Century Electric Co. v. Commissioner of Internal Rev.

• Decision Date: 31 October 1951
• Docket Number: No. 14341.,14341.
• Parties: CENTURY ELECTRIC CO. v. COMMISSIONER OF INTERNAL REVENUE.
• Court: U.S. Court of Appeals — Eighth Circuit

192 F.2d 155 (1951)

CENTURY ELECTRIC CO. v. COMMISSIONER OF INTERNAL REVENUE.

No. 14341.

United States Court of Appeals Eighth Circuit.

October 31, 1951.

Alfred O. Heitzmann, St. Louis, Mo. (Abraham Lowenhaupt, Henry C. Lowenhaupt, William H. Armstrong, and J. Terrell Vaughan, and Lowenhaupt, Waite, Chasnoff & Stolar, and Cobbs, Blake, Armstrong, Teasdale & Roos, all of St. Louis, Mo., on the brief), for petitioner.

Irving I. Axelrad, Special Asst. to the Atty. Gen. (Theron Lamar Caudle, Asst. Atty. Gen., and Ellis N. Slack and Melva M. Graney, Special Assts. to the Atty. Gen., on the brief), for respondent.

Before SANBORN, JOHNSEN and RIDDICK, Circuit Judges.

RIDDICK, Circuit Judge.

The petitioner, Century Electric Company, is a corporation engaged principally in the manufacture and sale of electric motors and generators in St. Louis, Missouri. It is not a dealer in real estate. As of December 1, 1943, petitioner transferred a foundry building owned and used by it in its manufacturing business and the land on which the foundry is situated to William Jewell College and claimed a deductible loss on the transaction in its tax return for the calendar year 1943. The Commissioner of Internal Revenue denied the loss. The Commissioner was affirmed by the Tax Court and this petition for review followed.

The opinion of the Tax Court and its findings of fact, stated in great detail, are reported in 15 T.C. 581. Petitioner accepts the Tax Court's findings of fact as correct.

Since its organization in 1901 petitioner has been continuously successful in business. In its income tax return for the year 1943 it reported gross sales of $17,004,839.73 and gross profits from sales of $5,944,386.93. On December 31, 1942, petitioner owned land, buildings, and improvements of the total depreciated cost of $1,902,552.16. On December 31, 1943, its actual cash on hand amounted to $203,123.70. During the year 1943 it distributed cash dividends of $226,705.69 and made a contribution to Washington University of $42,500. It also held tax anticipation notes and Series G bonds totaling $2,000,000, readily convertible into cash and sufficient to liquidate its outstanding 1943 tax liability and its two outstanding 90-day bank notes due January 20, 1944.

Petitioner has always operated its business in large part on borrowed capital. In 1943 it had open lines of credit with the Chase National Bank of New York of $300,000, with the Boatmen's National Bank of St. Louis of the same amount, and with the Mercantile-Commerce Bank and Trust Company of $400,000. At the end of 1943 its outstanding loans from the Mercantile bank amounted to $600,000 approved by the authorized officers of the bank. Petitioner has always been able to liquidate its outstanding 90-day bank loans as they become due either by payment or renewal.

The assessed value of petitioner's foundry building and land upon which it is located for 1943 was $205,780. There was evidence that in St. Louis real property is assessed at its actual value. There was also evidence introduced by petitioner before the Tax Court that the market value for unconditional sale of the foundry building, land, and appurtenances was not in excess of $250,000.

As of December 1, 1943, the adjusted cost basis for the foundry building, land, and appurtenances transferred to William Jewell College was $531,710.97. The building was a specially designed foundry situated in a highly desirable industrial location. It is undisputed in the evidence that the foundry property is necessary to the operation of petitioner's profitable business and that petitioner never at any time considered a sale of the foundry property on terms which would deprive petitioner of its use in its business.

Petitioner's explanation of the transaction with the William Jewell College is that in the spring of 1943 a vice-president of the Mercantile bank where petitioner deposited its money and transacted the most of its banking business suggested to petitioner the advisability of selling some of its real estate holdings for the purpose of improving the ratio of its current assets to current liabilities by the receipt of cash on the sale and the possible realization of a loss deductible for tax purposes. Petitioner's operating business was to be protected by an immediate long-term lease of the real property sold.

Petitioner's board of directors rejected this proposition as unsound. But in July 1943, when a vice-president of the Mercantile bank suggested to petitioner's treasurer that it would be a good idea for petitioner to pay off all its bank loans merely to show that it was able to do so, petitioner interpreted this advice as a call of its bank loans. Acting on this interpretation, petitioner borrowed from the First National Bank in St. Louis on the security of tax anticipation notes held by it, funds with which it discharged all its bank loans. Immediately thereafter it re-established its lines of bank credit and began consideration of a sale of the foundry property and contemporaneous lease from the purchaser.

On September 2, 1943, petitioner's board of directors adopted a resolution that the executive committee of the board study the situation "and present, if possible, a plan covering the sale and rental back by Century Electric Company of the foundry property." The decision to enter into the transaction described was communicated to the Mercantile bank, but petitioner never publicly offered or advertised its foundry property for sale. The Tax Court found that petitioner "was concerned with getting a friendly landlord to lease the property back to it, as there was never any intention on the part of petitioner to discontinue its foundry operations." Several offers to purchase the foundry property at prices ranging from $110,000 to $150,000 were received and rejected by petitioner.

At a special meeting of the board of directors of petitioner on December 9, 1943, the president of petitioner reported that the officers of petitioner had entered into negotiations for the sale of the foundry property to William Jewell College for the price of $150,000 with the agreement of said college; "that in addition thereto said Trustees of William Jewell College further have agreed to execute a lease of the property so purchased to Century Electric Company for the same time and on substantially the same terms and conditions which were authorized to be accepted by the special meeting of shareholders of this corporation, held on the 24th day of November, 1943." The stockholders at the November meeting had authorized the sale of the foundry property at not less than $150,000 cash, conditioned upon the purchaser executing its lease of the property sold for a term of not less than 25 and not more than 95 years. The Board by resolution approved the proposed transaction with the William Jewell College, but on condition that "this corporation will acquire from Trustees of William Jewell College, a Missouri Corporation, an Indenture of Lease * * * for a term of not less than twenty-five years and for not more than ninety-five years." The resolution set out in detail the terms of the lease from the college to petitioner, approved the form of the deed from the petitioner to the college, authorized the president and secretary of petitioner to execute the lease after its execution by the trustees of the college, and directed "that the president and secretary of this corporation be authorized to deliver said Warranty Deed to said purchaser upon receiving from said purchaser $150,000 in cash, and upon receiving from said purchaser duplicate executed Indenture of Lease on the forms exhibited to this Board." The resolution provided that the deed and lease should be dated December 1, 1943, and effective as of that date.

The deed and the lease were executed and delivered as provided by the resolution of petitioner's board of directors. Neither instrument referred to the other. The deed was in form a general warranty deed, reciting only the consideration of $150,000 in cash. The lease recited among others the respective covenants of the parties as to its term, its termination by either the lessor or lessee, and as to the rents reserved.

As of December 31, 1942, the ratio of petitioner's current assets to its current liabilities was 1.74. The $150,000 in cash received by petitioner on the transaction increased the ratio of current assets to current liabilities from 1.74 to 1.80. The loss deduction which petitioner claims on the transaction and its consequent tax savings would if allowed have increased the ratio approximately twice as much as the receipt of...