124 Front St., Inc. v. Comm'r of Internal Revenue

• Decision Date: 06 October 1975
• Docket Number: Docket No. 1229-74.
• Citation: 65 T.C. 6
• Parties: 124 FRONT STREET, INC., PETITIONER v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT
• Court: U.S. Tax Court

65 T.C. 6

124 FRONT STREET, INC., PETITIONER

v.COMMISSIONER OF INTERNAL REVENUE, RESPONDENT

Docket No. 1229-74.

United States Tax Court

Filed October 6, 1975.

Charles A. Lane and Stephen J. Schwartz, for the petitioner.

Vernon Balmes, for the respondent.

Petitioner owned an option to acquire property that Firemen's wished to own. Firemen's agreed to advance funds to petitioner so that it could exercise the option and then sell or exchange the option property with Firemen's. An exchange of properties subsequently occurred. Held, the transaction represents a valid exchange of properties under sec. 1031, I.R.C. 1954, and funds advanced by Firemen's represent a loan to petitioner and not ‘boot’ received by petitioner on the exchange. Held, further, petitioner recognized a short-term capital gain on the receipt of other funds attributable to the exchange.

STERRETT, Judge:

The respondent determined a deficiency in petitioner's Federal income tax and an addition thereto under section 6653(a), I.R.C. 1954,¹ for the taxable year 1970 of $242,352 and $12,118, respectively. Based upon an alternative position respondent determined that the deficiency in petitioner's Federal income tax and an addition thereto under section 6653(a) would be $153,956.30 and $7,697.82, respectively.

The primary issue presented is whether petitioner realized a short-term capital gain of $425,000 on the exchange of a building, which petitioner acquired through the exercise of an option, for another building. The secondary issue is whether $45,000 which petitioner concedes represents additional gain recognized on the exchange should be characterized as short-term or long-term capital gain. Respondent has conceded that there is no addition to the tax due from the petitioner under section 6653(a) for the taxable year 1970.

Respondent alleges as an alternative position that petitioner realized a long-term capital gain of $565,115 upon the disposition of its option. Based on this position respondent determined a deficiency in petitioner's Federal income tax and an addition thereto under section 6653(a) for the taxable year 1970 as noted above.

FINDINGS OF FACT

Most of the facts have been stipulated and are so found. The stipulation of facts, together with the exhibits attached thereto, are incorporated herein by this reference.

124 Front Street, Inc. (hereinafter petitioner), is a corporation, organized and existing under the laws of California with its principal place of business in San Francisco, Calif., at the time of filing its petition herein. Petitioner filed its Federal income tax return for 1970 with the Western Service Center, Ogden, Utah. Petitioner reports its income on the cash receipts and disbursements method of accounting utilizing the calendar year as its accounting period.

Petitioner was incorporated in 1964 with 80 percent of its stock being issued amongst the family of Harry Sugarman (hereinafter the lessee). Included in this group was Leland C. Spiegelman (hereinafter Spiegelman), the lessee's son-in-law, who with his wife owned a 20-percent interest. In 1969 Spiegelman served as petitioner's attorney and financial adviser and represented petitioner throughout the transaction in issue.

In December 1963 the lessee leased from Bernice P. Jourdain, Hugo B. Beier, and Estate of Amelia A. Beier, deceased (hereinafter the Jourdain group), certain real property commonly known as 124 Front Street, San Francisco (hereinafter the option property). Under the terms of the lease, the lessee had the option to purchase the option property after the expiration of 10 years from the commencement of the lease for $200,000.

In 1964 this option was assigned to the petitioner by the lessee for $1,000. During this period and up to 1969 petitioner was basically an inactive corporation with the option and some cash being its only major assets.

Firemen's Insurance Co. of Newark, N.J. (hereinafter Firemen's), a property and casualty insurance company, was interested in acquiring the option property. Firemen's made a written offer to purchase the property in 1967.

Firemen's interest continued and in 1969 it was being represented by Alander F. Hogland (hereinafter Hogland) who was associated with the San Francisco office of Coldwell, Banker & Co. (hereinafter Coldwell), a real estate brokerage firm. Hogland handled the negotiations between petitioner and Firemen's with respect to the transaction in issue. He dealt principally with William Matchet (hereinafter Matchet), an executive of Firemen's who was located in New York, and Spiegelman.

In May 1969 petitioner, lessee, and Firemen's entered into an Agreement of Sale and Deposit Receipt under which petitioner would attempt to acquire the option property for $250,000 and subsequently sell or exchange the option property with Firemen's. Pursuant to this agreement Firemen's deposited into escrow a $25,000 check payable to the Transamerica Title Insurance Co. (hereinafter Transamerica).

In June 1969 petitioner offered to buy the option property from the record owner, the Jourdain group, for $250,000. The Jourdain group responded with a counteroffer to sell the property for $425,000. Petitioner desired to acquire the option property at this price, but it did not have the necessary funds. Spiegelman and Hogland discussed this development with Hogland agreeing to determine whether Firemen's would assist petitioner to acquire the option property.

Firemen's agreed to assist petitioner and, as a result of negotiations, a second Agreement of Sale and Deposit Receipt (hereinafter the agreement) was executed by petitioner, lessee, and Firemen's on August 1, 1969. The relevant portions of this agreement are as follows:²

THIS AGREEMENT is made this 1st day of August, 1969, between 124 FRONT STREET, INC., a corporation (hereinafter called Seller), HARRY SUGARMAN (hereinafter called Lessee), and FIREMEN'S INSURANCE COMPANY OF NEWARK, N.J., a corporation (hereinafter called Purchaser), and relates to the title and a leasehold interest in certain real property (hereinafter called the Property) * * *

Each party, in consideration of the agreements of the other parties hereto, agrees as follows:

1. The parties shall establish an escrow with American Title Insurance Company, acting through (Transamerica) and Purchaser shall deposit therein contemporaneously with the execution of this agreement the sum of Twenty-Five Thousand Dollars ($25,000.00), evidenced by its check in that amount, as a deposit on account of the agreed purchase price of One Million One Hundred Seventy-five Thousand Dollars ($1,175,000.00) for the Property and cancellation of the leasehold interest of Lessee therein.

3. Seller agrees to endeavor to acquire title to the property within thirty (30) days after the date of this agreement. If Seller shall acquire title to the Property within said time and if there are no valid objections to the marketability of the title to the Property arising after Purchaser's original examination of title, the sale of the Property shall be consummated, not later than one hundred ninety (190) days from the date when Seller acquires title to the Property, by delivery to Purchaser of a good and sufficient Grant Deed to the Property in exchange for payment of the purchase price of the Property to Seller and of Lessee's leasehold estate to Lessee through the above-mentioned escrow.

5. It is understood and agreed that Seller will attempt to obtain fee title to the Property within the times above mentioned at a cost to Seller not to exceed Four Hundred Twenty-five Thousand Dollars ($425,000.00), such cost to include the above-mentioned option price of Two Hundred Thousand Dollars ($200,000.00) as provided in the lease from Owners to Lessee, which option has been transferred to Seller. In no event shall Seller be obligated to pay more than said Four Hundred Twenty-five Thousand Dollars ($425,000.00) to acquire fee title to the property. If Seller cannot obtain fee title for the said sum of Four Hundred Twenty-five Thousand Dollars ($425,000.00) within the times provided in Paragraph 3 above, Purchaser's deposit in the above-mentioned escrow shall be returned to Purchaser and this agreement shall terminate without further obligation of any party thereto.

6. Seller shall have the right to designate ‘exchange property’ in lieu of all or any portion of the cash payment herein provided at any time prior to the close of escrow and to require that title to such exchange property shall be delivered to Seller as its consideration for the sale of the Property herein provided. If Seller gives written notice to Purchaser of such designation of exchange property, Purchaser agrees to use its best efforts to acquire title to such exchange property within thirty (30) days after receipt of such notice, provided, however, that the total cost to Purchaser for acquisition of such exchange property shall not exceed One Million Twenty-five Thousand Dollars ($1,025,000.00). If such exchange property is designated by Seller, then Seller shall be entitled to control the escrow and instructions issued in connection therewith insofar as the same relate to the exchange property and Purchaser shall conform to Seller's valid and lawful instructions, provided that the same do not increase Purchaser's obligation beyond the above-mentioned maximum amount.

12. Purchaser agrees within thirty (30) days after the date of this agreement to deposit the sum of Four Hundred Twenty-five Thousand Dollars ($425,000.00) on account of the agreed purchase price of One Million Twenty-five Thousand Dollars ($1,025,000.00) in said escrow, and further agrees that said sum of Four Hundred Twenty-five Thousand Dollars ($425,000.00) may be used by Seller for the purchase of the fee title to the Property. The title company shall be authorized to pay said sum of Four Hundred Twenty-five Thousand Dollars ($425,000.00) on Seller's behalf to Owners when it has in its...