Abc Beverage Corp. & Subsidiaries v. U.S.

• Decision Date: 27 August 2008
• Docket Number: No. 1:07-cv-051.,1:07-cv-051.
• Citation: 577 F.Supp.2d 935
• Parties: ABC BEVERAGE CORPORATION & SUBSIDIARIES, f/k/a Beverage America Inc. & Subsidiaries, Plaintiff, v. UNITED STATES of America, Defendant.
• Court: U.S. District Court — Western District of Michigan

577 F.Supp.2d 935

ABC BEVERAGE CORPORATION & SUBSIDIARIES, f/k/a Beverage America Inc. & Subsidiaries, Plaintiff, v. UNITED STATES of America, Defendant.

No. 1:07-cv-051.

United States District Court, W.D. Michigan, Southern Division.

August 27, 2008.

Brion Bannon Doyle, Ronald G. Dewaard, Varnum Riddering Schmidt & Howlett LLP (Grand Rapids), Grand Rapids, MI, for Plaintiff.

Michael L. Shiparski, U.S. Attorney (Grand Rapids), Grand Rapids, MI, Stephen A. Sherman, U.S. Department of Justice, Tax Division (Northern Region), Washington, DC, for Defendant.

OPINION AND ORDER DENYING DFENDANT'S MOTION FOR SUMMARY JUDGMENT (DKT. NO. 46 & 47)

PAUL L. MALONEY, District Judge.

This Court has before it cross motions for summary judgment. Defendant United States of America filed its motion (Dkt. No. 46) for summary judgment on April 8, 2008. Later that same day, Plaintiff ABC Beverage filed its motion (Dkt. No. 47) for summary judgment. This Court has read the motions, briefs, responses, replies and relevant authority. This Court finds oral argument would not be helpful in resolving the contested issues. See W.D. MICH. L.CIV.R. 7.2(d).

The central issues raised in the cross motions are whether Plaintiff, upon acquisition of property, can claim a business deduction for the portion of the total purchase price attributable to buying out an excessive lease and, if so, when Plaintiff is entitled to take the deduction.

I. BACKGROUND

In 1987, Corporate Property Associates (Landlord) entered into a lease with Tandem Holdings, Inc. for property located at 555 McDonnell Boulevard (McDonnell Property) in Hazelwood, Missouri. (Dkt. No. 46-6, Exhibit 4 to Defendant's motion—Lease). The initial lease period lasted 300 months and provided for five successive five-year renewal options. (Id. ¶ 5). Through a series of corporate and stock transactions, one of Plaintiff ABC Beverage's subsidiaries acquired the lease in 1995. (Dkt. No. 46-4, Exhibit 2 to Defendant's motion-Plaintiff's supplemental answers to Defendants' first request for admissions ¶¶ 3 and 5). The lease included a provision for calculating the amount of rent owed each month. (Dkt. No. 46-6—Lease ¶ 6). The rent paragraph refers to a schedule attached to the lease as Exhibit C, where the formulas for rent calculations were set forth. (Id.).

The lease contained a clause allowing the tenant the option to purchase the McDonnell Property.¹ (Dkt. No. 46-6— Lease ¶ 28). The option could only be exercised between the tenth and eleventh anniversary of the date of the lease. (Id.). On December 10, 1996, the then tenant notified Landlord it was exercising its right to purchase the property under paragraph 28. (Dkt. No. 46-7, Exhibit 5 to Defendant's motion—Notice). The lease provides a means for calculating the purchase price in the event the tenant exercises its option to purchase the property. Under paragraph 28, the purchase price was the greater of (a) the fair market value of the leased premises or (b) the sum of the acquisition cost and any prepayment penalty which may be payable under the note or mortgage covering the leased premises. (Dkt. No. 46-6—Lease). The lease included a definition of the phrase "fair market value." "[F]or the purposes of this Paragraph 28, the term `Fair Market Value' shall mean the fair market value of the Leased Premises as affected and encumbered by this Lease and assuming that the Term has been extended for all extension periods provided herein." (Id.). Paragraph 27 of the lease outlined the procedure for determining the fair market value of the property.

Plaintiff sought several appraisals of the property. A 1995 appraisal of the property by Nunnick and Associates valued the property at $2, 750,000. (Dkt. No. 48-12, Exhibit 11 to Plaintiff's brief in support— Nunnick Appraisal). The Nunnick appraisal calculated the fee simple fair market value of the property using a cost approach, a sales comparison approach, and an income capitalization approach. (Id.). In 1998, R.A. Buckles & Associates, using the same three approaches, also appraised the property at $2,750,000. (Dkt. No. 48-13, Exhibit 12 to Plaintiff's brief in support—R.A. Buckles appraisal). Also in 1998, Plaintiff's expert, Mr. Thomas McReynolds concluded the $2,750,000 Nunnick appraisal was still an accurate and fair valuation of the property. (Dkt. No. 48-5, Exhibit 4 to Plaintiff's brief in support—McReynold's Appraisal). Mr. McReynolds stated he was generally in agreement with the values reached in the Nunnick appraisal under all three approaches. (Id. at 2). Mr. McReynolds also performed an analysis of rental rates and concluded a fair and reasonable rental rate for the property at $356,500 per year. (Id. at 1).

The parties apparently could not agree on the purchase price, even with the provisions contained in the lease agreement for determining the purchase price of the property. On April 24, 1997, Landlord sent a letter to Plaintiff which outlined the areas of disagreement. (Dkt. No. 46-8, Exhibit 6 to Defendant's motion—April 1997 Letter). Landlord and Plaintiff disagreed on the amount of Basic Rent payable on April 1, 1997, with Plaintiff concluding the annual rent should be $921,131.52 and the landlord concluding the annual rent should be $1,132,310.44.² (Id.). Landlord also disagreed with Plaintiffs appraisals of the fair market value of the property, as that phrase was defined in the lease. (Id.). Specifically, Landlord argued the appraisals failed to include any valuation of the lease, assuming the lease had been extended for the entire extension period. (Id.). Based on the differences, Landlord offered to sell the property for $14,768,000, with conditions. (Id.).

The parties remained at an impasse and on October 2, 1997, Landlord notified Plaintiff that it considered Plaintiff in default under the lease for failure to pay the full amount of rent owed. (Dkt. No. 46-9, Exhibit 7 to Defendant's motion—October 1997 Letter). Landlord exercised its remedies under paragraph 19(b)(v) of the lease and requested Plaintiff make an offer to purchase the property.³ (Id.). Landlord further identified Mr. Edward Klein of the Binswanger Company as its appraiser. (Id.). Mr. Klein appraised the market value of the lease fee interest of the property at $14.1 million. (Dkt. No. 48-10, Exhibit 9 to Plaintiffs brief in support—Binswanger appraisal).

On October 3, 1997, the landlord filed suit in Missouri state court over the amount of rent due under the lease. While the action was pending, the parties entered into an agreement in January 1999 in which they agreed the fair market value of the property, as defined in the lease, would be no less than $9,000,000.00 and no greater than $11,500,000.00.⁴ (Dkt. No. 46-12, Exhibit 10 to Defendant's motion— January 1999 letter). The parties further agreed to calculate the existing rent at $76,760.96 per month and that Plaintiff would immediately bring current its unpaid rent using that figure. (Id.).

The parties reached an agreement on the final price in October 1999. (Dkt. No. 46-14, Exhibit 12 to Defendant's motion— Agreement Letter). Parties agreed Plaintiff would pay $11,000,000.00 for the McDonnell Property. (Id.). The sale of the property was finalized on November 1, 1999. (Dkt. No. 46-15, Exhibit 13 to Defendant's motion—Closing Statement).

On its 1997 tax return, Plaintiff claimed a deduction for $6,250,000.00 as a lease termination expense and capitalized the McDonnell Property for $2,750,000.00.⁵ (Dkt. No. 46-5, Exhibit 3 to Defendant's motion—Protest Letter). On November 17, 2005, the Internal Revenue Service assessed an income tax deficiency of $2,460,591.00 against Plaintiff. (Id.). Plaintiff subsequently filed a complaint seeking a refund for the assessment.

Plaintiff retained Mr. McReynolds as an expert witness in this action. Mr. McReynolds testified at his deposition that he had never before seen a rent escalation clause like the one contained in the subject lease. (Dkt. No. 48-4, Exhibit 3 to Plaintiff's brief in support—McReynolds' deposition at 35). He explained the way rent was calculated in the lease under Exhibit C, paragraph 2(b)(iii), rent amounts grow exponentially similar to the way interest compounds. (Id. at 37-42). Mr. McReynolds opined, under a strict interpretation of the lease, an annual rent of $1,100,000 beginning in April 1997 would increase "to nearly $645 million for the property in the final five years of the lease."⁶ (Id. at 78).

II. LEGAL FRAMEWORK

Summary judgment is appropriate only if the pleadings, depositions, answers to interrogatories and admissions together with the affidavits show there is no genuine issue of material fact and that the moving party is entitled to a judgment as a matter of law. FED. R. CIV. P. 56(c). The burden is on the moving party to show that no genuine issue of material fact exists, but that burden may be discharged by pointing out the absence of evidence to support the nonmoving party's case. Bennett v. City of Eastpointe, 410 F.3d 810, 817 (6th Cir.2005) (quoting Celotex Corp. v. Catrett, 477 U.S. 317, 325, 106 S.Ct. 2548, 91 L.Ed.2d 265 (1986)). The facts, and the inferences drawn from them, must be viewed in a light most favorable to the nonmoving party. Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 255, 106 S.Ct. 2505, 91 L.Ed.2d 202 (1986) (quoting Matsushita Elec. Indust. Co. v. Zenith Radio Corp., 475 U.S. 574, 587, 106 S.Ct. 1348, 89 L.Ed.2d 538 (1986)). Once the moving party has carried its burden, the nonmoving party must set forth specific facts showing there is a genuine issue for trial. FED. R. CIV. P. 56(e); Matsushita, 475 U.S. at 574, 106 S.Ct. 1348. The question is "whether the evidence presents a sufficient disagreement to require submission to the jury or whether it is so one-sided that one party must prevail as a matter of law." Anderson, 477 U.S. at 251-252, 106 S.Ct. 2505.

III. ANALYSIS

The parties generally agree that the legal aspect...