DocketNumber: Docket No. 19223-93
Citation Numbers: 72 T.C.M. 474, 1996 Tax Ct. Memo LEXIS 412, 1996 T.C. Memo. 392
Judges: BEGHE
Filed Date: 8/21/1996
Status: Non-Precedential
Modified Date: 4/18/2021
*412 Decision will be entered under Rule 155.
MEMORANDUM FINDINGS OF FACT AND OPINION
BEGHE,
FINDINGS OF FACT
Some of the facts have been stipulated, and are so found. The stipulation of facts and attached exhibits are incorporated herein.
When petitioners filed their petition, they resided in Willoughby Hills, Ohio.
Petitioner is a certified public accountant. During the year at issue, he was an owner-shareholder in a certified public accounting firm, Rendina & Vitantonio, Inc.
In 1986, petitioner and Thomas J. Ackerman (Ackerman), a construction contractor, formed WSAI as a general business corporation under Ohio law, for the purposes of constructing and selling 18 condominium units in Willoughby, Ohio. WSAI was operated as a C corporation. Petitioner and Ackerman*414 each paid WSAI approximately $ 250 for an equal number of common shares of WSAI.
In 1987 and 1988, WSAI constructed the 18 condominium units, known as "South Wood Condominiums" (South Wood). South Wood consists of two-story townhouses, built in clusters of six units in each of three buildings.
WSAI financed the construction of South Wood primarily with borrowed funds. The funds used by WSAI consisted of a loan from Security Federal Savings and Loan of approximately $ 740,000, petitioner's deposits in WSAI's checking account of approximately $ 41,200, *415 On March 9, 1987, the Posas lent $ 5,000 to WSAI, and received notes as follows: Entity Date Amount WSAI 2/17/87 $ 5,000 WSAI 3/01/88 5,000 3/01/89 5,000
On May 5, 1987, June 8, 1987, and June 29, 1987, the Fosses lent $ 18,000, $ 10,000, and $ 25,000, respectively, to WSAI, and received notes as follows:
Entity | Date | Amount |
WSAI | 4/06/87 | $ 28,000 |
WSAI | 6/29/87 | 25,000 |
4/06/89 | 53,000 |
On February 27, 1987, the Navars lent $ 10,000 to WSAI, and received the following note:
Entity | Date | Amount |
WSAI | 2/26/87 | $ 10,000 |
With the exception of one of the Foss notes, each new note reflected a rollover of the obligation on the prior note. For the months of January, February, March, and April 1989, all interest payments due on the notes to the Fosses, Navars, and Posas were made in the name of WSAI. *416 In 1988, 16 of the 18 units were sold, two of which were purchased by Ackerman. The stated purchase prices and dates of purchase for the 16 units were as follows: Purchase Purchase Purchaser Condo Date Price Thomas J. & Unit A, 9-16-88 Michelle L. Ackerman Bldg. A Thomas J. & Unit B, 9-16-88 $ 65,900 Michelle L. Ackerman Bldg. A Geza Bihari Unit C, 8-12-88 $ 66,900 Bldg. A Larry & Ruth Entis Unit D, 8-19-88 $ 67,375 Bldg. A Donald C. & Unit E, 8-04-88 $ 69,622 Janet T. Matz Bldg. A Debra J. Stewart Unit F, 8-07-88 $ 65,900 Bldg. A Karen Ann Helsel Unit A, 2-03-88 $ 65,900 Bldg. B Donald L. Smith Unit C, 6-29-88 $ 66,900 Bldg. B Edward N. & Unit D, 10-14-88 $ 67,900 Barbara J. Snyder Bldg. B Gia M. Perrico Unit E, 12-08-88 $ 67,900 Bldg. B Lauren B. & Unit F, 9-12-88 $ 65,900 Joseph Wolf Bldg. B Ronald S. & Unit A, 9-30-88 $ 65,900 Denise A. Rychel Bldg. C Gary Ackerman Unit B, 10-18-88 $ 67,900 Bldg. C Maria L. Podmore Unit C, 11-21-88 $ 66,900 Bldg. C Sharon L. Spei Unit D, 11-30-88 $ 66,900 Bldg. C John Viviani & Unit F, 9-26-88 $ 64,900 Kimberly M. Ficke Bldg. C
*417 Ackerman and petitioner expected a net profit of approximately $ 5,000 to $ 10,000 on each condominium unit sold, based on a cost estimate of approximately $ 50,100 per unit. However, WSAI incurred approximately $ 3,500 to $ 4,000 in commissions and settlement costs for each condominium. In addition, rebates or building allowances were given to prospective buyers in amounts ranging from $ 1,500 to $ 3,500. WSAI also incurred financing costs, unanticipated zoning costs, development fees, $ 25,000 paid in settlement of a lawsuit by South Wood Condominium Association related to alleged construction defects in South Wood and various misrepresentations, nondisclosures, and failures to perform, and WSAI's actual construction costs.
Toward the end of 1988, two of the 18 units remained unsold. Petitioner and Ackerman orally agreed that WSAI would transfer title to the two remaining condominium units to petitioner in consideration of petitioner's assumption of the Foss, Navar, and Posa notes, and petitioner's discharge of WSAI's "debt" owed to him.
In December 1988, WSAI transferred South Wood's two remaining condominium units to petitioner. Petitioner did not report any income or gain *418 from the receipt of the two condominium units on his 1988 Federal income tax return, but did report a taxable dividend from WSAI in the amount of $ 90. Although WSAI had filed U.S. corporation income tax returns for the tax years 1986 and 1987, employing the completed contract method of accounting, and showing no gross receipts, sales, or other income, WSAI filed no U.S. corporation income tax return for 1988, the tax year in which all the condominium units were sold or transferred.
With the transfer of the last two condominium units to petitioner in 1988, WSAI no longer held business assets, and ceased to be a going concern. Upon transfer of all 18 condominium units in 1988, WSAI ceased doing business, but did not formally dissolve. Its charter was revoked in 1990 for nonpayment and nonfiling of Ohio franchise tax returns.
In April 1989, petitioner sold one of the units for $ 67,900.
Following his receipt of the last two South Wood condominium units, petitioner gave the Fosses, Navars, and Posas the option of either having their loans repaid, or of having the loan obligations taken over by Canterbury Construction*419 Co. (Canterbury), an S corporation wholly owned by petitioner that is in the business of real estate construction and development. The note holders chose to have Canterbury take over the loan obligations and to continue receiving interest payments. While petitioner did not, in his individual capacity, issue promissory notes to any of the note holders, Canterbury issued new notes to the Fosses, Navars, and Posas sometime after April 1989, and began making interest payments on the notes.
The loans to the Posas and Navars, in the principal amounts of $ 15,000 and $ 10,000, respectively, have been paid. As of the date of filing of the petition, the Fosses still held a note issued by Canterbury on which they were receiving interest payments.
As a result of the earlier lawsuit, WSAI turned its books and records over to the South Wood Estates Condominium Association. Petitioner has not recovered the books and records of WSAI from the Association.
On or around March 1, 1994, respondent sent petitioner, as transferee of WSAI, a 30-day letter, with a report of income tax examination and explanation of items, asserting for the taxable year 1988*420 that WSAI had taxable income of $ 272,320, resulting from gross receipts of $ 1,068,000 from the sale of the South Wood condominium units, *421 OPINION
Because WSAI has never filed a 1988 U.S. corporation income tax return, the periods of limitation on assessment of WSAI's 1988 corporation income tax liability and petitioner's transferee liability remain open indefinitely. In the course of our unsuccessful efforts to lead the parties to a comprehensive settlement or to postpone the submission of this case in order to allow the related corporation tax and transferee liability cases to be perfected and consolidated with this case, we observed to the parties that it would have been preferable, in the interests of efficient case management and sound judicial administration, to bring the cases on together, so that the interrelated questions of corporate taxable income and earnings and profits, which bear on the transferee liability and dividend questions, could have been tried together. *422 The substantive tax question before us is whether petitioner's receipt of two condominium units, during the taxable year 1988, was a taxable distribution from WSAI. Respondent determined that petitioner's receipt of the last two units was a dividend in the amount of $ 135,800 during the taxable year 1988. Petitioner contended that his receipt of the units was not taxable to him because it was offset by discharge of WSAI's debt to him, and his assumption of the Foss, Navar, and Posa notes. Petitioner also maintained that his receipt of the two units could not be a dividend because WSAI had no earnings and profits.
Petitioner, in his reply brief, raised the alternative argument that he received the condominium units in de facto liquidation of WSAI, which would entitle him to use the basis of his WSAI stock to compute his gain on the distribution, if we should determine that his payments into WSAI represented equity rather than debt. Because it appeared to us that this position might have greater merit than the primary position of either of the parties, we had them address this newly raised issue in supplemental briefs.
I.
*423 Respondent maintains that petitioner's delay in raising the de facto liquidation issue precludes us from addressing it. Respondent relies on
We have allowed petitioner to raise the de facto liquidation issue for two reasons. First, just as respondent is not bound by the theory upon which she relied in determining the deficiency,
Where the record contains sufficient facts to permit us to decide a case on an issue that would dispose of it, we shall do so, whether or not the parties have pleaded the issue.
Our second reason for allowing petitioner to raise the de facto liquidation issue is that respondent has not been surprised or prejudiced by our addressing it. See
Respondent's reliance on
Respondent maintains that, if petitioner had raised the de facto liquidation issue earlier, respondent would have had the opportunity to provide evidence on: (1) Whether WSAI was formally dissolved; (2) whether the corporate records established a plan by the shareholders to dissolve WSAI; (3) whether WSAI continued to hold title to the land underlying the condominiums, or any other property; (4) whether WSAI continued to manage the common areas of the condominium complex; (5) whether WSAI continued to file tax returns; (6) whether WSAI continued to comply with statutory corporate formalities; and (7) whether WSAI maintained its corporate identity.
The record adequately addresses these issues, and additional evidence is not needed to enable*427 us to make a fair determination of whether de facto liquidation treatment of WSAI is appropriate. With respect to the observation of corporate and tax formalities, WSAI was not formally dissolved--its charter was revoked for nonfiling of Ohio franchise tax returns and nonpayment of Ohio taxes, and it neither adopted a written plan of liquidation nor filed the notice of corporate dissolution or liquidation required by
Having made findings on the foregoing factual issues, the majority of which facially would tend to favor respondent's position that WSAI was not liquidated in 1988, we see no prejudice to respondent.
II.
Applying the three-pronged test of
Neither the Code nor the regulations to A status of liquidation exists when the corporation ceases to be a going concern and its activities are merely for the purpose of winding up its affairs, paying its debts and distributing any remaining balance to its shareholders. A liquidation may be completed prior to the actual dissolution*429 of the liquidating corporation. However, legal dissolution of the corporation is not required. Nor will the mere retention of a nominal amount of assets for the sole purpose of preserving the corporation's legal existence disqualify the transaction.
Respondent maintains that petitioner never liquidated WSAI. In support of her position, respondent relies on
In the case at hand, there was no business purpose*430 for WSAI to continue operating. WSAI did not file a corporate tax return for 1988, and, with the sale or distribution of all of the condominium units, WSAI had no further assets of any consequence.
We are unpersuaded by respondent's assertion that, because WSAI continued some activities through the beginning of 1989, it did not liquidate. Complete liquidation can occur despite an extended liquidation process, and several earlier opinions of this court have upheld liquidations despite protracted time frames. See, e.g.,
Respondent maintains that petitioner has failed to provide the necessary books and records to support his position regarding the liquidation of WSAI. Although we agree with respondent that there are gaps in the record, we believe that it contains sufficient evidence to sustain our conclusion that WSAI was liquidated in 1988. The intentions of petitioner and Ackerman to liquidate WSAI at the end of 1988 were apparent from the sales of WSAI's assets, its cessation of business, and the agreement of petitioner and Ackerman that WSAI would distribute the last two condominium units to petitioner, in consideration of petitioner's assumption of the corporation's liabilities to its lenders and his recovery of his investment out of the balance. With that final distribution, WSAI held title to no further assets of *432 any substantial consequence. With the exception of interest payments made through the beginning of 1989, In every case in which a shareholder transfers stock in exchange for property to the corporation which issued such stock, the facts and circumstances shall be reported on his return unless the property is part of a distribution made pursuant to a corporate resolution reciting that the distribution is made in liquidation of the corporation and the corporation is completely liquidated and dissolved within one year after the distribution. See
Having found that WSAI was liquidated in 1988, we turn to the tax treatment of petitioner's receipt of the condominium units.
To compute petitioner's gain, we first look at the value of the condominium units distributed to determine the amount realized. We then look at whether petitioner's deposits into the WSAI checking account were loans or equity investments; concluding that they are equity rather than debt, *436 we add them to petitioner's basis in his WSAI stock, rather than treating them as liability offsets to the amount realized. We also look at whether petitioner assumed, or took subject to, WSAI liabilities, because the amount realized under
A.
Respondent maintains that petitioner received a taxable distribution of $ 135,800, or the value of the two condominium units received. *437 We disagree with petitioner's estimate of the value of the condominium units received. The average selling price of the other 14 condominium units was $ 66,915. Basis of WSAI Shares: Debt v. Equity
Respondent maintains that no loan or other value was given by petitioner to WSAI. However, the deposit records of National City Bank, where WSAI maintained a checking account, indicate that petitioner deposited $ 41,200 into WSAI's account. Because the books and records of WSAI were not made available, we must look to such documentary evidence*438 as bank statements, as well as the testimony of witnesses, in considering whether petitioner gave value to WSAI.
While the analysis would vary, depending on whether the investment in the corporation were debt or equity, the net tax effect to petitioner would be the same. If petitioner's investment in the corporation were a loan, WSAI's transfer of property to petitioner in satisfaction of the loan would not be governed by
If petitioner's investment were equity, petitioner would be entitled to increase his basis in his WSAI shares by the amount of the investment. Under this scenario, petitioner would subtract his basis from the amount of the distribution; if the distribution should exceed petitioner's basis, the excess would be treated as capital gain from sale of the stock.
In
In the case at hand, none of the factors are present that would tend to show that petitioner reasonably expected WSAI to repay the "loan" in accordance *440 with terms in line with those generally prevailing in the business community. See
We find that petitioner's $ 41,200 of deposits into the WSAI checking account was a contribution to the capital of WSAI. Because petitioner was a shareholder of WSAI, his $ 41,200 of contributions to capital is reflected in an increased basis for his WSAI stock.
IV.
A.
Respondent determined that petitioner is liable for an addition to tax for negligence pursuant to
Negligence is defined as the lack of due care or the failure to do what a reasonable*442 and ordinarily prudent person would do under similar circumstances.
Petitioner has been a certified public accountant for many years and was aware of the requirement that complete and accurate books and records be maintained with respect to WSAI's activities and any distributions from WSAI to petitioner. As an accountant, petitioner was also aware of his requirement to verify and document the value of the condominium units distributed to him. See
We sustain respondent's determination that petitioner was negligent with respect to the underpayment.
B.
Respondent determined that petitioner is liable for an addition to tax under
Petitioner made no disclosure of the distribution on his individual return for 1988 and made no argument against imposition of this addition. Since the amount of petitioner's understatement for the 1988 taxable year is substantial, we sustain respondent's determination on this issue.
1. Unless otherwise identified, section references are to the Internal Revenue Code in effect for 1988, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩
2. Janet Mae Rendina has an interest in this case solely by virtue of having filed a joint 1988 Federal income tax return with her husband. Accordingly, all references to "petitioner" in the singular are to Paul A. Rendina.↩
3. Petitioner made three deposits into the account. On Apr. 11, 1987, petitioner deposited $ 20,200 into the account. On Sept. 22, 1987, petitioner deposited $ 20,000 into the account, with a notation on the deposit ticket indicating that the deposit was a "loan". On Oct. 6, 1987, petitioner deposited $ 1,000 into the account.↩
4. In 1989, petitioner replaced the prior note with a note issued in the name of WSAI, which was by then no longer an active corporation. When the 1989 notes were typed, petitioner's office inadvertently transcribed the information from the client's old notes.↩
5. See supra note 4.↩
6. The record does not indicate the source of the funds used to make the first 4 months' interest payments in 1989.↩
7. Ackerman borrowed $ 100,000 to purchase the two condominium units, and testified that he performed approximately $ 15,000 worth of work on each of them. While the statutory conveyance fee for each of the units was $ 65.90, representing 1 percent of the purchase price, the way we decide this case does not require a factual determination of how much Ackerman actually paid for each of the units. We do find that the stated purchase prices for the 14 units purchased by the unrelated parties were the actual purchase prices.↩
8. Respondent excluded the two units transferred to petitioner from the calculation of gross receipts.↩
9. Respondent relied on the
10. For an example of a consolidated proceeding dealing with related questions of corporation tax and transferee liability, and shareholder gain on liquidation, see
11. The record contains no evidence of the source of the funds that were apparently used to make interest payments in the name of WSAI.↩
12. For an example of a mandatory requirement for filing a form in order to obtain specified tax treatment in a "one month" liquidation, see former sec. 333, repealed by sec. 631(e)(3) of the Tax Reform Act of 1986, Pub. L. 99-514, 100 Stat. 2085, 2273.↩
13. Respondent makes her determination of the value of the condominiums based on the $ 66,787 average price of the other 16 units sold, as well as the price petitioner received from the sale of one of the units transferred to petitioner.↩
14. We exclude from this calculation the purchase price of Ackerman's condominium units. See
15. At trial, respondent produced copies of WSAI checks to petitioner and to Camelot Court Development, Inc., and Camelot Court Development, Inc. II, in the amounts of $ 5,000, $ 3,697, and $ 57,703, respectively (Petitioner has a 45-percent interest in Camelot Court Development, Inc., and a 50-percent interest in Camelot Court Development, Inc. II). Petitioner objected to their introduction into evidence, because they had not been submitted to petitioner prior to trial, contrary to our Standing Pretrial Order, for incorporation in the stipulation of facts under Rule 91. Respondent did not request leave to amend her answer to assert an additional deficiency for these amounts, and did not make any argument on brief that we should treat them as taxable distributions or as reductions in the basis of petitioner's stock. Respondent maintained at trial that the documents were offered for impeachment purposes only, under
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