Levitt & Sons v. Nunan

• Decision Date: 22 May 1944
• Docket Number: No. 182.,182.
• Citation: 142 F.2d 795
• Court: U.S. Court of Appeals — Second Circuit
• Parties: LEVITT & SONS, Inc., v. NUNAN, Com'r of Internal Revenue.

142 F.2d 795 (1944)

LEVITT & SONS, Inc., v. NUNAN, Com'r of Internal Revenue.

No. 182.

Circuit Court of Appeals, Second Circuit.

May 22, 1944.

Carl Sherman and Louis Goldring, both of New York City, for petitioner.

I. Henry Kutz, Samuel O. Clark, Jr., Asst. Atty. Gen., and Sewall Key, A. F. Prescott, and Warren F. Wattles, Sp. Assts. to Atty. Gen., of Washington, D. C., for respondent.

Before L. HAND, CHASE and FRANK, Circuit Judges.

L. HAND, Circuit Judge.

The question upon this appeal is whether the taxpayer shall be allowed to deduct a payment of $65,000, made to settle a threatened law suit, on the theory that it was "an ordinary and necessary expense" of "carrying on" its "business", (§ 23(a) (1) of the Revenue Act of 1938, 26 U.S.C. A. Int.Rev.Code, § 23(a) (1)); or whether it can use the payment only to increase the "basis" of a gain or loss. An incidental and subsidiary question is whether the payment was a "loss" under § 23(f). The taxpayer is a corporation made up of six shareholders, Abraham Levitt and his wife, and their two sons, William J., and Alfred S., and the sons' respective wives. The business began in 1930 as a partnership, dealing in real estate and engaged in building. It was incorporated in 1931, and it and two other corporations were merged to form the taxpayer in 1938. Among the assets which came into its hands were parcels of land and the proceeds from the sale of parcels of land, which had been formerly owned by a corporation, known as Rockville Center Community Corporation, which it will be more convenient to speak of merely as "Rockville." That company had been incorporated in 1927, and in 1930 Abraham Levitt was its president, treasurer and general manager, and owned twenty-five per cent of its shares. "Rockville" had held a tract of land on Long Island, New York, which it divided into lots, and sold to builders. It was what is ordinarily called a "land development" company, plotting out a gross acreage, putting in roads and the like, and disposing of the lots piecemeal. The Levitts bought about 150 of these lots, between December 1930 and May 1932, paying on the average about $600 a lot, putting up buildings, and selling them as residences. The whole purchase price of these was substantially $85,000 which the Levitts paid in full: $7500 in cash, $12,000 by cancelling a debt of "Rockville" to Abraham, and the balance by transfer of purchase money mortgages taken from the buyers. Thereafter the Levitts extended their operations to other parts of Long Island. In these they were extremely successful; by 1938 the business had increased to two millions a year. In the second half of the year 1939 one, Edelman, made demand upon the taxpayers for an accounting to "Rockville" of certain unspecified real property, and proceeds from the sale of real property, then in the taxpayer's possession. This claim was exceedingly hazy, and neither Edelman nor his lawyer ever made its basis clear. However — certainly upon this appeal — it must be taken as an assertion that Abraham Levitt, as manager and president of "Rockville," had abused his trust, had obtained the lots as a result, and that any profits later made by the successors of the firm out of the sale of the lots, and of the subsequent use of their proceeds, in equity belonged to "Rockville." The fact that Edelman threatened to apply for a receiver lent much color to this interpretation of his claim; and there is little doubt that the taxpayer so understood the cloudy intimations in which it was enveloped.

The Levitts retained an attorney who examined the facts and reported that the claim was utterly baseless and made in bad faith; in substance, merely blackmail. However, an accountant whom they had long employed and whose judgment they trusted, thought that the company could not afford to be subjected to the dangers of such a suit, regardless of its lack of merit. Its affairs were in solution, and precipitation might ruin them; it had on hand many unfinished transactions, sales, building contracts, and the like, and a shock to its credit might prove far more disastrous than a large sum paid in settlement, however unnecessary that was actually to protect its title. This argument prevailed, and Edelman was paid 65,000 for a release by himself and those whom he represented. The Tax Court concluded that the claim had been "to recover from petitioner property to which it had no title. And, if the agreement to pay * * * was to settle a claim of that nature, the payment must be regarded as a payment to get rid of a claim against some of the assets of petitioner." Again, that the claim was "against petitioner as the recipient of property and proceeds * * * which Edelman believed should have gone to stockholders of Rockville." It also held (as an alternative we must suppose), that "to incur an expense to avoid such uncertain contingencies as petitioner's officers believed would result if Edelman filed an action * * * involving such groundless claims was neither an ordinary or" (sic) "a necessary step for petitioner to take in the conduct of its business."

Since 1916 the Treasury has had a regulation that "The cost of defending or perfecting a title to property constitutes a part of the cost of the property and is not a deductible expense." Art. 24-2, Reg. 86. There can be no question of its validity, and the courts have applied it in a number of instances to situations in which a taxpayer has either settled a claim...