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2925 BRIARPARK, LTD., JAMES C. MOTLEY, TAX MATTERS PARTNER, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent2925 Briarpark, Ltd. v. CommissionerDocket No. 22320-94
United States Tax Court T.C. Memo 1997-298; 1997 Tax Ct. Memo LEXIS 352; 73 T.C.M. (CCH) 3218; T.C.M. (RIA) 97298;June 30, 1997, Filed*352 Decision will be entered under Rule 155.
Alan L. Tinsley andCharles B. Koerth , for petitioner.Dennis M. Kelly, for respondent.HAMBLENHAMBLENMEMORANDUM OPINION
HAMBLEN,
Judge : Respondent issued a notice of final partnership administrative adjustment (FPAA) to 2925 Briarpark, Ltd. (Briarpark), and determined adjustments in Briarpark's ordinary income, gains derived from dealings in property, and the partners' capital accounts for 1989.*353 *354 This case was submitted without a trial pursuant to Rule 122. BackgroundBriarpark is a Texas limited partnership whose principal place of business, at the time of filing the petition, was Houston, Texas. Briarpark is subject to TEFRA provisions contained in sections 6221 through 6233. During 1989, the partners in Briarpark were:
Name Type of Partnership Interest Janet Stein General partner Robert Husmann General partner William C. Motley General partner Billy G. Motley General partner Jon D. Motley General partner James H. Motley General partner James C. Motley General partner David D. Livingston, as trustee Limited partner James C. Motley (Mr. Motley) *355 was a general partner and the tax matters partner of Briarpark.
During 1983 and 1984, Briarpark acquired a 3-acre parcel of land at 2925 Briarpark Road (property) and constructed a 12-story office building on the property. Around September 27, 1983, Briarpark borrowed $ 21,600,000 from InterFirst Bank Houston (InterFirst) to finance the acquisition of the property and the construction of the building (original loan). Mr. Motley executed a guaranty for principal, interest, penalties, expenses, and fees due on the original loan.
On May 28, 1987, Briarpark and InterFirst modified and extended the original loan (modified loan) pursuant to a modified loan agreement. Under the agreement, Mr. Motley's obligation under the guaranty was limited to $ 5 million, the original loan was converted from recourse to nonrecourse, and the accrued but unpaid interest in the amount of $ 3,100,000 was capitalized. At that time, InterFirst estimated that the fair market value of the property was approximately $ 17 million. Also on May 28, 1987, Briarpark obtained a loan in the amount of $ 1,500,000 for tenant improvements (build-out loan) on a nonrecourse basis.
On April 15, 1988, Briarpark filed its*356 U.S. Partnership Return, Form 1065, for taxable year 1987. Briarpark did not report any income on its 1987 return with respect to the original loan or the build-out loan. Briarpark was not subject to an examination by the IRS for the taxable year 1987.
First Republic BankHouston (First Republic) became the successor in interest to InterFirst. The Federal Deposit Insurance Corporation, as receiver for First Republic, assigned the modified loan and the build-out loan (the loans) to NCNB Texas National Bank (NCNB or bank).
During March 1989, Briarpark submitted an application to NCNB seeking to modify the loans. On March 15, 1989, Mr. Motley submitted several similar proposals to NCNB regarding the sale of the property. In NCNB's view, the best proposal was one in which the property would be sold for $ 12,700,000.
As of July 1989, Briarpark was in default on the loans. On July 21, 1989, Briarpark signed a sale agreement to sell the property to Dan Associates. Dan Associates conditioned its purchase of the property upon Briarpark's arranging the satisfaction or removal of the encumbrances for consideration paid to NCNB not in excess of $ 11,490,000. On July 31, 1989, NCNB agreed to*357 release its liens to allow the sale of the property to Dan Associates for $ 12,200,000 with the proceeds being assigned to NCNB.
On October 5, 1989, Briarpark and Dan Associates amended the sale agreement. Under the amended agreement, Briarpark was required to arrange the satisfaction of the loans and removal of the encumbrances for consideration not exceeding $ 11,036,000. On October 11, 1989, Mr. Motley's liabilities exceeded his assets by $ 13,497,675. On October 16, 1989, NCNB agreed to allow the cash sale of the property for $ 11,600,000 and to settle with Mr. Motley on his guaranty for $ 175,000.
On November 3, 1989, Briarpark, Mr. Motley, Dan Associates, and NCNB entered into a conditional release agreement (November 3, 1989 agreement). *358 On December 27, 1989, the outstanding balances of the modified loan and the build-out loan were $ 24,562,763 and $ 1,019,418, respectively. Briarpark sold the property to Dan Associates for $ 11,600,000. Briarpark incurred selling expenses of $ 554,901. Dan Associates paid $ 10,936,532 of the proceeds to NCNB. The adjusted basis of the property was $ 11,661,245. Also on December 27, 1989, NCNB released the liens against the property and released Mr. Motley from his guaranty of the modified loan. Mr. Motley paid $ 175,000 in cash to the bank. Briarpark transferred its cash reserves of $ 177,495 to NCNB. As of December 31, 1989, Briarpark had no assets and ceased business operations.
On its 1989 Federal partnership income tax return, Briarpark reported cancellation of indebtedness income (COI income) of approximately $ 14,468,154 as a result of the November 3, 1989, agreement. The reported amount is calculated as follows:
Modified loan balance $ 24,562,763 Build-out loan balance 1,019,418 Total loan balance 25,582,181 Less sale proceeds from Dan Associates (10,936,532) Less cash reserves paid to NCNB (177,495) Net COI income 14,468,154 Discussion The parties*359 do not dispute that the loans were nonrecourse during 1989. The issue before us is whether the income realized from the discharge of the loans should be treated as gains derived from dealings in property includable in gross income under section 61(a)(3) or as cancellation of indebtedness (COI) income within the meaning of section 61(a)(12).
Petitioner contends that the discharge of $ 14,468,154 of Briarpark's modified and build-out loans (loans) by NCNB should be characterized as COI income under section 61(a)(12). Respondent argues that the entire balance of the loans must be included in the amount realized and that the resulting gain is taxable under section 61(a)(3). Ultimately, we agree with respondent.
Petitioner bears the burden of proof on this issue. Rule 142(a);
Welch v. Helvering , 290 U.S. 111">290 U.S. 111Freytag v. Commissioner , 904 F.2d 1011">904 F.2d 101189 T.C. 849">89 T.C. 849 (1987), affd.501 U.S. 868">501 U.S. 868 (1991). For the first time on brief, respondent increased Briarpark's amount realized by $ 485,973, decreased its adjusted basis by $ 555,512, and*360 deducted its selling expenses of $ 554,901, thereby increasing Briarpark's gains derived from dealings in property by $ 486,584.Cox v. Commissioner , T.C. Memo. 1982-667Id. If we were to allow respondent to claim the increased deficiency for the first time on brief, petitioner would be deprived of the opportunity to present evidence to controvert whatever evidence respondent relies upon to sustain his burden of proving the new matter. Respondent is, therefore, limited to the determination of gain contained in the notice of deficiency.Commissioner v. Transport Manufacturing & Equip. Co. , 478 F.2d 731 (8th Cir. 1973)Riss v. Commissioner , 56 T.C. 388">56 T.C. 38857 T.C. 469">57 T.C. 469 (1971);Fox Chevrolet, Inc. v. Commissioner , 76 T.C. 708">76 T.C. 708Rubin v. Commissioner , 56 T.C. 1155">56 T.C. 1155460 F.2d 1216">460 F.2d 1216 (2d Cir. 1972).Gross income includes discharge of indebtedness, sec. 61(a)(12), and gains derived from dealings in property, sec. 61(a)(3). Under section 61(a)(12), a taxpayer realizes income when a creditor discharges nongratuitously all or a portion of a taxpayer's debt. Sec. 61(a)(12);
sec. 1.61-12(a), Income Tax Regs. For purposes of section 61(a)(3), section 1001 and the regulations thereunder govern the method by which the amount of gain or loss*362 realized upon a sale or disposition of property is calculated. The amount of gain realized is the excess of the amount realized over the taxpayer's adjusted basis in the property, and the amount of loss realized is the excess of the adjusted basis over the amount realized. Sec. 1001(a). The "amount realized" is defined by section 1001(b) as the sum of any money received plus the fair market value of the property received.
Section 1.1001-2(a)(1), Income Tax Regs. , further defines "amount realized":Except as provided in paragraph (a)(2) and (3) of this section, the amount realized from a sale or other disposition of property includes the amount of liabilities from which the transferor is discharged as a result of the sale or disposition.
Danenberg v. Commissioner , 73 T.C. 370">73 T.C. 370Id. In the instant case, the sale of the property, the transfer of cash of $ 177,495, and the assignment of the sale proceeds *363 to NCNB has the same practical effect as several other transactions which have been held to be a "sale or exchange".
Helvering v. Hammel , 311 U.S. 504 (1941)Allan v. Commissioner , 856 F.2d 1169">856 F.2d 116986 T.C. 655">86 T.C. 655 (1986);Yarbro v. Commissioner , 737 F.2d 479">737 F.2d 479T.C. Memo. 1982-675 ;Laport v. Commissioner , 671 F.2d 1028">671 F.2d 1028T.C. Memo 1980-355">T.C. Memo. 1980-355 ;Middleton v. Commissioner , 77 T.C. 310">77 T.C. 310693 F.2d 124">693 F.2d 124 (11th Cir. 1982);Freeland v. Commissioner , 74 T.C. 970 (1980)Estate of Delman v. Commissioner , 73 T.C. 15">73 T.C. 15The transaction before us is the functional equivalent of a foreclosure, reconveyance in lieu of foreclosure, abandonment, or repossession. The same consequences flow from the November 3, 1989, agreement as in the cases cited
supra p. 9Yarbro v. Commissioner, supra at 483Laport v. Commissioner, supra at 1032-1033Freeland v. Commissioner, supra .Any differences between the*365 above transactions and the transaction in the instant case are not in substance, but in form. For example, the fact that NCNB did not directly take title to the property is immaterial. See
Sands v. Commissioner , T.C. Memo. 1997-146Petitioner argues that the discharge of the loans by the mortgagee falls under the purview of
Gershkowitz v. Commissioner , 88 T.C. 984 (1987)Rev. Rul. 91-31, 1 C.B. 19">1991-1 C.B. 19 . InGershkowitz , several partnerships were involved in two identical transactions. Each partnership satisfied $ 250,000 of nonrecourse loans with a cash payment of $ 40,000 but retained the property securing the loans. Each partnership obtained the funds to settle the above loans by borrowing the $ 40,000 from another lender on a nonrecourse basis and ultimately satisfying the latter loan by transferring the encumbered property to the lender.We held that the cancellation of the*366 $ 250,000 of nonrecourse loans without the surrender of the property securing those loans resulted in COI income under section 61(a)(12) to the extent that the canceled debt exceeded the cash payment.
Gershkowitz v. Commissioner, supra at 1014Id. at 1016Petitioner maintains that the facts are similar to those of
Gershkowitz in that NCNB agreed to discharge $ 25,582,181 of nonrecourse debt in exchange for a cash payment of $ 11,114,027 of which only $ 177,495 was from petitioner's own funds and the remaining $ 10,936,532 was the proceeds from the sale to Dan Associates. We disagree. We recognized inGershkowitz that the tax consequences from the discharge of nonrecourse debt depend upon whether the mortgagor transfers or retains the property securing the debt and, accordingly, analyzed the tax consequences of each debt separately. The taxpayers inGershkowitz discharged the two loans in independent settlements, in*367 one of which the taxpayers retained the encumbered property and in the other of which they did not.Petitioner would have us treat the cash sale and the discharge of the loans as two independent events. The record before us, however, is replete with evidence that both loans were discharged as a result of a single transaction involving the sale of encumbered property. NCNB conditioned the discharge of the loans upon the sale of the property, and Dan Associates conditioned the purchase upon that discharge. At the end of the day, NCNB had the proceeds from the sale, Dan Associates had the property, and Briarpark was relieved of the entire balance of the loans. In the foregoing context, the arrangements among NCNB, Dan Associates, and Briarpark embodied a single transaction to sell the property securing the loans. Accordingly, we must conclude that
Gershkowitz is not dispositive in the instant case.Petitioner's reliance on
Rev. Rul. 91-31 ,supra , is also flawed. InRev. Rul. 91-31 ,supra , the taxpayer purchased an office building for $ 1 million. In obtaining the purchase funds from a third-party*368 lender, the taxpayer executed a nonrecourse note. When the building's value dropped to $ 800,000, and the outstanding principal on the note was still $ 1 million, the lender agreed to modify the terms of the note's principal amount to $ 800,000. The Commissioner concluded thatCommissioner v. Tufts , 461 U.S. 300">461 U.S. 300Gershkowitz v. Commissioner, supra Rev. Rul. 91-31 ,supra , is distinguishable because the facts therein did not involve the sale or exchange of the encumbered property.Petitioner maintains that NCNB agreed to the discharge and cash sale because it was in the bank's best interests rather than as an accommodation to Briarpark. The fact that NCNB, as a profit-oriented entity, acted for economic reasons and agreed to the transaction herein is not a sufficient basis for altering the character of the gain realized by Briarpark on the transaction.
Petitioner argues that the amount realized includes nonrecourse*369 debt only if the purchaser assumes that debt. In support of his position, petitioner relies upon
Commissioner v. Tufts, supra section 1.1001-2(a), Income Tax Regs ; andsection 1.1034-1(b)(4), Income Tax Regs. InTufts , the Supreme Court held that when a taxpayer sells or disposes of property subject to nonrecourse debt in an amount in excess of its fair market value, it must include in the amount realized the balance of the nonrecourse debt even if such amount exceeds the fair market value of the transferred property. Even assuming that Dan Associates did not take the property subject to the modified and build-out loans, we do not agree thatTufts was intended to limit the liabilities included in the amount realized to only those assumed by a third-party purchaser. The holding inTufts focused on the amount, not the character, of the gain or loss. Moreover, its rationale supports respondent's position in the instant case to the extent that the concept of "amount realized" for computing gain or loss may be equated with the concept of consideration for "sale or exchange" purposes.Commissioner v. Tufts, supra ; *370Yarbro v. Commissioner , 737 F.2d at 484Moreover, we are not persuaded that the regulations cited by petitioner include nonrecourse debt in the amount realized only if the purchaser assumes such debt.
Section 1.1001-2(a), Income Tax Regs. , provides that the amount realized includes "liabilities from which the transferor is discharged as a result of the sale or disposition." There is no mention of a requirement that the purchaser must assume the debt for the debt to be discharged as a result of a sale or disposition. Petitioner's argument undersection 1.1034-1(b)(4) Income Tax Regs. , is equally unpersuasive. Section 1034 requires a taxpayer to defer recognition of gain realized on the sale of the taxpayer's principal residence in certain circumstances. We are not concerned with a residence in the case before us.Section 1.1034-1(b)(4), Income Tax Regs. , is simply not relevant to petitioner in this case.Additionally, petitioner argues that
Liberty Mirror Works v. Commissioner , 3 T.C. 1018">3 T.C. 1018Liberty Mirror also is misplaced. InLiberty Mirror , the bank held a mortgage on the taxpayer's property to secure a loan. As part of its settlement with the bank, the taxpayer agreed to forward the proceeds from the sale of the property to the bank. Because the taxpayer's debt exceeded the proceeds from the sale, the bank agreed to cancel the taxpayer's remaining indebtedness. This Court held that the cancellation of the taxpayer's remaining indebtedness constituted a gift Liberty Mirror we did not consider the character of the nonexistent income.Danenberg v. Commissioner , 73 T.C. at 383*372 Alternatively, petitioner argues that Briarpark realized $ 9,200,000 of COI income in 1987 when InterFirst and Briarpark agreed to convert the outstanding balance of the original loan, which exceeded the fair market value of the property, from recourse to nonrecourse debt.
Whether a debt has been discharged is dependent upon the substance of the transaction.
Cozzi v. Commissioner , 88 T.C. 435">88 T.C. 435Id. In deciding when such a moment occurs, we must consider the actions of the parties together with other facts and circumstances relating to the likelihood of payment.Id. Any identifiable event that fixes with certainty the amount to be discharged may be taken into consideration.Id. (citingUnited States v. S.S. White Dental Manufacturing Co ., 274 U.S. 398">274 U.S. 398The existence of a faint possibility that a debt may be collected does not prevent the recognition of COI income.
Exchange Sec. Bank v. United States , 492 F.2d 1096">492 F.2d 1096Fidelity-Philadelphia Trust Co. v. Commissioner , 23 T.C. 527">23 T.C. 527Exchange Sec. Bank v. United States, supra .Based upon the principles set forth above, we must conclude that an identifiable event fixing with certainty the discharge of part of the original loan did not occur in 1987. At the same time they modified the original loan, InterFirst agreed to provide Briarpark the additional build-out loan in the amount of $ 1,500,000 for tenant improvements.
We are not convinced that converting the undersecured original loan from a recourse to a nonrecourse debt constitutes an identifiable event. See
Zappo v. Commissioner , 81 T.C. 77">81 T.C. 77Commissioner v. Tufts , 461 U.S. 300 (1983)Gibson Prods. Co. v. United States , 637 F.2d 1041">637 F.2d 1041Having found that Briarpark discharged the loans as a result of the sale in 1989, we turn to consider the effect of that determination upon the characterization of Briarpark's income. The amount realized on the sale, exchange, or disposition of property encumbered by nonrecourse debt includes the entire balance of the obligation.
Commissioner v. Tufts, supra ; Crane v. Commissioner , 331 U.S. 1">331 U.S. 1Lockwood v. Commissioner , 94 T.C. 252">94 T.C. 252Estate of Delman v. Commissioner , 73 T.C. 15 (1979)In sum, we hold that the disposition of the property constitutes a sale or exchange for purposes of section 1001 and the regulations thereunder and that the income Briarpark realized must be characterized as gain derived from dealings in property under section 61(a)(3). We have considered all of the other arguments and, to the extent we have not addressed them, find them to be without merit.
To reflect the foregoing,
Decision will be entered under Rule 155 .Footnotes
1. The FPAA was mailed to the tax matters partner and each of the partners entitled to notice.↩
2. Unless otherwise indicated, all section references are to the Internal Revenue Code as in effect for the year at issue, and Rule references are to the Tax Court Rules of Practice and Procedure.↩
3. The complete terms of the conditional release agreement were not available, for a page of the agreement was missing from the joint exhibit provided to the Court.↩
4. In the notice of deficiency, respondent calculated the gain derived from dealings in property as follows:
Amount realized $ 25,582,181 Less adjusted basis (11,661,245) Gain 13,920,936 On opening brief, respondent calculated the amount realized and the resulting gain as follows:
↩ Cash proceeds from Dan Associates $ 11,600,000 Debt discharged as a result of the sale 14,468,154 Total amount realized 26,068,154 Less adjusted basis (11,105,733) Less selling expenses (554,901) Gain 14,407,520 5. The precedential value of the gift rationale, as articulated by the Supreme Court in
Helvering v. American Dental Co. , 322">318 U.S. 322Liberty Mirror Works v. Commissioner , 3 T.C. 1018 (1944)Commissioner v. Jacobson , 336 U.S. 28↩ (1949)
Document Info
Docket Number： Docket No. 22320-94
Judges： HAMBLEN
Filed Date： 6/30/1997
Precedential Status： Non-Precedential
Modified Date： 4/18/2021