Stanton. In A. Lee Stanton, supra at 7, this Court pronounced with respect to section 23(b), I.R.C. 1939, now section 163, I.R.C. 1954: Congress having enacted-the only exceptions it desired to make [see sec. 163(d)], the maxim of interpretation, “Inclusio unius est exolusio alterius” applies, e.g., Congress intended, no otter exception or limitation on the deductibility of interest on indebtedness. All interest paid within the taxable year on genuine indebtedness of any other kind thus entitles a cash basis taxpayer to a deduction of the amount of interest paid. * * • This Court emphasized this point by stating: Congress has indicated that this deduction is not dependent in any other way upon the purpose or motive of the 'borrower, or the use made of the 'borrowed funds. * * * The legislative history of the interest deduction provisions set out in Stanton clearly shows that “Congress has repeatedly considered and ultimately rejected limitations somewhat comparable to the one now urged by the Commissioner” for support of his position. The majority opinion cites Knetsch v. United States, 364 U.S. 361 (1960), and Joseph H. Bridges, 39 T.C. 1064 (1963), add. 325 F. 2d 180 (C.A. 4, 1963), as determinative of the case at bar.3 I do not read the decision of the Supreme Court in Knetsoh as invalidating this Court’s earlier decision in L. Lee Stanton, supra,4 nor as supporting the majority’s position here. In Knetsoh, the taxpayer purchased a so-called annuity by borrowing, on nonrecourse notes,5 the purchase price from the very insurance company which issued the annuity. The annuity served as the insurance company’s collateral on the loan. The guaranteed yearly increment in cash value was substantially less than the interest to be paid on the purchase loan. Knetsch’s annual borrowing of the annuity’s yearly increase in cash value would, if continued (and the Court assumed it would), keep the annuity’s net cash value at the “relative pittance of $1000.” The annuity payments were scheduled to begin upon Knetsch’s reaching 90 years of age. In Knetsoh, the very company making the loan was the one issuing the “paper” to serve as collateral. In practical effect, there was little more involved than counterbalancing book liabilities. As the Supreme Court pointed out, the difference between Knetsch’s payment of interest and the amount of cash value which he borrowed constituted a fee retained by the insurance company for providing the facade of a loan whereby the taxpayer sought to reduce his taxes in the total sum of $233,297.68. The Supreme Court in Knetsch did not purport to be reshaping either the usual interpretation of “indebtedness” for the purpose of the interest deduction or the usual interpretation of “interest” in tax law. The Supreme Court emphatically put aside the trial court’s finding that Knetsch’s “only motive in purchasing [the] bonds was to attempt to secure an interest deduction.” Motive was not relevant because, said the Supreme Court, quoting from its often cited Gregory v. Helvering, 293 U.S. 465, 469 (opinion), “tlie question for determination is whether what was done, apart from the tax motive, was the thing which the statute intended.” In this regard, the Supreme Court’s concern was whether the annuity contract arrangement did involve an indebtedness in the usual sense of the term. The Supreme Court did not hold that the interpretation of indebtedness carries a qualification as to the purpose for which the obligation is incurred. Consequently, I believe that the decision in Knetseh was confined to the particular facts presented therein, i.e., that no true indebtedness existed regardless of the taxpayer’s motive. Unlike the present case, the transaction in Knetseh merely provided an arrangement mutually benefiting the parties without creating a true obligation to pay interest. In the instant case, I believe that the loan transaction was not a fiction. Instead, the transaction was real, the indebtedness genuine, even though the motive of Tillie may have been purely one of achieving a tax rather than economic gain. The jural relationship established between the banks and Tillie was one of indebtedness in the usual sense that term is used and in the sense that term is used in tax law. I believe that the decision of this Court in Bridges is distinguishable on its face from the instant case. In Bridges, the record provided this Court with a confusing if not irregular set of facts. In one transaction, the taxpayer was able to purchase bonds below market price, which bonds were redeemed by the bank which made the loan. In another transaction, the taxpayer sold bonds above the market (1) subject to a call option on the.part of the lender at par (far in excess of the market value) 1 month later, and (2) subject to a sale option on the part of the taxpayer at par 1 month later. In both the transactions, the loan amount was in excess of the market value of the bonds. This Court stated, at page 1077: We are convinced that there was never any intent or thought between the parties that petitioner was incurring a real personal indebtedness or obligation. * * * The Court held that Stanton was distinguishable since, in Stanton, the transactions were bona fide and real and created a genuine indebtedness. Unlike Bridges, there is nothing in the transactions in the case at bar to suggest irregularity. To hold for respondent in the instant case despite the existence of a genuine indebtedness would (1) engraft upon section 163 a qualification and penalty unwarranted by the literal language and intendment6 of that provision and (2) extend the limited opinion of the Supreme Court in Knetseh, in a manner not consonant with our judicial function. Although as a court and as this Court in particular we must be mindful of tlie necessity of revenue gathering, we cannot be solicitous to that process. Our duty requires us to be solicitous to the law alone as it is written. I “consequently deem it wise to ‘leave to the Congress the fashioning of a rule which, in any event, must have wide ramifications.’ ” Commissioner v. Brown, supra. FORRESTER, Train, Dawson, and Hoyt, JJ., agree with this dissent.   That is to say, the transaction involved here is not similar to that presented in Eli D. Goodstein, 30 T.C. 1178 (1958), affd. 267 F. 2d 127 (C.A. 1, 1959), and the cases which might be described as the progeny of the tax-canny Livingstone, i.e., Sonnabend v. Commissioner, 267 P. 2d 319 (C.A. 1, 1959), affirming per curiam a Memorandum Opinion of this Court; Broome v. United States, 170 F. Supp. 613 (Ct. Cl. 1959); George G. Lynch, 31 T.C. 990 (1959), affd. 273 F. 2d 867 (C.A. 2, 1959); Leslie Julian, 31 T.C. 998 (1959), affirmed sub nom. Lynch v. Commissioner, 273 F. 2d 867 (C.A. 2, 1959); Egbert J. Miles, 31 T.C. 1001 (1959). See also Gordon MacRae, 34 T.C. 20 (1960), affirmed in part and remanded in part 294 P. 2d 56 (C.A. 9, 1961).    In the majority opinion it is stated : “* * * there was nothing of substance to be realized by Tillie from her transactions with the banks, except a tax deduction. Tillie did not have and could not reasonably have had any purpose or intention through the foregoing transactions to appreciably affect her beneficial interest except to reduce her taxes. Absent the significant income tax savings inuring to Tillie from deducting at one fell swoop in 195S, all of the ‘prepaid interest’ for periods of 1% to 2% years thereafter, Tillie’s putative borrowing transactions do not make sense either commercially or economically.”    The majority opinion states: “If saving 1958 income taxes was the only significant benefit to be derived by her, then the Knetsoh and Bridges cases require that the deduction for so-called prepaid interest must be denied.”    See Clifford K. Hood, T.C. Memo. 1961-231.    In the instant case, Tillie’s promissory note was clearly issued with recourse.    See L. Lee Stanton, 34 T.C. 1 (1960).