Court Opinion

ID: 9472220
Source: CourtListenerOpinion
Date Created: 2023-08-05 03:53:18.351267+00
Date Added: 2024-06-11T17:42:48.787763
License: Public Domain

FEINBERG, Chief Judge
(concurring and dissenting):
I feel compelled to write a separate opinion because my view of the transaction in question is entirely different from that of my colleagues. In my judgment, the crucial issue is whether IRC § 675(3) applies at all to the trust’s installment sale of stock to Rothstein. This issue turns on whether that transaction is a “borrowing” within the meaning of § 675(3) or a sale. Although they disagree on the consequences flowing therefrom, both Judges Friendly and Oakes agree that § 675(3) applies be*711cause they apparently view the installment sale as either a “borrowing” of the purchase price of the stock or an extension of credit equal to the purchase price. I disagree.
The transaction was not a sham sale. There was a mutual exchange of consideration that made both parties better off and that had genuine economic substance. For over seven years prior to the sale, the trust’s asset was stock in a closely held corporation, which had paid no dividends to stockholders and for which there was apparently no market. After the sale, the trust held an asset, Rothstein’s promissory note, that paid interest and that conceivably could be discounted for cash. It is significant that the advisory jury and the district judge found that the $320,000 installment note was adequate consideration for the stock. For his part, Rothstein received full title to the stock to do with whatever he pleased (which, incidently, is the reason no one is arguing the stock was borrowed). This, and the coordinate purchase of Savin’s stock, enabled Rothstein to liquidate the company, reorganize and refinance it and continue the enterprise, another factor suggesting economic substance to the transaction rather than an attempt to evade the Clifford regulations. The government makes much of the fact that Rothstein did not give security for the promissory note until after the end of the taxable year. Yet Savin gave full title to his stock to Rothstein in October 1964, but was not paid until after Rothstein liquidated the company and took out a mortgage on its former assets in January 1965. Surely, that was not a loan of Savin’s stock, nor do I view it as a loan of the purchase price, but simply a deferred payment date. Whatever risk Savin incurred by accepting a deferred payment date without interim security was apparently offset in his view by the economic gain to him from the deal. The same is true for the trust.
In this case, the Commissioner seeks to recharacterize the transaction because he apparently does not like the favorable tax consequences for Rothstein. In a case analogous to this one and also involving the Clifford Regulations, the Ninth Circuit was presented with a sale of stock and other property to a grantor trust in return for a lifetime annuity. It refused to recharacterize the transaction as a reservation of a life estate, which would have caused the trust income to be taxable to the grantor under IRC §§ 677(a) and 671. Lafargue v. C.I.R., 689 F.2d 845 (9th Cir.1982). The court found that the sale had genuine substance and was not a disguised conduit for distribution of the trust income. The annuity was fixed and was not an attempt to approximate the income production of the trust assets. The taxpayer-annuitant bore the risk of early death or appreciation of the trust assets; the trust bore the risk of late demise or depreciation of the trust assets. The court concluded that “[i]n these circumstances, Taxpayer’s formal characterization of the transaction as a sale in exchange for an annuity should not be disregarded for tax purposes.” Id. at 850. Similarly, because of the economic substance behind the transaction at bar, I do not believe it should be recharacterized as a “borrowing” within § 675(3).
The sham sale analysis that I would apply in determining the applicability of § 675(3) does not produce the undesirable consequences suggested by Judge Friendly’s hypothetical case in which “[a] grantor wishing to obtain a loan from a trust while steering clear of the statute could always do so by arranging for the trust to purchase, for example,' marketable securities with a value equal to the amount of the contemplated loan, which the grantor would then purchase from the trust in exchange for his note.” Supra at 708. The hypothesized transaction would be patently a sham. There would be no reason for the trust to engage in such a transaction. Why would the trust give up freely marketable securities it had just purchased for a promissory note? Alternatively, if a promissory note was attractive to the trust for some reason, why wouldn’t it simply give cash for the promissory note? Because of the lack of economic substance, the govern*712ment would be permitted to recharacterize the two steps of the hypothetical transaction as a loan of money with which the taxpayer happened to purchase marketable securities.
The real objection that the Commissioner and Judge Oakes appear to have is to the use of the installment sale device between a grantor and a trust to produce favorable tax consequences in addition to accomplishing whatever other economic objectives the parties may have. However, as long as the transaction is not a sham, the choice is one Congress has made. The taxpayer is free to structure his transactions, and specifically may choose to employ the installment sale device, to minimize his tax consequences. See Roberts v. C.I.R., 643 F.2d 654 (9th Cir.1981) (installment sale of stock to grantor trust, which resold stock on open market; grantor’s use of § 453 to defer taxation upheld).
Having concluded that § 675(3) does not apply, I have no need to consider the scope of § 671. Under my approach, the appreciation of the stock is taxed to the trust as it receives installment payments. In this respect, my approach produces the same re.sult as Judge Friendly’s. However, since § 671 does not come into play at all under my approach, the interest income on the installment note is also taxed to the trust and is not attributed to Rothstein. Hence he would get a corresponding deduction, which probably would not be a wash because his tax rates for the relevant years are likely to be higher than the trust’s. For the purpose of the remand, my position in regard to the interest income is a minority one; both Judges Friendly and Oakes would attribute the trust’s interest income to Rothstein. However, were I to view the transaction as a borrowing, as do my colleagues, I would agree with Judge Friendly’s interpretation of the consequences under § 671.